NAVIGATING CORPORATE GOVERNANCE: UNDERSTANDING THE DISTINCTION BETWEEN A MEMORANDUM OF INCORPORATION AND SHAREHOLDERS’ AGREEMENT

Introduction:

In the intricate landscape of corporate governance, two foundational documents play pivotal roles in shaping the rights, obligations, and relationships within a company and its key role-players, namely the memorandum of incorporation and the shareholders’ agreement. Understanding the difference between these instruments, as well as the role of each of them, is essential for stakeholders to effectively navigate corporate governance structures and ensure compliance with the Companies Act No. 71 of 2008 (“Companies Act”) when deciding in which document an agreed upon provision should be contained.

Memorandum of Incorporation:

The Companies Act defines a memorandum of incorporation as a binding contract between the company and its shareholders, directors, and prescribed officers, or any other person serving the company as a member of a committee of its board.

Shareholders’ Agreement:

The Companies Act defines a shareholders’ agreement as a binding contract entered into by the shareholders of a company concerning any matter relating to the company.

Practical differentiation:

There are many factors to consider when deciding whether a certain agreed upon provision must be contained in the company’s memorandum of incorporation or shareholders’ agreement, such as:

  • the memorandum of incorporation automatically binds a company’s shareholders, directors, prescribed officers and committee members, whereas a shareholders’ agreement binds only those who are parties to it;
  • the memorandum of incorporation is the sole contractual instrument capable of amending alterable provisions of the Companies Act. Any provision contained in the shareholders’ agreement that would have the effect of amending an alterable provision of the Companies Act, which provision is not also contained in the company’s memorandum of incorporation, will be null and void. For example, direct appointments of directors by shareholders is an alterable provision of the Companies Act. These direct appointment of director procedures must be provided for in the company’s memorandum of incorporation to be valid and enforceable, and cannot solely be contained in a shareholders’ agreement;
  • whilst the memorandum of incorporation of a company is a public document, the shareholders’ agreement remains confidential between the parties thereto. Importantly, the confidential nature of the shareholders’ agreement shields sensitive information from public scrutiny, providing a secure platform for shareholders to express their intentions and expectations. Examples of provisions that are often contained in a shareholders’ agreement due to their sensitivity, are financing provisions regarding the company and forced buy-out provisions for shareholders who no longer comply with the relevant B-BBEE requirements; and
  • the memorandum of incorporation will always rank in priority to the shareholders’ agreement. Whilst both documents need to comply with the provisions of the Companies Act, a shareholders’ agreement will be null and void to the extent that it conflicts with the memorandum of incorporation of the company. It is therefore imperative to ensure that the memorandum of incorporation of a company and the shareholders’ agreement align with each other.

Conclusion:

The distinction between the memorandum of incorporation and the shareholders’ agreement lies at the intersection of statutory compliance, flexibility, and confidentiality. Whilst the memorandum of incorporation can amend alterable provisions of the Companies Act, the shareholders’ agreement provides a platform for shareholders to arrange confidential matters regarding the company amongst themselves. The memorandum of incorporation automatically binds certain persons, whereas the shareholders’ agreement only binds the parties thereto. Ensuring that each agreed upon provision is contained in the correct document (whether the memorandum of incorporation or shareholders’ agreement), as well as overall compliance with the Companies Act, is of utmost importance to avoid voidness of such agreed upon provisions.

VDMA’s team of experts are available to assist your company in the negotiation, drafting and implementation of your company’s memorandum of incorporation and shareholders’ agreement.

Published 23 April 2024