SHAREHOLDER DISPUTES – SHAREHOLDER OPPRESSION
LAW OFFICES OF
Lustig & Wickert, PLLC.
3400 Dundee Road
Northbrook, Illinois 60062
Telephone (847) 509-9090
Shareholder Disputes
Most breaches of fiduciary duty by shareholders begin with someone hiding information. Shareholders of businesses of all sizes have a right to know what is going on in the business.
Even a minority shareholder has the right to examine corporate books and records to protect his interest so long as he has a legitimate purpose and is not proceeding for improper reasons. If you are cut out of the operations of a business you own, you have a right to request the records of the business.
We handle all aspects of ownership disputes including shareholders, LLC membership, and partnership disputes, and the defense and prosecution of claims involving:
- Breach of fiduciary duty
- Conflicts of interest and self-dealing
- Shareholder derivative actions
- Minority shareholder, LLC membership and partnership rights
- Excessive management compensation
- Shareholder oppression claims due to forced or unfair buy-out agreements and fair value calculations
- Failure to pay dividends or distributions
- Failure to pay earned wages or sales commissions
- Deadlocks and freeze-out disputes
- Appraisal rights
Right to Business Records
Most business partner disputes begin with the owners with majority control hiding information from those in the minority. Most breaches of fiduciary duty begin with someone hiding information. Shareholders of small businesses have the right to know what is going on in the business.
Even a minority shareholder has the right to examine corporate books and records to protect his interest so long as he has a legitimate purpose and is not proceeding for vexatious or speculative reasons. If you are cut out of the operations of a business you own you have a right to request the complete records of the business. The records that must be shared are not just limited to financial records or meeting minutes as the majority owners may tell you. Instead, once a purpose has been established, the shareholder’s right of inspection extends to all books and records necessary to make a complete investigation, including all books, papers, contracts, minutes, or other instruments from which he can derive any information that will enable him to protect his interests. A proper purpose is one which seeks to protect the interests of the corporation as well as the interest of the shareholder seeking the information.
If the majority controlling partners fail to produce business records they face a stiff penalty. 805 ILCS 5/7.75(d) provides:
“Any officer, or agent, or a corporation which shall refuse to allow any shareholder or his or her agent so to examine and make extracts from its books and records of accounts, minutes and records of shareholders, for any proper purpose, shall be liable to such shareholder, in a penalty of up to ten per cent of the value of the shares owned by such shareholder, in addition to any other damages or remedy afforded him or her by law… “
If your partners are trying to cut you out of the business but have not acted yet, you can file suit to obtain information and prevent the harm before it starts. Your partners will be punished with a penalty of up to ten percent of the value of your ownership interest plus attorneys’ fees necessary to get a court order requiring them to provide the records requested.
Shareholder Oppression Claims—Forced buy out
The Illinois Business Corporation Act 805 ILCS 5/12.56 allows for a minority shareholder to get paid the fair value of his or her ownership interest if he or she can prove oppression, waste, or deadlock. These claims are much easier to prove than fraud or fiduciary.
Section 12.56(f)(6) provides that, if the parties are unable to reach an agreement on the value of the shares, the “court, upon application of any party, shall stay the proceeding under subsection (a) and shall determine the fair value of the petitioner’s shares.” The goals of dissenters’ rights statutes today are to protect minority shareholders from majority overreaching, self-dealing, and oppressive conduct in an attempt to eliminate a minority shareholder at a price below fair value, or in an attempt to transfer power to the majority
Section 12.56(a) of the Act provides that a shareholder may petition the circuit court for a variety of remedies if any of the following is established:
“(1) The directors are deadlocked, whether because of even division in the number of directors or because of greater than majority voting requirements in the articles of incorporation or the bylaws or otherwise, in the management of the corporate affairs; the shareholders are unable to break the deadlock; and either irreparable injury to the corporation is thereby caused or threatened or the business of the corporation can no longer be conducted to the general advantage of the shareholders; or
(2) The shareholders are deadlocked in voting power and have failed, for a period that includes at least 2 consecutive annual meeting dates, to elect successors to directors whose terms have expired and either irreparable injury to the corporation is thereby caused or threatened or the business of the corporation can no longer be conducted to the general advantage of the shareholders; or
(3) The directors or those in control of the corporation have acted, are acting, or will act in a manner that is illegal, oppressive, or fraudulent with respect to the petitioning shareholder whether in his or her capacity as a shareholder, director, or officer; or (4) The corporation assets are being misapplied or wasted.”[8]
When a minority shareholder is able to prove oppression they can ask the court for several remedies including the purchase of their shares for fair value.
