Can Shareholders Claim For Unfair Prejudice?

What Is Unfair Prejudice?

Under section 994 of the Companies Act 2006, company members can bring a claim of unfair prejudice if they can prove:

• That the company is being run, or has been run, in a way that unfairly harms the interest of its members (including the person making the complaint); and/or
• That something the company has done, plans to do, or has failed to do is, or would be, unfairly harmful to those interests.

It is crucial to note that the petitioner must prove, on the balance of probabilities, that there was prejudice and that it was unfair.

In Loveridge v Loveridge [2020] EWCA Civ 1104, the Court of Appeal ruled a minority shareholder cannot normally complain of conduct which falls within the company’s constitution unless they can show certain rules under the constitution have been breached or those rules have been used in a way contrary to good faith.

What are some examples of unfair prejudice to minority shareholders?

Unfair prejudice to minority shareholders can include:

• Not distributing dividends.
• Creating more shares in the company (share dilution) without a shareholder resolution.
• Inappropriately removing the auditor of the company.
• Mis-valuing a particular class of members’ shares.
• Prioritising a director’s personal interests over the company’s success.
• Non-compliance with the company’s articles of association.
• Directors inappropriately dealing with company assets.
• Withholding information, especially company accounts and reports.

Unfair prejudice was held not to exist where:

• The majority shareholders refusing to buy shares in the company from the minority, or sell shares to the minority.
• Commercial mistakes or management incompetence or a dispute regarding the commercial direction of the company.
• Good faith amendments to the company’s Articles to include drag along provisions which could force the sale of the minority’s shares.

Can an unfair prejudice petition relate to future conduct by majority shareholders?

This is one of the most common questions clients ask us, and fortunately, the answer is yes.

For example, if the directors propose a change in the company’s share structure or changing the composition of the board, it is often easier and more effective to make a petition under section 994 seeking an injunction than trying to deal with the event after it happens.

What relief can the Court provide if my unfair prejudice claim succeeds?

Under section 996 of the Companies Act 2006, if you can prove unfair prejudice, the Court has the power to grant the following relief:

• Grant an injunction to refrain the company from doing the act complained of or to do something the petitioner wants done (based on the petition).
• Allow civil proceedings to be brought in the name and on behalf of the company.
• Prohibit any alterations to the company’s Articles without the leave of the Court.
• Order the compulsory purchase of the minority’s shares by the majority at a price set by the Court. This is the most common remedy sought by petitioners.

The Courts will refuse to make a compulsory purchase order if doing so would be disproportionate to the prejudice you have suffered. Your petition may also be struck out if remedies are available via the Articles or Shareholders’ Agreement and there is evidence you tried to bypass those remedies by bringing a section 994 petition.

How does the Court calculate the share price if it orders compulsory purchase?

In most cases, our clients will seek an order for the purchase of shares at a price based pro rata on the value of the company on the valuation date. This is different to the market or commercial valuation of the petitioner’s shares, which will usually involve applying a substantial ‘full’ minority discount to the pro rata figure. For obvious reasons, the majority shareholders ordered to purchase the shares will want the valuation based on market value.

The method of valuation is decided on a case-by-case basis and depends on the nature and extent of the unfair prejudice. The Court can use other valuation methods aside from the pro-rata valuation or valuation subject to minority discount.

The Court will also determine the valuation date. As a starting point, the date of the share purchase order will be applied. In some cases, it is in our clients’ best interests to argue for a different date, for example if majority shareholders have diverted business or assets from the company to reduce its value. It may also be advantageous to argue, in cases where our clients were part of the initial investors in the company, that a quasi-partnership existed. This means our clients had an expectation of participating in the management and profits of the company. If the Court finds a quasi-partnership exists, they will not apply a minority discount to the shares if a majority buy-out is ordered.

Final words

Believing you have been unfairly prejudiced by the acts or omissions of majority shareholders can be frustrating and infuriating, especially if you helped build the company from the beginning. Getting legal advice sooner rather than later can help to resolve the dispute via non-court methods such as mediation and negotiation. In our experience it is extremely rare for unfair prejudice disputes to reach court. In most cases, most people are keen to resolve matters as quickly, cost-effectively, and stress-freely as possible. Getting early legal advice is the best way to achieve this.

To discuss any points raised in this article, please call us on +44 (0) 203972 8469 or email us at mail@eldwicklaw.com.

Note – This article does not constitute legal advice. For further information, please contact our London office.