What is a Shareholders Agreement?

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A shareholders agreement is crucial for any business with more than one stakeholder. It safeguards the interests of the company and each of its shareholders by clearly stating how the former should work and specifying the relationship between them. The contract is also referred to as a stockholders agreement.

Key Takeaways

  • A shareholders agreement is a contract that provides information on the relationship shared between a company and its shareholders, along with the latter’s rights and obligations in the firm.General and unanimous agreements are the two types of shareholders’ agreements.The main contents of the agreement include sections related to the introduction of the parties, definition, business details, board of directors information, shareholders’ undertaking, restrictions, termination clauses, etc.This agreement most often contains the first right to buy (also known as a right of pre-emption) for the current equity holders over the equity shares of those quitting the entity.

Shareholders Agreement Explained

The contract covers everything from shareholders’ undertakings to corporate distributions, shares valuation, and restrictions they must comply with. In addition, it protects the rights of both minority and majority shareholdersMajority ShareholdersA majority shareholder or controlling shareholder is an individual or a corporation that owns the majority of the company’s stock (more than 50%) and therefore enjoys more voting power than other shareholders. These shareholders are in a position to influence the company’s decisions.read more. Having a hold on less number of shares, the minority shareholders do not get the right to participate in the company’s voting process. Signing a shareholders agreement, at least, helps such stockholders to have some influence in the firm.

Though the articles of associationArticles Of AssociationArticles of association is a legally binding document that states the corporate rules, regulations, and purpose. It serves as a user’s guide for executing the organizational tasks, directors’ appointment and recording the financial information.read more safeguard the rights of the minority shareholders, it is up to the majority stockholders if they let the former exercise their right over the organization. When the minority shareholders sign the contract, it refers to such loopholes in the corporate structure and allows them to be part of the company’s minor or major decision-making.

Sometimes, the minority shareholders are unwilling to cooperate with the majority stockholders. As a result, major significant decisions go on hold. This is where the stockholders’ agreement saves them. It protects the rights of the majority holders by introducing clauses that do not allow minority stockholders to do anything that is against the company’s wellbeing.

Types

A shareholders agreement is found to have two forms – general and unanimous.

A general agreement is framed, considering the legal provisions by which the company should abide. It includes the corporate laws per which the companies and shareholders should operate. In short, it is a contract between two or more parties and is subject to the corporate laws governing organizations.

On the other hand, a unanimous shareholders agreement is framed, keeping each shareholder’s interests into account. Hence, every shareholder in the company must sign it. This contract also monitors and governs the acts of the board of directors. It is a document that transfers the directors’ powers to shareholders under common laws.

Shareholder Agreement Format

Like any other document, a shareholders agreement sample starts with a preamble that identifies the parties involved. Once the involved participants are introduced, the content of the agreement is segmented as per the following information:

Definitions

This section specifies the terms used in the contract along with the references and interpretations so that the clauses followed do not lead to confusion later and the parties read and understand the terms, conditions, and other details better.

Business Details

This segment contains all information about the business. From the type, nature, and features to the purpose the company aspires to achieve, each and everything is mentioned in this section. In addition, it also states how businesses should operate and how shareholders would be responsible and accountable for it. Finally, the company-shareholders dealings and relationships are briefly mentioned in this section.

Board Details

The agreement, in this section, elaborates on the role of the board of directors. It also contains details about the board meetings and how the majority must approve the board’s decisions for the same to be active. The frequency of meetings and the directors’ appointment, replacement, and termination procedures are also specified in this segment.

Shareholders’ Undertakings

This part of the document offers details regarding the buy-back options of the shares companies provide to stockholdersStockholdersA stockholder is a person, company, or institution who owns one or more shares of a company. They are the company’s owners, but their liability is limited to the value of their shares.read more if the latter gives up.  It might also mention an irrevocable undertaking of the shareholders to vote for the shareholder resolutionsShareholder ResolutionsThe term “shareholder resolution” refers to proposals submitted by shareholders to the management of a publicly traded company, whereby the outcome of the resolution is determined by voting at the annual general meeting.read more. This segment also assures the shareholders the right to say yes or no to future mergers and acquisitionsMergers And AcquisitionsMergers and acquisitions (M&A) are collaborations between two or more firms. In a merger, two or more companies functioning at the same level combine to create a new business entity. In an acquisition, a larger organization buys a smaller business entity for expansion.read more (M&A).

Restrictions

As the name suggests, this contract portion notes the don’ts for the parties involved. In addition, it also contains limitations to the rights of the companies and shareholders. Thus, if the company or shareholders disobey the points specified in this section, it will violate the agreement.

Termination

This segment of the agreement will have the causes that might lead to the termination of the contract. It also specifies the violation and breach of terms and clauses of it. 

Confidentiality

Like every agreement, this part of the stockholders’ contract will make the parties involved keep the document’s terms, conditions, and clauses confidential. Once the agreement is active, the parties cannot share the contents with any third-party entity at any cost, except for rare situations mentioned within the contract.

Miscellaneous Provisions

Besides the details above, a shareholders agreement template also mentions many other provisions. For example, the contract contains information on all aspects from funding and dividend policyDividend PolicyDividend policy is the policy that the company adopts for paying out the dividends to the company’s shareholders, which includes the percentage of the amount at which the dividend is to be paid out to the stockholders and how frequent the company pays the dividend amount.read more applicable for the organizations, shareholders’ warranties, shares issuedShares IssuedShares Issued refers to the number of shares distributed by a company to its shareholders, who range from the general public and insiders to institutional investors. They are recorded as owner’s equity on the Company’s balance sheet.read more and transferred, and the company’s conduct to deadlock and default.

Example

Let us consider the following shareholders’ agreement example to check how such document begins with:

Based on the requirements, the companies can frame the structure and put in the required information for shareholders to view their rights and obligations. For example, the portions that follow might look like this:

Advantages & Disadvantages

Having a shareholders agreement does resolve the disputes between companies and their shareholders. Still, there are a few cons that participants must be aware of before considering such contracts are flawless.

This article is a guide to what is a Shareholders Agreement. Here we explain its format, its types, pros & cons, and a sample template as an example. We also discuss the advantages and disadvantages. You can learn more about accounting from the following articles –

It is an agreement initiated between an entity’s members or equity holders. Accordingly, it has the power to monitor and regulate the relationship between these members or equity holders, the management scenario prevalent in the entity, and ownership of the equity shares.

Though there is no statutory act to govern the contract, it is completely framed based on the corporate laws and bylaws. It might not be legally binding, but it has a legal base.

No, a shareholders agreement is required once a corporation is created. This contract establishes clarity regarding the connection between the company or corporation and its shareholders, along with the latter’s role in the functioning of the former.

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