Employment law essentials

Do I need a shareholders’ agreement?

A shareholders’ agreement is a contract entered into between the company’s shareholders and often the company itself.

When starting a company which has more than one shareholder, it is advisable to have a shareholders’ agreement to set out the relationship which a shareholder will have with the other shareholder(s) and with the company.

A shareholders’ agreement, along with the Articles of Association, form the constitution of the company.

Whilst it is not a legal requirement to have a shareholders’ agreement, we have set out below some of the key benefits of entering into such an agreement:

Certainty and stability – generally speaking, in the absence of a specific provision in the Articles, a shareholder is free to transfer their shares. Therefore there is a risk that a shareholder may decide to transfer their shares to party who is not known to the other shareholders or, they may even decide to transfer their shares to a competitor. This can introduce uncertainty into the operation of the business and impede the smooth running of the company. Therefore, to protect the position, clauses are often included to ensure that if a shareholder wishes to transfer their shares, then they must first offer the shares to the remaining shareholders of the company.

If the other shareholders do not wish to buy the shares and they are happy for the shares to be transferred to a third party, then the shareholders’ agreement can provide that any new shareholder must abide by the terms of the existing shareholders’ agreement by entering into what is known as a ‘deed of adherence’.

Restrictive covenants – a shareholders’ agreement can impose restrictions on shareholders to the effect that a shareholder will not, whilst they are a shareholder of the company, or for a certain period of time after they cease to be a shareholder of the company, carry on any business which competes with the business of the company or entice away customers or employees from the company. Generally speaking, these restrictions can be stricter than the clauses which can be inserted into an employment contract, so they can prove very useful to a company should the shareholders fall out and a leaving employee shareholder decide to set up in competition to the business of the company.

Confidentiality – a confidentiality clause can be inserted into a shareholders’ agreement to ensure that shareholders do not use or pass confidential information to any competitors of the business. These confidentiality restrictions can apply during the agreement and after its termination.

Protection for shareholders:

Minority shareholders – a shareholders’ agreement can provide protection for minority shareholders by ensuring that some key decisions require the unanimous consent of all shareholders, and not just the requisite majority or 75% of the vote (as required by the Articles of Association and/or the Companies Act 2006). In essence, this will provide that the minority shareholders will have a right of veto over some key decisions.

A shareholders’ agreement can also include a ‘tag along’ clause which means that in the event a majority shareholder decides to sell his shares, such a clause would allow the minority shareholders (owning less than 50% of the share capital) the opportunity to participate in the sale at the same time and price (i.e. they can ‘tag along’).

Majority shareholders – a majority shareholder may want to include a ‘drag along’ clause in a shareholders’ agreement. This means that where a majority shareholder receives an offer from a third party to purchase the entire issued share capital of the company, minority shareholders can in effect be ‘dragged along’ and forced to accept the third party offer and sell their shares on the same terms as the majority shareholder.

Please note that it is possible to include the ‘drag along’ and ‘tag along’ clauses in a tailored set of Articles of Association.

Disputes – sometimes during the operation of the business, the shareholders and/or directors may find that they disagree about certain matters relating to the company. Disputes can be time consuming and expensive. Therefore, a shareholders’ agreement can be useful in managing such disputes should they arise; by setting out various provisions to deal with such disputes.

If you require further information or help on the issues raised above please contact:

Theresa Grech

Partner and Head of Corporate (Cardiff): T: 029 2055 7234 E: TheresaGrech@incegd.com