Business Agreements: Overview

Whether a client needs to buy or sell a business or portion thereof, make a loan or secure financing, transfer stock, indemnify an investor, or structure an employment agreement, Neek Law Firm has the proven ability to provide expert and cost-effective legal representation in structuring any business agreement and between all parties. It is our belief that the best way to provide high-quality, lasting legal representation is by becoming truly engaged in a client’s firm. By offering diverse set of legal transactional services, Neek Law Firm has the advantage of helping clients navigate through complex, multifaceted legal processes from start to finish. Whether a client needs to fend off a merger, form a joint venture, secure a loan, issue stock warrants, license intellectual property, prepare a non-disclosure agreement—or all of the above— Neek Law Firm can be there at every step of the process, thereby providing clients with a superior quality of legal representation.
Our transactional services include:

Due to the breadth of transactional legal services we offer, Neek Law Firm has the unique ability to assist our clientele in nearly every aspect of a business transaction, as well as in subsequent agreements or legal issues that may follow. We encourage you to contact the Neek Law Firm with any legal concerns you may have in structuring your next business transaction. Below, please find more specific descriptions of the general business transactional services we offer.

Ownership Transfer Agreements (Purchase, Sale, or Mergers)

“Ownership transfer agreements” entail any documents necessary for the purchasing, selling, or transferring of a business entity (or a portion thereof). These agreements bring into play a wide array of state and federal securities, corporate, and tax laws, and depending on the specific goals of the buyer and seller, can be drafted in a multitude of ways to best suit a given situation. It is not simply compliance with the law that makes these agreements particularly complex to draft; rather, it’s the variety of benefits and drawbacks offered under the law that makes the choice of which transfer agreement to use an important decision. For example, in an asset purchase, the buyer may benefit from a step-up in tax basis of the acquired assets. However, the seller will be left with any liabilities it has on its balance sheet without the (now sold) asset to offset those liabilities. Depending on the circumstances, this could be either beneficial or detrimental for the seller.

Simply put, there are an abundance of factors to consider when drafting a stock sale or transfer, asset purchase, or merger agreement. Each has its own legal and tax implications; each provides its own business benefits and drawbacks; and, in fact, each can result in a different sale price for a business or part of a business. Moreover, a benefit for one party is generally a drawback for the other—i.e. a tax benefit for the buyer will probably hurt the seller, and vice versa. Thus, not only do the two parties have to negotiate the specific terms of a given type of agreement, they must also negotiate which form of interest transfer agreement will be used.

At Neek Law Firm, we understand the intricacies associated with each type of agreement, placing an emphasis on choosing a form that makes the most business sense for our client. We are experienced and tactful negotiators when it comes to the purchase or sale of part or all of a firm, and help to maximize terms in our client’s favor while keeping in mind the ultimate goal—getting a deal done.
Some of the ownership interest transfer agreements normally prepared by Neek Law Firm include:

  • Stock Purchase Agreements
  • Stock Exchange Agreements
  • Asset Purchase Agreements
  • Merger Agreements
    • Forward, Forward Triangle, & Reverse Triangle Mergers

Stock Purchase Agreements

A stock purchase agreement, as the name implies, involves purchasing a firm’s stock directly from the shareholders, whether from the company itself (in form of share issuance) or from existing shareholders. Stock purchase agreements are very common with our venture capital fund clients. These shareholders may be on the board of directors, a firm’s management, or even a large number of diverse shareholders that have very little, if anything, to do with the actual operations of the firm.

Generally speaking, there are a variety of specific requirements associated with the purchase or sale of securities, particularly relating to registration requirements with the Securities and Exchange Commission. When securities are issued and sold, they must be registered with the SEC. This can be an expensive and time-intensive process, particularly when a firm makes its initial public offering. In fact, aside from negotiating the specifics terms of a transactions, SEC compliance makes up one of the largest portions of the legal work required to complete a stock purchase. Specific filing requirements and exemptions with SEC are discussed in more detail at the end of this section.

Controlling Shareholders and Corporate Defense Mechanisms

The stock purchase can be a very clean and simple way for a buyer to become controlling shareholder of a firm. In most instances, a stock purchase does not require board approval. In fact, if the diverse shareholders of a target firm (the firm a buyer wants to acquire) hold the majority of the company’s shares, the buyer may be able to purchase sufficient shares from those third-party shareholders to achieve majority shareholder status. In doing so, the buyer will likely be required to file Schedule 13D with the SEC, which must be submitted once any single party (business or individual) obtains more than a 5% share of a single class of any publicly traded security. Once the buyer obtains a majority of shares and makes the required filing, he or she may choose to assume control of the board or the management of the firm.

