First, before we get to the 3 reasons, let’s establish a quick difference between the Article of Association of the company and the Shareholders Agreement.
The shareholders Agreement is a private document and it represents a contract between you and your shareholders (owners of the Company)
It governs the relationship between the company and the shareholders of the company and contains provisions regarding how the company should be managed and by who. It also sets out the rights and obligations of the shareholders.
The Article of Association of the Company on the other hand, is a mandatory public document of the company. Every company is required to have it at the point of incorporating the Company.
The article of association is automatic and comes with the certificate of incorporation as attached documents and just like the shareholders Agreement; it also regulates the relationship between the Company and the shareholders.
It is however limited in scope. It is not as robust as the shareholders Agreement in terms of its provisions and that’s why I want to share with you, three (3) reasons why you still need the shareholders Agreement despite already having the article of Association of the Company at the point of incorporation.
1. Dispute resolution.
Conflicts are inevitable in a company. At some point in your business, you and your Co-founders are going to disagree on some issues and if not checked, the disputes can degenerate and even lead to possible breakdown of the Company.
It becomes even more difficult, if by your equity split, you have a 50/50 shareholding structure.
The article of Association does not provide for how these disputes can be resolved, and speaking of dispute resolution by the way, there are different ways to resolve these disputes and going to Court is the last thing you want to do as a business owner.
Just so you know, litigation (Going to Court) has the potential to cripple or even kill your business if it becomes protracted.
The shareholders Agreement being a private document usually contains provisions for dispute resolution and also provides for alternative means to resolve the disputes other than going to Court.
2. Share Vesting Schedule.
Share vesting is the process by which Co-founders earn their rights and benefits attached to their shares over a period of time.
These shares are usually vested over a period of four years (25% per year) with a one year cliff and usually contains the right of the company to repurchase unvested shares in the event that a Co-founder leaves the company before his shares becomes fully vested.
As important as this provision is to a startup, the model article of Association of the Company does not make any provision for share vesting.
A well prepared shareholders Agreement however will make an all encompassing provisions on vesting of founders shares, employee stock option and investors shares.
3. Last but not the least, Co-founders’ Exit.
Your Co-founder can just wake up one morning and decide to leave the company just like I mentioned above the article of association is limited in scope, it does not provide for what happens when a partner leaves the business.
A good shareholder Agreement will provide for possible exits of the Co-founders and the effect of the exit on the business. It contains provisions on what happens to the shares of an exiting partner.
The law does not make it compulsory to have a shareholders Agreement, however, smart business owners know and understand that it is very important to have a shareholders Agreement from the word go.
I hope this helps someone.
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