Considerations as a Minority Shareholder
Fiduciary Duties of Care and Loyalty and The Business Judgment Rule
Officers and majority shareholders in a closely held corporation owe the company and minority shareholders fiduciary duties of care and loyalty. Ordinarily, when officers discharge such duties, "the business judgment rule prohibits judicial inquiry into [their] actions," but only if they were "taken in good faith and in the exercise of honest judgment in the lawful and legitimate furtherance of corporate purposes." The business judgement rule does not apply to acts that do not further the interest of the corporation, especially when the directors have a personal stake in the transaction.
"The business judgment rule does not foreclose judicial inquiry into the decision of a board of directors where the board acted in bad faith, e.g., deliberately singled out an individual for harmful treatment." Thus, they cannot rely on the business judgment rule to create a presumption of legality. Instead, they bear the burden as"interested directors or shareholders to prove good faith and the entire fairness of the challenged transaction," because directors' actions are "subject to the limitation that such conduct may not be for the aggrandizement or undue advantage of the fiduciary to the exclusion or detriment of the stockholders."
Where there is corporate waste — "the diversion of corporate assets for improper or unnecessary purposes" — the business judgment rule does not apply. The "transfer of assets without consideration" and permitting "corporate property [to be] given to a foreign corporation without consideration" are classic examples of waste.
Equally impermissible is the diversion of corporate opportunities by the directors to other companies in which neither the corporation nor its minority shareholder has an interest. "The doctrine of 'corporate opportunity' provides that corporate fiduciaries and employees cannot, without consent, divert and exploit for their own benefit any opportunity that should be deemed an asset of the corporation."
New York law provides for involuntary dissolution of a close corporation by its shareholders if the “directors or those in control of the corporation have been guilty of illegal, fraudulent or oppressive actions toward the complaining shareholders.”
In its analysis of whether corporate dissolution is justified under the circumstances, courts consider whether there is an alternate means to protect the shareholders’ investment and whether it is reasonably necessary to protect the “rights and interests of any substantial number of shareholders.” After dissolution proceedings have been initiated, the corporation must make available for inspection and copying within thirty days the corporation’s books and records for the past three years.”
Although statutory law does not define what conduct by the majority constitutes oppression, New York courts have termed oppression to mean “conduct that substantially defeats the ‘reasonable expectations’ held by minority shareholders in committing their capital to the particular enterprise.”
Reasonable expectations of a minority shareholder may include employment in the corporation, a share of earnings and a voice in corporate management. In assessing whether oppressive conduct has taken place, the courts determine what the majority shareholders knew or should have known regarding the expectations of the minority in joining the enterprise. However, a minority shareholder’s disappointment with the corporation alone is insufficient to justify a finding of oppression. Instead, oppression may be found “only when the majority conduct substantially defeats expectations that, objectively viewed, were both reasonable under the circumstances and were central to the petitioner's decision to join the venture.”
Shareholders of close corporations may bring derivative suits on behalf of a corporation for wrongs against the corporation. In order to have standing to bring a derivative action, the plaintiff must have been a shareholder at the time the cause of action arose or received the shares by operation of law from someone who held them at that time. The complaint must state the efforts the shareholder used to obtain appropriate relief from the corporation or give reasons why no such efforts were made. Court approval is required before a suit may be discontinued or settled and notification of affected shareholders may be required at the discretion of the court.
If the complaining shareholder prevails in the action or receives anything as a result of the suit, the court may award the plaintiff reasonable expenses and attorneys’ fees and direct that the shareholder account to the corporation for the remainder of the proceeds. Furthermore, unless the complaining shareholder or shareholders own, either individually or in the aggregate, at least five percent of any class of outstanding shares, or the shares owned are valued at more than fifty thousand dollars, the corporation may request that the plaintiffs provide security for the expenses and attorneys’ fees that may be incurred as a result of the suit.
New York adheres to the general rule that because a shareholder derivative suit is brought on behalf of the corporation, any recovery obtained belongs to the corporation. Thus, in the close corporation context where the wrongdoer is a shareholder, the person responsible for the harm participates significantly in the recovery, albeit indirectly. New York courts have held that the interest of corporate creditors mandates that the recovery remain an asset of the corporation so that innocent creditors are not prejudice.
The Law Office of Steven Riker represents clients throughout the New York metropolitan area, including the counties of New York (Manhattan), Kings (Brooklyn), Queens, Bronx, Westchester, Nassau, and Suffolk, from offices conveniently located in midtown Manhattan and White Plains, New York.