However, in attempting to do so, the buyer may run into a variety of protectionist clauses in the target’s organizing documents or operational agreement. These clauses, such as a “poison pill” provision, act to trigger certain automatic responses in the case that a third party acquires too much of the target’s outstanding stock. For example, a firm may have a clause that states that once a potential buyer exceeds 30% stock ownership, the other shareholders (besides the buyer) may purchase stock at a discount to market value. When this occurs, the other shareholders will generally take advantage of the discount and purchase more of the firm’s stock. This has the effect of spreading ownership out further, preventing the buyer from acquiring enough stock to take control of the firm.

Moreover, it may be very difficult to acquire enough shares to become majority shareholder if a large percentage of shares are held by a large number of individuals and organizations. In this situation, the buyer may have to track down individual shareholders and convince them to sell their shares—a time consuming and expensive process that may or may not prove worthwhile.

Suffice it to say, there are several aspects of the stock purchase that can be very advantageous and simplify the process for the buyer/investor. However, the form does have its drawbacks. In deciding whether to carry out a stock purchase, Neek Law Firm take special care to explain each of the pros and cons of a stock purchase to our clients, while simultaneously taking into consideration the array of variables that can affect the decision making process. Working with our client, we then come to a conclusion about the viability of a stock purchase as an option.

Stock Exchange Agreements

Unlike a stock purchase agreement, where the consideration being paid in exchange for ownership (stock) in the target firm is often cash, in a stock transfer agreement the buyer “pays” for all or part of a firm with his or her own firm’s stock (although often a buyer will offer a combination of cash and stock). A stock exchange agreement offers two primary benefits to the buyer. First, the buyer avoids using its cash reserves or otherwise having to acquire financing for a purchase. In this situation, the stock of both the buyer and “seller” is valued at the market rate (or some discount or premium to market), and the “buying” party would acquire a large number of shares in the “selling party” in exchange for a relatively small amount of stock in the “buying” party. Second, in exchanging stock, the buyer functionally binds the seller to the buyer’s firm; because the buyer both holds a substantial amount of the seller’s stock and the seller owns a portion of the buyer’s stock, both benefit from the other performing well. This can help to encourage the seller’s employees to continue to work hard and improve the firm, even if the buyer has assumed majority control of the seller.

It is important to note that using a stock exchange method for acquiring all or part of a firm has one major drawback not present when doing a simple stock purchase with cash—statutory merger requirements and regulations may apply. Before this type of deal can close, a seller’s board of directors must approve the exchange, and in certain circumstances, individual investors may also have to approve the exchange. Not only does this complicate matters from a legal standpoint, it also increases the cost of completing the deal, particularly in the case that the board of directors of a firm cannot make a decision alone and that shareholder approval must be obtained.

From the seller’s standpoint, though, the stock exchange agreement can be a very beneficial arrangement. Unlike a stock purchase, where the board of directors often has no choice in the matter, the board will almost certainly have to approve a stock exchange, as might the shareholders. This gives the board an extra level of protection from hostile takeover attempts. Moreover, in exchanging stocks, the seller and buyer functionally commingle their businesses. This means the seller can likely get support (financial and otherwise) from the buyer, thereby improving both the seller’s performance and the value of the buyer’s portfolio.

Asset Purchase Agreements

The asset purchase agreement can be a very beneficial option for those clients looking to acquire some or all of the assets of a firm without assuming the liabilities associated with actually purchasing the firm. Usually, this will occur when the buyer has no interest in the seller’s brand name or reputation, and simply needs the hard assets (land, code, IP, machinery, buildings, etc.) that the seller owns. Conversely, an asset purchase may also be appropriate where a seller needs to liquidate assets quickly but has no interest in selling part of the firm, or where a seller wants to sell the firm but retain its liabilities for tax purposes.

