Canada: Oppression In The Context Of A Closely Held Corporation: SCC Weighs In

In Mennillo v. Intramodal inc., the first oppression remedy case to reach the Supreme Court of Canada (SCC) since BCE Inc. v. 1976 Debentureholders, the SCC provided clarity on how the oppression remedy operates within closely held corporations and what will and will not be considered oppression under the Canada Business Corporations Act (CBCA). Blakes represented the appellant in the SCC.

BACKGROUND

Mr. Mennillo, the appellant, and Mr. Rosati were the sole shareholders and directors of Intramodal, a transportation company they set up in 2004. Mr. Mennillo held 49 shares, while Mr. Rosati held 51. Mr. Mennillo contributed the funds to start up the business while Mr. Rosati brought his skills and expertise.

On May 25, 2005, Mr. Mennillo resigned as director and officer of the company and signed a resignation letter to that effect. A number of months later, Mr. Rosati unilaterally adopted a resolution, backdated to May 25, 2005, by which Intramodal purportedly approved a verbal transfer of all of Mr. Mennillo's shares to Mr. Rosati. Mr. Mennillo never signed any document evidencing such a transfer, never endorsed his share certificate for that purpose, and was unaware of the backdated resolution.

The money advanced by Mr. Mennillo to Intramodal was repaid in its entirety between July 2006 and December 2009. It was not until the final payment was received in 2009 that Mr. Mennillo discovered that he was no longer an Intramodal shareholder. In September 2010, he commenced an oppression action against Intramodal to cancel the backdated resolution and be reinstated as a 49-per-cent shareholder. He argued that he was unlawfully removed from the list of shareholders and that he was frozen out of the corporation in a manner that was oppressive.

The trial judge considered the case a matter of credibility. According to the judge, an essential consideration of Mr. Mennillo becoming a shareholder of Intramodal was his (verbal) agreement to guarantee the company's debts. The judge found that when Mr. Mennillo resigned as a director in May 2005, he also informed Mr. Rosati that he was no longer willing to guarantee the company's debts, and thus agreed to transfer his shares to Mr. Rosati.

Mr. Mennillo appealed, denying that any such verbal transfer of shares ever occurred and adding that, in any event, it would be null and void for all legal intents and purposes because, under both corporate law and Quebec civil law principles, this alleged share transfer agreement was never evidenced in writing. The Quebec Court of Appeal doubted that any such verbal transfer of shares occurred, yet it dismissed Mr. Mennillo's appeal, finding that he and Rosati would have agreed in May 2005 to "retroactively cancel" the initial issuance of Mr. Mennillo's shares.

DECISION

The SCC was unanimous in dismissing the Court of Appeal's conclusion that Messrs. Mennillo and Rosati verbally agreed to retroactively cancel the issuance of shares to Mr. Mennillo. It is not possible, the SCC ruled, to retroactively cancel an issuance of shares by way of a verbal agreement. An issuance of shares may only be cancelled by amending the corporation's articles or by the corporation formally purchasing its shares by way of a resolution of the directors, an express consent of the shareholder, and by meeting the applicable solvency and liquidity tests. The statutory requirements regarding the maintenance of share capital are not optional, given that the share capital is the common pledge of the creditors.

That said, the majority of the SCC found that there was no overriding and palpable error in the trial judge's findings of fact. Thus, the SCC accepted that a verbal agreement was entered into between Messrs. Mennillo and Rosati whereby Mr. Mennillo only remained a shareholder so long as he agreed to guarantee the debts of Intramodal, that Mr. Mennillo did not wish to remain a shareholder in 2005 and that, as such, he could have had no reasonable expectation that he would.

On Intramodal's failure to comply with corporate law formalities in registering an alleged verbal transfer of shares, the SCC reaffirmed that oppression is judged according to "business realities", not "narrow legalities". The majority commented that "sloppy paperwork on its own does not constitute oppression," particularly in the case of a closely held corporation. Furthermore, the majority held that Mr. Mennillo was aware of the company's failure to observe certain statutory formalities for more than three years and was thus beyond the limitation period for his claim.

In a strongly-worded dissent, Justice Côté wrote that the findings of the majority violate two fundamental principles of corporate law: that a corporation's personality is distinct from that of its shareholders, and that a corporation's capital must be maintained. In regards to corporate personality, Justice Côté commented that the existence of a verbal agreement between two shareholders does not amount to an agreement with the corporation on the terms of withdrawal of a shareholder. She added that Mr. Mennillo's alleged intention to cease being a shareholder did not extinguish his reasonable expectation that he would remain a shareholder until further appropriate steps were taken. The expression of his intention was at most an invitation to contract: no meeting of the minds had occurred with Mr. Rosati as to the nature of the contract and its essential elements. Justice Côté further noted that compliance with corporate law formalities is an implied reasonable expectation of a shareholder. In contrast to the majority, she determined that Mr. Rosati used his position as majority shareholder to strip Mr. Mennillo of his status as a shareholder in an oppressive and unlawful manner.

IMPLICATIONS

While in this case failure to comply with corporate law formalities did not amount to oppression, the majority of the SCC did not rule out that failure to comply could constitute oppression in certain cases. Where corporate law formalities have not been complied with, shareholders should consider also pursuing claims under sections 247 (compliance order) or 243 (rectifying of records) of the CBCA, which provide a remedy for failure to comply with the legislation that does not rely on a violation of the applicant's "reasonable expectations".

Shareholders should also exercise caution when entering into collateral agreements, whether verbal or written. This decision creates potential that collateral shareholder agreements may be read as synonymous with an agreement between a shareholder and the corporation.

The authors acknowledge the contribution of Caitlin McIntyre (Student-at-Law).

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.