Protecting the Little Guy
Share ownership of a closely-held company is often concentrated within a relatively few number of shareholders. These shareholders usually are either related to each other or have close ties to one another. When the company is running smoothly and all shareholders are on the same page regarding the company's future direction, closely-held companies can operate quite efficiently and productively. Unfortunately, this harmonious relationship may become strained when shareholders disagree on the direction of the company.
Ownership of a closely-held company will often result in disparate ownership among the shareholders. The resulting inequality produces two separate classes of shareholders, the majority (a shareholder or group of connected shareholders owning more than fifty percent (50%) of the issued shares) and the minority shareholders (those owning less than fifty percent (50%). Although the minority has an ownership interest in the company, often they are left with little practical power in its governance. The majority shareholders effectively govern the company by electing the board of directors who run the company and appoint the officers. Because this power is generally vested in the majority, oftentimes the minority is left with no board representation and as a result no power internally. This puts the minority in a precarious situation if they feel they are being oppressed or if they feel the assets of the company are being wasted or misapplied. To help alleviate this problem, in Illinois, there are extraordinary remedies available to minority shareholders under § 805 ILCS 5/12.56 (the "Act").
Under the Act, a minority shareholder must establish the occurrence of one of the following four factual scenarios to be entitled to extraordinary relief: (1) the directors of the company are deadlocked in the management of the corporate affairs because of greater than majority voting requirements in the articles or by-laws, and as a result, irreparable injury to the company is thereby caused or threatened or the business can no longer be conducted to the shareholders' advantage; (2) the shareholders are deadlocked in voting power and have failed for a period encompassing at least two annual meeting dates to elect successors to directors whose terms have expired and again irreparable injury to the company is thereby caused or threatened or the business can no longer be conducted to the shareholders' advantage; (3) the directors or those in control are acting in an illegal, oppressive or fraudulent manner with respect to the petitioning shareholder; or (4) the company's assets are being misapplied or wasted. If the petitioning shareholder can establish the occurrence of one of these four factual scenarios, the court has numerous options at its disposal to help alleviate the problems occurring at the corporate level. These remedies may be considered the court's "tool box" to be used as the court deems necessary.
The remedies available in the court's tool box are expansive and afford the court wide discretion in developing a solution to solve the underlying corporate dispute. To determine the appropriate relief, courts take into consideration the reasonable expectations of the shareholders, both at the time the company was formed as well as their expectations throughout the company's existence. Initially as a remedy, the court can step in and set aside or alter any action taken by the company, its shareholders, directors or officers. This may be appropriate if the parties are in dispute over a specific issue or action that previously has been taken. Or, if a specific action is not causing the problem, the court may decide to amend and restate the company's governing documents by striking or altering provisions as necessary in the company's articles or by-laws. If this step is taken, perhaps the court will avoid a deadlock that is affecting the board of directors or shareholders. In the alternative, perhaps the court may deem that the company's leadership is ultimately at the root of the underlying problems. In that case, the Act allows the court to remove or appoint any individual as a director of the company or appoint a custodian or provisional director to manage the company. The court also has the ability to order an accounting with respect to the matter in dispute, order the company to pay dividends or award damages to any aggrieved party if it so chooses under the circumstances. Furthermore, if the court feels that the parties have the ability to ultimately resolve the dispute if given a platform to negotiate, it can order the submission of the dispute to mediation or other alternative dispute resolution setting for the parties to work through a compromise.
The court has a few more extreme options in its tool box. The court may decide to adjust the ownership structure of the company. To effectuate this, the court may order the company or one of its shareholders to purchase all, but not less than all, of the shares of the petitioning shareholder. If this route is taken, the Act places the court in the position of determining the fair value of the shares. The court will determine the share value with or without the use of an appraiser and specify the terms of the purchase after considering all legal and financial impacts of the transaction. As you can see, if this remedy is utilized, the court is left with a great deal of power in determining the appropriate share price. Finally, if the court determines that no other remedies are appropriate, the court can order the company to dissolve. This is the last resort option that the court has if no other alternative is viable under the circumstances. Of course, the court will look at the financial condition of the company when considering dissolution; however, the court may not refuse to dissolve solely because it has accumulated earnings and profits.
The minority shareholder remedies available are quite expansive under Illinois law. While minority shareholders may not have the ability to effectuate change on their own within the corporate structure, under the Act, companies governed under Illinois law have a built-in safeguard that allows a court to step in and apply a wide range of remedies to resolve internal conflicts. Although divisions within the company may not be anticipated at the outset, minority shareholders in Illinois will have a legal alternative in the event a dispute arises within.
If you have any questions, please contact one of the following attorneys from Pedersen & Houpt's Corporate and Business Counseling Practice Group: Susan Burke (312 261 2120, firstname.lastname@example.org) or Brian Collins (312 261 2247, email@example.com).
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