Partnership and Shareholders’ Agreements: What You Need to Know

Businesses often start as an idea.  Sometimes, they start as a personal idea that you have cultivated and pursued over the course of your career. More often, though, they start as an idea between friends, colleagues, or professional acquaintances. After all, collaboration breeds productivity. Business ventures seem safer when the load is spread across multiple parties, too. If you’re starting a business with two, three, or even four others, your combined resources place you in a more comfortable position from the start.  However, that doesn’t mean your new endeavour is risk-free.  In fact, you will face perhaps one of the most insidious commercial risks of all: disagreement.  Disagreements between business partners or shareholders can be terminal for your business.When all parties to the disagreement wield equal power, reaching a resolution is very challenging.  Luckily, there’s a solution.  Better still, it’s available to your business immediately: the shareholders’ or partnership agreement.

These agreements manage the managers, in a sense; they provide clear terms to avoid, or if need be resolve disagreements.  But drafting them is not always straightforward to those without legal training.  So let’s take a look at some of their finer points, to gain a clearer understanding of why your business needs a shareholders’ or partnership agreement.

Partners and shareholders are different, but agreements between them are similar

In a legal sense, there is a difference between shareholders in a small business, and partners.  But if you are starting a business with others for mutual gain, you’ll likely know those others as your business partners.  So, is it important to distinguish between partnerships, and shareholder arrangements?  Ultimately, it is.  Partners are viewed differently to shareholders under the law.  That means partnerships impart slightly different obligations on partners, as compared to shareholders.

In certain ways those obligations are a little more onerous, being affected – as they are – by historic, and slightly complicated areas of law.  One example is fiduciary duties, which each partner owes to each other.  In comparison, companies are owed fiduciary duties by company officers.  Shareholders then have an interest in that company.  Despite those distinctions, partnership and shareholders’ agreements work in similar ways.  Often, they contain the same terms as well.

Partnerships are not as common, but partnership agreements are still vital

While partnerships are less common than incorporated bodies, they are still prevalent.  There is also no legal obligation for partners to have an agreement written between them.  Nevertheless, it is particularly important for partners to have a well-constructed agreement in place.  Due to the influence of the Partnership Act, the shares of each partner may be inferred by a court.  That means, without an agreement, each partner’s share of a business will be assigned by a court if there’s a disagreement.  To avoid any ambiguity in the standing and share of each partner, an agreement is essential.

Shareholders’ agreements are far more common: here’s what they look like

Shareholders face similar problems to partners.  However, their conduct is governed by the Corporations Act, which does not require that a shareholders’ agreement be written.  So why should you draft such an agreement?  Shareholders possess equity ownership in a company.  They have the liberty of contributing to decisions, and selling their portion of the company.  As a result, their decisions can affect other shareholders, and the value of shares as a whole.

Consequently, it is important that shareholders are held to a certain standard of conduct.  For example, if you hold shares in your business, along with others, you may want to place some restrictions on the sale of those shares.  After all, the sale of shares at the wrong time, or to the wrong parties, may cause problems for your business.  But placing such constraints on shareholder conduct is not always possible without a shareholders’ agreement.  In a similar sense, shareholders won’t always agree on things.  That’s why you need some mechanism to break stalemates, and ensure your business continues moving forward.  Again, such mechanisms are offered by shareholders’ agreements.

When is the right time to draft a partnership or shareholders’ agreement?

The essence of any shareholders’ or partnership agreement is conflict resolution.  Disputes between shareholders or partners are a leading cause of commercial legal disputes as a whole.  But by the time those disputes are brought into litigation, irreparable and costly damage is done.  Worse still, there is often an accompanying loss of trust and communication between partners or shareholders.  At that point, agreeing on the terms of a partnership or shareholders’ agreement is likely to be almost impossible.  That’s why shareholders’ or partnership agreements are necessary from the outset.  When you agree to form a partnership, or when you incorporate a company, the immediate next step should be an agreement.

Taking that step is easiest with the help of an experienced commercial lawyer.  An experienced lawyer will offer your company two things: expertise, and communication.  Expertise is important, because it forms the basis of a strong and reliable agreement.  Communication is important, because it ensures that the agreement is reached via consensus.  All partners or shareholders need to be confident that the agreement is in their best interests, and the best interests of the business.  An experienced commercial lawyer will give you that confidence.

What should a partnership or shareholders’ agreement include?

By this point, it’s clear that partnership or shareholders’ agreements serve an important purpose.  But how can they achieve that purpose, specifically?  Well, it all comes down to the terms.  All commercial endeavours are different, as are all shareholders, and all partners.  Needless to say, agreements between them will differ too.  However, there are some elements that exist in almost all partnership and shareholders’ agreements.

They include things like voting rights; how are votes distributed, and how many are needed to pass a decision?  They also include things like structuring; who are the executives, and how will finances be organised?  Then there are procedural matters relating to remuneration, profit distribution, and capital contributions.  Finally, there are matters of termination, shareholder or partner exit agreements, and even succession in the event that a partner or shareholder passes away.  That is just a small cross section of what you’ll find in a standard partnership or shareholders’ agreement.  To gain a clearer understanding, speak with an experienced commercial lawyer.  Kafrouni Lawyers can help set your business up for success, with an agreement that covers all the bases.  Whether you’re starting a business, or have been running one for years, get in touch for professional advice.