Law case coursework
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seminar17--minorityshareholderremedies.pdf
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Company Law
Seminar 17
Unfair Prejudice Petition
Ÿ Personal remedies
o Statutory provisions for personal remedies for the way the minority shareholder has been treated. The most significant interventions in providing for personal remedies. It relates to the way the minority shareholder is treated.
- S. 994, CA 2006: vibrantly litigated and has made very significant provision for minority shareholder protection in the UK.
- S. 122(1)(g) Insolvency Act: a much more drastic remedy. It has sometimes been granted. For a long time, it was regarded as redundant and useless because most people would use s. 994, but recent case suggest that s. 122 (1)(g) performs a unique role, in minority shareholder protection.
o Common law developments that have provided some form of scrutiny over the majority’s exercise of power. Case law has been conservative and limited in giving rise to such policies for protecting minority shareholders
- See personal rights under constitution. The rights conferred by the constitution are enforceable personal rights, but subject to constitutional amendments.
- Challenging the validity of constitutional amendments proposed by the controlling shareholders
- Derivative actions. It is brought on behalf the company, and subject to a good number of obstacles and conditions laid down in the statue. The courts can also resort to common law multiple derivative claim where necessary.
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Ÿ Conditions of carrying out an unfair prejudice petition
o Who can sue
Although we do not say explicitly that it is unfairly prejudicial to the minority shareholders, but it is broad enough to include minority shareholders and it's usually the minority shareholders who use this provision because majority shareholders are able to carry their decision in general meetings and they don't really need to activate this provision.
Case law interpreted this as referring to meaning an existing registered member. If a minority shareholder is not happy with the company and sold his shares, then he has lost his standing. If the person who is registered is a trustee, then the trustee has the standing to sue, but the beneficiary can instruct the trustee.
o Who is ‘conducting affairs of the company’
- Directors
- Controlling shareholders
- Shadow directors: If the minority shareholder is unhappy with other persons that they think are influential, these persons have to be proved as shadow directors first. If a minority shareholder cannot prove that these other persons are shadow directors and therefore capable of conducting affairs of the company, then the petition cannot stand.
o Must petition be made only in relation to membership interest?
Older case law took a stricter approach, saying that the interest that has been prejudiced must be membership interest only.
- Re Alchemea Ltd [1998] BCC 964: the company concerned was set up to provide members with employment, meaning that members were all concurrently employees and a person couldn’t be an employee if he was not a member. The petitioner’s employment was terminated because of abuse of power and other misconduct. He brought a petition in court and argued that the termination of his employment unfairly prejudiced his membership interest. The court held that employment could be terminated based on employment grounds alone. If he was unhappy with the way his employment was terminated, he should bring an action in the
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employment tribunal.
More recent cases seem to take a slightly more generous/relaxed approach. There is still some uncertainty in this area and the courts have some flexibility.
- Gamlestaden Fastigheter AB v Baltic Partners [2007] UKPC 26: a member who lent a lot of money as a creditor to the company. The company was mismanaged and there were breaches of directors’ duties. The liquidator opposed the claim saying that what the petitioner tried to claim was his interest as a creditor, which was affected when the company went insolvent. The court held that the member can have concurrent other interests in the company and the petition is not necessarily invalid because of the other concurrent interests. These other concurrent interests could exist, but the court was interested in finding whether or not the petition still related to membership interest.
- Wootliff v Rushton-Turner [2016] EWHC 2802: allowed a member who was also an employee who suffered grievances in terms of employment to bring the unfair prejudice petition since in companies where a person can only be employed if he is a member, the membership and the employment interests can be very closely related.
With these two more recent cases, the Alchemea type of approach may be more doubted. But on the other hand, the Alchemea case is quite squarely on point, because the petitioner was terminated for misconduct. It could be that in that kind of case, the court would think that the better forum is the employment tribunal. Whether the courts think that there is a valid petition depends on whether the petition relates to membership interest, which has to be decided on the facts of case.
o Must the petitioner come with clean hands?
