Unfair Prejudice: Using Out-Dated Financial Information Was Unfair

‘Unfair prejudice’ is the legal term typically used to describe circumstances where a company’s directors/majority shareholders abuse their powers to the detriment of minority shareholders.  However, unfair prejudice can also unintentionally be caused to minority shareholders. The corporate and commercial lawyers at ParrisWhittaker are highly experienced in advising directors and shareholders on their rights and responsibilities.

A decision from the UK’s High Court¹ shows how unfair prejudice can be caused where the directors/majority shareholders may not be actively seeking or intending to advance their own interests at the expense of minority shareholders. The ruling has persuasive authority on the courts in The Bahamas.

The case arose in the context of share valuations – an issue that commonly arises in unfair prejudice proceedings. Shareholders who consider that their shares have been devalued can bring an unfair prejudice claim under the Companies (Amendment) Act 2019. If successful, the majority shareholders are usually (but not always) ordered to buy out the claimant’s shares for value.

What happened?

A waste management company in Hull, England was run by three directors who were also the shareholders. The petitioner (P) owned 14.3% of the shares and the other two directors owned the remaining 74.7% in equal shares.

The shareholders’ agreement included the procedure for the valuation of a shareholder’s share. In September 2015, P expressed his intention to leave the company after HM Revenue & Customs raided it for suspected fraud involving alleged non-payment of tax (the matter was eventually dropped). P wanted to sell his shares and a company auditor was duly appointed.

In the event, the auditor’s valuation was delayed for various reasons and it was finally completed in June 2016. However, it was based on financial information up to 31 December 2014 (it also applied a 75% discount to reflect that P’s was a minority shareholding). The auditor valued his shareholding at the net figure of £550,191.

P challenged the valuation on the basis that the figures relied on by the auditor were out-of-date. Notably, the auditor himself had acknowledged that those figures were out-of-date.

The dispute was not resolved internally (the other directors having no issues with the valuation), and P eventually brought an unfair prejudice claim. The court noted that from September 2015 onwards, P was committed to the process of selling his shares which required them to be valued at that point in time. That ‘relevant time’ was important – P’s interest was in realising the value of his shareholding at that time.

There is unfair prejudice (under s994 of the UK’s Company Act 2006) where the affairs of a company are conducted in a manner that is unfairly prejudicial to the interests of a member. The judge found that the auditor’s conduct in this case came within ‘conduct of the company’s affairs’.

Here, P was prejudiced because the auditor’s failure to complete the valuation exercise using up-to-date information was likely to have an impact on the proper calculation of the sale price to be paid for his shares. This was unfair: P had a contractual right to insist that any valuation carried out by the auditor was properly completed in accordance with the instructions given to him.

The auditor had not properly complied with the instructions, which were to estimate “the fair market value of the business enterprise of [the company] as at 30 September 2015”.

The court ruled that the appropriate and fair relief for P was for his shareholding to be valued afresh, as at the end of September 2015, by a jointly appointed valuer.

What does this mean?

Readers may wonder why the majority shareholders resisted P’s claim when it was entirely reasonable, if not obvious, to expect up-to-date financial information– appropriate to the relevant date – to be relied on when the shares were to be valued.

The ruling shows how important it is in the interests of fairness to ensure the directors/majority shareholders arrange valuations of exiting shareholders fairly and in line with existing contractual terms.

Any director or shareholder concerned about a potential unfair prejudice claim, or any other disputes between shareholders and directors, should take specialist advice from the award winning company and commercial lawyers at ParrisWhittaker.  Call us now on +1.242.352.6112

¹Wells v Hornshaw and others [2024] EWHC 330