Businesses can be complex beasts to run well and having a guide to assist is very important. A shareholders agreement is like the instructions to a game. It is very hard to play a game if you do not know the rules.
Businesses that have good shareholder agreements can use them to prevent disputes or problems arising because the solution or method to deal with the issue has already been agreed in the agreement.
A shareholders agreement is something a lot of people don’t think they need, until they do.
In Australia, it is not a mandatory requirement to have a shareholders agreement, thus it is often overlooked by businesses. When there are two or more shareholders involved in a company, they should have an agreement to manage the relationship
Although the Corporations Act 2001 (Cth) sets out some rules and procedures, every business is unique. The Corporations Act does not cover all the scenarios and is not tailored towards any particular company.
A shareholders agreement, on the other hand, can be customised to include particular measures. Below are a few common grounds of shareholders disputes that could be easily prevented or resolved by a well-drafted shareholders agreement.
Decision making
Decision making is the fundamental piece when running a business. It is of more importance if you are a minority founding shareholder. Among other things, you probably also want to ensure that you always have a stand in the board and that your shares and voting power will not be diluted.
This includes:
- Decisions that require a special resolution
- Appointment or removal of a director
- Voting power of different share classes
- Special procedure when the transaction is of high monetary value or is not at arm’s length.
- Issue of additional shares
- Dividends and distribution
- Personal guarantees
Transfer of shares
If you, as a shareholder, want to sell your shares, you may wonder whether you are allowed to do so, whether there are any prerequisite steps and what happens if you do not follow those steps.
It is also very common for small companies to restrict transfer of shares to a third party, because most people don’t want to have an un-related stranger come and join the business.
This covers situations like:
- Default events, e.g. when a shareholder breaches the agreement, loses capacity, dies, or becomes bankrupt or insolvent.
- Transfer within the company
- Transfer to a third party
- Company buy-back
- Tag along/drag along sale provisions
Restraints of trade
Shareholders often bring different skills and resources to a company. When a shareholder has day-to-day carriage of the company management, it is crucial to include a provision in the shareholders agreement requiring a separate employment contract to be entered into.
A shareholders agreement should also record that all shareholders are prohibited from:
- engaging in competing activities
- using or disclosing the company’s confidential information
- soliciting away customers or employees of the company
Dispute resolution
It is important that there is a clearly defined dispute resolution procedure for the company and shareholders to follow in the event of a dispute. Having well created dispute resolution clauses will usually be more time and cost effective than using the court system. It also protects the company from any unwanted public attention.
This could include:
- What needs to be included in a default notice and how it could be served.
- Mandatory mediation
- Independent expert determination
- Bar to proceedings so that no court claim can be commenced unless the dispute resolution procedure has been followed
- Deadlock provisions
No one likes disputes. It is always better to prevent it from happening in the first place. While it is important to have everything prepared in advance, it is never too late to have a shareholders agreement prepared.
If you are either planning to start a new business, or you want to have your rights as a shareholder protected in an existing business, the commercial team at Lynn & Brown Lawyers is here to assist. The team has extensive experience in both drafting and negotiating shareholder agreements at all levels.
About the Author: Tina was admitted as a lawyer in June 2018 in New South Wales after obtaining a Juris Doctor degree from the University of Sydney. After four years of practising in Sydney, Tina moved to Perth and joined the Lynn and Brown team in May 2022.
