Crowdsourcing a constitution (that works for equity crowdfunding in Australia)
Shareholders’ agreements are a common expectation with investment in Australia, but they are problematic when it comes to equity crowdfunding. This is because any changes to the shareholders’ agreement generally require agreement, and signatures, from all shareholders. There is an alternative, and it lies within the company constitution. However, before we tell you about that, let’s get back to basics.
The company constitution
You are required to adopt a constitution when you register your company in Australia. Many companies choose to adopt the Corporation Act’s replaceable rules as their constitution or use a template (or ‘off the shelf’) constitution provided by a lawyer or accountant involved in setting up the company.
“A company constitution governs the company’s internal management. A Constitution is an essential and crucial document that oversees the activities of your company as well as the relationship of your company’s directors and shareholders.” — Lawpath
The constitution can be amended by passing a special resolution. These require at least 21 days’ notice and the agreement of a 75% majority of votes cast.
The shareholders’ agreement
Legally, companies aren’t required to have a shareholders’ agreement. Many opt to (especially when seeking investment) but sometimes earlier, when co-founders are considering raising funds for their business.
“A shareholders’ agreement is a legal contract agreed to by the shareholders of a company, governing both their business relationships and arrangements. A shareholders’ agreement also sets out the shareholders’ rights, responsibilities, liabilities and obligations.” — Legal Vision
Equity crowdfunding has way more shareholders than these documents were originally structured for
Keeping the two documents separate is useful for most companies, but it falls apart when it comes to equity crowdfunding
What if Food Connect Shed, for example, wanted to issue a dividend? If they had a shareholders’ agreement, they would require agreement from all shareholders to change their dividend distributions.
To notify and get agreement from over 500 shareholders would be a logistical nightmare and one lone wolf (with as little as a $500 stake) could stop the process.
What is the alternative?
We’re suggesting campaigners we work with avoid issuing a shareholders’ agreement to their crowdsourced funding investors and instead insert key terms into the constitution.
Among other things, this means if the company needs to change the rules of the company for whatever reason, they can do so using a special resolution (75% vote) as opposed to the 100% requirement for a shareholders’ agreement change.
Why are we making this publicly available?
We don’t want the legal costs of raising capital using equity crowdfunding to be prohibitive — while each company should seek their own legal advice, it may be cheaper to adopt this template or add in specific clauses to their existing constitution rather than have a lawyer (who may not have had any experience with this new industry) start from scratch.
The Drag along right clause
If the company is securing a sale and a predefined majority wants to sell, the minority will also be required to sell (or ‘dragged along’ into the sale agreement). This makes it easier for an exit.
The Right of first refusal clause
One concern campaigners have is losing control of who comes into their company as a shareholder (for example, some companies would not want competitors owning shares which give them access to communications and annual financial statements).
One way around this is a right of first refusal which allows the founders to exercise an option to buy the shares that one of the shareholders is looking to sell.
What other interesting things can you do with a constitution?
Constitutions are, in essence, a set of rules. Within certain limitations (the law!), you can create any rules you like.
Food Connect Shed, located in Salisbury, diluted the majority share of their holding company’s equity when they used crowdfunding to raise $2 million. The funds were used to buy a commercial warehouse. This company has its social mission locked into its constitution and allows it to make decisions in pursuit of this mission (this isn’t often easy and rarely do constitutions have structure for it!). They’ve made their constitution publicly available.
Have a look at your shareholders’ agreement — are there any terms you really like? As long as it doesn’t conflict with another clause in the constitution, you can add them in. The constitution is disclosed as part of a CSF offer, so shareholders are fully aware of the terms they are signing up to.
What are your thoughts on this constitution? Is there anything that needs to be included, or excluded? We’d love your thoughts to help inform this open-sourced template. Comment below, or let us know at firstname.lastname@example.org (bear in mind that you should seek your own legal advice for your company).