We decided to write a bit about the Articles of Association, and to illustrate how essential a good Articles of Association is for every company, we also wanted to give you a small taste of real-life practice through a case involving a company represented by our firm, highlighting why a strong Articles of Association is a necessity for a quality company. Along the way, we also wanted to explain several additional documents, such as the Shareholders’ Agreement, Investor Rights Agreement (IRA), Cap Table, Shareholders’ Register, and Directors’ Register.
The Articles of Association – Their Meaning
According to the law, the Articles of Association serve as a contract between the company and its shareholders, and among the shareholders themselves. Since the Articles function as a contract, the parties can structure their relationships with one another and with the company as they see fit. As part of the company incorporation process, the founders must submit the Articles of Association to the Companies Registrar.
The law sets out the minimum requirements that must be included in the Articles: the company name, the company’s objectives (which are usually defined as engaging in any lawful activity), details of the company’s registered share capital, and details regarding the limitation of shareholders' liability (which is typically defined as limited to the nominal value of their shares or the amount invested by the shareholders for their shares).
In most cases, and unless restricted by veto rights granted to certain shareholders, amendments to the Articles of Association require a majority vote of shareholders at the General Meeting.
The Protection of the Articles of Association for the Company
The scope of how well-drafted Articles of Association handle various complex situations is vast, and an entire book could be written on this subject alone. However, since we aim to keep this discussion brief and take a bird's-eye view of certain points, we will provide a real-life example demonstrating the critical importance of a well-structured Articles of Association. Generally, the Articles of Association are the most important document both for investment transactions and for the ongoing management of the company.
Our firm previously represented a company that, following our recommendation, replaced its Articles of Association during a fundraising round with a detailed and customized version we drafted specifically for them. As part of the closing conditions of the investment deal (more on this in a separate post), the investment was considered complete only after the full investment amount was transferred to the company’s bank account. After signing the agreements, a representative of the investors, who was managing a financial institution, requested that instead of transferring the investment funds directly to the company’s account, the funds be deposited into a designated account within their system.
Despite our clear advice against it, the CEO succumbed to investor pressure and agreed to this arrangement. As a result, the company spent months submitting requests to access the investment funds that had already been contractually committed. Ultimately, half of the investment amount was never transferred to the company.
Without a strong Articles of Association, the company would have faced a significant legal and financial challenge, as general contractual protections under corporate law and contract law are complex and difficult to enforce compared to having clear internal mechanisms within the Articles of Association. However, in this case, the company had a forfeiture clause in its Articles of Association, allowing it to confiscate half of the investors’ shares. Additionally, the investors lost their board seat, which was contingent on holding a certain percentage of shares in the company. This gave the company leverage in negotiations, leading to a favorable settlement, ultimately resolving the issue in the company’s favor. A successful outcome.
Other Important Documents
The company is legally required to maintain a Shareholders’ Register and a Directors’ Register. The Shareholders’ Register must include all shareholders of the company throughout its existence. The register records all share issuances and transfers, the name, identification number or company registration number, and address of each shareholder, and the certificate number of each share certificate (this is not mandatory, but best practice is also to include the reason for each transfer or issuance of shares for every shareholder).
The Directors’ Register records the name, address, appointment date, and, if applicable, the termination date of each director.
Investor Rights Agreement (IRA)
The Investor Rights Agreement (IRA) was imported from the U.S. to Israeli companies and is typically used in companies incorporated in Delaware. The reason for this is that Delaware law does not allow the company to grant certain individual rights within the corporate governing documents (Delaware splits the Israeli Articles of Association into two documents known as Bylaws and Certificate of Incorporation).
An Investor Rights Agreement typically includes personal rights of investors such as information rights, the right to force the company’s registration for public offering, information rights, veto rights, and more.
Shareholders’ Agreements
A Shareholders’ Agreement is a somewhat rarer document and varies significantly from company to company compared to the other documents in this section. It is an agreement between shareholders, sometimes created for setting voting arrangements (or granting veto rights), for providing loans and financing among shareholders (for example, in a transaction I was involved in where a company was acquired by its managers and a private equity fund, the fund provided financing to the managers, and its terms were part of the Shareholders’ Agreement), or for establishing repurchase arrangements as part of a bundle of rights and obligations (this is usually set in a separate agreement, but in rare cases, it can also be found in Shareholders’ Agreements).
Cap Table (Capitalization Table)
The Cap Table (Capitalization Table) is a document that every company typically maintains (usually managed and updated by its legal counsel), which details the company’s entire share capital and ownership structure by share types and quantities. A well-maintained Cap Table is organized chronologically and consists of multiple tables (one for each significant allocation event).
Using the Cap Table (along with the Articles of Association), we can always assess the Waterfall structure in case of an exit event or liquidation. Another key element found in Cap Tables is dilution calculations—the Cap Table is the document that lays out all rights granted for the company’s securities (more on this in our article on rights attached to shares).
