Minority protections against oppressive and/or prejudicial amendments to an MOI
Minority protections against oppressive and/or prejudicial amendments to an MOI
When considering the age-old question of which provisions should be contained in the memorandum of incorporation (MOI) and which provisions should be contained in the shareholders’ agreement (SHA), one important consideration which is often overlooked is the threshold required to amend an MOI as opposed to an SHA.
At a glance
- There has been much debate about what “controlling interest” means in relation to section 11 of the Mineral and Petroleum Resources Development Act 28 of 2002 (MPRDA). In 2011, a court found that held that it cannot be confined to a single characteristic or criterion and could mean, in the case of a company, more than 50% of the issued share capital of the company, or more than half of the voting rights in respect of the issued shares in the company, or the power to either directly or indirectly appoint, remove or veto the appointment of the majority of the directors of the company without the concurrence of another.
- More recently, the Supreme Court of Appeal found that section 11 of the MPRDA must be interpreted as including both direct and indirect cessions, transfers or leases as well as other forms of changing control including by means of the issue of new shares/dilution of interests in a company which directly or indirectly holds the mining right.
- In light of the recent finding, it is now clear that the section 11 consent will be exercised on a taking a "substance over form" approach and the Department of Mineral Resources and Energy is entitled to cast its net wide in the exercise of its powers by considering the complex structures of certain company groups, even if this results in section 11 having extra-territorial application to holding companies outside South Africa.
An MOI is a public document, largely governed by the Companies Act 71 of 2008 (Companies Act), which provides that an MOI may only be amended in compliance with a court order or if the shareholders pass a special resolution authorising the amendment. The Companies Act prescribes that, unless the MOI provides otherwise, a special resolution must be supported by at least 75% of the voting rights in order to approve the amendment. Theoretically, this means that a majority shareholder, or a group of shareholders, who exercises 75% of the voting rights has the power to amend the MOI as they see fit, including the removal of several bespoke minority rights and protections.
On the other hand, an SHA is a private commercial agreement which can only be amended by unanimous written consent of the shareholders. Accordingly, given its confidential nature and increased amendment threshold, the SHA is often considered the better agreement, from a strategic perspective, to include bespoke minority rights and protections. However, the Companies Act does contain certain restrictions, in respect of alterable and unalterable provisions, which require that deviations from the position set out in the Companies Act be contained in the MOI. This often results in bespoke board appointment rights, for example, being recorded in the MOI, and thus vulnerable to an amendment by special resolution.
Fortunately, there are several protections afforded to minority shareholders in the event of oppressive and/or prejudicial amendments to a company’s MOI.
The obvious solution would be to ensure that any amendment to the company’s MOI requires a voting threshold above 75% (e.g. 100% or both above 75% and all but one shareholder votes in favour), however, this is often vehemently opposed by majority shareholder/s. Alternatively, the shareholders could agree to a reserved list of clauses which, if amending, require the consent of certain shareholders affected by the amendment or unanimous approval. A third option could be to keep the bespoke minority rights in the MOI but include an undertaking in the SHA not to vote in favour of certain MOI amendments which would adversely affect the rights of certain shareholders.
Section 161: Application to protect rights
Section 161 of the Companies Act empowers a shareholder to approach a court for a determination or protection order in respect of any of their rights afforded to them in terms of the Companies Act, the company’s MOI, the rules of the company or any debt instrument by way of a declaratory order or an interdict.
The provisions of this section also entitle a shareholder to approach the court for an order to remedy any harm which they may have sustained as a result of a breach of any provision of the Companies Act or a violation of any right enshrined in the company’s MOI, the rules of the company or any debt instrument, and/or to hold any director personally liable for such harm, where there has been a breach of their fiduciary duties.
This section essentially allows a concerned minority shareholder to take a pre-emptive measure and prevent major shareholders from implementing an oppressive or prejudicial amendment to the MOI. If successful, it would afford a minority shareholder a fair amount of protection and comfort that its bespoke rights are protected by court order.
Section 163: Relief from oppressive or prejudicial conduct
Section 163 of the Companies Act provides, in essence, that a shareholder or a director of a company may apply to court for any form of relief if any act or omission by the company or a person related to the company has had a result that is oppressive or unfairly prejudicial to, or that unfairly disregards the interests of, the applicant.
