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Explanatory Notes
Shareholders Agreement - Three or More Parties
This shareholders agreement is intended for use by the shareholders in a private limited company and sets out the basis upon they will conduct the business of the Company. Although a company's memorandum and articles of association contain rules for conduct of business, a shareholders agreement can be tailored to the particular requirements of the shareholders. It is also a confidential document whereas the memorandum and articles of association are available to the public at the Companies Registry. Please note that in a number of places in the agreement there are words in italics and/or in square brackets. These usually indicate alternative versions. You should select the version you require and then remove the italics and square brackets before preparing the agreement for signature. Also, all blanks should be completed before the agreement is finalised. This document is designed for completion by individuals and the full names and residential address of each shareholder should be inserted. COMMENTS ON SPECIFIC CLAUSES 1. Interpretation This contains a number of defined terms and, in our draft, only the name of the Company needs to be inserted. 2. Business and Name of Company If the Company already exists the words in italics can all be deleted and a brief description of the business to be carried on should be inserted at the end of 2.1. If a new company is to be formed, the words in italics should be incorporated with the proposed name of the Company in clause 2.2. In this connection, it is sensible to make a check on the Companies House registry before deciding on the name since it is not permitted to register a new company if that name exists already. A check can be undertaken online on the Companies House website – www.companieshouse.gov.uk. 3. Name & Capital The initial capital is set out here and Clause 3.1 should be completed setting out the number of shares which each shareholder owns or will subscribe for (i.e. purchase), depending on whether the Company is already in existence or to be formed. In some cases, shareholders might contribute in kind rather than in cash – e.g. by bringing property or equipment into the business in return for the issue of shares. In that case, this clause would need to be restructured. Clauses 3.2 to 3.4 set out the basic principles concerning capital requirements upon which the Shareholders agree to run the Company. Clause 3.2 makes it clear that they intend to contribute any extra capital by way of loans rather than further shares. Clause 3.3 provides that, to the extent that this is achievable, working capital can be funded by way of an overdraft from the Bank rather than out of the shareholders’ pockets. Since a bank is likely to require personal guarantees from the Shareholders, 3.4 specifies that any guarantees which are required will be provided by the shareholders on a pro rata basis – i.e. proportionate to their respective shareholdings.
4. Profits policy As drafted, this clause sets out the intention of the Shareholders to run the business for profit and to distribute as profits by way of dividend. Clearly, adequate reserves have to be made but the underlying objective is to generate profits for the shareholders. In some cases this wording would not be appropriate, for example if the intention is to put all profits back into the Company in order to grow the business. 5. Directors, Chairman and Secretary Depending on the arrangements between the shareholders, all or only some of them may be appointed as directors and this clause identifies the names of the directors and the name of the first chairman, who will be one of those directors. Under U.K. law, a company can have only one director but it is usual to have more than one. There is usually a company secretary (although this is no longer compulsory under the Companies Act 2006) and the name of that individual should be inserted in 5.3. Sometimes a firm of accountants will provide this service. Alternatively, the company secretary may also be a director. Clause 5.4 deals with the question as to whether a director can appoint someone else to attend a board meeting on his behalf. The first line needs to be tailored to whatever is agreed between the shareholders. 6. Meetings This clause sets out the procedure for meetings of the Board, the quorum (i.e. the number of directors who must be present in order for the meeting to take place), frequency of meetings, and the usual place at which board meetings will be held. There are three possible alternatives shown in clause 6.1. Clause 6.4 gives each director one vote at a meeting and deals with the question as to whether, if there is a split vote, the chairman has an extra or casting vote. This may depend upon how the various shareholdings are structured. If, for example, the chairman has the largest shareholding in the Company, but not an outright majority, he may want to have an element of control which a casting vote gives him. Clause 6.5 deals with voting at board meetings. In our draft, unless otherwise agreed, a majority of the directors present at the meeting will have the power to pass the board resolutions. In some cases where there is one major shareholder, that individual may require the Shareholders Agreement to specify that no resolutions of the board or of the shareholders can be passed without his/her vote being included in the majority of those voting in favour of the resolution. Clause 6.6 allows for resolutions to be passed without a meeting and 6.7 requires the minutes to be prepared and circulated for approval. The company secretary will normally keep the minutes and the company secretary may also be a director. 7. Conduct of the business of the Company This clause will need to be tailored depending upon the particular terms agreed between the shareholders. Clause 7.1 establishes where the head office will be and if this is in a building provided by one of the shareholders, appropriate wording should be incorporated. Depending on the situation, it may be sensible to have a formal lease between the company and the shareholder who provides premises from which the company can carry on business. Clause 7.2 contemplates that an individual will be appointed to run the company on a day to day basis. That individual is likely to be a director but not necessarily. Clause 7.3 sets out in general terms the authority of the managing director or general manager. 8. Bank Accounts This clause specifies the name of the Bank at which the company will open an account and the authority of directors to sign cheques etc. 9. Auditors and Accounting Information Not every company needs to have auditors – accountants are required but the role of auditors is more onerous and can be avoided in the case of a small company with a turnover of not more than £5.6 million and a balance sheet total of not more than £2.8 million. If auditors are not to be appointed, alter the references to 'auditors' to 'accountants'. If accountants/auditors have been selected, the name of the appropriate firm should be inserted in 9.1. Clause 9.2 and 9.3 contained a requirement for proper accounting records and, in 9.3, monthly management accounts. Clause 9.4 specifies the Accounting Reference Date – i.e. the date to which the annual accounts will be prepared. This is a statutory requirement and the Accounting Reference Date has to be filed at Companies House. Clause 9.5 makes it clear that shareholders have access to the company's books. 10. Matters requiring the consent of all shareholders This clause affects board meetings as well as meetings of the shareholders and sets out those key decisions which requires the consent of all the shareholders. Alternatively the opening words could make it clear that a special majority – e.g. three out of four shareholders or at least 75% of the votes of shareholders – is required for these matters. The list of items may need to be adjusted depending on the nature of the business. Our list is intended to cover a number of the important decisions which the company is likely to make. Others you might want to consider are – appointing or dismissing staff; commencing litigation; setting up a subsidiary company, etc. 11. Shares This clause is designed to avoid the risk of any Shareholder trying to dispose of his/her shares without the agreement of the others or using the shares as security, for example, to secure a loan which might give lenders certain rights over those shares.
