Plain English Guide to Shareholders and Partnership Agreements

Establishing a business is a challenging process. When two or more parties come together with a shared vision, it is common to focus on setting up the business in a logistical sense first and then selling and marketing the product or service.

In many cases, the business owners neglect a vital step in the process of securing the future success of their business – a shareholders or partnership agreement.

This Plain English Guide answers some of the more commonly asked questions regarding shareholders agreements and outlines the benefits. If you are thinking of setting up a business, or you are currently involved in a business that does not have an agreement in place, speak to your solicitor today about how you can protect your future.

What is a Shareholders/Partners Agreement?

A shareholders agreement is a written agreement between the shareholders or partners of a business. It is best prepared at the start of a business, when all parties are enthusiastic and there have been no disputes or disagreements over the running of the business.

The agreement covers the funding, structure, management and direction of the business, as well as outlining the responsibilities and obligations of owners. It is critical that the individual circumstances of a business and the parties involved are taken into consideration.

The agreement is also designed to deal with the issues that, based on experience, have a distinct possibility of arising in the life of a business. It can also help to determine in advance how those issues will be dealt with should they arise - rather than having the parties react “after the event” and potentially allowing self interest to affect what each party sees as the appropriate response.

Why do you need a shareholders agreement?

A shareholders agreement can avoid or minimise disputes over the running of a business and its funding. In much the same way as a prenuptial agreement can minimise the cost of a marriage breakup, a shareholders agreement can also reduce the cost and uncertainty of a business break up. Every business is different and every shareholder or partner is different – a good shareholders agreement can help to minimise the potential for conflict, the unpredictability and cost of dealing with conflict and maximise opportunity for growth.

Once a business relationship has broken down it becomes very difficult to objectively look at key issues. It is much easier to decide on the fundamental issues early and to minimise the problems that can occur later.

What is covered by a shareholders agreement?

A legally binding shareholders agreement will specify a number of requirements for the successful running of a business.

It will outline a range of issues, such as:

• The structure of the senior executive team – who will be director, whether there will be a managing director, how often the directors will meet etc.
• Voting rights of shareholders and directors
• Majority/percentage votes required for major decisions to be implemented
• The type of decisions that require a vote between shareholders – eg. purchase of major assets, loans over a certain amount, buying and selling shares etc
• What happens on a “deadlock” (even votes for and against a decision) and how it should be resolved
• Banking, accounting and auditing arrangements
• Dividend policies for the distribution or retention of profits
• Capital contributions and what assets are provided by each participant
• Shareholder obligations to provide “loans” to the business
• The type of business that will be undertaken and the planned future direction of the business
• Parties salaries and reviews including fringe benefits
• What happens when a party wants to “exit” the agreement, or passes away
• What events will “trigger” the termination of the agreement
• How shares will be valued in the event of a buy-out or sale to another party Restrictive covenants if a shareholder leaves

What happens if a shareholder or partner leaves the business?

The shareholders agreement should take this scenario into account and incorporate provisions for the buy-out or sale of a party’s shares. It will also identify the individual circumstances in which a shareholder can terminate an agreement, or what will happen in the event that one of the shareholders passes away.

In many businesses, for example, there is no provision for the death of one of the shareholders or partners and the remaining spouse takes on the interest in the company. This is often not the best outcome for a business and can be avoided with a welldeveloped shareholders agreement and adequate succession planning.

It is important to remember that even though a shareholders agreement is in place, if constructed and reviewed properly, it does not restrict the business or partnership’s progress.

What if my business doesn’t have a shareholders agreement?

If you are currently operating a business or partnership without an agreement in place, we recommend that you discuss your situation with an experienced commercial solicitor.

In most cases, an agreement can be drafted based on the existing structure and operational style of the business. It also helps to identify possible issues and problems before they arise, and before business relationships become strained in the event of a conflict.

Think about the future of your business. Don’t leave it to chance – you never know what is around the corner.

Who should prepare the shareholders agreement?

The outline of issues above is brief and designed to provide an overview only of the type of information that should be included in a shareholders agreement. At the start of the business, it is strongly recommended that the parties meet with their accountant and solicitor to discuss these (and other) issues and to determine the business arrangements in advance.

A commercial solicitor experienced in the preparation of shareholders and partnership agreements will be able to advise on a range of provisions, as well as look into the individual business and suggest inclusions that are unique to that particular situation.

It is important to remember that even if the business partners or shareholders agree on everything and can’t imagine things ever being any different, it pays to get an expert to prepare a shareholders agreement. In addition to avoiding future problems or disputes over the running of the business, a shareholders agreement can also assist with tax-effective business structuring and funding, insurance issues and succession planning. Don’t attempt to develop a written agreement without seeking professional legal advice!

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