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Shareholders’ Agreements

  • A shareholders’ agreement is an agreement made between two or more shareholders, independent of the company’s constitution or contracts in which the company is involved.
  • The agreement may contain clauses on the roles and responsibilities of shareholders, how your company will be managed, how disputes are to be resolved, the rules and requirements around new share issues, selling shares, and how to handle a takeover offer.
  • A standard company constitution will not always protect you and your shareholders in the event of a dispute between shareholders and members. Every shareholders’ agreement should be individually tailored because every company is different.

The Role of Shareholders’ Agreements

The specific provisions of each shareholders’ agreement should take into account the number of shareholders, the objectives of the shareholders, the funding arrangements, and the nature of the business or industry in which the company operates.

A company’s internal management will be governed by a combination of:

  • the Corporations Act 2001; and
  • the company’s Constitution, if it has one; and
  • the company’s Shareholders’ Agreement, if it has one.

The Corporations Act

The Corporations Act provides some basic safeguards for shareholders but does not adequately cover rights of shareholders in detail. While the Corporations Act does not require companies to have a Shareholders Agreement, having one can be beneficial for setting ground rules about issues that affect shareholders. The Corporations Act also provides that a set of rules, known as the Replaceable Rules, apply to private companies in certain circumstances. These Replaceable Rules will apply to your company if it was registered before 1 July 1998 but it has repealed its constitution since that day, or it was registered after 1 July 1998.
Key Issues

An agreement may provide that some decisions by the company such as mergers or acquisitions may often require special rules or provisions whereas by contrast day-to-day decisions may be either delegated or be determined by a majority vote. There is no golden rule on how voting or decision-making power should be based on an equity holding or a per partner/director basis. This will need to be agreed upon by a process of discussion and deliberation between the relevant parties within a company. If you are using an incorporated “quasi-partnership” or other incorporated joint venture, you should not rely exclusively on the provisions of the Corporations Act and the company’s Constitution but should enter into a Shareholders’ Agreement to more fully and carefully define your rights and obligations.

Key Clauses

Every shareholders’ agreement is different; however, there are several key clauses every agreement should have.

Directors and the Board

A Shareholders’ Agreement can set out the maximum number of directors and the percentage of shares required to appoint a director. It should also contain a clause on when and how a director can be removed, for example, if they commit an ‘Event of Default’.

Board Meetings

The frequency of board meetings, as well as who can call for a directors meeting, are essential. These meetings should be quarterly and more frequently as agreed. Quorum should also be included, being the minimum number of directors required to be present at a board meeting.

Duties of Directors

Directors’ duties are set out in the Corporations Act and general law. The Agreement can set out the key duties and additional duties, including to:

  1. represent the interests of the shareholders;
  2. avoid conflicts of interest;
  3. discharge all duties with due care and diligence;
  4. not use their position, or information obtained from their position, to gain advantage for themselves; and
  5. not cause detriment to the Company.

Shareholders Meetings

A general meeting is a meeting of the shareholders of the company. A Shareholders’ Agreement should set out what issues the shareholders decide, rather than the directors. E.g: new issues of shares – price and who the shares are issued to, any change of business and any debt over a certain amount.

Deadlocks and Disputes

Where shareholders cannot agree on the management of the company, a deadlock provision resolves this. A Shareholders’ Agreement should set out how to resolve disputes, including how to resolve a deadlock between the directors or the shareholders. This may include a direct meeting and mediation.

New Shares and Dividends

An issue of new shares requires either unanimous approval or majority approval of shareholders. The Shareholders will often require that new shares are first offered to existing shareholders on a pro rata basis.

Regarding dividends, a Shareholders’ Agreement will include how the directors of the Company will determine that a dividend is payable, and they also fix the amount, time and method for payment. The Agreement should state whether dividends declared by the Company will be unfranked, partly franked or fully franked.

Transferring and Selling Shares and Takeover Offers

A Shareholders’ Agreement should outline how a shareholder can sell his or her shares. This will require notice in writing to other shareholders and the option of purchasing the shares pro rata in proportion to their existing shareholding. The method of valuing the shares needs to be set out. For example, set out a valuation formula, or that the company will be valued by an independent accountant.

Frequently Asked Questions about Shareholders Agreements

Q: What is sweat equity?
A: Sweat equity is the time and effort that people contribute to a project, with no financial input from the contributors.

Q: What is vesting?
A: Share vesting occurs when a shareholder acquires full ownership of shares. A share is considered vested when the employee may leave the job, yet maintain ownership of the share with no consequences.

Q: What is drag along?
A: Drag along is where the majority shareholder(s) can require the minority shareholder(s) to sell, so that the bidder can buy the whole company.

Q: What are tag along?
A: The Agreement can include that if there is a takeover offer, and the majority shareholder(s) want to sell, the minority shareholder(s) can ‘tag along’ and sell their shares to the bidder at the same price.

Q: What are preference shares?
A: Preference shares are shared that entitle the shareholder to a fixed dividend, whose payment of the dividend takes priority over that of ordinary share dividends. In the event of a company bankruptcy, preferred stock shareholders have a right to be paid from company assets first.

How can LegalVision help me?

Do you require a Shareholders Agreement? We’ve helped many founders, and it would be our pleasure to assist you. We provide a free initial assessment and fixed prices for your certainty and peace of mind. LegalVision provides businesses and individuals with tailored online legal advice, including drafting and reviewing Shareholders Agreements.

Next Steps

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