Shareholders Agreement and What Should Be Included

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Shareholders Agreement

Photo: Virtus Law

What is a Shareholders Agreement?

A Shareholders Agreement is a legal document that entails the rights and obligations of the shareholders in a company. It helps to provide a framework that governs the relationship of the shareholders and the management of the company.

The Shareholders agreement will usually spell out the rights of each shareholder and party to their agreement as a means to protect their investment in the company as well as to develop rules that will seek to govern how the company is managed and how critical management decisions are to be made.

Why a Shareholders Agreement is needed?

A Shareholders Agreement is not required when forming a company, however it is a recommended legal document. A Shareholders Agreements assist the shareholders of the company to make informed decisions and ensures that all the shareholders are on the same page in regards to key elements of the company such as dividend policy, voting rights, bank signatories, the issue of new shares, the process of including new shareholders and that of exiting shareholders.

The Shareholders Agreement can further establish provisions that can clear up misunderstandings in the company, such as dispute resolution clauses, should a dispute a rise between the shareholders. It can further act as a protective measure for minor and majority shareholders in the company.

The Shareholders agreement, can further set out more specific and important rules regarding the governance of the company unlike the constitution of the company that is available for public viewing, the shareholders agreement is a private document that will ensure the confidentiality of the parties involved.

When should you establish the Shareholders Agreement?

As noted previously, unlike the constitution of a company, a shareholder’s agreement is not mandatory for a company. However, it is highly recommended to have one in order to govern the relationship between the shareholders of the company.

The Shareholders Agreement can be entered into at any time, however it is recommended to have a Shareholders Agreement in place early in the company incorporation process as it will provide several benefits in ensuring a smooth relationship between the shareholders and the management of the company. By entering into a Shareholders Agreement during the company incorporation process, the parties to agreement can gain a clear understanding of their rights and obligations. It furthers offers the shareholders greater protections in preventing the parties from making extra contractual claims in the event of a fallout among the shareholders of the company.

Therefore, we always recommend that a company enter into a shareholder’s agreement during the incorporation process as in the future the obligations, expectations, priorities and commitments of the shareholders may change.

What should be included in a Shareholders Agreement?

We note that each shareholders agreement is specific to a particular company and needs to be customised accordingly to the shareholders needs and conditions that are unique to the company. The content of the agreement is largely determined by the commercial and business objectives of the parties to the agreement. Below are some common provisions found in a Shareholders Agreement.

1.      Director and Board:

This Clause is often used to stipulate the governance of the Board (ie. how often they should meet, or the composition of the board of directors)

It can further stipulate matters that require the Boards Approval and govern the manner in which directors to the Board have be appointed or how they are to resign from the Company.

2.      Reserved Matters:

These are matters which would require the approval of the majority, all or a particular shareholder. In the shareholders agreement it is important to list out the reserved matters as a means to protect the shareholders rights and provide them with a chance to be involved in the matters of the company that required their direction.  The usual typical reserve matters normally related to borrowing, taking of loans, making of guarantees, changing the share capital of the company or the constitution, acquiring and disposing of assets and the closing of the company. By inputting these reserved matters into the Shareholders agreement, the shareholders of the company will be ensured of a balance of power In the Company.

3.      Guarantees and Indemnities

This clause sets out the provisions and extent to which shareholders are liable to the guarantees provided to them by the Company. It can further set out the obligation of the shareholders and the company when it comes to disposing the shares and releasing the shareholder from liabilities if they were to leave the company.

4.      Share Capital and Share Transfers

This is often a crucial component in a Shareholder’s Agreement, as this clause sets out the restrictions and procedures applicable to share transfers and amendment to share capital of the company. It can prevent directors of the company from many any changes to the share capital of the company resulting from the issuance of new shares or converting existing shares in the company. It offers a further protection of rights to the shareholders through the following mechanisms that can be put in place;

  1. Board Consent: the consent of the board of directors must be obtained in respect of any transfer of shares in the Company.
  2. Right of First Refusal: A shareholder that is to wanting to sell his shares must first offer the shares to other shareholders in the company in proportion of their shareholdings. If the current shareholders do not exercise their rights to buy the shares then the selling shareholder may offer these shares to a third party.
  3. Tag Along Rights: This clause often deals with rights of minority shareholders, compelling the selling shareholder to be bounds to third party purchasers of shares to the same terms contained in the Shareholder agreement.
  4. Drag along Rights: It is the right of a selling shareholder (majority) who wishes to sell their shares to a third party. The selling shareholder may exercise the rights to compel the remaining shareholders to sell their shares to the third-party purchaser on the same terms.
  5. Compulsory transfer: Upon the occurrence of a certain specified event, a shareholder shall be compelled to transfer all the shares to reaming shareholders or a third party purchased as approved by the board of directors.
  6. Permitted Transfer: This a clause that will allow shareholders to freely transfer their shares to certain persons.

5.      Financing

This clause sets outs the shareholders capital commitment or obligations if applicable. This clause can further set out the obligations to finance the debt or provide guarantees and the consequences for defaulting.

6.      Events of Default

This clause set out matters which constitute an event of default and the consequences of such a default. Some common events of default include bankruptcy, failure to fulfil obligations contained in the agreements.

7.      Dispute Resolution

This is clause is pertinent and set outs the procedure of resolving a conflict should there be one amongst the shareholders of the company.

8.      Non- Solicitation and Non-competition

This clause set outs the covenants that the shareholders should be borne to convene by. This usually includes provisions relating to the shareholders not soliciting the employees, suppliers or clients of the company and not to engage in any business that competes with the business of the company.

9.      Deed of Adherence

In the event new shareholders coming into the company, this clause will require that new shareholders become a party to the Shareholders’ Agreement by signing a deed of adherence before the allotment/transfer of shares.

10.  Conflict with Articles

This provisions states in the event here is a conflict between the Company’s Constitution and the shareholders agreement, the shareholders agreement will prevail.

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