As a startup founder, you likely hold a majority share in your company. When you issue shares to someone who will be a minority shareholder, there are certain rights that shareholder will want. Depending on the nature and extent of their bargaining power, they may expect more rights than others. You will typically have to negotiate the rights that you are willing to give them. This article will discuss the standard rights that minority shareholders can expect and what they mean for your startup.

Pre-Emptive Rights

Generally, a company’s shareholders will have pre-emptive rights over both shares being issued and transferred. This means shares must be offered to existing shareholders first before being issued to a third party. The existing shareholders can then request a share subscription or to purchase the shares before any third parties.

Generally, the shareholders will be able to subscribe to or purchase the shares pro-rata to their existing shareholding. If other shareholders choose to waive their pre-emptive rights, a shareholder may be able to subscribe to or purchase a greater number of shares than their respective proportion allows.

Pre-emptive rights on an issue of shares are an important right because they protect shareholders from dilution of their shareholding. This is important because shareholders with a certain shareholding percentage have specific rights. For example, the right to appoint a director. In this situation, a minority shareholder can use their pre-emptive rights to stay above that threshold. However, if they choose not to purchase the shares, or waive their pre-emptive rights, their shareholding may be diluted. 

Tag Along Rights

A ‘tag along’ right exclusively protects minority shareholders by allowing those minority shareholders to ‘tag’ along where a majority shareholder, or group of shareholders, is selling their shares. The tag along right will be set at a certain threshold (e.g. 75%). If the owners of 75% or more of the shares are selling their shares to a third party, the minority shareholder(s) can force the majority shareholder(s) to include the minority shareholder’s shares as part of that sale. This way, unless that minority shareholder’s shares are also included in that sale, the majority shareholder cannot sell their shares.

Tag along rights help protect minority shareholders who have joined a company because they want to work with the majority shareholder. Without a tag along right, the majority shareholder could sell their shares to a third party and leave the minority shareholder with a majority shareholder with whom they have not consented to work. A tag along right gives the minority shareholder the option to opt-in or out.

Right to Call a Meeting

Shareholders who hold at least 5% of the company’s shares have the right to request and call a shareholders meeting. The company’s directors must then call and arrange to hold the meeting. The company’s directors have to call this meeting within 21 days of the request. They must also hold the meeting no later than two months after the shareholder gives the company the request. 

This is an important minority shareholder right because it enables the minority shareholders to: 

  • hold the board accountable; and
  • require decisions to be discussed and changes made. 

Critical Business Matters

If a company has a shareholders agreement, it will usually contain a list of ‘critical business matters’. These critical business matters are key decisions which require a number of votes to pass. Usually, critical business matters will be decided by either a special resolution (typically 75%) of the directors or of the shareholders, depending on the nature of the decision. 

This is important for minority shareholders because it prevents one shareholder from making key decisions on their own. For example, say a company has a 60%/20%/20% shareholding structure. The 60% shareholder would be able to pass ordinary resolutions (requiring more than 50% shareholding) on their own. However, for critical business matters, the 60% shareholder would not be able to satisfy the 75% threshold on their own. They would need the agreement of at least one other minority shareholder. By requiring a majority shareholder to include them in decisions, minority shareholders enjoy more power in decision-making.

Right to Appoint a Director

The right to appoint a director is not necessarily a ‘typical’ right for minority shareholders. However, it does arise in certain circumstances, particularly where your minority shareholder is a key investor. For example, a key investor may ask for a right to appoint a director to the board. This usually comes in one of two forms. Either they have:  

  • an entrenched right to appoint a director; or 
  • a right to appoint a director if they hold a certain percentage of the company’s shares. If the minority shareholder then drops below that threshold, they will no longer have the right to appoint a director. 

The shareholders agreement will specify which kind of right the minority shareholder has. 

These rights are important because, in most companies, the directors are responsible for the company’s daily decision-making. Therefore, a minority shareholder who has a right to appoint a director has more control over the company through exercising this right.

Key Takeaways

As a founder, you will likely be issuing shares to investors or other individuals who will become minority shareholders in your company. You will need to maintain control of the company while also remaining fair to the minority shareholders. There are standard rights that most minority shareholders will expect and some rights that will depend on the nature of the shareholder. In such a case, it is up to you to negotiate those rights. A good shareholders agreement can ensure that your minority shareholders all understand their rights in the company. If you have questions about minority shareholder rights, contact LegalVision’s business lawyers on 1300 544 755 or fill out the form on this page. 

About LegalVision: LegalVision is a tech-driven, full-service commercial law firm that uses technology to deliver a faster, better quality and more cost-effective client experience.
Maya Lash

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