Why do you need a shareholders, partnership or unitholders agreement?

Why do you need a shareholders, partnership or unitholders agreement?

When it comes to sustaining and maintaining business relationships, there are some things that are essential.

A shareholder’s agreement is one of them and it outlines the rights and responsibilities between shareholders of a company.

This document sets out the provisions and processes which will apply in certain circumstances, such as a sale of shares or dispute. Similarly, a unitholders’ agreement will govern the relationships between the unitholders of a unit trust, and a partnership agreement will govern the relationship between partners.

If such an agreement is not prepared in the early stages of the relationship between the shareholders, partners or unitholders, there can be dire consequences. A case involving the founders of restaurant chain Grill’d demonstrates the potential risks involved in not having a shareholders agreement.

In 2004, Simon Crowe and Simon McNamara opened the first Grill’d restaurant Grill’d has since grown to over 100 stores across Australia. In 2011, McNamara exited the business, leaving Bainbridge with 25 per cent of the shares, and Crowe the remaining shares.

The relationship between Bainbridge and Crowe deteriorated, which resulted in expensive legal proceedings in the Federal Court. The dispute was settled out of court, but only after the case took a financial and emotional toll on the parties.

Bainbridge and Crowe founded the business as childhood friends, but the legal battle left them as bitter enemies.

The parties argued over things such as Bainbridge’s involvement in a potentially rival business, Crowe limiting access to financial records, and the valuation of the company.

Each of these issues could have been addressed in a shareholders agreement and prevented a great deal of time, expense, and stress.

What clauses does a shareholders, unitholders or partnership agreement include?

A shareholders, unitholders, or partnership agreement often includes the following types of clauses:

  • Restrictions on transfer of shares or units – Usually, these types of agreements will include pre-emptive rights, requiring the parties to offer their share of the business to existing shareholders, unitholders or partners before selling to third parties.
  • Dispute resolution – The agreement should set out clear processes for resolving disputes and requiring parties to attempt alternative dispute resolution methods before proceeding to litigation.
  • Drag along rights – A drag along clause requires minority shareholders (or unitholders) to join in a sale of shares (or units). This prevents minority shareholders from unnecessarily stalling or preventing a sale.
  • Tag along rights – A tag along clause operates when a majority shareholder (or unitholder) sells shares (or units) in the business and allows the minority shareholder (or unitholder) to tag along and sell their interest to the same purchaser.
  • Deadlock – A deadlock clause sets out the ramifications if there is a deadlock or a dispute cannot be resolved. There are a few different types of deadlock clauses. For example, a Russian Roulette clause will allow a party to buy out another party, but only if the other party can buy them out at the same price. Another alternative is a clause which provides for an auction of units or shares.
  • Restraint – A restraint clause prevents investment by shareholders or unitholders in competing businesses. This clause protects the financial interests of the other shareholders or unitholders.
  • Exit strategy – A clause should be included which sets out a strategy and the processes which will apply if a party dies or wishes to exit from the agreement.

It is important that an agreement is drawn up between the parties before any disputes arise, or the business grows.

This can minimise the risk of costly and time-consuming disputes arising in the future as the business grows, and new shareholders and unitholders join.

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