19 Feb Shareholder Agreement: 3 Reasons Startups Take Big Risks Without One
First, congratulations are in order. So…congratulations! You’ve decided to start a business and in your search for the next steps, you’ve come across the common question: Do I need a shareholder agreement?
Kudos to you for doing your due diligence and researching the topic, as this is one that is often overlooked, which can be detrimental to your business in the long run.
Imagine: you spend months or years bootstrapping your business, working long days that blend into sleepless nights, and in your first year of profitability, turmoil seeps its way into your doors. This could be in the form of a disgruntled co-founder, or simply one who is looking to take what you believe is rightfully yours.
Without a written agreement in place, you could find yourself in a constant struggle for control, leading to animosity between owners and becoming the dark cloud over what was once a promising, upbeat business.
So do you really need a shareholder agreement? The answer is Yes. Absolutely. A shareholder agreement describes the rights and obligations of the shareholders and can help prevent future disagreements between owners.
1. Solidify the decision-making process
Are you in a partnership? If so, are you 50/50 partners? This seems like the fairest way to evenly split a partnered business but isn’t so when it comes to decision-making.
If in a 50/50 partnership, procedures must be put in writing to solidify how disputes will be resolved. Having this gives you the security to know that your company can continue operating even when the partners are not in agreement.
Businesses with more than two owners may not have this issue. In a business with three owners, for example, a partnership can be distributed evenly— 33 1/3% for each partner—and votes can be taken in a dispute to reach a majority. But this still won’t work seamlessly in all circumstances.
You need a shareholder agreement to put in writing who has the decision-making power when issues arise. This can be the case with larger organizations as well, whose minority shareholders can also be given decision-making capabilities.
With a shareholder agreement in place, there is no question as to who has executive ruling on certain decisions.
2. Resolve disputes within the organization
Disputes within a company don’t simply happen due to two co-founders bumping heads over the marketing budget. Issues within an organization can go much deeper and the deeper the cut, the more the company bleeds.
When groups of people are around each other for extended periods of time—and in the case of a startup, you spend a lot of time together—it’s inevitable that disagreements will arise.
3. Regulate sales of company shares
Are you a minority shareholder and the sole majority shareholder wants to sell shares of the stock? Without some sort of agreement in place, what’s to stop that person from selling to an outsider? Or a competitor?
A stipulation can be put into place where shares being sold must go through a specific process, ensuring current shareholders have the right to first purchase. This process, though, can only be done in writing, which is why you would need a shareholder agreement.
Do you need a shareholder agreement for your business?
Don’t be one of the 20% of businesses that don’t make it into Year 2.
Big or small, companies formed as a corporation with shareholders need to ensure they have plans laid out in the event of a dispute. It may seem uncomfortable to ask your co-founders to put a shareholder agreement in place, but it will pay immensely in the end.
Don’t work hard to build your organization just to see it crumble at the hands of a simple dispute. If you need a shareholder agreement and are unsure of where to begin, be sure to check with your attorney. Want more business startup information? Check out our 6 Agreements Every Startup Needs.