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Excluded minority shareholders and the fate of the first penguin

When penguins decide to jump into the water where the predators could lie in wait, one of them is always the first one to jump... so the others could safely jump in after him.

As in life in general, there are cases in law that require “a first penguin” in order to achieve a certain objective. Someone who, unlike the others, is willing to take the initiative and the risks for him and the others to benefit from it.

One of those cases in law are judicial proceedings for the determination of an appropriate compensation for minority shareholders that were unilaterally, in return for a certain monetary compensation, excluded (squeezed out) by the major shareholder (the one with at least 90% of the share capital) from a joint stock company. This kind of proceedings begin with a timely proposal of at least one of the excluded shareholders who believes the compensation for forcibly expropriated shares was not appropriate. The other excluded shareholders that are passive are represented by a joint representative appointed by the court. Since the decision on determination of an appropriate compensation also affects them, the applicant’s success is also the success of all excluded shareholders.

The excluded shareholder initiating the abovementioned proceedings jumps into hostile waters. These judicial proceedings are one of the most complex (the legislator was already aware of it, therefore twice as long deadline for appeal and reply is stipulated in comparison with commercial disputes). They concern not only the matters of law, but also business valuation, accounting, finance and auditing. For an common excluded shareholder who usually does not have the necessary skills in all these areas and is economically and informationally mostly a weaker party, such proceedings represent a severe burden, while the result is unpredictable.

The above mentioned proceedings represent a risk for the main shareholder too, since a failure could cause him considerable financial implications. The main shareholder can control this risk in particular by basing the offered compensation on a quality assessment of the target company value, asn assessment that would not leave any possibility for rebuttal. Such assessment must be sufficiently comprehensive, transparent, understandable, persuasive, logical and consistent. The calculation assumptions used and the input data must be objectively verifiable. The better the quality of the valuation, the less likely the squeezed out shareholders will initiate legal proceedings, and even less likely will they succeed in those proceedings. This likelihood can be further reduced by a review performed by a legal professional experienced in this kind of judicial proceedings. An additional safeguard is the statutorily stipulated review of the adequacy of the offered compensation, carried out by a court appointed auditor.

It is quite obvious that the success standards are set very high for the squeezed out shareholders who claim an additional compensation in such proceedings. And it is a right thing to be so, since the proceedings of determining an appropriate compensation are not and should not be a gamble. In order for the applicant to succeed, he must submit clear, well substantiated and convincing professional arguments. To be able to do that, he will usually need the assistance of a lawyer, and sometimes he will also have to engage a business valuation expert. All that represents a noteworthy cost burden. And it is not to be expected from the other (passive) shareholders to voluntarily share this burden with him.

One way or the other, the applicant will be more or less on his own in these proceedings. Even if the court appoints a joint representative (a lawyer, an auditor or a notary) for the other excluded shareholders, one should not expect him to take more active or even leading role. This is mainly for two reasons: because he represents passive shareholders and because – unfortunately – the fees acknowledged by the court for joint representatives’ work are (too) low, and that deters them from a greater engagement.

To actively participate in these proceedings, the applicant, resp. the “first penguin” is already in theory required to be equipped with quite some courage, boldness and ultimately confidence in the judicial system. And how does it work in practice?

Let me tell you a story of a gentleman who was excluded from a joint stock company together with many other minority shareholders. He was the only one prepared to fight and thus initiated the judicial proceedings of determining an appropriate compensation. Firstly, after many years of fight that went all the way to the Supreme Court of the Republic of Slovenia, he succeeded to convince the court to begin to interpret the law – in contrast to the courts’ previous positions and the opinions of eminent professors – in accordance with the EU law and to even allow a substantive deliberation of his proposal. Then, after eight(!) years he succeeded in persuading the court that a fair compensation is almost 60% higher than the one offered to the squeezed out shareholders. In total, he “earned” almost 1.5 million EUR of additional compensation for the expropriated shares.

Until here, things would have been more or less well and good, if the court had not decided that this same gentleman, despite such an outcome, was not entitled to the reimbursement of his legal costs. And all this despite the fact that under the law, the court is empowered by law to impose on the main shareholder the reimbursement of costs if a significant deviation from the compensation offered by the main shareholder is established in the proceedings. By the way, in another case the court decided that 96.43% represent a significant deviation. The case is currently in the hands of the Constitutional Court of the Republic of Slovenia.

To crown it all, the aforementioned gentleman must stand aside and observe the passive excluded shareholders enjoying the benefits from the success achieved thanks to his determination, courage, perseverance, patience, and finally his financial assets, while he must cover the costs himself. Who would have thought that our legal system does not allow the costs of the applicant, in the event of success, to be proportionately shared among all the squeezed out shareholders.

This is an illustrative example of the Slovenian (legal) environment being unfavourable to those who are willing to expose themselves and take risks. Will the courts and, ultimately, the legislator realize that this way they are depriving all those minority shareholders, who may suffer damages in case of future squeeze-outs, of the much needed courage?