Why Your Business Needs a Shareholders Agreement (And where to begin)

At Montridge, we believe in the importance of supporting the well-being of businesses, their employees, and their shareholders.  One key to the ongoing health and survival of a privately owned business is a continuation plan. And one very important part of that plan is a well-crafted Shareholders’ Agreement. Our friend, Alana Dale-Johnson, a partner at Singleton Reynolds wrote an article explaining the importance of shareholders agreements, how they protect your business, and where to begin drafting one.

Your company needs a shareholders agreement. All companies do; they clarify business expectations and allow shareholders to discuss potential problems long before they become fully-matured crises. Without one, you risk exposing your business to costly litigation if disagreements between shareholders occurs. 

Be wary of boiler-plate shareholder agreements. Numerous though they may be, they lack specificity. Each business has its own concerns, priorities, structure, risks, and objectives for the future. Invest the time today to draft a document tailor-fit to your needs: it’ll provide peace of mind today and prevent headaches in the future.

This article provides an overview of just a few of the initial considerations that shareholders and their advisors should turn their minds to when considering the drafting or review of a shareholders agreement.

8 Initial Considerations When Drafting a Shareholders Agreement

1. Identify all shareholders. 

This allows you to not only have an understanding of who might be party to the agreement but also allows you to discern whether or not any of the shareholders are key employees, officers, or directors. If that is the case, special provisions such as employment agreements, confidentiality, and/or non-compete clauses may be required.

2. Choose a means of dispute resolution. 

Since one of the key objectives for any shareholders agreement is to avoid protracted, disruptive, and costly litigation, providing clear guidance about the mechanisms for resolution of disputes is crucial. This can include arbitration, mediation, or the popular "shotgun clause." Whichever methods are chosen, ensure that the agreement sets out a sequential process so that parties are clear on the stages of dispute resolution and do not engage more than one procedure at a time.

3. What is the corporation's shareholder structure? 

Is it 50/50 or are there minority and majority interests? One of the key goals of shareholder agreements is the protection of minority rights and the minimization of inequalities (for example, through the inclusion of supermajority voting requirements or piggyback/"tag-along" rights).

4. What are the corporation's long-term goals? 

For example, how can the agreement address business succession goals? The shareholders agreement should identify the successor(s) and address the transfer of responsibility and decision making. 

5. What governing documents are in place that affect shareholders rights? 

These can include not only the incorporating documents but also other existing shareholder agreements.

6. Will restrictions on share transfer be imposed? 

In order to create more certainty, shareholders may want to impose restrictions on share transfer such as unanimous shareholder approval or rights of first refusal.

7. What mechanisms should be put in place for involuntary share transfer in the event of the death, disability, divorce, or bankruptcy of a shareholder? 

The shareholders agreement can, for example, require director or court approval of share transfer, or set out a predetermined value at which shares will be purchased by the Company or the remaining shareholders.

8. What events might lead to the termination of the shareholders agreement and which provisions, if any, will survive the termination? 

For example, confidentiality and non-compete clauses should, by necessity, continue after termination of the agreement.

Shareholder agreements can be complex documents requiring considerable legal expertise and the considerations listed above are by no means exhaustive. This complexity, however, only speaks to the importance of having a well-thought out plan in place to guide you smoothly into the future.