Why are shareholder’s agreements so important and why your business needs one
What is it & why is it important?
A shareholders’ agreement is a formal written agreement amongst the co-founders, which can later include new incoming shareholders. The agreement concerns several key issues about running your business and consolidates the shared vision of long-term share ownership by incorporating commitments.
The drafting of a shareholders’ agreement allows to kick off your business with a strong base. The internal relations and control structures in a company are defined, the involvement of the shareholders is increased and all parties perfectly know the rules for the future. This will have a positive impact on your startup credibility and valuation towards investors.
The fact is that entrepreneurs are often so excited about getting the business up and running that in their haste they forget to discuss and formalize important arrangements.
No matter how good relationships may be, even between best friends, trusted colleagues or family members, differences will arise in course of time and if nothing is done to tackle them, the startup will most likely bear the consequences.
Different situations may occur:
- A founder wants to sell his/her share. Can these be sold to anyone? How are these shares valued?
- The company makes profits. Reinvestment or distribution of a percentage to the shareholders?
- A new partner joins the startup. Who can become a manager or a director?
- One of the founders wants to launch another project on its own. Is this possible while participating in our startup?
- A complex discussion or argument arises among the directors or shareholders. How to break a deadlock?
- Decisions, decisions, decisions… Are they all taken with a simple majority? Do some of them have to be submitted to the founders first?
Besides avoiding and resolving conflicts, a shareholders’ agreement thus also attracts investors. It indicates that the startup has a resilient governance model capable of handling difficulties it may face at a later stage. This is one of the many reasons why it is so crucial to pay attention to it from the very beginning and not to put it on the back burner.
What to include?
Each shareholders’ agreement requires a tailor-made approach. However, certain terms are a must and can be further specified according to the individual needs of the startup.
Key elements to include:
- Definition of your business Define the current and future vision & mission
- Shareholders’ structure Present the (initial) owners and their share / contribution
- Transfer of shares agreements e.g. establish an approval clause, tag along, drag along, good leaver, bad leaver, valuation formula
- Decision-making procedures at management level e.g. establish a signature clause, mandatory advice from founders, right of appointment of a director
- Decision-making procedures at shareholder level e.g. define key decisions, special majority requirements, equal or unequal voting rights
- Assignment of (operational) roles and responsibilities e.g. stipulate roles based on areas of expertise (sales, marketing, finance…)
- Conflict resolution Determine the mode of dispute settlement, e.g. through a mediation procedure
- Dividend policy Define how (much) dividends are paid based on e.g. growth targets or fixed percentages
- Non-compete Determine conflicting activities that are prohibited for directors / shareholders to undertake
Even though a shareholders’ agreement is a formal document, it is something personal and specific to a company and its owners. This is usually not the case with the articles of association, which are rarely sufficiently adapted to the concrete situation and are also open to public consultation. A shareholders’ agreement gives you and your co-founders the chance to have honest conversations, so that when the startup grows, there are no more conflicts, either professional or personal. Therefore, a shareholders’ agreement should be tailor-made and drafted in such a way that there is no room for ambiguity.
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By Lien Verhasselt