How can the shareholders agreement focus everyone on value?

A private company is often governed by a shareholders agreement. How can the shareholders agreement focus the owners, board and management on growing value?

Before starting on the shareholders agreement, there must be a common understanding of objectives.  The shareholders may have different objectives.  The purpose of negotiation is to minimize any conflicting objectives and establish a common understanding of the rationale for each shareholder’s objectives.

  • What will be the business scope, purpose and timeframe? E.g. limit to geographic scope and the products and services to be provided.
  • What types of contributions or help will the shareholders provide? E.g. this can be capital, taking advantage of the shareholders network of relationships, etc.
  • What decisions will be made by the shareholders, the board or the CEO? The shareholders will make the most important decisions.
  • What will be the shareholder decision making process? There will need to be organized meetings with minutes documenting the decisions made
  • What will be the dispute resolution mechanism? Especially challenging can be when the objectives and rationale for a shareholder being there changes.
  • What will be the process for exiting or transferring ownership? There can be limited or who shares can be sold. e.g. competitors.
  • How will the shareholders extract value? Value can be extracted in many ways such as providing products and services to the shareholder. Cash, in terms of dividends and share sale, are not the only ways a shareholder can extract value. Different shareholder may extract value in different ways.

The CEO (if there is an established business) needs to be part of these discussions.  There is no point establishing expectations which the CEO cannot meet.

Once the negation process for expectations are complete, then the lawyers will create the shareholders agreement.  Not all expectations can be translated into a legal binding document. Once again, there will be negotiation.

The shareholders agreement must be implemented, which can affect:

  • The reporting to be providing to shareholders.
  • The organization and conduct of shareholder meetings.
  • The impact on company governance (vision, mission, goals, strategies, objectives, etc. must all align with the shareholder expectations and agreement).
  • The selection of board directors.
  • The expectations document and shareholders agreement may need to be revised as circumstance change.
  • etc.

What are some of the implications of a shareholders agreement?

  • There is another layer of governance, above the board of directors. The board will have to deal with the shareholders and be obligated to implement decisions made by the shareholders.  The CEO (and management) will have to deal with two decision making groups: the board and the shareholders.
  • The board is more of an advisory and oversight board because the major decisions impacting value growth and preservation and made by the shareholders. Directors will need to understand their different role.
  • CEO and management compensation may be different, especially if there are objectives other than growing profits or constraints on what the company can do.
  • Shareholder objectives will guide all company policies and governance processes. E.g. enterprise risk management will have to consider the shareholder objectives.
  • The shareholder objective guide the strategic and business planning to ensure the company is focused on the shareholders.

To enable discussion with your investors, board and management, download the following one-page slide:

How can the shareholders agreement focus everyone on value?