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What Every Business Owner Needs to Know Before It’s Too Late
Incorporating a business in Alberta, like marriage, is one of the most exciting moments of a person’s life. Simply filing articles of incorporation under the Business Corporations Act, RSA 2000, c B-9 (the “ABCA”) creates a separate legal entity, limits liability with certain exceptions, and provides a formal entity for future growth and your business. However, incorporation alone is just the beginning to setting up your business for success. When there is more than one shareholder, a Unanimous Shareholders Agreement is one of the most common routes to ensure that, if two shareholders no longer agree, there is a structure to resolve the dispute. A Unanimous Shareholders Agreement is a corporate prenuptial agreement.
Disagreements between shareholders over money, control, succession, or strategy can disrupt operations, damage relationships, and, in some cases, destroy an otherwise successful business. However, a properly drafted shareholder agreement is one of the most effective tools available to manage that risk.
What Is a Shareholder Agreement? Why Is It Needed?
A shareholder agreement is a private contract between some or all the shareholders of a corporation. It usually sets out how the business will be governed and what happens when circumstances change or disputes arise. The key difference that makes a shareholder agreement a unanimous shareholder agreement (a “USA”) is that all of the shareholders of the corporation agree to a USA, including future shareholders. However, more parties can be (and often are) party to a USA, often the corporation itself and, for corporate shareholders, the principals of those corporate shareholders.
A USA is different from a corporation’s articles of incorporation or bylaws. The articles of incorporation establish the corporation’s legal structure. The bylaws address procedural governance. A USA, by contrast, addresses the practical and financial realities of running a business with other people. While a USA is usually set out during incorporation, they can be entered into an amended at any time as long as all of the shareholders agree to it.
For many Alberta corporations, the shareholders assume trust and goodwill are enough. Often, trust and goodwill are enough – until they aren’t.
Many shareholder disputes arise from very predictable events:
- One shareholder wants to exit the business
- The shareholders disagree whether to reinvest profits or pay dividends
- A shareholder disagrees with the business decisions of another shareholder
- A shareholder becomes disabled or dies
- A shareholder gets divorced or starts the process of a separating
- The corporation faces financial distress and needs either a new shareholder, new financing, or more money from its shareholders
Without a clear agreement in place, these events can lead to stalemates and business ceasing to operate or even years of litigation. Alberta courts have broad authority under the ABCA to grant oppression remedies where the Court is satisfied that a shareholder, director, creditor, or other stakeholders were treated unfairly prejudicially, oppressive, or with unfair disregard to their interests. However, that process is expensive, time-consuming, and uncertain.
Ideally, a well-structured, thorough USA will reduce the likelihood that a dispute escalates to litigation.
Key Clauses to USAs
Every USA should be tailored to every business and set of parties; however, it can be quite difficult to anticipate what may be needed. Most Alberta corporations should consider including the following types of clauses.
A. Buy-Sell Provisions
In general, most businesspeople do not want other shareholders to be able to sell their shares to completely unrelated third parties. This is why there are often restrictions on share transfers; however, these restrictions can vary a lot. There can be mechanisms provided that require a selling shareholder to provide other shareholders a first right to buy their shares before offering them up to other buyers (a right of first refusal). There can also be mechanisms that force one shareholder to sell to the other (a shotgun clause). Often, there may also be drag-along or tag-along rights. If a majority shareholder is given an offer to buy all of the shares of the corporation corporation, then the majority shareholder can force the other shareholders to sell with them (a drag-along clause). In contrast, if a majority shareholder is given an offer to just buy the majority shareholder’s shares, then the minority shareholders can elect to join the offer on the same terms (a tag-along clause), and the buyer of the shares can either agree to buy more shares than they may have initially considered or walk away. There may also be mandatory buyouts upon death or disability or even buyouts at a penalty of the share value for certain things (e.g., if a shareholder is found guilty of money laundering).
B. Valuation Mechanisms
Hand in hand with all the share transfer restrictions above, one of the largest aspects that folks care about is the value of the shares. Agreeing about how the shares will be valued ahead of time can preemptively avoid disputes and provide a lot of certainty for all parties, especially when emotions are high. However, all of the practical aspects of such valuation mechanisms should be addressed. Often, USAs will call for formal valuators; however, if only one shareholder is calling for a formal valuation, who should pay the cost of such a valuation? Things like that should be addressed in the USA.
C. Restrictions on Share Transfers
These provisions can prevent unwanted third parties, such as former spouses or competitors, from becoming shareholders in the corporation.
D. Governance and Voting Rights
What decisions require unanimous approval? What can directors decide independently? If a corporation needs to borrow money from the bank, what amount of money should require all the shareholders’ approval (if any amount of borrowing should)?
E. Non-Competition and Non-Solicitation Clauses
These are one of the most often overlooked clauses when entering into a USA initially because very few folks enter into a USA thinking about how they will compete in the future with their business. However, these are the key provisions that protect a corporation from a shareholder after they leave the corporation. Non-competition clauses protect the corporation from a leaving shareholder from immediately opening a competing business against the corporation for a set period of time. Non-solicitation clauses protect the corporation from a leaving shareholder from immediately poaching the corporation’s clients, employees, or other key contacts for a set period of time.
F. Dispute Resolution
Finally, another section of a USA that is often overlooked are the mediation or arbitration clauses. However, it is key to carefully consider whether or not a structured alternative to court proceedings is desired. Are these alternatives binding and final? Is there a right to appeal such a decision? What are the timelines and rules governing them? Who is selecting the mediator or arbitrator? What qualifications must they have? Sometimes, these mediation or arbitration clauses are so extensive and complicated that the civil litigation process would likely be faster and cheaper, so it is key to consider the goals of including the dispute resolution mechanisms in the USA. For some groups of shareholders, the privacy of mediation or arbitration is worth the possible additional cost and time.
Updating USAs
Many folks enter a USA when they incorporate their corporation, but then they never revisit it. This can be just as risky as not having a USA at all.
Like other documents in a person’s life, USAs should be reviewed and updated regularly. It is helpful to review your USA and ensure that it still reflects what is desired when:
- Bringing in new shareholders, new investors, new key employees, or new directors
- Expanding into new markets
- Starting new business ventures under the corporation
- Creating a subsidiary of the corporation
- Planning for succession
- Entering significant financing arrangements
- Awarding equity to key employees
- Your corporation’s share value substantially increases
For example, under a forced buyout, the other shareholders may only have 30 days to get the money together to buy out another shareholder. When the corporation’s total share value is $100, this amount of money may be much easier to get together in 30 days than when the corporation’s total share value is $1,000,000,000.
While all these milestones are exciting, growth changes risk profiles and may impact what the shareholders want to include in the USA. With that growth, the governance documents of a corporation should evolve with the business.
A Proactive Approach to Corporate Stability
Shareholder agreements and USAs are not about mistrust or pre-emptively planning for a breakdown of the business relationship. They are about clarity. They are about agreeing ahead of time (while everyone ideally likes each other) to the terms for what happens in the worst-case scenario (when it is less likely that everyone likes each other).
Clear expectations protect relationships. They provide certainty during difficult transitions. Most importantly, they allow business owners to focus on operating and growing their companies instead of resolving preventable disputes.
For Alberta business owners, taking the time to put a thoughtful agreement in place or reviewing an outdated one is often far less costly than managing a dispute after it arises.
Proactive corporate governance is not just a legal formality. It is a key, proactive business decision.
This post is meant to provide information only and is not intended to provide legal advice. Although every effort has been made to provide current and accurate information, changes to the law may cause the information in this post to be outdated.
