07 / 23 / 2014

Texas Supreme Court Removes Shareholder Oppression Remedies

On June 20, 2014, the Texas Supreme Court issued a decision making carefully negotiated and drafted shareholder agreements a necessity for minority shareholders. In Ritchie v. Rupe, the Court ruled that no longer can minority shareholders of a closely held corporation force the majority shareholders to buy-out their interest through a claim of “oppressive” conduct. In the Ritchie case, the Plaintiff claimed that by refusing to buy out the Plaintiff’s shares, or even allow outside buyers to purchase the shares, the Majority were engaged in “oppressive” conduct.

Under Texas Business and Organizations Code 11.404, a receiver can be appointed to rehabilitate a domestic entity when “the actions of the governing persons of the entity are illegal, oppressive, or fraudulent.” Previous law held that a cause of action for oppression could be brought when majority shareholders used their majority position to “freeze out” minority shareholders, and Courts could force majority shareholders to buy out the minority shareholders at a certain price. However, the Texas Supreme Court in Ritchie ruled that a claim for shareholder oppression must show that the corporation's directors or managers "abuse their authority over the corporation with the intent to harm the interests of one or more of the shareholders, in a manner that does not comport with the honest exercise of their business judgment, and by doing so create a serious risk of harm to the corporation."

Therefore, a minority shareholder may prevail under this definition only if the minority shareholder’s own interest is harmed and the entity itself is harmed by such actions. The Court explicitly rejected a common law tort for shareholder oppression including other remedies, such as a buy-out remedy. The Court effectively acknowledged that sometimes the detriment of minority interests can be for the benefit of the Company and allowable under current law. Further, the Court ruled that when an action for oppression is correctly brought, the statute allows only a one remedy: appointment of a receiver to rehabilitate the company when necessary to protect the assets and business from damage to parties at interest.

However, the Court clearly stated that other claims and remedies are still available to protect minority shareholders. Minority shareholders may still bring derivative suits on behalf of the corporation for breach of fiduciary duty, breach of contract, fraud, fraudulent transfer, unjust enrichment, and quantum meruit, and other causes of action. However, the Court removed the ability of minority shareholders to force the majority shareholders to buy out their interest simply because they disapprove of how the company is being managed.

Majority shareholders should take away from this case that unless there is proof of harm, or significant risk of harm to the corporation, or some other claim that can be brought by the company for wrongful actions of a shareholder, then what is in the best interest of the company is what majority shareholders should be concerned about. The takeaway for both minority and majority shareholders should be to carefully consider, negotiate, and agree to terms in shareholder agreements that layout the rights and powers held by either majority or minority shareholders. Failure to carefully consider such “what if” scenarios before they happen can easily become a costly mistake for either side.

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