Introduction

Who is this guide written for?

This guide is written for founders who want to run a business through a company. It focuses on the legal procedures and protections that you should consider putting in place to ensure that your company’s growth is not hampered by unexpected life events.

Was this guide written by AI?

No. I am an experienced UK corporate lawyer and I wrote everything in this guide based on my experience advising hundreds of startups over the last 15 years.

What is a shareholders’ agreement?

A shareholders’ agreement is a private contract between the shareholders of a company. It provides clarity about how everyone involved should behave. It is not a legal requirement for a company to have a shareholders’ agreement, but it is very common for shareholders who take their business seriously to put one together.

Why do you need a shareholders’ agreement?

If your company has (or will have) more than one shareholder, and you are concerned about:

• a shareholder losing interest in the business and leaving, but holding onto their shares; or
• the company being unable to proceed with a deal because there is a deadlock and the deal can’t be authorised; or
• minority shareholders being overruled by the majority; or
• anything else that can prevent your company’s success,

then that is why you need (or will need) a shareholders’ agreement.

What law applies if there is no shareholders’ agreement?

In the absence of a shareholders’ agreement, default company law applies.

Default company law comes from the Companies Act 2006. This is a comprehensive framework that governs every aspect of how companies operate. For example:

• what has to be done for a company to exist,
• how directors are appointed and removed, and
• how shareholders are involved and make decisions.

Part of these rules exist under the company’s articles of association. The default articles for most UK companies are the model articles. Making changes to the model articles gives the owners of the company flexibility in how it is to be run.

When do you need a shareholders’ agreement and/or new articles?

A shareholders’ agreement (and new articles) are most commonly used where the owners of a company want to deviate from default company law.

They don’t usually think “let’s deviate from company law”.

In reality, people who start businesses together end up discussing the details of how the business - and those involved - should operate.

Most of the time, these discussions will require changes to be made to default company law.

In order to implement those changes, the owners will need a shareholders’ agreement (and probably new articles of association).

Who can help you put together a shareholders’ agreement?

You can do it yourself, if you read this guide in full and use Robolawyer to implement the deal. It is not that difficult.

You can also approach a corporate lawyer or law firm with experience drafting shareholders’ agreements for startups. Lawyers will help you figure out what needs to be dealt with, prepare and explain the documents to you and assist with the formal procedures required to implement it. However, this comes at significant expense: lawyers typically charge £1,500 plus for this type of work. You should also ensure that any lawyer you choose has experience advising startups, because the considerations will be different.

What are the risks of not having a shareholders’ agreement?

Without a shareholders’ agreement in place, default company law applies. The default rules may not be suitable for your situation; especially if you are working in a startup.

Common problems startups might face without a shareholders’ agreement include:

• being unable to claw back shares if a shareholder stops contributing to the business,
• no protection from shareholders setting up or helping competing businesses,
• limited ability to resolve disputes between directors and/or shareholders,
• majority shareholders doing things that treat minority shareholders unfairly,
• shares might be transferred to another person without any restrictions, and
• the company is not investment-ready.

The list could go on - but the basic point is that a shareholders’ agreement reduces risks of disagreement and unpleasantness by having everyone lay out their cards from day one. You can think of it as a prenup for your business - cringe to discuss, but you’ll be so glad it is there when things go wrong.

What steps are required to implement a shareholders’ agreement?

Building the term sheet

The first step is for the founders to discuss the most important terms and agree them in principle.

These are typically recorded on a term sheet.

Preparing a term sheet can be difficult if you do not know what a term is, or which terms are relevant.

Part 2 covers what terms are in detail. There’s also an example term sheet in Part 3 which will make a lot more sense if you read this guide in order.

Preparing the documents

The term sheet is used to determine which legal documents are required and what goes into them.

There is no legal requirement to have a lawyer prepare the documents.

Most lawyers who do this type of work are known as corporate or business lawyers.

Some corporate lawyers further specialise in advising startups.

If you pay someone to prepare the docs, make sure they have this specialised experience.

You can also prepare them yourself using Robolawyer.

Circulating the documents

The person preparing the drafts needs to be happy with them first.

Once the documents reflect the terms of deal, you (or your lawyer) should:

• prepare instructions for each person involved,
• ensure they are only sent documents relevant to them, and
• give them an opportunity to come back with comments or questions.

Negotiating the wording

Certain things in (or not being in) documents can lead to protracted negotiations. Typical issues include:

• the documents generally not reflecting the intention of a term that was agreed in principle,
• the wording containing some additional right or obligation which one of the parties is unhappy about,
• exact procedures for certain topics requiring further clarity,
• ambiguous or vague language that leaves things open to interpretation, potentially causing disputes later,
• inconsistencies between related documents, potentially causing confusion about which is right, or
• omissions of things that are assumed to be included as standard and not explicitly required by the term sheet.

The key is that seemingly minor wording differences can have major practical or legal consequences, which is why this phase often takes longer than expected. The solution is to reduce deviation from standard and established practice as much as possible, so that everyone involves knows and understands that what is in front of them is ‘the right way’.

Closing and formalising

Once everyone has agreed, you will need to obtain properly signed copies of the documents from each party. These are then assembled into a single final document, which is then dated. Giving the signed documents a date means they formally take effect. After this, several administrative procedures need to be followed (such as making filings to Companies House if new shares were issued or new articles were adopted).

How long does it take to complete a shareholders’ agreement?

The longest part is agreeing the initial terms.

This is because they are often foreign concepts for people that require some time to digest and understand.

The simpler you can make it for each person involved to understand what is going on, the quicker you can come to an initial agreement.

Once the initial terms are agreed, the rest is procedure.

How long the procedure takes depends on:

• whether you do it yourself or appoint someone else to do it for you,
• how experienced you are (or the person you appointed is), and
• how many people are involved and need to sign off on the drafts.

We are planning to raise money in the future. Do we need a shareholders’ agreement in the interim?

You are asking this because you’ve heard that raising money means all existing shareholders’ agreements are binned and a new one is adopted when the investment takes place. This is true. However, whether you need a shareholders’ agreement in the interim depends:

• have shares actually been issued to the shareholders, and if so are you comfortable with how default company law applies?
• do you unwaveringly trust your fellow shareholders not to do anything that might jeopardise the business before investment?
• will your future investors expect any existing shares to have been subject to vesting?

Yes, there is a cost to putting together a shareholders’ agreement, and yes, that cost is harder to stomach when you know that work will be ripped up sooner or later. But a shareholders’ agreement is more than just a document: the discussions required to put one in place ensure that founders have the difficult conversations up front, when they matter.

Ask yourself what you’d be happier with - peace of mind or saving a few pounds under the mistaken belief that it’s a waste of money?

What happens after implementing a shareholders’ agreement?

Once a shareholders’ agreement and new articles are adopted by a company and its shareholders, the way the company operates will change. For example:

1. Decision making becomes more structured, with certain matters requiring approval from minority shareholders before they can go ahead.
2. The composition of the board may be formalised, with a chair person being appointed who has the casting vote if there is a disagreement.
3. Any rights to information will take effect, meaning that shareholders will expect to be sent reports monthly, quarterly or as regularly as you agree.
4. Share vesting and leaver rules take effect, meaning that if someone leaves the company or stops contributing, their shares can be clawed back.
5. Transfer restrictions come into force, meaning that a shareholder cannot just transfer ownership of their shares to a third party.