Author: Alex Koch, JD
Any individual who owns at least one share of a company is considered a shareholder. Although there are some laws in place to protect shareholders and to help them make certain decisions, shareholders of most companies prefer to negotiate their relationship with one another and to put it in writing via a shareholders’ agreement. In general, a shareholders’ agreement is a contract among a company’s shareholders used to guide their relationship, management of the company and the ownership and transfer of shares. There is no legal requirement for any company to have a shareholders’ agreement; however, it is in the best interests of the shareholders as well as the business itself to have one in place. Shareholders’ agreements typically cover the following areas:
- Company decision-making;
- How disputes are to be handled;
- How additional individuals can become shareholders;
- How existing shareholders can exit the company and transfer their shares;
- How dividends are paid by the company; and
- What happens when existing shareholders pass on, become permanently disabled, are bankrupt or go through a divorce proceeding.
Without addressing the above issues through a shareholders’ agreement, business owners may find themselves faced with unfavorable outcomes.
Generally, it is the board of directors that manages the company; however, in certain circumstances, shareholders may decide that some decisions should require shareholder approval, particularly if the company has directors who are not shareholders. Shareholders can also decide that certain decisions can be made by unanimous consent or by consent of a certain percentage of voting shares. This method is often used to protect minority shareholders to ensure that majority shareholders can’t pass some decisions without approval of minority shareholders.
Many shareholders are often faced with questions about exiting the company. Without any restrictions in place, shareholders are free to transfer their shares to individuals of their choosing, meaning that some shareholders may be in a situation where they are forced to co-own a company with a particular individual without their consent. Likewise, in many companies, key employees or directors of the company are also shareholders. If these individuals were to resign or leave the company, business owners will likely want these individuals to sell their shares back to the company or to other existing shareholders. A shareholders’ agreement may be used to ensure that any shares that are tied to an employment relationship are sold back to the company when an employed shareholder terminates his/her employment with the company.
Ownership structures of companies varies in many respects; however, what all companies have in common is that none of them are immune from contentious issues, including companies owned by family members or long-term friends. All individuals starting a business set out with best intentions; however, most businesses go through both good and bad times as circumstances change along the way. In general, when a company is owned by more than one person, preparing a shareholders’ agreement may help business owners ensure a smoother resolution to any issues and reduce the impact of these issues on the business. Disputes among shareholders can be extremely time consuming and costly and, in extreme circumstances, can cripple and even destroy the business. By setting out methods of addressing future issues, business owners can avoid future costly and stressful disagreements. The best time to set a road map for how to deal with disputes is at the earliest possible time — when the co-founders are on the same page. In this scenario, having guidelines established in advance by a shareholders’ agreement that was negotiated and prepared when cooler tempers prevailed is much preferable to the alternative. Having a shareholders’ agreement prepared in the early stages of the business prompts shareholders to think about the various issues that may affect their relationship as business co-owners prior to any contentious issues arising. Once the agreement is in place, the shareholders can carry on the business knowing that if an issue arises, they will know what to do. It is much more difficult to obtain a fair and reasonable shareholders’ agreement when a relationship between shareholders is strained.
A shareholders’ agreement isn’t simply an issue to be considered by a company with co-founders. In certain circumstances, even solo business owners should consider having a shareholders’ agreement (or a shareholder’s declaration) prepared. For example, when a business owner is preparing for future expansions or is trying to provide clarity on what happens should the solopreneur pass on or become permanently disabled.
The cost of preparing a shareholders’ agreement will be an insignificant cost if it helps prevent or diminish a dispute in the future. There is no such thing as a “model” shareholders’ agreement as these documents are flexible and allow shareholders to negotiate their rights and obligations. Please contact Insight Legal if you’d like to learn more about shareholders’ agreements and whether your company needs one.
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