Okay, let’s say a corporation is owned 75% by a majority shareholder and 25% by minority shareholders. The corporation started as a small business. The majority shareholder’s goal was to start a moderately successful business and play a part in their community. The minority shareholders are friends of the majority shareholder, and they made a small seed investment as a favor to their friend and the hope of making a decent ROI on their small investment.
Now, 5-10 years later this business is booming and is now worth multiples of what any of the owners ever imagined. The minority shareholders now have dollar signs in their eyes and want to realize their profit, either through dividends or a sale of their shares to the majority shareholder. Their investment is now valued somewhere like 250 times their initial investment. The minority wants to maximize shareholder value, and realize some of that.
However, the majority shareholder wants to keep growing the business, share profits with employees, and use the profits for charity or to help the community in line with her original goals. Rather than dollar signs in her eyes, she has a warm glow in her heart. She has no intention of maximizing shareholder value, and would prefer to run the business at a large scale like a non-profit.
In short, are the minority shareholders fucked and have no ability to realize a return on their illiquid investment because the majority shareholder/CEO controls both the free cash flow and their right to sell because she would be the buyer? Do they have any recourse her? Does the majority shareholder have a legal obligation to run a for profit business in a way that maximizes value, or is that just what finance theorists say should be done?
In reality, I’m partially basing this thought experiment off a real lawsuit against the New Glarus Brewing Co. which famously makes spotted cow and only sells in Wisconsin.
Obligatory not a lawyer, but who is on here anyway except for like a T30Graduate?
My first inclination is that majority shareholders owe non-controlling shareholders a fiduciary duty to not self-deal or actively promote their interests over the non-controlling shareholders (compensation, for example). As it pertains to operating strategy, there are often differences of opinion, and the controlling shareholder is under no obligation to capitulate to the non-controlling shareholders, even when it seems more charitable. Majority shareholders are also largely able to sell under the circumstances that they want, which is why we have drag-along and tag-along provisions in many operating agreements. As I understand it, you could go after someone for self-dealing or withholding vital information from you, but not for running Toys For Tots or not wanting to sell. That’s the importance of picking the right business partners.
If I’m wrong on any of this, please tell me. I’d love to hear all about it.
I too am not a lawyer, but based on the passing of blame involved in this story, there's a lot more here going on that they're trying hard to hide. All sides.
To the hypothetical: There has to be some kind of exit available? Let alone consideration? otherwise why would they have entered into the business deal in the first place? Or am I being too optimistic in face of the ongoing devolution of intelligence of our society? If they came back and said there wasn't, I'm sure any lawyer would immediately jump at the notion that their "investment" was really just a gift and therefore they have no say. If it is an actual contract, even on a bar napkin, they should be entitled to their portion of the profits to do with however they please. Again, I'm not a lawyer though. Just took the requisite business law class in undergrad.
Also, per the PPP loans piece: Deb can override the minority investors there and decline to participate in the program. However, if they can clap back and point out that her decision was made unilaterally without council (counsel?) and ultimately undercut the value of their investments they'd have something to stand on.
The complaints in the suit are as follows:
- Allowed Deb Carey to exercise autocratic control of the Brewery through her position as the sole director, CEO, and majority voting shareholder. Deb Carey has operated the Brewery for her own self interest and engaged in self dealing, including using Brewery resources to establish a distillery that was designed to be owned by the Brewery, but instead was ultimately owned by Deb and Dan Carey, and using Brewery resources to set up a nonprofit family foundation with Deb Carey’s intent that the Brewery help facilitate the Family Foundation obtaining shares from other shareholders and continuing to consolidate control of the Brewery with Deb Carey, her family, and her Family Foundation.
• Imposed a shareholder agreement on Plaintiffs, but failed to disclose until June of 2021 that Deb Carey herself was not bound by the shareholder agreement, including the stock transfer restrictions therein.
• Allowed Deb Carey’s family to acquire shares in 2020 without being required to sign the Shareholder Agreement.
• Allowed Brewery’s Employee Stock Ownership Plan (“ESOP”) to acquire shares without signing Shareholder Agreement, and without notifying the parties to the Shareholder Agreement or obtaining their consent.
• Repeatedly failed to follow the bylaws regarding issues such as notice of shareholder meetings, agendas, and voting on issues, and refusing to allow minority shareholders to vote on corporate issues.
• Refused to disclose financial information and valuation information to the minority shareholders, even after shareholder requests.
• Refused to disclose outside offers Deb Carey has received for the Brewery and her Brewery stock.
• Made implied threats that Brewery has no obligation to pay tax distributions, suggesting that shareholders could be stuck paying taxes on money they don’t receive.
