The Tyranny of the Majority
When owners of private companies feel they are being mistreated, they often turn to shareholder oppression lawsuits. These oppression action have several underlying themes which, when understood, allows you to better prevent, defend against or prosecute these types of actions.
In the economic downturn that we are still experiencing, owners of companies are under a great deal of pressure to survive, much less prosper. When a publicly traded company’s shareholders are upset about the actions of the company, often lawsuits are filed that make their way into the news rooms. Recent shareholder lawsuits against Bank of American and 3Com have all made headlines. Those suits are the tiny minority of oppression actions. Shareholders in non-public companies or members of limited liability companies make up the vast majority of oppression actions filed with the courts today. When a minority shareholder in a closely held company feels they are being taken advantage of, they look to shareholder oppression lawsuits.
Holders of minority positions in closely held companies at some point will feel that the majority owners are running rough shot over them particularly when there is an economic downturn. Majority shareholders on the other hand, can use bad economic times as cover to strengthen their ownership position. The current economy creates serious pressure on companies that can cause owners to harass each other. Shareholder oppression laws are the weapon of choice when minority owners want to convey their anger over how they, as minority shareholders, are treated.
States address shareholder oppression in a wide variety of ways. Some states take an approach that can be described as purely equitable, in simple terms that means no statute controls shareholder oppression and so only case law can be relied upon. At the other end of the continuum, states can have very specific statutes that address each and every aspect of shareholder oppression suits in that jurisdiction. Naturally, most states fall somewhere in between the two extremes. Typically, a statute gives the basic structure, but the key concepts are expressed through court decisions.
These three basic approaches illustrate the major issues present and understand the shareholder oppression generally.
Oppression Based Purely On Equitable Principals
What do we mean when we say “equity” ? In essence when courts exercise their equitable powers they are trying to do the fair thing by court order such as correction of property lines, taking possession of assets, imposing a lien, dividing assets, or injunctive relief (ordering a person to do something) to prevent irreparable damage.
Some states do not have a shareholder oppression statute as part of their corporation and/or limited liability company laws. While this could be interpreted to mean that shareholder oppression should not be a cause of action, most jurisdictions without a statue have created through case law some type of duty amongst shareholders that have many similarities with partners in partnerships. The influential case Donahue v. Rodd Electrotype, 328 N.E.2d 505 (1975) states that close corporations are typified by: “(1) a small number of stockholders; (2) no ready market for the corporate stock; and (3) substantial majority stockholder participation in the management, direction and operations of the corporation.”
Using this or a similar definition for close corporations, courts impose a fiduciary duty from those in control of the corporation (a “majority stockholder” or the “controlling stockholder”) to minority stockholders. Since close corporations are essentially incorporate partnerships, the courts believe that stockholders “owe one another substantially the same fiduciary duty in the operation of the enterprise that partners” in particular a duty of the “utmost good faith and loyalty.”
These partnership like duties are moderated by an opportunity to show a legitimate business purpose for the allegedly “oppressive conduct.” Following a process of give-and-take between the parties, a court will then balance the equities to determine if the complained of conduct amounts to shareholder oppression.
Statutes
Some states completely govern oppression actions by legislative statutes as part of their corporate and or limited liability company laws. In these jurisdictions, the statute as passed by the legislature is complete, and applying an individual case is normally based upon the plain language of the statute. Any argument that seeks to deviate from the language of the statute will not be well received by the courts.
Combinations of Statute and Equity
As oppression is not always defined by the statutes, courts are left to their own devices to fashion an appropriate, equitable definition of conduct that amounts to shareholder oppression. In many states, these equitable concerns can be just as, if not more, important than the statutory provisions. But in other states, the statute may be complete enough to carry the day.
Conclusion
Shareholder oppression cases are an ugly affair—often compared to a divorce in the corporate setting. Once allegations or conduct has risen to the level of shareholder oppression, the damage is done and can not be repaired between the parties which can have a crippling effect on the business hurting everyone involved (except the lawyers). Having clear shareholders agreement stating the expectations of all parties involved can help mitigate any misunderstandings.
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