Private Corporations Oppressive Conduct

Private Corporations – Oppressive Conduct by Majority Shareholders

Because of the lack of a ready market for their shares, minority shareholders in a private corporation are especially vulnerable to tactics by majority shareholders designed to “squeeze” or “freeze” them out of the corporation. These tactics include withholding dividends, excluding minority shareholders from company employment, and paying excessive compensation to the majority shareholders.

In order to protect minority shareholders, many states have passed statutes permitting judicial dissolution of a corporation in which the majority shareholders are attempting to freeze out the minority shareholders. For example, Iowa Code § 490.1430(2)(b) allows the district court to dissolve a corporation in a proceeding by a shareholder if it is established that “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.” This provision is based on § 14.30(2)(ii) of the Model Business Corporation Act. It is designed to protect minority shareholders in a private corporation from being “squeezed out” or “freezed out” of the corporation by the majority shareholders.

1. Majority Shareholder Responsibilities

In general, oppression of minority shareholders occurs when the majority shareholders do not adequately perform one of their required functions. Stated differently, majority shareholders have the right to control affairs of corporation, if done so lawfully and equitably, and not to the detriment of minority shareholders. Cookies Food Products, Inc. v. Lakes Warehouse Distributing, Inc., 430 N.W.2d 447(Iowa 1988); Berger v. Amana Soc., 95 N.W.2d 909 (Iowa 1959) (a radical and fundamental change in objects, purposes, or business of a corporation interfering with contract rights of each stockholder cannot be made without consent of all stockholders, except by virtue of some act of legislation which may be read into contract of incorporation).

Specifically, stockholders have the right to examine corporate books showing the financial status of corporation. Ontjes v. Harrer, 227 N.W. 101 (Iowa 1929). Iowa Code § 490.705 requires a corporation to notify shareholders entitled to vote of the date, time, and place of each annual and special shareholders’ meeting no fewer than ten nor more than sixty days before the meeting date. In addition, notice of a special meeting must include a description of the purpose or purposes for which the meeting is called. Iowa Code § 490.1202 requires shareholder approval of dispositions if the disposition would leave the corporation without a significant continuing business activity. If a corporation retains a business activity that represented at least twenty-five percent of total assets at the end of the most recently completed fiscal year, and twenty-five percent of either income from continuing operations before taxes or revenues from continuing operations for that fiscal year, the corporation will conclusively be deemed to have retained a significant continuing business activity.

2. What Amounts to Oppressive Conduct?

In the recent Iowa case of Baur v. Baur Farms, Inc., the Iowa Supreme Court adopted a reasonableness standard for the adjudication of minority shareholder claims of oppression in Iowa under the Iowa Business Corporations Act. 832 N.W.2d 663 (Iowa 2013).  In Baur, the plaintiff minority shareholder brought an action against his family farm corporation; the plaintiff requested that the Court order the dissolution of the corporation or that his shares of stock be purchased from him for fair market value. Id. The Court emphasized that “[m]anagement-controlling directors and majority shareholders of [closely-held] corporations have long owed a fiduciary duty to the company and its shareholders” and “every shareholder may reasonably expect to share proportionally in a corporation’s gains.” Id. at 673-74. The Supreme Court specifically stated:

“The determination of whether the conduct of controlling directors and majority shareholders is oppressive under section 490.1430(2)(b ) and supports a minority shareholder’s action for dissolution of a corporation must focus on whether the reasonable expectations of the minority shareholder have been frustrated under the circumstances. We need not catalogue here all the categories of conduct and circumstances that will constitute oppression frustrating the reasonable expectations of minority shareholders’ interests. We hold that majority shareholders act oppressively when, having the corporate financial resources to do so, they fail to satisfy the reasonable expectations of a minority shareholder by paying no return on shareholder equity while declining the minority shareholder’s repeated offers to sell shares for fair value.” Id.

In Maschmeier v. Southside Press, Ltd., the Iowa Court referred to the North Dakota Supreme Court definition of oppression finding, “[t]he alleged oppressive conduct by those in control of a close corporation must be analyzed in terms of ‘fiduciary duties’ owed by majority shareholders to the minority shareholders and ‘reasonable expectations’ held by minority shareholders in committing capital and labor to the particular enterprise, in light of the predicament in which minority shareholders in a close corporation can be placed by a ‘freeze-out’ situation.” 435 N.W.2d 377, 380 (Iowa Ct. App. 1988) (citing Balvik v. Sylvester, 411 N.W.2d 383, 386-87 (N.D. 1987)). The Iowa courts have also looked to the Oregon definition of oppressive conduct: “burdensome, harsh and wrongful conduct; a lack of probity and fair dealing with the affairs of a company to the prejudice of some of its members, or a visual departure from the standards of fair dealing, and a violation of fair play on which every shareholder who entrusts his money to a company is entitled to rely.” Id.(quoting Baker v. Comm. Body Builders, 507 P.2d 387, 393 (Or. 1973)). This definition includes consideration of the reasonable expectations of minority shareholders. Jorgensen v. Water Works, Inc., 582 N.W.2d 98, 107 (Wis. Ct. App. 1998)); See In re Kemp & Beatley, Inc., 473 N.E.2d 1173, 1179 (N.Y.S. 1984) (“Oppression should be deemed to arise only when the majority conduct substantially defeats expectations that, objectively viewed, were both reasonable under the circumstances and were central to the [plaintiff’s] decision to join the venture.&#