Directors & Shareholder Claims: 3

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Understanding the options – 5 tips

As discussed in previous posts, Boardroom and shareholder disputes arise for many reasons. When they do, it is important to understand the legal rights of all parties and the options available. The consequences of allowing things to drift and potentially get worse shouldn’t be ignored. There are options which help make life easier.

  • If you are a minority shareholder in a company, what happens if you have a disagreement with the majority shareholder, or a group which has more control?
  • How do you solve the problem, or even avoid a dispute?
  • In the third of this series, here are five important tips:

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1] Shareholder Agreements

The House of Lords in Russell v Northern Bank Developments Corp Ltd[i] emphasised the practical utility of Shareholder Agreements. These are used for a wide variety of purposes, adding significantly to the company’s constitutional regime of Memorandum and Articles. This includes providing personal rights to minority shareholders who otherwise have no control over fundamental points.  The minority shareholder’s concerns would be more difficult to deal with unless specifically covered as an enforceable private contract between members.

These should be provided in the Shareholder Agreement, covering similar areas to partnership agreements.

The benefits include avoiding future misunderstandings and practical difficulties in running the business.

A Shareholder Agreement typically deals with issues such as:

  • restrictions on transferability of shares
  • lack of a market for sale of shares
  • establishing a purchaser
  • formulas for valuation and funding
  • pre-emption rights
  • compulsory transfer or option arrangements
  • protection of minority members by permitting a veto
  • preserving confidentiality
  • efficient transfer on death, disability, retirement
  • estate planning
  • regulating management and involvement of investors
  • mechanisms for dealing with stalemate.

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2] “Unfair Prejudice” Petition
Section 994 of the Companies Act 2006 permits a shareholder to petition the court on the basis that the shareholder’s interests have been unfairly prejudiced in the conduct of the Company’s affairs due to e.g. breach of:

  • the Articles of Association
  • the Shareholder Agreement
  • fiduciary duties by directors
  • exclusion of a minority from the running of the company in small “quasi-partnership” companies.

The Court has wide discretion to grant the relief it decides is appropriate. This is often an order that the aggrieved minority shareholder’s shares are purchased for ‘fair value’. This may include a premium on the actual value of the shares as recompense to the petitioner for any wrongdoing by the majority.

3] What is a ‘derivative claim’ – S.260 of the Companies Act 2006?

In certain circumstances a shareholder can ask the court to prevent action being taken by the Directors which is harmful to the company, or make a claim against the Directors for any loss suffered by the company as a result of their action.  The claim must be made by the shareholder on behalf of the company. The shareholder’s right to bring a claim “derives from” the company. This is a claim made in a “representative capacity” by the individual shareholder, not on the shareholder’s own behalf. It is the company which is suffering the harm.  The damage to the company may also harm the shareholder indirectly, e.g. if there is a reduction in profits or other damage suffered.

Derivative claims are relatively unusual because although it is the member who issues the court proceedings as claimant to launch the action, the court must give permission for the claim to continue to trial.  A number of tests have to be satisfied before the court will give permission.

The shareholder runs a risk on costs and at least initially has to fund the claim themselves. It is possible to obtain an order that the company indemnify the member, although they may obtain no immediate benefit themselves by launching the court case. However, if the claim succeeds, the company will have been protected. Ultimately, that should benefit the shareholder because it protects their investment in the company.

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4] What is a claim under S.122(g)  of the Insolvency Act 1996?

Any shareholder may apply to have a company wound up on “just and equitable grounds” including in quasi-partnerships, involving the shareholder’s right to manage the company – Ebrahimi  v Westbourne Galleries Ltd[ii]. The sole remedy here of winding up is draconian, available only in specific circumstances. This is the “nuclear option” in shareholder disputes – the aggrieved shareholder petitions the court for a winding up order to terminate the company.

Usually the shareholders’ differences have become irreconcilable and a ‘commercial divorce’ is the only way to move forward. When a company is wound up, if there is anything left after paying the creditors and the liquidator the proceeds are divided amongst the shareholders.

