• Home
• Contact
• Print Page
• Email Page

Corporate Clips

I'm a Minority Shareholder... Get Me Out of Here

November 2003

Minority Shareholders' Remedies

Disputes between shareholders, particularly in small private companies, can be all too common.90% of UK private companies have less than five shareholders who, typically, participate in the management and operation of the company.When disagreements occur, which cannot be resolved amicably, shareholders will usually look to the constitutional documents of the company for a remedy.

In the absence of protection in a company's memorandum or articles of association, or contractual protection in the form of an agreement between the shareholders, a minority shareholder who has fallen out with the majority has few options. Depending upon the size of his shareholding, he may be unable to exert any voting influence over resolutions proposed by the company to, for example, disapply statutory pre-emption rights on new issues of shares or to alter the company's articles[1] In addition, a shareholder may only normally make a claim by way of a personal action in respect of the loss he suffered personally (as opposed to a loss suffered by him in his capacity as a shareholder[2]). Exceptions to this rule are limited.

In such a situation, the shareholder could fall back on the statutory remedy under section 459 of the Companies Act 1985 to apply for relief on the basis that the affairs of the company are being conducted in a manner which is unfairly prejudicial to him.An alternate approach would be to apply for an order to be made to wind up the company on the grounds that it is just and equitable to do so[3], although for many shareholders this would be too extreme and would not give the applying shareholder the most beneficial exit.Recourse to either option will, generally, only be available for shareholders in private limited companies which are quasi-partnerships (for example, where shareholders have some involvement in the running of the business).

Unfairly Prejudicial Conduct

In the past, petitioning the court under section 459 (or threatening to do so) was a convenient way for an unhappy minority shareholder to exit the company, as the courts tended to effect a remedy which would allow for the company to continue but allow the disgruntled shareholder to divest his shareholding.

The courts became concerned that minority shareholders were seeking the protection of the statutory provision in any dispute they had with the majority, in order to ensure a market for the minority's shares.Recent case law has attempted to redress the balance by making it more difficult for a shareholder to be granted relief.For a shareholder to be successful in his section 459 application, he essentially must show that there has been some breach of the terms on which it was agreed that the company would operate or that the company is being run in a manner contrary to good faith and (in either case) which damages the worth of his shareholding[4].

In many circumstances, this will be easy to show (for example, if those in control of the company's affairs are misappropriating or misusing company funds, or if business is being diverted away from the company to entities controlled by directors or their associates); in others, it may be more difficult and will depend upon the specific facts.The courts will not accept applications which relate to trivial infringements or are vague statements about commercial decisions made by the company.Importantly, it has been held that a breakdown of the relationship between managers of a quasi-partnership does not automatically mean that an application for relief will be successful.

Once unfair prejudice can be made out though, the order made will usually be the same.Although the courts have discretion over the remedies to be granted, the overwhelming majority of orders seek to force the remaining shareholders (or some of them) to purchase the applicants' shareholding for fair value.

It is worth remembering that section 459 does not purely exist for the benefit of those with a minority holding.Majority shareholders could also bring a petition of unfair prejudice, but in practice this would be rare.As majority shareholders, they would usually have the power to ensure that resolutions of the company are passed to bring any prejudicial action of the company to an end.

Making an Offer

If the majority shareholders have acted in such a way as to unfairly prejudice the minority, they could employ the tactic of making an open offer to the minority to buy all their shares at fair value.This should have the effect of warding off any threat of proceedings (or call a halt to any that have been initiated), as a minority shareholder who continues with the petition following such an offer could find his application struck out.

The majority may not wish to make such an offer, but as it is likely to be the eventual outcome of any court proceedings, doing so will minimise legal costs.

This may also be a useful strategy for minority shareholders.As petitioning the court can be expensive and time-consuming, the minority shareholder could offer to divest his shares.A dissatisfied shareholder can be an impediment to an effective business (particularly if the shareholder has a management role) and the majority shareholders will be aware that if they unreasonably resist a fair offer, costs could be awarded against them should the matter ever reach the courts.

A "fair offer" is one in which the shares are valued pro rata without any discount being applied because the stake is a minority holding.It should also be valued on a going concern basis and include provision for the payment of the minority shareholder's costs.If the shareholders cannot agree on the share price, the value should be determined by an independent expert.If the offer is based on a valuation made solely by the company's auditors, it will be difficult to convince the court that a fair offer has been made[5].

Practicalities

The paucity of effective statutory remedies for the settling of disputes between shareholders highlights the importance of putting in place effective contractual arrangements at the time of a shareholder's investment.

Shareholders should, when setting up in business, insist on formalising the operation of the company and the ways in which they can exit in the event of any breakdown in relationships.

Further Statuory Right of Minority Shareholders

% holding	Main Rights
>50%	To passanordinary resolution ofthe company (effective control).
>25%	To blockthepassingofaspecialor extraordinary resolution (e.g. altering the articles of association of the company).
>15%+	To apply to court for a cancellation of any alteration of the objects of the company in its memorandum of association.
>10%+	To require the directors to call an extraordinary general meeting. To demand a poll at a general meeting (except in limited circumstances).
Any	To block an elective resolution (e.g. to dispense with the holding of an AGM). To receive copies of the memorandum and articles of association, the latest company annual accounts and directors' report. To inspect certain registers and records which the company is required to keep. To attend and vote at meetings of the company.

Andy Moseby

---

Kemp Little LLP Solicitors, Cheapside House, 138 Cheapside, London, EC2V 6BJ
Tel: +44 (0) 20 7600 8080    Fax: +44 (0) 20 7600 7878
© 2007 Kemp Little LLP         An Embado.com solution