3 to Agree
Call it the “prenup” for business relationships - shareholders’ agreements are essential tools to mitigate shareholder disputes and promote the smooth functioning of companies.
A shareholders’ agreement, while not legally mandated, is an instrument we regard as indispensable in any company with two or more shareholders. It regulates the relationship between the shareholders and the company and can (and should) be tailored to the specific commercial and relational dynamics between the parties.
That said, there are certain clauses which, even if not included in every shareholders’ agreement, should never be overlooked. These include:
- Funding provisions
Companies need capital. Practically though, who is expected to provide it, and on what terms?
Shareholders’ agreements should comprehensively address funding and deal with key issues such as whether shareholders are obliged to fund, the consequences of some shareholders funding and others failing to do so and whether funding shareholders should earn preferential interest or be entitled to subscribe for additional shares and dilute non‑funding shareholders.
These are often contentious points, particularly where shareholders have different financial capacities or appetites for risk. For example, a well‑capitalised shareholder A may want the right to fund the company through further share subscriptions, thereby diluting a less liquid shareholder B. This is unlikely to be acceptable to B without appropriate safeguards or compromises, and the parties may need to negotiate a middle ground (for example, capped dilution, staged funding obligations, or alternative solutions).
It is far preferable to address these issues upfront rather than at a time when the company is under financial pressure. Delays in securing funding, caused by shareholder disagreements, can cripple a business.
A well‑drafted shareholders’ agreement should anticipate these scenarios and strike a fair balance between competing shareholder interests, while ensuring that the company can in fact access the capital it needs.
2. Reserved matters
While the day‑to‑day management of the company generally vests in the board, there are certain strategic decisions, beyond those required by the Companies Act, that shareholders may wish to reserve for themselves.
By way of example, decisions pertaining to the borrowing or lending of money by the company, the granting of security by the company or the encumbering of any of the company’s assets, the conclusion, amendment or termination of material agreements or the incurring of significant capital expenditure, are often matters shareholders prefer to retain control over.
The next question then is, what level of shareholder approval should be required? This will depend on the shareholding composition and commercial dynamics between the parties.
Reserved matters will not be necessary in every scenario. For instance, they may be less critical where the board and the shareholders are effectively the same people and no change in that alignment is anticipated. Nonetheless, inclusion of reserved matters should always be considered, as they materially affect governance and control.
3. Pre‑emptive rights
Trouble in paradise... you or your co‑shareholder want out. What are the rules in this regard?
Pre‑emptive rights provisions are crucial, as they regulate the terms on which a shareholder may dispose of its shares.
Typically (although shareholders are free to agree differently), these clauses provide that a shareholder wishing to sell its shares must first offer such shares to the existing shareholders (usually pro rata to their current shareholding). Only if the existing shareholders decline such offer may the seller approach a 3rd party, and then only on terms no more favourable than those offered internally.
Important aspects to consider include the time period within which the existing shareholders must accept or reject an offer. This requires balancing commercial expediency for the seller against the practical reality that existing shareholders often need time to raise funding. In a similar vein, due consideration must be given to the window within which the seller may sell to a 3rd party before the shares must again be re‑offered to the existing shareholders.
A further consideration is whether the existing shareholders should have a right to veto or approve the proposed 3rd party purchaser. This requires weighing up the seller’s legitimate interest in being able to exit, against the existing shareholders’ interest in not being forced into partnership with an undesirable new co‑shareholder.
These clauses are often coupled with call and put options, which allow shareholders to require another shareholder to either sell or buy shares at a pre-agreed or determinable price. They may also include come-along and tag-along rights, which allow shareholders either to compel others to join a sale to a third party or to participate in a sale initiated by another shareholder.
These mechanisms collectively shape the exit environment and should be drafted with care.
Shareholders’ agreements are inherently complex instruments. They require thoughtful negotiation and precise drafting to balance diverging commercial interests while preserving the company’s ability to operate effectively.
Much like a prenup, a shareholders’ agreement may sit untouched in a drawer for years, but when tensions arise, whether over funding, control or exit, it becomes invaluable at that point to have clear, agreed rules of engagement.