One benefit of the asset purchase is that, in most cases, it avoids the formalities associated with a stock exchange or a merger. Because it is technically nothing more than a purchase agreement between firms, the various federal and state laws regarding the buying, selling, and merging of businesses may not apply. Generally, whether statutory merger requirements apply is a function of how large the asset being purchased is compared to the firm’s total assets. Where one firm sells to another “all or substantially all” of its assets, the transaction requires approval by the board of directors and the shareholders of the selling firm. This is designed to protect shareholders from asset sales that may benefit managers but not the shareholders at large. Conversely, if buyer only wants certain assets or a small portion of the firm’s total assets, management can likely carry out the transaction without any further permission. This feature of the asset purchase is designed to allow managers to carry out transactions in the normal course of business without having to constantly seek out director and shareholder approval.

Unlike a merger agreement, the asset purchase is not effected “by the action of law.” This means that when an asset purchase agreement is reached, the assets do not automatically become the buyer’s property (as in a merger). For each individual asset purchased in the agreement, title must be changed and registered with the new owner. This can be a painstaking process that can delay a rapid close of an asset sale. Particularly where the transaction involves two public firms, this delay can cause problems. If, for example, one major cell-phone carrier is negotiating to purchase a portion of another major carrier’s cellular towers, and somehow that information is leaked before the close of the deal, there could be drastic implications on both firms’ stock prices.

Beyond being knowledgeable and experienced in the specific legal aspects of an asset sale, it is our concern for the various business implications of a sale, that allows Neek Law Firm to structure highly detailed and comprehensive agreements; by focusing on structuring the agreement to best meet our client’s desires going forward, we help to get our clients what they need without incurring excessive and unnecessary costs.

Merger Agreements

A merger is likely the most complex of the ownership transfer agreements as it implicates a number of state and federal laws, and generally represents a substantial shift in how each party to the merger will conduct business. In addition to negotiating and drafting a strong agreement, buyers, sellers, and each party’s legal representatives must constantly be aware of the fact that the terms of the merger agreement will not only have an impact on the owner’s financial well-being, but will often affect each and every employee of the participating firms—from upper management to the mail room and everything in between. A merger agreement is not simply the striking of a contract; rather, it is the process of integrating two distinct firms.

There are a variety of factors to take into consideration when attempting to merge two firms, and a variety of merger types to fit each scenario. Generally speaking, the firm that “survives” the merger (meaning that its name and balance sheet remain intact) is referred to as the “Parent” firm, while the firm being absorbed into the Parent is known as the “Target” or “Vanishing” Firm. When discussing a potential merger with a client, we like to ask clients:

If you plan to be a buyer (Parent), what exactly do you hope to get out of the Target firm? Do you want to retain its name brand, or does the Target have a specific product or expertise that you would like to incorporate into the Parent business? Do you plan to retain the Target’s management and allow it to continue to operate as an independent firm? Or do you plan to get rid of management and fully integrate the Target’s operations into your own?

If you may be a seller (Target), why are you considering this merger? What do you hope to gain from it? Are you a retiring owner looking to step away from your business, or is this a strategic move in order to improve the firm’s future? What are your priorities in the negotiations? Is adequate compensation your primary concern, or do you want to ensure that all your employees retain jobs when the merger occurs? How much control are you willing to relinquish? And what terms are absolutely non-negotiable?

Depending on the answers to these questions, Neek Law Firm can begin to structure a merger agreement that best achieves our client’s goals while still being acceptable to the other party in the merger. Depending on the situation, we will generally structure merger deals in one of the following ways:

A Forward Merger, is generally speaking, the most straightforward of the merger forms. A forward merger entails the Target company merging into the Parent company, the result of which is that the Target company ceases to exist as a matter of law, and all of its assets and liabilities then belong to the Parent company. This structure is appropriate where the Parent has no intention of maintaining any brand name associated with the Target and/or where the Parent is happy to assume the Target’s assets and liabilities. However, the forward merger can require a large number of consent agreements from various shareholders and third parties (from both the Parent and Target).

In a Forward Triangular Merger, the Parent company creates a subsidiary or “Shell Company” that exists specifically for the purpose of the merger. The Target is merged into the Shell Company, and much like in a forward merger, ceases to exist as a matter of law. This structure is appropriate where the Parent has concerns about adding the Target’s liabilities to its own balance sheet. The forward triangle merger allows Parent firms to acquire a Target (much like in a forward merger), but while remaining protected from the Target’s liabilities. Like the forward merger, there are likely to be several consents necessary to carry out a forward triangle merger.

