Definition

Shareholders Agreement

What is a shareholders' agreement?

shareholders' agreement, also known as a stockholders' agreement, is a type of private contract between shareholders that provides information about how a firm should be managed and defines the shareholder's obligations and rights.  

Furthermore, a shareholders' agreement is like a partnership contract, which is a contract between the firm's partners. It also specifies the type of relationship shareholders have with each other and their relationship with the company's management, share ownership, and shareholder protection. Its goal is to guarantee that shareholders are fairly treated, and their rights are respected. Sections of the contract describe the valid and fair share pricing. 

Furthermore, it permits shareholders to decide which external parties may become future shareholders and gives minority position safeguards.

What is a shareholders' agreement ?

Even though the shareholders' agreement is meant to protect all shareholders' rights, it is mainly important in the case of minority shareholders because it highlights the majority shareholders' responsibility to protect minority shareholders from mistreatment and provide them with an opportunity to express their views when the most critical decisions are made.

Furthermore, it not only protects minority shareholders but also supports the present shareholder's rights against future management maltreatment and exploitation. The agreement makes it easier to safeguard specific actions like releasing new shares or debt and dividend distribution in an acquisition or if new management takes control.

The shareholder agreement covers several issues, including:

  • Minority shareholders rights,
  • Dealing with shareholder issues, 
  • Shares valuation,
  • Stock voting,
  • Corporate payouts,
  • Allocation of extra shares and transfer of shares is restricted,
  • The management team of the firm, as well as the restrictions on authority.

Furthermore, the agreement safeguards shareholders and may be used as a reference document if problems occur shortly.

Summary
  • A shareholders' agreement is a contract between shareholders that provides information about how a firm should be managed and defines the shareholder's obligations and rights.
  • Shareholders' agreement ensures that shareholders are fairly treated, and their rights are recognised.
  • Even though the shareholders' agreement is meant to protect all shareholders' rights, it is mainly important in minority shareholders.

Frequently Asked Questions (FAQs)

How do shareholder agreements safeguard the interests of majorities of shareholders?

Shareholder agreements are referred to as "all shareholder agreements" since they protect everyone's interests. As a result, in addition to shielding minority shareholders, it may also safeguard majority shareholders from uncooperative minority shareholders. Majority shareholders, for instance, may seek the inclusion of a drag-along provision that enables them to sell all or a portion of the firm's shares at a particular time and cost, even if minority shareholders are hesitant to approve the transaction.

Furthermore, the shareholder agreement may contain a clause barring minority owners from selling their shares to a rival or any entity that the majority shareholders do not wish to participate in the firm. The agreement should also spell out the criteria for selling and transferring shares, who can buy them, the terms and pricing, etc.

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How do shareholder agreements safeguard minority shareholders?

Minority Shareholders are protected in various ways by shareholder agreements when their rights are threatened. Minority shareholders do not have voting power over the business, and without a shareholder agreement, they will have little impact within it. A small number of controlling shareholders who hold more than 50% of the firm prioritise making critical management decisions, and they may overlook any feedback from minority shareholders.

Even though the minority shareholders are safeguarded under the articles of association, the majority shareholders can easily change the provisions by passing a special resolution. The shareholder agreement might require that all shareholders endorse firm critical decisions to eliminate these loopholes regardless of their voting rights.

Thanks to shareholder agreements, majority owners are restricted in their ability to reject minority owners when taking specified decisions, such as issuing new shares, appointing, and dismissing directors, and acquiring new loans, among other things.

What does a shareholder agreement contain?

The content of shareholder agreements may differ from one company to the next. The following are some of the contents of a shareholder agreement: 

Parties

The firm is recognised as a separate party from the shareholders (the other party) in the first section of the shareholder agreement.

Information for Shareholders

According to the shareholder agreement, shareholders must have the right to receive regular updates on the firm's performance through quarterly financial reports and annual reports. In addition, it should define a time frame for sending out shareholder reports. The agreement should also specify when and where shareholder meetings will be held and the meetings' location, date, and time. 

Board meetings and board of directors 

The shareholder agreement specifies the board of directors' potential functions in the firm and a requirement that a majority approve the board's decisions of shareholders. It also specifies how often the board of directors should meet and how directors should be appointed and replaced.

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Transfers of Shares

The company's share capital must be recorded on the date the shareholder agreement is executed. Since a change in the share capital is reserved, the directors are barred from converting existing shares to a new share class or releasing new shares unless the signatories agree.

The shareholder agreement includes terms relating to share transfer, such as restricting share transfers to unwelcomed or new parties, what happens if a shareholder or director expires, and drag and tag provisions.  

Reserved matters

Issues that cannot be passed without the consent of all signatories, not merely a majority, should be specified in the shareholder agreement. In addition, all shareholders can analyse specific transactions to see if they are harmful to their investments by creating a list of reserved matters.

Moreover, changing share capital, amending the articles of association and memorandum, acquiring, or disposing of specified assets, paying dividends, and taking on additional debt are all common reserved matters.

Amend and terminate the agreement

The complete procedure for terminating or amending the shareholder agreement must be specified in the contract. For instance, the shareholder contract can be cancelled based on the firm's dissolution, based on the written agreement, or when a certain number of years have passed since the agreement was signed.