Shareholders’ Agreement: Reserved Matters

Today we will discuss key issues that investors often ask to be included in deal documents – so-called reserved matters. These provisions are crucial for maintaining investor control over significant company decisions. Below we have listed the reserved matters that, in practice, investors bring to the table so that you know what to expect during negotiations.  

Reserved matters can be classified into the following categories:

Structural changes

• amendment of the company’s articles of association: any change that may affect the rights of shareholders or the structure of the company
• increase or decrease of the authorized capital 
• change in the company’s main activities
• creation and participation in subsidiaries
• reorganization or liquidation of the company, etc.

The above matters are about the processes that may be involved in business restructuring. It is understandable why an investor would be interested in controlling such matters.

Financial decisions

• profit distribution: decisions on dividends or other forms of capital distribution
• budget and major expenditures: approval of the annual budget and major capital expenditures
• raising additional investment or financing, including convertible loans, SAFE, other forms of investment or financing

In case of profit distribution, the parties are usually guided by the business model: in case of the outsourcing model, the parties more often agree on regular profit distribution, in case of the product model less often. When agreeing on the budget, it is better to immediately agree on possible deviations from it, so that the company’s activities do not come to a standstill in case of “slightly” unforeseen circumstances.

Management and control

• changes in the composition of the board of directors: appointment, replacement or dismissal of directors
• Rights and duties of directors: changes to the powers and duties of directors and the terms of their contracts
• key appointments: appointment or dismissal of key employees such as the CEO, CFO and other senior managers
• allocating an option pool and generally creating an incentive program involving dilution of the investor’s stake

It should be noted that it is possible to fix as reserved matters not only the occupation of key positions, but also positions with a certain salary.

Operating decisions

• major transactions: entering into or terminating major transactions that are outside the ordinary course of business of the company.
• credit commitments: raising loans, issuing bonds or providing large pledges and guarantees.
• IP and/or real estate transactions (based on the company’s product)

In practice, the parties depend on their understanding of a “major transaction” for a particular business. It is important to properly agree on the threshold for a major transaction, so that ordinary transactions do not have to be submitted to the investor for approval every time.

Shareholder protection

• issuance of new shares: issuance of new shares or other securities that may dilute the interests of existing shareholders
• changes in shareholder rights: any changes to shareholders’ rights or privileges that may affect their investments
• share transfers: restrictions on the sale or transfer of shares, especially in the event of a change in control of the company

These are standard provisions that each investor is asked to enshrine in the transaction documents. It is important to discuss during negotiations the procedure for alienation of existing shares to third parties/other next inverters.

The list of reserved matters may be shorter or longer, it all depends on the specific transaction. When negotiating, it is important not to allow excessive investor control over the company’s activities and to set up a clear and prompt mechanism for coordinating issues of the company’s life after the transaction.

Author: Irina Kuheika

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