Why have a shareholder agreement?

Many limited companies are started by friends or former colleagues who have come up with a great business idea who have a desire to create a successful business.

Whilst trying to focus on making the business a success many overlook the potential problems they are storing up for themselves by not have a formal agreement in place to set out the ground rules for their own ownership/management of the business, buy out provisions for each shareholder or to provide a method for resolving disputes between them.
Often parties start out having common goals and the concepts as to how they will reach them, but over time these goals and views can diverge, which may lead to a break down in the relationship. As such, it is best practice for parties to agree the “divorce” of their common venture whilst they are on good terms.

As such when setting up a limited company with others, one of the many things you should consider is a shareholders agreement.

What is a shareholder agreement?

A shareholders agreement is a legally binding contractual agreement between some or all of the shareholders of a limited liability company to which the company may be a party.

The object of the agreement is to specify the way in which the parties regulate their relationships.
What is normally included in a shareholder agreement?

Some of the main terms that are included in a shareholder agreement are as follows:-

  • Terms dealing with the management of the business, for example:

    • A list of matters which cannot change unless all the shareholders agree.

      It is beneficial to include these provisions in a shareholders agreement as many decisions for a company may be taken by either a majority of the shareholders or 75% of the shareholders. By including provisions which detail decisions which require all of the shareholders’ consent, it awards better protection to a shareholder who may hold a minority shareholding.

    • Appointment of directors.

  • Matters relating to shareholding.

    • Dividend policy

    • Any restriction on transfer/dealing of shares and buy out provisions

      Normally members of private companies wish to keep control over their shares. As such, rather than a shareholder having the ability to transfer their shares to any third party, there will be a process for any shareholder wanting to transfer their shares to be required to give notice to the other members of the company with the first right to buy them.

      Without provisions of this nature shareholders could be faced with a new shareholder with whom they have not previously had any involvement.

      Also, often parties wish to agree the price or the mechanism by which shares are to be valued in the event that a shareholder desires to leave the company and transfer their shares. The reason for this is that it gives certainty to the purchasing party and the selling party.

      Consideration should also be given to the position as to when a shareholder reaches retirement age and how that person may retire in a way that gives the other shareholders a chance of buying the retiring shareholder’s shares.

  • Provisions dealing with deadlock position

    It is advisable to include provisions in a shareholders agreement which deal with the position where shareholders cannot reach an agreement.

    Usually it is common to include a provision that in the event that parties cannot reach an agreement that the company is put into liquidation. This is a drastic step, but often it can also focus parties’ efforts in trying to find a settlement to a dispute.

Articles of Association v Shareholder Agreement

It is possible for many terms of a shareholder agreement to be included in the articles of association for the company.

However, the Articles of Association are a contract between the company and each of its members and as such the Articles of Association can only be enforced by or against the company and not by one shareholder against another.

This can cause difficulties, particularly for shareholders who may have a minority shareholding and do not have sufficient voting rights to procure the company to enforce its Articles of Association against a particular shareholder who is in breach of those Articles of Association.

The advantage of a shareholder agreement is that as it is a contract between the shareholders themselves and it can therefore be enforced by one shareholder against another.

Also a shareholder agreement, as compared to the Articles of Association, is a private document that does not have the be filed with the Isle of Man Companies Registry document and as such its terms are kept confidential between the parties.

There are other differences between the Articles of Association and a shareholder agreement, the main points of which are set out below.

Articles of Association

Shareholder Agreement

Have to be filed at the Isle of Man Companies Registry and are on public recordPrivate agreement between the shareholders and does not have to be filed with the Isle of Man Companies Registry
Can be amended with the agreement of a proportion of the shareholdersWould require all parties to the agreement in order to amend the agreement
Personal rights and restrictive covenants are not validPersonal rights are binding on all parties to the agreement.

Should you wish for any further information regarding shareholder agreements, then please contact one of our commercial team detailed below.

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carly

Carly Stratton

Director, Commercial Team

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Miles Benham

Director, Commercial Team

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This guide provides a brief overview of some of the main aspects of shareholder agreements in the Isle of Man. It should not be taken to be providing legal advice or providing a comprehensive guide to shareholder agreements in the Isle of Man. No person should act in reliance on any statement contained in this guide without first obtaining specific legal advice.