Shareholders Agreement (SHA)

Shareholders’ agreement is a contractual arrangement between the shareholders of a company describing how the company should be operated and the defining inter-se shareholders’ rights and obligations. Here are key features of shareholder agreement. Such agreements are specifically drafted to provide specific rights, impose definite restrictions over and above those provided by the Companies Act.

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Overview of Shareholders Agreement (SHA)

What is a Shareholders’ Agreement?

A shareholders’ agreement definition states that it is a contract between the shareholders of a company and the company (to which the company is also usually a party) that defines the rights and responsibilities of the parties to the agreement over and above those provided by company law. The agreements provide for an arrangement that regulates the relationship between the shareholders, the management of the company, ownership of the shares, rights, obligations, and protection of the shareholders. It may also command the way in which the company functions.

Some of the issues covered in the shareholder agreement include dealing with restrictions on transfer of shares (right of first refusal, right of first offer), appointment of nominee directors for representation on boards, quorum requirements, veto or supermajority rights available to certain shareholders and obligations and protection of the shareholders.

Advantages of Shareholders Agreement (SHA)

• Protection of Rights SHA provides protection of rights of the Shareholders.
• Clarity of Role and Responsibilities It clearly defines the different roles and responsibilities of the Shareholders
• Dispute Resolution Minimisation of Disputes through predetermined dispute resolution procedures hereby saving money, time, and energy.
• Protection to Minority Shareholders It takes the role of a shield in protecting the interest of the minority shareholders against potential market risks.
• Segregation of roles between Management and Shareholders It defines and regulates the relationship between the management of the company and its shareholders
• Binding only on Parties It is binding only on the parties to the Agreement, as it is a contractual arrangement between the parties.
• Prohibition of Transfer Prohibits minority shareholders from transferring their shares to competitors or other parties.

Things to Know

Contents of Shareholder's Agreement

• Details of the Parties entering into this Agreement;
• Total authorized and subscribed capital of the Company;
• Shares held by each Shareholder and their percentage of Company ownership;
• Details of the first refusal right by other Shareholders before transferring any Shares;
• "Drag-along rights" and "Tag-along rights";
• Provisions related to the rights and obligations of the Directors/Board;
• Details related to the management of the Company;
• Non-compete clause;
• Non-solicit clause.
• Current Board of Directors
• Reserved Matters
• Termination
• Dispute Resolution

Major Clauses of Shareholder’s Agreement:

1. Management and right to appoint a nominee director: The directors of a company (not the shareholders) manage the company’s day to day business, and, a shareholders agreement, stipulates an automatic right for a shareholder to appoint a nominee director.
2. Information rights: It is important, especially for shareholders who are not also directors, to include in a shareholders agreement an obligation on the company to provide such information about the company as a shareholder may request.
3. Right of First Refusal: It is common to include provisions in a shareholders’ agreement to provide that any exiting shareholder must first offer his/her shares to the other remaining shareholders at a certain price. Under ROFR, the Shareholders are restricted from selling their shares to an unrelated third-party without giving an offer to purchase to other Parties to this Agreement.
4. Drag-Along Rights: This clause gives majority Shareholders who want to dispose their shareholding to an unrelated third-party, a right to force the remaining minority shareholders to dispose their shares on pre-determined terms as well
5. Tag-Along Rights: This clause is used to protect the minority shareholders of the Company. Thus, if majority shareholders want to dispose their stakes in the Company, it gives the minority shareholder the right to join the transaction and dispose their minority stake in the Company as well.
6. Anti-Dilution: This helps the Shareholders of the Company to maintain the value of their stake in the Company in case additional Shares are offered in near future.
7. Confidentiality It is recommended to provide that shareholders who receive confidential information about the company keep such information confidential, and to provide that they cannot use the information for any purpose that may be prejudicial to the company or the other shareholders.
8. Restrictive Covenants: A shareholders’ agreement may include restrictive covenants whereby the shareholders agree not to be interested in any other competing business. Such covenants may apply during the period which a shareholder holds shares in the company and for a period after he/she ceases to hold such shares.
9. Dispute resolution: A shareholders’ agreement should set out the process for the resolution of any disputes between the parties to the shareholder’s agreement. This could be simply that disputes are referred to the courts under the respective jurisdiction. Alternatively, the Parties can also include the Arbitration Clause in this agreement. Under Arbitration, any dispute that arises between the parties will be referred to an Arbitrator appointed mutually by parties to the agreement. The decision of the Arbitrator will be final and binding on the parties to the Agreement.

