Shareholders Agreement

Shareholders agreement v Constitution: which takes priority?

Generally, if there is an inconsistency between the shareholders agreement and the Constitution, the relevant provision of the shareholders agreement will apply.

The shareholders agreement specifically provides that the agreement takes priority over all provisions of the Constitution relating to:

  • appointment and removal of directors, secretaries and the chair;
  • the chair's casting vote;
  • any requirement to hold directors' meetings;
  • convening and conduct of directors' meetings;
  • decisions by directors, and how they are made;
  • declaration and payment of dividends;
  • issue, transfer and transmission of shares;
  • creation, issue or transfer of securities relating to the company;
  • creation of encumbrances relating to shares;
  • valuation of shares;
  • classes of shares; and
  • if you choose, the provisions regarding death, transfer and transmission of shares on death.

How can the shareholders agreement be varied?

You can vary the shareholders agreement by a document signed by all the parties.

In contrast, a Constitution can generally be amended by a resolution passed by a 75% majority.

What is a "representative director"?

The term "representative director" is not a legal term. It is used in the Cleardocs Shareholders Agreement to identify which directors are aligned with which shareholders.

A representative director is appointed to the board by a shareholder(s) who has the requisite percentage of shares (that percentage is nominated by you in the question interface).

Under the agreement, almost all decisions in relation to the company and its business are made by the directors.

The idea of the representative director is to:

  • ensure shareholders are comfortable a director is representing their interests in the day to day management of the company;
  • ensure shareholders are comfortable they can replace their director if they see fit;
  • provide transparency, so that all parties know which directors act as representative directors of which shareholders; and
  • allow the votes at board level to be exercised, if called for by a representative director or in an equality of votes, in accordance with the shareholders' percentages.

The Cleardocs document package is for companies that are already registered. What happens to the existing board of directors after the agreement is executed?

The current board of directors will be named in the agreement as the "initial directors".

Within the first 6 months of commencement of the shareholders agreement, a majority of shareholders can remove a director who is not named as a representative director of an eligible shareholder(s).

What are my options for determining how representative directors are appointed?

Option 1 (recommended option): Each shareholder may appoint one director for each 20% of the shares the shareholder holds.

  • Under this option, the company can have a maximum of 5 directors.
  • As it is a legal requirement for the company to have at least 1 director, under this option, there must be at least 1 shareholder who holds 20% or more of the shares in the company.
  • There can be a situation where 1 shareholder holds 20% or more of the shares, and no other shareholder is holding 20% of the shares, which would have the effect of giving day to day management and control of the company to the shareholder with 20% of the shares.

Option 2: Each shareholder may appoint 1 director (if they have between 10 and 20% of the shares), 2 directors (if they have between 20% and 40% of the shares) and 3 directors (if they have over 40% of the shares).

  • Under this option, the company can have a maximum of 10 directors.
  • This option allows more shareholders to have a representative director, due to the lower shareholding threshold to appoint a representative director.

Do I get to choose which decisions of the company require a unanimous resolution of the board, or the shareholders?

The Cleardocs agreement is drafted so that decisions relating to 13 key matters must be made by a unanimous resolution of the board of directors.

Through the question interface, you can opt out of any of the 13 options if you do not want that decision to be made by a unanimous resolution of the board of directors (and instead leave it to be determined by a simple majority).

You may choose that decisions relating to a disposal of the business be made by either a unanimous resolution of the shareholders or a unanimous resolution of the board.

Is the Cleardocs Shareholders Agreement suitable for a company with more than one class of shares?

Yes, the Shareholders Agreement can be used if a company has different share classes, although upon execution of the shareholders agreement, all existing shares will convert to ordinary shares.

According to the Corporations Act, if a company's Constitution sets out a procedure for varying shares and share rights, that procedure must be followed.

The Cleardocs Shareholders Agreement includes a waiver and acknowledgement that by executing the shareholders agreement, the agreement takes effect as a unanimous resolution of shareholders:

  • to convert all shares to ordinary shares; and
  • to acknowledge that any procedures for converting shares in the company's Constitution have been complied with.

If a share conversion is required, you must lodge a Form 211 with ASIC within 14 days of the share conversion.

This means the company and the shareholders must:

  • before signing the shareholders agreement:
    • check compliance with the company's Constitution — it may prescribe a process for varying share classes; and
  • after signing the shareholders agreement:
    • lodge an ASIC Form 211 within 14 days.

