Shareholder Withdrawal Agreement
A shareholder withdrawal agreement allows small businesses organized as corporations to transfer the shares of a withdrawing shareholder.4 min read
Shareholders collectively own the corporation. Their common stock has three essential rights:
- The right to vote to elect members to the board of directors at the annual general assembly
- The right to receive a portion of the company's dividends, if applicable
- The right to receive a percentage of the company's liquidated assets, if the company dissolves.
A board of directors manages a corporation and acts on behalf of the corporation's shareholders. Though shareholders own stock in the company, if they don't hold the title of officer, director, or company employee, they don't have legal authority to take part in the day-to-day management of the company.
Shareholders may therefore leave a corporation without interrupting company operations. The shares are simply transferred to a new owner, whose information is taken down in the corporation's stock ledger.
Corporation owners are able to control the transfer of shares by putting provisions in place in the corporation's bylaws or by facilitating a separate buyout agreement. Common restrictions on share transfers are stipulations requiring that shareholders sell shares back internally to the corporation or to another shareholder.
To better facilitate share transfer, buyout agreements usually entail how much interest the withdrawing shareholder should be paid. Adding this detail means that the ownership transfer can be completed simply by carrying out a stock purchase agreement and recording the details of the exchange in the corporation's stock ledger.
However, ownership transfer can be complicated for various reasons. Smaller corporations may have few shareholders, each playing a pivotal role in the business. If an important shareholder leaves the corporation, it could leave a hole in the management structure of the corporation that can't be replaced by simply selling shares to a new shareowner.
If the shareholders haven't put a buyout agreement in place, disagreements could arise about how much interest the withdrawing shareholder should be paid. If they can't come to an agreement among themselves, shareholders may need to have a business valuation conducted by an outside party.
Clauses in a Shareholder Withdrawal Agreement
A shareholder withdrawal agreement has specific clauses to ensure the smooth transition of the shareholder out of the company.
Right of First Refusal: Under this clause, the shareholder withdrawing from the company must offer shares to associates in the company before offering to sell them to third parties. This clause exists to retain a proportionate amount of shares within the company, essential in maintaining the company's private status.
Mandatory Offer: This offer happens when the shares offered for sale do not depend on the desire of the bidder. This clause exists for the protection of the bidder's associates, even when the bidder doesn't intend to sell their shares.
Shotgun clause: Also called a buy-and-sell clause. Similar to the right of first refusal, this clause states that a shareholder must first offer their shares for sale to associates in company. If the associates aren't interested in buying these shares, they are obligated to offer their shares up to the bidder under the same conditions and at the same price.
Evaluation clause: This clause's function is to set the price of the actions. Regardless of whether the sale is voluntary or due to a death, this clause evaluates the fairest price. There are many different evaluation techniques including:
- Set market value.
- Performance value.
- Agreed value.
- Value determined by a third party.
Insurance clause: An insurance clause almost always accompanies a buy-and-sell clause, which states that the shares will be automatically purchased in the case of a shareholder's death.
Company purchase clause: If a shareholder needs to sell his shares to the company, the buy-and-sell agreement may stipulate that the withdrawing shareholder's shares be purchased by the company rather than the shareholder's associates.
The shares, when sold to other shareholders, provide a capital gain. If sold to the company, the shares provide the seller with taxable dividends.
Penal Clause: The penal clause helps simplify shareholder appeals by imposing penalties for shareholders who infringe on the agreement. The penal clause sets the penalty amount. It can also lower the price of shares of the shareholder who infringed on the agreement and force that shareholder to put their shares up for sale to other shareholders.
Vote clauses: These clauses exist to stop minority shareholders from having a say in the company's administrative decisions.
Administration clauses: These clauses define the parameters of administration, operations, and company financing to prevent majority shareholders from setting minority shareholders aside.
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