Shareholder Dispute

What is a Shareholder Dispute?

Shareholder disputes are among the common issues encountered in the business world. These disputes typically arise from disagreements company strategy, investment decisions, financing preferences, share valuation, and profit distribution. They often occur as conflicts between shareholders holding management rights or a majority stake in the company and other shareholders. Such disputes are frequently triggered by financial losses incurred by parties, breaches of agreements, or violations of duties.

These disputes can be resolved through national courts or international arbitration centers. According to the "ICC Dispute Resolution 2023 Statistics" published by the International Chamber of Commerce (ICC) in 2023, shareholder disputes and share purchase/transfer disputes accounted for 8.5% of cases referred to international arbitration.

Types of Shareholder Disputes

➥ Share Valuation

The valuation of company shares is a fundamental factor that can lead to potential shareholder disputes. Conditions and commitments related to company performance, often encountered in share purchase agreements, incidents arising after the company’s transfer, and disagreements during the dissolution of a partnership can result in disputes regarding share valuation. Some real-life examples include:

Incorrect determination of profitability figures used in valuation
Discovery of significant compensation lawsuit claims against the company post-acquisition
Failure to record provisions for warranties in accounting records after the acquisition
Incorrect estimation of reserve quantities in a mining site, among others

These examples can be expanded further. The common characteristic of these scenarios is that such issues can often be clarified and disputes avoided through due diligence conducted by a competent party.

➥ Dividend Distribution

Disputes over dividend distribution are among the common issues faced by a company's shareholders. Various disagreements may arise shareholders regarding the allocation of dividends. These disputes typically revolve around company performance, investment returns, growth strategies, and other strategic decisions. While some shareholders may expect higher dividends, others may advocate for retaining profits within the company to support growth and maintain a competitive edge. These differing viewpoints can strain relationships, lead to potential power struggles within the company, and result in disputes.

➥Diverging Opinions on Management Strategies

This dispute is often encountered in small and medium-sized enterprises where decision-making frameworks lack clarity. Disagreements on the company’s management, restructuring, sale, or closure can lead to conflicts among shareholders. Significant matters such as management strategies that impact the company's overall performance, budget expenditures, or strategic shifts in operations can cause differences of opinion and, consequently, disputes among shareholders. Such situations affect internal relationships and, if unresolved, can threaten the company's sustainability.

➥ Capital Increases and Financing

Another potential source of shareholder disputes arises from decisions regarding capital increases. Cases often emerge where shareholders who do not participate in or cannot participate in capital increases feel disadvantaged, leading to numerous legal actions. Such disputes are frequently initiated by minority shareholders seeking to protect their rights.

➥ Breach of Fiduciary Duty

Trust between shareholders with management authority or majority control and other shareholders is a fundamental to ensuring a company's healthy operation. However, managers' breaches of fiduciary duty often result in disagreements and conflicts among shareholders. One common issue is the suspicion of misleading financial statements. Such actions aim to obscure the company’s financial position, misleading shareholders and affecting the value of their shares. Similarly, misusing company resources or breaches of non-compete obligations can also trigger shareholder disputes.

How to Prevent Shareholder Disputes?

➥ Develop a Comprehensive and Clear Shareholder Agreement

The most effective way to avoid disputes is by creating a strong shareholder agreement or articles of association that aim to cover all potential scenarios. Including the following topics ensures that all shareholders clearly and thoroughly understand their rights, reducing the likelihood of disputes.

➥ Shareholder Authorities

A shareholder agreement defines any voting rights granted to shareholders and is used to prevent deadlocks. Shareholders have the right to request the allocation of shares based on their contributions to the business, granting additional rights to those with more shares or specific types of shares. Shareholders receive dividends and voting rights proportional to their shareholding. Addressing matters such as requiring majority approval for particular decisions or unanimous votes for removing a director from the agreement can reduce the risk of future disputes.

➥ Share Transfers

The sale of a group of shares to a third party, against the wishes of existing shareholders, poses a risk of disputes. Including the right of first refusal (offering shares to existing shareholders first) and compulsory sale clauses in shareholder agreements can effectively prevent disputes. Additionally, predetermining the share valuation method in these clauses is crucial.

➥ Non-Compete Provisions

Although relevant laws generally govern shareholder obligations to each other, shareholder agreements may include non-compete clauses. Such provisions typically stipulate that shareholders will not compete with the company during their shareholding period and for a specified time after transferring their shares.

➥ Deadlock Provisions

In cases where shareholder decisions reach a deadlock, deadlock provisions, including buyout clauses that allow the sale of shares, outline how to address the situation to prevent the company from suffering due to disagreements.

➥ Dispute Resolution

One of the most critical aspects of the agreement is including a clause outlining the dispute resolution method, such as mediation, arbitration, or litigation. Mediation offers faster and less costly advantages than litigation while providing an opportunity to rebuild relationships between the parties.

➥ Professional Assistance

Working with an experienced commercial lawyer, financial advisor, or consultant specializing in corporate governance allows the development of appropriate strategies. It equips the company with the ability to anticipate potential disputes among shareholders.

➥ Maintain Comprehensive Records to Resolve Disputes Quickly

In addition to a robust shareholder agreement, keeping and archiving detailed records of critical contracts, bylaws, shareholder meeting minutes, and other essential documents provides vital information to prevent disputes and expedite their resolution.

➥ Enhance Risk Management

Identifying risks within the company and in the market where it operates helps prevent potential disputes before they arise. Risk management policies should be established, and shareholders and other company employees should be educated on the necessary actions to mitigate these risks.