Where a private corporation has more than one shareholder, the shareholders are well advised to enter into a shareholders’ agreement. This is an agreement that specifies how the corporation is to be governed, how major decisions will be made, and how shares in the corporation can be sold. The purpose of a shareholders’ agreement is to avoid disputes, both while running the business and when one or more of the shareholders wishes to, or is forced to, sell his shares.
One of the provisions commonly found in a shareholders’ agreement concerns valuation. This provision can include mechanisms such as appointment of an independent valuer, or it can require the parties to periodically agree to a valuation, even where a sale of any of the shares is not imminent. For example, the agreement may require that each year, following the receipt of a financial report prepared by the corporation’s accountants, the shareholders agree to the fair market value of the shares and attach this as a schedule to the shareholders’ agreement. Then, if it is necessary to determine the fair market value of the shares during the following 18 months, such fair market value will be determined on the basis of this valuation.
Unfortunately, shareholders do not always take advantage of these valuation provisions, which can lead to bitter disputes if a sale of shares is necessary, for example, due to the death of a shareholder.
Where a shareholders’ agreement provides for an annual valuation, actually agreeing to a valuation every year is a small investment of time that can help avoid potentially expensive and time consuming litigation.