Beginning in 1988, appellate courts in Texas developed a legal doctrine known as “minority shareholder oppression” to deal with situations in which closely-held corporations treated minority shareholders somehow inequitably. Though the Texas Supreme Court never endorsed the doctrine, over the next few decades lower courts began to rely on it extensively.
In 2014, however, in its decision in Ritche v. Rupe, the Texas Supreme Court rejected the shareholder oppression doctrine on the grounds that it was redundant: the situations in which it was invoked were already covered either by traditional causes of action.
Ritche v. Rupe has caused considerable confusion, and its long-term consequences are still uncertain. It leaves Texas one of the only jurisdictions in the United States without something resembling a doctrine of minority shareholder oppression. To understand this uncertainty, it’s helpful to look at the now-defunct doctrine, considering why the Court believed the doctrine was unnecessary and what it believed could replace it.
What was Minority Shareholder Oppression?
Because stock in closely-held corporations is generally illiquid, minority shareholders cannot easily dispose of their investment, and so are at the mercy of the majority owner(s). Majority owners, even if they control only 51% of stock in the corporation, can usually exercise almost complete control over the operations of the business.
Often they will take actions unfavorable to the interests of the minority shareholders. Some such actions, while undesirable from the perspective of the minority shareholders, are usually legitimate, for example:
- Refusing to do business with particular shareholders
- When doing business with particular shareholders, acting in the best interest of the corporation, regardless of the interest of the particular shareholders
- Terminating the employment of particular shareholders, so long as the termination complies with relevant employment law and any employment agreement
Some actions, however, seem to go beyond the pale. This is where minority shareholder oppression comes in, or used to. Section 11.404(a)(1)(C) of the Texas Business Organizations Code permits a court, at the request of an individual shareholder, to appoint a receiver if the shareholder can show that “the actions of the governing persons of the entity are illegal, oppressive or fraudulent.” the word “oppressive” in this statute is not clearly defined, and Texas appeals courts interpreted it to cover a variety of potential actions a corporation might take, for example:
- Buying back stock from particular shareholders at inequitable prices
- Withholding information about the operations of the business from particular shareholders
- Issuing dividends to all but particular shareholders, or refusing to issue dividends entirely
- Holding a vote from which particular shareholders are excluded
Action on the basis of minority shareholder oppression proved helpful for courts’ attempts to protect the interests of minority shareholders. The courts did not, however, clearly define the duties which it would be oppressive to disregard, nor how much oppressive conduct was enough to trigger the receivership statute. This uncertainty contributed to the Texas Supreme Court’s decision to strike down the minority shareholder oppression claim.
Remedies available post-Ritche
The Court’s decision in Ritche v. Rupe was also based in its belief that more traditional, and more clearly defined, causes of action could do much, if not all, of the work the shareholder oppression doctrine had done. Such claims already existed for many of the most common situations in which “minority shareholder oppression” had been invoked. For example:
- If a corporation refuse to buy back stock from particular shareholders at any but an inequitable price, or otherwise attempted to negate the value of particular shareholders’ stock, an individual shareholder could bring a tort of stock conversion. A successful claim of this kind would result in the transfer of ownership to the corporation being ratified, but with the corporation paying damages equal to the actual value of the stock, or the difference between that value and the amount paid.
- If a corporation withheld information about its operations from particular shareholders, an individual shareholder could assert his right to inspection. Texas law expressly protects a shareholder’s right to examine corporate records.
- If a corporation issued dividends to all but particular shareholders, or refused to issue dividends entirely, an individual shareholder could bring a dividend claim, on the grounds that to own stock in a corporation is to have a right to a share of its profits. With closely-held corporations such claims can be complex, since closely-held corporations do not generally issue dividends, instead paying its shareholders each a salary. But if a shareholder is not employed by the corporation, and dividends are the only way for him to receive his share of the profits, the corporation cannot refuse to issue them.
- If a corporation held a vote from which particular shareholders were excluded, WHAT THEN?
The court also drew particular attention to derivative claims, a long-standing form of claim which the shareholder oppression doctrine had rendered almost irrelevant. In a derivative claim, the individual shareholder does not have a claim against the corporation in which he owns stock.
Rather, the corporation has a claim against one or more of its agents, for example, its directors, officers, or managers, but is for some reason unable to pursue that claim, usually because the agents in question presently control the corporation itself. In certain such cases the individual shareholder can take action on behalf of the corporation, against its agents.
In derivative claims any damages awarded will be awarded to the corporation, rather than to the individual shareholder. The claim works in this way for two reasons, one theoretical, one practical.
Theoretically, it must work this way because the corporation represents the interest of all the shareholders collectively, and it is this collective interest which the agent has damaged when, for example, he misappropriates company funds for himself (even if the agent is himself a shareholder).
Practically, it must work this way so that no one shareholder has a greater right to the damages than any other, and so that the derivative claim does not prevent the paying of debts owed to the corporation’s creditors.