Help! I'm a minority shareholder!
Minority shareholders of a private company can often feel that they are being taken advantage of. Their money is invested in the company, helping fund the business, but they are often kept in the dark about the operational and financial side of the company. This is particularly so when a single director-shareholder – or small group of director-shareholders – is in a dominant and controlling position in the business. What powers does a minority shareholder have?
The minority shareholder’s problem
In company law, a minority shareholder has little if any power over the management of the company or the distribution of its profits.As a general principle, the majority rules. For instance, shareholders with less than 50% of the shares in the company cannot appoint a new director.
The best way to ensure that a minority shareholder’s position is protected is to have a Shareholder Agreement, i.e. an agreement between the shareholders about how the company will be run, including participation in decision-making, etc. The agreement will often include controls on the appointment of directors, profit distribution, major expenditure, borrowing and exit mechanisms.It gives minority shareholders a say in the business and some security.
These agreements are usually (and preferably) drawn up before the business starts, but they can be agreed at any time in the life of the company.
However, even if there is no Shareholder Agreement, a minority shareholder who is being excluded or treated unfairly still has some options.
Right no. 1: obtaining company financial documents
Any shareholder has a statutory right to be provided with a copy of certain financial and related documents for the company. These are the company’s annual accounts, any strategic report for the previous financial year, the latest directors’ report and the auditor’s report on the accounts. The company cannot charge for providing the documents.
It is sometimes believed – especially by dominant director-shareholders – that minority shareholders are entitled to see only documents which have been filed at Companies’ House, such as abbreviated and unaudited accounts. But this is wrong, and if a minority shareholder is ever told, “Just download what you want to see from Companies House”, they can reject the suggestion accordingly.
A company is legally obliged to prepare full accounts for shareholders, and it is those accounts that minority shareholders are entitled to see. The company has an entirely separate obligation to file accounts at Companies House. If it has permission to file abbreviated accounts at Companies House then all well and good, but that does not mean it can get away with those for shareholders.
Right no. 2: seeking a full account of the affairs of the company
Where the interests of a minority shareholder have been prejudiced by the actions of the company, or the way it is being run, they can ask the court to order a full account of the affairs of the company. Such a request to the court will often be made where, for instance, the company fails to pay declared dividends, or undertakes activities which are not permitted under the Articles. Another circumstance in which the court may make such an order is where the company does something which might result in its insolvency.
Right no. 3: removing a director
A simple majority (50%+) of shareholders can usually remove a director from office. This is subject to any contrary provisions in a Shareholder Agreement or the company’s Articles of Association.
Although by definition a minority shareholder does not have 50%+ of the shares, if they combine with other minority shareholders, they might do so collectively.
Right no. 4: acting on behalf of the company
In some circumstances, a shareholder can prevent an action being taken by a director which is harmful to the company, or make a claim against them for any loss suffered by the company as a result of that action.Such a claim is made by the shareholder on behalf of the company, not on the shareholder’s own behalf: it is the company which is suffering the wrong. However the loss suffered or harm done to the company may well also harm the shareholder indirectly, because there will be a reduction in profits or the company might fail.
For example: a company enters a contract with another company owned by one of the directors which is much less favourable than a similar contract with another, unconnected, business would have been. The company will suffer because its profits will be reduced, whereas the director would make a personal profit (at the expense of the company).
Right no. 5: winding up the company
Sometimes called the nuclear option, a minority shareholder has the right to ask the court to wind up the company and bring it to an end. Such a significant step is usually taken only when shareholders are at deadlock and their differences can no longer be reconciled. It is akin to a ‘commercial divorce’.
If the company is wound up, then any assets remaining (after creditors have been paid and the liquidator’s bill settled) will be distributed between the shareholders.
The shareholder will have to prove to the court that the company cannot continue. If there is an alternative, which would allow the company to continue, then the court may refuse the request.
How to enforce minority shareholder rights
It is important for a minority shareholder to act quickly, especially if they are making an application to court. Allowing matters to run on, may be taken to be acquiescence in the action taken by the director/company. They must also ensure that they themselves have not acted in a way which is contrary to the company or another shareholder’s interest. It is always easier to persuade the court to protect a shareholder who is an innocent party, than to decide between shareholders whose conduct is equally blameworthy.
The result of an application is often that a minority shareholder’s interest is bought out, i.e. the court will order the other shareholders to buy the minority interest (if it is practical to do so). In fact, in most cases an application will not get to a trial, but will settle beforehand, perhaps at a mediation. Litigation is expensive for both sides, and so compromise will invariably be better for all concerned.