A shareholder agreement defines the relationship between the startup and the stakeholders and their rights including board seats, dividends, approvals and so on.
The initial shareholders may include your seed investors, friends and family, advisors, your chief technology officers or founders themselves.
Since these agreements are very detailed and complicated, they are a bit expensive and hence many founders avoid it. In my personal experience and opinion, I have found that it is very important to have some basic agreement between the shareholders. Answering some basic questions in the shareholders agreements gives you legal protection.
There are many decisions in a company that you may think should be understood as per you but the other shareholder has a different understanding of it and this may cause confusions and problems later on.
Definitely, it’s always better to hire a legal expert to prepare a document for you. But startup owners mostly have limited resources in the beginning and it doesn't make sense to hire a legal expert for 2000$ for basic agreement.
Many startup owners just exchange an email or a sign a basic document to reach a basic understanding on key things.
Here is my list of recommended questions that you should try to answer in a shareholders agreement.
1- Will there be a seat on the board?
This is very critical and mostly applicable to shareholders who hold a significant percentage of shares. Most startups have 3 to 5 board members. Board members have definitely much more power as compared to the normal shareholders and the decision to include them in a board is a critical one that must be very carefully considered.
2. Shareholder rights to inspect company records
Will the company management provide periodic reports (monthly, quarterly, yearly) to its shareholders or will shareholders have the right to ask the company anytime for general right to access the company records. It is advisable to keep it to just providing periodic reporting on a regular interval instead of inspection anytime as it can become tough over time.
3. Deadlock between shareholders
If the shareholders are also directors, and there is a deadlock between them. What would be the way to resolve such a deadlock? Do you involve third party experts, arbitrators or the chairman gets the casting vote? reaching an agreement on these question is critical for all startup founders and key share holders.
4. Competing with Company
Will the shareholder be allowed to compete with the company or only board members are not allowed to compete with the company? Will they be allowed to solicit customers, deal with suppliers etc?
5. Selling of Shares
Are the shareholders allowed to sell their shares? Can the majority shareholders require the minority shareholders to sell their shares if they have been made an offer?
6. Valuation of Shares
What will be the value of shares in case a shareholder decides to leave the company? Who will have the right on the shares? The existing shareholders, the company itself? Who will determine the value of shares? Third party or certain method?
7. Approvals
Are there matters that require the approval of a majority of shareholders or board members? What are those matters? E.g. changing name of company or nature of business of company or taking loan etc?
Final points
Most startup founders use templates to do most of their agreement especially in initial days. However, when the business starts to generate revenue and some funding, it is highly recommended to use legal experts.
We at ondemandstartups.com work with some funded startups as shareholders by giving our platforms against equity and customization on discounted development rates. We do have some experience and are happy to help founders. We are not legal expert but can always get valuable advice from our startup network for other founders.