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Shareholders naturally play an important role in the company. Their investment raises capital which then goes into the company, giving it a chance to experience growth.
However, investing funds into a company can be tricky business with various risks involved. That’s why pre-emptive rights clauses are often included inside the company shareholders agreement.
Keep reading to learn more.
How Do Shares Work In A Company?
Shares are what an investor receives when they place their money into a company. In exchange for putting their funds into the company, they then receive a percentage of ownership of the company which is known as their shares.
The way that a shareholder can manage their shares and their ownership rights to it are governed by a Shareholders Agreement and a Company Constitution.
| Example Jamie invests $100,000 into a company. As a result of his investment, he receives 10% shares in the company. |
The amount of shares an investor receives for the money they placed into the company will depend on the size and value of the company. For example, in a bigger company, $X can be worth a small percentage of shares whereas in a different company, it can be worth a lot more.
What Are Pre-emptive Rights?
Pre-emptive rights are essentially an agreement that lets certain shareholders have a right of first refusal when it comes to shares being offered to the public. When a shareholder is guaranteed pre-emptive rights, the shares that are being sold are offered to them first.
If they refuse, those shares can then be offered to the public. If they accept, they have the option to grow their investment in the company.
Pre-emptive rights can be attractive to many shareholders as they give them the option to retain a certain amount of ownership of the company. This is particularly important for instances that can be out of their control, such as when the company undergoes changes like a current shareholder dropping out or the company going public.
The shares accumulated from having pre-emptive rights are also usually proportionate to the current shares a shareholder is in possession of.
How Do I Give Pre-emptive Rights?
Pre-emptive rights should always be in writing. It’s usually set out as a provision in a shareholders agreement which is signed when an investor decides to place their funds into a company.
When Would I Give Shareholders Pre-emptive Rights?
Generally, shareholders are given pre-emptive rights at the beginning of their relationship with the company. As we mentioned above, they are included in the shareholders agreement which is signed by the investor when they join the company as a shareholder.
Pre-emptive rights are often used as incentive for shareholders that have invested in a company when it is still in its early stages. It can also be considered a kind of compensation for the risk they have undertaken.
Do I Need A Pre-emptive Rights Clause?
Yes – as we mentioned above, it’s important to have a pre-emptive rights clause if you plan on offering pre-emptive rights to your shareholders and they accept.
A pre-emptive rights clause should address matters such as the terms of the rights being offered, a description of what the pre-emptive rights exactly are in this scenario, the circumstances under which the rights can be invoked as well as any restrictions or limitations.
Writing these clauses can be somewhat precarious – it’s best to get a legal professional to assist you here.
How Do I Transfer Shares To Another Person?
The transfer of shares to another person will likely be set out in the Shareholders Agreement or the Company Constitution. These internal documents will inform a shareholder of the process they need to undergo when transferring their shares to another person, such as giving the other shareholders a right of first refusal.
Once the company’s internal processes have been satisfied, shares are transferred like most other transactions.
The purchaser of the shares pays the original shareholder the amount they have agreed upon, after which the shares are transferred to them. Once a new shareholder has been initiated into the company, you then have 28 days to notify the Australian Securities and Investments Commission (ASIC) of the change.
What Does A Shareholders Agreement Cover?
A Shareholders Agreement is a legally binding, governing document between all the shareholders of a company. It covers important matters including:
- Who the shareholders are and what percentage of the company the hold
- The duties and obligations of the shareholders
- The relationship shareholders have with the directors of the company
- What happens when a shareholder wants to leave
- Dispute resolution processes
What Does A Company Constitution Cover?
A Company Constitution is one of the most important internal documents a company can have. It usually sets out how the company will be run and the roles and responsibilities of key personnel.
A Company Constitution covers crucial details regarding the company, board of directors, voting powers, company secretary, internal documents and a lot more.
To add to this, the Company Constitution can also override the replaceable rules set out in section 141 of the Corporations Act 2001.
It’s important to keep in mind that this is only for the replaceable rules. In most other circumstances, the legislation is the more powerful legal document. If a company chooses not to have a constitution, the replaceable rules will apply.
Key Takeaways
Pre-emptive rights are a great way for shareholders to feel more secure about their investment in the company. To summarise what we’ve discussed:
- Pre-emptive rights are a way of giving shareholders the first right to purchase shares in a company
- It is often given at the start of a shareholders relationship with the company
- Shareholders can use pre-emptive rights to maintain their ownership in a company
- Pre-emptive rights should be written down in a contractual clause, usually in the shareholders agreement
- Shareholder agreements usually cover the most important matters regarding shares, including what happens when one shareholder wants to transfer their shares
- Allocating shares in a startup company is somewhat different, as the company is still getting off the ground
- Company constitutions are an optional document that details how a company is to be run
If you would like a consultation on pre-emptive rights for company shareholders, you can reach us at 1800 730 617 or team@sprintlaw.com.au for a free, no-obligations chat.
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