Dividend Payments and Protection of Minority Shareholders

Author:Andres Vutt
Position:Magister iuris, Lecturer of Civil Law, University of Tartu

1. Introduction - 2. Estonian law in force - 3. Estonian previous law and proposed amendments - 4. Law of other countries - 5. Future of Estonian law

1. Introduction

The minority protection is one of the central problems of company law. The objective of this article is to examine whether the Estonian law in force (above all, the Commercial Code 2 , CC) provides minority shareholders with efficient remedies, while the analysis also serves as the basis for formulating potential future solutions.

Contemporary company law presumes that the resolutions of shareholders are passed by a majority vote. Although the notion of the majority vote may have a different content, it in principle refers to a result in which case the persons holding more votes actually form the content of the shareholder's resolutions. There are exceptions to this principle, and for certain resolutions the law prescribes a bigger majority; however, the requirement does not apply to ordinary resolutions but issues on fundamental changes in the company (e.g., amendment of the articles of association, increase and reduction of share capital, merger, division, and transformation of legal form). As the objective of a company is to earn profit, then the distribution of profit is an ordinary resolution due to the nature of the company, and consequently it is essentially not allowed to impose a greater majority requirement on profit distribution resolutions by law. Yet the requirement does not prohibit imposing a higher majority requirement by the articles of association. It must also be taken into account that the imposition of a greater majority requirement by law must ensure that the company remains a going concern, so the requirement of a greater majority never means a 100% majority vote. 3

The requirement of a majority vote leaves always a possibility that the majority adopts a resolution based solely on their interests. The minority shareholders face the biggest risk from the fact that they are not protected by voting rights. Instead, the minority must depend on other legal strategies for protection, such as the sharing norms, rules and standards. 4 This concerns, above all, the fundamental rights of shareholders and may give rise to a question whether and to what extent the right to receive a dividend is a fundamental right of a shareholder. The dividend policy should be decided by every company and therefore the situations in which the company does not pay dividends are not excluded. There is basically no problem if the shares of the company are listed on a stock exchange, as in such a situation a shareholder is able to obtain profit and money by selling part of his or her shares, since (if to leave the general processes affecting the securities market aside) the share prices should increase when the company earns profit and does not distribute it to shareholders. However, the situation is different when the shares of the company are not listed because in that case, the shares are not marketable. 5 In this situation a shareholder does not have an opportunity to sell his or her shares, while the shares do not have an actual market price and as a result, it is not possible to say that the resolution not to pay dividends could increase share prices. In such a situation, the only potential buyer of the minority shares is, in practice, a majority shareholder, i.e., a person whose votes determine the position of the minority and consequently, there is no sales option that would give the minority an actual opportunity to benefit from the profit earned by the company. Considering these arguments, the special situation in Estonia has to be taken into account, as only few companies have been listed here 6 , and that fact has to be kept in mind when developing any provisions.

It is certainly another question, should the shareholders have at all any power to decide the payment of dividends, as the payment of dividends by a company to its shareholders should be determined by the management board's investment strategy. The management board should retain for the company only the capital that yields more against justified risks than the shareholders would be able to make elsewhere. 7 In principle, the payment of dividends does not to be decided by the general meeting, yet this does not affect the need to establish rules for the protection of the minority.

2. Estonian law in force

The payment of dividends is regulated by CC § 278, which sets out the following provisions:

- the amount of a dividend shall be approved by the general meeting (CC § 278, the first sentence);

- the management board shall present a proposal co-ordinated with the supervisory board (CC § 278, the second sentence).

CC § 277 (2) is also relevant; according to that, the procedure for payment of dividends shall be prescribed in the articles of association or by a resolution of the general meeting.

The first sentence of CC § 278 is essential, as it gives a power to make a decision on the size of the dividend clearly to the shareholders (the same is prescribed by CC § 298 (1) 7)). The only exception are interim dividends whose payment can be decided by the management board (§ 277 (3)). Since the possibility to pay interim dividends has to be provided by the articles of association, the management board does not derive that right automatically from law but gets it from shareholders. The payment of interim dividends is rather an exception.

CC § 278 does not allow different interpretations regarding the powers of company organs. The payment of dividends is the power of the general meeting and the only limitation that may give rise to questions is the legal effect of the management board's proposal. Firstly, it is probably not entirely correct to refer to the proposal as the management board's proposal, as the requirement that the proposal has to be co-ordinated with the supervisory board implies that the proposal must also be approved by the supervisory board. As co-ordination is a rather ambiguous notion from the legal point of view, it should be understood that if the supervisory board does not agree to the management board's proposal, the management board must draft a new proposal. Otherwise, the requirement that the proposal presented to shareholders has to be co-ordinated by the supervisory board is not met. It must be noted that the sole requirement in law is that the management board's proposal has to be presented to the general meeting. Therefore, the proposal has no legal effect and the corresponding provision has to be interpreted in the way that the management board's proposal is only informative. It gives the shareholders the information about the potential investment plans of the management board, of their vision for the dividends, etc., but the proposal does not impose any restrictions on the resolution of the shareholders.

It can be concluded that the general meeting is free to decide any amount of the dividends, while the only upper limit is the general amount of permitted distributions (the third sentence of CC § 278, which directly derives from Article 15 of the 2nd company law directive 8 ). However, such regulation also means that the law does not prescribe the minimum dividend but leaves the decision on the size of a dividend entirely up to the shareholders. The resolution to pay dividends is an ordinary resolution requiring that over one-half of the votes represented at the meeting are given in favour (CC § 299 (1)). The size of a dividend is therefore determined by the majority shareholders votes and there is not any restriction.

It could be asked whether it is possible to prescribe the size of a dividend in the articles of association. The formative freedom of the articles of association is limited by the imperative provision of law (CC § 244 (2)). Consequently, the question is: Does the first sentence of CC § 278 contain an imperative provision or not? The text of the provision does not allow for any interpretations regarding other solutions, which gives good grounds to regard the provision as imperative. In...

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