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Corporate Governance

Essay by 24  •  January 13, 2011  •  1,770 Words (8 Pages)  •  994 Views

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MINORITY ACTION AND DIRECTOR REMOVAL

Under the English law, the removal of directors can take place by ordinary resolution in the annual general meeting, which requires simple majority vote. As stated in the Jensen case, however, Mr. Ronald is a director for life and in order to displace him it would be necessary to change the corporate articles that guarantee such perpetuity . Changes in the articles of the company require a special resolution, which means a voting majority of 75%. As the holding company became the majority shareholder after the take over, such action is then very unlikely to succed through such procedure.

Since there are several original shareholders -which constitute the minority that wants to take action- a suitable legal procedure to be taken in first instance is class action or representative action. Such legal resource works as a collective action where the personal rights of a large group, -the several shareholders- are represented by few or a single person. Thus, with the consent of the court, such minority representant(s) could promote a derivative action by suing Mr. Ronald on behalf of the company. In this action the company will not be the claimant, which constitutes an exception, and any proved damages will be payed out to the company.

Generally speaking, -according to corporate law- the firm directors are under obligation of acting in good faith and for the benefit of the company as a whole. Among the seven directors’ duties (Gubby, 2007, page 231), the minority could claim breach of at least four duties in this particular case: (1) duty to promote the success of the company, (2) duty to exercise independent judgment, (3) duty to exercise reasonable care, indiligence, and (4) duty to avoid conflict of interest.

Although the likelihood of removing Mr. Ronald by ordinary resolution is very low, given the necessity of having a majority vote to change the firms articles to make him displaceable, some other legal procedures can be promoted by the minority shareholders.

LEGAL PROCEDURES AGAINST DIRECTORS

In the Jensen case it is obvious that there exists an agency problem, as the board of directors does not act in the interest of the shareholders. The latter have the residual returns, but not the residual control, which can lead to problems when there is a conflict of interests. However, there are many details that are not included in the case, so every possible scenario has to be examined. For example, it is possible to claim that there has been a breach of fiduciary duties by Mr. Roland and the damages will be awarded to the company if the court considers such breach to be true.

We take for granted that Mr. Roland knew that the selling price of the mine was extremely low. That is a case of adverse selection due to moral hazard, as Mr. Roland was named director, but did not act in the benefit of the company, in full awareness. There are many similar cases like Bentley Vs Craven (1853), Percy Vs Mills (1920) and Cook Vs Deeks (1916). Moreover, the case of Neptune Vs Fitzgerald (1995) requires that if Mr. Roland knew more than the other members of the board (information asymmetry) he should have disclosed it to them.

On the other hand, if Mr. Roland did not know that the price was too low there are two possible explanations: either he was negligent, or he wanted to cut information cost and trusted Mr. Jameson. Of course, there probably was information asymmetry, as the latter knew who owned the buying company. Either way, Mr. Roland is to be held liable because he did not act as reasonably expected of him. As far as Mr. Jameson is concerned, it is possible to take him to court, because in Law, the director does not require any formal qualification. Therefore, Mr. Jameson can be accounted as a shadow director.

At the other end of the spectrum, a natural person can be excluded of the case, if and only if, he/she can prove that although he/she held the “director” title, no decisions were taken by that person. Consequently, the three non-executive directors may claim to be innocent, as they did not actually participate in any decisions (Kenning case in 1998). However, they can be accused of neglecting their duties, as they should have revised the decisions the board took.

AGENCY PROBLEMS

The so called �agency problem’ is based on conflicting interests of two parties or in other words on the dependence of one party, the principal, on the actions of another party, the agent. The problem is that the agent is usually advantaged by having better information than the principal. Therefore, the principal has to make sure that the agent acts in the principal’s interest rather than in his own personal interest.

Kraakman et al. (2004) mentions three types of agency problems. This is, firstly, between the firm’s managers and its owners. In this case, the firm’s owners have to ensure that the managers who control the firm on a day-to-day basis act in the owner’s will instead of following their own interests. Secondly, there is an agency problem between various shareholders, specifically those that own the controlling stake in the company and the other non-controlling owners. Here the conflict lies in assuring that the majority shareholders do not expropriate the minority shareholders. Thirdly, an agency problem arises between the firm and its owners and other parties. These can be creditors, customers, employees or simply the firm’s environment. This conflict lies upon the possibility of the firm not behaving ethically towards the other parties involved.

AGENCY PROBLEMS SOLUTIONS

There are several ways to counter the agency problem. Aside from legal protection, the principal’s investment remains protected from the agent through the following mechanisms: manager contracts with incentives, take over, leveraged buy outs, leverage, board monitoring, shareholder activism and block holding.

The first mechanism, manager contracts with incentives, attempts to tie the manager’s salary to the profit of the company. Thereby aligning the manager’s interest with the shareholder’s interest. Shleifer and Vishny describe several forms of variable pay, these include share ownership, stock options, and/or threat of dismissal when income is low (1997).

Another mechanism is the take over in which ultimately ownership becomes more concentrated. The process is as follows, there is a bidder who makes an offer to various minority shareholders

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