Every incorporated business that has more than one owner should have a shareholder agreement.
You work hard for your business, and a shareholder agreement will go a long way to protecting both your business assets and your piece of mind.
Nature of the Shareholder Agreement
A corporation is owned by its shareholders and managed by its board of directors. Strictly speaking, shareholders are passive insofar as they merely elect the board of directors which then actively manages the business affairs of the company. Shareholders do not themselves engage in any active management activities and have no further inherent rights to control how the business is operated. However, in many closely-held companies the shareholders and directors are the same people. In those situations a shareholder agreement determines the rights and responsibilities the shareholders/directors will have as between themselves and the corporation. Its central purpose is to provide systems for preventing and solving problems that may arise in the course of business. In that way the shareholder agreement is an indispensable tool for closely-held companies with more than one owner.
Advantages of a Shareholder Agreement
There are a number of advantages to having a shareholder agreement. Those advantages can include:
- Corporate principals turn their minds to important matters that might otherwise be overlooked. Such matters include:
- (a) How key business decisions will be made;
- (b) Whether the company will hold life insurance policies on the lives of the shareholders to afford repurchase of shares from the shareholder’s estate in the event of a shareholder’s death;
- (c) Specific duties to be assigned to each shareholder, and whether they will be employees of the company;
- (d) Whether shareholder loans to the company will be interest bearing; and
- (e) Whether there should be ‘clawback’ powers permitting the company to re-acquire shares on certain events (such as the incapacity of a shareholder or the existence of a family dispute that could otherwise take control of the share);
- Certainty of conduct: the means for operating the company are clearly established, minimizing the opportunity for future misunderstandings;
- Binding dispute resolution systems: these can include access to courts, mandatory arbitration which could save time and money in some circumstances, or mechanisms for decision making where there is deadlock; and
- Protection of ownership interest and control of the company: the shareholder agreement will usually provide restrictions on transfers of shares, which prevents an ownership interest from ever being transferred to an undesirable third-party.
The unfortunate reality is that there are more businesses that suffer messy shareholder breakups than there are businesses that enjoy long successful relationships among their principals. In either case, a shareholder agreement will save time and money by providing key dispute resolution mechanisms and management conduct guidelines.