What is a Shareholders Agreement?
A Shareholders Agreement (SHA) is a legally binding contract among the shareholders of a company that governs their relationship, establishes rights and obligations, and provides mechanisms for decision-making, dispute resolution, and exit. It supplements the company's constitutional documents (MOA/AOA) and often contains more detailed and specific provisions.
Why SHA is Critical
- Protects Minority Rights: Gives minority shareholders a voice in key decisions
- Governs Transfers: Controls who can become a shareholder
- Exit Mechanisms: Defines how shareholders can realize value
- Investor Protection: Contains special rights for investors
- Dispute Resolution: Provides mechanisms to resolve conflicts
- Corporate Governance: Establishes board and management structure
SHA vs MOA/AOA
While the Memorandum and Articles of Association are public documents filed with the Registrar of Companies, the SHA is a private contract. Understanding their interaction is crucial.
| Aspect | SHA | MOA/AOA |
|---|---|---|
| Nature | Private contract between shareholders | Public constitutional documents |
| Binding On | Signatories only | Company and all shareholders |
| Amendment | By agreement of parties | Special resolution (75%) |
| Confidentiality | Private and confidential | Publicly accessible |
| Priority | May be subordinate to AOA | Supreme constitutional document |
Key SHA Clauses
Governance Rights
- • Board appointment rights
- • Observer rights
- • Board meeting quorum
- • Voting arrangements
Economic Rights
- • Dividend policy
- • Liquidation preference
- • Anti-dilution protection
- • Tag-along/drag-along
Transfer Restrictions
- • Lock-in periods
- • Right of first refusal
- • Pre-emption rights
- • Transfer approvals
Exit Provisions
- • IPO put/call options
- • Buy-sell provisions
- • Shotgun clauses
- • Deadlock resolution
Drag-Along Rights Explained
Drag-along rights allow majority shareholders to force minority shareholders to join in the sale of the company. This ensures that a buyer can acquire 100% of the company.
How Drag-Along Works
- Trigger: Majority shareholders (typically 75%+) receive a bona fide offer to sell the company
- Notice: Majority notifies minority of intent to exercise drag-along
- Terms: Minority must sell on same terms and conditions as majority
- Price: Same price per share (pro-rata) for all shareholders
- Timing: Minority must complete sale simultaneously with majority
Protection: Usually subject to minimum price thresholds and bona fide third-party offer requirements.
Tag-Along Rights Explained
Tag-along rights protect minority shareholders by allowing them to "tag along" when majority shareholders sell their stake to a third party.
How Tag-Along Works
- Trigger: Majority shareholder intends to sell shares to third party
- Notice: Seller must notify minority of proposed sale terms
- Option: Minority has right (but not obligation) to participate
- Pro-rata: Can sell proportionate amount of holdings
- Same Terms: Receive identical price and conditions
Pre-emption Rights
Pre-emption rights give existing shareholders the first opportunity to purchase new shares issued by the company or shares being sold by another shareholder.
| Type | Description |
|---|---|
| Right of First Offer (ROFO) | Selling shareholder must first offer to existing shareholders before seeking external buyers |
| Right of First Refusal (ROFR) | Selling shareholder finds buyer; existing shareholders can match the offer |
| Primary Pre-emption | Right to participate in new share issuances (pro-rata basis) |
Anti-Dilution Protection
Anti-dilution provisions protect investors from dilution of their ownership percentage in a "down round" (subsequent financing at a lower valuation).
Full Ratchet
If new shares are issued at a lower price, investor's conversion price is reduced to that lower price. Maximum protection for investor.
Weighted Average
Conversion price adjusted based on weighted average of old and new prices. More balanced approach between founder and investor interests.
Frequently Asked Questions
Is SHA mandatory for a company?
No, but it is highly recommended, especially when there are multiple shareholders or external investors. Many investors require an SHA as a condition for investment.
Can SHA override AOA?
Generally, AOA prevails against the company. However, between shareholders, SHA terms may be enforceable. Best practice is to align SHA with AOA provisions.
What happens if a shareholder breaches SHA?
Remedies may include: specific performance (court order to comply), damages, forced buyback of shares, or loss of special rights.