Does your limited company need a shareholders’ agreement?

If you decide to set up a limited company with other people – either for contracting or another type of business – how do you ensure that all of your shareholders are protected in case something goes wrong? A well-drafted shareholders’ agreement might be the answer.

Why create a shareholders’ agreement?

When you incorporate a company, you need to adopt Articles of Association, which serve as the company’s governing rules. Most contractor companies use the model articles provided by Companies House.

Although the Articles cover most aspects of running a company, they are governed by company law and must be lodged with Companies House, where they are available for public inspection.

A Shareholders’ Agreement, often drafted alongside the Articles, provides considerable flexibility to make future changes to the company’s rules.

Unlike the Articles, they provide much more detail on shareholders’ rights.

They are also very helpful in protecting minority shareholders’ rights, who would otherwise be at the mercy of the majority.

They also address common issues, such as valuing shares when an individual wants to sell, handling shareholder disputes, and what to do if someone offers to buy the company.

Often, a limited company may be owned by two shareholders with 50:50 holdings (a common structure in the contracting world).

A shareholders’ agreement can outline specific mechanisms to resolve a deadlock, such as third-party mediation, a buyout option, or a vote.

Significantly, these are private documents and don’t need to be provided to anyone outside the company.

For more details on how limited company shares work, see our guide to shares and shareholders.

What should you include in a shareholders’ agreement?

Unlike the Articles of Association, there is no fixed format for a Shareholders’ Agreement; however, most will contain details on the following areas of administering a company:

Decision-making

• How are directors appointed and removed from office?
• Can shareholders also be directors, or vote to appoint and remove other directors?
• Which decisions will require shareholder approval (if any)?
• What is the structure of the company’s board of directors?

Issuing new shares

• How will new shares be issued? As this may dilute existing shareholdings, it is likely to require shareholder approval rather than being left to the directors.
• Will any new shares be offered to existing shareholders first?

Transferring existing shares

• Will shares be transferable without the approval of other shareholders, or will they require approval?
• Should existing shareholders have the right of first refusal on share disposals?
• What happens if an existing shareholder dies?
• How do you value shares if a shareholder dies or wants to exit the company?

Access to information

• How much company information will shareholders have access to? This will include accounts and business planning documents.
• Which shareholders will have access to various levels of information?

Dividends

• How often will dividends be paid to shareholders?
• Will dividends only be paid subject to specific performance targets?
• Will dividends only be paid to holders of specific share classes?

Drag and Tag rights

• ‘Drag along’ rights will force all shareholders to sell their shares at a certain price if a majority decide to sell their holdings.
• ‘Tag along’ rights protect minority shareholders by ensuring they receive the same terms as all other shareholders in the event of a company takeover.

Voting rights

• Are the default voting thresholds sufficient in all situations? (An ordinary resolution requires approval from over 50% of shareholders, while a special resolution needs at least 75%.)
• If not, what percentage of shareholders have to vote to pass a motion?

Directors’ salaries

• How much will the directors be paid? This provision ensures that shareholders decide on directors’ remuneration, thereby avoiding an apparent conflict of interest.
• What procedures should be put in place to review directors’ salaries on an ongoing basis?

Conflict resolution/deadlock

• What happens if things go wrong?
• If disagreements arise, should shareholders seek external help?
• If an agreement cannot be reached, what buyout procedures are in place to enable shareholders to buy out each other?
• If a ‘deadlock’ situation exists, where no agreement is possible (typically between 2 equal shareholders), how will a dispute be resolved?

Protecting the company from shareholders

• Shareholders should keep any information they have about the business confidential.
• They should not launch ventures which compete with the company’s business whilst they are shareholders, or for a prescribed time after ceasing to hold shares.
• They should not entice away staff from the company whilst they are shareholders, or for an agreed period after selling their shareholdings.

How to draft a Shareholders’ Agreement

In our experience, many new businesses don’t put anything in place until a potential conflict arises, as they’re often too busy building the company to consider how to address future problems.

For obvious reasons, we recommend that you consult a legal expert to draft an agreement as early as possible, which will typically be prepared in conjunction with the new Articles of Association.

You can download agreement templates for under £50 from various online legal sites, but for a robust agreement, you really should consider paying for specifically tailored advice.

For a typical small company with a few shareholders, costs vary by firm, but expect to pay between £300 and £750, plus VAT, for a straightforward, tailored agreement.

For official guidance on shareholder rights and agreements, see the GOV.UK resource on setting up a business with shareholders.