"Business" and "company"

A distinction must be drawn between the words “business” and “company”. A business is simply an activity, where forming a company is one of several ways to run a business.

A limited company is considered a separate legal entity with a distinct life of its own, which is separated from those of its members. Its special legal status is beneficial in various ways. Firstly, shareholders enjoy limited liability as they are not personally liable for the debts of the company. This is the most important reason why so many businesses are incorporated nowadays. Secondly, a limited company does not cease to exist simply because one of its shareholders dies or retires.

However, running a company can be more complicated than it seems. Despite that a company can be formed individually, a company is, in practice, usually formed by two or more investors who later become the shareholders.

It is therefore necessary to understand how shareholders’ disputes are caused and how they can be avoided or solved.

Common causes of disputes

Disputes between shareholders are attributable to various causes and the most common ones are summarized as follows:

• Shareholders may hold different views on the company’s strategies;
• Shareholders may disagree on the amount of dividends. Where the company makes profits, some shareholders would opt for a higher level of dividends to be distributed while some would opt for a more diverse investment;
• When the company deals with a private business owned by one of the shareholders, there are usually disputes over various issues including the amount of fees to be paid;
• Shareholders may dispute about the salaries paid to the shareholders who also work for the company;
• There are often disagreements on the price to be paid when shares are bought out from a shareholder.

Avoidance of disputes amongst shareholders

Disputes between shareholders can be avoided through various means. As for a private company, especially one with a relatively small number of shareholders who also manage the business, the best method to minimise the likelihood of disputes is to have a well-written shareholders’ agreement from the very beginning. Such an agreement should cover the most likely causes of disputes and their resolutions. The process of preparing the agreement also enables the shareholders to work through the key issues together. A high-quality shareholders’ agreement should contain the following items:

• Key objectives and main strategies of the company;
• Responsibilities for different areas of the business;
• Financing of the company;
• Distribution of dividends;
• Directors’ fees and salaries;
• Authority required to take certain actions;
• Dissolution of the company.

The agreement should be drafted in the most comprehensive way so that most of the potential future issues can be addressed.

The agreement should also cover how a shareholder can realise his or her investment in the company. Usually the followings would be included: Are there any restrictions on selling shares? How will the shareholding be valued if the other shareholders or the company have the right to buy it?

The second question is especially important where a shareholder’s exit from the company is not peaceful and a valuation of the shares cannot be agreed on. In general, the agreement should provide a timetable for sale and allow the appointment of an independent third party to be responsible for the valuation.

Dispute resolutions

Even if we have taken all the possible preventive measures, disputes between shareholders may sometimes still arise. In general, decisions for a company are made in a general meeting and are taken by vote.

While disagreements would mostly be settled by taking the majority view through voting, wishes of the minority shareholders are often being ignored. Although protection is usually available for the minority where the majority shareholders are abusing their position, disagreements can be solved easily through a shareholders’ agreement if there is one.

In case a shareholders’ agreement is not available, there are still various options by which shareholders’ disputes can be solved.

Proposing a resolution in a general meeting is always the most direct way to solve the problem. By presenting a resolution in a meeting, a shareholder can take the chance to convince other shareholders to compromise in order to win enough votes to support his or her resolution.

However, this method is less practical under situations that the majority shareholders are in complete control of the picture. Minority views would then be oppressed even if they are supported by a convincing presentation.

Using a mediation service would be another way to settle disputes. A third-party mediator tends to be neutral and reliable. Upon mediation, disputed shareholders would be less reluctant to hear the views of each other. This encourages a more thorough understanding and it would then be easier for the disputants to reach a compromise.

Where the company is being conducted in a manner unfairly prejudicial to the interests of the members generally or of some parts of the members, the shareholders may apply to the court for an order that the company is acting or has acted unfairly under Section 168A of the Companies Ordinance (Cap.32). This is commonly called the “unfair prejudice” action.

To protect the rights of the shareholders, it is always wise to form a shareholders’ agreement at the earliest stage so as to minimise the chance of any disputes.