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Seven reasons to update your shareholders' agreement

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Seven reasons to update your shareholders agreement

If you go into business with someone else, we regularly advise that you should put a Shareholders Agreement in place. There are some really key advantages to doing this - it can help avoid some seriously tricky situations, particularly if business owners fall out or want to go their separate ways.

It’s also a good process to go through to help business owners understand each other’s expectations going forward. One common misconception is that if you fall out with each other or a shareholder does something really bad, you will be able to force the sale of the other persons shares. There is no mechanism to do this without first putting in place an effective clause in a Shareholders’ Agreement or carefully drafted bespoke articles of association.

Once drafted, it is very common for these agreements to be put in a drawer and forgotten about. This may well be fine if your business is not going through any significant changes but it can leave you with a binding agreement which is no longer fit for purpose if you don’t revisit it when the time is right. Most recently, Covid-19 has triggered changing circumstances for many business owners that may need to be reflected in the shareholders' agreement. 

A regular review and update is necessary to reflect business growth and evolution, continuing to protect all parties appropriately.

Seven key points to think about during this process include:

1) Decision making

Covid-19 has demonstrated the need to respond rapidly to a fast-changing environment and the businesses which have succeeded are those that have been able to quickly flex. If the agreement places too many hurdles to making decisions then adjusting the agreement to represent how the business needs to run practically may help prevent disputes or delays which in turn impacts on profitability. If you have recently appointed a new director to the board or shareholder dynamics have changed then it’s likely you will need to update your agreement. 

2) Founder exit

Changes in personal circumstances, a breakdown in working relationships or an external event, may result in a founder wishing to exit the business and trigger the need for an update. If a shareholder wants to step back and achieve a partial exit in favour of a remaining shareholder then it would be advisable to rework the agreement to reflect the new structure.

3) Changes to shareholder rights to income

A shareholders' agreement with greater flexibility may benefit a business’ financial growth. It’s not uncommon for shareholders to agree a fairly rigid dividend policy at start up stage, perhaps as time has passed you would like greater flexibility. 

4) Seeking external investment

A shareholders' agreement may need to allow for raising capital through an equity investment and bringing on board further shareholders. The Shareholders’ Agreement will very likely need to be reworked and depending on the kind of investment, the founders may choose (or be required) to adopt a more investor friendly model. 

5) Resolving disputes

Shareholders' Agreements should offer a practical solution to a dispute or at least a well thought through path to achieving as painless an outcome as possible. The mechanisms for resolving a dispute come in many shapes and sizes and it’s definitely not a one size fits all model.  As your business evolves, it is prudent to ensure that whichever mechanism has been included does the job you need whether it is to act as a deterrent to shareholders to entering into lengthy disputes or a clear guide to dealing with a mediation process.

6) Untimely illness or incapacity

No matter what age the founders of a business are, Covid-19 has thrown into sharp focus just how unpredictable life can be. Ideally, an agreement should include clear guidelines around decision making or what should happen if a shareholder develops a long-term illness or becomes incapacitated for a prolonged period for any reason. 

7) Succession planning 

Business owners should always be looking forward and need their eyes on the future. True succession planning needs to happen long before it is actually required.  As businesses and their owners age, the Shareholders’ Agreement should be reviewed to make sure that it anticipates and, if necessary, facilitates the likely changes required as founders decide to exit or retire. 

If you need further advice on shareholders agreements or you'd like to put one in place, call us now for a friendly chat about your needs.