Shareholder Agreement or Articles of Association: Which One Actually Governs What?

They do different jobs, and the Companies Act, 2015 treats them differently. The articles of association are the company’s constitution: they bind the company and its members and can be changed by special resolution. A shareholders agreement is a private contract between the shareholders who sign it, and it binds only them. When the two point in different directions, the articles govern the company’s internal rules while the shareholders agreement gives the wronged party a contract claim. Knowing which document controls a given question matters most on the day two shareholders disagree.

What the articles of association do

Section 30 of the Companies Act provides that a company’s constitution binds the company and its members to the same extent as if the company and its members had covenanted with each other to observe it. The articles cover the mechanics: how shares are issued and transferred, how directors are appointed and removed, and how meetings are called and conducted.

When you register a company you lodge, under section 13, an application, a memorandum of association and, except as provided by section 21, a copy of the proposed articles. Section 21 is the safety net: where a limited company’s articles are not registered, or do not exclude or modify the relevant model articles, the model articles form part of the company’s articles. So a company can exist on the model articles alone. A company may amend its articles only by special resolution (section 22). Under section 257, a special resolution is one passed by a majority of not less than seventy-five percent, and a company that amends its articles must lodge a copy of the amended articles with the Registrar not later than fourteen days after the resolution is passed (section 24).

What a shareholders agreement does

A shareholders agreement is a private contract between the shareholders who sign it, and sometimes the company as well. The Companies Act does not list it among the documents lodged on registration, which is why many companies never have one. It is where the commercially sensitive terms usually sit:

• what happens when a shareholder wants to sell, including pre-emption (first refusal) rights;
• drag-along and tag-along rights on an exit;
• how a deadlock between equal shareholders is resolved;
• dividend policy and reserved matters that need every shareholder’s consent;
• which disputes go to arbitration rather than court.

Because the agreement is not part of the company’s constitution, it does not change the company’s internal rules by itself. That is the source of most confusion. Our guide to formalising a family business board shows how a shareholders agreement fits alongside board records, and our article on what founders sign in a startup term sheet shows where these terms first appear in a funding round.

What happens when the two conflict

The articles bind the company and its members under section 30. The shareholders agreement binds only the people who signed it, as a matter of contract and not company law. In practice, an act that is valid under the articles can still be a breach of the shareholders agreement. The wronged shareholder then has a claim under the contract, which can include damages or an injunction, without the act necessarily being invalid under the Companies Act.

The special resolution threshold makes the gap real. If the articles can be amended by seventy-five percent, a group holding that majority can rewrite the articles even if one shareholder objects, unless that shareholder holds enough votes to block the resolution or the shareholders agreement obliges the parties to vote in a particular way. A well-drafted shareholders agreement closes the gap in three ways. It requires the articles to be amended to match it, it commits each party to vote their shares to give effect to its terms, and it states that the agreement prevails between the parties if the two conflict.

Take a share transfer as an example. If the shareholders agreement gives existing shareholders a right of first refusal but the articles say nothing about it, a seller who ignores that right may still present a transfer that the board is willing to register. The register may then reflect the transfer, while the other shareholders are left with a contract claim against the seller. Putting the first refusal in both documents avoids that result and gives the company itself a basis to refuse the transfer.

Which one do you need first

You do not need to draft articles to incorporate, because section 21 allows the model articles to apply. But you need to decide, at the start, whether the model articles suit you, because the articles are what actually run the company day to day. A shareholders agreement is optional, which is exactly why many small companies never get one, until two shareholders disagree about something the articles never addressed. If more than one shareholder has a real stake in the outcome, the shareholders agreement is usually the document doing the work of protecting each of them.

Whichever route you choose, keep both documents in step. When the shareholders agree on a change, amend the articles by special resolution, lodge the amended articles within fourteen days, and record the change in the shareholders agreement so that the two documents say the same thing.