Shareholder Oppression Claims-Fair Value Buy Out
“Fair value” as defined by statute is much more favorable to a minority shareholder than selling shares for fair market value or any other metric of value normally employed when selling an interest in a small business. The Illinois Business Corporation Act defines fair value as: “taking into account any impact on the value of the shares resulting from the actions giving rise to a petition under this Section.”
The Illinois Business Corporations Act provides:
“(e) If the court orders a share purchase, it shall:
(i) Determine the fair value of the shares, with or without the assistance of appraisers, taking into account any impact on the value of the shares resulting from the actions giving rise to a petition under this Section…
For purposes of this subsection (e), “fair value”, with respect to a petitioning shareholder’s shares, means the proportionate interest of the shareholder in the corporation, without any discount for minority status or, absent extraordinary circumstances, lack of marketability.
The purchase ordered pursuant to this subsection (e) shall be consummated within 20 days after the date the order becomes final unless before that time the corporation files with the court a notice of its intention to dissolve and articles of dissolution are properly filed with the Secretary of State within 50 days after filing the notice with the court.”
The statute providing for this remedy uses the term “fair value” — rather than “fair market value” — as the standard used to determine the buyout price. The statute further provides that “fair value” means “the proportionate interest of the shareholder in the corporation, without any discount for minority status or, absent extraordinary circumstances, lack of marketability.” This language is critical where the majority owners frequently assert that they are entitled to a discount when purchasing the minority interest. Illinois law is clear that discounts at the shareholder level are disallowed because they result in undervaluing the dissenters’ shares while overvaluing the majority’s shares, thereby effectively punishing the minority shareholder for exercising his statutory right to dissent.
The Illinois Business Corporations Act, (805 ILCS 5/12.56) provides:
“If the parties are unable to reach an agreement as provided for in paragraph (5) of this subsection (f), the court, upon application of any party, shall stay the proceeding under subsection (a) and shall determine the fair value of the petitioner’s shares pursuant to subsection (e) as of the day before the date on which the petition under subsection (a) was filed or as of such other date as the court deems appropriate under the circumstances.”
Shareholder Oppression Claims—Fair Value Calculation
Once a minority shareholder or partner establishes a right to be bought out the next question is how much is the minority interest worth?
Illinois courts have stated that there is no precise formula for valuing the stock in a corporation, and a trial court is to consider “[e]very relevant evidential fact and circumstance entering into the value of the corporate property and reflecting itself in the worth” of a dissenter’s shares. A relevant factor is anything that might impact on the stock’s intrinsic value. Some of the factors that may be relevant to a determination of fair value include the stock’s market price, the corporation’s earning capacity, the investment value of the shares, the nature of the business and its history, the economic outlook of the business and the industry, the book value of the corporation, the corporation’s dividend paying capacity, and the market price of stock of similar businesses in the industry. Although “fair value” is not synonymous with “fair market value,” fair market value is another relevant factor to be considered.
According to Financial Accounting Standards Board (“FASB”)’s Accounting Standards Codification (“ASC”) 820, fair value is defined as “the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date.” An “orderly transaction” is a hypothetical transaction assumed to take place on the measurement date with the subject asset having been exposed to the market for the usual and customary period of time for transactions involving such assets in order to provide sufficient time for marketing activities. It is a sale where the seller is not under duress (e.g., a forced liquidation or distress sale). Fair value measurements are considered from the perspective of a market participant that already holds the asset or owes the liability. The objective of measuring fair value is to determine an exit price: the price that a known seller would receive to sell an asset or to transfer the liability to a market participant buyer.
The income approach generally relies on the expectation of future cash flows and/or earnings. In many cases we apply a Discounted Cash Flow Method (“DCF”) to estimate the Enterprise Value of the minority interest by discounting the projected future free cash flows from the business using an appropriate discount rate.
