In the world of closely held corporations, a Shareholders’ Agreement (or Stockholders’ Agreement) is a pivotal document that governs the relationship among the shareholders of the corporation. A shareholders’ agreement may not be proper for every corporation. However, it is highly recommended for small and medium-sized businesses. Understanding the key elements of this agreement is crucial for any shareholder or prospective investor in a corporation. This blog provides a high-level overview of the common provisions found in a shareholders’ agreement.
Genral:
1. Restrictions on Transfer
This section outlines various restrictions on the transfer of shares, which is particularly important for S-Corporations to maintain their S-Corp status. The agreement often requires that any transfer of shares must be approved by other shareholders of the corporation. This is to prevent unwanted parties from becoming shareholders. If the entity is an S-Corporation, it will also have restrictions related to ownership (i.e., who may or may not be a shareholder due to IRS rules regarding S-Corp ownership).
2. Rights to Buy or Sell Shares (Buy-Sell Provisions)
Buy-Sell provisions are crucial in planning for future scenarios. They outline the conditions under which shareholders can sell their shares and the terms of how these sales are handled. This can include right of first refusal for other shareholders, valuation methods for the shares, and terms for buyout in case of a shareholder’s death, disability, or retirement.
3. Shareholder Responsibilities and Voting Rights
This part of the agreement sets out the rights and obligations of the shareholders. It covers voting rights on major corporate decisions, such as mergers, acquisitions, or dissolution of the company. The agreement may stipulate that certain decisions require a supermajority or unanimous vote.
4. Dividend / Distribution Policy
The agreement should address how and when dividends or distributions will be distributed to shareholders, if at all. This includes the frequency of dividends or distributions and how they are calculated, which is especially important in an S-Corporation where profits and losses pass through to shareholders’ personal tax returns. In many instances, a C-Corporation will not offer dividends, and that should be clearly outlined in the agreement.
5. Management of the Corporation
While a corporation is managed by its directors and officers, the shareholders’ agreement can include provisions on the appointment of these individuals, their roles, and the extent of their powers. This ensures that shareholders have a say in the management and strategic direction of the corporation. In some instances, the shareholders may agree that the corporation will be managed by the shareholder-employees and not a board of directors.
6. Dispute Resolution Mechanisms
Dispute resolution is a critical clause that can save time and resources. It outlines the processes to be followed in case of disputes among shareholders or between shareholders and the company, often including arbitration or mediation as initial steps.
Conclusion
A well-drafted Shareholders Agreement is indispensable for the smooth operation and governance of a corporation. It ensures clarity and fairness among shareholders and helps in safeguarding the interests of all parties involved. Given the legal complexities and the specific requirements of corporations, consulting with a legal expert to draft or review your Shareholders Agreement is highly recommended.
To discuss your corporation’s specific needs or for assistance in drafting a comprehensive Shareholders Agreement, please contact the business attorneys at Brown & Blaier, PC.