What is a shareholder agreement?
Simply put, a shareholder agreement is a contract that is entered into by the shareholders of a corporation, which establishes the rights and obligations of each shareholder to the corporation, and to each other. A shareholder agreement can, and often does, deal with many different issues. However, there are 3 noteworthy reasons why corporations with more than one shareholder should have a shareholder agreement in place:
1. Protection of Shareholders
A shareholder agreement can provide protection for both majority and minority shareholders. It will often specify the voting and quorum thresholds at both director and shareholder meetings, and can also establish that certain business decisions will require either a supermajority vote or unanimous consent of the shareholders. The provisions and mechanisms of a shareholder agreements can empower minority shareholders to join the majority shareholders in certain share sale situations, but they can also require all minority shareholders to sell their shares in the event that the majority shareholder wants to sell its shares to a third party.
2. Control of Share Transfers
Corporations and shareholders may want to control who they partner or do business with. A shareholder agreement would provide them with the appropriate means to permit or restrict who the shares can be transferred to. Restrictions may include requiring unanimous consent of the existing shareholders before any shareholder is permitted to sell its shares, or requiring that the existing shareholders be provided with the first opportunity to buy the shares of a departing shareholder. Furthermore, shareholders will undoubtedly consult the provisions of their shareholder agreement to determine next steps in the event of unforeseen circumstances such as the death, disability, divorce or bankruptcy of a shareholder. The shareholder agreement will also set out the processes and procedures that are to be followed in order to complete the transfer of shares, including how to value the shares at the time of sale.
3. Dispute Resolution
Shareholder agreements can be extremely helpful in determining how shareholder disputes or impasses are to be dealt with. A shareholder agreement may require that deadlock situations be settled through mediation or arbitration, or through various other mechanisms. Without these dispute resolution provisions, serious disagreements between shareholders may end up proceeding to litigation, which can be very costly and time consuming, and may even result in the dissolution of the corporation.
In sum, it is highly recommended that every corporation with more than one shareholder implement a shareholder agreement, as it is an invaluable instrument that a corporation and its shareholders will inevitably and consistently turn to throughout the lifespan of the business, as the corporate landscape or personal circumstances change, as the business evolves, and as both expected and unexpected events occur. Without the assurances of a shareholder agreement, the corporation and its shareholders risk not having the guidance that is required to effectively manage the affairs of the business, protect shareholders, and resolve disputes.