The Basics of Shareholder Disputes

Introduction

 In Ontario, a shareholders’ rights are outlined and protected in three main places; under the common law, the applicable sections of any statutes, and also in the agreement drawn up by the parties (also known as a shareholders agreement). A Corporation’s by-laws can also be referred to in certain situations. Shareholders have many rights, but generally speaking, three of the most notable ones include; the right to vote at valid shareholder meetings, the right to attend shareholder meetings, and the right to have access to accurate and complete information regarding the Corporation’s affairs. That being said, it is important to note that shareholders are also entitled to certain rights under the Ontario Business Corporations Act (OBCA) and the Canada Business Corporations Act (CBCA). Therefore, it is pretty clear the legal framework around shareholders is quite complicated, and in turn resolving the disputes between them may not always be so straightforward.

Types of disputes

            There are numerous kinds of disputes that can arise between shareholders. The following are some of the most common ones. 

1.     The sale and ownership of the business.

There are times where some shareholders will want to sell the business, while others may not want to. Alternatively, the shareholders can disagree about the specifics of the sale itself; (1) such as whether to do a share sale or an asset sale, and / or (2) whether certain assets should be sold or retained.

2.     Dissolution of the business.

These disputes almost always revolve around how much money or shares the parties are entitled to leave with after the dissolution of the Corporation. 

3.     Breaches of fiduciary duty.

A well-known principle of business law is that directors and officers of a Corporation have fiduciary duty to act in the best interest of the owners of the Corporations (which are the shareholders). Shareholders also have a fiduciary duty to each other and a duty to act in good faith. Therefore, these disputes usually revolve around whether a breach of duty has actually occurred. 

4.     Bankruptcy.

When a Corporation goes bankrupt some of the most pressing issues is the determination of which creditors will get paid first as well as how much each creditor is entitled to. Although there are many laws around the rights of secured and unsecured creditors, the complexity still remains. Similar to disputes in a dissolution of a business, conflicts usually arise as to how many assets the Corporation has, the value of these assets, and which shareholders are entitled to the remaining assets after all relevant parties are paid. 

Using the Shareholder’s Agreement

            One of the most cost effective and time saving methods for resolving shareholder disputes is by drafting certain clauses into the shareholder’s agreement. Although there is usually an upfront cost when making such an agreement, the time incurred in negotiating buyouts between disputing shareholders is usually more expensive in the long run.

            A well drafted shareholder’s agreement will have the following clauses. A dispute resolution clause deals with how disagreements between shareholders will be initially dealt with. The most common recourse is to have the matter initially dealt with through arbitration or mediation. Alternatively, this clause may also include triggers which result in the sale, purchase, redemption, or retraction of shares under certain events. A share valuation clause will deal with how shares are to be valued at the time those shares are to be transferred to a third party, or in the event the corporation is being acquired. A divorce, death, and disability clause deals with those situations where the events just mentioned result in the shareholder being unable to perform their fiduciary duties. Most commonly, this provision will force the sale of the affected shareholder’s shares. A funding clause deals with how the Corporation is to be funded and usually outlines which shareholders are required to provide loans (if needed). This clause usually also contains a dispute mechanism if one or more shareholders fall short of their funding obligations. A non-competition and non-solicitation clause outlines the rules around what a shareholder can and cannot solicit during their departure, and usually for a period of time after their departure. 

Conclusion

            Overall, there are many reasons why shareholders would want clauses in their agreement that deal with internal disputes. As stated above, one of the main reasons is to save money in the long run. If a dispute leads to litigation, the process will be expensive, and may even lead to the dissolution of the Corporation itself. Another reason is in order to avoid distractions from the normal course of business. When shareholders, directors, officers, and third parties get involved during litigation, time is taken away from running the actual company. Therefore, in conclusion, resolving shareholder disputes before they arise is a cost-effective, long term, and prudent decision.