Business Law
49% / 51% Shareholder Corporations: Avoiding Deadlock
Published: 06/07/2011
By Luke Woolford We have previously commented on key differences between the Canada Business Corporations Act (the "CBCA") and the Ontario Business Corporations Act (the "OBCA") that have important implications for corporations with two voting shareholders of relatively equal interest, often 49% / 51%. The risk of shareholder/director deadlock for these corporations is discussed in this commentary notwithstanding the apparently superior position of the 51% shareholder.
The CBCA and OBCA each contain requirements for corporations to validly constitute meetings of the directors and shareholders. These rules specify the number of directors and shareholders that must be present at a meeting in order for a quorum to be met and business properly transacted at the meeting. Each Act requires that at least twenty-five per cent of the directors of a corporation must be residents of Canada (or if the board has less than four members, at least one director must be a resident Canadian) and the requirements for validly constituting directors' meetings include the attendance of a Canadian resident director. These minimums cannot be overridden by the articles or by-laws, although the articles and by-laws may increase the thresholds to be met.
Directors’ Meetings
The CBCA provides that a majority of the directors or the minimum number of directors required by the articles of the corporation will constitute a quorum at any meeting of directors, provided at least 25% of the directors in attendance at the meeting are resident Canadians. If the corporation has less than 4 directors, at least one of the directors present at the meeting must be a resident Canadian. The threat of a board deadlock arises where one or more the required directors fails or refuses to attend meetings. This analysis assumes that each shareholder is entitled to one nominee on the board of directors. If the 51% shareholder has a right to nominate more directors than the 49% shareholder, the threat of a deadlock would be eliminated in favour of the majority shareholder.
Under the OBCA, as with the CBCA, the majority of directors or the minimum number of directors required by the articles of the corporation will constitute a quorum at any meeting of directors; however, unlike the CBCA, the OBCA mandated quorum cannot be less than two-fifths of the number of directors or minimum number of directors, as the case may be. This means that where a corporation has two directors, both directors must be present at any meeting of directors to constitute a quorum. Again, If the 51% shareholder has a right to nominate more directors than the 49% shareholder, the threat of a deadlock would be eliminated in favour of the majority shareholder.
Where the corporation has two relatively equal voting shareholders, the shareholders of a CBCA or OBCA corporation may enter into a unanimous shareholder agreement ("USA") with a view to addressing this directors’ meeting deadlock risk, but often for other reasons, by stripping the directors of their powers to manage the affairs of the corporation and vesting those powers in the shareholders. However, in entering into a USA, OBCA shareholders should be aware of a hidden deadlock trap.
Shareholders’ Meetings
For meetings of shareholders, the CBCA provides that a quorum of shareholders is present at a meeting of shareholders if the holders of a majority of the shares entitled to vote at the meeting are present in person or represented by proxy, irrespective of the number of persons actually present at the meeting. If a quorum is present at the opening of a meeting of shareholders, that is, if the 51% shareholder is represented, the shareholders present may, unless the by-laws otherwise provide, proceed with the business of the meeting, notwithstanding that a quorum is not present throughout the meeting. If a quorum is not present at the opening of a meeting of shareholders, the shareholders present may only adjourn the meeting to a time and place fixed by them, but may not transact any other business.
As a result, unless the by-laws of a CBCA corporation, or the provisions of a unanimous shareholders' agreement, override the provision of the CBCA that a quorum exists irrespective of the number of persons actually present at the meeting by imposing a higher standard, the CBCA avoids the threat of a deadlock arising from the failure or refusal by the 49% shareholder to attend shareholder meetings.
In contrast, the OBCA contains the same requirements as the CBCA for a shareholders' meeting quorum except that it does not contain the phrase included in the CBCA "irrespective of the number of persons actually present at the meeting" in describing the quorum requirement. A person cannot meet with himself, and a shareholder cannot “split” itself into two shareholders by granting proxies for part of its shares to another. As a result, the failure or refusal of the 49% shareholder to attend a meeting will result in a deadlock, with the majority shareholder left to apply to a court for relief. This should be viewed as a significant defect in the OBCA, and the CBCA should be the preferred incorporating statute for 49% / 51% (or like) shareholder corporations.
However, although not free from doubt, it may be possible for OBCA shareholders to address the deadlock problem by way of a USA in which the shareholders agree that: (a) a quorum for a meeting is as two or more persons present and representing, in person or by proxy, not less than 51% of the outstanding shares entitled to vote at that meeting; (b) if a quorum is not present at the time appointed for the meeting, the shareholder present may adjourn the meeting to a fixed time and place (but may not transact any other business) and give notice to the other shareholder of the time and place of the adjourned meeting; and (c) at any adjourned meeting, any one (or more) shareholder(s) then in attendance shall be deemed to constitute a quorum for the transaction of business at the meeting, provided that the person(s) in attendance at the adjourned meeting represent not less than 51% of the outstanding shares entitled to vote at the meeting. This approach relies on the assumption that shareholders can cure by contract the apparent impossibility that the attendance of a single person is, at law, a "meeting".
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