What types of issues do stockholders agreements usually cover?
Stockholders agreements are optional–there is no law requiring them. Without a stockholders agreement, corporations are governed by the applicable corporate statute, their formation documents (the certificate of incorporation), their by-laws and the grant or subscription agreements entered into by the company and the founders.
Stockholders are typically required by outside investors, and usually deal with a range of matters:
- Investors’ rights to block or veto key corporate decisions (for example, whether the corporation can change its business plan or incur debt)
- Investors’ rights to take-up their pro rata share of any new securities the corporation issues in the future at the new issue price.
- Rights of first refusal (ROFR) for the corporation and/or other investors, giving them rights to purchase any shares that stockholders propose to sell before the shares can be sold to a third party.
- Drag-along rights forcing minority stockholders to sell their shares in an acquisition that is supported by majority stockholders.
- Tag-along (or co-sale) rights that give minority stockholders the right to participate in a sale of shares transaction where majority stockholders are selling.
- The size of the board and who sits on the board of directors, including any rights specific investors have to place their representatives on the board.
- The corporation’s rights to buy back departing employees’ or founders’ shares.
- Confidentiality provisions and information rights.
A single stockholders agreement or a series of agreements (e.g., a separate ROFR Agreement, Voting Agreement and/or Founder Share Restriction Agreement) may be used to address these items.
When should you enter into a stockholders agreement?
For emerging companies seeking external investment, whether founders should enter into a stockholders agreement before getting outside investment is debatable. Outside investors usually require substantial changes to existing stockholders agreements, so negotiating an agreement before securing external investment can feel like a waste of time and money. On the other hand, if a dispute among founders emerges before outside financing is raised, the parties will be grateful a well-drafted stockholders agreement is in place. Startups that do establish a stockholders agreement early on, should avoid unanimous consent for actions such as the amendment of the corporation’s certificate of incorporation (or the agreement itself), as an unhappy founder could use these provisions to block future investment or potential exit.
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