Legal issues commonly arise for shareholders in the closely held corporation context. Under Minnesota statutory law, the Minnesota Business Corporations Act (“MBCA”), Minn. Stat. § 302A.461, defines a closely held corporation as one which does not have more than 35 shareholders. Under Minnesota common law, there are more elements in defining a closely-held corporation. In U.S. Bank N.A. v. Cold Spring Granite Co., the Minnesota Supreme Court identified three characteristics for defining a closely held corporation:
(1) the shareholders are active in the business;
(2) there is no market for a minority interest in the stock; and
(3) dividends are not usually distributed.
Under common law, closely held corporations are often identified by three characteristics: “(1) a small number of shareholders; (2) no ready market for corporate stock; and (3) active shareholder participation in the business.”
In some cases, a Minnesota court may find a corporation larger than 35 shareholders to be a closely held corporation. In a closely held corporation or LLC formed under Minnesota law, shareholders typically owe special fiduciary obligations to one another. The majority owner cannot treat minority owner(s) in a manner that is unfairly prejudicial to the reasonable expectations of the minority owner. Instead, the shareholders must treat each other in an open, honest, and fair manner that is consistent with their reasonable expectations. Determining the identity of the corporation can be pivotal to the outcome of a dispute.
Minority Shareholders in Closely Held Corporations
A minority shareholder is one who owns fewer than half the shares in a corporation. Minnesota legislators have made a point to offer minority shareholders in closely held corporations special protections and remedies. Such protections are designed to prevent mistreatment or oppression of minority shareholders. Minority shareholders in a closely held corporation have little power to control how the business is run, but a minority interest in a closely held business is unlikely to find many willing buyers, “effectively hold[ing] the minority shareholder[‘s] investment hostage” to the will of the majority owner(s). This is often referred to as minority shareholder oppression.
Minnesota legislators have attempted to limit the abuse of shareholder power and authority by imposing on shareholders of a closely held corporation “the highest standards of integrity and good faith in their dealings with each other.” Often referred to as fiduciary duties, or duties of good faith and fair dealing, such duties embrace “both substantive obligations that focus on outcomes of shareholder conduct and procedural obligations that focus on process.”
The statutory language limiting “unfairly prejudicial” conduct towards minority shareholders is often the substance of litigation and in such situations, the MBCA grants Minnesota courts the explicit power to provide oppressed shareholders with broad equitable relief. In addition to this authority, the MBCA allows courts to mandate court-ordered buyouts in the case of closely held corporations.
Minnesota Statutes do not specifically define the term “unfairly prejudicial.” However, the Minnesota Court of Appeals in Berreman held that unfairly prejudicial conduct “is conduct that frustrates the reasonable expectations of shareholders in their capacity as shareholders . . . of a corporation that is not publicly held . . . .” The court noted that the term should be liberally construed as many courts impose a looser interpretation of the term including “actions of majority shareholders [that] have frustrated a minority shareholder’s reasonable expectations.”
Courts will consider written agreements. which are “presumed to reflect the parties’ reasonable expectations concerning matters dealt with in the agreements.” Often, however, a shareholder’s expectations arise out of understandings outside of or additional to specific agreements, requiring courts to look towards other touchstones to identify the shareholder’s reasonable expectations. In the absence of a specific agreement, one suggestion is for courts to determine “reasonable expectations” in reference to “‘the understandings that would have been reached by objectivity reasonable close corporation shareholders if, at the inception of the venture, they had bargained over how their investment should be protected.'”
Ultimately, understanding one’s rights and obligations as a minority shareholder can be tricky. If you have questions, or believe your rights are being infringed, contact a Minnesota shareholder attorney to discuss your legal remedies.