HOW TO DRAFT A SHAREHOLDERS’ AGREEMENT

HOW TO DRAFT A SHAREHOLDERS’ AGREEMENT

The preservation of compatibility and harmony between two parties working together is as crucial as any legal procedure. It has a far-reaching effect on the efficiency of the members and thus should be given utmost attention. In order to maintain the effectiveness and efficiency of the company, a shareholders’ agreement should be drafted by an expert with proper guidelines mentioned in it. A shareholders’ agreement is an agreement signed between the shareholders of a company. It specifies safety and protection rights for the members along with their duties and obligations. The main aim of these agreements is to provide transparency regarding the format in which the company should be operated. In practical effect, it is often compared to a partnership agreement, however, the relationship of the shareholders unlike the partners is regulated by certain documents of the company. Although it is not a legal requirement, the drafting of a shareholders’ agreement is a key factor that is considered before the company is incorporated. Certain important provisions that should be added while drafting these agreements are mentioned below.

a. CONSIDERATION FOR ALL SHAREHOLDERS: Before any technical provision is considered, protection for all shareholders should be highlighted as a key factor in any agreement. Whether the shareholders have less than 50% stakes or more than 50% stakes, importance should be given to both of them equally while drafting the agreement. A dispute among the minority shareholders will equally tamper the image of the company as that of the majority shareholders, hence suggestions for the dispute resolution provision should be taken from all the shareholders even if they do not have any say in the operations of the company.

b. ESTABLISHING A LEGAL COMPANY: In order to form a legal company, the agreement needs to be signed by all the parties involved. If the company comprises a number of shareholders who are unable to sign the agreement, a separate agreement should be drafted for them along with the same regulations. It should be descriptive about the designations the company has to offer, and their functions accompanying it. The Board of Directors and the officers should be mentioned before the agreement is read and signed by other members. They should follow a prescribed set of procedural rules to avoid any disagreement in the future.

c. DESCRIBING SHARES DISTRIBUTION: The rules and procedures regarding transfer, re-sale or purchase of shares should be mentioned in the shareholders’ agreement. Describing the circumstances in which shares can be purchased or transferred provides flexibility to any startup company. These provisions also provide support to minority shareholders as they have the permission to purchase shares of majority shareholders in case they get incapacitated or insolvent. A very essential point that should be mentioned in this section is that the purchaser or transferee should agree upon the fact that they will be bound by this shareholders’ agreement once the process of purchase or transfer is complete.

d. RIGHTS AND DUTIES: The rights and duties of shareholders should be mentioned in the agreement clearly. A detailed description regarding dispute resolution along with the commitments of the shareholders should be provided. The most important duty of the shareholders is to elect the Board of Directors as they ensure the long-term sustainability of the company and establish goals that are to be achieved. The shareholders have an array of rights along with certain duties that ensures smooth functioning of the company. These rights include:

• Right to vote/elect the Board of Directors

• Right to transfer/sell/purchase their shares

• Right to attend meetings

• Right to access financial records

e. NON-COMPETE CLAUSE: A non-compete clause in a shareholders’ agreement is mandatory to avoid exploitation. It prevents the shareholders from engaging into business with two companies contemporarily. The competition companies face these days makes this clause important, however, they exist for an unreasonably long amount of time even after the shareholder has resigned. This makes fighting such issues easier for the employees or the shareholders as competition cannot be avoided for a long time. However, if a non-compete clause is drafted carefully, it can provide the employer with suitable damages for the losses suffered by him in some situations.

f. TERMINATION & EXIT RIGHTS: Exit rights are often incorporated in a shareholders’ agreement to allow a smooth disposal of shares. If the rights of the shareholders regarding transfer or sale of their shares is rigid, it can cause difficulties at the time of exit. Hence it is always better to mention such rights and clauses beforehand. Furthermore, it provides a sense of protection to minority shareholders as they lack resources and access to a great profitable market for selling their shares before they exit the company.

A shareholders’ agreement is considered to be quite more complex than the usual contracts or agreements. It basically acts as a book of guidelines for the operations of the company to be handled smoothly. A shareholders’ agreement should always be carved as the company demands and should involve all the necessary clauses as per the structure of the company. While the complexity of the SHA is notable, it often provides a wide scope of knowledge based on its concepts.

To know more about, what is shareholder's agreement, see the video below-

BY:-

Ridhika Kapoor