What is a Shareholders Agreement?
What is a Shareholders Agreement?
A shareholders agreement is a document that sets out the rules and processes which apply to the shareholders of a company. It determines the rights and obligations of shareholders, as well as governs the relationship between company directors and shareholders.
The purpose of a shareholders agreement is to avoid disputes between shareholders, reduce disruption to the business of the company and facilitate the seamless operation of the company in circumstances where a shareholder wishes to sell or acquire shares.
Shareholders’ agreements vs company constitution
A shareholders agreement applies in addition to (or overrides, as the case may be) the company constitution. When drafted properly, a shareholders agreement will consider the specific shareholders of the company and address a wide range of issues that might arise between them. The company constitution, on the other hand, is typically a more standardised document containing general, high-level rules about company governance.
A company constitution can be replaced by a 75% shareholders vote, whereas a shareholders agreement can only be replaced with the consent of all the parties to the shareholder agreement. In this respect, a shareholders agreement is especially important for protecting minority shareholders who would otherwise be at risk of being subjugated by majority shareholders.
Shareholders agreement vs the Corporations Act 2001 (Cth)
A shareholders agreement also applies in addition to the Corporations Act 2001 (Cth) (the Act). In the absence of a shareholders agreement and/or a company constitution, the Act provides basic safeguards to shareholders in the form of the replaceable rules. The replaceable rules cover a range of matters, including (amongst other things) the conduct of board meetings, appointment and removal of directors, powers of directors and the rights of shareholders to inspect company books.
The replaceable rules apply unless otherwise provided for by the company constitution and/or the shareholders agreement. Though useful, the replaceable rules only provide a basic framework for corporate governance. Unlike a company constitution or shareholders agreement, they are not tailored to reflect the specific needs of a company or current best practice.
Features of a well-drafted shareholder agreement
Some important clauses which may be included in a shareholders agreement include:
| Deadlock | Deadlock provisions are enlivened when decision making on critical matters stalls or becomes ‘deadlocked’. They set out a mechanism for the resolution of deadlocks, allowing the company to move forward. There are numerous procedures that can be employed for this purpose, a shareholders agreement should identify the one best suited to the operation of the company. |
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| Pre-emptive rights | Pre-emptive rights allow existing shareholders to acquire shares prior to those shares being offered to third parties. Common types of pre-emptive rights are:
Pre-emptive rights can operate in respect of issued shares held by current shareholders, as well as new shares issued by the company. |
| Restraint clauses | A shareholders agreement may include restraints which prevent a shareholder from competing with the company or soliciting the company’s clients. These clauses typically apply whilst a person is a shareholder of the company and for a specified period of time after a person ceases being a shareholder of the company. |
| Exit strategies | Exit strategies might include a buyout mechanism, or provide for the sale of the business, including how and for what value a shareholder may exit the company. |
| Composition of the board | A shareholders agreement often sets out the composition, selection process and role of the board of directors. It also governs the decision-making of the board. Whilst the default position is that 51% of shareholders votes is required to appoint and remove directors, a shareholders agreement may displace this provision by giving a lesser percentage of shareholders the right to appoint a representative director. |
| Reserved matters | A shareholders agreement should set out the kinds of decisions which require approval from a special majority of shareholders. This effectively shifts power away from the board of directors and into the hands of shareholders for important matters that might impact a shareholders investment. |
| Tag along and drag along rights | Tag along rights is the right of minority shareholders to have their shares bought for the same price and on the same terms as a majority shareholder. They protect minority shareholders in the event that a majority shareholder exits the company, leaving minority shareholders ‘stranded’. Drag along rights compel minority shareholders to sell their shares to bona fide purchaser at the same price and on the same terms as a majority shareholder. They are beneficial to the majority shareholder wishing to incentivise a potential buyer by offer of the entire company. |
How can we help?
Shareholders agreements are imperative for safeguarding the rights of shareholders and ensuring the seamless operation of a company, irrespective of its size.
Merton Lawyers are experts in corporate governance and preparing bespoke shareholders agreements. To discuss how we can assist you, please contact our corporate team to arrange for an initial consultation.
