Five keys aspects of Shareholders’ Agreements

23 May 2017

There are certain considerations all shareholders should think about when entering into Shareholders’ Agreements. Below I set out five key points which, in my experience, clients overlook when approaching me for advice on Shareholders’ Agreements.

The parties involved

It may seem obvious determining who the parties to a Shareholders’ Agreement are: the existing shareholders.  However, it is important to consider whether the company itself should be made a party to the Shareholders’ Agreement.  Doing so, allows the shareholders to impose direct obligations on the company, which they may prefer to do so in the Shareholders’ Agreement (generally a private document) than the company’s articles (a public document).  Further, the company itself would be able to enforce the terms of the Shareholders’ Agreement against shareholders.

However, if you want to subsequently amend or vary the Shareholders’ Agreement, you will need the consent of the company which is more cumbersome.

What happens if a shareholder wishes to transfer or sell their shares in the company?

They could sell them to a person who is unknown to the remaining shareholders, and with whom the remaining shareholders discover they are unable to work with.  A simple solution is to insert “pre-emption” rights into the Shareholders’ Agreement.  These commonly compel the shareholder who wishes to transfer their shares, to offer those shares to existing shareholders before offering them to a third party unconnected to the company.

Death or incapacity of a shareholder

It is important to think about what happens in the event of the death or incapacity of a shareholder to their shares.  The normal process would be that the shares are treated as an asset of the shareholder and are passed in accordance with their will (or intestacy rules if they do not have a will).  That may result in a large percentage of the company being owned and controlled by a person with little or no knowledge of the company with little or no ability to add value to the company.

A Shareholders’ Agreement may include terms which set out how the shares are dealt with following the death of a shareholder.  They may compel the estate of the deceased shareholder to sell the shares to the company or the existing shareholders.  The procedure for valuing the shares should be contained in the Shareholders’ Agreement.  Further, there may be a specific provision allowing the company to obtain a policy of insurance which, once paid, allows the company to purchase the shares from the deceased shareholder’s estate.

Avoiding and resolving deadlocks

A deadlock may occur when, for example, shareholders are unable to make a decision because of a lack of quorum or because none of the shareholders has a majority and a conflict arises over the management of the company. Unless resolved, a deadlock may significantly disrupt the running of a company.

The Shareholders’ Agreement should allow for a process whereby the dispute is resolved by, for example, involving a third party such as the chairman to assist.  However, if the parties working relationship is irreconcilable, then the Shareholders’ Agreement may include a provision for one party to buy the other party’s share at a value determined by the Shareholders’ Agreement.

Restrictions on shareholders

A shareholder may decide to leave and set up in competition with the company resulting in a significant loss to the company in terms of business and clients or customers.  A Shareholders’ Agreement can contain restrictions which, for a period of time, prevent an exiting shareholder from setting up in competition with the company or from approaching (soliciting) or working with (dealing with) clients or customers of the company.  If a shareholder acts in breach of a restriction such as this, the company or remaining shareholders may seek to recover their losses from the departed shareholder.

There are many important considerations when drafting a Shareholders’ Agreement or reviewing an existing Shareholders’ Agreement.

At Colman Coyle we are experienced in drafting and advising on Shareholders’ Agreements and we ensure that your Shareholders’ Agreement covers the relevant and necessary points.

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