Mitigating Risk and Enhancing Governance: Shareholders’ Agreement Fundamentals for Thai Businesses

Highlights

Starting a business today has become remarkably straightforward. In Thailand, a company can be incorporated in just one day, making business formation accessible and efficient.

Taking advantage of the aforementioned, many companies, particularly those formed among groups of friends or family members, proceed to incorporate companies quickly. These companies often rely on mutual trust and adopt the basic Articles of Association template provided by the Department of Business Development, Ministry of Commerce (the “DBD”), as the governing document for their internal operation, rather than entering into a formal agreement to regulate their rights, obligations and governance mechanism. 

However, when disputes arise, the absence of a properly drafted written agreement often forces the parties to resolve conflicts through courts. Such proceedings can be lengthy, costly, and damaging to both the business and the relationships among shareholders.

One effective way to mitigate risks is through the use of a shareholders’ agreement (or the “SHA”). Despite being an often-overlooked tool, a well-prepared shareholders’ agreement helps set out the rights, responsibilities, and expectations of each shareholder, reducing the risk of disputes later on. It helps safeguard the interests of shareholders, mitigate and aid in resolving conflicts, and provides a clear framework for decision-making and corporate governance, offering both stability and peace of mind to all parties involved.

Distinguishing a shareholders’ agreement from a company’s Articles of Association (the “AOA”) is important. Shareholders’ agreement differs from an AOA in its purpose, nature, and scope. While both govern aspects of a company’s internal operations, the AOA serves as a formal constitutional document outlining the company’s structure and management framework and must be filed with the DBD. In contrast, a shareholders’ agreement is a private agreement among shareholders, enforceable among the shareholders and may not bind the company if the company is not a party to it. Shareholders’ agreement can remain confidential and focus on regulating their specific rights, obligations, and decision-making processes. It complements the AOA by providing greater flexibility and customization, ensuring that the shareholders’ business relationship, conflict resolution mechanisms, and strategic cooperation are clearly defined and tailored to their unique needs.

There is no one-size-fits-all shareholders’ agreement that a company can simply adopt and expect to effectively govern its operations or mitigate potential disputes. Each agreement should be carefully tailored to reflect the company’s specific circumstances, including the nature of its business, the number of shareholders, the industry in which it operates, and its long-term objectives. Regardless of the aforesaid, here are some key clauses that businesses may consider including in their SHA:

Clauses Regulating the Transfer of Shares

Shareholders’ agreements commonly include various mechanisms for regulating share transfers in order to ensure that ownership and control of the company remain with persons acceptable to the existing shareholders. Such provisions are particularly significant in closely held companies, where the shareholders are often friends, long-standing business partners, or family members whose relationships and mutual trust underpin the company’s operation.

A) Right of First Refusal (ROFR)

The Right of First Refusal is a standard minority protection and transfer restriction mechanism commonly found in shareholders’ agreements. It requires a shareholder who intends to transfer its shares to first offer those shares to the other existing shareholders before selling them to a third party. The offer must typically be made on the same terms and conditions as those proposed by the prospective third-party purchaser. If the existing shareholders do not exercise their rights within the prescribed timeframe, the selling shareholder may then proceed with the sale to the third third-party purchaser. The ROFR provision serves to maintain the stability of the company’s ownership structure, prevent the introduction of undesirable or unknown investors, and provide existing shareholders with an opportunity to consolidate their holdings.

B) Drag-Along and Tag-Along Rights

In companies where majority shareholders hold significant control, shareholders’ agreements often include provisions designed to protect minority interests and facilitate equitable treatment among shareholders. Tag-along rights allow minority shareholders to participate in a sale initiated by majority shareholders, ensuring they can exit by selling their shares on the same terms and conditions so that minority shareholders are not left behind with a new controlling shareholder whom they did not choose.

Conversely, drag-along rights enable majority shareholders to compel minority shareholders to participate in such a sale, on the same terms and conditions as offered to the majority shareholders, allowing the transaction to be more attractive for sale as buyers can acquire full or 100 percent ownership in the company.

C) Pre-emption Rights

Pre-emption rights grant existing shareholders the first opportunity to acquire new shares issued by the company or shares offered for sale by another shareholder, in proportion to their current holdings. These provisions help maintain the established ownership structure and prevent dilution by allowing shareholders to preserve their proportional interest. They also serve to protect the company from unwanted third-party involvement, ensuring that new participants cannot acquire shares without the approval or knowledge of existing shareholders.

D) Deemed or Compulsory Transfer Provisions

Shareholders’ agreements may also include compulsory transfer provisions, which require a shareholder to transfer their shares under specified circumstances, such as a material breach of the agreement. These clauses provide a structured approach for ensuring that ownership and control remain with acceptable parties and often distinguish between “good leavers” (receiving fair market value) and “bad leavers” (receiving a discounted value), thereby incentivizing compliance and protecting the company’s long-term stability.

