Shareholders' Agreement- Introduction


02 Feb
02Feb

Contents Principal documents; Purpose of the joint venture agreement; Parties to the joint venture agreement; Business of the joint venture; Board and management arrangements; Share capital and subscription for shares; Funding arrangements and other contributions to the joint venture; Distribution of profits; Restrictive covenants; Other provisions. 

See also Shareholders' Agreement Checklist and Joint Ventures.

Principal documents

 The principal documents required for a corporate joint venture are: the Articles of association (Articles) of the joint venture company (JVC), and the shareholders’ agreement (SHA) 

Purpose of the joint venture agreement

 The purpose of the SHA is to establish the rights and obligations of the parties in relation to the joint venture, to ensure that the company and its business is established and run in accordance with the parties’ objectives and to set out procedures for dealing with any difficulties which may arise. Key matters covered in the SHA are: the business of the joint venture the composition of the board and management arrangements share capital and funding of the JVC distribution of profits restrictive covenants protection of minority and majority interests (if applicable) resolution of deadlocks transfer of shares, and termination 

Parties to the joint venture agreement

The parties to the SHA are usually the shareholders in the JVC; the JVC itself may be included, e.g. for the purposes of allotting shares or giving restrictive covenants. If the JVC is added as a party, the SHA should not include any restrictions on the exercise of the company’s statutory powers since any such restrictions will be unenforceable. However, such restrictions may be enforceable as between the shareholders if the JVC’s obligations are severable. The parties to the SHA may want to consider whether any of the shareholders’ obligations should be guaranteed by their respective parent companies. 

This may be appropriate, e.g. where a proposed shareholder in the JVC is a new company specifically created for the purpose of holding its group’s interest in the joint venture. Additional considerations should be taken into account if one of the parties is an individual (including the need for specific termination provisions in the event of death or incapacity) or a listed company (significant transactions and related party transactions). In such cases, potential amendments may be required to deadlock and compulsory transfer provisions. 

Business of the joint venture

The SHA will usually set out the scope of the joint venture’s business and its commercial objectives (which may include details of any proposed projects or milestones). The definition and scope of the JVC’s business will be particularly important if the SHA is to contain restrictive covenants preventing the shareholders from competing with the joint venture’s business. The shareholders may want to spend time clearly delineating the scope of the joint venture’s proposed business (including its geographic location) to ensure that the shareholders’ other business activities do not fall foul of any restrictions included in the SHA. If the parties to the joint venture aim to realise their investment by means of a trade sale or listing of the JVC within a certain period of time, the SHA could also include a provision that the parties will use their 'reasonable endeavours' to achieve this end. 

Board and management arrangements

The SHA and/or the Articles will usually allow each joint venture party to appoint a certain number of directors to the board of the JVC. The right to appoint directors with specific roles (such as the chair, who may or may not have a casting vote, and the executive directors) should also be considered. There may be some ne.g.otiation over the quorum provisions for board meetings, in particular on the issue of whether directors appointed by minority shareholders must be present at board meetings for the meetings to be quorate. 

The SHA and/or Articles will also set out the scope of the board’s decision-making powers and may provide for certain important or sensitive decisions to be reserved to the board and/or the shareholders. Each director of the JVC will owe statutory duties to the company, which could conflict with the duties it owes to the shareholder who has appointed it. In particular, the appointment itself could result in a breach of the director’s duty to avoid conflicts of interest. 

The directors of the JVC may not be able to authorise such a conflict, as the SHA or Articles may provide that a board meeting is not quorate unless a director representing the relevant shareholder participates. Any such conflicts are therefore likely to require authorisation by the shareholders of the JVC or by its Articles. Each director will also owe a common law duty of confidentiality to the JVC. In order to avoid a director breaching this duty by providing confidential information relating to the JVC to the shareholder who appointed him, it may be advisable for the SHA or a separate agreement between the shareholders and the JVC to explicitly set out the types of confidential information which a director will be permitted to provide to the shareholder who appointed him. 

The SHA will usually also set out responsibilities for the day-to-day management of the joint venture, including responsibilities for accounting, drawing up business plans and budgets and preparing and distributing financial information. If one or more of the shareholders is to take overall responsibility for any of these tasks, the SHA may also provide for fees to be paid to these shareholders. Alternatively, these matters may be dealt with in a separate management agreement. 

Share capital and subscription for shares

The SHA will usually set out details of each party’s subscription for or acquisition of shares in the company. Where the company’s share capital is split into different classes of shares, the company’s Articles will set out details of each class of shares (including any special rights attaching to the shares of each class) and the SHA will usually provide for each joint venture party to subscribe for or acquire a different class of shares. 

