Do I need a shareholders' agreement?

If your company has more than one shareholder, yes, you almost certainly need a shareholders' agreement. If you are the only shareholder, you do not need one yet, but you will the day you bring in a partner or an investor.

The reason is simple. When you register a company with the Companies and Intellectual Property Commission, it gets a Memorandum of Incorporation. Most small companies use the standard short form, which says almost nothing about what happens when the owners disagree, when one of them wants out, or when the business needs money and only one shareholder can put it in. A shareholders' agreement fills that gap. It is a private contract between the shareholders, and usually the company too, that sets the rules for how you will own and run the business together.

The Companies Act 71 of 2008 allows shareholders to sign such an agreement. It also sets a firm rule: where the agreement conflicts with the Memorandum of Incorporation or with the Act itself, the Memorandum of Incorporation and the Act win. That is why the two documents must be drafted, or at least checked, together.

What a shareholders' agreement does, step by step

Think of it as answering, in advance, the questions that end friendships.

Who decides what. The agreement lists ordinary decisions the directors can take on their own and "reserved matters" that need shareholder approval, often by a higher majority. Reserved matters typically include borrowing above a set amount, selling major assets, issuing new shares, changing the nature of the business, paying directors, and taking on a new partner.

Who puts in money. It records what each shareholder contributed at the start, whether anyone lent money rather than buying shares, and what happens if the company needs more. Can a shareholder be forced to contribute? If one contributes and another does not, does the one who paid get more shares?

How shares change hands. Almost every agreement stops a shareholder from selling to an outsider without first offering the shares to the existing shareholders at the same price. These are pre-emptive rights. Drag-along rights let a majority that has found a buyer for the whole company force the minority to sell on the same terms. Tag-along rights do the reverse: if the majority sells, the minority may insist on being included so they are not left behind with a stranger.

What happens on deadlock. Two shareholders with fifty percent each can paralyse a company. Deadlock clauses set out an escalation: a cooling off period, then mediation, then a mechanism that forces a resolution, such as one shareholder naming a price at which they will either buy or sell.

How someone leaves. Death, disability, resignation, retirement, insolvency, or being removed as a director are all trigger events. The agreement says whether the leaver must offer their shares, who may buy them, how the price is worked out, and over what period it is paid. "Good leaver" and "bad leaver" terms often set a lower price for a partner who leaves in breach.

Restraints and confidentiality. A shareholder who leaves should not be free to open up across the road with the customer list. A restraint of trade must be reasonable in its area, duration and scope to be enforced, so ask an attorney to keep it modest rather than sweeping.

Dispute resolution. Negotiation, then mediation, then arbitration or court. Read how to resolve a dispute between business partners for what happens when this clause is missing.

A worked example: Umlazi Fresh Produce (Pty) Ltd

This example is illustrative only.

Three friends, Zanele, Thabo and Priya, start a vegetable distribution business. Zanele puts in R150 000 and a bakkie. Thabo puts in R50 000 and runs the operation full time. Priya puts in R100 000 and keeps her day job. They agree on shares of 50, 20 and 30 percent, register with the CIPC using the standard Memorandum of Incorporation, and shake hands on the rest.

Eighteen months later Thabo, who does all the work, feels underpaid. Priya, who is never there, blocks a salary increase because it reduces her dividend. Zanele wants to borrow R400 000 for a cold room and the other two are nervous. Then Thabo gets a job offer and wants to sell his 20 percent to his cousin.

With no agreement, nothing stops Thabo selling to the cousin. Nothing says how the cousin's shares are valued. Nothing forces Priya to contribute to the cold room, and nothing says what happens to her shareholding if Zanele funds it alone. The business stalls while they argue, and an attorney is eventually paid R45 000 to negotiate an exit that a R15 000 agreement at the start would have covered in two clauses.

With an agreement, Thabo must offer his shares to Zanele and Priya first at a price set by the valuation formula. The cold room is a reserved matter needing 75 percent approval, which means Zanele needs one of the others to agree. A shareholder who declines to fund a call is diluted according to a set formula. Thabo's full time role is covered by a separate service agreement with a market salary, so his pay is not a dividend fight.

