SHAREHOLDERS AGREEMENTS Quick Guide
Shareholders' Agreements A Shareholders’ Agreement is a contract among the shareholders and the company, regulating their interactions with one another and the operation of the company. The key advantage of using a Shareholders’ Agreement rather than setting out these matters in the company's Articles of Association is that the Articles are a public document, published on the Companies House website. As such, any matters which the shareholders wish to keep private are best set out in a Shareholders’ Agreement, which remains a private document among the parties concerned. The principal matters which would usually be covered in a Shareholders' Agreement are:
the shareholders’ respective contributions to the capital of the company in question;
the conduct of the company’s affairs;
the management of the company;
deadlock in circumstances where management decisions cannot be reached;
dividend policy;
commitments in relation to further financing; and
default.
Shares We would often suggest that there be a restriction on allotment of shares so that shares can only be allotted to members in proportion to their existing holdings; and in the same class as those shares already held by that member, thus maintaining the percentage interest of the joint venture shareholders in the company. Consideration ought to be given to the extent to which any members may transfer their shares. We would generally suggest that a pre-emption right be included in terms of which, if any shareholder wishes to transfer their shares, they must offer them first to the other shareholder at an agreed price or at open market valuation established by agreement or failing agreement, by an independent accountant. Investors may wish to consider an absolute prohibition on transfer at least for a period, taking the view that the company is one for which the investors have specifically come together and accordingly that they do not want to find themselves in business with anyone else, at least in the short term. A Shareholders Agreement will also often contain provisions to set out circumstances in which a shareholder is required to offer their shares for sale, such as leaving the employment of the company and can provide for a set consideration depending on the circumstances of the transfer.
Conduct of Affairs We would anticipate the shareholders agreeing certain fundamentals with regard to the way in which the company will carry on its business. Annex A shows a sample list of undertakings in this regard. If the company intended to carry out anything in contravention of these provisions then a certain level of shareholder consent would be required to approve such course of action.
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Management of the Company It is usual for the day-to-day management to be delegated to the board of directors. This means it is important that the shareholders have the right to appoint (and keep in place) their own representatives on the board and the shareholders reserve to themselves matters which are of fundamental importance to their participation in the company. Provision should also be made for frequency of board meetings, quorum and provision of information to shareholders. Annex B sets out a typical list of matters reserved to the shareholders. Again, consideration needs to be given to specific matters and whether there are any other management matters which are to be reserved to the shareholders.
Deadlock Provision should be made for what is to happen in the event of a deadlock. A variety of options are available:
utilising the chairman’s casting vote;
resolution of the deadlock by reference to a third party;
one party buying the other out; or
winding up.
Referring the matter to a third party is often a lottery and thus unattractive to strong willed shareholders. If a decision cannot be reached the most usual solution is for one shareholder or a group of the shareholders to buy the other(s) out, or, failing that, for the company to be wound up. Any right to buy is usually at the fair market value of the shares. If no agreement as to fair market value can be reached, provision should be made for reference to an independent chartered accountant. A variety of deadlock mechanisms involving the right to buy the shares of other shareholders are possible and we are happy to discuss those options further with you.
Dividend Policy The shareholders should agree and contract for a dividend policy. This will set out the basis on which the directors shall make any decisions regarding the distribution of profits to the shareholders.
Further Financing The shareholders should agree the extent to which they are prepared to provide further financial support to the company. For example, if they are prepared to guarantee the company’s indebtedness they should agree the extent to which they are each prepared to do so and, if one is forced to pay up under a guarantee for more than his agreed share, provision should be made for the shareholders to adjust this as amongst themselves.
Default Provision should be made for what is to happen upon default by one of the shareholders. We often suggest that, in those circumstances, the non-defaulting shareholders should have the right to buy the shares of the defaulting party, either at fair market value or at a discount.
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Next Steps We hope this assists you in understanding where a Shareholders' Agreement may be useful and to allow you to start considering the relevant issues. We are of course happy to discuss any aspect of this note further.
