Employment Termination As Oppression
September 2nd, 2008 | 
Author: Shareholder oppression can take many forms, but one of the most common is terminating a shareholder/employee from his or her employment. New Jersey case law discusses “oppression” under the applicable statute as a frustration of a shareholder’s “reasonable expectations.” Terminating one’s employment may satisfy this test.
Not every shareholder/employee who is terminated may succeed in making this argument. However, if a shareholder was one of the founders of the company, or at least became a shareholder with the express (or implied) understanding that he was doing so to become an employee, as well, this argument may have considerable merit.
The logic of this argument is compelling. Becoming a shareholder may have considerable appeal if one also works in the business, able to directly contribute to its success, as well as see first-hand how it is performing. However, when one is no longer employed, you may view yourself as being “stuck” in the company with no way out.
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Corporations Dealing With A Tyrannical Minority Shareholder
While minority shareholders have considerable rights under New Jersey law, including the right to be free from oppression, this does not mean that majority shareholders may be bullied by minority shareholders who consistently oversteps their bounds.
Business owners may recognize the minority shareholder who (1) knows little about the business, yet insists he knows more than those who actually do the work and have the expertise; (2) attempts to dictate the way the business is run; or (3) demands to see every scrap of paper generated by the business operation.
Of course, minority shareholders should not be kept completely in the dark, and should not be treated unfairly. However, minority shareholders’ rights clearly have limits, which will largely be dictated by the circumstances of each case.
Avoiding Intergenerational Fights
Many small company owners think they are doing the right thing by planning for the “orderly transition” of ownership from one generation to the next. Often done on the advice of an estate planning attorney, the sole owner for a generation or more often outright gifts his shares to his children.
If you intend to leave the company without having any further rights, ceding total control to your children, then there may be little downside to this approach. But all too often that is not the owner’s true intent. Your goal may range from remaining fully in charge, to staying on as a paid consultant, to simply receiving the pension that you know you deserve. But, once you give up control – even if your children pay nothing for the shares – you cannot simply get them back.
Analyze Tax Implications Before Filing Suit
A smart business owner knows that litigation is never a first option, but circumstances sometimes dictate that it may seem to be your only option. An analysis of the strengths and weaknesses of your case, compared to the cost of doing nothing, may very well point to bringing an action against your business partner. However, all too often a plaintiff who believes he has analyzed his case from every angle has forgotten a very important consideration – the potential tax ramifications of the litigation.
Uncovering tax improprieties undertaken by an unrelated third party you are suing would not concern most people. In fact, it can be a strategic asset, since many litigants may choose to settle with you rather than let their tax issues be placed before the court. After all, in New Jersey, as in many states, judges have an affirmative obligation to alert taxing authorities to tax improprieties of which they become aware; such reporting by the Court is mandatory.
Fifty Percent Shareholders Have Rights Too
When a minority shareholder has a dispute with his or her business partner, the aggrieved shareholder often intuitively knows that there must be some legal protection for someone in his situation. He may not know the details – that there is a specific statute that provides protection for someone in just his position – but common sense may lead him to at least suspect that a competent lawyer might be able to obtain some relief for him.
The case of two 50% shareholders is a different animal altogether, at least with respect to a business owner’s expectations. Often a shareholder who owns half the company has far less than half the power, simply as a result of the way the company has historically operated. However, fifty percent shareholders often believe they have fewer rights and remedies than do minority shareholders because of the assumption that the law would not favor them over a co-equal shareholder. That assumption is often incorrect.
The Importance of a Well-Crafted Shareholder Agreement
Problems among shareholders often could have been avoided had they simply signed a better shareholder agreement at the outset of the relationship. When shareholders want a “divorce,” they often look to the shareholders agreement to define their respective rights and obligations. Far too often, when I ask clients what their shareholders’ agreement says about buying out the other, or being bought out themselves, they have no idea what the document says. It is obvious that these clients paid little attention to what the agreement said at the time it was drafted.
