“Shareholder oppression” is action by the directors or controlling shareholders of a closely held corporation [1] that is unfairly prejudicial to a minority shareholder. Oppression can take many forms. Three examples – termination of a shareholder employee, financial freeze out, and exclusion from corporate affairs – are described here, but other types of oppression may also arise, limited only by the imaginations and opportunities of controlling shareholders. For example, the Minnesota Supreme Court once held that a reverse stock split could constitute unfairly prejudicial conduct, though the Court determined that no oppression had occurred in that particular case. See U.S. Bank N.A. v. Cold Spring Granite Co., 802 N.W.2d 363, 377-79 (Minn. 2011). See also 1 F. Hodge O’Neal & Robert B. Thompson, O’Neal & Thompson’s Oppression of Minority Shareholders and LLC Members § 1:3, ch. 3-4 (2d ed., 2018 supp.).
Termination of Employment. A minority shareholder who is fired from employment at the corporation he partially owns may have a claim for shareholder oppression. In a close corporation, the pay received by the shareholders for working at the corporation they own may be a “vital component” of the shareholders’ return on their investment. Gunderson v. All. of Computer Professionals, Inc., 628 N.W.2d 173, 189 (Minn. Ct. App. 2001). This is because “dividends are rarely distributed in a close corporation. . . . Rather, ‘shareholders derive their income mainly from salaries and perquisites.’” Berreman, 615 N.W.2d at 367–68.
In other words, even if a close corporation generates minimal profit each year or barely breaks even, the investors may be satisfied with the performance of their investment because the investment provides them with a job. In such a case, a shareholder terminated by the corporation essentially loses the entire value of his investment, since he likely will not receive any dividends from owning the stock. The shareholder may have an oppression claim based on his termination, since “close-corporation shareholders commonly have an expectation of continuing employment with the corporation.” Gunderson, 628 N.W.2d at 189.
Of course, no shareholder has an absolute entitlement to employment at a close corporation. If the shareholder’s job performance is deficient, if the shareholder engages in employment misconduct, if the corporation’s legitimate business needs no longer include the employment of the shareholder, or if there is an agreement that allows for the termination of the shareholder, then termination would not necessarily constitute shareholder oppression. Id. at 190-92. The critical question, for purposes of determining whether a termination is oppressive, is whether the shareholder’s “reasonable expectations” of continued employment have been “frustrated.” See id. at 186.
Financial Freezing Out. A controlling shareholder or board of directors may also commit shareholder oppression by manipulating the operation of the company to freeze out minority shareholders from benefits of stock ownership given to other shareholders.
As a hard and fast rule, a corporation must pay equal dividends for each share of stock, without regard to who owns the share. See Murphy v. Country House, Inc., 349 N.W.2d 289, 293 (Minn. Ct. App. 1984). [2] However, a motivated controlling shareholder can find ways to circumvent this rule by funneling corporate cash into her and her allies’ pockets without calling these payments “dividends.” The corporation might award “bonuses” to selected shareholders, purportedly as compensation for employment. The corporation might provide unjustified expense “reimbursements” to selected shareholders. [3] The corporation might enter into non-economic contracts that benefit selected shareholders. Payment of what are effectively disguised dividends to favored shareholders tends to exhaust the corporation’s funds, leaving no resources to pay formal dividends that must be shared among all stockholders. Such a strategy amounts to appropriation by the controlling owners of the minority owners’ rightful share of the corporation’s profits.
If a controlling shareholder is found to be engaging in the payment of disguised preferential dividends, a court may order recompense to the shareholders who were excluded from the payments. In Murphy, the Minnesota Supreme Court ordered that a one-ninth shareholder be paid his one-ninth proportional share of funds distributed to the other shareholders as disguised dividends. See id. at 293 (“Although the Board neither classified the payments as dividends nor distributed the monies ratably according to each shareholder’s interest, it effectively paid dividends to some of it shareholders during its years of surplus profits.”) In another case, the Court affirmed the dissolution of a corporation (or alternatively a mandatory buy-out of one owner) where the president and controlling shareholder caused the corporation to enter into leases with other entities in which he owned an interest, even while refusing to consider issuing any dividends from the corporation to the shareholders. Matter of Villa Maria, Inc., 312 N.W.2d 921 (Minn. 1981). [4]
A claim of financial freezing out may be difficult to prove. A corporation is not obligated to pay dividends, even if it has cash available to do so. The directors may choose instead, as a matter of business judgment, to retain that cash in the corporation for use in the corporation’s business. Further, compensation of corporate employees is to a large degree a matter of business judgment. A minority shareholder seeking to prove financial freezing out must overcome the courts’ reluctance to second-guess business decisions made by corporate directors and officers, by proving some kind of legally significant impropriety in the decision.
Exclusion from Corporate Participation. Often, a controlling shareholder may undertake to completely exclude a minority shareholder from participation in the corporation, in conjunction with the termination of the shareholder’s employment or financial freezing out of the minority shareholder. In Villa Maria, for example, the president of the corporation took action “without consent of the directors,” failed to hold annual meetings of directors or shareholders, and withheld information about the financial affairs of the corporation. Id. at 922.
