Singapore: Shareholder Activism And How It May Affect Your Loans – A Practical Guide For Lenders

Last Updated: 15 November 2016
Article by Prakash Raja Segaran
Most Read Contributor in Singapore, October 2017

This article is intended to guide lenders on the key issues to consider when dealing with a corporate with multiple shareholders.

The relevance of shareholders when dealing with a company

Company law dictates that there be a separation of ownership and control and distribution of powers within a company. Simply put, the shareholders are the owners of the company, and the directors, the managers. Since the shareholders and directors play separate roles in the company, shareholders cannot interfere with or supervise the board of directors in their exercise of powers unless the company's constitutional documents or the law allow them to do so. Thus, where directors act within their management powers, a majority of members cannot override the decision of the board.

What then happens when shareholders, including minorities, attempt to exert influence and pressure on the company to take their interests into account? In light of the growing trend of shareholder activism in Singapore, it is helpful for lenders to be mindful of the rights of shareholders, when extending a loan to a company.

Concept of "commercial benefit" – when is it relevant?

"Acting in the best interests of the company" typically means that the directors must engage in business decisions for the commercial benefit of the company. However, because different stakeholders in the company tend to have different interests at any same point in time, the definition of "commercial benefit" will vary accordingly. For example, shareholders are typically more concerned with profit maximisation, while the directors may be focusing their attention on other business decisions, such as corporate social responsibility. These may not be profit maximising, but can still be considered to be in the company's commercial benefit.

While directors are given wide discretion in their decision-making powers, they are still under a fiduciary duty to act bona fide in the best interest of the company. Where a director can prove that his or her conduct was done bona fide in the best interest of the company, the Singapore courts tend not to interfere with, or second guess, his or her business judgment, even if it results in a loss to the company or the shareholders.

It is good practice for lenders to independently assess whether a transaction would objectively be in the best interests of a company, taking into account the benefits to the company itself. Where there are concerns that a transaction may not be in the best interests of a company, it is prudent to have all shareholders approve that transaction. This will prevent shareholders from subsequently challenging the transaction for want of commercial benefit. This, however, does not cure or rectify the absence of commercial benefit, and where a transaction is found to be lacking in commercial benefit it may be susceptible to challenge (e.g. as a transaction at undervalue), particularly by a liquidator, judicial manager or creditors of the company, in insolvency proceedings.

What types of lending / financing transactions require specific shareholder approvals?

Under the Companies Act, there are certain transactions in which the board of directors cannot act without shareholders' consent in a general meeting.

(a) Section 76 financial assistance

Under section 76 of the Companies Act, public limited companies and their subsidiaries are subject to the prohibition on financial assistance, and shareholder approval is required to whitewash the financial assistance. Financial assistance here refers to the provision of assistance (whether through loan, security, guarantee or otherwise) by a company for the purpose of, or in connection with, the acquisition by any person of shares in that company or shares in its holding company.

(b) Section 163 transaction

Under section 163 of the Companies Act, Singapore-incorporated companies (other than exempt private companies) generally cannot grant a loan or enter into a guarantee or other forms of security to their directors or to companies which their directors (or their family members) have at least a 20% interest in, and which are not subsidiaries or which do not fall within the same corporate group, unless shareholder approval is sought and obtained at a general meeting.

(c) Guarantees and third-party securities

While it is generally within the powers of a company's directors to approve the entry into guarantees and third party securities (i.e. securities which secure liabilities of a third party borrower, typically a parent or a subsidiary of the company), it is good practice to obtain shareholder approvals to address the commercial benefit issue discussed above.

Of particular concern are (a) "upstream" guarantees or securities, from a subsidiary or sister company in support of its parent's or sibling's borrowings, especially where monies borrowed are not channelled to the subsidiary; and (b) guarantees or securities given by a company in support of a borrower which is not a subsidiary or holding company (for instance, a company which holds a minority interest in a borrower). Commercial benefit may not be easy to identify in such transactions.

(d) Restrictions within the company's constitution

Lenders should be mindful of possible restrictions contained within the company's constitution which would require shareholder approval before the company can carry out a transaction. For example, the company's constitution may contain a restriction on the giving of loans or security unless shareholders have given their consent.

(e) Contractual restrictions

Restrictions may also exist in separate contracts such as joint venture agreements or shareholder agreements between the members inter se. These are additional obligations between members which go beyond the company's constitution. These contractual agreements may contain restrictions which, again, may require one shareholder's approval or similar consent to be given before the company can carry out a transaction. Lenders should review the terms of these contracts, particularly if they are put on notice to their existence.

What can an aggrieved or activist minority shareholder do?

Where a minority shareholder's interests are prejudiced, the following remedies may be available:

(a) Derivative action

In most situations, the decision of whether a company should sue can be easily resolved through the normal corporate decision-making process, which is generally a management decision. However, there may arise a situation where there is a breach of directors' duties or the wrongdoing directors are the very persons in the company who wield the power to decide whether or not the company should move against them. This presents an obvious conflict of interest, which may be aggravated when the wrongdoing directors are also the controlling shareholders, such that they can effectively forestall the company from suing. Thus, derivative action is the procedural mechanism for a minority shareholder to force the company to pursue a claim which it foreseeably wouldn't otherwise pursue under such circumstances. In Singapore, this mechanism exists both statutorily, under section 216A of the Companies Act, and at common law.

(b) Action for minority oppression

The minority shareholder can also bring a claim under section 216 of the Companies Act for minority oppression. If the minority shareholder can prove that the conduct of the company offends the standards of commercial fairness and is deserving of intervention by the court (for example, an abuse of voting powers or exclusion from management), the court can order for a remedy as it deems fit to put an end to the oppression. Such remedies include buyout orders, damages, and possibly even winding up.

The court is generally not keen to wind up a healthy company on grounds of oppression unless no other option is available. Winding up orders may be granted where the company has been severely mismanaged, where parties have no intention to continue running the company, or where the company has insufficient resources to buy out the minority.

(c) Just and equitable winding up

Under section 254(1) (a) of the Companies Act, members can choose to wind up the company voluntarily via a special resolution. For minority shareholders which do not have the voting power to secure the special resolution required under section 254(1) (a) of the Companies Act (by virtue of being minorities), they can seek a just and equitable winding up under section 254(1) (i) of the Companies Act.

Some circumstances where it would be just and equitable include where there is a deadlock in management, or where the Company is no longer able to fulfil the purpose for which it had been established. However, as with winding up on the grounds of oppression, the court may not be keen to utilise this mechanism unless absolutely necessary.

Conclusion

Lenders should be mindful when dealing with a company that the interests of its shareholders (including minorities) need to be taken into account. While the remedies available to shareholders may not necessarily affect lenders or the financing documents directly, disgruntled shareholders may still prove disruptive to a borrower's business, and consequently the lenders' interests, in the long term.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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