Shareholder Agreements – why are they so important?

Often when a team of people decide to do business together they do so with people known to them whether it be family members, colleagues or friends. It is common to feel that formalising the business relationship legally is unnecessary as parties often find it difficult to imagine that these seemingly positive relationships could deteriorate or that unexpected events may occur.

The reality is the future is never certain and despite having a positive relationship to begin with it is hard to predict the potential pressures between shareholders deriving from within or outside of the business.

For example, if shareholders fall out and there is no clear exit strategy then negotiations regarding the mechanisms for resolving the dispute or separation (if the relationships have irrevocably broken down) may be extremely costly for your business. There may even be a risk that shareholders face deadlock and be forced to wind up the company depending on the way shares are held. It could also be the case that shares are freely transferable and a departing shareholder could therefore transfer to an unknown third party or they may even set up in competition with your business.

The overarching benefit of a shareholders agreement is that it creates a mutual understanding amongst the shareholders of their respective business relationships and when drafted effectively deal with many potential issues that may crop up between shareholders in the future. Some of the issues shareholders agreements can cover but are not limited to include:

• Mechanisms by which shareholders resolve disputes;
• Mandatory transfer of shares where a shareholder has acted in contravention to the agreement;
• What to do on the death of a shareholder;
• Impose restrictive covenants on departing shareholders from sharing confidential information or setting up in competition with the business; and
• Include share transfer provisions such as pre-emption rights (the right of first refusal).

Ultimately a shareholders agreement shows that you have thought ahead and have acknowledged the possibility that problems between shareholders could arise. Having the shareholders agreement in place makes it less likely that there will be a relationship breakdown between shareholders but importantly protects your business from harm even where this relationship does break down. Whilst it may seem unnecessary to begin with if something does go wrong you may find yourself wishing you had invested in a well drafted shareholders agreement in the first place.

If you require assistance in setting up a shareholders agreement, require one to be reviewed, or have a question regarding any element of commercial law please get in touch.