A Reverse Triangular Merger, is appropriate where the Parent wants to acquire the Target without destroying the target’s “goodwill”—the value associated with the Target’s brand name and reputation. For example, a Parent may wish to bring a new, complementary brand under its ownership because the Parent believes that brand will improve the Parent’s collective portfolio of brands. In a reverse triangular merger, the Parent again creates a Shell Company, but instead of the Target merging into the Shell, the Shell mergers into the Target and disappears as a matter of law. The result is that the Target firm remains intact as a wholly-owned subsidiary of the Parent. Like in a forward triangular merger, the Parent is immune from the liabilities of the Target.

Regardless of the form of merger or on which side of the table a client sits, the merger process is a complex and taxing one. In order to make the transaction as painless and successful as possible, we suggest seeking the counsel of Neek Law Firm; our approach to the process is not a revolutionary one—we simply focus on what is best for our client and the future of the two businesses. We will negotiate vigorously on behalf of our clients to help ensure that merger terms are in our client’s favor; we also understand that our job is not to negotiate endlessly over legal minutia; rather, it is to complete a deal that accomplishes our client’s goals. This is what we strive to accomplish at Neek Law Firm.

Joint Ventures and Development Agreements

More so than a transfer of ownership between firms, a joint venture (or sometimes called Development Ventures) is an agreement between two or more parties to collectively conduct some type of business in order to make a profit, develop a product, or even combine research and development. Anyone may enter into a joint venture, including individuals, partnerships, LLCs, and corporations. Much like a partnership, the joint venture is a loosely defined entity. In order to qualify, two or more parties must simply work toward a common goal while sharing management responsibilities and profits. Unlike a merger, which tends to be permanent, joint ventures are often formed between two parties in order to accomplish a specific, one-time goal; they may have a finite term or automatically terminate upon the completion of the goal.

There is a large amount of freedom to contract when forming a joint venture. The parties can agree to just about anything so long as they operate within the law, and while this may make things simpler when the deal is initially struck, it also means that the parties going into a joint venture should take extreme care to ensure the venture agreement is properly drafted by an experienced attorney. Due to the fact that joint ventures can be structured in so many ways, failing to specify matters such as management duties, capital expenditures, contributions, and profit sharing can expose the parties to liability and litigation in the future.

Securities and Exchange Commission (SEC) Compliance & Registration

In general, stocks are deemed as “securities” and two main bodies of law control the offering and sale of securities: the Securities Act of 1933 and the Securities Exchange Act of 1934. These laws are in place to ensure that investors are made aware of any pertinent information about a firm before investing, as well as to prevent any unfair practices in the actual exchange of securities. Below, please find specific information on the different types of filing requirements, including mandatory filings, exempt securities and transactions, and a list of specific statutory exemptions for different circumstances.

Mandatory Registrations and Filings

Generally speaking, under the federal securities laws, any purchase or sale of securities requires first filing a “Registration Statement” with the SEC, including a prospectus, in which the specifics of the transaction are detailed for public knowledge. There are also specific instances that require additional filings, such as:

  • Section 13D filing:
    • Required when one party acquires greater than 5% of a registered voting class of equity securities in any one firm
  • Section 13G filing:
    • For those investors that exceed 5% ownership but are “passive” and thus not required to make the full filing associated with 13D
  • Section 16 filing:
    • Required for any “director, executive officer or beneficial owner of greater than 10% of a class of registered equity securities of a public company” (Section 16 Insider, Practical Law Glossary Item 2-382-3796). These individuals are subject to additional filing requirements and limitations on trading securities due to their “insider” status (commonly referred to as “Section 16 insiders.”) Likewise, for any short-swing profits, or profits reaped by any of the above-mentioned individuals via buying and selling securities in their own companies within a single six-month period, Section 16 Insiders must make a Section 16b filing.

Exempt Securities & Transactions from Registration

There are two fundamental types of registration required by the SEC: registering securities themselves and registering security transactions. When securities are first created or “issued,” the issuing party will usually have to file a form with the SEC in order to make the Commission aware of the security’s existence. However, there are a number of securities that need not be registered at all, including:

Section 3 Exemptions:

  • US government obligations (Section 3(a)(2))
  • Municipal obligations (Section 3(a)(2))
  • Bank securities (Section 3(a)(2))
  • Commercial paper (Section 3(a)(3))
  • Exchanges with existing security holders (Section 3(a)(9))
  • Court or government approved exchanges (Section 3(a)(10)).