Clauses Regulating the Management of the Company

Defining the scope of authority between the board of directors and the shareholders is essential for effective corporate governance and business success. Shareholders’ agreements serve this purpose by clearly allocating which matters fall within the exclusive domain of the board, and which significant decisions require direct shareholder approval, thereby reducing ambiguity and the risk of deadlock.

A) Board Resolution and Shareholders Resolution

Corporate decision-making is generally divided between the board of directors and the shareholders. A board resolution represents a decision made by the board of directors, typically concerning the company’s day-to-day management and operational matters. Such as appointing officers, authorising bank accounts, and implementing business strategies.

In contrast, a shareholders’ resolution reflects decisions reserved for the company’s owners. These often involve fundamental matters such as amendments to the company’s constitution, changes to share capital, appointment or removal of directors, and approval of major transactions.

The distinction between board and shareholders’ resolutions is critical for corporate governance. It ensures a balance of power between management and ownership, delineates responsibility, and provides a procedural framework for decision-making.

B) Reserved Matters

In addition, “reserved matters” further introduces additional approval requirements for board resolution and shareholders resolution. Reserved matters are commonly included in shareholders’ agreements to ensure that key strategic, financial, and structural decisions cannot be made unilaterally by the majority shareholders or by management without the input or agreement of the minority side. Typical reserved matters include amendments to the company’s constitution, issuance of new shares, changes in share capital, major acquisitions or disposals or approval of annual budgets.

By defining a list of reserved matters, shareholders establish a governance framework that balances control and protection i.e. majority shareholders retain operational flexibility for day-to-day business decisions, while minority shareholders gain assurance that their consent will be sought for significant corporate actions that could materially affect their investment or dilute their rights. The scope and voting thresholds applicable to reserved matters are often the subject of careful negotiation, as they directly influence the distribution of control within the company.

Clauses Regulating Restrictive Covenants and Confidentiality

Robust shareholders’ agreements incorporate restrictive covenants and confidentiality clauses to safeguard the company’s proprietary interests and foster stable relationships among shareholders. These clauses establish boundaries against unfair competition, improper solicitation, and misuse of sensitive information, which are all crucial for maintaining business integrity and trust within the shareholder group.

A) Confidentiality

Confidentiality clauses compel shareholders to keep sensitive information, inside or strategic information, including documents relating to business operations, the shareholders’ agreement itself, and other strategic matters, private and secure. Such obligations typically endure beyond the end of a shareholder’s involvement with the company and even after the agreement’s termination.​

B) Non-competition and Non-Solicitation

Non-competition clauses are commonly included in shareholders’ agreements to protect the company from potential conflicts of interest and unfair competition by its shareholders, by restricting current shareholders and departing shareholders from engaging in activities that could undermine the company’s legitimate business interest. Non-solicitation clauses prohibit former shareholders from soliciting the company’s clients, employees, or suppliers. These provisions are especially relevant where shareholders hold key operational roles or by virtue of their position can access to insider knowledge or connection, may exit the company, while the company’s competitive advantages remain safeguarded.​

Clauses Regulating Dispute Mitigation and Resolution

Dispute mitigation and resolution clauses are critical to the long-term stability of any company. Shareholders’ agreements should anticipate situations where disagreements may arise and provide clear procedures for addressing these problems, so company operations are protected from unnecessary disruption.

A) Deadlock

Effective shareholders’ agreements incorporate provisions to address disputes and deadlocks. Deadlocks can arise when shareholders are unable to reach agreement on major decisions, potentially stalling company operations and threatening its stability. To avoid such paralysis, it is crucial for the agreement to define a clear process for resolving deadlocks, such as escalating the matter to an independent third party, awarding a casting vote to a designated chairperson, or utilizing structured buyout mechanisms like “Russian Roulette” or “Texas Shootout” clauses, where shareholders are required to submit offers to buy or sell shares at a nominated price. Under a Russian Roulette clause, one shareholder (the “initiating shareholder”) offers to buy the other’s shares at a specified price per share. The receiving shareholder must then either accept the offer and sell their shares at that price, or instead purchase the initiating shareholder’s shares at the same price per share. This mechanism encourages the initiating shareholder to propose a fair value, knowing that the offer could be reversed against them. A Texas Shootout clause operates similarly but is based on sealed bids. Both shareholders submit confidential offers stating the price at which they are willing to buy out the other. The higher bidder wins and must purchase the other’s shares at the price they offered.

Dispute Resolution

Beyond deadlocks, broader dispute resolution provisions help manage disagreements that may not completely halt business activity but still require intervention. These clauses typically provide for mediation, arbitration, or other structured processes designed to resolve shareholder conflicts swiftly and efficiently, minimizing disruption and costly litigation while safeguarding the interests of the company and its shareholders.

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Drafting and negotiating a shareholders’ agreement requires careful and thoughtful consideration, as such agreements are foundational to the long-term stability and governance of any business. For more information or tailored guidance on these matters, please feel free to contact Phatamol Phisitbuntoon at Phatamol.p@wiseequitylegal.com or Noraseth Ohpanayikool at notaseth.o@wiseequitylegal.com