When can a shareholder transfer their shares?

Under the Cleardocs Shareholders Agreement, a shareholder can transfer their shares if:

  • they obtain the consent of all other shareholders;
  • they give a transfer notice to the company stating the number of shares they propose to transfer, as well as the price and identity of the transferee of the shares (if any);
  • a shareholder, or the key person of a shareholder (if the shareholder is an entity), dies;
  • an insolvency event occurs in relation to a shareholder that is not remedied, or a shareholder commits a breach of any material obligation under the agreement which is not remedied;
  • a third party offers to purchase all of the shares of a shareholder with more than a set % of shares and that shareholder requires all of the other shareholders to transfer their shares to the third party purchaser (see 'Drag-along rights' FALQ below); or
  • a shareholder with a shareholding less than a set % requires a selling shareholder to make it a condition of sale to a third party that the purchaser purchases all of the former shareholder's shares (see 'Tag-along rights' FALQ below).

What happens to a shareholder's shares if they are deceased?

The issue of what happens to an individual shareholder's shares when they are deceased is commonly addressed within the company's Constitution.

If your Constitution is a Cleardocs Constitution, on the death of a shareholder, a surviving joint holder or the legal personal representative of a deceased sole shareholder are the only persons who are recognised by the company as having any entitlement to the deceased's shares. The estate of a deceased shareholder remains responsible for any liability in respect of the shares held, whether solely or jointly, at the time of the shareholder's death.

You can choose to include provisions about an individual's death in the Cleardocs Shareholders Agreement, in which case these provisions will override what is in the Constitution.

What are drag-along rights?

'Drag-along' refers to majority shareholder(s) being able to force (or drag) minority shareholder(s) to join any sale of shares where the drag-along shareholder is selling all of their shares to a third party. This is a common term in these kind of agreements and is set at a particular percentage (for example, if shareholders holding at least 75% of the shares agree to sell their shares to a third party, they can force the remaining 25% to join the sale).

What are tag-along rights?

'Tag-along' refers to minority shareholders being able to join other shareholders in any sale of shares to a third party. This is a common term, and is set at a particular percentage. For example:

  • if a shareholder is selling their shares (selling shareholder); and
  • any other shareholder with less than 10% of the company's shares wishes to sell; and
  • the selling shareholder is selling at least that percentage of shares,

then the other shareholder can force the selling shareholder to make it a condition of sale that the purchaser purchase their shares as well.

Do I get to set the threshold for drag-along and tag-along rights?

Yes, you may select in the question interface the relevant thresholds which determine when the drag-along and tag-along options are triggered.

What are the relevant considerations for setting the threshold for drag-along and tag- along rights?

When setting the threshold for drag-along rights, Maddocks advises you to consider:

  • if the threshold is set too low, for example 30%, then any shareholder who has or acquires 30% or more of the shares, could later force the other 70% of shareholders to sell their shares.
  • if the threshold is set too high, for example 90%, then it is less likely that the drag-along right will ever arise and may not be useful.
  • Maddocks' recommended threshold for the drag-along % is between 60% and 80%.

When setting the threshold for tag-along rights, Maddocks advises you consider:

  • if the threshold is set too high, for example at 70%, then it is possible that a shareholder with 70% of shares will be able to tag-along with a sale of 30% or less of shares to a third party, which could cause complications if a third party purchaser does not wish to purchase that many shares.
  • the threshold is also relevant to the selling shareholder: the tag-along will apply if the selling shareholder is selling a percentage of shares at least equal to the threshold.
  • Maddocks' recommended threshold for the tag-along % is between 10% and 20%.

Is this product suitable for a sole director company?

The Cleardocs Shareholders Agreement can be used for a sole director company, however this would be on the basis that:

  • the company has more than one shareholder; and
  • the second or additional shareholders either:
    • do not have sufficient shares to nominate an additional director, or
    • have elected, for the time being, not to exercise their right to nominate an additional director.

Is a shareholders agreement the same as a buy/sell agreement?

No, a shareholders agreement is not the same as a buy/sell agreement.

A buy/sell agreement is intended to cater for circumstances where a co-owner of a business dies, becomes disabled, or is otherwise forced to leave the business. In essence it is a buyout agreement. A shareholders agreement can cover these arrangements, but also arrangements for the day-to-day management and control of a company, as the Cleardocs shareholders agreement does by regulating issues like how often directors must meet and by setting decision making thresholds.