Artha Rin Practitioners In Dhaka

“A proper balance of the rights of majority and minority shareholders is essential for smooth functioning of the company”- Explain and Illustrate

INTRODUCTION

A company is owned by its shareholders. Ever shareholder has his/her own right in the company. A company cannot function properly without its shareholders. Every shareholder has to perform to run the company smoothly. For that reason knowing the rights of a shareholder in the company and proper balancing the majority and minority shareholders rights is essential for smooth functioning of the company. The shareholders appoint the directors who then appoint the management. The directors are the “soul” and conscience of the company. They are liable for its actions. Shareholders are not liable for company actions. Management may or may not be liable for company actions. Often these roles are assumed by the same individuals but as a company grows and becomes larger, this may not be the case. When a company is created, its founding shareholders determine how a company will be owned and managed. Companies must comply with the law. Companies are incorporated in a particular jurisdiction, e.g. State, Province or Country and must adhere to the applicable legislation, e.g. the Canada Business Corporations Act, or the B.C. Corporations Act. When a company is formed, it files a Memorandum and Articles of Incorporation (depending on jurisdiction) which are public documents filed with the Registrar of Companies. A shareholders agreement is confidential and its contents need not be filed or made public.

In practice, the strict rights and entitlements that come with the ownership of shares in a Limited Company are seldom fully exploited or utilized by shareholders. This is largely because shareholders are generally unaware of the rights that they have simply by virtue of being a shareholder. Similarly, most Company Directors would be alarmed at the strict obligations that they have as regards the Company’s shareholders, which include maintaining a Register of Directors/Secretaries, a Register of Shareholders, and a Register of Director’s Interest in Shares, a Register of Charges and Minute Books. These must be kept open to inspection by shareholders.

SHAREHOLDERS’ RIGHT

Companies generally raise capital for their business ventures either by debt or equity. Capital raised by way of equity is usually raised by issued shares (sometimes called “stock”) or warrants.

A share is an item of property, and can be sold or transferred. Holding a share makes the holder a member of the company, and entitles them to enforce the provisions of the company’s constitution against the company and against other members. Shares also normally have a nominal or par value, which is the limit of the shareholder’s liability to contribute to the debts of the company on an insolvent liquidation.

Shares usually confer a number of rights on the holder. These will normally include:

  • voting rights
  • rights to dividends[1] declared by the company
  • rights to any return of capital either upon redemption of the share, or upon the liquidation of the company
  • in some countries, shareholders have preemption rights, whereby they have a preferential right to participate in future share issues by the company

Many companies have different classes of shares, offering different rights to the shareholders. For example, a company might issue both ordinary shares and preference shares, with the two types having different voting and/or economic rights. For example, a company might provide that preference shareholders shall each receive a cumulative preferred dividend of a certain amount per annum, but the ordinary shareholders shall receive everything else.

The total number of issued shares in a company is said to represent its capital. Many jurisdictions regulate the minimum amount of capital which a company may have, although some countries only prescribe minimum amounts of capital for companies engaging in certain types of business e.g. banking, insurance etc.

Similarly, most jurisdictions regulate the maintenance of capital, and prevent companies returning funds to shareholders by way of distribution when this might leave the company financially exposed. In some jurisdictions this extends to prohibiting a company from providing financial assistance for the purchase of its own shares.

BANGLADESH OVERVIEW

  • Company law

After the emergence of Bangladesh a Company Law Reforms Committee was set up in 1979, comprising leading government servants, chartered accountants and lawyers. The committee made many recommendations for changes in company law but not until 1994 was a new comprehensive act passed by Jatiya Sangsad[2]. The Securities and Exchange Commission Act of 1993 created the Securities and Exchange Commission which oversees the issue of capital. Its primary purpose is to protect the investing public in corporate investments. It has been given extensive powers to make rules and regulations. Its responsibilities include those of the Controller of Capital Issues under the Acts of 1947 and 1969.

The essential elements of company law are the concepts of the company as a separate legal entity, irrespective of the closeness of the shareholders, investor protection, and management of a company and the modes of winding up, and accounts and securities trading.