There are also certain types of transactions under which no SEC registration is required. In the case of a stock sale, these exempted transactions can have significant benefits for both buyer and seller. By avoiding public (SEC) registration, the parties can keep the transaction a secret until it has closed, thereby avoiding a public reaction to the news of the transaction. For example, if the public discovers that a firm is making a stock purchase prior to the closing of the deal, and subsequently reacts by buying or selling that firm’s outstanding stock, it could have a drastic effect on the stock price and could cause the purchase to fall apart. Thus, we at Neek Law Firm encourage our clients to take advantage of an exempt transaction whenever possible. It not only avoids the hassle and cost of full registration; it can actually improve the terms of a deal and increase the chances that the deal closes successfully.

Section 4 Exempt Transactions:

  • Section 4(a)(1):
    • Transactions by any person other than an issuer, dealer or underwriter
  • Section 4(a)(2):
    • Transactions by an issuer not involving a public offering
  • Section 4(a)(3):
    • Transactions by a dealer that is no longer acting as an underwriter in an offering, a specified number of days after a public offering is completed
  • Section 4(a)(5):
    • Transactions by an issuer made only to one or more accredited investors if the aggregate offering price does not exceed $5 million, there is no advertising or general solicitation of the transaction and the issuer files a Form D with the SEC within 15 days after the date of the first sale of securities
  • Section 4(a)(6):
    • Transactions involving the offer or sale of securities by an issuer provided that the aggregate amount sold to all investors under the exemption does not exceed $1 million within any 12­-month period and all other offering conditions are complied with. The JOBS Act created this “crowdfunding” exemption from registration which permits small aggregate amounts of securities of an issuer to be sold through brokers or funding portals to investors in small individual amounts.

Exemptions from Registration or Safe Harbors:

  • Regulation S:
    • Safe harbors in Rules 901­-904 of the Securities Act exempt sales that are outside the US to non­-US persons from US securities laws.
  • Rule 144A:
    • This permits resales of eligible securities to qualified institutional buyers (QIBs). Purchasers of securities from an issuer (pursuant to another exemption) can buy them with a view to reselling them under Rule 144A without affecting the availability to the issuer of the exemptions in Section 4(a)(2) or Regulation D.
  • Regulation D:
    • Rules 504, 505 and 506 under Regulation D provide specific exemptions from Securities Act registration requirements, allowing certain offers and sales of securities without having to register the securities with the SEC.
  • Rule 144:
    • Permits resales of restricted securities by both affiliates and non­-affiliates of an issuer under specified circumstances, including a holding period ranging from six months to one year.
  • Rule 701:
    • This permits non-­reporting issuers to issue securities under compensatory employee benefit and similar plans without registration.

The SEC also has the authority under Section 28 to exempt any person, security or transaction if it is in the public interest and consistent with the protection of investors.

The SEC has put these exemptions in place in order to facilitate the growth of business, particularly for smaller firms for whom the burden of doing a full SEC filings. They can be a huge help to firms attempting to raise capital for expansion. Likewise, for a large established firm that needs to execute a transaction quickly and quietly without the public taking notice, SEC filing exemptions can be a powerful tool. That being said, simply falling into one of the exemptions does not rid a firm of SEC or securities law oversight. Notice of the transaction must still be given to the SEC (usually within 15 days of closing), and all applicable antitrust, liability under the Exchange Act for fraud under Section 10(b) and Rule 10b­5, and other laws still apply. For this reason, we strongly encourage clients to consult Neek Law Firm before proceeding with any transaction that could potentially implicate SEC or securities law regulations.

Corporate Finance Agreements

At Neek Law Firm, we provide an array of corporate finance services with a focus on making the process (whatever it may be) as streamlined and cost-effective for our clients as possible. The main corporate financial services provided by our firm include:

  • Loan Agreements
  • Security Agreements
  • Promissory Note Agreements
  • Subordination Agreements

A loan agreement is, very broadly speaking, a document detailing the specifics of a loan—including the term, payment structure, factors determining interest rates, and remedies in the case of default.

A loan agreement may take the form of or include a Security Agreement. A Security Agreement is a contract that controls the relationship between two parties to a secured or “collateralized” transaction. These agreements generally occur where one party has agreed to loan another party money, but will only do so under the condition that the borrower provides some sort of collateral to secure the debt. Generally, the lender will carry out an underwriting process, checking on the borrower’s creditworthiness, income, and the state of the collateral. Assuming the lender decides to loan funds to the borrower, they may then enter into a security contract officially commemorating the agreement.

