Without clear provisions in a shareholder agreement or articles, many minority shareholders are surprised to find out that rights can be very limited.
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At Gannons, we’ve successfully helped many clients with unfair prejudice claims. We are skilled in finding the best way to exert pressure on the majority shareholder to create the right conditions to settle with the best available outcome.
What is unfair prejudice?
Unfair prejudice typically arises where 1 or more, minority shareholders find their interests prejudiced by a majority shareholder, commonly where the majority shareholders also have control at board level.
This level of control (and often failure to enhance basic company law minority shareholder rights with a shareholder agreement and/or suitable amendments to the company’s articles of association) can result in the company being run purely for the advantage of the majority shareholder and to the disadvantage of minority shareholders. Where a court finds that a company’s conduct has prejudiced the position of shareholders, a common outcome is an order that the other shareholder’s purchase the claimant’s shares for fair value.
Unfair prejudice claims can often become highly personal. A negotiated outcome, as with other types of disputes, is often better than going all the way to a trial.
Section 994 legal test for Unfair Prejudice
To successfully take legal action for activities which are unfairly prejudicial to you as a shareholder, you will need to satisfy the requirements in section 994 of the Companies Act. There are 4 aspects to be satisfied but the most important are the requirements of unfairness and prejudice. These are 2 separate concepts and both will need to be proven.
Looking first at unfairness, the courts will look at the overall background and context and apply an objective test to decide unfairness. Factors can include whether the business is a family business or not, it’s size and type, how the shareholders have operated the company historically, whether there is a shareholders agreement or modified articles and then apply the facts to determine whether the alleged action or inaction is unfair.
Prejudicial impact on shareholders will require the claimant to show tangible detriment such as reduction in the value of his/her/their shares. The courts generally take a wide view of what constitutes prejudice and it is not limited to financial loss only.
Examples of unfair prejudice
There are many warning signs that a company is unfairly prejudicing its shareholders, but claims often fall within 2 categories, which sometimes overlap :-
- Manipulation of company finances or assets – this can range from directors paying themselves bonuses whilst refusing shareholder dividends to inappropriate use of company assets for the director’s own benefit, diversion of business to other businesses and/or dilution of the minority shareholders value by for example issuing preference shares.
- Withholding information – what often makes minority shareholders suspicious in the first instance is where they are refused access to company records or accounts. If there is no shareholder agreement giving shareholders rights to information, or the articles of association have not been amended to include such rights, the directors have a virtual monopoly on information. The inability to find out exactly what is going on makes the prospect of claiming unfair prejudice more difficult and risky.
Who can make a claim for unfair prejudice?
Section 994 of the Companies Act 2006 briefly sets out who can make a claim and sets out the elements of unfairness and prejudice as described above. In simple terms, any shareholder can bring a claim for unfair prejudice.
How to prove unfair prejudice
A claimant must prove that the alleged unfair activity relates to the running of the business and that it impacts upon the shareholders generally or some smaller section of them. The claimant themselves must always be one of the shareholders affected.
There is no definitive list of the types of action or inaction which will amount to unfair prejudice, and so the question of what is and is not prejudicial will always be a question of fact.
For an unfair prejudice claim to succeed, the claimant must demonstrate that the unfair activity has resulted in prejudice to their position as a shareholder. Proving actual prejudice is essential – it is not sufficient that the directors of a company have hurt the claimant’s feelings or have treated them unfairly in relation to something unconnected to the shares.
While it strengthens the claim if one shareholder is at a disadvantage compared to other shareholders, this is not necessary to bring an unfair prejudice petition. It is enough that the unfair activity negatively affects the shareholders generally.
For example, If directors repeatedly breach their duties or pay themselves bonuses while refusing to pay dividends this arguably affects all shareholders equally, but could still allow a shareholder to bring an unfair prejudice petition.
Legal remedies for unfair prejudice
Section 996 of the Companies Act deals with the powers of the court to grant remedies if it decides there has been unfair prejudice. The remedies are wide ranging with the starting point being that the court can “make such order as it thinks fit”.
This gives the courts options including forcing the shareholder found to have unfairly prejudiced others to buy the others shares, or even ordering that the company must be sold. Section 996 also specifically enables the court to make an order that the company stops the conduct which is prejudicial or takes steps to correct the wrong.
The most common legal remedy, whether a claim goes to court or settles is for the minority shareholder to have his/her/their shares bought out. The courts has wide discretionary powers when it comes to remedies.
Solicitors for unfair prejudice
As with most legal disputes, in reality most are resolved by settlement. The key is to exert the right pressure at the right time and to have lawyers who give you sound, realistic advice.
In situations where there isn’t clear evidence of a breach of director’s fiduciary duty and where there are standard articles and a shareholder’s agreement without clear and strong protections for minority shareholders, court actions are risky.
In situations where a majority shareholder is manipulating the company, inappropriately utilising company assets or draining resources it’s important to act fast. Waiting may mean that there isn’t much value left in the business even if a court were to order a business sale or buy out of the minority shareholder’s shares.
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I know that when the noise dies down there is a solution to be found. I set about that task as quickly as possible.