  • Ensuring the Basis for an Effective Corporate Governance Framework

According to a 2007 Organization for Economic Cooperation and Development (OECD)[3] overview of corporate governance frameworks in Asian countries, Bangladeshi legal framework is governed by the Companies Act[4]. The Bangladesh Enterprise Institute (BEI) Corporate Governance guidelines and the 1987 SEC (Securities and Exchange Commission) order supplement the existing framework. The Siddiqui[5] paper notes that the Companies Act 1994 (revised after 81 years from Companies Act 1913, when Bangladesh was part of British-India) defines the structure of the firms, including the composition of the board of directors, appointment of the CEO, appointment and remuneration of the auditors etc. Additionally, the financial sector is regulated by the Banking Companies Act, and the Insurance Act. The author notes that poor implementation is one of the main problems with the Bangladeshi legal environment.

As pointed out earlier, the capital market in Bangladesh is regulated by the SEC. Established in 1993, the SEC’s objective is to protect the investors, promote and develop capital markets, and regulate the securities market. In 1999, the Asian Development Bank (ADB)[6] initiated a US $ 1.07 million project to strengthen the regulatory capacity of SEC. Other regulatory agencies include the Registrar of Joint Stock Companies and Firms (RSJC), the Bangladesh Bank, the Dhaka Stock Exchange (DSE), the Chittagong Stock Exchange (CSE), and the Institute of Chartered Accountants of Bangladesh (ICAB). The Bangladesh Enterprise Institute (BEI) report points out many weaknesses in the SEC and RSJC as regulators, including insufficient staff and expertise.

  • The Rights of Shareholders and Key Ownership Function

Rights of shareholders are included in the Companies Act 1994. The Act grants shareholders certain rights such as attending meetings, appointing and removing directors, obtaining financial information, and approving the annual balance sheet. Shareholders are also given mechanisms to enforce their rights. In addition, as a protection for shareholders, the directors and management of a company are subject to such penalties as fines and imprisonment for not filing periodic returns with the Registrar of Joint Stock Companies and Firms (RJSC). Also, shareholders decide on dividends but they may not exceed the amount recommended by the board. Per the 2003 Bangladesh Enterprise Institute (BEI)[7] report, shareholders are not involved in the daily management of the company. There are a number of factors that weaken shareholders rights including insufficient board disclosure, board size and makeup, and a lack of independent directors. Corporate governance in Securities and Exchange Commission (SOE) is poor because there is little oversight by the government, and the majority shareholders rarely play a role in the financial and managerial oversight of an SOE.

The Code of Corporate Governance includes mandates for the protection of shareholders’ interests, including provisions for transparency and accountability for the protection of minority shareholders. The Code recommends that companies empower their shareholders beyond the legal and regulatory requirements. Regulators are required to uphold the rights of shareholders. The Code also recommends that companies ensure that shareholders are informed of their rights, particularly voting rights, so that they may fully assert their power.

  • The Equitable Treatment of Shareholders

According to the 2003 Bangladesh Enterprise Institute (BEI)[8] report, the Companies Act of 1994 provides adequate protection for minority shareholders, especially Section 233. However, most shareholders do not know about Section 233 and other minority shareholders rights. The assessment recommends increased minority shareholder participation. There are a number of provisions for the protection of minority shareholders. Minority shareholders with at least 10 percent of shares may take court action against the company. However, exercising minority shareholder rights may be costly, and proving a director is at fault is difficult. The SEC protects minority shareholders, sometimes overzealously, at the expense of the majority shareholders in listed companies. The Code of Corporate Governance expands upon the existing legislation and suggests that minority shareholders be able to elect a director. However, there is insufficient information publicly available addressing Bangladesh’s compliance with this principle.

  • The Role of Stakeholders in Corporate Governance

The 2003 BEI report notes that creditors are the primary stakeholders in Bangladesh because commercial financing is principally obtained through borrowing from banks and financial institutions, as opposed to equity or the capital market. The assessment recommends that stakeholders’ awareness of corporate governance issues be fostered in order to strengthen their role. The report also identified the common concern of the stakeholder groups regarding the truth and fairness of audited financial statements. However, there is insufficient information publicly available addressing Bangladesh’s compliance with this principle.