Though security agreements may be structured in a variety of ways, there are several relevant laws and oversight bodies that govern lending practices, all of which must be taken into consideration when structuring a security agreement. Despite each being unique, these agreements generally contain provisions relating to:

  • The value assigned to the collateral provided by the borrower
  • The specific rights of the lender in relation to the collateral
  • The terms of any sale or transfer of the collateral during the normal course of business
  • Any notice required by either party with respect to actions involving the collateral
  • Repayment terms, including interest rates, repayment schedule, and any prepayment or late payment penalties

A loan may also take the form of a Promissory Note. A “Promissory Note” is a relatively broad term indicating an agreement between parties in which one party loans another money (or credit, in some cases) in exchange for being repaid at a specified rate and on a specific payment schedule. Unlike a general loan agreement, a promissory note is a negotiable instrument–meaning that it is openly transferable between parties (much like cash). Notes may be bought and sold by a variety of parties, and will often be aggregated and “securitized” by funds or investment banks.

A note may be secured (such as a promissory note to a home, generally paired with a mortgage or deed of trust) or unsecured. Depending on which type a given note may be, the lender has different avenues of recourse in the case of default. For a secured note, the lender will often have the right to collect all principal and interest on the loan immediately in the case of default. For an unsecured note, though, the lender must actually file suit against the borrower (who refuses to pay) to try to recover any un-received payments. Additionally, there are countless ways in which the payment, interest, or collateral in a promissory note might be structured, including as a:

  • Demand Note
  • Interest-Only Note
  • Loan with Balloon Payment
  • Line of Credit Note
  • Non-recourse Note
  • Recourse (Secured) Note
  • Fixed Rate Note
  • Adjustable Rate Note
  • Convertible Note

A promissory note need not always be cash, and the loan does not necessarily have to be made in cash. A borrowing firm may offer a lender a reduced interest rate paired with stock warrants on that firm’s stock, or a lender may request shares in the borrower’s firm in order to secure the loan obligation. For this reason, having a competent attorney structure any sort of loan agreement is a must.

Subordination Agreements

More so than its own type of loan agreement, a subordination agreement alters the priority at which lenders are repaid their respective debts. Depending on a firm’s capital structure, and whether the firm has different levels of debt and equity (i.e. senior debt, senior secured debt, common stock, or preferred stock), it is generally the case that certain lenders will be repaid first, followed by subsequent levels of (“subordinated”) lenders, followed then by preferred levels of equity and finally common stock. A subordination agreement acts to rearrange that order of priority such that one lender voluntarily subordinates its right to be repaid to another lender.

Only the party that holds the priority repayment position can enter into a contract to subordinate that position. Thus, there is often some sort of consideration offered (perhaps in the form of warrants or options) in order to entice a lender to voluntarily enter a subordination agreement. They may also be struck where the lender actually believes that by subordinating itself (and thus allowing the firm to assume debt or equity from a new source), it actually has a better chance of being paid back on the loan it made.

Organizational Agreements (start-up companies, founders & investors)

This following group of documents may often be included in a firm’s initial organizing documents, or may be added later or drafted as separate documents. Regardless, the following types of agreements are particularly relevant to ensuring that ownership, management, and shareholders are protected. At Neek Law Firm, we specialize in the following organizational agreements:

  • Shareholder’s Right Agreements
  • Stock Transfer Restriction Agreements
  • Stock Vesting Agreements
  • Stock Warrant Agreements
  • Founder’s Stock Purchase Agreements
  • Stock Option Grant Agreements
  • Indemnification Agreements
  • Founder’s Asset or IP Assignment Agreements

Shareholders’ Rights Agreements

A shareholders’ rights agreement lays out the basic rights of shareholders with regard to their shares in a variety of situations. This may be initially included in a corporation’s articles of incorporation, may be subsequently added as an amendment to the articles, in the firm’s bylaws, or as a separate standing agreement.

A shareholders’ rights agreement (or shareholders’ rights plan as it is often referred to) lays out several key privileges provided to shareholders as a function of owning stock. Generally, this will include a description of the shareholders’ voting rights associated with each class of stock, as well as a definition of shareholders’ appraisal rights (a shareholder’s right to have his or her shares appraised in the case that he or she believes the firm was sold for inadequate consideration).

