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5 Reasons Why Your Business Needs a Shareholders’ Agreement

Posted by David Cammack on July 12, 2016

We highly recommend that you put a shareholders’ agreement in place if your company has more than one shareholder. Why do you need this type of agreement if there is no legal requirement to have one? It both reduces the possibility of conflict as the company grows and provides a mechanism to resolve any conflict.

Limited companies are quick and easy to set up. They are even provided with free “Model Articles” drawn up by the government. However, most businesses do not realise that those Model Articles were never intended to be used by companies with more than one shareholder. As such, they are indeed totally unsuitable for them. This can result in costly problems later down the line, unless a suitable agreement is in place.

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Some companies choose not to go down this route, due to the cost and time needed to draw it up, but they may not realise a much less expensive solution is now available. Here are a 5 reasons why we advise putting a shareholders’ agreement in place without delay.

1. Transparent Terms

With a shareholders’ agreement, each member will have clear details of their responsibilities, financial input and voting arrangements. It will also detail how shares can be transferred. For example, if a shareholder wants to sell their shares, normally the agreement will state that the other parties must be given a right of first refusal on them at a pre-agreed rate (this is known as “pre-emption rights”). This makes it a strong safeguard against future disagreements and legal disputes.

2. The Agreement Protects Individual Shareholders

A shareholder who has under 50% of the shares is often given more protection and control under a shareholders agreement than he or she would receive under the standard Articles of Association. Without such an agreement, a group or individual holding over 50% can do most things and if they hold 75% of the shares they can do pretty much anything (so long as this is not abusive of the minority’s rights), thus severely limiting the rights of minority shareholders: without a shareholders agreement, they could be ousted from all day-to-day decisions.

An appropriate agreement can rectify this and provide for a veto for each member. A member would only use the veto when the company was considering important changes. For example this might include changing the main direction of the company or the Articles. This veto would ensure the fair treatment of all members. They would each have a say in key decisions.

3. Resolving Disputes

Disagreements on business matters will almost inevitably occur at some point throughout the company’s existence. A good agreement will put in place a mechanism to help resolve disputes. Disputes could otherwise severely hinder the progress of the business.

For example this might mean bringing an independent third party in to mediate. You might even have someone independent force a settlement of a dispute. Again this is an important protection for all shareholders, that is lacking with just having the standard Articles in place.

4. Prevents a Ransom

When selling a company to a third party, 100% of the shares must be sold. Without a proper agreement, a minority shareholder could refuse to sell their shares and therefore prevent a company sale or hold the majority to ransom until they agree to pay a much larger share of the overall company value to the minority shareholder. To avoid this risk, a majority shareholder will want to have a mechanism in place through the shareholders agreement to enable him or her to force the minority shareholder to sell up when the time and price is right. They thus avoid any risk of being held to ransom. You should put such an agreement in place before you  issue shares to minority shareholders.

5. Further Benefits

If a particular member is not pulling their weight, is damaging the company’s reputation or has acted in a reckless manner, if you have a shareholders agreement in place, it could provide a solution – that the other shareholders can vote to have him or her removed and purchase his or her shares for a fair price. Without a shareholders agreement and with just standard Articles, such a solution would not be possible.

A shareholders’ agreement is a private document, unlike the Articles of Association that can be accessed by the public via Companies House. This keeps the detail of the contract between the shareholders private and confidential.

Protect Yourself with a Shareholders Agreement

So hopefully it is clear why you need a Shareholders Agreement – now take action to protect your interests.

For a fraction of the price of buying a shareholders agreement from a firm of solicitors, you can purchase the professionally drafted template shareholders agreement from Legalo. If you would like to know more about the shareholders’ agreement, you might be interested in reading our free guide on the template before you purchase.

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