Iain Young Partner E: iain.young@morton-fraser.com T: 0131 247 3194
Austin Flynn Partner E: austin.flynn@morton-fraser.com T: 0131 247 1260
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Annex A Business of the Company and Conduct of the Shareholders The Shareholders hereby agree and undertake to each other that:
the primary object of the Company shall be to carry on the Business [define the business of the company as appropriate] and that no other businesses or activities shall be carried on by the Company without the prior written agreement of all of the Shareholders;
they shall use all reasonable endeavours to procure that the Business shall be conducted in the best interests of the Company on sound commercial profit-making principles with a view to generating the maximum return to the Shareholders on their investment in the Company which without limitation shall include: [tailor as appropriate to the business of the Company in question].
Each Shareholder and, separately, the Company (insofar as it may validly do so) hereby respectively agrees with and undertakes to the other Shareholders:
to exercise all voting rights and powers of control available to it in relation to the Company so as to give full effect to the terms and conditions of this Agreement including, where appropriate, the carrying into effect of such terms as if they were embodied by the Company’s Memorandum and Articles of Association; and
that all transactions entered into shall be conducted in good faith and on the basis set out or referred to in this Agreement and the Articles of Association;
that they shall act in good faith towards the other Shareholders; and
that they will do all things necessary or reasonably desirable to give effect to the spirit and intention of this Agreement.
Conduct of the Company’s affairs Each Shareholder and, separately, the Company (insofar as it may validly do so) hereby agrees and undertakes to the others that:
the affairs of the Company shall be managed in accordance with, and subject to, the Company’s Articles of Association, this Agreement and the Companies Act;
he shall exercise all voting rights and other powers of control available to him in relation to the Company so as to procure that (insofar as they are able by the exercise of such rights and powers) and at all times during the term of this Agreement:
the Company shall transact all its business on arms’ length commercial terms;
they shall perform and observe and (so far as they are able to do so) procure that the Company performs and observes all the provisions of this Agreement and the Articles of Association; and
none of them nor any director appointed by them shall be entitled to take or permit to be taken, any action or decision on behalf of the Company including, without limitation, any action or decision relating to the conduct and affairs of the Company or the Business without the prior approval of the Board and (where required in terms of this Agreement or the Articles of Association) the Shareholders.
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Annex B Matters requiring consent of Shareholders Each Shareholder and, separately, the Company hereby agrees that it shall exercise all voting rights and other powers of control available to it in relation to the Company so as to procure (insofar as it is able) that the Company shall not without Shareholder Consent:
alter its Articles of Association, the name of the Company or its accounting reference date or appoint or dismiss auditors to the Company; or
create or issue any new shares in the Company or grant options over any of its shares or other securities or alter, increase, reduce or redeem the issued share capital of the Company or reorganise, consolidate, sub-divide or convert the shares for the time being in the capital of the Company or vary any of the rights attaching to any such shares; or
acquire, purchase, or subscribe for any shares, debentures, mortgages or securities (or any interest therein) in any company, trust or any body (except for the purpose of setting up a wholly owned subsidiary of the Company in furtherance of the Business) or dispose of any share in the capital of any subsidiary of the Company; or
make any application for a listing of any part of the share capital of the Company on the London Stock Exchange or any other recognised investment exchange (as defined in the Financial Services and Markets Act 2000) or make any arrangements for any other form of marketing or any of its share capital; or
appoint any committee of the Board to take any decisions which are material to the Company or any of its subsidiaries as a whole otherwise than at a meeting of the Board; or
take any steps to have the Company wound up unless a registered insolvency practitioner shall have advised that the Company requires to be wound up by reason of having become insolvent; or
give any guarantee, indemnity or security in respect of the obligations of any other person (other than any of its wholly owned subsidiaries) or permit any such guarantee or indemnity or security to subsist or vary any such guarantee or indemnity or security or provide any credit (other than normal trade credit on commercially reasonable terms in the ordinary course of the Company’s business or to any of its subsidiaries) or alter any restriction on the powers of the Directors to borrow, give guarantees or create charges or make any loan or advance (other than to any of its wholly owned subsidiaries); or establish or vary the rules of any profit sharing, bonus or incentive scheme or any benefits scheme; or sell the undertaking of the Company or any substantial part thereof or sell any fixed assets of the Company other than in the ordinary course of business or sell, transfer, lease, licence, encumber, mortgage, charge or in any way dispose of or agree to dispose of or grant any option in respect of the whole or any part of the Property, whether by a single transaction or series of transactions related or no.
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