• Pushed the minority shareholders to sell their voting shares to the Brewery at values set by the Defendants, without Defendants providing full information to such shareholders regarding the fair value of the shares.
• Compiled $100 million in retained earnings and $40 million in cash, and repeatedly refused to distribute any of those profits and reserves beyond the tax distributions that are specified in the Shareholder Agreement.
• Repeatedly told the minority shareholders that they will not receive any distribution of profits beyond tax distributions, that Deb Carey has no intention of selling the Brewery to permit the minority shareholders to receive the benefits of such a sale, and that no one outside the Brewery would ever be interested in buying their minority shares.
• Told the minority shareholders that it is the Brewery’s intent to donate 5-10% of its profits to Deb Carey’s nonprofit Family Foundation
• Allowed Deb Carey to unilaterally change the Brewery bylaws in 2020, without notice or a minority shareholder vote, to establish a new mission of the Brewery to operate for the benefit of employees and the public, as opposed to any benefit for the shareholders, and with an aim that the Brewery would never be sold to anyone outside the local community in a manner that would allow the minority shareholders to benefit financially.
• Proposed a new shareholder agreement to the minority shareholders in 2021, misrepresented the effect of the new shareholder agreement and the purposes thereof, and pushed the minority shareholders to sign the new agreement which would impose drastic caps on the price that shareholders could receive for their shares even if the shareholders received a higher third-party offer; would remove the corporation’s obligation to act in good faith to make distributions to cover the minority shareholders’ tax obligations on the S-corporation’s annual net income; and would permit shares to be gifted exclusively to Deb Carey’s family foundation and to no other nonprofit charity or non-family member.
• Threatened the minority shareholders that if they did not vote in favor of adopting the new shareholder agreement, that Deb Carey and her family would have no obligation to the minority shareholders, and that she would instruct her daughter that upon Deb Carey’s death, her daughter was to sell Deb Carey’s shares to the highest third-party bidder to the exclusion of the minority shareholders.”
There’s a lot of really thorny stuff in here that could get someone in a lot of hot water. Valuing ESOP shares at approximately 10% of the valuation you were offered for your own stake? Using company funds to set up Sugar River Brewery that is owned exclusively by you, rather than everybody in the cap table? Not binding the ESOP or your daughter to the shareholder agreement when you were clearly obligated to? Failure to pay sufficient dividends to S-corporation shareholders for them to meet their tax obligations while you stockpile $100MM, arguably to coerce them into selling at a discount to you?
Didn’t see anything about PPP. Would be interested how these journalists learned that. This is a hairy situation, and I could even see the ESOP guys having an action against this company over valuation issues.
This is why activist investors exist
OP is talking about a private company... not a common target for activists.
It depends on what agreemented they made when starting the business (documented), what the Articles of Association state or if there is any Board Resolution which may be used to enforce one's side position.
If any of those do not enforce in any way the position of the minority shareholders implying that there was at any moment somehow such idea accepted or approved by the majority then there is nothing which legally can be done because laws are not concerned about business strategy and ROI, it only presents procedures on how to do properly business in order to avoid fraud or other things. It cannot interefere there were business perspectives differ as long as they are perfectly legal
Shortly put, that's the faith of being a minority shareholder. You really could have protected yourself by either having some agreements on your side to improve your position even as a minority shareholder or by having some important assets which are fundamental for the business so you could had leverage when negotiating.
The quick version of this is that generally no, the majority of voting shareholders do not have to do anything they don't want to do as long as it's within the bylaws of the company or any other agreements made among shareholders. This is why the 'super majority' voting classes of stock that tech companies had when they went public were controversial - because in that case the minority owners maintained control. There's no 'legal' obligation for majority shareholders to maximize the dollar value of a company - especially in private companies. For a publicly traded one, well, you know what will happen - lawsuits, damages, activist investors... you name it. Bad governance won't last long when publicly traded. I'm setting aside all the allegations here - obviously if there's flagrant fraud, misrepresentation, flaunting of bylaws or written agreements that changes things considerably if proven to be true.
This is the risk you take when you invest in a privately held company, or really any company, as a minority investor. It doesn't matter how many handshake agreements, verbal understandings or good feelings you have - if the majority wants to torpedo the ship, they can do it. I've seen it first hand - small, privately held companies suddenly become worth life changing sums of money... it becomes contentious fast. Majority wants to sell it, they can. They can also turn down incredible offers - because they don't view it as the right path. That's the deal when you invest as the minority - don't like it? Tough. Shark tank may be cliché nowadays - but it hits home when you see things like this, maintain majority as long as you can at all costs if you want control.
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