Selling Shares: Top 5 Costly Mistakes
Shares represent a company’s equity ownership divided up into units. Shareholders own a percentage of a company in proportion to the shares they purchase. The sale of shares – or ‘stocks’ – dilutes a company’s ownership across multiple shareholders.
A share purchaser with voting rights may influence a corporation’s management. Further, depending on their shareholdings, shareholders might also have a deciding vote on major corporate decisions.
However, having the ability to impact major corporate decisions also carries potential liability. A shareholder or corporation’s failure to comply with their statutory and contractual obligations may lead to expensive and exhausting litigation. You should be especially conscientious when selling shares to new or existing shareholders.
The five common mistakes to avoid while selling shares are:
- Proceeding without proper share valuation;
- Misrepresenting the business’ financial health;
- Ignoring the confidentiality aspect of the transaction;
- Ignoring the minority shareholders’ interests; and
- Not seeking legal counsel.
This article will explore these potentially costly mistakes and explain what you can do to avoid them. It will also explain the benefit of having an experienced lawyer to assist with your share transaction.
Proceeding Without Proper Share Valuation
Before selling a company’s shares, it is crucial to evaluate its share price. If the quoted share price is too high, it may discourage potential buyers from investing. On the other hand, quoting an extremely low share price may cause a company’s devaluation.
The information about the share price of a publicly listed company is usually available on the relevant stock market. The share price may fluctuate based on the market forces and future prospects of the company. However, the current share price of a public company usually reflects the amount people are willing to pay to buy its shares.
On the other hand, the calculation of the stock price of a private company can be tricky. A person looking to determine the share price of a private company should get a professional appraisal of the business to evaluate the shares.
A professional business valuator can objectively estimate the company’s value. They analyze the company’s management, capital structure, assets’ fair market value, and future earnings prospects to determine its value. A professionally evaluated share value assures the buyers of the viability of their investment.
Misrepresenting the Business’s Financial Health
A business’s financial health refers to its economic well-being. A company’s financial health impacts its capacity to generate profits and grow. A financially healthy business can retain clients, have a good inventory, invest in new ventures, and maintain its ability to make a profit.
For this reason, every buyer enquires about the company’s financial health before buying a stake. They expect the company’s financial statements and business records to accurately depict its financial health.
A buyer should perform their due diligence before making any share purchase. They must review a company’s financial statements before investing to verify its financial situation.
A company or shareholder undertaking a stock sale should be cautious while making any representations regarding the business’s financial health. However, dishonest sellers are not generally protected from liability for intentional false statements a buyer relies on to make the purchase.
Misrepresenting the business’ financial health may increase the shares’ selling price. However, a seller who deliberately misrepresents a company’s financial statements by exaggeration or omission may be liable for fraud or negligent misrepresentation.
Financial statement fraud exposes the seller to civil and criminal liability. It may also cause reputational damage to the business. For this reason, a seller should answer the purchasers’ queries truthfully and give them an accurate picture of the business’s financial health.
Ignoring the Confidentiality Aspect of the Transaction
In a share purchase transaction, the seller discloses sensitive business information to the buyer. The confidential information includes but is not limited to the business’ revenue projections, financial statements, information about management and ownership, and debts and liabilities.
The disclosure of confidential information without permission may harm the seller’s business and reputation. For instance, if the buyer is a business competitor, they might use the seller’s confidential information for private gain. For this reason, a seller should insist on the buyer signing a confidentiality agreement before revealing private information.
If the potential buyer misuses, abuses or discloses the confidential information without written permission, the seller may sue them for breach of confidence and a breach of contract. A successful claim entitles the injured party to damages. The aggrieved party may also request an injunction to prevent further use of confidential information.
Not Considering Minority Shareholders’ Interests
Minority shareholders own less than fifty percent of a company’s shares. Since a company makes its decisions based on the majority rule, the minority shareholders’ limited stake puts them in a vulnerable position. They must rely on the judgment, good faith and competence of the controlling shareholders and the board of directors.
Ontario’s Business Corporations Act (OBCA) and the federal Canada Business Corporations Act (CBCA) protect the interests of minority shareholders. Both statutes contain remedies to ensure the company or the majority shareholders do not overlook the minority’s rights. One such remedy is ‘shareholder oppression’.
The oppression remedy allows a complainant to challenge a corporate action or abuse of corporate power that is oppressive, unfairly prejudicial, or unfairly disregards the complainant’s interests.
A minority shareholder may challenge a stock sale using the oppression remedy. The court has broad discretion while fashioning the appropriate remedy in shareholder oppression cases, including but not limited to:
- Canceling the share sale transaction;
- Awarding damages to the aggrieved shareholder;
- Ordering investigation into the company’s affairs; and
- Forcing the company to buy the complainant’s shares.
Ignoring the minority shareholders’ interests while selling stock could be severe for the seller. For this reason, the seller should address any minority shareholders’ concerns before finalizing any share sale transaction.
Not Seeking Legal Counsel
A sale of shares is as much a legal transaction as it is financial. The legalities of a share purchase transaction can be overwhelming and confusing for any self-representing party.
The chief legal officer (CLO), commonly referred to as general counsel, oversees a company’s legal department. They report to a company’s chief executive officer. The CLO’s job description includes ensuring the board of directors complies with the legal and regulatory requirements. They advise the company regarding ongoing and potential shareholder disputes.
The CLO assists the in-house legal team in drafting, negotiating, and reviewing commercial contracts. They also help the senior management reduce the future litigation risks of the various corporate transactions. Therefore, companies that hire a CLO are better positioned to negotiate a share purchase agreement on favourable terms.
Even without a general counsel, a seller undertaking a stock sale should consider hiring a lawyer. A lawyer can help with the legal formalities of the stock sale. They can verify the documentation, negotiate on the seller’s behalf, and help deal with various legal issues.
Further, a commercial litigation lawyer can help the seller defend an oppression claim filed by a shareholder aggrieved by the stock sale.
Shareholder oppression claims are riddled with complexities and technicalities. A commercial litigation lawyer is a trained legal expert in navigating the legal system. They can use their knowledge of the law and the legal processes to help you defend a share sale in court.
Conclusion
A stock sale is one of the major corporate transactions undertaken by a company. The five mistakes described above are only some of the pitfalls of undertaking a share transaction. A complicated sale of shares may lead to more severe and costly mistakes.
A business lawyer can negotiate with the other side and ensure your rights are protected throughout the process. They can use their knowledge and advocacy skills to help you litigate a dispute. No matter how you look at it, consulting and retaining a lawyer early in the process lowers your risk of making mistakes.
Contact Us
If you want to sell your shares in a corporation and need any help with the transaction, our team of experienced business lawyers at Achkar Law can help. Contact us by phone toll-free at +1 (800) 771-7882 or email us at [email protected], and we would be happy to assist.
