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Shareholders Agreement An Ounce Of Preparation Can Afford a Pound Of Protection.

What is a Shareholders Agreement?

A shareholders agreement is a legal document between the owners (shareholders) of a company that is typically prepared when forming a new business, protecting the individual investments of the shareholders of a company and outlining how that company is to be managed. A Shareholders Agreement is the agreements, requirements and restrictions between those owners.

A shareholders’ agreement is the best way to reduce business disputes between owners. It clarifies how decisions will be made and provides a framework for dispute resolution, which is especially important when it comes to handling and making decisions that may affect the success and ultimately the value of the company.

A shareholders’ agreement is a vital contract between a corporation and its shareholders that outlines what activities each entity may or may not do. It establishes the rights of the shareholders and the extent of the duties and powers of the board of directors and management.

Moreover, a shareholders’ agreement also stipulates how a company’s procedural tasks will be run, ensuring smooth business operations. For example, this may include:

  • who and how board meetings are called
  • quorum thresholds
  • when to submit budgets
  • how shareholders should approach business opportunities
  • what the restrictions are in selling shares
  • what action should be taken if the company needs further funding

From dispute mechanisms to exit strategies through to wider matters of corporate governance, we advise on shareholders agreements depending on the specific obligations relevant to each individual situation. Since each company is different, each Shareholders Agreement should be custom-tailored to meet the specific agreements and needs of the owners involved.

The best performing companies do not stand still and we appreciate that maximizing operations can require change. We advise on a range of strategic decisions including implementing capital reductions to increase shareholder value and intragroup reorganization to structure a company more efficiently.

Do You Need a Shareholders Agreement?

While there is no legal requirement in Ontario or Canada for the shareholders of a company to enter into a shareholders agreement, it is generally a good idea to have a shareholders agreement wherever you have a company with more than one shareholder.

 

Shareholders agreements help ensure that the owners of the business are clear on issues of control, decision making, voting rights, exits and buyouts, and death or divorce. Having a shareholders’ agreement ensures that the owners of the business can focus their efforts on what’s most important, running a successful business, instead of spending their precious time and effort on resolving business disputes.

What Are The Benefits of a Shareholders Agreement?

Below is a list of some of the most common benefits that our clients’ usually experience when forming a Shareholders Agreement:

 

  1. Safeguard Shareholders’ Investment. Shareholders’ agreements protect every shareholder’s investments and ensure the rights and protections applicable to each shareholder. They prevent situations where changes in a single shareholder’s circumstances may affect the company. For example, in the event of a death, the agreement will ensure the financial interest of the company and that of the shareholder’s family is upheld or if a shareholder walks away from a company, a non-competitive clause ensures they don’t poach clients.

     

  2. Protect Your Company. As a new company, you might want your initial shareholders to retain shares rather than allowing external investors to buy the majority. In this case, a shareholders’ agreement can help restrict who may and may not acquire shares, as well as what percentage they are entitled to.

     

  3. Protect the little guys. A shareholders’ agreement also protects the rights of minority shareholders and their investment value. It guarantees the majority of shareholders can’t muscle the minority into making certain decisions that go against their interests. In most cases, “voting pool” agreements allow minority shareholders to agree with one another on ”block voting” whereby they pool their shares and vote collectively to strengthen their position.

     

  4. Helps with Growth. A shareholders’ agreement also stipulates how the company will access funds and whether or not shareholders should contribute towards raising capital. Lastly, having a shareholders’ agreement places a company in good stead as it demonstrates the stability of a business to banks and creditors whom you may need to approach for financing.

     

  5. Clarify Other Shareholders’ Intentions. One of the benefits of negotiating a shareholders’ agreement is that in the process of doing so, the shareholders may gain a better understanding of the aims and direction of other shareholders and the business as a whole. Some may be looking out for the greater good of the business while others are revealed to be a little more selfish. The process of forming a Shareholders Agreement forces each Shareholder to have tough conversations that you regularly wouldn’t have unless you were in a business dispute.

     

  6. Prevent Easily Avoidable Disputes. Going through this process ensures that every shareholder is on the same page and that easily avoidable disputes can be handled upfront in an efficient and timely manner.

How Can a Business Lawyer Help With My Shareholders Agreement?

While each client has its own unique circumstances, below is a list of the of the services that we provide when we assist our client’s with forming a Shareholders Agreement:

  • Strategic advice on the best way to facilitate Director/Shareholder decision making, voting and appointment.
  • Creation of custom solutions and internal processes ensure that you never end up in a deadlock.
  • Initial strategy to provide you with legal advice, address questions or concerns, and ensure you’re setting up your structure for success.
  • Draft of a custom Shareholders Agreement for your business based on your unique circumstances.
  • Series of detailed Review Meetings where your business lawyer will walk you through the agreement in great detail, so that you’ll know how it works clause-by-clause just as well as your business lawyer does.
  • Revisions and further customizations to ensure you are getting exactly what you needed.
  • All necessary supporting documents including Subscription Agreements, Joinder Agreements and Resolutions.
  • Facilitation of electronic signature of your Shareholders Agreement.
  • Negotiation of terms on behalf of a specific shareholder, founder or investor.
  • Custom share classes to create more flexibility between shareholders and potential investors.
  • Custom Subscription Agreements based on custom share classes – to ensure you can hold each shareholder to their word.

Contact Us to Discuss Your Shareholders Agreement

A well-drafted shareholders agreement is customized to each individual business and its unique goals. Keen investment in the day-to-day helps us to develop extensive knowledge of our clients’ businesses, inside and out. 

Whatever their next steps, we are ready to take them together. Our ongoing corporate support to both directors and shareholders, and their group companies draws on expert advice from practice areas across the firm resulting in a consistent multi-disciplinary approach. 