SECTION: 994 OF THE COMPANIES ACT 2006

If a dispute arises between shareholders, after considering the small print of the Company’s Articles of Association, probably the next most important legal principle for any shareholder to understand is Section 994 of the Companies Act 2006[9]. The most relevant part of the provision states as follows:-

‘A member of a company may apply to the court… for an order… on the ground that the company’s affairs are being or have been conducted in a manner that is unfairly prejudicial to the interests of its members generally or of some part of its members…’[10]

The section seeks to do is protect minority shareholders (those with a 50% shareholding or less) in circumstances where the majority shareholders seek to act in a way which is ‘unfairly prejudicial’ to their interests. So the provision protects minority shareholders from ‘unfairly prejudicial’ conduct.

It would be impossible to accurately reduce to only a few words the many legal authorities on precisely what conduct is classed as ‘unfairly prejudicial’, but in very general terms it means that minority shareholders have a right to complain to the court if the majority shareholder(s) run the Company in a manner that damages their position and the worth of their shareholding, often done deliberately and often by misapplying or misusing Company assets. But the complaint cannot be vague or trivial (e.g. ‘they’re managing the business badly’) and must stand up to some objective analysis. Examples of ‘unfairly prejudicial’ conduct might be using company assets or money for the personal benefit of a shareholder or the majority shareholder(s) paying themselves far more than people in their position could objectively justify.

COURT ORDERS PROTECTING SHAREHOLDERS

Any complaint alleging a minority shareholder has been ‘unfairly prejudiced’ is a law suit brought against the other shareholders in their personal capacity. Where ‘unfair prejudice’ can be established, the Companies Act 2006 provides that the court ‘may make such order as it thinks fit’. Although this means the court has very wide powers to make almost any order, by far the most common order made by the court is an order that one or more of the shareholders should purchase the shareholding of the other shareholder(s). Normally, the court will order the majority shareholders must purchase the shareholding of the minority shareholder(s) at a ‘fair value’.[11]

DERIVATIVE SUITS IN THE UNITED STATES

In the United States, corporate law is largely based upon state law. Although the laws of each state differ, the laws of the states such as Delaware, New York, and California, where corporations often incorporate, institute a number of barriers to derivative suits.

Under the Model Business Corporation Act (MBCA), the procedure of a derivative suit is as follows. There has been harm to the corporation but the board of directors has not taken a measure against the wrongdoers. First, eligible shareholders must file a demand on the board.[12] The board may reject, accept, or not act upon the demand. If after 90 days the demand has been rejected or has not been acted upon, shareholders may file suit.[13] If the board accepts the demand, the corporation itself will file the suit. If rejected, or not acted upon, the shareholder must still meet additional pleading requirements.[14] On the requirements being met by the shareholder, the board may appoint a “special litigation committee” which may move to dismiss. If the special litigation committee makes a required showing, the case will be dismissed. If the committee fails to make a showing, the shareholder suit may proceed.[15]

The MBCA is not a law itself, but rather a model statute suggested for passage by different jurisdictions. Individual states adhere to the MBCA procedures to varying degrees. In New York, for example, derivative suits must be brought to secure a judgment in [the corporation’s] favor.”[16] Delaware has different rules in regards to demand and bond requirements too.

The famous case of Shaffer v. Heitner, which ultimately reached the United States Supreme Court, originated with a shareholder derivate suit against Greyhound Bus Lines.

DERIVATIVE SUITS IN THE UNITED KINGDOM

In the United Kingdom, an action brought by a minority shareholder may not be upheld under the doctrine set out in Foss v Harbottle in 1843. Exceptions to the doctrine involve ultra virus and the “fraud on minority”. According to Blair and Stout’s “Team Production Theory of Corporate Law”, the purpose of the suit is not to protect the shareholders, but to protect the corporation itself. Creditors, rather than shareholders, may bring an action, if a corporation faces insolvency.[17]

The Companies Act 2006 provided a new procedure, but it did not reformulate the rule in Foss v Harbottle.[18] In England and Wales, the procedure slightly modified the pre-existing rules, and provided for a new preliminary stage at which a prima facie case must be shown. In Scotland where there had been no clear rules on shareholder actions on behalf of the company, the Act sought to achieve a result similar to that in England and Wales.

PRACTICALITIS

In practice, the first thing to do in most shareholder disputes is to secure the Company assets and protect them from the other shareholders. This may mean double checking (or even changing) the Company bank mandate. Checks should also be carried out to make sure that Company monies haven’t been paid out to lawyers to fund the battle ahead.

