The Breakdown Behind the Business
Most businesses are not disrupted by external forces alone. In many cases, the most significant risk comes from within specifically, the breakdown of relationships between shareholders.
At the outset, founders are typically aligned. There is shared vision, shared ambition, and a collective commitment to building something of value.
Over time, however, that alignment can shift. Differences in contribution, appetite for risk, financial expectations, or strategic direction can create tension.
If those tensions are not managed through clear legal frameworks, they can escalate into formal disputes.
One of the most commonly relied upon remedies in these situations is the unfair prejudice petition under section 994 of the Companies Act 2006.
What Is an Unfair Prejudice Petition?
Section 994 provides that a shareholder may petition the court where the company’s affairs are being conducted in a manner that is unfairly prejudicial to their interests.
The concept of “unfair prejudice” has been developed through case law and is deliberately broad, allowing the court to intervene where conduct departs from the standards of fair dealing between shareholders.
Key Legal Principles
In O’Neill v Phillips [1999], the House of Lords confirmed that unfair prejudice requires:
- conduct that is prejudicial to the shareholder’s interests; and
- that such conduct is unfair, judged by reference to equitable principles and the parties’ understandings
Importantly, the court emphasised that unfairness often arises where there has been a breach of legitimate expectations, particularly in quasi-partnership type companies.
Similarly, in Ebrahimi v Westbourne Galleries Ltd [1973], although a winding-up case, the House of Lords recognised that in closely held companies, relationships may carry equitable constraints akin to partnerships. Where those understandings are disregarded, the court may intervene.
Common Examples of Unfair Prejudice
The courts have recognised a wide range of conduct capable of amounting to unfair prejudice, including:
- Exclusion from management
Particularly where there was a mutual understanding that a shareholder would participate in management (see Ebrahimi) - Improper diversion of business or assets
Including situations where majority shareholders extract value to the detriment of others - Excessive remuneration
As highlighted in cases such as Re Halt Garage (1964) Ltd [1982], where payments disguised as remuneration were scrutinised - Failure to declare dividends
Where profits are retained in a way that unfairly prejudices minority shareholders - Dilution of shareholding
Particularly where shares are issued for an improper purpose
Each case is highly fact-specific, and the court will assess both the legal rights of the parties and the broader context of their relationship.
Remedies Available
The court has wide discretion under section 996 of the Companies Act 2006.
The most common remedy is:
- A buy-out order, requiring one party to purchase the shares of another, often at a value determined by the court
Valuation itself can become a significant area of dispute, including:
- whether a minority discount should apply
- the appropriate valuation date
- adjustments for unfair conduct
In many cases, the financial and operational impact of the dispute far exceeds the original issue.
Why Do These Disputes Arise?
In practice, shareholder disputes rarely arise from a single event. They tend to develop over time and are commonly driven by:
- Absence of a Shareholders’ Agreement
Without a clear contractual framework, businesses default to statutory provisions that are rarely sufficient for complex commercial relationships.
- Changing Contributions
As businesses evolve, the contribution of founders often diverges, but ownership structures remain static.
- Breakdown in Communication
Early-stage informality gives way to miscommunication and entrenched positions.
- Diverging Objectives
Differences between income extraction, reinvestment, and exit strategy can create fundamental tension.
The Commercial Impact of Disputes
Shareholder disputes are rarely contained to legal proceedings.
They can:
- Disrupt operations
- Undermine employee confidence
- Deter investors and counterparties
- Depress business value
By the time formal proceedings are issued, relationships are often beyond repair.
Managing and Preventing Disputes
While not all disputes can be avoided, many can be mitigated through:
- A robust shareholders’ agreement
- Clear governance structures
- Regular review of ownership and roles
- Early intervention when issues arise
Johnson & Boon Insight
The most difficult disputes are not those involving bad faith, but those involving misaligned expectations.
The legal framework provides remedies but it does not restore trust. The real value lies in identifying and addressing issues before positions become entrenched.
If your business involves multiple shareholders, it is worth considering whether your current arrangements would withstand pressure.
If not, addressing those issues early may avoid significant disruption later.