The SHA should also set out the consideration payable for shares in the company (whether cash, assets or a combination). Details of procedures for shareholder meetings (including quorum and notice requirements) should also be provided for, although these will usually be included in the Articles rather than the SHA. 

Funding arrangements and other contributions to the joint venture

The SHA will usually set out details of the initial funding of the joint venture which could include cash subscriptions for shares in the JVC and/or loans provided by the shareholders or third parties. If a third-party loan is provided to the JVC, the lender may require security from the JVC and/or its shareholders. The choice of initial funding methods could also have tax implications for the JVC and its shareholders. In addition to the initial funding requirements, the parties should consider the extent to which the source of any future funding of the JVC should be legislated for in the SHA. 

The shareholders may also make non-cash contributions to the joint venture, which could take the form of: assets or businesses transferred to the JVC in return for shares or other consideration, e.g. loan notes leases or licences of assets secondment of employees intellectual property licences, and the provision of services to the JVC The parties will need to carefully consider how any non-cash contributions to the JVC are to be valued. Details re.g.arding the provision of non-cash contributions may be set out in separate agreements, e.g. asset or business transfer agreements (containing appropriate warranties), secondment agreements and intellectual property licences, rather than in the SHA itself 

Distribution of profits

The SHA will usually set out the agreed method for extracting profit from the JVC. The most common method of profit distribution is by way of dividend from the JVC and the SHA will often set out the extent to which any distributable profits must be distributed to the shareholders and the timing of such distributions. 

If the SHA is silent on this point and unanimous consent to the payment of dividends is required, a minority shareholder could prevent the other shareholders from receiving their profits by refusing to vote in favour of the payment of a dividend. Depending on the nature of the parties’ interests in and contributions to the JVC, other methods of extracting profit may be possible, e.g. fees for services provided to the JVC. 

Restrictive covenants

 If the joint venture is intended to establish an ongoing business, the SHA may contain restrictive covenants which limit the extent to which the shareholders are permitted to compete with the business of the JVC and/or to solicit the JVC’s customers, employees or suppliers. 

The parties will need to consider matters such as: the exact scope (including geographic location) of the business which is the subject of the non-compete obligations whether the non-compete obligations will bind members of the shareholders’ groups as well as the shareholders themselves whether any carve-outs from the non-compete obligations are required to allow for the shareholders’ (or their groups’) existing business activities, and remedies for breach of the non-compete obligations, which could include the forced sale of a shareholder’s competing business or of its shares in the JVC The competition law implications of any restrictive covenants included in the SHA should be considered and care should be taken to ensure that such restrictions are reasonable and likely to be enforceable. 

Other provisions

The SHA may also include the following provisions: conditions precedent to commencement of the joint venture—these will be required where certain le.g.al requirements, e.g. EU or UK merger clearance, employee consultation or approval of a party’s shareholders, must be complied with before the joint venture’s activities can commence. accounting and tax matters—the SHA may contain explicit agreement on the accounting treatment to be accorded to the JVC and on tax matters such as whether or not the JVC will surrender any trading losses to its shareholders. status of agreement—the SHA will usually contain a provision stating that the SHA will take precedence over the Articles in the event of any conflict and will usually also require the shareholders to use their voting powers to remove any conflicting provisions in the Articles. confidentiality—most SHAs will impose non-disclosure obligations on each of the parties in respect of the JVC’s and the other parties’ confidential information. warranties—warranties will usually be limited to simple capacity warranties and warranties that the JVC has not traded and has no assets and liabilities, unless the JVC is an existing subsidiary of one of the joint venture parties, in which case that party will be required to give more extensive warranties about the company to the other shareholders, and boilerplate provisions, e.g. restrictions on assignment, a statement that the joint venture does not constitute a partnership, costs, entire agreement, third party rights, notice provisions, severance and governing law and jurisdiction.

By the publications team at: Contracts-Direct.com with the assistance of the referenced third parties (Lexis-Nexis).

Legal Notice:

Publisher: Atkins-Shield Ltd: Company No. 11638521
Registered Office: 71-75, Shelton Street, Covent Garden, London, WC2H 9JQ

Note: This publication does not necessarily deal with every important topic nor cover every aspect of the topics with which it deals. It is not designed to provide legal or other advice. The information contained in this document is intended to be for informational purposes and general interest only.

E&OE

Atkins-Shield Ltd © 2020

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