For an amendment to an MOI to entitle a minority shareholder to relief under section 163, the minority shareholder must prove to the court that the relevant conduct complained of was oppressive, unfairly prejudicial or unfairly disregarded the minority shareholder’s interests. Notably, the minority shareholder is not required to show that the conduct complained of was unlawful, instead, section 163 is a question of fairness. That said, the conduct of majority shareholders must be evaluated in light of the majority rule principle that, by becoming a shareholder, a person undertakes to be bound by the decisions of the majority of the shareholders, and, therefore, not all MOI amendments which prejudicially affect a minority shareholder will necessarily entitle a minority shareholder to relief in terms of section 163. In short, the prejudice disregard may be fair.
Examples of possible section 163 relief may include an amendment to the MOI which: (i) materially and adversely alters the preferences, rights, limitations or other terms of the class of shares held by the minority shareholder, such as voting rights or rights to receive dividends; (ii) has the effect that minority shareholders no longer have a right to appoint a representative to the board; or (iii) limits the rights of minority shareholders in terms of section 39(2) of the Companies Act to subscribe for shares before any other person who is not a shareholder (i.e. effectively diluting the shareholding of minority shareholders) where any of the aforementioned provisions was an integral term upon which they had agreed to become a shareholder of the company.
If an applicant is successful, the court has a wide discretion to make any order it deems appropriate, including, but not limited to, (i) an order interdicting or restraining the company from amending the MOI; (ii) an order directing the company to amend its MOI; or (iii) an order to pay compensation to the minority shareholder. In this regard, a useful recommendation is to plead for alternative forms of relief in order of preference and concluding with a catch-all request that the court grant further or alternative relief that the court may deem appropriate.
Accordingly, this remedy may be a far wider approach than the enforcement of rights or protecting interests in terms of section 161. However, the prospects of success will ultimately depend on the specific facts surrounding the conduct being challenged. Aggrieved persons are therefore required to identify the nature of the impugned conduct and to establish that the conduct is oppressive or unfairly prejudicial or unfairly disregards the interests of the aggrieved person.
Section 164: Dissenting shareholders appraisal rights
The appraisal remedy, provided for in section 164 of the Companies Act, allows a dissenting shareholder to compel the company to buy back its shares for a fair cash consideration. This provision is primarily triggered by certain fundamental transactions, set out in sections 112 to 115 of the Companies Act, such as major disposals, mergers and schemes of arrangement. Appraisal rights are also triggered if a company gives notice of a meeting to pass a resolution to amend its MOI by altering the preferences, rights, limitations or any other terms of any class of shares in a manner materially adverse to the rights or interests of holders of that class of shares.
To exercise its appraisal rights a dissenting shareholder must send a written objection to the company before the resolution to amend the MOI is voted on. The dissenting shareholder must then proceed to vote against the resolution and subsequently, if the company adopts the resolution in question, deliver a written demand for the fair value of their shares to the company.
This provision effectively entitles a minority shareholder the opportunity to exit the company, for fair value, where they are unable to prevent an MOI amendment which they disagree with. Although section 164 of the Companies Act would entitle the minority shareholder to exercise their appraisal rights, this may lead to an undesirable or inequitable outcome in certain instances, and relief in terms of sections 161 or 163 may be more appropriate.
The Companies Act recognises the important role that the MOI plays in the governance of a company. Therefore, the MOI may only be amended if the shareholders pass a special resolution authorising the amendment and several remedies have been included to protect against oppressive or prejudicial amendments to a company’s MOI.
However, the reality is that all the statutory remedies contained in the Companies Act involve approaching a competent court, which may not always be feasible from a financial or timing perspective. It is therefore of the utmost importance that shareholders consult with their attorneys before investing, in order to ensure that all potential commercial solutions are explored in the investment documents, including the investee company’s MOI.
The information and material published on this website is provided for general purposes only and does not constitute legal advice. We make every effort to ensure that the content is updated regularly and to offer the most current and accurate information. Please consult one of our lawyers on any specific legal problem or matter. We accept no responsibility for any loss or damage, whether direct or consequential, which may arise from reliance on the information contained in these pages. Please refer to our full terms and conditions. Copyright © 2023 Cliffe Dekker Hofmeyr. All rights reserved. For permission to reproduce an article or publication, please contact us firstname.lastname@example.org.
We support our clients’ strategic and operational needs by offering innovative, integrated and high quality thought leadership. To stay up to date on the latest legal developments that may potentially impact your business, subscribe to our alerts, seminar and webinar invitations.Subscribe