Shareholder disputes in the EU: analysis and resolution
March 2019 | FEATURE | BOARDROOM INTELLIGENCE
Financier Worldwide Magazine
March 2019 Issue
Conflict is part and parcel of all business relationships, with shareholder disputes in particular often to the fore. Indeed, disputes between companies and their shareholders are becoming an increasingly common battleground, with dissension across the European Union (EU), for instance, exponentially escalating.
While shareholder disputes occur for a variety of reasons, they generally emerge due to disagreements over the direction and development of a company, as compared to the vision of the board, or as a result of conflicting interests or perhaps more serious allegations.
“At its heart, a shareholder dispute is a struggle over how a company is run,” says Andrew Smith, a partner at DLA Piper. “The causes of disputes vary widely between sectors, jurisdictions and particularly the type of entity involved, but frequent themes are arguments over profit distribution, complaints around directors’ remuneration or alleged breaches of duty, as well as disagreements arising from attempts by members to exercise their rights under their agreements.
“We have certainly seen an increase in shareholder disputes throughout the EU, although it is difficult to say whether this is across the market or firm specific,” he continues. “The active M&A markets of the last few years and the rise of shareholder activism could explain a more general increase in disputes.”
Whatever the causes, the upshot is that shareholders across the EU are increasingly voicing their objections and demands, with many bringing claims or taking collective action against a company’s directors and officers (D&Os). Some of these disputes are resolved through compromise, while others may escalate to the point where they could potentially destroy a business from the inside.
Undoubtedly a stressful scenario, resolving a dispute requires careful handling in order to rebuild trust and avoid damage to a company’s operations. Therefore, it is imperative that disputing parties reach a mutually agreeable solution so that the potential for a lengthy and expensive legal remedy is avoided.
Key trends and developments
In recent times, converging markets and complementary rules and regulations have resulted in an upsurge of shareholder disputes in Europe – particularly disputes ultimately resolved via litigation – a state of affairs which, up until recently, was largely unknown across European jurisdictions.
“The merging of formerly national markets in EU member states to one large common market, increasing cross-border investments, the harmonisation of corporate rules, including corporate governance, as well as extensive market regulation have given rise to increasing shareholder disputes in the EU,” says Dr Johannes P. Willheim, a partner at Jones Day. “Moreover, an increasing number of deals and growing deal volume is a self-evidentiary driver of the number of shareholder disputes.”
One major regulatory development set to shake up this space is the forthcoming EU Shareholder Rights Directive II (SRD II) – due to come into force on 10 June 2019 – which is intended to strengthen the position of shareholders and to ensure that decisions are made for the long-term stability of a company.
“SRD II requires intermediaries, such as investment firms, credit institutions or central security depositories which keep and administer shares or maintain securities accounts on behalf of shareholders, to facilitate the exercise of rights by shareholders,” explains Dr Willheim. “It also increases transparency requirements for related-party transactions. Moreover, it establishes a shareholder right to vote on the director remuneration policy at a general meeting. Its impact upon shareholder disputes as a result of strengthened shareholder rights will have to be closely monitored.”
Cause and effect
Shareholder disputes can occur in a variety of ways, with many arising due to the characteristics and culture of the company, in addition to the characters of the shareholders themselves.
Disputes can arise between majority and minority shareholders or between shareholders and management, among other permutations. It may be that activist shareholders want to push management in a certain direction, for example minority shareholders may petition a court for relief where they can demonstrate that the company is being run in a manner unfairly prejudicial to them or an actual or proposed act or omission would prejudice their interest.
The types of shareholder disputes which commonly arise include: (i) disputes concerning the validity of shareholder resolutions; (ii) disputes which arise under shareholder voting agreements (syndication agreements); (iii) disputes concerning valuations, such as capital increases, mergers and squeeze-out procedures; (iv) unequal treatment of shareholders; and (v) disputes with directors regarding liability, such as for violations of antitrust and competition laws.
