In this article we shall discuss the conflict between different agreements related to the comapny, its article of association and other agreements, and the manner according to which a decision should be made with relation to such conflict and the implication of such conflicts and decisions on the company and its shareholders.
Background
The lifespan of a company is influenced by different factors, internal and external, that pose challenges to policymakers in the company (directors, CEO and so on) requiring them to take actions for the purpose of preserving the company’s effective management and maximizing its profits.
A company is a legal entity whose actions are determined and regulated in its incorporation documents when the main document is the articles of association which is in fact an agreement between the company and its shareholders and among shareholders themselves. In addition, the company’s articles also regulate the rights and obligations of the company’s organs such as the company’s board of directors and the general meeting.
Decision between conflicting documents
Despite the original agreements between shareholders as set forth in the company’s articles of association, shareholders can take some measures to alter these agreements. Thus, for example, majority shareholders may deviate from the provisions set forth in the articles by demonstrating custom of a practice in the company and, alternatively, by taking measures that will pressure the minority to accept such changes, for example by offering an incentive to the minority in return for accepting the change (for example, distribution of dividend). Minority shareholders can also protect themselves from future alteration of original agreements such as establishing privileged majority to pass certain resolutions, veto rights etc.
Aside from a company’s articles of association, often enough additional agreements are signed between the company’s current shareholders and future shareholders (for example new investors), which may cause legal and commercial difficulties. Thus, additional agreements that are extraneous to the company’s articles might be concluded in different times and between different parties which their content may contradict with the company’s articles.
For example, let us assume that the company’s articles prescribe that a new issuance of the company’s shares cannot be executed without the consent of minority shareholders and despite such provision the company concluded an agreement to issue new shares without the consent of the minority shareholders. Allegedly, the allotment agreement conflicts with the provisions set forth in the company’s articles. Under such circumstances, which agreement prevails? The articles or the allotment agreement?
In order to decide which of the conflicting agreement prevails, the legal system provides a number of legal analysis, such as the agreement supersedes prior agreement in time, and that a specific arrangement overcomes a general one.
Yet in addition to legal rules, case law prescribes that a company should not allow to complete constrain from future alteration to the articles. It was further ruled that in order to answer the question which agreement prevails in the event of contradiction, we should also examine the nature of the conflict between the different documents, according to the guiding principles in analyzing a conflicts between the majority shareholders and the minority shareholders.
More often than not, the main dilemma that shareholders are faced with is the concern of exploiting the majority vote, as opposed to the concern of being extorted by the minority shareholders. There is indeed great importance in allowing the majority the flexibility that is required for the purpose of ensuring effective management of the company and promoting its interests in general; however, majority shareholders should not be allowed to take advantage of their power to promote solely their interests and deprive from the minority shareholders.
The guiding rule in solving this dilemma is the company’s interest[1]. Accordingly, the company’s interest sometimes mandates to deviate from the original agreements that were concluded among shareholders by modifying the articles, even if this harms minority shareholders. Similarly, we should prefer a provision in one agreement that promotes the company’s interest over another provision contained in another agreement that conflicts with the company’s interest.
In a case heard by the High Court of Justice, the court approved an acquisition offer that was executed while deviating from the provisions set forth in the company’s articles of association (the board of directors was not authorized to approve the acquisition offer in the manner that it was approved), and that harmed minority shareholders in respect of which it was stated that they did not receive equitable consideration for their shares. The court dismissed the claim of deprivation held by the minority shareholders, inter alia, on the grounds that under the circumstances the current business needs of the company mandate deviation from the original understandings and that not every discrimination to formal equality amounts to deprivation of minority shareholders[2].
As said, the aforesaid rationales, that were prescribed by the courts for the purpose of deciding in the conflict between the interests of the majority and the minority shareholders, that is to say, the interest of the company, while considering the importance of letting the majority shareholders control and manage the company efficiently aside with protecting the interests of minority shareholders, should guide when making the decision between conflicting documents and agreements.
Before we conclude we shall note that another consideration that should be taken into account, when reviewing a conflict between contradictory documents, relates to the importance ascribed by shareholders (all of them, majority and minority) to the original agreements by attempting to interpret the original intention of the parties involved.
Conclusion
In light of the foregoing it seems that the legal system recognizes the need to balance between the original understandings that were reached between the parties and the Company’s dynamic needs, when the considerations involved in such decision relate to the majority rules vs. the possibility of extortion by the minority shareholders. The legal system tends not to allow a situation in which the company constrain itself completely from future alteration in the Company’s articles, while taking into account the particular circumstances of each case.
[1] Concerning this matter see also the Judgment delivered by Dr. Michal Agmon Gonen in Originating Motion (Tel Aviv) 986/07 Advocate Elihud Yaari v. Maoz HaKrach Company.
[2] Civil Appeal 2773/04 Nitsba Settlement Company Ltd v. Meir Atar and 35 others.