Whether you are setting up or growing a company and considering a shareholder structure, or if you’re investing in or joining a company and being offered shares, it can all seem very complex. Being a shareholder or being answerable to shareholders can involve both financial and professional responsibility but can also offer many rewards. In some cases, not only financial. Many shareholders’ agreements guarantee shareholders a say in the running of the company. For businesses, shareholders can also offer expertise or open doors for young and/or growing companies.
There are many variations of shareholders and, because a shareholders’ agreement is usually a bespoke contract, the terms of the arrangement can be tailored. However, there are a few types of shareholders and structures that are more common.
If you’re considering a shareholder structure in your company or are being offered shares in a company, then it may help to look at these different types of shareholders as possible options.
What Are Shareholders?
Shareholders may be involved in both private and public companies, although private companies tend to have fewer shareholders. As we will discuss, some shareholders will hold voting rights whereas others won’t, and some will play active roles within the organisation while others are investors only.
Shares are a way in which you may divide up ownership of a company. Rather than being owned by one sole person, usually the founder, the organisation will be co-owned by two or more persons or even other organisations. Shareholders own shares that they may have been gifted or may have bought, and these offer them a financial investment in the business. It may also offer them input into decisions or even voting rights.
What Are The Benefits Of A Company Shareholder Structure?
A company may begin with shareholders, for instance, if you begin the business with other partners, or you may accumulate shareholders as you grow. This may be because you incentivise employees with shares or you may use shares to raise investment to start or grow the company. Some of the benefits of a company shareholder structure may include:
- Allow employees to invest in the future of the company which can inspire loyalty and increase productivity
- Raise funds to invest in growing the company
- Bring in expertise, especially at the board level, to help make key decisions and offer informed insights
- Access to suppliers, distributors, clients, retailers or other potential partners that a shareholder may be able to connect the company with
- Increase trust in the brand through association with other trusted or knowledgable professionals or organisations
Non-director shareholders have limited influence over the day-to-day running of the business. Depending on the types of shareholders, their role may be to attend shareholder meetings, offer their input on larger issues and vote when required. Sometimes shareholders won’t hold voting rights and the key appeal is their cash investment. Other times, investors may become shareholders because they offer the company expertise it lacks or opportunities for growth through the investor’s existing business relationships. This is often the case for those seeking investment on the popular BBC programme, Dragons’ Den, for example.
Types Of Shareholders – Directors and Members
There are several reasons why you might adopt a shareholders’ agreement in your company. There are also different types of shareholders, including members shareholders who are not typically employed by the company. You may attract members shareholders through a need to acquire investment. Some new businesses may undergo fundraising pursuits whereby they seek investment from venture capital investors or angel investors in exchange for company shares. This brings many benefits for both the company those members shareholders. More established businesses may also seek investment to scale up. In this case, businesses may be looking as much for useful connections as for monetary investment.
Of course, the most common type of shareholders we come across, as a legal professional comparison platform, is company directors as shareholders. When a business is started by more than one person, the founders will agree upon how they share ownership of the business, both in terms of work distribution but also how voting rights and profits are divided. To define this and protect each party, a Shareholders’ Agreement will usually be drawn up. This should be actioned as soon as possible to set expectations and avoid any misunderstandings or frictions between company owners. Shareholders’ agreements may be updated and amended as the company changes. Although it is possible to download a template, this is a highly important contract which may end up having a huge impact on what each company owner gains from the business in the long run. Therefore, it is well worth referring to a legal professional either to draw up or check over your Shareholders’ Agreement. Compare shareholders’ agreement lawyers here.
What Are Preferred Shareholders?
Simply put, preferred shareholders are priority shareholders. They may be paid dividends before ordinary shareholders and they may even have fixed dividends in place which can be defined in the Shareholders’ Agreement. Furthermore, in the case of company liquidation, the preferred shareholders will be paid first, after the creditors. In the case of members’ voluntary liquidation, this can be lucrative. In regards to liquidation due to insolvency, how much, if any, funds a preferred shareholder receives depends upon the remaining assets after creditors have been paid.
The disadvantage to preferred shares is that preferred shareholders do not usually have voting rights. Shareholders who are happier to be investors and trust the directors to make the right decisions regarding the future of the company may prefer this. Company directors may also seek preferred shareholders when the key advantage of shareholders is their monetary contribution. For example, if an investment is needed to expand or reach new marketplaces. Angel Investors may require preferred shares as they are generally lower risk, although they can also be lower return in the long run. Although preferred shareholders do not usually receive voting rights, this does not mean to say they won’t have an impact on the company. An angel investor, for instance, may bring with them their black book of contacts or be able to secure meetings and introductions that can offer significant opportunities for growth, distribution, and/or media coverage.
Preferred shares and ordinary shares are both types of equity shares, however, ordinary shares have some key differences, as below.
What Are Ordinary Shareholders?
Ordinary shares are the most common, hence are also known as ‘common shares’. Founders and company directors may own ordinary shares but these may also be bought by investors. Each share offers one vote on board-level decisions. These relate to votes that would be held at shareholder meetings, which you would, as an owner of ordinary shares, have a right and even obligation to attend. Decisions made at this level would usually be the larger ones concerning such things as partnerships, investments, key roles and appointments at the board level, etc.
There are often higher numbers of ordinary shareholders in large companies and organisations, with very different roles – some directly involved with the business operation, and others purely motivated by their investment returns. Smaller, private companies tend to have fewer ordinary shareholders. These are often directors with a direct role and responsibility for the operation of the business.
Ordinary shareholders may experience many benefits, aside from having voting rights. They may be paid in dividends each year, earning themselves healthy returns. You will also be able to sell your shares should you want or need to and if the company is sold or made public you could find the value of your shares has increased considerably.
The main disadvantage to ordinary shares is that you’re not guaranteed dividends, as you would be as a preferred shareholder. Your return will depend on how the company is performing. In the case of company liquidation, you also be paid last after creditors and preferred shareholders.
The advantage of ordinary shares is that they’re the most common and do not generally require a considerable amount of time or effort to manage. Aside from the occasional shareholders’ meeting, you will not be required to participate in the company at all, unless of course you also work there. Ordinary shares are often offered to employees in the early stages of a start-up. This may be because a start-up recognises the considerable part an employee is playing in building the business and wants to ensure they are rewarded financially for their impact on the future company’s success. Shareholder arrangements with employees can be an ethical practice when the will is right. However, some start-ups have been known to use share arrangements to justify paying lower wages, even when the company begins to make a profit.
Employees may also be offered non-voting ordinary shares which do not carry the right to attend shareholders’ meetings or to vote. This is far more common with employee shares, especially because even in a larger organisation you do need to limit voting shareholders to make the decision making process manageable.
If you are offering employee’s voting or non-voting shares then Search LegalDrop’s online platform to find a legal professional able to help with the written statements employees require when being awarded ordinary shares.
Why Do I Need A Shareholders’ Agreement?
The Shareholders’ Agreement delivers regulations, providing security for those with less than 50% of the issued share capital from vulnerabilities. Without an agreement, it would be easier for majority shareholders to overrule minority shareholders during crucial decision-making and even buy them out against their will.
Majority shareholders may need protection against company directors if they don’t hold any board-level power or representation. Also, they may require legislation to manage shares when they want to sell or during disputes over ownership and allocation when minority shareholders are selling, forcing a majority shareholder into a disagreeable situation.
The above is intended as guidance only and does not substitute legal advice. Please browse our existing Shareholder services or get in touch with LegalDrop via our contact page if you need assistance.