It may also include some sort of anti-dilution or “poison pill” provisions, which lay out the shareholders’ rights in the case that a third party attempts a hostile takeover of the firm. Usually, the poison pill provision allows existing shareholders (not including the party attempting the takeover) to either purchase additional shares at a substantial discount once the party attempting a takeover hits a certain percentage of ownership (known as a flip-in), or the right to purchase shares at a substantial discount after the completion of the merger (known as a flip-over). For example, assume a firm’s shareholders’ rights plan contains both a flip-in and a flip-over provision, and the flip-in kicks into effect once a party exceeds 20% control of the firm. If someone was to attempt a hostile takeover by trying to acquire a majority of a firm’s stock and then forcing a merger, these provisions would provide substantial obstacles to doing so. Once the hostile party acquired 20% of the firm’s stock, all other shareholders would be entitled to purchase additional shares from the firm at a substantial discount (often 50% of the market price). By allowing its diverse group of shareholders to purchase the additional stock at a discount, the firm makes it much harder for the party attempting the takeover to acquire enough shares to do so. If the hostile party survives the flip-in and successfully acquires the firm, it will then be contractually obligated to sell the shares of its newly acquired firm at a substantial discount to those same shareholders that purchased shares during the flip-in. This then leads to stock dilution and a devaluing of the share price.

As one can see, the shareholders’ rights plan is a very important piece of the organizational puzzle. Not only does it delineate what rights shareholders have in the normal course of business, but also serves to protect those shareholders in the case that something abnormal occurs. For this reason, we highly recommend that Neek Law Firm draft or review any shareholders’ rights agreement to which you or your firm is a party; doing so can help secure your interests moving forward, whether director, shareholder, or otherwise.

Stock Transfer Agreements

Much like the Shareholders’ Rights agreement, a stock transfer agreement is most often a portion of a firm’s bylaws, operating agreement, or some other document that lays out the firm’s operations. This portion of the firm’s articles or bylaws serves to limit exactly what shareholders may do with their shares with respect to certain transfers. This may include limitations on what types of parties those shares may be sold or transferred to, any first right of refusal rights to purchase such shares before it is offered to outsiders, any approvals required by the board or other shareholders in the case of a transfer, and possible limitations such as a cap on how much stock may be transferred to a single entity.

Stock Vesting Agreements

A stock vesting agreement sets out the vesting schedule that will be applied to any unvested rights that a company may provide to its employees, consultants, or founders. Most often, a vesting agreement dictates the terms of employees’ stock option or retirement contribution plans. For example, a firm grants an employee 25 stock options each year as part of his compensation. That firm’s stock vesting schedule dictates that these options vest over a five-year period. Thus, 5 of the 25 options will become viable the first year after they are granted, another 5 the following year and so on. Because new, unvested options are granted to that employee each year, he is always five years away from his most recent option vesting. This creates a strong incentive for the employee to perform well in order to stay with the firm and reap the benefit of his yet-to-vest stock options in the future.

Stock Warrant Agreements

A stock warrant agreement is the contract that dictates the issuance and terms of stock warrants. A stock warrant is very similar to an option in that it is redeemable for a share of the underlying stock, has an expiration date, and has a specific price at which the warrant is redeemable (the “strike price.”) However, there is one key difference between the two financial instruments. Stock options are most often issued as a form of compensation, and may be granted to employees alongside benefit plans and cash compensation. Warrants, on the other hand, will often be included alongside new shares being issued, or may be paired with corporate bonds or other financial instruments in order to “sweeten the pot” for investors. In doing so, a firm may be able to offer investors lower yields on investments in exchange for granting those investors the future right to purchase more of the firm’s shares. This can be a valuable way to manage cash flow in the short-term.

The warrant agreement itself lays out the specific terms of a warrant’s issuance. It will likely dictate how many warrants will be issued, the process by which they will be issued and the amount to be allocated to each investor (or stock), the price at which the warrant can be redeemed for a stock, the expiration date of the warrant, and the terms of redemption (for example, is this an American Warrant or a European Warrant?).