Corporate exclusion can be a difficult problem for a minority shareholder to combat. By law it is the directors – not the shareholders – who control a corporation’s decision-making, [5] and shareholders’ rights to receive financial information about the corporation are limited. [6] If a shareholder does not have enough votes to elect herself as a director of the corporation, and if the corporation provides her with the information required by statute, she will probably not succeed in a claim of oppression through corporate exclusion unless she can show something more than merely lack of access to corporate decision-making and information – such as termination of employment or financial freezing out. Of course, if the controlling shareholder ignores corporate requirements and formalities such as failing to hold director or shareholder meetings, those infractions strengthen the minority owner’s claim of shareholder oppression.
Nuts and Bolts. As a technical matter, claims of shareholder oppression in Minnesota can be grounded in Minn. Stat. § 302A.751 subd. 1, which grants the courts authority to “grant any equitable relief” deemed “just and reasonable in the circumstances,” and to “dissolve a corporation and liquidate its assets and business” if certain events occur. Potential triggering events include, for a closely held corporation, “the directors or those in control of the corporation have acted in a manner unfairly prejudicial toward one or more shareholders in their capacities . . . as officers or employees.” Id. subd. 1(b)(3). If oppression is shown, the defendant may not escape liability simply by showing that his acts were technically legal, since “[c]onduct that is technically legally permissible may nonetheless constitute a violation of rights that should be protected.” Cold Spring Granite Co., 802 N.W.2d at 376.
One of the remedies a court may order to redress shareholder oppression is “the sale by a plaintiff or a defendant of all shares of the corporation held by the plaintiff or defendant to either the corporation or the moving shareholders” at a purchase price which is the “fair value of the shares.” Minn. Stat. § 302A.751 subd. 2. However, the court has great latitude to fashion any remedy it believes is equitable.
To determine whether the controlling shareholders and directors have acted in a manner unfairly prejudicial to the minority shareholders, the court must consider the “reasonable expectations” of the minority shareholders. Gunderson, 628 N.W.2d at 190. Relevant factors may include the language of any existing buyout agreements or shareholder agreements; whether employment with the corporation was a significant reason for originally investing in the business; the shared understandings of the investors at the formation of the business; the course of dealings between the shareholders during the operation of the business; and any breaches of fiduciary duty committed by a shareholder or director. [7]
Owning a minority share of a close corporation can become a nightmare if the controlling owners choose to operate the business for their own sole benefit, without regard to the rights of the minority owners. Fortunately, Minnesota law offers relief for investors victimized by shareholder oppression, whatever form it may take.
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[1] This discussion concerns close corporations. Close corporations have “(1) a small number of shareholders; (2) no ready market for corporate stock; and (3) active shareholder participation in the business.” Berreman v. W. Pub. Co., 615 N.W.2d 362, 367–68 (Minn. Ct. App. 2000). Because there is no ready market for a close corporation’s stock, a close corporation minority shareholder who suffers from oppression is trapped. There is no way to liquidate her investment. By contrast, a shareholder of a publicly traded corporation unhappy with the decisions made by the corporation’s directors may simply sell her stock on the market and invest the resulting cash elsewhere.
[2] If the corporation has more than one class of stock, the different classes may be treated differently, but each share within a single class of stock must be treated equally.
[3] E.g. Blum v. Thompson, 901 N.W.2d 203, 208 (Minn. Ct. App. 2017), rev. denied (Oct. 25, 2017) (“Three minority shareholders of a family-owned corporation, Ward Family Inc., brought this lawsuit after the corporation leased its sole asset, 1,200 acres of real property, to a corporation owned by another family member, on terms that the plaintiff shareholders believe are unfavorable to them and to Ward Family Inc.”).
[4] The Court characterized its decision as being based on “prejudicial mismanagement by those in control,” and expressly did not consider whether “persistent unfairness toward minority shareholders” also applied. 312 N.W.2d at 923.
[5] A brief discussion of the differences between the roles of corporate director, officer, and shareholder is available here.
[6] Roughly speaking, a shareholder of a Minnesota corporation is always entitled to access the company’s records of board and shareholder meetings, annual financial statements, shareholder reports, bylaws, articles of incorporation, shareholder control agreements, and a handful of other records. Minn. Stat. § 302A.461 subd. 2, 4. If the shareholder has a “proper purpose,” he may be able to obtain access to a closely held corporation’s other records, such as business-related information, but the corporation may resist disclosure if it can show the shareholder actually has an improper motive or purpose for seeking the records. See Bergmann v. Lee Data Corp., 467 N.W.2d 636 (Minn. Ct. App. 1991).
[7] Id. 190-92; Cold Spring Granite Co., 802 N.W.2d at 378–79; Berreman, 615 N.W.2d at 374; Blum, 901 N.W.2d at 218; Albertson v. Timberjay, Inc., No. A17-0293, 2017 WL 3863863, at *2–3 (Minn. App. Sept. 5, 2017); Minn. Stat. § 302A.751 subd. 3a.