Company law: high court minority report

Two recent conflicting rulings regarding the duties that majority
shareholders owe to minority shareholders could have repercussions for
owner-managers, or businesses considering buying a stake in a private company.

New case law sheds more light on when a majority shareholder might be held
liable for an abuse of power. The cases of Metropolis Motorcycles Ltd (Hale
v Waldock and another) and Irvine v Irvine this year have examined
this complex issue in the context of section 459 of the Companies Act 1985.

The legislation says that a shareholder may apply to the court by petition
for an order on the ground that the company’s affairs have been conducted in a
manner which is “unfairly prejudicial” to the interests of its members.

In the case of Metropolis Motorcycles the petitioner owned 42% of the shares,
while the person carrying out the day-to-day running of the company owned the
remaining 58%. The minority shareholder (the petitioner) claimed that he had
been unfairly excluded from the management of, and financial benefit in, the
company and brought a petition under s459. He said that he had not received any
kind of payment or dividend from the company for a number of years and had not
been given any indication that the company was suffering from a financial
downturn.

The judge, however, dismissed the petition. In such cases, there are two
possible courses of action that can be taken: either the parties involved
resolve their differences, or the court intervenes and the majority shareholder
is ordered to buy out the minority stakes.

In s459 it says that for the court to intervene, the change in circumstances
in the business had to be such that it was not reasonable or fair to require the
former association to remain as it had been, and such that the court’s
intervention was required to adjust matters.

No loss of profits

The judge noted that some of the failures to consult had been prejudicial for
the purposes of s459 of the Act and had been unfair towards the minority
shareholder. However, he also said that, although the minority shareholder could
legitimately have expected a proper share of the company’s profits, his stake in
the profits depended on the state of the business. In fact, the company had been
making losses and, unless the petitioner could establish that those losses
should not have been made, he couldn’t complain about a failure to pay him a
dividend in respect of those years. It followed that the failure to pay out any
part of the profits had not been unfair conduct. Accordingly, the court would
not order a buy out.

In the case of Irvine v Irvine, s459 and s461 of the Companies Act
were invoked. In s461 it says the court can order that the shares of any members
of the company be purchased by other members – or by the company itself – if a
minority shareholder had grounds to feel unfairly prejudiced.

The petitioners in this case were shareholders in an insurance broking
company, the main petitioner being the widowed wife of the majority
shareholder’s brother, who had co-run the company. The petitioners’ shareholding
represented 49.96% of the company’s shares.

In her capacity as a shareholder in her own right and as a trustee of the
trust set up by her husband, the woman claimed under s459 that the majority
shareholder had, since her husband’s death, conducted the affairs of the company
in a manner, which was unfairly prejudicial to her interests, in that, among
other issues, he had paid himself excessive levels of remuneration and that, as
a consequence, the shareholders had received no (or inadequate) dividends. She
applied for an order under s461 of the Act that the respondent purchase her own
shares and those held by the trust.

The judge agreed. He decided that the respondent had conducted the affairs of
the company in a manner which was prejudicial to the interests of the
shareholders. As such – and having regard to the breakdown in trust and
confidence between the parties – the respondent was ordered to buy out the
petitioners’ shares at a price that took account of the excess remuneration he
had awarded himself.

Prejudicial management

According to Bob Beauchamp, senior associate in the liability and commercial
litigation practice at law firm Barlow Lyde & Gilbert: “In both of these
cases, the majority shareholder of a company ran the business without proper
reference to a minority shareholder, thereby causing them prejudice. In one
case, the court intervened in favour of a minority shareholder; in the other,
the court did not – although in both cases the judges criticised the fact that
the majority shareholders had failed to consult.”

Beauchamp adds that: “The Irvine v Irvine ruling, in particular, could be a
rude wake-up call for majority shareholders of private companies. If majority
shareholders are perceived to be rewarding themselves with what are perceived to
be excessive remuneration packages and dividends at the expense of other
shareholders and the benefit of the business, they may find themselves being
petitioned. It could be a 50:50 chance that majority shareholders would need to
raise new funds to buy out the existing minority shareholders if a court ruled
against them.”

Not this time

The judge in the Hale v Waldock case didn’t rule in favour of the
petitioner, but he said in his conclusion: “That is not to say that it is
necessarily fair for the present situation to remain forever the same so that Mr
Hale is locked in and gets benefits only at the perpetual whim of Mr Waldock. I
have already drawn attention to the failures of Mr Waldock to consult fairly,
and his somewhat high-handed manner of dealing with some points.

If the facts in the future demonstrate that Mr Waldock has sought to keep an
unfair portion of the cake for himself, whether by refusing to temper his own
benefits, adjusting accounting policies, taking other steps to reduce available
profits, failing to allow dividends or otherwise, then Mr Hale would have the
opportunity of petitioning again.”