Starting a Business: The Basics of Shareholder Agreements
Whether it be a labor of love amongst friends, an entrepreneurial project, or another step for seasoned business veterans, starting a new business can be an exhilarating endeavor. Though exciting, starting a business also comes with risks that need to be addressed, as well as a multitude of practical and potential issues that require attention head-on.
At Hendershot, Cowart & Hisey, P.C., our Houston-based business law and litigation attorneys have worked with individuals and businesses of all sizes across Texas and the U.S. Our comprehensive services in this area of law provides us with insight into common pitfalls companies may face in the future, and have honed our proactive approach to preventing disputes that can disrupt or devastate a business and its key players. On this blog, we discuss some of the basics about the importance of shareholder agreements when starting a business.
Business Formation: Preparation & Planning
As the saying goes, “an ounce of prevention is worth a pound of cure.” This is especially true in business, where successful companies are those which proactively plan for the “what ifs.” The benefits of preparation and planning during business formation cannot be understated – and the importance of ensuring issues are clearly addressed with the help of proven lawyers is invaluable.
Those who fail to properly prepare when starting a business face innumerable risks, including:
- Greater potential for disputes disagreements
- Increased exposure to risks, including costly litigation
- Higher taxes and business expenses
- Significant and avoidable liabilities
- Regulatory compliance issues, violations, and penalties
- Unprotected intellectual property and trade secrets
- Disruption of business relationships and transactions
Why Shareholder Agreements Matter
Though there may be many moving parts to address in a businesses’ early stages, creation of a shareholder agreement is one of the most important steps to take. Shareholder agreements are binding and legally enforceable contracts that establish the original intent, deal, and any anticipated (and even unanticipated) problems that may arise in the future between parties involved. Even among the best of friends, there is no immunity from the potential for disagreement, which is why the use of such legal measures are so highly valued.
Carefully crafted shareholder agreements can help companies:
- Avoid conflict and disputes by outlining clear and agreeable terms
- Provide strategies for dealing with conflicts, and provide a starting point when disputes arise
- Regulate aspects of an individual’s rights and procedures for issues such as buyouts
- Protect a businesses’ integrity and its shareholders’ rights
- Prevent business fraud and compromised competitive interests
- Protect minority shareholders and prevent squeeze-outs and freeze-outs
What Shareholder Agreements Can Cover
Shareholder agreements should be customized to the specific needs of a business. Because they are voluntary and consensual agreements, the terms and conditions they contain should also be reasonable and subject to negotiation upon initial drafting. Though every business is different and while shareholder agreements can vary from company to company, they do typically address some key issues and potential areas of conflict.
Common characteristics of a shareholder agreement include:
- Preamble – Identifies parties (i.e. the corporation and shareholders) to the agreement.
- Recitals – Reasons for establishing the agreement and its objectives.
- Optional or Required Terms – Shareholder agreements must clearly outline the circumstances under which certain terms, such as the buy-back of shares, will be optional or required. For example, a company “shall” require the purchase of shares from a departing shareholder, or “may” provide for that option. Semantics are important.
- Control & Management – This may include:
- The number, seniority, and roles and responsibilities of shareholders
- Who can serve on the Board of Directors and individual voting rights
- Procedures to designate, replace, or remove company officers
- Options for the removal of potentially harmful shareholders
- Ownership Interests – Which may include:
- Nature / amount of initial contributions
- Structure of equity compensation, stock options, vesting options, and method of share valuation
- Conditions by which company shares can be sold (i.e. right to first refusal)
- Procedures for buy-sell agreements / buyouts
- Responses following shareholder death, disability, resignation, or retirement
- Methods to evaluate, prevent, and resolve shareholder disputes
- Prevention of shareholder oppression
- Competitive Interests – Protecting a company’s competitive interests through:
- Non-disclosure, confidentiality, and non-compete agreements
- Protecting intellectual property and trade secrets
- Compliance plans, ethical or environmental practices, etc.
- Licensing and technology development
- Acquisition of key assets, equipment, or real estate
- Governing and applicable laws (i.e. health care regulations for medical businesses)
Houston Business Lawyers Trusted Throughout Texas
Shareholder agreements are the backbone of a successful business venture, and our team at Hendershot, Cowart & Hisey, P.C. is dedicated to ensuring they are properly drafted, reviewed, and tailored to the specific needs of clients. Throughout the years, our legal team has been trusted by start-ups and businesses of all types, and has been recognized for our thorough and comprehensive approach to everything from entity selection and business contracts to regulatory compliance, enforcement, and litigation.
To learn more about our services, or to discuss a potential business formation or shareholder agreement with an attorney from our team, call (713) 909-7323 or contact us online.