- Extreme case (an exception):
Arrow Nominees Inc v. Blackledge [2001] BCC 591: the minority shareholder the minority shareholder was treated badly excluded. However, the minority shareholder then fabricated a lot of untruth in terms of how the company's affairs were being conducted, trying to smear the controlling shareholders. When the hearing proceeded, the court then discovered that many of the allegations made by the minority shareholder were untrue. Although there was bad treatment, it was very exaggerated. The court was of the view that it couldn't carry on hearing
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the trail because nothing true was coming out of the trial, so they had to be thrown out.
- Courts generally regard retaliatory actions or unwise conduct on the part of the petitioner as not obstacles to the petition
In most situations, the court would generally see retaliation by the minority shareholder as understandable as it is done because of human nature. But this should not mean that the original ground that the minorities are complaining of as being unfairly prejudicial, should be then thrown out. For example, retaliatory breaches of directors’ duties in Re London School of Electronics, Shepherd v Williams, Sprint Electric:
Re London School of Electronics [1986] Ch 211: the minority shareholder was also a director, and due to personal differences, he was excluded from the board. He then left the LSE (did not formally resign) and then set up a rival school. He started to porch teachers as well as students from the LSE.1 Despite there being a possibility of a breach of directors’ duties, the person was not prevented from bringing an unfair prejudice petition.
Shepherd v Williams [2010] EWHC 2375 (Ch): there was an older shareholder who was the majority shareholder, and a younger shareholder who started up as an employee and became a minority shareholder. Over the course of time, the older man and younger man fell out with each other and the younger man wished to be bought out. The older man then offered a buyout which was very ungenerous. The younger man refused to accept the offer. The young man then left an anonymous voice mail on a customer’s phone to tell the customer that the company was under investigation for competition law breaches2. The court said that this retaliation did not make his mistreatment in the company and the poor offer that was made to him invalid to be brought as an unfair prejudice petition.
o Funding the s. 994 Action
Once a petitioner brings an action, the first thing the petitioner wants to do is to prevent the defendant from using the company's money to defend the action so that the company's assets may not be misused or depleted in the process since the petitioner usually expects a fair buyout.
1 A breach of directors’ duties under s. 175. 2 Likely to be a breach of directors’ duties under s.172.
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At the outset of the position, the petitioner would usually ask the court to grant an injunction against the defendants so that they do not use the company's money to defend the action.
- Corbett v Corbett [1998] BCC 93: There were two equal shareholders and directors. One bullied and bulldozed the other one and made lots of decisions on his own. The other one then brought an unfair prejudice petition, and he was concerned that the respondent would use the company's assets. The court approved and granted the injunction. However, the court did mention that such an injunction did not necessarily mean that the company should not be legally represent in any part of the proceedings. Although the minority shareholder is bringing the proceedings against controlling shareholders or directors and not the company itself, the company may still need to be represented at some stages of the hearing. For example, giving the evidence or handing down the judgment and the order. At certain point in time, the company should be separately represented by company’s solicitors and barristers and that should be arranged.
Ÿ What is unfairly prejudicial conduct?
o Court has wide discretion to look at unfairly prejudicial conduct but must be based on a form of ‘mutual legitimate expectations’ of how the minority shareholder should be treated and such expectations are not met
o O’Neill v Phillips [1999] BCC 600: Phillips, who owned all the shares in the company, gave 25% shares to O’Neill and appointed him as a director. He told O’Neill that he hoped O’Neill would be able to take over the whole day-to-day management of the business if he retired. But then the construction industry went into recession and the company’s fortune declined. Phillips put aside the thought of retirement. In order to cut cost, he also reduced O’Neill’s status to that of a branch manager. O’Neill was unhappy and felt that it was inconsistent with the impression that was given to him. The court did find that there was some mutual legitimate understandings or expectations that Phillips would hand over to the younger chair if he retired, but the court decided that the promise was a conditional promise and O’Neill’s expectation had not been disappointed yet because Phillips had not decided to retire. Therefore, there was no unfair prejudice.
