A Shareholders Agreement is a bit like a prenuptial agreement. They are both entered into in times of love and harmony and relied upon in times of discontent and disharmony. While the analogy may have merit in the context of a relationship breakdown, the reality is that shareholders agreements are equally important in times of harmony, and indeed can sometimes preserve an otherwise rocky business relationship.

A “Shareholders Agreement” is an agreement which sets out the rights and obligations of shareholders of a company. It is distinct from the company’s constitution, the Articles of Incorporation (formerly the Memorandum and Articles of Association under our old Companies Act), which is geared only towards the administration of a company as a legal entity, and is therefore insufficient to govern or control the business activities of the company.

The need for a Shareholders Agreement tends to arise in the following three situations- (a) as part of the process of establishing a business to be operated through a company, (b) the acquisition of an interest in a business operating through a company, and/or (c) the admission of another party, including an investor, into a business operated by a company. It does not arise in the context of an investor acquiring shares via a public stock exchange for investment purposes, where the necessary shareholder protections are considered to exist by virtue of the company being accepted for listing. In the three situations noted above, there is a clear need for the parties to execute a Shareholder Agreement, which will govern and control the future activities of the company.

Typically, a Shareholder Agreement will address some or all of the following issues: dividend payment policy, management and control of the company, allocation of key roles and responsibility between the shareholders, nature and amount of initial financial contributions to the company, a procedure for dealing with the breakdown of the relationship between the shareholders, and the circumstances in which shareholders can exit the company.

Specifically, the shareholders may agree on, among other things:

(a) The types of decisions which require unanimous board and/or unanimous shareholder approval;

(b) Whether shareholders are allowed to pledge their shares (thereby creating the possibility that an unknown third party could become a shareholder);

(c) The process if the company needs to raise money – whether the rights of shareholders can be diluted without their approval;

(d) How disputes among shareholders are resolved;

(e) What happens if a third party is interested in acquiring some or all of the company – whether existing shareholders can be forced to sell if others are interested in selling — whether minority shareholders can require a third party to buy them out if it is takes control?;

(f) What happens in the event of death/incapacity, for example, whether a “beneficiary” can become entitled to participate in the business by inheriting shares or whether death should force a buyout by the other shareholders;

(g) The obligations and commitment of the shareholder, including whether they are allowed to own interests in competing businesses;

(h) Compensation issues — remuneration of officers & directors;

(i) Whether any other agreements are required, for example, management contracts, confidentiality agreements, intellectual property rights, etc;

(j) What could trigger a dissolution of the business;

(k) Who are the company’s professional advisors (legal, audit, etc); and

(l) Whether there are any financial obligations by shareholders (bank guarantees, shareholder loans, etc).

While the need to consider some of these issues may seem obvious, they are frequently overlooked, whether in the exuberance to get down to business or for fear of appearing distrustful. Even where parties are sensible enough to address the future, negotiations on matters such as compensation packages tend to receive the most attention, often to the detriment of fundamental issues such as decision making or how to handle deadlock.

Consideration should always be given to having a shareholders’ agreement in the case of any company where there is more than one shareholder. This is especially so where the shareholders are family members and the potential for disagreement can sometimes be greater. The purpose of the agreement is not only to ensure that decisions are taken by consensus and discussion. It is also to provide a mechanism to guide the parties when particular situations arise which they had not foreseen, or in relation to which they hold divergent views. Unlike prenuptial agreements, there is no restriction on the number of shareholders agreements to which a person may be party, and for the serial investor, the more is probably the merrier.

Bruce Levy is a Partner at Myers, Fletcher & Gordon and is a member of the firm’s Commercial Department. Bruce may be contacted via bruce.levy@mfg.com.jm or www.myersfletcher.com. This article is for general information purposes only and does not constitute legal advice.