Additional shareholder battlegrounds
Across the EU, shareholder disputes occur across a range of sectors and in a variety of contexts. “There has been a large number of shareholder disputes across Europe in the energy, mining and commodities sectors, frequently involving parties from outside the EU,” observes Mr Smith. “In the UK, we have also seen a number of disputes between investors and management within private equity-owned businesses. In Italy, there has been an increase in claims brought by shareholders of distressed banks, and in Austria we have seen a number of claims seeking to set aside member resolutions and disputing the ownership of shares.
“In terms of more general trends, the rise within the EU of US-style class actions has continued, and shareholder activism also continues to grow in importance as an attempt to influence European companies,” he continues. “There has also been an increase in shareholder action following on from, or even incorporating, regulatory or criminal complaints or actions.”
Shareholder disputes in the EU are generally resolved by alternative dispute resolution (ADR) methods such as arbitration and mediation, rather than litigation. However, in order to avoid a dispute proceeding to potentially damaging court action, parties need to agree a quick and decisive resolution strategy.
“The most appropriate resolution method will largely depend on the nature of the dispute and the objectives of the parties,” says Mr Smith. “Negotiation or early mediation can be effective if parties wish to maintain a business relationship. If there has been an irretrievable breakdown in relations and an exit looks inevitable, arbitration can be effective if confidentiality or international enforcement is an issue.
“It is important to get early legal advice whenever a dispute looks likely, as this will enable the instructing party to assess the strengths and weaknesses of their position,” he continues. “This can facilitate an effective strategy taking into account the shareholders’ rights under the company’s constitution, as well as practical issues such as financial and reputational implications. A quick and decisive resolution strategy can help avoid damage to a company that may have a negative impact on everyone.”
“There are extensive studies which show that swiftly addressing and resolving disputes brings more satisfying results to all parties involved,” asserts Dr Willheim. “A conscious use of modern efficiency and analytical tools, such as early case assessments, decision tree analysis, cost-benefit analysis, as well as continued dispute management, including budgeting, project management and continued reassessment of strategies, is highly recommended.”
Drafting key documents
When it comes to drafting key documents, such as articles of association (AOA), shareholders need to ensure such documentation is multifaceted, with clauses that can provide for a range of dispute resolution mechanisms depending on the parties involved and the type of dispute.
“Having a clear understanding of the rights and mechanisms set out in the AOA or shareholders’ agreement is vital, both in terms of avoiding disputes and dealing with them effectively when they arise,” affirms Mr Smith. “English courts, for example, will interpret members’ rights by reference to corporate documents, which makes it extremely important that those rights are clearly set out and understood.
“Clearly defined mechanisms for drag- and tag-along rights and compulsory transfers are especially important, as this is an area prone to disputes,” he continues. “Having an appropriate and well-defined dispute resolution mechanism in place within constitutional documents can be very helpful in establishing the most suitable forum for the particular company’s needs.”
Furthermore, when drafting key documents, shareholders need to remember that no one type of documentation fits all dispute scenarios. “It is no longer advisable to treat dispute resolution and governing law clauses as midnight clauses, being inserted into corporate and transactional agreements by taking recourse to boilerplate standards,” says Dr Willheim. “Instead, multi-layered and multi-faceted dispute resolution clauses providing different solutions depending on the specific dispute arising under an agreement should be used.”
On account of the uncertainty surrounding Brexit, shareholder disputes in the EU are largely in a state of flux, with a multitude of issues and challenges lying in wait.
“We expect to see a continuation of the trend towards increasing shareholder activism and class actions,” says Mr Smith. “SRD II will bring stronger shareholder rights and could further increase the potential for disputes around issues such as board remuneration or related-party transactions. Whether the UK is still a member of the EU at that point remains to be seen. But if not, Brexit itself could give rise to an increase in commercial disputes generally – for example, in joint ventures, where the underlying viability of the entity might be fundamentally impacted by the UK leaving the EU.”
Against a backdrop of EU politics and all the intrigue, self-interest and manoeuvring that goes with it, not to mention the still to be ascertained full impact of Brexit, the future nature and frequency of shareholder disputes across Europe is currently a landscape of uncertainty, opportunity and risk.
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