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Freeze-outs in the business world and what the ousted can do

On Behalf of | Mar 21, 2023 | Business Law

When it comes to relations between minority and majority shareholders in a close corporation, sometimes business gets personal. In what may be an unexpected move to the minority shareholder, the majority shareholders may amend bylaws in a way that “freezes out” the minority shareholder from playing any further role in the business.

The ousted minority shareholder still owns their interest in the close corporation. But they are no longer on the board of directors or employed by the company, and they may find it difficult to sell a minority share in a close corporation. What are their options?

Shareholder oppression and New York law

New York law attempts to address the issue of corporate freeze-outs. New York Business Corporation Law section 1104-a states that minority shareholders who represent at least 20% of the outstanding shares of a corporation and who were ousted from the corporation due to the “oppressive actions” of the majority shareholders can petition the court to dissolve the corporation.

When deciding whether an involuntary dissolution is appropriate, the court will consider whether liquidation is the only reasonable way for the minority shareholder to get a fair return on their investment and whether liquidation is needed to protect the rights of any substantial number of shareholders.

What constitutes shareholder oppression in freeze-out situations has been defined by New York courts as actions that substantially undercut the minority shareholder’s “reasonable expectations” that were key to their decision to invest in the corporation in the first place.

While the “reasonable expectations” standard is used today in New York courts, there is always room for interpretation based on the unique facts of the case. One hazard of being a shareholder in a close corporation is the danger of a freeze-out, but at least in New York, ousted minority shareholders involved in shareholder disputes have some remedies in the law.