The majority’s decision to withhold the distribution of dividends is simply to apply and exhort great financial pressure on the minority. The majority’s use of this simple squeeze-out technique is often used to try and buy the minority’s interest in the corporation for a below-market price. It is most effective and potentially devastating in cases where the minority is highly dependent upon receiving their income from dividends. During the course of my representation of oppressed minority shareholders, I have seen majority shareholders attempt to withhold distributions to: a widower of a former employee; a handicapped person who can no longer work; and an employee who recently lost his job.
The oppressor often couples the withholding of dividends with other squeeze-out techniques. Often, the key to the success of the use of the withholding of distributions squeeze-out technique is tied to the financial wherewithal of the minority to live without the income stream. If the minority does not need the distributions then the failure to pay dividends is probably going to be less effective. That is why I often see the dividend squeeze-out technique to be coupled with the termination of the minority’s employment or a major reduction of the minority’s salary.
Sadly, majority shareholders will often fabricate legitimate reasons why dividends are not being distributed. Examples of excuses often used are: the recession; the loss of a client or customer; and the need for the corporation to upgrade its equipment. It becomes the burden of the minority shareholder or their attorney to prove that the stated reason is not the real reason for the decision to withhold the distribution. That is because Courts recognize that there are many plausible reasons why funds available for distribution as dividends should be retained by the corporation. A minority shareholder challenging the majority’s failure to issue dividends often encounters many legal and factual obstacles in obtaining relief from a Court of law.
One obstacle is the Court’s adherence to the “business judgment rule.” It embodies a broad judicial deference to the corporation’s board of directors. The Court’s deference to the “business judgment rule” is less of a concern when it considers the actions of a board in the case of a closely held company. That is because in the case of a close corporation the decisions often made by the board directly affect their own interests. In other words, Courts are less inclined to strictly adhere to the “business judgment rule” where the voting shareholder has a conflict of interest.
Another possible legal obstacle a minority shareholder confronts when seeking to challenge the decision of the majority is the principle of majority control or governance of the corporation. Fortunately, New Jersey’s minority oppression statute does provide an exception to the general rule if the oppressed minority shareholder can demonstrate that the majority’s decision frustrates their reasonable expectations as a shareholder. Brenner v. Berkowitz, 134 N.J. 488, 506 (1993). Hence, if the minority can show that the pro-offered reason to withhold distributions is false or overstated they may seek redress.
Courts have examined a number of factors when considering whether or not the decision to withhold dividends is justified or oppressive. First and foremost, the Court will consider the corporation’s present and prospective financial needs. In doing so, Courts will often study the testimony of experts who provide it with testimony related to the amount of surplus cash the corporation is holding; the amount of retained working capital in previous years; the company’s business prospects; the need (if any) for expansion and the cost of any proposed expansion; along with the corporation’s liabilities. Courts will also consider whether or not other possible squeeze-out techniques are being employed by the majority. The Court is far more inclined to find the failure to pay dividends is oppressive if other factors are present.
A Court who finds that the decision to withhold distributions was “oppressive” can employ a number of legal and equitable remedies. They include, but are not limited to: forcing the majority shareholder to pay the distributions which should have been made; ordering that the majority purchase the minority’s shares for “fair value”; and/or awarding reasonable counsel fees and costs the minority spend in cases where the majority has acted in bad faith.