Why you need a shareholder agreement

 

While it is an emotive subject, failure to have a shareholders agreement on death could have disastrous consequences for the surviving business owners, and indeed the deceased shareholder’s family.

 

On the death of a shareholder their shares in the company would form part of their estate and be passed to the beneficiaries of their Will (usually family).

 

Without a shareholder agreement those shares may be retained by the deceased’s family members who have little interest in (or ability to contribute to) the business, or potentially the shares could be sold to a third party. This can have serious implications especially if the majority shareholder dies.

 

It is important for owners and managers to have a shareholder agreement on death. The most commonly used is the ‘cross option agreement’. This simply states that if a shareholder dies the surviving shareholders have the option to buy and the deceased’s estate has the option to sell the shares within a certain time. Should either party exercise their option then the other has to comply.

 

The value of the shares is included within the agreement – either as a fixed amount (which should be regularly reviewed) or based on the value of the company at death.

 

The benefits of this are readily apparent – control of the business is retained by the surviving shareholders and the deceased’s family receive ‘fair value’ for the shares being given up.

 

Should a shareholder die, the surviving shareholders will need the cash to purchase the shares. This could be funded from cash or bank lending, but a more cost effective option is for the shareholders to establish protection policies.

 

We have worked with our clients to ensure that they are aware of the financial impact of not having suitable shareholder agreements in place, but there are still too many businesses who overlook such an important provision. It can be a depressing topic but the consequences of failing to protect the business can be much gloomier.

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