The Importance Of A Shareholders Agreement To Every Small Business

Today, most small and medium-sized enterprises (SME) are structured to be pillars of innovation, economic development, and job creation. While statistics go on to show that around 90% of the world’s companies are SME’s.

This may cause you to think “it must be really easy to set up a small business”. Well, in theory, once you have a realistic business idea, a good plan, a great and disciplined team, and sufficient financial resources, building a successful business could be a lot easier.

But while starting a business is one thing, structuring the agreements is another. Budding entrepreneurs have to consider a number of compulsory documents that need to be drafted correctly to ensure every party’s interests are well protected and that the company doesn’t run into problems in the long run. Among them are:

• Non-Disclosure Agreement (NDA).
• Employment Agreement.
• Sales and Service Contract.
• Terms and Conditions.

But what about the optional documents, like Shareholder Agreements? Unfortunately, many business owners don’t seem to realise the importance of a Shareholders Agreement.

When a business is run by two or more partners, there is a greater possibility of a misunderstanding occurring between them, especially when the business becomes profitable. It is vital to have a contract that will allow investors to agree on how they want the company to be run. In this case, it makes good sense for entrepreneurs to have had a Shareholders Agreement drafted properly. It is a framework that protects the business against unfavourable internal circumstances that may emerge in the future.

What is a Shareholders Agreement?

A Shareholders Agreement is an arrangement between individuals who own shares in a business and receive part of the business’s profit. Normally, this agreement is made between all or sometimes some of the shareholders, it outlines:

1). The Rights and obligations of each shareholder:

Business owners can present their own rules that demonstrate partners’ rights and obligations. Moreover, this contract must be very specific regarding the actions any employee or shareholders is allowed take in the name of the corporation.

2). Procedure to address disputes when they occur:

Sometimes shareholders cannot agree on particular vital business aspects such as business administration, financial management or share allocation. These disputes can be caused by a lack of experience or differing business visions and might lead to the business’s failure. In this case, a Shareholders agreement helps partners to protect their business from an unsuccessful operation.

The agreement provides the shareholders with a plan for such contingencies and the very act of recording their intentions assists shareholders to avoid disagreement.

3). Exit strategy:

Let’s be honest, once you have set up the business, it may not perform as expected. We all want our projects to succeed immediately and may underestimate how much time it takes for a business to scale up.

So what if one or more of the partners no longer get along? Or in the worst case scenario, one of the shareholders wants to exit the business with half of his/her shares?

This is where a Shareholders Agreement can come in handy again. Partners can agree to the exit terms and conditions when creating the document before the situation arises. It is suggested that the shareholders agree upon an exit strategy once the business is set up, thereby avoiding expensive negotiations in the future.

This Agreement can be very simple or more extensive and complex, depending on what has been agreed and the stage of the company’s lifecycle. It may also include:

• Procedures for running the company.
• Policies for the sale of shares.
• Provisions for protecting minority shareholders.
• Number and type of shares – there are various types of shares that can be issued.
• Vesting terms.

What Are The Risks Of Not Having A Shareholders Agreement?

The majority of new SME’s consist of individuals who have relationships outside of the company. They could be family members, friends, partners, or just acquaintances who you trust. If this is you, you might have doubts about getting a Shareholders Agreement due to this trust.

You may ask: ‘Why do I need an agreement if I trust my partner?’ Or ‘having such agreement will make it look like I do not trust my partners’.

Here is one important tip for you: once you have decided to be an entrepreneur, you need to behave like one. That means that you have to be business-minded and consider every possibility, no matter what existing relationship you and your partners have.

One of the main risks of not having a Shareholders Agreement is the loss of a considerable amount of money and time against potential disputes that may emerge in the future. Additionally, minority partners could automatically be left without any control if levels of authority are not outlined in a shareholders agreement, leading to an imbalance between the amount of influence held by the majority and minority shareholders.

Conclusion

It is strongly suggested that SME’s have a Shareholders Agreement. It is ultimately a contractually binding agreement, acting as an evidence to ensure shareholders comply with its provisions. This legal document should be one of the first contracts signed by shareholders of a new company. It is also advisable to pay extra attention to the Agreement’s drafting in order to cover all the potential issues that might occur in the future.

It will save time and money, which is one of a company’s most vital resources. Don’t waste precious time in deciding to have one. Get a Shareholders Agreement drafted now!

What are your thoughts on the importance of having a shareholder’s agreement? Let me know by leaving a comment below.