Access to fundamental documents or information may also be important. It is not uncommon for documents and files to mysteriously ‘go missing’ and these may be the very documents needed to prove the case of one or other shareholder. Securing vital documentation or evidence may need to be considered in conjunction with regulating arrangements for access to Company premises.

It may be difficult to take one or more of the above steps without holding a controlling majority shareholding. The real power to do many of these things lies with those who are able to control the Board of Directors[19] and securing control of the Board will normally be of vital practical importance.

Typically, at the outset of many shareholder disputes, there will be a short period of confusion about which exact rules govern the particular Company in question and there may be factual arguments about what has actually gone on in the Company’s past. Many of the answers to these matters will be found in the Company’s Articles of Association and the statutory books and records of the Company, which should always be checked immediately.[20]

CONCLUSION

Buying a stock means ownership in a company and ownership gives you certain rights. While common shareholders might be at the bottom of the ladder when it comes to liquidation, this is balanced by other opportunities like share price appreciation. As a shareholder, knowing his/her rights is an essential part of being an informed investor – ignorance is not a defense. Although the Securities and Exchange Commission and other regulatory bodies attempt to enforce a certain degree of shareholder rights, a well-informed investor who fully understands his or her rights is much less susceptible to additional risks.

BIBLIOGRAPHY

  1. Monks, Robert A.G. and Nell Minow: Corporate Governance, Blackwell Publishers, 2001.
  1. Lewis D. and Alan R. Palmiter: Corporations: Examples and Explanations, 3rd ed., Soloman, Aspen Law & Business, 1999.
  1. Law of Corporations in a Nutshell. Hamilton, Robert W., West Group, 2000.
  1. Model Business Corporation Act Annotated, 3rd ed., American Bar Association, 1998/1999.
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[1] payments made by companies to their shareholders

[2] The Parliament House of People’s Republic of Bangladesh.

[3] Organization for Economic Cooperation and Development, “Implementing the White Paper on Corporate Governance in Asia: A Stock Take of Progress on Implementation of Priorities and Recommendations for Reform Included in the 2003 White Paper on Corporate Governance in Asia,” October 2006. Available from Organization for Economic Cooperation and Development website. Accessed on June 9, 2009. (OECD 2006).

[4] An Act to reform company law and restate the greater part of the enactments relating to companies; to make other provision relating to companies.

[5] Siddiqui, J., “Development of Corporate Governance Regulations: The Case of an Emerging Economy,” Journal of Business Ethics, April 7, 2009. Available at SSRN website. Accessed on June 5, 2009. (Siddiqui 2009)

[6] Asian Development Bank, “Technical Assistance Loan Improvement to Capital Market and Insurance,” Project Number: BAN 36197, March 2008. Available from Asian Development Bank website. Accessed on June 5, 2009. (ADB 2008)

[7] Bangladesh Enterprise Institute,” A Comparative Analysis of Corporate Governance in South Asia: Charting a Roadmap for Bangladesh,” edited by Sobhan, F. and Werner, W., 2003. Available from Bangladesh Enterprise Institute website. Accessed on June 9, 2009. (Sobhan & Werner 2003).

[8] Visit: Bangladesh Enterprise Institute website. Accessed on June 10, 2009. (BEI website).

[9] See: Company Acts 2006.

[10] Emphasis added; a ‘member’ is simply a shareholder.

[11] See the ‘Valuing your shareholding’ section.

[12] See Model Business Company Act: Article 7.42.

[13] See Model Business Company Act: Article 7.42(2).

[14] See Model Business Company Act: Article 7.44(d).

[15] See Model Business Company Act: Article 7.44(a).

[16] See Eisenberg vs. Flying Tiger Line, Inc., 451 F.2d 267.

[17] See: Credit Lyonnais Bank Nederaland v. Pathe Communication Corp) Civ. A. No. 12150, 1991 Del. Ch. LEXIS 215 (Del. Ch. Dec. 30, 1991.

[18] See Explanatory Notes on Companies Act 2006 pages 74&ff.

[19] See ‘Company Structure’.

[20] See the ‘Rights of a Shareholder’ section for details of what statutory books and records should be kept by every company.

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