Commercial Law – Understanding Shareholders Agreements

A company’s Constitution and Shareholders Agreement are critical elements in commercial law. They communicate and document the company purpose, shareholder remuneration and other critical agreements.

What is a company Constitution?

A company’s Constitution governs the way in which a company is run and can provide for different classes of shareholding and participation in the company business.

The Companies Act 1993 has default provisions that apply when no Constitution has been registered when the company is formed.  This is commonly used for small family companies without alteration but where there are multiple shareholders having different levels of involvement and investment, a Constitution should be agreed upon and registered.

What is a Shareholders Agreement?

In addition to a Constitution, a Shareholders  Agreement can be used to plan and prescribe the development and future of the company and fine tune the legal arrangements between shareholders for a particular situation.  For example, the agreements can record arrangements that have been put in place prior to the company’s incorporation including existing contractual obligations and record the Shareholders intentions for the purpose of the company and its activities.  The Shareholders  Agreement will include provisions for management and remuneration where shareholders participate in the company’s activities.  Although the Agreement is private and not registered at the Companies Office, it is binding between the shareholders and unlike the Constitution cannot be changed by a special resolution (75%) of shareholders.

What should a Shareholders Agreement outline?

The Agreement should provide for the provision of capital to the business and how the directors are appointed.  The funding of the company’s activities may be by capital contributions or by way of shareholder loans.  The structuring of these loans will affect how any bank borrowing is approved and may require the giving of personal guarantees by major shareholders.  If the shareholder contributions to funding are unequal, this can be recognized in the Shareholders  Agreement and provision made for interest payments.  The shareholders may also agree to restrict the company from paying dividends or drawings to directors where the company’s liquidity could be adversely affected.

The Shareholders Agreement will reflect the philosophy and agreements between the shareholders and provide that they should be loyal to the company and not compete with the company business.  The Agreement should also include provisions to facilitate an exit strategy.  Depending on the age differences and levels of investment, there are many options to consider and your legal advisors can provide assistance with suggestions for succession planning and inter-generational transfers of shares.

A Shareholders  Agreement should identify how disagreements and deadlocks can be resolved, whether through good faith bargaining, mediation or arbitration.

If your company does not have a Shareholders Agreement and you need to implement some of the strategies and suggestions in this article, please contact one of our commercial lawyers.