The current economic climate and instability in the markets in the last few years have led to an increase in the number of clashes between shareholders in privately owned companies.
Following boardroom fallouts, minority shareholders may feel compelled to cut ties and seek to sell their shares. However, this is not always straightforward. In contrast to companies that are listed on a stock exchange, there is an exceedingly small market for shares in privately owned companies. In the absence of a company or business sale to a third party, it is usually the other shareholders who provide the only marketplace for shares in such companies.
In many cases, the other shareholders may be reluctant to purchase the minority shareholder’s shares. Furthermore, the lack of voting control that a minority shareholder has in a company and the limited market for such shares is usually reflected in the price by a significant minority shareholder discount. What other option is, therefore, open to a minority shareholder seeking to force the other shareholders to purchase their shares in the event of a breakdown in shareholder relationship?
Unfair Prejudice Route
If there is no satisfactory solution under either the Articles of Association or any Shareholder Agreement, the minority shareholder may consider an Unfair Prejudice petition under Section 994 of the Companies Act 2006 (the Act). This clause safeguards the interests of minority shareholders in situations where the company's operations have been carried out in a way that unjustly harms them. However, certain requirements must be satisfied to bring a successful Unfair Prejudice claim. For more information about Unfair Prejudice claims, see our article here.
The statutory protection afforded for unfair prejudice under S.994 of the Act has been increasingly used recently, despite being an expensive and lengthy process. One of the most frequently sought reliefs and the most popular orders made on a successful Unfair Prejudice claim is that the majority shareholder must purchase the petitioner’s shares. This is mainly because it provides for a clean break between the parties.
Valuation of Minority Shares
The valuation of shares under the unfair prejudice route, however, can still cause problems.
The Act does not provide any guidance to the court or include any presumption as to how the price should be calculated when making an order under S.996(2)(e). Instead, the court has a very wide discretion to do what is considered fair and equitable on the facts of the case and guided by expert forensic accountancy evidence, can decide the purchase price of the minority shareholder’s shares.
The court will often apply a pro-rate value discount to minority shareholding shares but this is not always the case. There are no rules about what the discount should be, and the level of discount is something that an independent valuer will have an opinion on, taking into account things such as the size of the minority shareholding, the voting rights attached to the shares, and any directorship rights.
The court may also make adjustments to the valuation to achieve a fair result. For example, it may order that the valuation be made on the basis that it seeks to put the petitioner back into the position they would have been in but for the unfairly prejudicial conduct. Similarly, it may compensate the petitioner for the unfair prejudice experienced even where it did not have a substantial effect on the value of the shareholding.
Quasi-Partnerships
Caselaw has established that no minority discount will usually be applied where there is a special relationship between the parties, such as a quasi-partnership.
A quasi-partnership may result when two or more individuals opt to establish a business together and act in a way that is consistent with them owing each other a duty of trust. Many family-owned businesses are quasi-partnerships although this is not always the case. Similarly, quasi-partnerships may be established in other situations and are not only limited to family-owned businesses.
The following factors (although not all need to be present) will be taken into consideration when a court be deciding whether quasi-partnership exists:
- whether there is a personal relationship between the parties involving mutual trust
- whether understandings or agreements exist between the members that all or some of the shareholders shall participate in the conduct of the business
- whether there are restrictions on the transfer of the member's interest in the company so that if confidence is lost, or a member is removed from company management, they cannot simply take their stake and go elsewhere
Where a quasi-partnership exists, the court will usually assess the shares by just looking at the pro-rata value of the company as a whole, without applying a minority shareholding discount. Therefore, it is crucial to establish whether the company is a quasi-partnership in the initial stages of the petition as this will determine the claim's value.
Contact Us
Unfair prejudice is just one of the routes available under the law to resolve shareholder disputes. Our dispute resolution team at Witan Solicitors has experience in advising shareholders in many types of disputes and can help you to reach the best solution for you in your specific circumstances. Feel free to email us.