The court went on to say that in order to establish an unfairly prejudicial conduct, mutual expectations on the part of the parties will have to be founded upon one of the three elements:
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- Based on breach of companies’ constitution which gives rise to mutual expectations; or
- Based on breach of other mutual understandings or agreements between parties, oral or written; or
- If company is a quasi-partnership, based on wide understanding of ‘injustice or inequity’
The first two (Limb one) are based on mutual understandings and agreements, and they have to be established by evidence in court. The first two apply to all companies. The last one (Limb two) applies only to a type of company the court regards as quasi-partnership.
In quasi partnership, the court will not only look at what the parties have agreed upon as their mutual expectations, but the court will itself judge whether the minority has been treated fairly and with equity and justice, so this is a very broad notion of equity and justice. The courts treat the minority with much more generosity and all the circumstances of unfairness, which are not limited to those related to mutual understandings, can be looked at for the court to determine whether there is fairness and equity.
Ÿ Where there is no quasi-partnership
The breach of mutual legitimate expectations forms the basis of the petition. The courts usually uphold explicitly agreed terms.
o Brett v Migrant Solutions et al [2016] EWHC 523 (Ch):
- Facts:
Brett together with two other commercial partners (one of them was the individual, the other one was a company) got into a project together to acquire a company, which was a data processing center. All of the parties dealt with each other at arm’s length. There were extensive negotiation and agreements in terms of how to define their rights and relationships in terms of this joint project. One of the agreements was a shareholder agreement with an express buyout clause to say that if the parties were to fall out and the venture was not to succeed, then parties would all agree to a buyout. Brett fell out with the other partners. He was appointed as the managing director at first, but the other shareholders then accused him of using the company's money to fund his own expenditures and of
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serious neglect in his management. He was also unhappy with the way that they treated him and wanted to be bought out. The other shareholders said the buyout clause in the agreement would be enforced, but Brett disagreed and wanted more generous a buyout offer. Brett then brought the matter before the court as an unfair prejudice petition and argued that the offer was way too low.
- Holding:
The court held that the shareholder agreement represented mutual understanding and had to be enforced. The other shareholders did adhere to the agreement when they made the buyout offer. Therefore, Brett was not given anything better from the court. He was asked to adhere to the mutual understanding that have been expressly entered into.
o Moxon v Litchfield & Ors 2013] EWHC 3957 (Ch):
- Facts:
Moxon and two other individuals formed a company which was an investment management company. All three parties entered into a shareholder agreement. They dealt with each other in a very commercial arm’s length manner and negotiated quite explicitly before they entered into the shareholder agreement. One of the clauses was that if a party were to be found of gross misconduct, then the other party has the option of requiring the misconducting party to sell out. The sell price will be the par value of the shares.
Moxon was then accused of gross misconduct, which was proved as a fact. He had involved himself in a competing investment management company3, and he did not declare his conflict of interest to the rest of the shareholders-cum-directors. The fellow shareholders directors were very unhappy when they found this out, and they invoked the clause to say that they will buy him out at par value. At that time, the company was worth a lot more if it was put into valuation. Moxon then claimed that the buyout at par value was unfairly prejudicial to him because he had also contributed to the growth of the company, and he therefore deserved to people at a fairer price.
- Holding:
3 Breach of directors’ duties under s.175.
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The court was of the view that all three parties dealt with each other at arm’s length, they agreed explicitly to the clause and this represented a mutual understanding and the court would enforce it.
Ÿ If there is a quasi-partnership
o Quasi-partnerships are usually small private companies where there is a close-knit group of shareholders and they may all take on certain responsibilities and highly interdependent on each other. They usually are family or friends, but in certain other contexts where the courts can find a huge degree of interdependence and close reliance on each other, a quasi- partnership can also be acknowledged.
o If there is a quasi-partnership, the main consequence is that court can consider a WIDE range of conduct as being unfairly prejudicial.
o Quasi-partnership indicators (laid down in Sprint Electric)
- Relations at outset of business eg family, friends, partnership conversion
- Degree of mutual interdependence and long-termism (personally invested in the company, not merely look for commercial return)
- Restrictions on transferability of shares ie personal elements are more important than commercial and shareholders do not expect personnel changes
o WIDE range of unfairly prejudicial conduct
Even if controlling shareholder is legally exercising power to exclude or remove the minority from the Board, this can be unfair. The court is looking at unfairness in personal relations.
