A Shareholder Agreement will set out an agreed position on what is to happen in a variety of situations which will or may arise in the course of the shareholder relationship. The first answer to the question ‘why have a Shareholder Agreement’ is that to create one, the parties will need to think and talk about important matters which they might not otherwise consider. The discussions which take place to reach agreement may be very useful in bringing out into the open many of the contentious issues which can become real problems in the future for the company. It is better to find out how and what your business partners think about some of these important matters earlier rather than later.

The second answer to the question is that having one may well make a crucial difference in the smooth running and indeed survival of the company as well as protecting shareholders’ individual interests. Examples of what the shareholder Agreement might cover in order to achieve this are explained in a series of four articles, the first of which deals with the following:-

1. Falling out

Disagreements between shareholders cannot always be ended simply and amicably. If there is a serious dispute between the shareholders, it may become impossible to manage the company effectively because constructive board meetings cannot be held. If a company becomes deadlocked in this way, it may stagnate and its directors may run the risk of incurring personal liability to creditors and others, for example under insolvency legislation if their inactivity leads to a reduction in the value of the company’s business and assets. A Shareholder Agreement will provide for a structured way for all parties to work within, making the resolution of disputes quicker and more effective. Having an agreed structure often stops conflict before it begins.

Dispute resolution and the different ways in which this can be handled will be dealt with in more detail in a future article.

2. Death or critical illness of a shareholder

Should a shareholder die then without a Shareholder Agreement in place his/her spouse or other family member could take their place. This may not be in the best interests of the company, possibly because of a personal clash with the other shareholders or simply through the replacement family member being unfamiliar with the company, or being naive in matters of commerce. A Shareholder agreement can prevent this by providing an option for the remaining shareholders to purchase the deceased’s shares.

Similarly should a shareholder become critically ill such that they cannot discharge their duties to the company such as attend board meetings, a Shareholder Agreement can set out procedures whereby after as certain period of time the other shareholders can have an option to purchase the critically ill member’s shares

A Shareholder Agreement may also consider the position of the deceased shareholders family and/or a critically ill shareholder by providing options for the sale of their shares to the other shareholders in the company. Without  this it is surprisingly common for the deceased’s spouse or other family to realise the value in the deceased shareholder’s shares because the remaining shareholders are reluctant to or are not able to fund the purchase of the shares.

The option provisions outlined above are usually accompanied by appropriate life and critical illness insurance policies.

Nothing in this awareness article is intended as legal advice. If you have a specific legal requirement or query you should consult a solicitor directly.