Not every aggrieved shareholder will be able to justify a winding up petition to the court. There must be compelling reasons showing that the company can no longer continue.  The aggrieved shareholder has to prove there will be a concrete benefit in making a winding up order.  If there is some alternative remedy, which would allow the company to continue, the court may refuse to make the order.

A typical scenario where a winding up may be justified is where there is deadlock or stalemate between two or more shareholders in a quasi-partnership company which can’t be resolved. Where there is an aggrieved minority shareholder, experience shows that the majority shareholder will seek to dispute:

  • the complaints by the minority that there was any “quasi-partnership” in the first place
  • the circumstances of any alleged unfairly prejudicial conduct
  • the alleged value of the business
  • the aggrieved minority shareholder’s share

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5] Finally

The sooner informed negotiations start, the more likely it is that a private business will survive a shareholder dispute. A comprehensive Shareholder Agreement can help to preserve operations and resolve matters quickly.

Expert legal advice early on could keep the process out of prolonged, expensive and destructive litigation. This is by providing the facts, insight and information to allow all parties to make informed decisions quickly. This would ultimately be to the benefit of the company as a whole and the shareholders individually.

For further information regarding minority shareholder / business disputes and unfair prejudice petitions contact Paul.Sykes@lf-dt.com

[i] [1992] 1 WLR 588

[ii] [1972] 2 All ER 492

Unfair Prejudice & Drag Along

Minority Shareholder wins Quasi Partnership claim

8 Ways to avoid a Business Dispute

Are you a Shadow or de facto director?

Service of a Claim Form on a Director

WHEN DIRECTORS FALL OUT

Disclaimer

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Directors & Shareholder Claims: 2

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Resolving Boardroom Conflict  – 5 More Tips

Disputes between shareholders of private companies are often emotional and can be as complicated as a personal divorce. The disruption to any business can be extremely damaging. Knowing what remedies are available to resolve matters quickly could be the key to survival.

  • What if the majority is taking unfair advantage of you?
  • What if you suspect co-shareholders are stealing from the company?
  • In the second of a series, here are five further important pointers to be aware of:

1/ Protecting the Minority

There is a common misconception that the complex laws and regulations relating to companies should achieve a just and fair relationship between a minority shareholder and the majority. However, there is very little law which protects the minority, unless the parties have agreed beforehand.

Differences between shareholders don’t always arise because of power struggles or personal animosity. Frequently, disputes are down to differences in approach where one party wants to retire or withdraw their investment. Disagreements may centre on

  • timing
  • valuation issues
  • the direction of the company

The public courts are unlikely to be the ideal venue for resolving shareholder disputes. Proceedings are in the public domain and the procedure can be expensive and slow.

Particularly where private companies are concerned, there are effective alternatives, including: negotiation, mediation and arbitration.

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2/ Shareholder Agreement

An effective way to address potential problems before they arise is a Shareholder Agreement. This sets out ground rules for the shareholders in given circumstances. Many potential and predictable problems can be addressed in advance in a Shareholder Agreement. This leaves the shareholders to concentrate on managing the business, rather than a future internal dispute.

Amongst other things, the agreement can cover:

  • management responsibilities
  • non-competition restrictions
  • bonus and remuneration formulae
  • approval/decision process for major corporate decisions
  • buy/sell provision – e.g. a “shotgun clause” to force a transaction
  • how a shareholder can realise his or her investment in the company
  • whether to impose any restrictions on selling shares
  • criteria on valuing the shareholding
  • exit provisions – timetable for sale
  • appointment of an independent third party to value the shares
  • a detailed dispute resolution framework

 

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3/ What is an “Unfair Prejudice” claim?

The majority shareholders are in a powerful position, even where there is a Shareholder Agreement. However, the court will protect the position of minority shareholders from being abused in certain circumstances.

