Shareholders’ agreement – why have one?

A large proportion of New Zealand businesses are operated through companies that are small and closely held.  A shareholders’ agreement is often overlooked because legally a company constitution is all that is required. However, a shareholders’ agreement can prove invaluable down the track.

It is common that many small companies are owned and operated by families, with no involvement by ‘third parties’. As these companies are family-owned and operated, there tend to be few issues that cannot be resolved through family discussion.

However, from our experience some of the most bitter disputes can be in family close ownerships, and a shareholders’ agreement would certainly have been a huge benefit in resolving difficulties.

In companies that are owned and operated by persons who are unrelated to each other, disputes or other issues may arise where there is no ‘family relationship’ to fall back on to reach a resolution. For companies like this, it is imperative that there is a mechanism established from the outset to overcome any hurdles that may arise.

What is a Shareholders’ Agreement?

A shareholders’ agreement is a legally binding agreement between the shareholders of a company, which sets out rules or procedures relating to that company. These rules and procedures can span a wide range of matters and situations. Unlike a company’s constitution, which is publicly accessible, a shareholders’ agreement is confidential between the shareholders of the company. Therefore, it is often preferable for some matters to be dealt with in a shareholders’ agreement rather than the constitution. To ensure that the shareholders’ agreement takes precedence over the constitution, it is usual to state in the constitution that where there are conflicts between the constitution and the shareholders’ agreement, the shareholders’ agreement will prevail.

What Does a Shareholders’ Agreement Typically Cover?

While there is no prescribed format or list of inclusions for a shareholders’ agreement, there are a number of matters that would usually be included, for example:

  • Management and control of the company, including the right to appoint and remove directors
  • The right to vote and the matters that require unanimous or majority decisions the process for entry and exit of shareholders
  • Dividend policy
  • Capital and funding structure
  • Dispute resolution.

Disputes and Deadlocks

Apart from establishing the processes and mechanisms for managing and operating the company, two very important reasons for having a shareholders’ agreement are to:

  • Provide resolution when there are shareholder disputes. While shareholders might hope to always be able to reach an agreement with each other, unfortunately shareholders’ disputes are all too common. If there is no shareholders’ agreement the process of resolving such disputes can be messy, expensive and extremely distracting from the day-to-day operations of the company.
  • Provide a process to resolve deadlocks. Deadlocks occur when shareholders holding equal voting rights are unable to agree. A ‘deadlock provision’ will set out a mechanism by which deadlocks can be resolved and enable the company to move forward.

To adopt a shareholders’ agreement the first point of contact should be a professional advisor, who can help you to determine what needs to be included in the agreement. While there is an initial expense upfront in professional fees, the avoidance of pain later is worth the investment if things don’t quite go to plan.

Published Summer 2010.

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