When a shareholder’s rights have not been observed by a company and/or its directors, it is possible for them to ask the court to impose a fair remedy. There are three bases on which an application can be made to the court for shareholder remedies by a shareholder who seeks justice, namely an unfair prejudice petition, a derivative claim and a petition for winding-up on just and equitable grounds.
Lincoln & Rowe can help understand shareholder remedies and what individuals and businesses can do to settle a shareholder dispute.
Unfair prejudice petition
If a shareholder believes that a company is operating in a way that is unfairly prejudicial to them, they can submit a petition to the court under s. 994 of the Companies Act 2006.
Unfair prejudice petitions are straightforward shareholder remedies if they can prove that:
- the potentially unfair conduct was proposed or carried out by the company;
- the conduct prejudiced the petitioner’s interests as a shareholder; and
- the conduct is unfairly prejudicial to the interests of some or all of the company members.
This means that a petition can be made before any prejudicial action has been taken, at the time that it is proposed. Even if it was proposed and the action not taken, a petition can still be submitted.
The question of what constitutes unfair prejudice will be decided by the court who will look for an action relating to the way in which the company is run which unfairly disadvantages people by treating them with a lack of justice or equality.
If a shareholder’s power was reduced, for example, by the creation of more shares in the company, thereby diluting voting power, this could be considered unfair. If agreements are not adhered to or the company’s articles of association are not observed, this could also constitute unfair prejudice.
Articles of association form a company document that specifies the regulations in regards to operations and company purpose. The document lays out how tasks are to be undertaken including the process for appointing directors, director duties and the handling of financial records.
If the court finds there has been unfair prejudice, it has a number of options available when making an order. It could insist that the company implement a new practice, change its procedures, cease from doing something or even order the sale of shares to a specific person or group.
David Greenberg, Associate Director in the valuation team at Mazars LLP, offers his insights from the perspective of a valuer. Greenberg provides his view on the complexities involved in share valuation and guidance on the main points shareholders should consider.
“Share valuation is a complex task. Often there are specific reasons why shares need to be valued, but whatever the case may be, the valuation is usually required to be the price that a willing buyer or willing seller would buy or sell for those shares in an open market transaction, where those parties are acting knowledgably and without compulsion. We consider below the main aspects that clients should consider when commissioning a valuation:
1) What is the quality of the financial information available? A valuation model is only as good as the inputs themselves. If your company has detailed financial records and models that are produced to aid in the company’s operations, then this data can be the key to providing a robust valuation analysis that considers all the nuances of the company’s operations and performance.
2) How has your company been performing over the last three to five years? If your company has a good track record of growth and expansion and this is reflected in the aforementioned financial records, then this can help to set a benchmark for the valuation. A lot of valuations are based on comparing this growth to comparable metrics sourced from publicly available information. If your company has been performing in line with or worse than its peers then this can help to set expectations with regard to the potential value which is inherent in your business.
3) What is the likely future performance of your company going to look like? Expectations with regard to high valuations can often be predicated on good historical performance, but there may have been a fundamental shift in the likely future performance of the industry or sector within which the company operates. Covid-19 is a pertinent example. Have you thought about how your business will adapt and take advantage of this change in which case a high valuation may be warranted, or maybe your business has fundamental issues which raise questions around the going concern nature of the company.
The above points can help to frame expectations with regard to valuations and shareholder remedies, and we always recommend speaking to experienced valuation practitioners to help you navigate the issues.”
If a director is negligent, in breach of trust, fails in their duties or defaults on their duties, then shareholders can bring what is known as derivative action against the director under s. 260 of the Companies Act 2006. This extends to former directors of a company and also allows a shareholder to continue a derivative claim commenced by the company against one of its directors. This type of claim must be in the best interests of the company and the court is stringent in testing this.
When an application is received by the court, it will firstly consider whether the case qualifies to be taken forward. It will examine whether two pre-conditions have been met, as well as considering whether any other remedies are available, what the views of other shareholders are, why the company has not brought the case itself and whether the application has been made in good faith.
