In some cases, once a Shareholders’ Agreement is prepared and signed, it is a document that sits at the back of the filing cabinet, rarely seeing the light of day. It is usually only when a question is raised that someone digs around and finds the Shareholders’ Agreement to get the answer.
A Shareholders’ Agreement can also be thought of as an insurance policy, because if something unexpected happens there is a process to follow and agreement in writing to rely on. Without the ability to rely on a signed Agreement, things can become very uncertain, very quickly. It doesn’t always have to be the result of a breakdown in the working relationship either, it can be caused by ill health, a change in an individual’s circumstances or in the worst case scenario, death.
CASE STUDY: No Shareholder Agreement
We recently had a client who operates in the health sector approach us about a matter relating to a breakdown of their relationship with a fellow shareholder. Our client and the fellow shareholder had been in business together for some time – from the start-up phase to the business becoming quite successful, through that time they never considered formally agreeing the terms of their arrangement because they thought that the Company Constitution that they had did this. As such no Shareholder Agreement was in place.
Unfortunately, for our client their fellow shareholder had to leave the business urgently due to health reasons. As a result of them leaving the business our client realised that there were significant issues that had occurred in the business including the other shareholder not properly keeping records of patient appointments.
The Company’s Constitution does and did not deal with issues relating to:
- How to value the business for its sale;
- What to do in case of improper / illegal actions by one of the shareholders; or
- Restraints for an outgoing shareholder.
What happened next?
Because there was no Shareholders’ Agreement in place, our client was placed in a precarious position. They did not feel like they had the business that they thought they had been building, and there had been a significant move away from the values both of them had subscribed to in working towards helping people. Also, without any restraint of trade cause – our client’s co-shareholder is free to enter into a new business, right next door potentially, should they wish to.
Due to lack of a signed Agreement, our client is now left with no guiding document and feels as though they are the victim of the co-shareholder’s actions.
Our client will now incur significant expense in trying to fix the issues, as well as working out the best way to have the co-shareholder removed as a shareholder of the company.
Planning could have helped to avoid or at least mitigated these risks and costs, had a well drafted Shareholder’s Agreement been in place.
I cannot impress upon you how important putting things into writing is. It is a huge risk to go in thinking “I feel good about this arrangement now and I can’t imagine that ever changing.” I personally do not enjoy seeing people in these types of situations, I would much rather see my clients be fully prepared, than knowing that they are lying awake at night worrying about how a situation might turn out.