Even if you did pay attention, and a share valuation formula seemed to make sense to you when the agreement was drafted several years ago, did you stop to think whether that formula might make sense in ten years? Now that you want nothing more than to separate from your business partner, do you regret the fact that you have not reviewed your agreement in all this intervening time? After reading your agreement for the first time in a decade, are you one of the countless shareholders who would get a fraction of what you think your shares are worth?
You May Already Know A Good Mediator
For a minority shareholder who is being treated unfairly by the majority, mere discussions and negotiations with the majority shareholder(s) about the unfair conduct frequently do not resolve things. Too often, it would seem that one has no choice but to resort to litigation. But litigation is expensive. As a business-person, you know that just about anything involving an attorney is expensive. But litigation can be especially so. Even for someone who wants to control costs, it is often all-too-difficult to accomplish. You may have the ability to control, to a certain extent, the things that your lawyer does. But it is impossible to control what your adversary’s lawyer does. If you are unfortunate enough to have a “scorched-earth” litigator on the other side, the costs could spiral out of control.Litigation alternatives, including mediation and arbitration, are becoming more and more popular because of the cost savings involved. Mediation, in particular, may be quite useful in minority shareholder litigation. Shareholders in most closely-held businesses, especially ones that are family owned, can often count among them at least one person that all the shareholders trust. Whether this is an accountant, an attorney, a relative, or just a family friend, identifying one person that all the fighting shareholders trust is a crucial first step. That person – even if not an attorney – could act as mediator to help settle the warring parties’ dispute. If both sides have their own representation to make their case to someone that all sides at least trust, the chances of a resolution before litigation, or at least before the litigation becomes costly, is well worth the effort.
How Are Shares Valued by a Court?
Shareholders engaged in a dispute or disagreement with their business partners may attempt to negotiate their own buy-out in resolution of the grievance. However, all too often shareholders in New Jersey improperly assess the value of their shares, usually leading them to accept less than their shares are really worth, and sometimes far less than he or she would have recovered in a lawsuit. There are several steps to avoid, and several that should be taken, when trying to assess a proposed buy-out.
Majority shareholders often will tell a minority shareholder that, if they do not want to be a shareholder anymore, they should follow the procedures set forth in the Buy-Sell Agreement. Of course, those agreements usually contain a formula that yields substantially less than the shares are really worth. However, if the acts of the majority shareholders fit within the language of the New Jersey statute, the Buy-Sell agreement, which usually does not contemplate an “involuntary” sale resulting from “oppression,” may not govern.
Reading Your Business
Minority and majority shareholders alike may learn valuable information from reading your company’s financial statements on a regular basis. Your financial statements are not just for the accountants and auditors. They can be a great source of information to help you run your business, big or small.
Comparative financial statements reflect current period information for the month or year along with the information for the same period of the prior year. This allows us to compare and contrast the current financial data and look for reasons why the various income and expense categories have changed. Some explanations are obvious. Others can be a bit surprising, requiring more analysis and changes in the way a company does business or disclose the need for organizational change.
Fraud By The Majority
When you suspect that your New Jersey business “partners” may have committed fraud, either on someone else or upon you, what steps should you take, and what remedies might you have? In New Jersey, certain steps often must be taken as quickly as possible, including retaining a forensic accountant who has experience in uncovering fraud and testifying in court. And certain pitfalls must absolutely be avoided.
Corporate fraud is certainly not limited to the huge companies of the world like Enron. In fact, it is all too common in small, closely held businesses, as anyone with an interest in reading this article may know all too painfully well. When a minority shareholder suspects that the majority shareholders (or partners) in control are committing fraud or “cooking the books,” what should he or she do? It is critical for the minority shareholder to realize the impact this may have upon him or her. Defrauding customers, vendors or taxing authorities (like the IRS) could cause the company significant liability, which could impact profoundly on the value of your investment. It is also possible that a shareholder who becomes aware of the fraud but fails to stop it may face personal liability to those defrauded – sometimes even criminal liability.