What a shareholder agreement does, why a template will not cut it, and the clauses that prevent the most disputes.
Most business disputes that end up in litigation could have been avoided – or resolved far more cheaply – if a properly drafted shareholder agreement had been in place from the start. Yet many founders either skip the document entirely or rely on a generic template that fails to address the realities of their specific business and relationship.
What a shareholder agreement actually does
A shareholder agreement is a private contract between the shareholders of a company. It operates alongside the company constitution and the Corporations Act 2001 (Cth) and deals with matters those documents either do not address or address inadequately – particularly in closely held private companies.
A well-drafted shareholder agreement will cover: how major decisions are made, what happens when shareholders disagree, how shares can be sold or transferred, what happens if a shareholder wants to leave, and what restrictions apply on competition or use of confidential information.
Why a template will not cut it
Template agreements available online are drafted for a hypothetical average company and average relationship. They do not account for your specific business structure, the relative contributions of each founder, your industry, your growth plans, or the personal dynamics between the people involved.
In In the matter of Munja Bakehouse Pty Ltd [2024] NSWSC 6, the NSW Supreme Court ordered the winding up of a business on just and equitable grounds. The court expressly noted that the parties had not put in place a shareholders' agreement, were in dispute about their respective roles, and that the continuation of the association would be futile given the breakdown in trust. A properly negotiated agreement could have established a dispute resolution mechanism and avoided the winding up entirely.
The clauses that prevent the most disputes
Decision-making and reserved matters
Clearly define which decisions require unanimous consent of all shareholders versus a simple majority. Reserved matters typically include issuing new shares, taking on significant debt, changing the nature of the business, or making large capital expenditure. Without this, a majority shareholder can make decisions that significantly affect minority shareholders with no recourse.
Deadlock provisions
In 50/50 companies, deadlock is an ever-present risk. Without a mechanism to break it, the company can become paralysed. Deadlock provisions might include escalation to senior management, mediation requirements, a casting vote for the chair, or a shotgun (buy-sell) clause as a last resort.
Drag-along and tag-along rights
Drag-along rights allow a majority shareholder to compel minority shareholders to join in a sale of the company on the same terms – preventing a small shareholder from blocking an otherwise agreed exit. Tag-along rights protect minority shareholders by ensuring they can join a sale on equivalent terms, preventing the majority from selling and leaving them behind. Both are essential in any agreement where exit is a realistic prospect.
Pre-emptive rights on share transfers
If a shareholder wants to sell their shares, existing shareholders should generally have the first right to purchase them at the offered price. Without this clause, a shareholder could sell to a third party – including a competitor – without warning.
Leaver provisions
What happens when a founder or key shareholder leaves the business? Good and bad leaver provisions determine whether a departing shareholder receives full market value for their shares (a 'good leaver' who leaves due to death, disability or mutual agreement) or a discounted amount (a 'bad leaver' who resigns or is terminated for cause). Without these provisions, a departing shareholder retains their full shareholding and all associated rights – regardless of how or why they left.
Non-compete and confidentiality
A shareholder who leaves and starts a competing business can cause enormous damage. Non-compete clauses must be carefully drafted to be reasonable in scope, geography and duration to be enforceable under Australian law. Confidentiality obligations should survive the end of the shareholding relationship.
The bottom line
The best time to negotiate a shareholder agreement is before there is any dispute – when all parties are aligned, optimistic and willing to compromise. Once a dispute arises, the negotiation becomes adversarial, expensive and often impossible.
This article is general information only and does not constitute legal advice. For advice specific to your situation, please contact Abbots Legal.