12. Exercise of voting rights In clause 12.1, the Shareholders agree to act in good faith so as to underpin the obligations imposed on all of them under the agreement. Clause 12.2 requires resolutions to be passed by the Company which will give affect to this Agreement. In this connection, it is not uncommon for the Company to be made a party to the Shareholders Agreement but in this case we have avoided that approach. 13. Non competition, Restrictions and Confidentiality Depending on the nature of the business, the Shareholders may wish to protect the Company from one of the Shareholders entering into competition with the Company. There is a direct restriction on this risk in 13.1. Clause 13.2 is a general confidentiality obligation. Clause 13.3 imposes specific restrictions on a departing shareholder. Clauses such as this have to be fairly tightly drawn to be effective and legal advice is strongly recommended here. If you impose too wide a restriction it may be held to be unenforceable by the court. 14. Transfers of shares This clause contains a fairly detailed procedure to deal with the situation where a shareholder wants to leave the company and dispose of his/her shares. The objective is to give all the other shareholders an opportunity to buy the shares of the departing shareholder as well as the right to block that sale. Clause 14.2 requires such a shareholder to give notice to all the others of the intended disposal. Clause 14.3 gives the other shareholders an option to buy the transferring shareholder's shares at a fair value. This is either the price which is agreed between the transferor and the other shareholders or a price which is fixed by the auditors of the Company. Clause 14.3.4 and 14.3.5 deal with some procedural issues including the requirement for a transferor to resign from any directorship or other appointment he/she has with the Company. Clause 14.3.6 deals with the situation where not all the other shareholders want to acquire the shares of the transferor. This allows any one shareholder to block the sale of the transferor's shares. However, if no such blocking notice is served, the shareholders who are willing take up the transferor's shares can proceed in the absence of that shareholder. Clause 14.4 is a technical provision designed to ensure that the procedure goes through even if one of the shareholders fails to sign necessary papers by giving a power of attorney to the other shareholders. For this to be effective – and it could well be challenged- the agreement should be executed as a deed (See the notes at the end on signing a deed). Clause 14.5 deals with the death of a shareholder and gives the others an option to take up the shares of the deceased. The time limit is extended to deal with the arrangements with regard to obtaining a grant of probate etc. Also, clause 14.5.2 gives the personal representatives of the deceased the right to require the surviving shareholders to buy out the deceased's shares. One reason why clause 14, in particular in relation to the death of the shareholder, allows an option for the survivors to buy the shares of the deceased or for the personal representatives of the deceased to require a sale is to do with the inheritance tax rules and tax advice is recommended here. Clause 14.5.3 is optional and could be used if the shareholders take out life policies on each other's lives so as to have funds available to buy the shares of one of them who dies. Advice should be taken on the wording if a shareholder protection policy is arranged. Clause 14.6 is optional and needs careful consideration before being adopted as it could allow for a total stranger to be brought in as a shareholder in certain circumstances. 15. Default This clause allows a shareholder to be expelled if he/she commits material breach of his/her obligations or becomes insolvent. The consequence is to trigger the option provisions of clause 14. 16. Deadlock procedure A "deadlock" clause is not always incorporated in this type of agreement but it can be useful if there is a serious dispute between shareholders as to how the company should be run. It contains a procedure whereby a decision considered to be of major importance to the business by one or more shareholders does not get approved by the board or by the shareholders. The dispute can, if agreed, be referred to mediation but where the deadlock prevents the company from continuing its business, a shareholder can serve a notice on the others either requiring them to sell their shares to him/her or to acquire his/her shares at a fair value and if neither option is accepted, the company has to be wound up. This is a draconian provision and needs to be considered carefully before being incorporated into any agreement. 17. Notices This is a formal clause dealing with notices served by one shareholder on others under the terms of the agreement. 18. Miscellaneous This clause contains a number of "boiler plate" provisions which are useful from a technical legal point of view. Clause 18.2 should be noted: A Shareholders Agreement is personal and no shareholder can assign his interest in the agreement to a third party. 19. Governing Law and Resolution of Disputes English law is stated to apply. As for disputes, there is a three stage dispute resolution process – If a dispute arises, first there should be direct negotiation between the parties in dispute, there is then an option for mediation of the dispute and, finally, the matter is to be referred to the courts. Sometimes in a shareholders agreement, arbitration is preferred because it offers confidentiality. Court proceedings are open to the public whereas arbitration is a private matter. The agreement is to be signed as a deed – and as such all the signatures need to be witnessed. See the accompanying notes about signing documents.
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