Orr Litchfield
Solicitors and Business Lawyers
Solicitors and Business Lawyers
There are many different reasons behind a shareholders’ agreement. For example, parties may want to create a joint venture to tap into others’ expertise or resources to produce better products or services. Family members may decide to pool together time and resources to launch a family business; or a sole entrepreneur may need the financial support of an investor to grow their business and/or expand in a new direction.
A company’s articles of association are a contract between the company and the shareholders and between the shareholders themselves. Whereas articles of association must be filed at Companies House and are available for public viewing, a shareholders’ agreement is a private contract between the shareholders (and sometimes the company too) and often includes sensitive commercial provisions, such as borrowing limits, funding requirements and dividend policy. They can be published at Companies House but this is very rare.
If you are presented with a shareholders’ agreement for review and signature, here are some pointers to help you decide whether or not to sign:
Before signing a shareholders' agreement, you should understand your share class and its rights. Different classes, like "A" or "B" shares, have varying rights, such as on voting, dividends and to capital on a winding up. You should check both the shareholders’ agreement and company's articles of association for definitions of your share class and what rights are attached to them.
As a minority shareholder, your voting power lies in veto rights. To ensure your vote counts on important decisions, certain matters should be reserved for unanimous voting or a high percentage majority. “Reserved matters” can include major business changes and altering shareholder rights. Always check thoroughly what decisions you are eligible to vote on and what voting powers you have. Also, review share valuation methods, especially any discounts on minority shares.
If the company allots new shares, pre-emption rights grant existing shareholders the first right to purchase new shares to maintain their proportional ownership. Equally, pre-emption rights can apply on a transfer of shares. You should check whether pre-emption rights have been disapplied for particular share classes (either in the articles of association or the shareholders’ agreement), the point being that your shareholding could be diluted if you are unable to exercise your pre-emption rights.
Under “good leaver”/ “bad leaver” provisions, departing shareholders are classified based on circumstances of their departure. “Good leavers” usually receive fair value for their shares, while “bad leavers” get less. Check these definitions and whether directors have discretion to classify someone as a bad leaver.
Having representation on the board of directors can help protect your interests, particularly if you are a minority shareholder. However, if your nominated director can be easily outvoted by the majority then you will not have much sway in board level decisions.
Where majority shareholders are transferring control of the company, tag-along rights allow the remaining shareholders to join the share sale. Drag-along rights allow selling shareholders to force remaining shareholders to sell their shares. These mechanisms ensure fairness in exit transactions for both minority and majority shareholders.
The above points are a starting point for any entrepreneur considering signing a shareholders’ agreement. Check your potential rights and any provisions in the agreement that can affect your rights and obligations detrimentally and obtain legal advice prior to signing.
You can read more about shareholders’ agreements on our dedicated page on Shareholders’ Agreements.
Whether you are planning to enter into a new shareholders’ agreement or would like us to review your existing shareholders’ agreement, we can help you to understand the different legal and related commercial issues when you are considering a shareholders’ agreement, to choose the option that is right for you and to that will help develop your business.
If you would like more information about shareholders’ agreements or would like to discuss a potential or existing shareholders’ agreement, please email us at enquiries@orrlitchfield.com, complete an Enquiry Form or call us.
