Shareholder disputes arise in a wide range of situations; most commonly, when a shareholder disagrees with the way in which the company is being managed, disagrees with decisions that are being made by other shareholders or directors, or simply wants to exit by selling their shares at a reasonable price.
What legal action can a shareholder take in this situation?
This article considers some of the options that are available to shareholders.
This starting point is the shareholders agreement. This agreement (if it exists) may have an agreed pathway that deals with the way in which disputes and sale of shareholders must be resolved. Shareholders are free to enter into a contract with each other and with the company so long as those contracts do not conflict with the Companies act 1993. In the absence of such an agreement, the rights of the parties fall back on the general law.
S 174 of the Companies Act 1993
A disgruntled shareholder is able to bring a claim before the court seeking relief if they can demonstrate that the affairs of the company have been, are being or are likely to be, conducted in a manner that is oppressive, unfairly discriminatory or unfairly prejudicial.
Johnson v Snyed is a good example of a shareholders dispute in a small business. In this case, the plaintiff and the defendant were the directors and two of the shareholders in a small printing company based in Masterton. There was a third shareholder who was the defendant’s partner. The plaintiff owned 50% of the shares and the defendant and his partner held 25% each. The company was incorporated on 1 July 1981 and had no formal constitution.
The business relationship between the plaintiff and defendant began to deteriorate sometime in the late 1990s and eventually broke down completely. The plaintiff said that the affairs of the company have been, or are being, or are likely to be, conducted in a manner that is likely to be oppressive, unfairly discriminatory or unfairly prejudicial to him in his capacity as a director and shareholder. He sought relief pursuant to s 174 of the Companies Act in the form of an order that the defendant’s shares be transferred to him and/or the defendant disqualified as a director. Alternatively, he sought relief pursuant to s 383 of the Act in the form of an order disqualifying the defendant as a director for a period of one year.
The plaintiff’s claim was based upon three alleged instances of serious misconduct on the part of the defendant: a forgery relating to company documentation and two incidents of unauthorised transfer of company funds.
All three instances were said to have been instigated by the defendant without the plaintiff’s knowledge. In addition, evidence was given of other instances of self-interested conduct on the defendant’s part. These were pointed to as providing context and underlining the complete breakdown of trust between the plaintiff and defendant, and the untenability of their enjoying a continuing business relationship. One of those other instances concerned the transfer of half the defendant’s shareholding to his partner without reference to the plaintiff.
In granting relief to the plaintiff, the Judge said:
“…it is axiomatic that in a partnership type situation it is to be expected that each shareholder/director should act in good faith and in furtherance of the mutual interests of each in conducting the affairs of the company in a beneficial manner. Although a proceeding under s 174 is “not a general inquiry into the affairs of a company”, if a company has done something which has unfairly affected a shareholder an application may be made under the section.”
Claims under s 174 of the Companies Act 1993 must be supported by actual company conduct that is prejudicial or unjustly detrimental to a shareholder. It is important to note that if the company itself or indeed another shareholder has made a reasonable offer to the complaining shareholder to purchase the shares, the court may take the view that this removes any prejudice suffered by the complaining shareholder.
Dealing with the situation of deadlock – liquidation on the just and equitable ground
Where there is a “deadlock” between shareholders, the court has power to liquidate the company on grounds that it is just and equitable to do so, pursuant to section 241 of the Companies Act 1993. Deadlock can often occur in small companies where shareholding and directorships are held on a 50-50 basis.
This is a remedy that is generally regarded as a remedy of last resort. The court needs first to be satisfied that the breakdown of the relationship between the shareholders as catastrophic to the point where the only way forward is to liquidate the company. Liquidation of the company is obviously a drastic step, having significant consequences for staff and creditors. For that reason, the relief of liquidation is sparingly granted by the court.