Shareholder Agreements – why you should have one

7 March 2012

Going into business with another person is like a marriage.  There will be ups and downs, and if there is a divorce, it could get expensive.

Common goals and a well thought out plan are imperative to minimising the chance of failure.  Further, agreed rules of conduct are necessary to help manage and minimise the downside of any potential dispute. 

Most businesses are conducted through companies.  They may also be conducted via a trust arrangement, but in this instance the company may still act as trustee of the trust.

The rights of shareholders in a company are regulated by the Corporations Act 2001 (Cth) (“Act”), common law (or judge made law) and the Constitution of the company (and if the company has no Constitution, then the default Constitution set out in the “replaceable rules” which are set out in the Act). 

Company Constitutions generally only deal with standard rights and obligations of shareholders.  They don’t however deal with specific commercial scenarios, or the common problems between business partners who carry on their business through a company. 

A Shareholders Agreement is a contract which regulates the rights and obligations of shareholders in a company, which are in addition to those rights and obligations set out in a company’s Constitution. 

The principal reason shareholders enter into these agreements is to regulate matters which are specific to their commercial arrangement, as well as deal with matters not set out in the Constitution.  These include:

  • The right to have directors appointed to the Board.
  • Minimum/maximum numbers of directors. 
  • Special rules relating to how Board meetings are conducted.
  • Voting thresholds for specific commercial decisions.  For example, requiring a special resolution to sell the business. 
  • Special rules relating to the issue of shares or other securities.
  • What happens if a shareholder wants to transfer their shares?  These usually entail rights of pre-emption and drag along and tag along rights. 
  • Confidentiality obligations.
  • Non-competition covenants restricting shareholders from competing with the company.
  • How Board deadlocks are resolved. 
  • Resolution of shareholder disputes.

In the absence of a Shareholders Agreement, the above matters may be unregulated.  If a dispute arises the parties’ rights could be uncertain, which could result in expensive litigation.  A Shareholders Agreement is a great tool to minimise the chances of this occurring. 

Please contact Darren Sommers for further information.