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FAQ's

What is Shareholder’s Agreement (SHA)?

A shareholders agreement is a legally enforceable agreement that defines the relationship between shareholders and identifies who runs the firm. It determines, how a Company will be operated, how shareholders' interests may be safeguarded, how shareholders can leave the business and so on.

Does the Shareholders Agreement allow shareholders to manage the Company?

The shareholders agreement specifies a shareholder's ability to choose directors. By electing directors to the board, a shareholder can have an active or passive role in the management of the organisation. The shareholders agreement also specifies the board's procedures, including when, how, and who must attend board meetings.

How does segregation of decision making be made between Board of Directors and Shareholders in An Agreement?

The subjects that are reserved for the board and those that require shareholder approval should be specified in the shareholders agreement. Additionally, it will specify the percentage of votes needed to pass a specific resolution. As a general rule, the board should be in charge of running the business, while shareholders should make decisions on issues that are extremely important or vital to the business.

How one becomes a part of Shareholder’s Agreement in case of Issuance of New Shares?

In order to be bound by the shareholders agreement and be included as a shareholder in the company's register, a new party must enter into a "Deed of Accession" with the company and all current shareholders if the firm issues additional shares

The company, the new shareholder, and all current shareholders execute a Deed of Accession in which the new party consents to be bound by the shareholders agreement.

This indicates that there won't be a need to revise the shareholders agreement if the new stakeholder is content to be bound by the provisions of the current shareholders agreement.

Are there any restrictions or limitations in the agreement while selling or transferring the shares to any other person?

Limitations on the sale or transfer of shares

A shareholder may transfer, sell, or assign their shares to third parties only as permitted by the terms and conditions set forth in the shareholders agreement. For instance, a clause might provide that a shareholder can't sell or transfer any of its shares without first receiving written agreement from all other shareholders. By doing this, existing shareholders are prevented from co-owning a corporation with an unidentified third party.

“Pre-emptive” rights clause are also often found in shareholder agreements. These clauses can stop third parties from acquiring shares before the current shareholders have had a chance to do so. This enables shareholders to confirm that the same group of owners still owns and runs the business.

Drag Along and Tag Along Rights

Shareholders agreements often also contain ‘drag along’ options and ‘tag along’ options (as outlined below). While these restrict the sale of shares to third parties, they may be relied upon to attract a higher purchase price for the shareholders.

Drag along options: This clause gives majority Shareholders who want to dispose their shareholding to an unrelated third-party, a right to force the remaining minority shareholders to dispose their shares on pre-determined terms as well.

Tag-Along Rights: This clause is used to protect the minority shareholders of the Company. Thus, if majority shareholders want to dispose their stakes in the Company, it gives the minority shareholder the right to join the transaction and dispose their minority stake in the Company as well.

What is the significance of an exit event in Shareholders Agreement?

Shareholder agreements typically include clauses describing how and when shares may be sold or transferred, as well as how and when the relationship between shareholders may cease. This relationship may occasionally dissolve as a result of an "Exit Event."

The sale of a significant portion of the company's stock or assets, a merger with or acquisition by another business, the company ceasing operations and selling off its assets, and an initial public offering (IPO), in which the company's shares are listed on the stock exchange, are examples of common exit events. The shareholders agreement will often cover the possibility of departure events, the implications for shareholders, and how to calculate the price of shares in the event of a transfer or an IPO.