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Minority Shareholders Rights in Illinois Closely Held Corporations and LLCs Explained

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The purpose of this article is to explain the rights and remedies under Illinois law afforded to minority shareholders of Illinois corporations and LLCs.  Let’s start by defining the terms “minority shareholder” and “closely held corporation.” ​

What is a Minority Interest in a Corporation or LLC Under Illinois Law?

A minority interest in a Corporation or LLC is a shareholder of a corporation or a member of LLC who does not control the operations of the business.  In practice, a minority shareholder is generally anyone who owns less than 50% of the shares of the company, and therefore does not have voting power over the company’s decisions.

What is a Closely Held Corporation?

A corporation is considered a “closely held corporation,” also known as “close corporation,” if its articles of incorporation state that it is being organized as a closed corporation, and if its bylaws or other governing documents prevent it shareholders from freely transferring their shares to third parties. Close corporations provide greater remedies to minority shareholders than typical corporations.  Voluntary termination of close corporation status requires a vote of at least two-thirds of the shareholders, unless the corporate documents require a greater voting percentage.

What Special Rights and Remedies do Minority Shareholders of Close Corporations and LLCs Have in Illinois?

The rights of minority shareholders include: (1)  rights to notice and voting at shareholder meetings; (2) rights to access business information; (3) remedies for breach of fiduciary duty by the individuals controlling the company; (4) statutory remedies for situations in which the controlling individuals are oppressing minority shareholders; (5) the right to dissent and receive payment for shares in certain situations; (6) and the right to maintain a derivative action to sue for harm done to the company.  Below, we will discuss each of these rights and remedies in detail.

(1) Minority Shareholders’ Rights to Notice and Voting at Shareholder Meetings

Shareholders with voting rights in a corporation have a right to advance notice of shareholder meetings.  Shareholders also have a right to have an “inspector” attend these meetings.  An inspector is an individual charged with making sure that voting is conducted properly and the proceedings are fair, proper, and impartial.  Shareholders can use the courts to require that an annual meeting of shareholders be held if an annual meeting has not been held within either 6 months of the end of the corporation’s fiscal year or 15 months after the last annual meeting, whichever is earlier.  

(2) Minority Shareholders’ Rights to Access Business Information

Shareholders of corporations are entitled to access to certain business information and records if they are requesting such information or records for a “proper purpose.”  The term “proper purpose” has been given a broad definition by the courts.  Basically, the shareholder’s purpose must be an honest effort to protect the interests of the corporation or the shareholder seeking the information, as opposed to a “fishing expedition” or mere curiosity.  Proof of mismanagement or wrongdoing by the directors is not necessary.  All that is needed is a good faith fear of mismanagement.  

At a minimum shareholders have a right to the company’s books and records of account, meeting minutes, and a record of shareholders.  “Books and records of account” is a term of art that has been broadly interpreted by the courts.  If the shareholder can show a proper purpose, the shareholder will have the right to review all corporate records necessary to derive any information necessary to the shareholder’s investigation.  

If a shareholder has a proper purpose and wishes to demand information or records, the shareholder is required to make a demand upon the corporation that states specifically which records the shareholder is seeking and the purpose of the shareholder’s investigation.  If the corporation does not comply with the request, the shareholder has the right to file suit to compel the company to allow the shareholder’s examination.  

If the shareholder is seeking to review the corporation’s “books and records of account,” the shareholder bears the burden of establishing that the purpose is proper.  Conversely, the burden is on the corporation to prove that the shareholder lacks a proper purpose if the shareholder is seeking to review the corporation’s meeting minutes or shareholder list.   

The Illinois Business Corporation Act provides that any officer or agent of a corporation that wrongfully refuses to allow the shareholder to inspect corporate records will be liable to the shareholder for a penalty up to 10% of the value of the shareholder’s shares, in addition to any other remedies available to the shareholders.  

In addition to the broader right to review books and records of the company if a proper purpose is established, shareholders have the right to receive the corporation’s balance sheet and profit and loss statement from the previous fiscal year by mail within 14 days of the shareholder’s request.

(3) Breach of Fiduciary Duty  

Directors and officers of a corporation have a fiduciary duty to the shareholders of the corporation, managers of a member-managed LLC have a fiduciary duty to the members of the LLC, and all members of a member-managed LLC have a fiduciary duty to one another.  These corporate and LLC fiduciary duties include the duties to act in good faith, to act honestly, to disclose material facts, and to not engage in self-dealing or otherwise use the individual’s position to further personal interests at the expense of the other shareholders, members, corporation, or LLC.   

