Do you need a partnership agreement or a shareholders agreement? And what’s the difference, anyway?
Many of our clients have existing businesses or are setting up a new or startup business. They understand it is important to have some kind of agreement between the owners of the business, which will be either a shareholders agreement or a partnership agreement. Quite often, however, they don’t know the difference between these two types of agreements.
Companies and Partnerships: the differences
If the business is incorporated, that is, operated through a company, the agreement should be a shareholders agreement between the shareholders, the directors (who may be the same people) and the company. If the business is not operated through a company, then the agreement should probably be a partnership agreement.
A partnership is like a marriage. It is a relationship. When one of the partners dies or leaves, the partnership ends. A company is a legal entity. The people who are involved in a company can come and go, but as long as the company meets the minimum requirements set by the law (in Australia, it has at least one shareholder and one director), the company survives.
This is a simplification, of course. A a company also involves relationships, e.g. it has horizontal relationships between the directors on its board, between shareholders as owners of the company, and between the company and investors. It has vertical relationships between the shareholders and directors. Although the directors manage the company, it is the owners, the shareholders, who have ultimate power to make decisions, including the power to appoint and remove directors. Also, the law can treat a partnership as an entity, e.g. in relation to tax. In some countries, a partnership can be a legal entity in the same manner as a company is, e.g. a LLP – (this doesn’t exist in Australia, as yet). In simple terms, a company is separate from its shareholders and directors, but a partnership is the partners.
Shareholders agreement vs partnership agreement: differences and similarities
In many respects, shareholder agreements and partnership agreements do the same things. Each type of agreement deals with what the parties put into their collaboration, and with what they get out of it, e.g. loans, capital contributions, drawings and dividend payments. Both types of agreements deal with governance issues: making decisions, veto powers, introducing new members, and so on. In addition, shareholders agreements will include extra material peculiar to a corporate set-up, e.g. the issuing and sale of shares, founders’ rights, and so on.
Don’t make the mistake of not having a partnership / shareholders agreement
Whatever type of agreement is required, the important thing is to have an agreement. Unnecessary and avoidable disputes among shareholders or partners can ruin a business, waste a lot of time and money, and destroy goodwill between the business partners. It is always a good idea to put into place an agreement that clearly defines the rights and obligations of the parties before any disputes happen. Lawyers have an expression: good fences make good neighbours. Your business is important to you. Take the trouble to make sure it is set up properly.
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Do you require assistance with a shareholders agreement or a partnership agreement? Contact us to discuss your situation. We can assist you. We have prepared such agreements for many SME business owners. See our Customer Profiles page to see the stories of many of our SME business owner clients and how we worked with them to build a better foundation for their business success.
[The author of this blog post is James Irving, a Perth commercial lawyer who prepares shareholders agreements and partnership agreements regularly for his clients.]