Contact us by clicking here or give a call at (416) 580-0345 and we would be happy to assist you.

Frequently Asked Questions

Are Shareholders’ Agreements required?

No, there is no obligation under Canadian law for companies to enter into Shareholders’ Agreements,
but most do as it safeguards the future of their businesses. When companies grow, their day-to-day and financial operations become more complex and unforeseen issues may arise, which is why a good Shareholders’ Agreement is valuable to set in place from the start.

It’s all too easy for a company’s financial success to be hindered by death, divorce, disability,
disputes and divestiture – all of which a shareholders’ agreement can prevent from happening. That’s why if you have two or more shareholders in your company, it’s almost always a good idea to have a
solid Shareholders Agreement to protect each shareholders.

If I am the sole director or sole shareholder of my company, do I need a Shareholders Agreement?

No. If you are the sole owner of a company, you do not need a Shareholders Agreement.

However, if you plan on later issuing shares to another individual or corporation, for example, an investor in your company, then you should consider preparing a Shareholders Agreement before the other owners get involved in your company.

If you wait until after another owner get involved your company, you will need this new owner to agree to enter into a Shareholders Agreement.

To avoid getting stuck, it is usually best practice to require that an investor sign a Shareholders Agreement BEFORE they receive shares in your company.

My company has two shareholders and we're been operating just fine for the past few years. Should I still get a Shareholders Agreement?

The short answer is yes.

When business is doing great, then everything’s great – and you’re not worrying about what will happen when things go wrong.

However, when something in your business goes terribly wrong, then your partner who was previously your friend may become your enemy.

We’ve seen this time and time again, and we would hate to see you go through this as well.

Without a Shareholders Agreement, two partners in a business are stuck. Unless you both agree to a path of action, you can’t force the other partner to exit, to sell their shares or to do anything else.

Shareholders Agreements are powerful because they are highly customizable. This way, you can agree in advance how you are going to handle certain situations before they arise, and without having to ‘throw the baby out with the bath water’, as they say.

What happens if I don't have a Shareholders Agreement?

Without a Shareholders Agreement, the relationship between shareholders in a company will be governed by the default rules in Corporate Law, the company’s articles of incorporation and the company’s by-laws.

While Corporate Law is helpful to some degree, there are many situations that Corporate Law does not address because it is meant to simply provide a last ditch safety net.

Also, when you default to Corporate Law, you are choosing to default to using court as a remedy – this means expensive lawyers, long drawn out lawsuits, a lot of money being spent and a lot of time being wasted.

Lastly, keep in mind that you cannot force an Owner or Shareholders out of your company! Once a Shareholder has shares, and unless a Shareholders Agreement says otherwise, they are a Shareholder for life.

All of these negative consequences can be avoided with a Shareholders Agreement.

If I have a Shareholders Agreement, will I need to change it in the future?

Shareholders Agreements are the equivalent of having a will for your business – when your business changes, so too should your Shareholders Agreement.

If you do not regularly update your Shareholders Agreement, then you could have processes, requirements and procedures in your Shareholders Agreement that don’t adequately address the current state of your business’ affairs.

The good news is that updating a Shareholders Agreement is easier and cheaper then preparing one from scratch. This is because most of the ground work has already been done.

Some good examples of when you should consider updating your Shareholders Agreement are:

  1. Changes in company ownership (increase or decrease in the number of owners).
  2. Changes in ownership percentage. This could cause one Shareholder to have unbridled control over the company and its decisions.
  3. Changes in profits that the owners want to pull out of the company.
  4. Changes in responsibility between the Owners.
  5. If certain rules or expectations are not being adequately met.
How often do shareholder disputes happen in a company without a Shareholders Agreement?

The more complicated the company setup is, the more your chances increase of a Shareholders Dispute.

Some of the most common disputes that arise between shareholders are:

  1. Profit Distribution Disputes: Shareholders may disagree on how the profits of the company are distributed between each other. Other times you have some Shareholders that are secretly withdrawing money that could be used to further grow the company.

  2. Decision Making Disputes: When a company needs to make a big decision, the Shareholders need to vote on it. Where the ownership percentages aren’t well thought through (for example, a 50/50 shareholder split), the Shareholders can deadlock each other and prevent any major decision from taking place. This is a terrible situation to find yourself in.

  3. Breach of Duties: If a Shareholder is also a Director of the company, then it may be the case that the Director/Shareholder is breaching its duties to the Company. Each Director has an obligation to act in the best interest of the company. Although a Shareholders Agreement focuses on Shareholders/Owners, it can also address how to handle the appointment and removal of Directors.
  4. Minority Shareholder Oppression: If you’re the little fish a big pond, it may be hard to voice your opinion. A minority shareholder that doesn’t have enough voting rights may be taken advantage of by the Shareholders with more voting power. However, Corporate Law prevents majority shareholders from taking advantage of minority shareholders in certain ways.
  5. Valuation Disputes: A valuation dispute is where Shareholders might disagree on the value of their shares. This is a common issue that arises when a Shareholder wants to exit, when the company is being acquired or where the company is being sold.
How long does it take to draft a Shareholders’ Agreement?

For simple Shareholders’ Agreements, you can expect to have it finalized and completed within the 3-week period.
Sometimes we are able to get it back even sooner, such as where our clients don’t ask for major revisions after
receiving the initial draft. More complex Shareholders’ Agreement (think 3+ shareholders and heavy negotiations)
could take a lot longer than our anticipated 3-week timeline. If you are expecting that your Shareholders’
Agreement may be heavily negotiated, please advise your business lawyer at the start of your engagement so that we can strategize on the best ways to avoid a long drawn out negotiation period.

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