Shareholders’ agreements: the four clauses worth negotiating properly

Where the agreement sits

A shareholders’ agreement is a private contract. It binds the shareholders who sign it, and the company if it is made a party. The articles of association bind the company and every member, including those who join later. The Companies and Allied Matters Act 2020 does not say which prevails when the two conflict.

The Act also supplies some terms of its own. Section 22(2) allows a private company’s articles to require a member selling to an outsider to offer the shares to existing members first, and to require a buyer of more than half the shares to offer the same terms to every member. Section 142 requires a private company to offer new shares to its existing shareholders before anyone else. Practitioners differ on whether the section 22(2) protections apply by default, so a well-drafted agreement says expressly whether they do.

The four clauses

Each of these is cheap to settle at term sheet stage and expensive to settle in a dispute.

1. 01Deadlock. Founders want to keep running the business; investors want a way out of a stalemate. The usual answer is a narrow definition of deadlock (a reserved matter blocked at two properly convened meetings), a fixed escalation timetable through the chairs and then mediation, and only then a buy-sell mechanism or a sale of the company.
2. 02Transfer restrictions. Investors want founders locked in while keeping their own freedom to move shares within their fund group; founders want the reverse. It is usually settled with a founder lock-in for a defined period, permitted transfers to affiliates and family vehicles, a right of first offer on other sales, and a tag-along on any sale of control.
3. 03Reserved matters. Investors want consent rights over decisions that change their risk; founders need to run the company day to day. The workable list is short: changes to share capital, new share issues, a change of business, borrowing above a set limit, related-party dealings and disposals of major assets. Operational decisions stay with the board, and silence after a set number of days counts as consent.
4. 04Exit. Investors need liquidity within the life of their fund; founders want a say over timing and price. The common settlement is a drag-along above an agreed holding with a minimum price, a tag-along for minority holders, put options only on defined failures, and a valuation method agreed in advance.

A shareholders’ agreement earns its keep on the day the shareholders stop agreeing.

What does not

A shareholders’ agreement does not bind the company’s future shareholders, and where it conflicts with the articles, the company will generally act on its articles. A shareholder who breaches the agreement can be sued on it, but that is a slower and narrower remedy than a provision the company itself must follow.

Nor will a court break a commercial deadlock on its merits. Relief for unfairly prejudicial conduct, or a winding-up order in the last resort, is available, but neither is designed to settle a disagreement about strategy, and both take time the business may not have.

What founders and investors can do

Settle the four clauses in the term sheet, before the long-form agreement is drafted. Then copy the provisions that must bind the company into its articles, adopt them by special resolution, and file them at the Corporate Affairs Commission.

Before signing, test each clause against a plain scenario: an investor who wants out in year four, a founder who leaves in year two, a buyer who offers for 60% of the shares. If the agreement does not answer each one in a sentence, it needs another draft.

At Firmpoint we advise, guide and act on behalf of clients at every step, from the term sheet to the filings at the Corporate Affairs Commission and any dispute that follows.

• The agreement binds only those who sign it; anything that must bind the company or later shareholders belongs in the articles as well.
• Agree deadlock, transfers, reserved matters and exit at term sheet stage, with a valuation method for any buy-out.
• Avoid a reserved-matters list so long that the business cannot be run without the investor’s signature.