I described last week's blog -- Ritchie v. Rupe: Segue to Private Company Agreements — as a bridge from our recent series on the use of proxies in private company situations to an upcoming series on preparing private company agreements. This week's blog begins that new series by looking at the provisions of the Texas Business Organizations Code (TBOC) underpinning private company agreements for corporations, that is, the TBOC and shareholders' agreements.
Texas Statutes on Shareholders' Agreements
The Texas For-Profit Corporation Law (that portion of the Texas Business Organizations Code applicable to business corporations) explicitly approves several types of agreements that shareholders of a privately held business corporation may enter into for the management, operation and ownership of the company, including but not limited to:
- voting agreements (TBOC Section 6.252);
- shareholders' agreements (TBOC Sections 21.101 through 21.109); and
- agreements restricting transfer of shares and other securities (TBOC Sections 21.210 through 21.211)
(Another kind of agreement among shareholders is a shareholders' agreement among the owners of a close corporation (TBOC Chapter 21, Subchapter O). But because it is uncommon to find a Texas corporation that has chosen to be a "close corporation," an election which must be made publicly in the corporation's Certificate of Formation filed with the Texas Secretary of State, I won't address close corporations in this blog post.)
What the Texas Statutes Allow Shareholders' Agreements To Cover
Voting. Written voting agreements under TBOC Section 6.252 bind their shareholder parties to vote their shares in the manner provided by the agreement; for example, the agreement could obligate every shareholder to vote all of his shares for the election of Mr. X to the board of directors. Restrictions on Transferability of Shares. TBOC Section 21.210 permits a written agreement among some or all shareholders or among some or all shareholders and the corporation that restricts the transfer or registration of transfer of the shares covered by the agreement ("registration of transfer" is a technical but vital step in transferring an ownership interest, because only when a transfer is registered on the books of the issuer may the issuer recognize the transferee as the proper owner of the shares for most purposes, the most significant of which is voting). However, TBOC Section 21.211 only validates a transfer restriction that falls within one or more of the following categories, and then only if the manner of effecting that restriction is "reasonable":
- requires that the shares to be transferred must first be offered to the corporation or the other shareholders;
- obligates the corporation "or another person" to buy the shares;
- conditions the transfer on approval by the corporation or other shareholders as necessary in order to prevent a violation of law;
- blocks transfer of the shares to a designated person or group, provided the designation isn't "manifestly unreasonable;"
- maintains the corporation's S corporation status;
- preserves a tax advantage of the corporation;
- maintains the corporation's "close corporation" status under the TBOC;
- obligates a shareholder to transfer some or all of his shares to the corporation, other shareholders or another "person or group of persons;" or
- transfers automatically some or all of a shareholder's shares to the corporation, other shareholders or another "person or group of persons."
Governance of the Corporation. TBOC Section 21.101 is surprisingly expansive, listing 12 categories of governance matters which an agreement may cover, BUT unlike voting agreement and share transferability agreements, a Section 21.101 shareholders' agreement requires joinder by ALL of the corporation's shareholders. The agreement may:
- restrict the board of director's discretion or powers;
- eliminate the board entirely and authorize one or more of the shareholders "or other persons" to manage the corporation's business;
- establish the persons who will be the officers or directors;
- fix the term and conditions for removing or continuing any person's directorship, officership or employment;
- establish the manner for declaring and making dividends and other distributions whether or not in proportion to share ownership;
- determine the way profits and losses are to be allocated;
- govern the division and exercise of voting power among shareholders, directors and "other persons" including disproportionate voting rights and director proxies;
- fix the terms for transactions with affiliates;
- provide a manner for resolving deadlocks within the corporation's governing authority;
- require the corporation's winding up and termination upon the request of a shareholder or group of shareholders or the occurrence of an event or contingency, and deem the winding up and termination to have been approved unanimously by all the shareholders;
- establish rules for authorizing actions and exercising the corporation's powers in furtherance of "social purposes" specified in the corporation's certificate of formation; or
- establish rules for authorizing actions and exercise the corporation's powers "as if the corporation were a partnership."
Whew! Those statutory provisions offer a corporation's shareholders a wide range of tools to craft a corporation's governance structure and to preserve its ownership community composition (and consequently that governance structure). In the next installment in this series, I will present a form of shareholders' agreement to illustrate how these contractual schemes on voting, share transfer restrictions, and governance can be put into effect through a single legal instrument among the corporation and its shareholders.