Do I Need a Shareholders’ Agreement for My Business?
When starting a business with another person, there are many matters to carefully consider. Part of this includes contingency planning for potential disputes, disagreements or unforeseen events with co owners. A shareholders’ agreement can reduce the stress of addressing these issues if they occur in the future. This article will provide information on:
- What is a shareholders’ agreement;
- Why a shareholders’ agreement is necessary;
- The potential risks on not having a shareholder’s’ agreement and
- Key terms which must be included in a shareholders’ agreement.
What is a Shareholders’ Agreement?
A shareholders’ agreement is a document that is entered into by two or more shareholders, it sets out key agreements on:
- The roles, responsibilities and obligations of the shareholders;
- How the company will be managed;
- How new shares will be issued;
- How shares will be sold and valued;
- How disputes will be resolved; and
- An obligation on shareholders to keep company information confidential and to not compete
Given that this document clearly sets out the functions, responsibilities and management of the company and shareholders, it is crucial for business planning, accountability purposes. and dispute resolution.
Why Do I Need a Shareholders’ Agreement?
There are several benefits in having a shareholders’ agreement as part of your business planning, including a:
- Clearly outlined exit strategy: If a shareholder wishes to exit the company and dispose of their shareholding, the shareholders’ agreement will provide a clear process for how their shares should be dealt with. This will prevent disruptions or disputes from arising and ensure the smooth, continued operation of the company.
- Framework for dealing with disputes or issues: If a dispute arises between shareholders, the shareholders’ agreement will set out the steps which should be taken for dispute resolution. This can assist in avoiding legal costs and more importantly provide a framework for amicably resolving disputes
- Flexibility: Having an individual shareholders’ agreement will allow you to tailor the terms of the document to suit the needs of you and your business. Otherwise, you will have to use the default rules provided by the Corporations Act 2001 (Cth) or the company constitution which may not offer as much flexibility.
Case Study: Grill’d
The absence of a shareholders’ agreement may act to the detriment of the business if it faces unforeseen disputes or issues. This was seen in the high profile case of Bainbridge Grill’d Pty Ltd & Ors v Simon Crowe & Ors.
Facts and Issues
- Three friends, Simon Crowe, Simon McNamara and Geoff Bainbridge opened their first restaurant in 2004, named Grill’d.
- These three parties were the shareholders in the business, however, there was no shareholders’ agreement in place.
- The business continued to expand, as is often the case, strains and tensions caused the relationship between the three parties to irrevocably break down.
- Legal proceedings were commenced and there were multiple allegations of oppression denial of access to the company’s book and records.
- Ultimately the matter was resolved but the dispute resulted in expensive legal fees, impediments on time and emotional strain all of which could have been avoided had a shareholders’ agreement been in place .
- This case demonstrates the importance of regulating the relationship between a company’s directors and shareholders. A shareholders’ agreement is a document that plays a crucial role in this. Had a shareholders agreement been in place it is less likely things would have got so out of hand
- Carefully drafted shareholders’ agreements will often address matters that are not provided in the company constitution, but are vital to managing potential issues affecting shareholders.
Key Terms Which Must Be Included in a Shareholders’ Agreement
While shareholders’ agreements can be tailored to suit the specific needs of the company, there are certain matters which should not be excluded. Some key terms which should be addressed in shareholder’s agreements include:
- Priority: If there is an inconsistency between the company constitution and the shareholders’ agreement, the latter will prevail over the constitution.
- Dispute resolution: Shareholders must make a genuine effort to resolve disputes through the dispute resolution mechanisms provided in the shareholders’ agreement, as opposed to going to Court as a first resort. This can ensure that time, money and business relationships are preserved.
- Shotgun clauses: If shareholders do not agree with the way in which the company is being managed, and there is a deadlock, this may be broken through something called a ‘shotgun clause’. Essentially, this allows one shareholder to purchase the shares of another shareholder to break the deadlock.
- Pre-emptive rights: These clauses can restrain a shareholder from selling their shares to an external third party without offering to sell them to existing shareholders first.
- Minority and Majority Shareholders: It is important for the interests of both minority and majority shareholders be protected and a balance needs to be struck. This can be done through careful drafting of clauses that suit the unique requirements of the shareholders.
- Trigger events: This clause will detail the events under which a shareholder’s shares will be compulsorily sold. For example, the death or resignation of a director, bankruptcy or insolvency.
- Valuation: This section will outline the methods which will be used to calculate the value of the shares.
- Restraint/Non-Competition: These provisions will restrain shareholders from investing in or otherwise engaging with competing businesses.
- When creating a business, it is crucial to execute a shareholders’ agreement, tailored to suit the needs of your company.
- By establishing mechanisms for dispute resolution before any issues have arisen, this process will be more orderly and less stressful if disputes arise.
- It would be beneficial to seek legal advice prior to executing this document, to ensure all the needs of the shareholders are met.
Lord Commercial Lawyers is a commercial and business-focused law firm based in the Melbourne CBD. We work with businesses and individuals to help them achieve their legal and commercial goals.