What is a Shareholders’ Agreement?

Whereas on incorporation every company is legally required to adopt articles of association (the “Articles”) and to make them publicly available at Companies House, a shareholders’ agreement is a private contract that does not need to be publicly disclosed and is not strictly required as a matter of law.

Putting a “founder shareholders’ agreement” in place at the outset or shortly after incorporation of a company does, however, bring with it a number of advantages.

A shareholders’ agreement can play a key role in setting out shareholders’ expectations at the outset in terms of the company’s governance structure, the roles and responsibilities of the key founder shareholders (including expectations in terms of hours, incentivisation and any “founder share vesting” arrangements), the aims and objectives of the business, the restrictions on the  founders’ other business activities and on actions that can be taken by the founders and the company without the consent of the broader shareholder group and how transfers of shares and future share or option grant/issues (for example, as part of a future funding round or an employee incentive scheme) or debt raises are to be dealt with.

By setting out the expectations at the outset, a shareholders’ agreement can ultimately help to prevent disputes between shareholders in the long run. There can be a degree of overlap in terms of the provisions that are included in the Articles and provisions that are included in a shareholders’ agreement. However, a breach of a shareholders’ agreement gives the relevant affected shareholder a right to bring a claim for breach of contract in his/her own name (and a right to claim damages, if successful), whereas bringing a claim under the Articles is more complicated (and often needs to be brought in the name of the company, as opposed to in the name of the relevant individual).

A shareholders’ agreement can also be an effective method of ensuring the provisions are brought to the attention of the shareholders, who may otherwise not pay close attention to the provisions laid out in the Articles. Further, from a legal perspective, some terms can be included in the shareholders’ agreement which may not be permitted to be included in the Articles or by the Companies Act 2006.

As a company matures and raises finance from external investors, through seed or later stage funding rounds, investors will almost certainly require a shareholders’ agreement/investment agreement to be put in place, together with new/revised articles of association – these documents will provide a comprehensive governance structure for the company with the new investors on board and will also set out some detail in terms of how any funds invested are to be used.  These documents are likely to be more complex than any initial “founder shareholders’ agreement”. However, having put in place a “founder shareholders’ agreement”, can help founders get an understanding of how the documents work and the types of provisions future investors may look to include on a future funding round, which can only benefit founders when it comes to negotiating the terms with future investors.

If founders do decide to put in place a “founder shareholders’ agreement”, it is important that they are careful not to prejudice themselves by agreeing to overly restrictive provisions or giving away too many rights in a “founder shareholders’ agreement” or any other early stage shareholders’ agreement. As such, we would recommend that legal advice is sought as early as possible so that an appropriate approach is taken.