by Scott Unger, Esq.
Lay persons often confuse the term “minority oppression” believing it to be a civil rights based claim. Rather, the term describes activities often employed by majority shareholders in a closely held company in an effort to squeeze out the minority shareholder. Recently, the New Jersey Legislature enacted the New Jersey Revised Uniform Liability Act. That Act provides the same protections afforded to minority shareholders to minority members of a limited liability company. The techniques described in this article do not constitute the only forms of minority oppression that a member or shareholder may seek redress under New Jersey law.
TERMINATION OF THE
MINORITY SHAREHOLDER’S EMPLOYMENT
The termination of a minority shareholder’s employment; and/or the termination of their family member’s employment frequently have devastating consequences. It is common that the terminated minority shareholder’s only source of income was the closely-held business which they hold an ownership interest. Without their salary, the minority’s interest is, at least temporarily worthless.
Generally, the goal of the majority shareholder who terminates the employment of the minority (and/or their family members) is to acquire their interest at a below market price. Frequently, a terminated minority shareholder is pressed for money. Like most people, they still have the same financial obligations they had the day before their employment was terminated. Often, minority shareholders confronted with this dilemma will accept a below-market price for their interest in the company so that they can meet their current financial obligations. That is unfortunate.
Fortunately, the law may provide redress for minority shareholders who find themselves in the afore-described situation. The oppressed minority shareholder may seek remedy in the Courts. Many times, New Jersey Courts will grant an injunction either reinstating the minority member’s employment, or Ordering the majority to pay the minority shareholder as if they were still employed. Unlike regular “at will” employees who are severally limited as to the ways they can challenge an employer’s decision to terminate them; a terminated minority shareholder has the oppressed minority shareholder statute along with enhanced fiduciary duty claims within their arsenal.
Another form of minority oppression involves the majority shareholders awarding excessive compensation to themselves and/or members of their family. This often occurs to the detriment to the minority shareholder and the corporation itself. Examples of excessive compensation have been found in the form of bonuses, salaries, pensions, profit sharing plans, and overly generous expense accounts and perks.
A minority shareholder who is the target of this commonly used squeeze-out technique may seek redress in the form of direct and derivative causes of action. An oppressed minority shareholder may assert a derivative claim on behalf of the injured corporation based upon the theory that the excessive compensation is a breach of fiduciary duty or constitutes corporate waste. Moreover, the oppressed minority shareholder may assert a direct claim under New Jersey’s minority oppression statute.
Of course, there are problems associated with proving that the majority has awarded themselves or others close to them excessive compensation. Because of the large number of objective factors involved in setting an employee’s compensation package, Courts have not set forth an exact formula or rules in determining what is and what is not excessive. Fortunately, there are a number of remedies available to the Court if it were find that the compensation is excessive.
The majority’s decision to withhold the distribution of dividends is simple to apply and exhorts great financial pressure on the minority. The majority’s use of this simple squeeze-out technique is often to try and buy the minority’s interest in the corporation for a below-market price. It is most effective and potentially devastating in cases where the minority are highly dependent upon receiving their income from dividends.
Sadly, majority shareholders will often fabricate legitimate reasons why dividends are not being distributed. Examples of excuses often used are: the recession; the loss of a client or customer; and the need for the corporation to upgrade its equipment. It becomes the burden of the minority shareholder or their attorney to prove that the stated reason is not the real reason for the decision to withhold the distribution. That is because Courts recognize that there are many plausible reasons why funds available for distribution as dividends should be retained by the corporation. A minority shareholder challenging the majority’s failure to issue dividends often encounters many legal and factual obstacles in obtaining relief from a Court of law.
One obstacle is the Court’s adherence to the “business judgment rule.” It embodies a broad judicial deference to the corporation’s board of directors. The Court’s deference to the “business judgment rule” is less of a concern when it considers the actions of a board in the case of a closely held company. That is because in the case of a close corporation the decisions often made by the board directly affect their own interests. In other words, Courts are less inclined to strictly adhere to the “business judgment rule” where the voting shareholder has a conflict of interest.
Another possible legal obstacle a minority shareholder confronts when seeking to challenge the decision of the majority is the principle of majority control or governance of the corporation. Fortunately, New Jersey’s minority oppression statute does provide an exception to the general rule if the oppressed minority shareholder can demonstrate that the majority’s decision frustrates their reasonable expectations as a shareholder. Brenner v. Berkowitz, 134 N.J. 488, 506 (1993). Hence, if the minority can show that the pro-offered reason to withhold distributions is false or overstated they may seek redress.
For further information about Minority Oppression contact Scott Unger at Stark & Stark at 609-896-9060 or by e-mail to firstname.lastname@example.org.