Besides the importance of clarity, the warrant agreement serves another vital purpose. Because each warrant issuance is unique—each warrant has its own set of terms, strike price, and expiration date—and because warrants can be openly traded on public exchanges, the terms of the warrant agreement are crucial for determining the market value of the warrant itself. For this reason, Neek Law Firm focus on determining exactly what a given client’s goals are in issuing warrants. With that information in hand, we can then begin to prepare a comprehensive warrant agreement with the client’s specific needs and desires in mind

Founder’s Stock Purchase Agreements

Fundamentally, a founder’s stock purchase agreement is not appreciably different than a normal stock purchase agreement, aside from the fact that the party purchasing the stock (the founder) is directly involved in the firm’s business decisions and has a say in the future of that firm and stock. For this reason, the process becomes significantly more complex. Because of the apparent conflict of interest when an owner wants to purchase his or her own stock, there may be a number of required filings with the Securities & Exchange Commission. There are limitations on what the founder may do with that stock after purchasing it, and once purchased, those stocks may not be sold or transferred without registration and other SEC filings; also, more likely than not, the permission of the other board members or shareholders may be required.

Generally, a founder’s agreement will contain a vesting schedule for compensation, and may incorporate intellectual property assignment provisions. These are in place in order to ensure that when a founder does transfer his interest in the business, the founder will be both adequately compensated and motivated to run the business. By including a vesting schedule for the founders’ shares being transferred, firms can help ensure that founders are committed to the firm for an extended period. Likewise, by including the IP assignment provision in its founder’s agreement, a firm can prevent a founder from walking away without giving up his or her IP rights. This provides the company the freedom to make use of intellectual property already contained within the firm without any disputes with former founder or owners.

Stock Option Grant Agreements

These agreements set forth the terms of a firm’s stock option distribution and redemption plan, and may also include a vesting clause, transfer and sale restrictions, and the schedule for how and when employees and executives receive stock options. This agreement may also specify the terms (including strike price and expiration date) of a given stock option, or may simply include general guidelines for how a firm will conduct its option policy. In the latter case, the stock option grant agreement is likely a portion of a firm’s articles of incorporation or operating agreement.

Indemnification Agreements

One of the most important aspects of any business agreement, particularly when venture capital and other types of investors are concerned, is the firm’s indemnification agreement (or an indemnification clause as included in the original corporate documents). These documents set out exactly what each party agrees to “indemnify” the other for, or guarantee against liability or default. For example, a venture capital fund may want to invest in a start-up firm, but wants to be sure that it is protected beyond the amount of his investment. The venture capital fund may ask the start-up to “indemnify” them against any damages that result from, for instance, the start-up’s management conducting business in a fraudulent way that leads to its “veil” being “pierced.” In the event that the venture capital fund is harmed by these actions, the start-up (or maybe even the guilty individual within the start-up) will be responsible for compensating the VC for that harm.

Another instance where indemnification agreements are common is in the context of employment or consulting agreements, particularly for directors and managers. Though most large firms are corporations or LLCs and are thus afforded limited liability, that liability only extends so far. In certain circumstances, there may be claims against a firm or its managers by third parties that are not precluded by limited liability, and in these cases managers and directors may find themselves personally liable. To some degree, this can have the effect of scaring managers away from taking necessary risks and performing to the best of their abilities, and may even prevent a manager from accepting a job if the liability appears to be substantial. This poses a problem for firms seeking out new managers; often, those managers are hesitant to join a firm unless they know that they can be sufficiently protected. Thus, the indemnification agreement has actually become a marketing point for firms when trying to attract talented management. In order to entice the most qualified managers to join a firm, that firm will often agree to indemnify that director for a wide range of matters, such as any third party lawsuits brought against the manager as a result of him or her managing the firm.

As one can imagine, indemnity provisions can be heavily negotiated agreements. Because it functionally acts to shift liability for certain behaviors from one party to another, the terms of the indemnity agreement must be clear and comprehensive. Otherwise, businesses, investors, and individuals alike run the risk of disputes over indemnity terms, which can very often lead to contentious and expensive litigation in the future.

Founder’s Asset or IP Assignment Agreements

Please visit our practice section, Intellectual Property & Internet Matters for a detailed explanation of this topic.

Work Relationship Matters and Related Agreements

  • Employment Agreements
  • Consulting Agreements
  • Independent Contractor Agreement
  • Non-Disclosure Agreements
  • Intellectual Property Licensing Agreements
  • Intellectual Property Assignment Agreements

Please visit our practice section, Employment, Independent Contractors, Consultants & Intellectual Property Considerations for a detailed explanation of of these topics and related agreements.