Shareholders disputes - Is there such a thing as an amicable breakup?
15 February 2024
We would like to acknowledge the contribution of Leanne Hsieh in the preparation of this article.
Top tips
- Shareholder disputes often arise over financial issues, with the irony being that the disputes themselves can cause a deterioration in the value of the company itself.
- The best strategy for dealing with the challenging and stressful experience of a shareholder dispute is having an effective strategy to prevent them or to deal with them early and effectively. One of the key methods is implementing a solid shareholders’ agreement.
- If a shareholder dispute does arise, it is essential to consider the available options for resolution. Litigation can be expensive and time-consuming, while ADR methods, such as mediation or arbitration, can provide a cost-effective and efficient path to resolution.
In the life of a company (regardless of size), often what starts as an amicable joint endeavour can sour, with shareholders finding themselves in a dispute they never envisioned. Dealing with shareholder disputes can be a challenging and stressful experience and can have significant legal and financial implications.
Understanding how to prevent and resolve shareholder disputes quickly and effectively is key to ensuring that the underlying value in the company is impacted as little as possible. In our ninth episode, we provide a comprehensive guide to help business owners navigate the complexities of shareholder disputes.
Common causes of shareholder disputes
Some of the most common causes of shareholder disputes in Australia include:
- Disagreements over the direction or management of the company
- Disputes over the distribution of dividends or profits
- Disputes over the valuation of shares
- Breach of shareholder agreements or director duties
- Disputes over the sale or transfer of shares
- Allegations of fraud or misconduct
It is essential to address these issues quickly and effectively to avoid escalation and potential legal action.
Preventative measures
The best strategy for dealing with shareholder disputes is having an effective strategy to prevent them or to deal with them early and effectively.
One of the primary ways to avoid shareholder disputes is to implement a solid shareholders’ agreement. This agreement should be created at the start of your company’s life rather than when a dispute seems imminent. In our first Director Information Series episode, we discussed the benefits of shareholders’ agreements. As a reminder, the key aspects of a shareholders’ agreement are:
- Balancing minority and majority shareholders
- Valuation and disposal of shares
- Breaking deadlocks
- Transferring shares – tagalong/drag along provisions
- Non-competition
- Dispute resolution
- Director appointment
- Exit strategy
In addition to a sound shareholders’ agreement, regular communication, thorough record-keeping, and implementation of effective corporate governance practices to ensure that directors act in the best interests of the company and its shareholders all play a key role in avoiding disputes.
Litigation and Alternative Dispute Resolution for shareholder disputes
In the shock and stress of a dispute with your fellow shareholder/s, it is often difficult to see a way through. There is a number of ways disputes can be resolved, from negotiating a settlement between shareholders without any external intervention all the way to years-long court proceedings. Litigation is generally the most costly and time-consuming way to deal with a shareholder dispute. Furthermore, it is almost always the most damaging to both the disputants and the business of the company, due to the expense, the stress and the distraction of being involved in court proceedings, and also due to reputational risks that can arise as a consequence.
Resolution without court intervention
Conversely, alternative dispute resolution (ADR) methods, such as mediation or arbitration, can be a cost-effective and efficient way to resolve shareholder disputes. ADR allows parties to reach an agreement without going to court, and the process is private and confidential. When properly conducted, with appropriate advice, early ADR can save significant time and expense. Where litigation usually ends with only one party’s success, a mediated settlement can result in both parties receiving more satisfaction from the process.
A mediated resolution might involve one or more of the following:
Share sale/buy out
The simplest solution is usually that one of the disputing parties sell their shares and exits the company. Shares may be sold to an existing shareholder, or to a new, incoming shareholder.
Where the parties have a shareholders’ agreement, that document will often require that the remaining shareholders approve an incoming shareholder, which can create hurdles to sale. Consequently, selling the shares to an existing shareholder is usually more straightforward.
If that share sale can be agreed, the only residual issue is to determine the share value. Again, this process is best agreed and included in a shareholders’ agreement, but where that mechanism isn’t in place, there are methods, and professionals, that can be utilised to facilitate the process and avoid creating a new issue of dispute between the parties.
