What is Shareholders’ Agreement (SHA)?

• A legally binding document that outlines the rights, obligations, and expectations of shareholders in a company.
• Acts as the fundamental base for matters concerning management, decision-making authority, share transfers, and dispute resolution.
• Includes provisions on ownership percentages, voting rights, share transfer restrictions, management responsibilities, issuance of additional shares, and shareholder protection.
• The SHA promotes transparency, protects shareholders’ interests, and helps prevent disagreements, ensuring all parties work towards the long-term success of the business.

When does it become crucial to execute SHA?

• At the time of formation of a company.
• Whenever there is a change in the ownership structure of the company, for example, bringing in new investors, or existing shareholders leaving the company or selling their shares.
• When there are multiple shareholders with different interests, expectations, and goals for the company.
• When establishing a clear framework for the management and operation of the business, specific governance or decision-making procedures, reduction in the risk of disputes and conflicts between shareholders, and protection of interests of the shareholders becomes important.

Key Factors/ Fundamentals to consider while drafting an SHA (The Do’s)

1. Definitions:
• Proper highlighting and clarification of key terms becomes highly significant particularly when equity and management of a company is at stake.
• Terms such as such as ‘Related parties’, ‘Closing’, ‘Lock-in period’, or ‘Long stop date’ are some to consider.
2. Shareholders’ Rights and Obligations:
• Covering aspects such as voting rights, dividend entitlements, share transfer restrictions, anti-dilution clauses, and non-compete obligations, which are relevant to the concerned shareholders’ ownership of the company.
3. Management and Decision-Making:
• Establish a clear framework for company’s management, decision-making processes, and define roles and responsibilities of shareholders, directors, observers, and the management team.
• Change in Management Rights when the Shareholder’s voting rights decreases in the company also knows as Fall Away Rights.
• Also addressing factors like appointment/removal of directors, board quorum/conduct, and frequency of meetings.
4. Minority Shareholder Protection:
• Minority shareholder protection encompasses legal measures designed to safeguard the rights and interests of shareholders holding a minority stake in a company.
• These shareholders, who possess a smaller portion of shares compared to majority or controlling shareholders, are afforded certain safeguards to ensure fair treatment.
• Such protections commonly include disclosure requirements, voting rights on crucial matters, potential board representation, oversight of related party transactions, remedies for oppression, access to company information, and fair valuation of shares during significant transactions.
• The specific provisions and mechanisms available for minority shareholder protection vary across jurisdictions, necessitating a thorough understanding of applicable laws and seeking legal advice when necessary.
5. Exit Mechanisms:
• Encompassing clauses such as rights of first refusal, pre-emption rights, drag-along rights, put options, or call options to facilitate a smooth exit for shareholders.
• If term sheet with an investor already exists, the exit process should align with the terms in the sheet unless mutually agreed upon in writing.
6. Confidentiality/ IP Rights and Non-Compete:
• To safeguard confidential information, trade secrets, and IP, as well as to restrict shareholders from competing with the company during their tenure or for a certain period after selling their shares, the company may include provisions that prohibit shareholders from soliciting employees and customers for a specified duration.
7. Dispute Resolution:
• Providing for fair and efficient mechanisms to resolve disputes that may arise between shareholders or with the company, such as mediation or arbitration, to avoid costly and time-consuming legal action.
• Some common elements are appointment of arbitrator, arbitration process, choice of law and jurisdiction.

Important Cases on SHA