SMEs positioning for equity fund raising or listing

Contractual protection for minority shareholders

Minority shareholders will usually seek to negotiate a list of veto rights or reserved matters which require
the written consent of all of the joint venture parties before any action can be taken. In multi-party joint
ventures, it may be unworkable to obtain unanimous consent for all such matters and there may therefore be
an alternative requirement for a special or super-majority, e.g. 75% to 90%, consent rather than unanimous
consent in relation to certain matters.

Common reserved matters include:

• the issue of new shares and the creation of rights over shares
• the introduction of new shareholders
• the repurchase of shares by the joint venture company
• the payment of dividends and other financial matters
• the entry into major transactions
• the entry into material related party transactions (e.g. with directors or major shareholders), and
• other significant changes to the joint venture’s business

Matters can be reserved at either board level (requiring the consent of all directors or of at least one
director representing each shareholder) or at shareholder level (requiring the consent of all shareholders).
Details of reserved matters can be set out in either the joint venture agreement or the articles of
association. If reserved matters are included in the articles, the minority shareholder should consider
whether the majority shareholder will be able to amend the articles without the minority shareholder’s
consent (which may be the case if the minority shareholder owns 25% or less of the voting shares in the
company). Further protection may be provided to reserved matters in the articles by using class rights or
weighted voting rights.

Wherever the reserved matters are set out, care should be taken to ensure that they cannot be viewed as
fettering the statutory powers of the company, because any such provisions will be unenforceable and/or the
shareholders’ agreement may be unenforceable. If the obligations are included in the joint venture agreement
rather than the articles, and bind the shareholders but not the company itself, they are less likely to be
viewed as fettering the company’s powers.

In addition to reserved matters, a minority shareholder may aim to include additional protections in the
joint venture agreement and/or articles, such as:

• ensuring that all the terms of the joint venture agreement are fair to the minority shareholder and do
  not afford unfair rights or economic advantages to the majority shareholder
• a requirement for the minority shareholder’s representatives to be a necessary part of the quorum for
  both board and shareholder meetings and to be given adequate notice and information in advance of such
  meetings
• including quasi-fiduciary duties on the shareholders in the joint venture agreement, e.g. an obligation
  for each shareholder to use reasonable/best endeavours to promote the success of the company in the best
  interests of all of the shareholders
• pre-emption rights requiring the shareholders to offer their shares to the other existing shareholders
  before they are able to transfer them to a third party (though such rights may not be very useful to a
  minority shareholder if it has limited financial
  resources compared to a majority shareholder)
• a tag-along right requiring the majority shareholder to include the minority shareholder’s stake in any
  sale to a third party on the same terms, and
• a put option requiring the majority shareholder to buy the minority shareholder’s shares in certain
  specified circumstances

Majority protection

A majority shareholder will generally want the ability to run the joint venture with a minimum of
interference from the minority shareholder. It will therefore seek to limit the minority shareholder’s
influence by keeping the list of reserved matters and other contractual protections for the minority
shareholder to a minimum. The majority shareholder may also seek to include provisions to protect its own
position, e.g.:

• a drag-along right requiring the minority shareholder to participate in any sale of shares to a third
  party on the same terms, and
• a call option requiring the minority shareholder to sell all its shares to the majority shareholder in
  certain specified circumstances

The extent of the majority and minority protection provisions included in the joint venture documentation
will depend on the relative negotiating strength of the parties.

Charltons has experience in assisting Hong Kong SMEs with equity fund raising and offering
Hong Kong listing advice.

Charltons has vast experience of advising Hong
Kong SMEs positioning themselves for significant equity fund raising or
listing. We can offer Hong Kong listing advice.