- Exclusion and removal from the board without a reasonable offer for the petitioner’s shares: What counts as a reasonable offer?
Croly v Good [2010] EWHC 1 (Ch): an older man who had brought in his employee, a younger man, into the business as minority shareholder. Then they fell out. The older man started to remove the younger men from the board, terminated his employment and refused to pay his salary. Because of the majority holding power, some of these things can be done validly but it was unfair.
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Birdi v Specsavers: Birdi was excluded by other people on the board, but that was partly because they said she was in breach of directors’ duties and she funded her own expenditures using the company's money. But the court still found that the exclusion was unfair.
Also see Shepherd v Williams [2010] EWHC 2375 (Ch).
- Non-payment of dividends or the payment of very low dividends
even if it is legal for directors to not declare dividends, the sustained non- payment of dividends can be unfair as there is unequal enjoyment of the company’s wealth between controlling and minority shareholders.
Re Sam Weller & Sons Ltd [1990] Ch 682: Somebody put up with 36 years of not receiving dividends and then decided to sue.
Lucy McCallum-Toppin v McCallum-Toppins and AMT Coffee: The company was owned by a mother and two sons and the widow of the third son. The mother and two sons were executives and authorized significant amounts of expenditure out of all the profits of the company. The widow, a minority shareholder, suffered 12 years of not receiving dividends and she brought a petition to court. The court held that it was unfair for the minority shareholder not to have been given any dividends from the profits for over ten years.
- Domineering conduct and improper seizure of power on Board
Even if it is legal for an equal shareholder to seize power and dominate Board (sometimes the 50% structure is meant to reflect equality and the need for mutual respect.)
Boughtwood v Oak [2009] EWHC 176 (Ch), ITC v Ferrester
Both cases involve a central figure who was like an inventor and a innovator of the company. And the other side was the venture capitalist the investor. The inventor is usually very domineering and wants all of his ideas to be carried out and will not suffer any deviation. The courts found that in various situations, it might be legal for you a fifty percent shareholder to pass resolutions, but it can still be unfair and disrespectful to the other party.
In quasi-partnership, the courts are not limited to looking at mutual
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understanding between shareholders, but rather, they’re looking at conduct and whether personal relations have made unfair by certain shareholder’s conduct.
Ÿ Remedies under s. 996
o The courts have a range of different orders in their arsenal, such as regulating the conduct of the company or giving out injunctions or even authorising civil proceedings to be put in the name of the company. So if there are breaches of directors’ duties involved, as part of the unfair prejudice remedies, a derivative claim can be authorised for a suit against the wrongdoing directors. And the court can also provide for a buyout order, where minority will get hopefully reasonable and fairly price buyout by order of the court.
Dalby v Bodilly [2004] EWHC 3078: directors allotted too many shares and the minority shareholder’s holding became diluted. The minority shareholder claimed that this was a breach of directors’ duties for improper purpose in terms of a share allocation, and there was also unfair prejudice involved in the dilution. The court agreed with that and the court ordered a buyout.
o The buyout remedy as the main remedy
Despite wide discretion to order remedies, court usually orders a buy-out for petitioners.
- Without discount:
Market practice is that minority stakes are usually valued at a discount from the market value because minority stakes in a private company is illiquid and not highly marketable.
Buyout without a discount is applied in many cases.
“Without discount” is what the most petitioners are looking for. What they are seeking to obtain is a realisation of the value that they have injected into the business.
