A standard mode of entering a new business with co-investors/partners is establishing a new proprietary limited company where each party holds shares equivalent to their proportional ownership via a shareholders agreement.
Background – shareholders agreement
What rules govern the interaction between new business partners, and what rights do they have in the company operation and the business?
The Corporations legislation provides some basic security and general regulation for shareholder interaction, but it is not a complete roadmap for business operation. A company constitution is often helpful to fill that gap. However, many organisations either do not have a constitution or have a basic document provided to them at the time the company was established, which does not adequately cater to their circumstances.
A Shareholders Agreement can be an excellent resource for new businesses to fill this gap, ensuring that each partner’s expectations are met concerning the company’s operation and their role within it and establishing rules for when disputes arise between business partners.
A Shareholders Agreement can coincide with the company’s constitution and, if drafted appropriately, can overrule provisions of a constitution that have become outdated or are not appropriate given the present nature or structure of the business.
Putting together a shareholders agreement
When comprising a Shareholders Agreement (or reviewing one that has been proposed), one should look for provisions that deal with some essential items, including (but not limited to):
- How is the board of directors configured, and who is entitled to become a director?
- What powers will the directors have, and how will management decisions be made?
- What influence will shareholders have over decision-making, and when is shareholder approval required?
- How profits are reinvested or dividends paid.
- How are shareholder loans dealt with concerning interest and repayment terms?
- If any non-compete obligations are applicable to shareholders and their key persons.
- How offers to purchase the business are handled. For instance, can the majority compel a minority to sell?.
- What happens should one party dies or is totally and permanently disabled
- How will shares be valued when a party wishes to sell them?
- How disputes are to be resolved? For example, does it set out a process for alternative dispute resolution such as mediation before any court proceedings are issued?
Important factors – shareholders agreement
Additionally, it is important to consider that each business is unique. So it may also be imperative to include provisions tailored to the business. As well as the long-term goals of each shareholder and which cater specifically to the nature of the company’s products, services and workforce.
For example, a company developing or holding valuable intellectual property (IP) assets may require provisions that deal directly with ownership of those IP assets and any limitations on the use or commercialisation of such assets by the parties in the future. Another instance might be where one party plans to work in the business actively. In contrast, others do not, in which case, establishing the roles of each party, their contributions and the compensation each may receive for their time and labour may be a critical inclusion to ensure fairness.
Other customised inclusions may be rules for the issue of new shares, lock-in periods preventing share sales in the business infancy phase or even the inclusion of an agreed Business Plan for the company.
In such circumstances, customised Shareholders Agreements can be critical and having the guidance of a trained legal eye will be indispensable. Considering this, it is essential to understand that each shareholder should ideally obtain their independent and specialised legal and financial advice on the terms of a proposed Shareholders Agreement. Often, shareholders’ interests and priorities will diverge. Hence, it is prudent that parties obtain advice from someone engaged to provide guidance solely on their rights and obligations rather than the collective.
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