Unfair prejudice and insolvent companies

3 August, 2012

A typical claim in a shareholders dispute is when a majority shareholder in control of a company prejudices a minority shareholder by improperly extracting value out of a company.  This can be done in different ways, for example by payment of excessive salary or by sale of company assets to connected parties at a low value.  Sometimes this can leave the company insolvent.  Given that the principal remedy for unfair prejudice is an order requiring the majority shareholder to buy out the minority shareholder it appears to leave the minority shareholder in a no-win situation as the shares are effectively worthless.  However, the court will step in to do justice in such a situation and this has been confirmed in the recent Court of Appeal case of Maidment -v- Attwood and others. 

In this case Mr Maidment was complaining about both excessive salary payments and the sale or use at an undervalue of company assets.  At the time of complaining the company was insolvent.  The original Judge dismissed Mr Maidment’s petition and one consideration in this respect had been that it was not clear that the matters complained lead to unfair prejudice in view of the insolvency of the company.  Would the company have been insolvent anyway?  If so then what real prejudice had been suffered?

What normally happens in a case where one party is found to have improperly taken value out of a company is that this value is notionally added back into the company when calculating the value of the shares.  This means that the value placed on the shares in a buyback is a fair one, reflecting the “true” value of the company.   However, this exercise is normally carried after a decision has been reached on whether there has been unfair prejudice.

The Court of Appeal made it clear that the court should not be quick to leap to conclusions in this respect and if a case for unfair prejudice could be made out then there could be a further hearing to decide whether or not this was actually the case in light of how the numbers ultimately added up.

In other words, even if it is not immediately clear that actual prejudice has been suffered in light of the insolvency of a company this is something that the court should be willing to test.

So all is not lost if a company is insolvent.  The minority shareholder must argue that value should be added back in to the company to reflect the wrongdoing of the other shareholder and show that if this is done the company would not be insolvent and the shares would have a real value.  To ensure that the court takes the matter to the next stage, figures should be put forward as to the value which should be added back and these should be supported by evidence where possible.