Excess Compensation as Oppression
What are the rights of a minority shareholder in a closely-held business who is not directly involved in running the company and receives no benefit whatsoever for his shares – no salary, no dividend, no benefit of any kind? Of course, the answer depends on the specific facts of any particular case. However, if the company could afford to pay dividends but for the “excess compensation” paid to the majority shareholders, New Jersey law may afford protection to the minority shareholder.
Shareholders find themselves “on the outside looking in” for a variety of reasons. The case of a shareholder-employee who was terminated was addressed in an article dated September 2, 2008. In addition to termination, the shareholder may have simply decided to change fields, or may never have been involved in management, or as an employee, in the first place. Such a situation is more prevalent in a family-run business, in which family members may inherit shares but assume no management role.
No matter the circumstance, the majority shareholders do not have the right to award themselves “excess compensation,” which is quite often the main reason for minority shareholders to receive no benefit for their shares. For example, in a recent case, the managing shareholders cut their salaries in a year in which sales decreased dramatically. However, in the following year, when only half the sales loss was made back up, salaries skyrocketed past where they were when the losses started. Of course, it is the passive minority shareholder who is most impacted by this “excess compensation,” since it left nothing for him in the form of dividends.
Under New Jersey law, which protects a minority shareholder against “oppression” and “mismanagement,” there is ample support for the argument that such a circumstance is a violation of law, and that the majority shareholders should have paid a dividend to the minority, rather than sucking every penny out of the company in the form of salary and bonuses.
Minority shareholders in such a situation sometimes are unaware that they have certain rights to see certain company books and records so that they can see for themselves the compensation being drawn by those in charge. Or, even if they vaguely know they have such a right, they do not know what to do when their requests for information are ignored. A letter from an attorney is often enough to compel compliance with the statutory requirement. If that does not work, court intervention may be necessary. However the records are obtained, majority shareholders who pay themselves far more than is standard in the industry, leaving nothing to be distributed to minority shareholders, may be required to buy out the minority shareholders for the “fair value” of his shares.