Share buyback
A share buyback agreement is when a company agrees to buy shares back from its shareholders. This is an increasingly popular solution to resolve shareholder disputes, particularly where there is no obvious purchaser for the shares and/or the remaining shareholders do not have the funds to buy out the exiting shareholder.
Share buyback arrangements also benefit the remaining shareholders by reducing the number of shares in the company and increasing the ‘per share’ value of the asset held by the remaining shareholders.
Court intervention
If all else fails and court intervention is required, what are the options and what remedies are available to quarrelling shareholders?
Depending on the nature of the dispute, it may be open to a shareholder to apply to the court for a range of orders, the most common include:
- Appointment of an auditor.
- An order compelling the company to provide the shareholder with audited accounts.
- Winding up on just and equitable grounds s 461(k) Corporations Act 2001 (Cth) (Corporations Act).
- Orders resulting from a finding of oppression pursuant to s 232 of the Corporations Act (which can include anything from a forced share sale to a winding up).
We examine below the most common relief sought by disputing shareholders in court.
Winding up on just and equitable grounds – s 461(k) of the Corporations Act
In cases where the relationship between the parties has completely broken down, it is open to a party to apply to court pursuant to s 461(k) of the Corporations Act to wind the company up on just and equitable grounds. Section 461(1)(k) provides that:
‘The Court may order the winding up of a company if:
….
(k) The Court is of the opinion that it is just and equitable that the company be wound up.’
Determining when it is ‘just and equitable’ to wind up a company is complex. In short, the court will need to be satisfied that, in all the circumstances, the relationship has broken down irretrievably such that the dispute is simply not capable of being resolved in any way other than by bringing the company’s existence to an end. Usually, this requires a finding that there has been a loss or failure of substratum or objects (for example, a company was formed for a particular purpose, which had been abandoned or has come to an end). Just and equitable winding up is often ordered in small private companies where, notwithstanding that a corporate structure is in place, the relationship between the shareholders is one of mutual trust and confidence akin to being partners.
A winding up means the end of the company in its existing form, with a liquidator appointed, assets sold, liabilities paid, and the sale proceeds (after payment of liquidator’s fees) distributed to the parties. It is a significant step and courts are often reticent to grant this relief. However, a successful application results in the parties being separated and an independent person taking control of the assets and selling them at arms’ length, which can sometimes be the only way a shareholders’ dispute is finalised.
Shareholder oppression – s 232 of the Corporations Act
An alternative basis for application to court for relief in the context of a shareholder’s dispute arises out of s 232 of the Corporations Act. That section provides, relevantly, that the court may make orders in relation to the affairs of company (as it sees fit) if the conduct of the company’s affairs, an actual or proposed act or omission by or on behalf of a company or a resolution or proposed resolution is either:
‘contrary to the interests of the members as a whole; or
oppressive to, unfairly prejudicial to, or unfairly discriminatory against, a member or members.’
Not all unfair or undesirable conduct will amount to oppression. Whether conduct is oppressive or unfairly prejudicial is assessed objectively against the judgment of an objective commercial bystander. Some examples of conduct that has previously been considered by the court as oppressive include:
- improperly excluding a shareholder from participation in management decisions where the company’s constitution gave rise to a reasonable expectation of participation in management decisions
- denying the shareholder access to books and records
- acting oppressively at board meetings, and
- failing to take steps to facilitate the exit of a shareholder.
Often, it is not any one act or omission that is oppressive but rather the cumulative effect of the parties’ conduct, meaning that a number of moderately prejudicial acts can add up, over time, to shareholder oppression.
Pursuant to s 233 of the Corporations Act, the court can make any order it considers appropriate to remedy the oppression, including:
- winding up a company
- requiring that a company’s constitution be modified or repealed
- directing that a company purchase a shareholder’s shares through a reduction in share capital, and/or
- requiring a person do a specified act.
Summary
Recognising an ever-deteriorating shareholder dispute and seeking to manage and resolve it as soon as possible will result in the least disruption to the current and future successes of the company and the wellbeing of the parties involved.
Seeking advice, open communication and negotiation between the disputants, coupled with ADR methods, can often achieve a timely and cost-effective outcome that allows the parties to control their future and the end result.
If ADR fails, and there is no other achievable resolution, parties are able to seek relief from the court to bring a formal end to the relationship and to the dispute.