In practice, we are able to maximize settlement by engaging reputable business valuation experts early in the litigation to establish a value for the business. Settlements are achieved by establishing a clear, conservative, value for the.
Wage Claims by Minority Business Owners
More often than not when a shareholder is locked out of a business they also are not paid their wages.
The Illinois Wage Payment and Collection Act requires that businesses promptly pay their employees earned wages and other compensation upon separation and provides employees, including executives, with enforcement tools to recover earned compensation from an employer. The Act covers all employees who perform work in Illinois for an Illinois employer. In order to establish a claim under the Wage Payment and Collection Act, an employee or ex-employee must prove that: (1) that the defendant was an “employer” under the Act; (2) that the parties entered into an “employment contract or agreement,” as defined in the Act; and (3) the employee is owed “final compensation” under the Act. The Act empowers a judge hearing the employee’s claim to award attorney fees and costs to the employee, to be paid for by the employer. The other owners of the business are personally liable because officers and directors are liable who knowingly aided or allowed a violation of the Act to occur. The added element of personal liability can create tremendous leverage as part of a larger shareholder, member, or partnership claim.
The Wage Payment and Collection Act defines wages as follows: “Any compensation owed an employee by an employer pursuant to an employment contract or agreement between the 2 parties, whether the amount is determined on a time, task, piece, or any other basis of calculation. Payments to separated employees shall be termed “final compensation” and shall be defined as wages, salaries, earned commissions, earned bonuses, and the monetary equivalent of earned vacation and earned holidays, and any other compensation owed the employee by the employer pursuant to an employment contract or agreement between the 2 parties.” Plus severance pay is considered final compensation compensable under the Act.
The Wage Payment and Collection Act include a penalty of 2% monthly, or 24% annual interest, plus attorney fees.
Sales Commission Claims by Minority Business Owners
In many small businesses you are entitled to both the value of your ownership interest and your earned commissions when you leave the business.
The Illinois Sales Representative Act (“ISRA” or the “Act”, 820 ILCS 120.01 et seq.), is intended to protect the right of terminated independent sales representatives to receive timely payment of their commissions. ISRA is intended to apply to sales representative agreements that satisfy the “minimum contacts” test for jurisdiction in Illinois.
The Illinois Sales Representative Act provides in pertinent part:
“(3) ‘Principal’ means a sole proprietorship, partnership, corporation or other business entity whether or not it has a permanent or fixed place of business in this State and which:
- (A) Manufactures, produces, imports, or distributes a product for sale;
- (B) Contracts with a sales representative to solicit orders for the product; and
- (C) Compensates the sales representative, in whole or in part, by commission.”
The ISRA specifically provides that in cases where there is no written agreement: “If there is no contract, or if the terms of the contract do not provide when the commission becomes due, or the terms are ambiguous or unclear, the past practice used by the parties shall control” and “If neither [the contract or past practices] can be used to clearly ascertain when the commission becomes due, the custom and usage prevalent in this State for the parties’ particular industry shall control.” So, even if you do not have a separate sales commission agreement, if you were paid sales commissions you are entitled to any earned commissions when you leave the business.
The penalties for a failure to pay commissions are harsh and do not require a showing of bad faith. The Illinois Sale Representative Act 820 ILCS 120/3 provides:
“A principal who fails to comply with the provisions of Section 2 concerning timely payment or with any contractual provision concerning timely payment of commissions due upon the termination of the contract with the sales representative, shall be liable in a civil action for exemplary damages in an amount which does not exceed 3 times the amount of the commissions owed. Additionally, such principal shall pay the sales representative’s reasonable attorney’s fees and court costs.”
Bottom of Form
- Antitrust Litigation
- Arbitration and Mediation
- Breach of Contract
- Business Law
- Business Torts
- Construction Litigation
- Corporate Law
- Fraud and Embezzlement
- Intellectual Property
- Legal Malpractice
- Mergers and Acquisitions
- Ponzi Schemes
- Real Estate Litigation
- Sales Commission Claims
- Securities Litigation
- Shareholder and LLC Member Disputes
- Transactions
