Do I need a Shareholder Agreement?
The Corporations Act, under section 134, requires all proprietary companies be provided a constitution upon incorporation. The constitution sets out the company’s objectives, as well as the scope of the company’s activities and certain internal administrative matters. The guidelines for the terms of a company constitution can be found at Australian Securities & Investment Commission’s Website
It’s easy to assume, then, that a constitution will enshrine the rights and obligations of shareholders. In reality however, it does very little. This can make shareholder disputes very difficult to navigate through, considering that only an estimated 5% of Australian proprietary companies have shareholder agreements.
Without a shareholders agreement outlining the appropriate mediation and dispute resolution steps, the business that you started may turn into an inoperable nightmare, when business reality and clashing of personalities sets in.
Why not just a Company Constitution?
A Company Constitution is limited in scope. Of course, you can choose to have a very expansive constitution that details all the internal management policies and shareholder dispute resolution procedures. The risk though, is that these provisions can usually be modified or removed by special resolution, where in accordance with section 111J of the Corporations Act only a minimum 75% of shareholder approval is needed. This means the minority shareholders are left particularly vulnerable.In comparison, a shareholders agreement needs the consent of all the owners. This means that, unless otherwise specified in the shareholders’ agreement itself, all existing shareholders must consent to any change or alteration of their obligations and rights.
Why have a Shareholder Agreement
Shareholders Agreements offer several benefits to shareholders, notably:
- they override constitutions, to the extent of any inconsistency, a proposition upheld in the case of Cane v Jones. This provides you with more power and control, which is necessary as you are an owner of the company;
- the guarantee, if you choose, of a resolution process outside the court system, a benefit identified by leading academic P.D. Finn;
- if you are a minority shareholder, a shareholders agreement protects your interest from being subverted by general or special resolutions. This purpose finds support in the leading case regarding shareholder agreements, Re A & BC Chewing Gum.
How would a Shareholder Agreement affect me
Shareholder agreements can help you whether you are a minority or majority shareholder. The agreement can outline clearly your rights and obligations, as the following few examples demonstrate.
Deadlock breaker
Provisions in the agreement can detail how deadlocked disputes between shareholders are to be dealt with. These are usually referred to mandatory mediation and then mandatory arbitration, so as to avoid a costly and draining court battle: Associated Products & Distribution Pty Ltd v Sunkist Holdings Ltd. Furthermore, the shareholder agreement may also stipulate that parties to the dispute must accept the outcome of the arbitration proceeding. Such a provision would also operate to avoid the court ordered wind up of the company under section 461(1)(k) of the Corporations Act, where a deadlock between disputing shareholders has caused the company to be unable to function in its current configuration.
Restraint of Trade
Provisions restraining other shareholders or directors from being actively involved in other businesses in the same industry as your company can be inserted into the shareholders agreement, if it is reasonably necessary for the protection of the company: Heron v Port Huon Fruitgrowers’ Co-operative Association Ltd. These provisions may also be implemented to operate for a set period of time, during or even after the particular shareholder or director has left the company, so as to prevent certain shareholders or directors from simply jumping boat and joining your rivals.
Minority Protection
As previously mentioned, a shareholder agreement provides a minority shareholder with better protection than a company constitution can. The shareholders agreement can set out the appropriate steps necessary to be undertaken to remove a shareholder from being involved in the management decisions of the company, or outline the circumstances in which a shareholder may transfer his/her shares: Remrose Pty Ltd v Allsilver Holdings Pty Ltd. This can be highly beneficial for you as either majority or minority shareholders, as it would tell exactly what you would need to do to protect your respective interest.
How to obtain a Shareholder Agreement
The nature of the shareholder agreement is that it is considered a private contractual document made between all the shareholders. As it is an agreement between all the shareholders, everyone must consent to it. This makes a shareholders agreement easier to obtain when the company is first incorporated. As an added benefit, it can allow issues to be addressed before they even arise.
This doesn’t mean a shareholders agreement can’t be constructed after the fact, if all existing shareholders consent. When a shareholder agreement is written and signed, it can only then be superseded or modified at the consent of all the shareholders, unless otherwise stipulated in the original shareholder agreement document itself.
PDF Disclaimer: The above information provided by Inveiss Legal Pty Ltd is intended only as a guide. The impact of laws can vary widely based on the specific facts of each case. Further, given the changing nature of laws and the inherent speed of electronic communication, there may be inaccuracies in the above information. As such, this information is provided on the understanding that Inveiss Legal Pty Ltd is not rendering any legal advice or services. The information contained herein is not a substitute for qualified, independent legal advice and the same should be sort prior to engaging in any activity relating to the above subject-matter.
Although we have made every effort to ensure the information has been obtained from reliable sources, Inveiss Legal Pty Ltd is not responsible for any errors or omissions. In no event will Inveiss Legal Pty Ltd, or its directors, agents or employees, be liable for any decision made, or withheld, in reliance of the information contained herein.
