Not all minority shareholder situations are as humorous as Judy Holiday in the Solid Gold Cadillac, where she plays a minority shareholder who asks just the right types of embarrassing questions to call a corrupt board of directors on the carpet.
Most of my clients who are incorporated have a limited number of shareholders, many of whom actually get along quite well. But every once in a while a client comes to me with a disgruntled minority shareholder.
Balancing the rights of a shareholder’s legitimate concerns, with the ability of the company to avoid having personality clashes interrupt business is not always an easy task. This blog post will address this balancing act from the standpoint of a small company with an annoying minority shareholder who doesn’t really have any complaints beyond personally disliking the majority shareholder. It is not meant to suggest minority shareholders might not have legitimate concerns. That situation is just not the topic here. However, minority shareholders with legitimate concerns can certainly benefit from reading this to see what rights they could enforce.
Having a nuisance minority shareholder may be the result of an employee stock option plan (don’t get me started on why you may not even want to bother with one); a “friends and family” round investor who is now neither friend nor family; or a founder or early consultant who was given stock and is only now realizing that it’s pretty worthless if the company is never going to go public or be sold.
Most minority shareholders accept that if they aren’t working for the company their stock is worthless unless there is a buy out or IPO. They therefore park their stock certificate in a desk drawer and never think about it.
But once in a while such shareholders decide they want to make your life miserable – usually for reasons totally unrelated to the corporation. But the fact remains a minority shareholder can be a nuisance. Beyond the nuisance value, there can be criminal charges brought if you don’t handle things properly.
Minority shareholder rights fall into three main categories: 1) the right to meet and vote; 2) the right to get information; and 3) the right to sell their stock to someone who might dislike you even more than they do. Let’s address your responsibilities in each case.
Shareholder meeting and voting rights:
Shareholders, that’s all shareholders, have a right to meet and vote on certain BIG issues, as well as to elect directors once a year. You can avoid having to meet personally with shareholders in two ways: 1) meet electronically or 2) substitute a “consent” for a meeting.
So step number one in avoiding problems with minority shareholders: read your Bylaws, and hold your meetings. There are ways to limit the pain associated with this by amending the Bylaws and managing the meetings and consents properly.
The Right To Get Information
Small (under 100 shareholders) corporations do not have to issue annual reports provided that their Bylaws waive that obligation.
However, even tiny corporations have to provide certain shareholders certain information if requested.
Failure to provide the requested information can subject the officer or director who withholds the information to criminal liability, so while you should be prepared to provide this information, don’t release it to someone who you think will use it inappropriately without talking to an attorney.
Again, the first step is to read and then if appropriate amend your Bylaws.
The Right To Sell Their Stock
A corporation can, in its Bylaws, restrict the right of a shareholder to sell his or her stock. This is usually done by providing a “Right of First Refusal” which nicely balances the right of the shareholder to liquidate his or her interest and the corporation to limit who becomes a shareholder. If you want this sort of restriction, it should be in your Bylaws.
Without any restrictions, a shareholder who might not care one way or the other could sell his or her stock to a competitor or anyone else who didn’t share the best interest of the company.
Again, your Bylaws can be your best ally if properly written.
Are you sensing a theme? While Bylaws are often relegated to a dark and dusty drawer (or an old 3” floppy disk from the early years) in small corporations, it is wise to review and update them in light of the possibility of … the minority shareholder from hell.
Finally, one of the biggest risk areas is in your employee stock option plan. There isn’t room here to address all of the risks, and the work-arounds to avoid them. But remember, many ex-employees go through a period of resentment if they are fired. If that resentful employee has stock options, you want to be able to limit their involvement in the Company. A review of your stock option plan may save you lots of aggravation in the future.
Minority shareholder issues are best handled in advance – so you don’t get stuck with THE HORROR of a Minority Shareholder.