Top five reasons your company needs a Shareholders’ Agreement
Corporate Law - 03 Aug 2021
Whether your company requires a shareholders’ agreement will depend on many factors, including where your company is at in the corporate lifecycle. For example, companies with a sole shareholder that sit in the start-up phase are unlikely to see the benefit in implementing a shareholders’ agreement. However, if you’re in the growth phase, and looking to bring external investors on board, it would be the opportune moment to implement a shareholders’ agreement as it would return real value. But before we go too far, what is a shareholders’ agreement, and why do you need one?
What’s a shareholders’ agreement?
A shareholders’ agreement is a legal agreement that explains, governs, and controls the relationship between the shareholders of a company, its board of directors, and employees. A shareholders’ agreement is different from the company constitution (the standard form document you’ll receive upon incorporation).
But how is a shareholders’ agreement different from the company constitution?
- A Constitution contains information about the day to day, administrative matters of the company, including share class permissions, whether the replaceable rules under the Corporations Act apply, and whether the company can coordinate resolutions by way of circular resolution, as opposed to having to meet and resolve decisions in person.
- Whereas a shareholders’ agreement governs the relationship between shareholders, the board of directors, and the company. It also outlines processes and mechanisms available to shareholders and Directors. This includes processes relating to the power to replace directors, the transfer of shares to third parties, mergers and acquisitions, and shareholder disputes.
While there may be some overlap in the general topics covered in the constitution and shareholders’ agreement, the shareholders’ agreement is much more detailed in outlining the specific processes, mechanisms, and relationships of the members of a company.
Why implement a shareholders’ agreement?
While not required by law, a shareholders’ agreement is essential for companies if they have, or will have, more than one shareholder. Regardless of whether members are friends and/or family, a well-drafted shareholders’ agreement can avoid potentially costly disputes by ensuring that all shareholders are on the same page, are aware of their rights and obligations, and sets out processes and procedures for dispute resolution.
A shareholders’ agreement allows for clarity around the rights, responsibilities, and processes available and expected of members and the board.
The specific clauses and processes drafted into a shareholders’ agreement are specific to each company and its unique circumstances. Thus, it is beneficial that the clauses are drafted by an experienced corporate legal advisor to ensure that all of the clauses appropriately reflect the requirements of each of its members, including minority shareholders while remaining compliant with ASIC and the Corporations Act.
Some common clauses addressed in shareholders’ agreements include:
- Powers provided to directors and shareholders;
- Ability to issue new shares;
- Employee share plans;
- Onboarding new investors;
- Ability to appoint and remove directors;
- Process and calculation of dividends;
- Share valuation, and method of valuation;
- Transfer of shares to third parties or other shareholders;
- Exit events;
- Methods of dealing with deadlocks and disputes; and
- Restrictions and obligations on shareholders (such as confidentiality).
Here are five reasons why we consider a Shareholders’ Agreement essential:
1. They mitigate the likelihood of shareholder disputes
Drafting a shareholders’ agreement requires shareholders to consider and anticipate any issues that may become a concern in the future. By asking these key questions early, such as; which shareholder should have the casting vote? Issues are brought to the surface before becoming material, which can then be cleanly and appropriately addressed in the shareholders’ agreement, avoiding costly future shareholder disputes.
2. They provide a dispute resolution process
No matter how well-drafted, or deeply considered your shareholders’ agreement is, conflicts can still arise between shareholders, and when one does arise, it is beneficial to have a process of dispute resolution set out on paper, to protect the interests of the company and its members. This will allow for a timely and fair resolution of any dispute, given shareholders have already agreed to a method of resolving their issue and will understand the process involved.
3. They provide a clearer understanding of the company for future investors
A shareholders agreement provides clarity for future investors to understand the mechanisms, rules, rights, and responsibilities that apply to shareholders and how they are expected to conduct themselves as members of the company; key when enticing new investment.
4. They demonstrate business maturity
A well-drafted shareholders’ agreement illustrates that the business is well structured, mature, credible, and considerate of its members. This is again especially important when a company is looking to attract potential investors.
5. They protect founding shareholder interests
As a founder of a business, you’re usually looking to protect your initial capital and sweat equity invested. A shareholders’ agreement will allow you to ensure that founding shareholders maintain the desired level of control (and reward) in the company moving forward.
Convinced that implementing a shareholders’ agreement is key for your business?
If you’re looking to take the next step in developing your business and see the value in implementing a well-drafted and appropriate shareholders’ agreement that will take your business to the next level; then get in touch with Tammi McDermott at ABA Legal Group here to discuss implementing a tailored shareholders’ agreement that holds up when you need it to.
The information contained in this blog is general in nature and should not be considered to be legal, tax, accounting, consulting or any other professional advice. In all cases, you should consult with a professional advisor familiar with your factual situation for advice concerning specific matters before making any decisions. By reading this blog, you confirm your understanding of this disclaimer.