What happens if there is no shareholders agreement

Many people starting businesses want to establish a fair relationship between shareholders. Some business owners rely on their Articles of Incorporation and provincial bylaws, while others use shareholders’ agreements. You can think of Articles of Incorporation as the basic coverage that the Canada Business Corporations Act requires. Articles of Incorporation list the classes of shares, if more than one, and the rights and obligations attached to each class. Beyond that basic coverage, most corporations seek additional protection from shareholders’ agreements for the following:

• Governance, management, and control;

• Dispute resolution;

• Pre-emptive rights;

• Restrictions on transfers;

• Borrowing money; 

• Non-competition and non-solicitation;

• Death of a shareholder;

• Participation of shareholders.

Shareholders’ agreements are private written contracts that company shareholders sign which detail the control and management of the corporation and the termination of the relationship of the shareholders. Depending on your circumstances, you may want a standard or unanimous agreement. Standard shareholders’ agreements are more flexible because you can amend the agreement without all the shareholders consenting. Unanimous shareholders’ agreements require the consent of all shareholders for amendments including the original signatories and all new shareholders. 

Benefits

The benefit of the agreement is that you can tailor it to make it fit your corporation’s needs. What are your rights and obligations regarding the corporation? What contributions did you make? For example, if you are a minority shareholder concerned about your vote, you can use the document to protect your minority vote. You and the other shareholders can use the agreement to be proactive about how you will resolve disputes, saving you time and energy later. If your dispute does end up in court, the existence of the agreement and its terms can safeguard you. As per Hurley v. Slate Ventures Inc., the court resolves disputes within the terms of the agreement. So, use the agreement to clarify your shareholder intentions and expectations. 

Shortcomings

The major downsides to shareholders’ agreements are cost and contention. You and the other shareholders might be negotiating forever without result. Maybe the shareholders have different objectives. Maybe the shareholders are so numerable that you cannot come to a compromise. Maybe it just isn’t worth the time negotiating. If that’s the case, your legal counsel may advise you not to create a shareholders’ agreement. 

What happens with no shareholders’ agreement?

For one reason or another, you might not have an agreement. Don’t worry. Shareholders Agreements are optional. However, legal counsel will typically advise you that, if you have more than one shareholder with an interest in your corporation, then you should use a shareholders’ agreement. Doing so gives you structured control to govern your corporation. Without the agreement, you expose your corporation to a host of potential issues.

Issues that may arise without an agreement

• Non-defined relationship for shareholders

• Increased risk of conflict 

• Lack of control and certainty of the outcome of the conflict 

• Deadlocked decision-making 

• Competition by shareholders that left the corporation to join a competitor   

Is a shareholder agreement necessary?

While shareholders’ agreements are not necessary, they are encouraged. Whether your circumstances be a joint venture, a majority and minority shareholder, two 50/50 shareholders, a private equity firm investment in a corporation, or a large group of shareholders with equal or unequal shareholdings, the agreement can benefit you.

So, to determine how a shareholders’ agreement would best serve you and your corporation, book a free consultation with us at Britannia Law.

Loyalty, friendships and mutual trust are all well and good. However, they are not always a solid foundation for the long-term business goals of many directors.

This is where a shareholders’ agreement comes in. For those who are beginning a company, or beginning to grow it, having a shareholders’ agreement is key to ensuring a consistent and productive working relationship.

In many ways, shareholders’ agreements are the pre-nuptial agreements of the corporate world – laying down provisions for dispute resolution, protecting each shareholder and their finances (amongst many other things).

In this article, we look at what a shareholders’ agreement is, as well as what to include and what might arise without one in place.

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A shareholders’ agreement outlines the ownership of a company’s shares, the management of the company, as well as the protections and rights of the shareholders. It is usually entered into by some or all of the shareholders of a company.

A well-drafted shareholders’ agreement should act as a safeguard, giving shareholders more protection against various situations that might arise in the course of running and growing their company.

A shareholders’ agreement will usually contain a range of legal and practical solutions relevant to the company. These might include:

• Setting out the rights and obligations of the shareholders
• How the sale of shares in the company will be distributed or sold
• How the company will be run, such as how to appoint a new director or if one leaves
• Protections for minority shareholders
• The process for how major decisions will be made, such as selling the business

Ideally, a shareholders’ agreement should be done at the start. Whilst there is a lot to do when starting out, putting the time in to build the shareholders’ agreement can bring positive effects in the long run. It can also be put in a later stage

Much like a pre-nuptial agreement in a marriage, a shareholders’ agreement is a great way to ensure each individual’s expectations and feelings around the business are complementary.

It can help shareholders to iron out any major differences of opinion at the outset, in order to agree to the terms that should be included in the agreement going forward.

With no shareholders’ agreement, both the company as a whole and individual shareholders could be exposed to unresolvable future conflict.

Without an agreement to clarify the legal standpoint of each party, if a dispute occurs, a deadlock situation could occur. This obviously can prove problematic, particularly if one of the shareholders is acting unreasonably or not in the company’s best interests.

Particularly high-risk situations include where the voting rights in a company are split 50/50 between two people or companies (which is commonly the case in many private limited companies, particularly in the beginning).

Other difficulties that might occur without a shareholders’ agreement might include:

• Minority shareholders can block sales of shares
• Shareholders could sell to an unknown third party without the consent of the other shareholders
• An unresolvable dispute might occur, or there could be conflicts about how to resolve it (such as a reluctance to go to court, but without an agreement to arbitrate)
• Shareholders could leave the company to set up a competing business
• Investors in the business might be put off without a clear shareholders’ agreement
• Shareholders might not invest equally, or put as much effort into the business but receive the same returns

Whilst a company’s articles of association will contain the basic rules of how the company will be run, complex matters could prove problematic.

Much like the benefits of getting a pre-nuptial agreement, the benefits of a shareholders’ agreement are underrated and can contribute to the culture of the company, laying the foundations of trust and mutual benefit; ideal for any investment.

Does a shareholders’ agreement override articles of association?

A shareholders’ agreement will usually include a supremacy clause. This will mean that the shareholders’ agreement will override the articles. The articles will still be applied for anything else, although the shareholders’ agreement is usually much more specific.

Articles of association are not intended to be an exhaustive list, offering considerably less (if any) protections to shareholders in the event of a conflict or other issue that is not covered, as detailed above.

The purpose of the articles of association is to cover a range of common/generic situations that may impact the shareholders. It is not intended to protect in more complicated situations, particularly if the company scales quickly in size.

Whilst it can seem like yet another item on a long to-do list, getting the legalities of a company sorted out early should be a top priority. Whether the agreement is in place at the start or thought about later down the line, the process for putting it together can aid shareholders in their future plans.

For legal advice regarding shareholders’ agreements, get in touch with the team at Carlsons Solicitors. Our team is well-versed and provides trusted legal advice to all company sizes and shareholder arrangements.