Re Apollo Cleaning Services Ltd [1999] BCC 786: the minority shareholder had been with the company for twenty years and then was ousted, and he was given an offer to buy his shares at par value, which is 16,000 pounds at that time. At the end of the petition, the court valued his stake at 162,000 pounds.
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- Adjustable date of order:
When the minority is excluded, the majority takes charge of the company, and sometimes the majority might make such poor decisions that the company’s value might be depleted or lost by a lot. And the minority would say this loss in value is not his responsibility and he should have his shares be valued at the point in time when he was still contributing to the company.
The court has the discretion to adjust the date of the order so that the buyout is valued at a favorable time for the petitioner.
In Shepherd v Williams [2010] EWHC 2375 (Ch), the court valued the buyout order at the time of the minority’s exclusion from the board. The court decided that from that point onwards, the minority could not really do anything more about the business. It was in the hands of the controlling shareholder, so the minority cannot be responsible for loss in value from that point. A fair buyout would be dated at the point in time of exclusion.
- Court valued:
The courts are not necessarily hampered by accountants appointed by the majority. The court can appoint independent experts, or the court can look at all the evidence and decide what is a fair buyout. Therefore, the courts have very wide discretion to do their own valuation and not rely on any other professional that the majority has brought in.
Ÿ Just and Equitable winding up
o S.122(1)(g) Insolvency Act 1985 provides that a member of the company could petition the court for a just and equitable winding up.
o The courts look at all of the circumstances, and if it is fairer for the entire company to be wound up altogether and then the assets of the company to be redistributed back to the shareholders, than allowing the company to continue, then winding up will be an appropriate remedy.
o Main use is that it provided a remedy predating the unfair prejudice petition which was introduced in 1985.
o With the introduction of the unfair prejudice petition in 1985, it became
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increasingly questionable whether unhappy members of the company should be allowed to go to the court for an order to shut down the company and divide and return the assets of the company to shareholders.
o ‘Is it reasonable to pursue alternative remedy’ bar
- Fuller v Cyracuse Ltd [2001] B.C.C. 806 [2001] 1 B.C.L.C.: when considering such a petition, the court would ask whether it was reasonable for the petitioner to pursue an alternative avenue.
- Fulham Football Club v Richards [2011] EWCA 855: illustrates that s. 122 (1)(g) Insolvency Act is not readily available if the petitioner can pursue s. 994.
- Badyal v Badyal [2018] EWHC 68: the court mentioned that if someone petitioned for a winding up on just and equitable grounds, the court would look carefully at the solvency situation of the company. If the company is solvent and there are assets to return to shareholders, and there is truly a case for it, then the court may support the petition.
o May be appropriate in some cases
- Re Yenidje Tobacco Co. [1916] 2 Ch 426, CA: The company had been formed by two tobacco manufacturers, N and E. They were the only members, with equal voting rights, and the only directors. N told E that he hoped his son could join the company and then E then took a voluntary dilution, and allowed N’s son to buy into the company. Therefore, ownership of the company from a 1/2-1/2 structure became a 1/3-1/3- 1/3 structure. N and N’s son together became the majority and they proceeded to remove E from the board. E then petitioned the court for a just and equitable winding up and the court ordered the winding up.
However, this case predated the introduction of s.994, so the winding up was the only remedy for the shareholder at that time. In today’s context, the court can order a buyout under s. 994 and then E will be bought out without a discount, but E will only receive 1/3 of the value of the shares in the company. Will the court still order a winding up for the purpose of justice?
- Harding & Walton v Edwards (2016): Family company with mother and sisters as shareholders. One sister wanted to sell out, but she did not think the offer was adequate. She petitioned the court to wind up the company
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because she thought upon winding up, she would get a fairer share of the company’s assets.
One particular thing that the court considered was that if the sister minority sold out, she then inherited shares later from other dead family members such as mother and she had to sell out the shares again.
The court ordered the company to be dissolved so that capital can be distributed to all, and those who wish to carry on business can then deploy their capital to those ends (clean break approach).
If the circumstances of the case warrant a clean break, then the court may order a just and equitable winding up.