What to do this week

1. Find your Memorandum of Incorporation. If you do not have it, request it from the CIPC. Check whether it is the standard short form or a customised one, because a customised one may already have rules that a new agreement must respect.
2. Write a one page term sheet. Who owns what, who works in the business, who contributed what, what decisions need everyone, and what happens if someone leaves. Do this before you see an attorney. It cuts the drafting time in half.
3. Agree a valuation method in principle. A multiple of profit, net asset value, or an independent valuer. Choose something you could actually apply.
4. Separate roles from ownership. Anyone who works in the business should have an employment or service agreement with a salary. Owning shares and earning a wage are different things.
5. Get a quote. See what a small business attorney costs.

Documents and records to set up

• The Memorandum of Incorporation, and any amendment filed with the CIPC.
• The shareholders' agreement, signed by every shareholder and by the company.
• The securities register, which every company must keep, showing who holds which shares and every transfer.
• Share certificates, or a record of uncertificated shares.
• Loan agreements for money lent to the company by shareholders, so that a loan is not later argued to be a gift or share capital.
• Service agreements for shareholders who work in the business.
• Minutes of shareholder and director resolutions, including the resolution that approves the agreement.
• Beneficial ownership filings with the CIPC, which are now required.

Realistic timeline

• Term sheet between the shareholders: one to two weeks of honest conversation.
• First draft from an attorney: one to two weeks after instructions.
• Negotiation and revisions: two to four weeks, longer if each shareholder has their own attorney.
• Aligning the Memorandum of Incorporation and filing any amendment with the CIPC: two to six weeks, depending on CIPC turnaround.
• Signature: a day.

Six to ten weeks from start to finish is normal for a small company.

Common mistakes and what they cost

• Signing an agreement that contradicts the Memorandum of Incorporation. The clause is void to the extent of the conflict. You paid for a clause you cannot enforce.
• Fifty-fifty with no deadlock clause. The likely end is a court application, which costs far more than the agreement would have.
• No valuation formula. Every exit becomes a fight about price. Expect an independent valuer's fee and weeks of delay.
• Copying a template off the internet. Foreign templates refer to laws that do not apply here, and local ones often predate the current Companies Act. A review costs less than a dispute.
• Leaving the working shareholder without a service agreement. Salary disputes turn into shareholder disputes.
• Not signing it. A draft that sits in a drawer for two years is not an agreement. If the relationship sours, an unsigned draft carries little weight.
• Forgetting the spouse. Where a shareholder is married in community of property, the shares form part of the joint estate, and the agreement should deal with what happens on divorce or death.

If you cannot afford an attorney

A shareholders' agreement is a document you want drafted properly, but there are cheaper routes to most of the value.

The Companies and Intellectual Property Commission publishes the standard Memorandum of Incorporation forms and guidance on amending them at no cost beyond the filing fee. The Companies Tribunal offers free or low cost alternative dispute resolution for certain company disputes and can be a place to take an argument between shareholders before it reaches court. The Small Enterprise Development Agency provides free business advice and can point you to subsidised legal support. University law clinics in most centres take on small business matters, subject to their own means tests. If you fall below the means test, Legal Aid South Africa on 0800 110 110 may assist with a civil dispute, though it does not usually draft commercial agreements.

If a money dispute with a co-shareholder ends up as a claim for a fixed sum, the Small Claims Court can hear it up to its limit, but only if the claimant is a natural person. The company itself cannot sue there. Check the current limit with the Small Claims Court calculator.

Frequently asked questions

Is a shareholders' agreement legally required? No. The Companies Act 71 of 2008 permits one but does not require it. The Memorandum of Incorporation is the only compulsory constitutional document. In practice, any company with two or more owners is exposed without one.

Can we just amend the Memorandum of Incorporation instead? You can, and some rules belong there because the Memorandum binds future shareholders automatically and is a public document. But a shareholders' agreement is private, is easier to change, and can cover personal arrangements between shareholders that do not belong in a public document. Most small companies use both.

What if one shareholder refuses to sign? Then there is no agreement binding that person. You cannot force a shareholder to sign. That is why the agreement should be signed before the shares are issued, or as a condition of the investment.

Does it need to be notarised? No. Ordinary signature by each party is enough.

Can it be changed later? Yes, by written amendment signed by all parties, or by whatever majority the agreement itself provides for.