January 05, 2009
The need for minority shareholder voice
Posted by Benjamin Means

Thanks to Gordon and Usha for inviting me to visit the Conglomerate and for the warm welcome. As Usha mentioned, I have just started teaching at the University of South Carolina School of Law, and I plan to post about what it has been like walking into the classroom for the first time. I’ll kick things off, though, with an overview of my current research focus: the problem of minority shareholder oppression in close corporations.

Majority shareholders ordinarily call the shots in a close corporation, including whether to declare dividends and whether to employ minority shareholders. Absent additional bargained-for rights, minority shareholders may find themselves frozen out of any return on their investment. Unlike shareholders in public corporations, minority shareholders cannot protect themselves by selling their stock and exiting the corporation. There is, by definition, no secondary trading market. Because minority shareholder oppression is made possible by the normal features of the close corporation – majority control, locked investment – courts face the difficult task of adjusting the relationship of shareholders to remedy oppression without thereby undermining the reasons investors have for choosing the close corporation form in the first place.

My forthcoming article contends that voice offers an under-appreciated alternative mechanism to exit for protecting minority shareholder interests in the close corporation. For reasons analogous to those offered in favor of deliberation in the public sphere, enhanced minority participation in close corporation governance would improve the quality and the perceived legitimacy of decision-making. Also, minority shareholders often expect to have a role in the management of the business and ought to be encouraged to assume that responsibility.

To create greater incentives for voice and to guide the adjudication of claims of minority shareholder oppression, I argue that courts should: (1) recognize (and embrace) the principle that the appropriate level of judicial scrutiny may vary from case to case; and (2) use the presence or absence of minority shareholder participation in governance to determine the proper level of scrutiny. Close corporations would then have reason to adopt inclusive governance models in order to benefit from more deferential judicial review, and enhanced minority shareholder voice would improve the parties’ ability to resolve disputes without the need for judicial intervention. When litigation cannot be avoided, flexible judicial scrutiny would improve upon existing approaches to shareholder oppression, allocating pleading or production burdens to the party best able to meet them.

There are, at least, two serious objections which I will discuss in separate posts, and which I hope to address more fully in future scholarship. First, why not attack the problem of oppression more directly by creating an enhanced right of exit for minority shareholders? Second, and related, why worry about minority shareholder voice when, at the end of the day, the majority still has the power to make the decisions?

Finally, I should note that the foundation of my argument is Albert Hirschman’s classic insight that exit and voice are interrelated mechanisms, and that economic and political responses to a firm’s decline may be complementary.

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