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As dairy farming continues to increase in scale and land prices continue on their upward trend, shared ownership of large scale farming operations is becoming increasingly common. This is achieved through the formation of equity partnerships or farm syndications.

While the prospect of a new business venture with friends, family or distant acquaintances may seem an exciting opportunity, the venture’s success depends on many things, including fully documenting the venture. This usually entails all parties working out a comprehensive Shareholders Agreement that governs the relationship between the shareholders in the farming company.

Most companies have a Constitution. This document addresses, amongst other things, the structure of company and certain legal issues. In comparison, a well thought out Shareholders Agreement would cover a wider range of issues, all of which are critical to the establishment and maintaining of a viable farming company.

Many provisions of the Companies Act presume a separation of ownership and control. This may not be best for closely held companies.

Unlike a company Constitution, a Shareholders Agreement is confidential to the parties. Accordingly, parties can feel more comfortable disclosing and recording their financial details.

While not an exhaustive list, set out below are some issues which can be addressed in a Shareholders Agreement:

• Management Structure

There is often the need for a farm manager, the conditions and details of this role can be described by cross referencing to an Employment Agreement which should clearly outline the specific terms of employment and remuneration. Often the farm manager is also a director in the company.

• Term

While for taxation reasons it is important not to set a finite timeframe, parties will want some certainty of position. An initial period of two to five years leading up to a review period may be preferable to give the business time to run properly. The term also needs to be considered in the context of other farm contracts eg. Sharemilking Agreements.

• Shareholding

The parties in the company may hold a differing number of shares each and so a Shareholders Agreement should provide mechanisms to protect both majority and minority shareholders. Consideration also needs to be given to the number of directors each group of shareholders can appoint.

Participating shareholders need to fully disclose their own tax position as that may have an impact on other shareholders. For example, a ‘builder’ becoming a shareholder could result in ‘tainting’ of the company and result in the capital gains of the company being taxable.

• Funding

Usually funding for these ventures is by either one or a combination of:

• Bank Debt;
• Share Capital;
• Shareholders Advances.

Generally speaking, shareholder advances are easier to manage and provide more advantages than share capital. A significant advance can act as a deterrent to shareholders exiting the company early. An advance also allows more flexibility with the ability to return surplus cash to a shareholder without tax consideration. The advances should be secured to protect shareholders but the ranking of the security will depend on other lenders requirements. The terms of lending also requires consideration.

Care needs to be taken to ensure tax deductibility on borrowing for shareholders advances where possible. This requires the company to pay interest on the advance which will depend on the cash flow position of the company. Shareholders may request confirmation that they will not be required to contribute further funds to the business in the future.

• Directors Meetings

A Shareholders Agreement can expand upon arrangements in the Constitution by providing for quorum requirements, establish initial directors and the frequency and conduct of meetings.

• Guarantees

Care needs to be taken to avoid the situation where a shareholder is liable for the entire liability. Clear limitations are critical.

• Share Transfers

It is important that a Shareholders Agreement determines the circumstances when shares can be transferred and to whom. It is likely that the company Constitution will contain pre-emptive rights. These can be modified in the Shareholders Agreement. An allowance is often made for transfers to close relatives and family trusts. There needs to be clear direction as to how a fair share value is to be set in the event of the sale of shares and there may need to be restrictions on share transfers if they resulted in a tax liability or loss of tax benefit to the company.

• Dispute Resolution

The best resolution is one parties can work out themselves. A well drafted Shareholders Agreement would provide mechanisms to lead to such a resolution through the use of mediation or arbitration.

• Death or Disability

A company, through its Shareholders Agreement, should provide for adequate insurance policies and income protection insurance for key people and farm managers. Procedures can be included in a Shareholders Agreement to provide for the deemed transfer of shares in the event of a death or disability of a significant director/shareholder.

• Dividends

It is helpful for the company to have a dividends policy to minimise the unreal expectations some shareholders may have.

We believe that a properly considered agreement to which Shareholders have addressed and discussed key issues will reduce the potential for disputes to arise amongst shareholders. While it is impossible to cover all situations the fact that minds have been turned to the issues should help lead to a faster resolution.

Proper and accurate legal advice is required to ensure the best structure of ownership is adopted.

Please remember, this information is designed as a guide only and shouldn't replace the advice of you legal professional.  We welcome your comments: toni.green@awslegal.com