The first pre-condition requires that the claim cannot be based on the fact that a director has not fulfilled their duty to promote company success.
The second pre-condition is that the act complained of in the claim cannot have been approved or authorised by the company in the time since it took place. The court may also give a company time to formally approve the act complained of, provided that it is a legal act and the company would be acting within its powers to approve it.
The court will also consider whether it is in the best interests of the company for the case to go ahead. To establish this, they will ask whether the shareholder is pursuing the claim for their own advantage and whether a director acting in good faith on behalf of the company would pursue such a claim.
Once the pre-conditions have been shown to be fulfilled, the court can grant permission for the case to proceed to a court hearing, although this permission may be limited or conditional.
Seeking shareholder remedies can be a complex business and it is usually recommended that independent legal advice is sought. In some circumstances, an action may be both unfairly prejudicial and a negligent or breach of trust act on behalf of a director. An experienced company lawyer will be able to advise how best to proceed and how to ensure each stage of any claim is proved.
The court may order an injunction to stop a breach of duty from continuing, award damages or return of company property or rescind a contract, for example, where a director held an undisclosed interest. The claim is run by shareholders on behalf of the company, so anything recovered in the action goes to the company initially. It is then a matter for the board as to whether to pass the benefit on to shareholders.
Winding-up petition on just and equitable grounds
The most extreme application in shareholder remedies is for the company to be wound up, meaning it would be placed into liquidation by the court and its business would be at an end. The application is made under s. 122(1)(g) of the Insolvency Act 1986. As well as shareholders, directors and creditors may also request a winding-up petition.
Because of the severity of the remedy, the court requires strict proof of one of a number of facts.
Occurrences which have been classed as just and equitable grounds for a company to be wound up include:
- Mismanagement of the company;
- Where the person making the application has been excluded from management decisions that they should have been involved in;
- Where there is a deadlock within the company as how to proceed;
- Where it is no longer possible for the company to carry on the business for which it was established.
It is sometimes the case that an action for winding-up could be brought at the same time as a claim of unfair prejudice.
To be eligible to seek a winding-up petition, the shareholder must have tangible interest remaining in the company once it has been liquidated. This means that there must be a value to what remains of the business after it has been ended. Because of the severity of winding up a business, the court will also consider whether there is a different and preferable remedy that could be considered.
It is vital for businesses to act as soon as notice of a winding-up petition is received if attempts are to be made to save the business. If you’ve received a winding-up petition, here’s 9 things you need to consider.
Bringing a claim as a shareholder can be complicated and confusing. If an action fails, there will usually be a liability for costs, both the shareholder’s own and that of the company. For this reason, it is important that anyone dealing with a shareholder action understands the law and the court’s requirements.
Peter Shaw QC, barrister of 9 Stone Buildings offers his insights on the various shareholder remedies available:
“In the vast majority of cases, shareholder disputes will proceed by way of an unfair prejudice petition. This is a more flexible procedure that than the cumbersome statutory derivative claim. Strategically, a complainant shareholder needs to consider at an early stage what is his or her desired outcome of any claim. Whilst of course each case turns on its own facts and circumstances, if the relationship between the shareholders are broken down such that the desired outcome is that one party buys out the other then an unfair prejudice petition may be the most appropriate route. It ought not however be overlooked (and at the risk of stating the obvious) that for the court to make some sort of buy- out order, the petitioner will need to prove that there has been some prejudicial conduct. Unless there has been some agreement or understanding to that effect (which may be recorded in the company’s articles or in a shareholders agreement) there is no general legal entitlement for a shareholder to be bought out”.
At Lincoln & Rowe we understand the importance of helping our clients keep their businesses running smoothly.
If you would like to talk to one of our expert legal team about handling a shareholder dispute, contact the author Dipesh Dosani, call the team on 020 3968 6030 or email us on firstname.lastname@example.org and we’ll be happy to help.
The above information is for general guidance on your rights and responsibilities and is not legal advice. If you need more details on your rights or legal advice about what action to take, please contact an adviser or solicitor.