In Illinois, majority shareholders in a closely held corporation owe a fiduciary duty to minority shareholders.  Majority shareholders are required to deal fairly with minority shareholders and not oppress their rights.  Similarly, most courts have found that two 50% shareholders in a closely held corporation hold a fiduciary duty to one another.  The case law is unclear as to whether minority shareholders might also have a fiduciary duty to other shareholders.

If a majority shareholder, director, officer, manager, or member fails to act with good faith, honesty, candor and loyalty, this constitutes a breach this fiduciary duty and creates a cause of action for which shareholders and members can sue for damages.  

(4) Remedies for Oppression of Shareholders

The rights provided for oppression of shareholders differ based on whether the company is a corporation or an LLC.  The Illinois Business Corporation Act provides twelve specific remedies that can be sought if one of four specific situations comes into play.  The four situations are as follows:

  1. The directors are deadlocked in the management of corporate affairs and the shareholders are unable to break the deadlock;
  2. The shareholders are deadlocked and have failed for at least 2 annual meetings to elect successors to directors whose terms have expired;
  3. Those in control of the corporation are acting in a manner that is illegal, oppressive, or fraudulent;
  4. The corporation’s assets are being misapplied or wasted.  

If any of these situations occur, the court is empowered to order the following remedies, in addition to any other remedies that may be available:

  1. Performance or setting aside of any action of the corporation;
  2. Alteration of the corporation’s articles of incorporation or bylaws;
  3. Removal of directors or officers;
  4. Appointment of directors or officers;
  5. Ordering an accounting;
  6. Appointment of a custodian to temporarily manage the corporation;
  7. Appointment of a provisional director to temporarily serve;
  8. Submission of a dispute to mediation or non-binding arbitration;
  9. Payment of dividends;
  10. Award of damages to an injured party;
  11. Purchase by the corporation of all of the shares of the petitioning shareholder;
  12. Dissolution of the corporation if no other remedy is sufficient to resolve the dispute.  

In determining which of these remedies to apply, the court may consider the reasonable expectations of the shareholders at the time the corporation was formed and as they developed during the course of time.  

The Illinois Business Corporation Act does not define the term “oppression,” but it is clear that an act need not be illegal or fraudulent in order to be oppressive.Members of LLCs have the right to sue to:

  1. ‍Enforce the members’ rights under the operating agreement;
  2. Enforce the members’ rights under the Illinois LLC Act; and
  3. Otherwise protect the rights and interests of the member.

While the Illinois Business Corporation Act provides 12 specific remedies for oppressive behavior by the controlling interests of a corporation, with dissolution being the last resort, the LLC Act merely provides for dissolution of the LLC in cases where the controlling interests have acted illegally, fraudulently, or oppressively.  

Shareholders’ Right to Dissent

In the following situations, a minority shareholder of a corporation has the right to register dissent from a corporate action and receive payment for the fair value of his or her shares:

  1. Mergers and consolidations, in certain circumstances;
  2. Certain specific alterations to the articles of incorporation that adversely affect the shareholder; and
  3. Any other situation in which the corporate documents specifically provide for shareholders’ dissent.

Shareholders’ Right to Sue on Behalf of the Corporation in a Derivative Action

A shareholder may file suit on behalf of the corporation through a mechanism called a “derivative action” when the shareholder has no personal right of action against a third party that has indirectly injured the shareholder by wronging the corporation. For example, in a closely held corporation, if one shareholder misappropriates corporate assets, the other shareholder must bring suit through a derivative action on behalf of the corporation rather than as an individual, because it was the corporation that was directly injured, not the individual. A derivative action is brought in the name of the corporation, rather than the shareholder’s individual name. If derivative actions are successful, shareholders maintaining the action are often permitted to recover their attorney fees.In order to maintain a derivative action, the shareholder must be able to show that he or she first made a demand upon the corporation for action that was denied, or that such demand would have been futile.  

Presented By O'Flaherty Law

O'Flaherty Law is happy to meet with you by phone or at our offices in Downers Grove, Elmhurst, Naperville, St. Charles, Lake in the Hills and Tinley Park, Illinois.

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