Shareholder agreements are essential to the governance of a corporation, especially in closely held or private companies. One of the most critical yet often overlooked sections of a shareholders’ agreement is the valuation clause the provision that determines how a departing shareholder’s interest is valued and bought out.
In Ontario, having a clear and enforceable valuation clause is fundamental to avoiding disputes and ensuring fairness when a shareholder exits due to retirement, death, disability, dispute, or sale of shares. At Hadri Law, we regularly advise Ontario business owners on how to navigate and structure buyout clauses that withstand legal scrutiny and reflect the true intent of the parties involved.
What Is a Valuation Clause?
A valuation clause outlines how the shares of a departing shareholder will be valued at the time of their exit. It serves as a roadmap for determining price and process, ensuring all parties are on the same page in situations that may otherwise lead to conflict.
This clause typically appears in shareholder agreements, especially those involving small or medium sized private corporations governed by the Ontario Business Corporations Act (OBCA).
When Are Valuation Clauses Triggered?
Common triggering events include:
Voluntary exit: when a shareholder chooses to sell their shares to remaining shareholders or to a third party
Involuntary exit: such as death, permanent disability, or bankruptcy of a shareholder
Disputes: including deadlocks, breach of agreement, or misconduct leading to a forced buyout
Corporate reorganization or sale: when the business itself is sold, merged, or reorganized, potentially activating drag-along or tag-along rights
Types of Valuation Mechanisms
There is no one size fits all valuation approach. Here are common methods used in Ontario shareholder agreements:
Fixed Price : An agreed upon price set in advance, typically reviewed and updated annually
Formula-Based Valuation : Uses a defined formula, such as a multiple of EBITDA or book value
Fair Market Value (FMV) : Often determined by a qualified third party valuator, either agreed upon by the parties or appointed through arbitration
Shotgun Clause : One shareholder offers to buy out the other at a set price per share, and the recipient must either accept the offer or buy out the offering party at the same price
Appraisal or Arbitration-Based Valuation : In cases of dispute or complexity, a neutral professional valuator determines FMV, with the possibility of arbitration if disagreements arise
Key Legal Considerations Under Ontario Law
For a valuation clause to be enforceable and effective under Ontario law, it must be:
Clear and unambiguous : Courts in Ontario give effect to parties’ intentions as expressed in the agreement. Vague or inconsistent language invites disputes.
Commercially reasonable : If the method is manifestly unfair or impossible to apply, courts may refuse to enforce it.
Consistent with OBCA requirements : Certain rights of first refusal or restrictions on share transfers must align with statutory obligations and fiduciary duties of directors.
Reviewed regularly : A clause based on outdated valuations or no longer relevant market conditions may create inequities or legal exposure.
Disputes Arising from Poorly Drafted Valuation Clauses
Many Ontario shareholder disputes arise when parties fail to define a clear valuation mechanism or omit one entirely. Without a defined process, shareholders may find themselves in court arguing over conflicting appraisals or procedural fairness.
Some examples of common mistakes include:
- Outdated or vague formulas
- No process for choosing a valuator
- Disagreement over minority or control premiums
- Failure to distinguish between voluntary and involuntary exits
Hadri Law assists clients in both drafting and litigating shareholder buyouts. A well structured clause saves significant time, legal fees, and strain on business relationships.
Best Practices for Drafting Valuation Clauses
- Include detailed definitions of triggering events
- Specify how and when valuations will occur
- Establish timelines for initiating and completing the buyout
- Clarify how valuation disputes will be resolved (e.g., arbitration, binding appraisal)
- Distinguish between different exit scenarios (retirement vs. death vs. misconduct)
How Hadri Law Can Help
We support clients throughout the business lifecycle from drafting shareholder agreements to guiding clients through complex buyouts. Our legal advice is rooted in a deep understanding of Ontario corporate law, business strategy, and dispute prevention.
Whether you’re an early-stage corporation drafting your first agreement or navigating a shareholder’s exit, we help ensure your valuation clauses are enforceable, equitable, and aligned with your company’s long term success.
Contact Hadri Law For advice on drafting or reviewing shareholder agreements in Ontario, book you’re a free consultation or contact us: 437 974 2374 Email: contact@hadrilaw.com