#7403 - Shareholders’ Remedies - Business Associations I

Class 17 Shareholders’ remedies

Review (ie read again) Duties of Directors at General Law – Background and Basic Concepts and excerpts on general law and statutory directors from Austin, Ford and Ramsay, Company Directors: Principles of Law and Corporate Governance (Butterworths, 2005) Reading Materials pp 18:1-31.

Redmond [8.05]-[8.15]; [8.45]; [8.55]-[8.135].

The protection of minority shareholders

• Minority shareholders in private companies have no market exit option and are often susceptible to exploitation through a number of techniques directed to diminish the value of their investment.

• Minority Shareholders can be protected in two ways:

  • Courts protecting minority shareholders by applying equitable constraint due to the majority using powers for an improper purpose, even if it is legal.

  • Shareholder litigation – protecting minority shareholders by granting them legal standing to litigate in respect of wrongs done to them personally and for certain wrongs to the company itself.

• For wrongs done to the company – general law permits shareholders to litigate where the wrongdoers effectively controlled the company’s decision not to bring the suit. Note a statutory derivative procedure has now been introduced to replace the general law here – it requires the court’s approval prior to commencement of legal action.

[i] Courts’ Protection of Minority Shareholders – equitable limitation

• Question is, should the minority shareholder be afforded legal protection?

• Two opposing principles contend this area:

  • Identifying the corporate will with the majority. The decision of the majority binds the minority. Minority interests aren’t protected.

  • Placing equitable constraints on the majority. Prevents the majority in a GM from acting oppressively towards minorities or using powers for an improper purpose, even though the majority is acting within the scope of their powers.

• In general, the corporate will is identified with the decision of a majority of members, by value of shareholding.

• However, a court may interfere with the majority’s decision, if it can be shown that the majority voted for a purpose outside an implied range of purposes for which the power to vote was conferred.

• Lindley MR in Allen v Gold Reefs of West Africa Ltd stated that “[The power of a three fourths majority to alter company articles must] be exercised subject to those general principles of law and equity which are applicable to all powers conferred on majorities and enabling them to bind minorities. T must be exercised, not only in the manner required by law, but also bona fide for the benefit of the company as a whole and it must not be exceeded.

• However this test was rejected by the HC in Gambotto v WCP and adopted the language of oppression and improper purpose to define the vitiating overreach by majorities.

• Alteration of Company’s Constitution that Prejudice Shareholder Rights

• A company’s constitution may be altered by special resolution; the alteration power is however subject to compliance with any further requirements contained in the company’s constitution.

[8.55] Greenhalgh v Arderne Cinemas Ltd [1965] Ch 286

• Court of Appeal

Facts

• Company’s constitution contained a provision prohibiting the sale of shares to non members if there is any member willing to purchase them at a fair price. Mallard held controlling interest and changed this provision through a special resolution so that he could transfer shares to non members. Minority shareholders challenged saying there was fraud upon the minority.

Held

• The special resolution would be valid if those who passed it did so in good faith and for the benefit of the company as a whole.

• “Company as a whole” refers to the corporators as a general body, not as a commercial entity distinct from its corporators.

• The special resolution would be liable to be impeached if the effect of it were to discriminate between the majority and minority shareholders.

Present case:

• Found that the alteration did not discriminate between types of shareholders as the price sold for was fair. Anyone who wanted to get out at that price could get out, and any who preferred to stay in could stay in.

• Supreme Court of NSW

Facts

• Director of defendant company gave notice of an extraordinary general meeting to consider a proposal to alter the company’s constitution by disallowing any member who held shares as a trustee under a public held unit trust. Also, such a member might not vote until it had received the direction of a majority of unit holders as to the manner in which the shares were to be voted. Plaintiffs sued to restrain this.

Held:

• The right of a shareholder trustee to vote has been greatly reduced in effectiveness as the right to vote of the other shareholders has been rendered more effective and valuable.

• There was no reasonable connection between for a company purpose and the restriction placed on some shareholders.

• No reasonable man can conclude that the terms in the article to disallow certain members were for the benefit of the company as a whole.

• The majority were given an advantage of which the minority had been deprived.

• High Court of Australia

Facts:

• Wholly owned subsidiaries of IEL held 99.7% of the share capital of WCP. Their shareholding in WCP was such that IEL and its associates could not have acquired the minority shares under the Law. WCP’s articles were altered by inserting art 20A which permitted the majority shareholders to acquire within a specified period any shares to which they were not entitled to by law, at a price of $1.80 per share. The appellants were minority shareholders and didn’t attend the meeting or vote upon the resolution. A report accompanying the notice of meeting valued the shares at $1.365. The appellants conceded that the valuation was fair and independent but did not take into account income tax benefits of $4M which would accrue to WCP after eliminating minority shareholdings.

• The appellants held 0.01% of the shares which they wished to retain.

Mason CJ, Brennan, Deane and Dawson JJ:

• Rejected the test of “bona fide for the benefit of the company as a whole” in determining whether the alteration of a constitution is valid.

• The power to amend the company’s constitution by altering the articles so as to confer upon the majority power to expropriate the shares of a minority can only be taken if:

  • it is exercisable for a proper purpose and

  • its exercise will not operate oppressively in relation to minority shareholders – and If it appears that the substantial purpose of the alteration is to secure the company from significant detriment or harm, the alteration will be valid.

• The majority cannot expropriate the minority merely in order to secure for themselves the benefit of a corporate structure that can derive some new commercial advantage by virtue of the expropriation.

• It is not a sufficient justification of an expropriation that the expropriation, being fair, will advance the interests of the company as a legal and commercial entity or those of the majority of corporators.

• It would need exceptional circumstances to justify an amendment to the articles authorising the compulsory expropriation by the majority of the minority’s interests in the company.

• Proper purpose is not enough to justify an alteration – it must also be fair in the circumstances. It must be both:

  • Procedurally fair:

    • Process used to expropriate must be fair.

    • Majority SHs must disclose all relevant information leading up to the alteration and have the shares valued by an independent expert.

  • Substantively fair

    • The terms of the expropriation must be fair

    • The price of the shares must be fair. This will depend on a variety of factors – assets, market value, dividends and the nature of the corporation and its likely future.

Onus:

• The onus is on those supporting expropriation to show that the power is validly exercised i.e. they must show it is for a proper purpose and is validly exercised.

Present case

• The validity of art 20A depends on whether it was not made for a proper purpose (plaintiffs have not contended that it was not fair)

• All that is suggested is that taxation advantages and administrative benefits would flow to WCP if minority shareholdings were expropriated.

• This cannot by itself constitute a proper purpose.

• Therefore art 20A is invalid and ineffective.

Facts

• In August 2004, Mr Margaretic purchased shares to the value of $20,000 in Sons of Gwalia Ltd on the ASX. The Company went into voluntary administration 11 days later.

• Mr Margaretic submitted that at the time he purchased his shares, the Company was in breach of s674 of the Corporations Act by failing to disclose information to the market which is not generally available and is information that a reasonable person would expect to have a material effect on the share price. Mr Margaretic further submitted that the Company had engaged in misleading and deceptive conduct, breaching s52 of the Trade Practices Act, s12DA of the Australian Securities and Investment Commission Act, and s1041H of the Corporations Act. Mr Margaretic sought damages for losses incurred from the Company’s conduct.

• Mr Margaretic claimed that he was entitled to be treated as a ‘creditor’ under the Corporations Act, as opposed to a ‘member’, and that he could therefore submit his claim for proof in the deed of company arrangement.

• ING...