Section 994 of the Companies Act 2006 allows a shareholder to apply to the Court for an order declaring that the affairs of the company are being conducted in a manner unfairly prejudicial to the minority shareholder’s interests. If the court agrees, it will usually order that the shares of the minority shareholder are bought for fair value. However, the Court has a very wide discretion as to what it can order, including:

  • purchase of the shares of any members of the company by other members or by the company itself and, in the case of the purchase by the company itself, the reduction of the company’s capital accordingly
  • conduct of the company’s affairs in the future
  • company to refrain from doing or continuing an act complained about, or to do an act about which the petitioner has complained that it has omitted to do
  • civil proceedings to be brought in the name and on behalf of the company by such persons and on such terms as the court may direct
  • company not to make any, or any specified, alterations in its articles without the court’s permission

4/ When might a court find “unfair prejudice”?

Where a minority shareholder believes that the company is being run in a way which is unfairly prejudicial to some of the shareholders, the aggrieved shareholder can make an application to the Companies Court for a remedy. Unfairly prejudicial conduct may include for example:

  • majority shareholders paying themselves excess remuneration
  • majority shareholders failing to pay dividends
  • breach of duty by diverting business to majority shareholders or their connected companies
  • directors selling or buying assets at an unfair price
  • failing to pay declared dividends
  • undertaking activities which are not permitted under the company’s Articles
  • doing something which might result in the company’s insolvency
  • failure to follow company law or proper procedure on meetings.
  • failure to issue annual accounts

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5/ “Quasi-Partnership”

In small to medium sized private companies, the court might be persuaded that a “quasi-partnership” exists. The aggrieved party may complain that there is a breach of their ‘legitimate expectations’ about what the company was set up to do, and how it would be run. E.g.

it was agreed, or a common intention is proved:

  • the company would carry on a particular business
  • all would be entitled to an equal say in how the company is managed
  • a mutual expectation of continued employment
  • the directors would be fair when deciding on the salaries to be paid, the amounts to be kept in the company to fund growth, and the dividends to be paid out

If the court decides that a quasi-partnership exists, termination of that arrangement or unfair prejudice to the minority may result in the majority being obliged to buy out the shares of the aggrieved minority shareholder. If the majority acts in breach of such

“legitimate expectations”

the court may intervene.

Where an aggrieved shareholder has cause for complaint, urgent action is required. The court may refuse to interfere if a minority shareholder let the matter slide. The court will treat this as acceptance of the action taken by the majority:

“delay defeats equity”.

The court will consider all of the background circumstances on an application, including the minority shareholder’s own conduct.

These applications are rarely straightforward and are often settled by negotiation before the court is asked to make a final decision.  Quite often, one or more of the shareholders leave with a package.

For further information regarding minority shareholder / business disputes and unfair prejudice petitions contact Paul.Sykes@lf-dt.com

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Directors & Shareholder Claims: 1

Unfair Prejudice & Drag Along

Minority Shareholder wins Quasi Partnership claim

8 Ways to avoid a Business Dispute

Are you a Shadow or de facto director?

WHEN DIRECTORS FALL OUT

Disclaimer

 

 

 

 

Shareholder and Boardroom Disputes: Tips (2)

images CALM GOLDEN RULES WHITE

In the second in a series of articles, read my piece in the link below on:

http://www.luptonfawcett.com/blog/minority-shareholder-boardroom-disputes-tips-2/

  • Minority Shareholders
  • Boardroom Disputes
  • Shareholder Agreements
  • Unfair Prejudice claims

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Shareholder & Boardroom Disputes: Tips (1)

imagesCA8KW2NT GOLDEN RULES RED

In the first of a series of articles, read my piece in the link below on:

  • Minority Shareholders
  • Boardroom Disputes
  • Shareholder Agreements
  • Unfair Prejudice claims

http://www.luptonfawcett.com/blog/minority-shareholder-boardroom-disputes-tips-1/

 

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Unfair Prejudice & Drag Along

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My analysis on Court of Appeal decision in Re Charterhouse Capital Limited; Arbuthnott v Bonnyman [2015] EWCA Civ 536 :

http://www.luptonfawcett.com/blog/unfair-prejudice-and-drag-along/