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What is a Shareholders’ Agreement?

March 22, 2018

As a business owner, you have probably heard about a shareholders’ agreement (SHA). Nevertheless, what to include in a shareholder’s agreement is among our top corporate enquiries here at LawBite. So, let’s get it sorted.

When we talk about businesses, a SHA basically addresses matters involving the management of the company and the relationship with its shareholders in a way that differs from those covered by Model Articles – the standard articles of association that automatically apply to a company if the founders do not file any other bespoke set of articles. These are some of the available variations for you to think about:

1. Decision Making Process and Reserved Matters

The Model Articles set out that the majority of directors decide on most of the company’s matters. In a SHA you can introduce different thresholds to specific matters and set out that particular topics will depend on shareholder approval. Both founders and investors request these types of clauses to make sure that they have a say on the issues that are of most relevance to them.
The subject of these different thresholds may vary from business to business but usually they include: transactions above a certain amount and/or involving property, director and senior staff remuneration, issue of new shares, sale of the company and/or the company’s assets and the winding up the company.

2. Restriction on the Transfer of Shares

The Model Articles do not include any restrictions if a shareholder wants to transfer their shares to a third party. If you are worried about third parties coming on board without your knowledge you can use a shareholders’ agreement to include restrictions on the transfer of shares – usually in the form of preferential rights in favour of existing shareholders.

3. Leaving the Company

The Model Articles do not set out any restrictions for when a shareholder wants to sell their shares and leave the company. This may create a problem if you rely on that shareholder’s funds and/or skills to develop and grow the company. Therefore, a shareholders’ agreement often includes a bad leaver provision to discourage shareholders from leaving the company before a certain period of time – such as before a company has gone through its initial (and usually most complicated) stage.
For instance, these provisions may state that the leaving shareholder will be obliged to transfer their shares to other shareholders at a very low value. It is market standard for investors to request founders to agree to this type of restriction.

4. Non-competition

The Model Articles do not create any obligation for shareholders not to compete with the company and/or solicit the company’s staff. However, for many SMEs the departure of a shareholder to set up a competing business may cause a threat to their enterprise. A shareholders’ agreement can be used to address this concern and set out in which areas and for how long a shareholder that leaves the company cannot compete with the company’s business.

5. Tag Along and Drag Along

The Model Articles do not create mechanisms to protect minority shareholders in the event of a sale of control of the company to a third party (tag along rights) or to force minority shareholders to sell if a third party offers to acquire all the shares in a company where the majority shareholders do intend to sell (drag along rights). These mechanisms may be of great relevance as the company grows and becomes a target to bigger companies – that’s why they are often included in a shareholders’ agreement.

Last but not least, after you have a shareholders’ agreement in place, you should always consider amending your articles of association to reflect the provisions of the shareholders’ agreement so as to avoid having conflicting documents for your company.

To consult with Carla, please submit an enquiry for a free 15-minute consultation or call our friendly team today on 020 7148 1066.

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