Getting Chilly? – ”Freeze Out” Mergers & Minority Shareholders

Almost nothing in business matches the heady, early days of a small business startup. The owners share a commitment toward creating a prosperous enterprise. They work long hours, confer on the smallest of details, and operate within a truly convivial atmosphere.

Alas, just as many marriages fail, many business relationships similarly sour. Unless the minority shareholders were sufficiently far-sighted to negotiate shareholders agreements that allow an appropriate valuation and buy out of their interests, they may soon find themselves on the cold end of a “freeze out” merger. The results can be costly. What is a freeze out merger and how can a minority shareholder get protection from such abuse?

Freeze Out Merger Basics

While a freeze-out merger can take a number of different forms, a typical one looks something like the following:

  • Majority shareholder forms a new corporation (“new corp”).
  • Majority shareholder swaps shares in older, existing corporation (“old corp”) for 100 percent ownership of new corp.
  • Majority shareholder crafts a plan of merger whereby the shareholders of both old corp and new corp approve the merger. Since the majority shareholder owns all of new corp and the majority of old corp, this can be done with relative ease. He or she structures the merger to ensure that the minority shareholder of old corp receives cash for his or her shares. The sales proceeds may not reflect what the minority shareholder feels his or her interest is worth.
  • After the merger, the minority owner of old corp has been effectively frozen out.

Minority Oppression: Status of Minority Rights After Ritchie v. Rupe

In some states, minority shareholders have significant rights that can protect their interests and prevent a majority shareholder or shareholders from freezing them out. Texas is, however, less friendly to minority shareholders, particularly following the 2014 decision in Ritchie v. Rupe, 443 S.W.3d 856 (2014). Critics of the decision say the Court undermined minority shareholder rights by substantially limiting the circumstances under which such shareholders can invoke the doctrine of minority oppression. Other legal experts point that the minority shareholders still enjoy some protections, but they need to be aggressive in filing suit against the majority owner or owners. They point out that majority shareholders have substantial power, but that such power can be abused and courts will not always allow them to run roughshod over minority owners.

Best Protection for Minority Owners is Properly Drafted Shareholder Agreement

To the extent that a minority shareholder desires a degree of control over his or her exit opportunities, the shareholder should negotiate for those opportunities in a shareholder agreement signed before the investment is made. Such negotiations can be tough, but once the minority owner hands over his or her money without such an agreement, most leverage is gone.

If a Majority Owner is treating you Unfairly, You May Need To Litigate the Issues

Texas BarToday Top Ten BadgeIf one or more majority owners are harming your investment interests, particularly if there are no shareholder agreements in place, you may have no real alternative other than to litigate the issues. A Texas court cannot grant you relief unless you get your case before a judge and/or jury. When it comes to litigating corporate issues, it isn’t enough to retain an attorney skilled in drafting corporate documents and representing businesses in transactional affairs; you need a an aggressive, skilled trial lawyer who won’t shy away from the courtroom.

The attorneys at Romano & Sumner have more than 20 years of combined experience in litigating tough issues in Texas state and federal courts. At Romano & Sumner, you will find advocates who are skilled in aggressively protecting your legal rights and financial interests. We pride ourselves not only upon our professionalism, but also upon our client service. We return phone calls within one business day. We keep clients informed. We complete the work within the allotted time frame. Call us at 281-242-0995 or complete our online contact form.

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    Romano & Sumner, PLLC

    Romano & Sumner, PLLC