Home > Uncategorized > Shareholder Oppression? When Relationships In Closely Held Businesses Go Bad.

Shareholder Oppression? When Relationships In Closely Held Businesses Go Bad.

Yesterday I posted an encouraging statistic – that more business entities in Michigan have been formed in the last fiscal year than in years – since fiscal year 2005. That is encouraging news!

It also reminded me that most of these new businesses are likely smaller closely held companies – typically either owned and operated by family members or by a small group of individuals.  These types of business relationships are valuable – since they are often  formed between people who know each others’ strengths and weaknesses and based on the assumption they would work well together, decided to go into business together.

These closely held businesses also pose unique challenges. The fundamental challenge that I have seen is this:

In a closely held company it is very easy for one group of owner[s] to freeze out another owner.

I guess the first question is, “freeze out from what*?”

                         Control – Decision-making

                         Disclosures of Company Business

                         Profits in the Company

                         Employment in the Company.

What should a business owner/operator do to protect himself/herself?

Well, you have two readily apparent choices – address the issue before the business is formed, or address it once the problem arises.

     1. addressing the problems before the business starts.

The easiest way is this option: Get an Attorney involved at the onset of the business relationship.

Many of these business disputes in closely held companies could be resolved if, before going into business, the parties openly communicated their expectations, concerns, and clearly articulated in the formation documents (articles of incorporation/organization, Bylaws, Operating Agreement) a way out of the business relationship.

This could be the most cost-effective way to ensure to resolve business disputes – address them before they happen – with open communication, and clearly and concisely drafted (and executed!) documents.

       2. addressing the problems once they occur: Shareholder/Member Oppression Lawsuit.

I have had several clients recently who have had to proceed with this second option – in one instance my client, the minority shareholder, wanted out of the business and the controlling shareholders, who had not made distributions to my client in over a decade, while they paid themselves hefty salaries, would not “buy him out” according to, based upon our interpretation, the proper mechanism called for in the formation documents.

The problem was that the documents did not clearly spell out the proper mechanism for buying a shareholder out  (and  importantly to me, this document was drafted by some other law firm :))

So, Michigan law provided my client a cause of action against the shareholders:

Minority Shareholder Oppression, MCL 450.1489

“A shareholder may bring an action…to establish that the acts of the directors or those in control of the corporation are:
illegal;
fraudulent;,
or willfully unfair and oppressive to the corporation or to the shareholder.” (*this is most often the scenario where these cases arise – from the “freezing out” the minority owners from the business)
“If the shareholder establishes grounds for relief, the circuit court may make an order or grant relief as it considers appropriate, including, without limitation, an order providing for any of the following:
(a) The dissolution and liquidation of the assets and business of the corporation.
(b) The cancellation or alteration of a provision contained in the articles of incorporation, an amendment of the articles of incorporation, or the bylaws of the corporation.
(c) The cancellation, alteration, or injunction against a resolution or other act of the corporation.
(d) The direction or prohibition of an act of the corporation or of shareholders, directors, officers, or other persons party to the action.
(e) The purchase at fair value of the shares of a shareholder, either by the corporation or by the officers, directors, or other shareholders responsible for the wrongful acts.”

Although this Statute applies to closely held corporations, there is also a virtually similar Michigan statute that applies to LLCs.

Therefore, if a court finds that those in control of the business committed misconduct against a minority owner, it has broad discretion to create the type of relief it deems is best.

Lesson:

Although sometimes filing a law suit for Minority Oppression is warranted due to the egregious misconduct of those in control of the company- it is always best to avoid litigation when possible.  The obvious take away points are two-fold:

1. Get an attorney involved before the business relationship begins and clearly document the business relationship, especially an exit strategy.

2. If you are being frozen out of control in a business – Michigan law gives you broad remedies, including the minority shareholder oppression statute.

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Categories: Uncategorized

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