The Business Divorce Law Report
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Minority shareholders of a closely held corporation may be subjected to oppressive conduct by the controlling majority that deprives them of the benefits of their investment.
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Oppressed minority shareholder actions vindicate the rights of the minority owner to participate in the management and share in the economic benefits of the company.
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A court may order the majority to buy the minority member’s interest at fair value, to sell the corporation as a going concern, for damages or take other actions to fashion an appropriate remedy.
Under New Jersey business law, minority oppression refers to conduct in which the majority shareholders or directors of a corporation engage in behavior that prejudices the rights or interests of the minority shareholders unfairly.
We see shared holder oppression in a variety of action:
- Failure to pay dividends or distribute profits to the minority shareholders when they would be expected or appropriate.
- In a corporation in the shareholders are employed as part of their investment in the business, the termination of that employment.
- The practice of excluding the minority shareholders from business operations or management decisions.
- Withholding information from minority shareholders to which they are entitled or that is reasonable necessary to make an informed decisions about the investment of the shareholder in the company.
- Manipulating voting process to dilute the participation of the minority shareholders;
- Issuing equity to themselves or others in a way that dilutes the value of the shares held by the minority shareholders.
- Excessive compensation, whether in salary or other perquisites, to majority shareholders or officers in a way that is detrimental to the corporation or minority shareholders
- Fraud, misappropriation of assets or opportunities, competition or waste or corporate assets in a way that is unfair to the corporation or minority shareholders.
New Jersey’s Business Corporations code at N.J.S.A. 14A:12-7 contains a provision that expressly creates a cause of action for minority oppression. The statute permits and a lawsuit action for involuntary dissolution by court in a number of circumstances, including deadlock, failure to elect directors or, in a corporation with less than 25 shareholders, when:
… the directors or those in control have acted fraudulently or illegally, mismanaged the corporation, or abused their authority as officers or directors or have acted oppressively or unfairly toward one or more minority shareholders in their capacities as shareholders, directors, officers, or employees.
Most other states create some cause of action for oppressed minority shareholders to seek relief. Some notable exceptions are Delaware, Alabama, North Dakota. But even in the states that have not created a statutory cause of action, the courts may provide some relief as a matter of common law.
In such cases, minority shareholders can seek relief through legal action, such as a derivative lawsuit, which allows them to bring a claim on behalf of the corporation for the benefit of all shareholders. The court may order remedies such as appointing a receiver, requiring the sale of the corporation, or awarding damages to the minority shareholders.
Under New Jersey law, minority oppression occurs when the majority shareholders of a corporation engage in conduct that is illegal, fraudulent, or oppressive to the minority shareholders. The legal standard for minority oppression was established by the New Jersey Supreme Court in the 1993 case of Brenner v. Berkowitz.[1] In that decision, following what had become the majority rule on minority oppression, the court defined oppression as actions by the majority that is “burdensome, harsh, or wrongful” toward the minority shareholders.
The conduct must be “objectively unreasonable” such that it “substantially interferes” with the minority’s interests as shareholders.
The minority shareholders bear the burden of proving that they have been the subject of fair treatment and that majority breached their fiduciary duty to act in the best interests of the corporation and all its shareholders.
There have been several leading cases on minority oppression of shareholders in New Jersey. Other major cases in New Jersey that address the standards for minority shareholder oppression include
- Sipko v Kroeger[2](2013)[3] confirmed the broad authority of the trial court to fashion remedies “appropriate to an individual case and that the statute does not deprive a court of its powers to provide equitable relief
- Muellenberg v. Bikon Corp. (1996)[4] permitted the trial court to order a buyout of the majority owners by the oppressed minority shareholder.
- Musto v. Vidas (1995)[5] held that the minority shareholder was entitled to equal compensation with the other shareholders and that the majority would be compelled to purchase the interest of the oppressed minority shareholder.
In determining whether oppressive conduct has occurred the courts in New Jersey examine the reasonable expectations of the minority shareholders.
This “reasonable expectations” test is a legal standard widely used to determine whether the conduct of the majority shareholders is oppressive to the minority shareholders. The court considers whether the minority shareholders had reasonable expectations regarding their future participation in the management and direction of the corporation, and whether those expectations have been frustrated by the conduct of the majority shareholders.
The reasonable expectations test used in New Jersey was first adopted by the Delaware Supreme Court in the case of Weinberger v. UOP, Inc. (1983)[6], and has been adopted by other courts, including those in New Jersey.
In applying the reasonable expectations test, the court will considers such factors as the history of the corporation, the relationships between the shareholders, the expectations of the minority shareholders based on their investments, and the role of the minority shareholders in the management of the corporation.
When the conduct of the majority frustrates the reasonable expectations of the minority shareholders, the court is likely to find that minority oppression has occurred.
When a court concludes that the majority has oppressed one or more minority shareholder, New Jersey law recognizes are a variety of remedies be available to the shareholder, including:
- Compelled Purchase or Sale of the Minority Shareholder’s Interests: Courts often order the majority shareholders to purchase the minority shareholder’s shares at fair value. The court may also order the sale of the entire corporation as a going concern to a third party, in which case the minority shareholder is compensated with a proportionate share of the proceeds.
- Appointment of Directors or Special Fiscal Agent. The court may appoint provisional directors, a special fiscal agent who reports to the court on the operations of the corporation.
- Appointment of a Custodian or Receiver: A receiver may be appointed by the court to take control of the corporation and manage its affairs, most commonly pending the resolution of the litigation, in a manner that is fair and equitable to all shareholders.
- Injunction: The court may enjoin oppressive conduct when the irreparable harm standards for equitable relief have been established and to require the majority to take actions in the best interest of the corporation or the minority.
- Damages: The court may award damages for losses that were caused by the oppressive conduct.
- Corporate Governance Changes: The court may order changes to corporate governance structure or policies to ensure to provide the minority with a the ability to participate in the management and direction of the corporation.
Under New Jersey law, attorneys’ fees may be available to an oppressed minority shareholder in certain circumstances. While in general, attorneys’ fees are not automatically awarded to the minority shareholder in an oppressed minority shareholder case, they may be available at when “any party to an action brought under this section has acted arbitrarily, vexatiously, or otherwise not in good faith”.
Attorneys’ fees may also be available if the minority shareholder brought the claim as a derivative lawsuit on behalf of the corporation. In the cases, the court may order the corporation to pay reasonable attorneys’ fees to minority shareholder acting as the derivative plaintiff under the common-fund doctrine because the lawsuit benefitted the corporation and other shareholders. In some particular cases, attorney’s fees could be part of a damages claim.
[1] 134 N.J. 488, 634 A.D.2d 1019 (1993)
[2] 214 N.J. 364, 70 A.3d 512 (N.J. 2013)