Do You Have to Follow Proper Corporate Procedures?

By: Hartley R. Nathan, QC, and Jessica Thrower, Minden Gross LLP,* posted with permission from Lexis Nexis.

Introduction

The Canada Business Corporations Act[1] (the “CBCA”) and provincial corporate statutes provide a mechanism for stakeholders of a corporation to seek redress for corporate conduct that is oppressive, unfairly prejudicial to or unfairly disregards their interests.[2]  This mechanism is commonly referred to as the oppression remedy.

Recently, the Supreme Court of Canada revisited the oppression remedy in Mennillo v. Intramodal Inc.[3] (“Mennillo”).  In Mennillo, the Court ruled that the oppression remedy was not available to a former shareholder who claimed that his reasonable expectations were violated as a result of the corporation’s failure to comply with provisions of the CBCA.

Facts of Mennillo

In 2004, Johnny Mennillo (“Mennillo”) and Mario Rosati (“Rosati”) formed the transportation company Intramodal Inc. (“Intramodal” or the “Company”) under the CBCA.  The parties were the only shareholders, officers, and directors of the Company. Mennillo and Rosati held 49 Class “A” shares and 51 Class “A” shares, respectively.   

The Company was run very informally and regularly did not comply with the technical requirements of the CBCA. Additionally, the parties put very little in writing over the course of their business relationship. For example, there was no written shareholders’ agreement, partnership agreement, nor any contracts for monetary advances Mennillo made to the Company.

There was an understanding between the parties that, as shareholders, both would guarantee the Company’s debts. Mennillo decided he no longer wanted to act as a guarantor. In 2005, Mennillo sent a letter to Intramodal resigning as an officer and director of the Company. A dispute arose as to whether Mennillo also ceased to be a shareholder at that time. Intramodal proceeded to register a share transfer that transferred all of Mennillo’s shares to Rosati. The share transfer was not endorsed by Mennillo, a requirement under the CBCA.

In 2010, Mennillo brought a claim against Intramodal stating that (i) the Company unlawfully removed him as a shareholder and (ii) their failure to follow the requirements of the CBCA constituted oppressive conduct.

The Oppression Remedy

Prior to the Mennillo decision, the Supreme Court provided a comprehensive analysis of the oppression remedy in BCE Inc. v 1976 Debentureholders[4] (“BCE Inc.”). In BCE Inc. the Court established a two-part test for oppression remedy claims. First, the claimant must “identify the expectations that he or she claims have been violated… and establish that the expectations were reasonably held”.[5] Once this requirement is met, the claimant must then show that his or her reasonable expectation was violated by conduct that was “oppressive, unfairly prejudicial to or unfairly disregarding”[6] the interests of the claimant.

The Court in BCE Inc. listed several factors that the court should consider under the first stage of the test to determine whether a reasonable expectation exists, including: general commercial practice, the nature of the corporation, relationship between the parties, past practice, preventative steps, representations, shareholder agreements, and possible fair resolutions of conflicting interests between corporate stakeholders.[7]

If a claimant is able to establish both parts of the test, the court may then order a broad range of remedies to correct the oppression, including a court-supervised buy-out, the sale of the company, shot-gun remedies, the return of original shareholder investments, a payment of dividends, an award of damages, or the revocation of the issuance of shares.[8]

Mennillo Decision

In Mennillo, the Supreme Court upheld the lower court’s decision that the Company did not unlawfully remove Mennillo as a shareholder and that failure to comply with proper corporate procedure did not by itself constitute oppressive conduct.

The Court did not find error with the trial judge’s finding that Mennillo by his actions indicated that he no longer wished to be a shareholder of Intramodal and transferred all of his shares to Rosati at that time. If Mennillo no longer wished to be treated as a shareholder, then he could not have a reasonable expectation that he would subsequently be treated as one. As a result, the Court found that Mennillo could not satisfy part-one of the oppression remedy test as his expectation to be treated as a shareholder was not reasonable.   

Additionally, the Court stated that even if Mennillo had a reasonable expectation to be treated as a shareholder and if he could reasonably expect the Company to comply with proper corporate procedure, the Company’s failure to comply in this case did not constitute conduct that was oppressive, unfairly prejudicial to or unfairly disregarding of his interests.

The Court ruled that deficiencies in a company’s compliance with CBCA or other governing corporate law formalities does not, on its own, constitute oppressive conduct unless it frustrates the reasonable expectations of the stakeholder. In Mennillo, Intramodal’s failure to comply with the formalities associated with removing Mennillo as a shareholder adhered to his express wishes, and was not an unfair or oppressive act.

Following Corporate Procedures Generally

The Mennillo case provides an interesting background for discussion on whether corporations must follow proper corporate procedures as set out in legislation, common law, or corporate agreements and the possible consequences of non-compliance.

The Court’s analysis in BCE Inc. and Mennillo strongly suggests that the courts will grant more leeway to smaller corporations where the dealings between the parties are marked by informality in relation to strict compliance with technical corporate procedure. The Court reiterated that “[c]ourts may accord more latitude to the directors of a small, closely held corporation to deviate from strict formalities than the directors of a larger public company.”[9]

For smaller corporations, it appears that courts will not readily find oppressive conduct by businesses that have not strictly followed the technical formalities of their governing corporate statutes. Future complainants seeking an oppression remedy must claim something more than merely a company’s failure to follow corporate law formalities as such conduct will not automatically trigger the oppression remedy.

Conclusion

Although the Mennillo decision may provide some comfort to officers and directors of smaller corporations, it is important to note that this analysis so far has been limited to oppression remedy cases. In the Mennillo case, Mennillo could have made a claim under s. 243 CBCA for rectification of registers or s. 247 CBCA for failure by a corporation to comply with the legislation or with its articles.[10] While the remedies under these provisions are not as wide as the oppression remedies noted above, directors and officers of a corporation can prevent these types of lawsuits by following proper corporate procedure.

[*] The writers wish to express their appreciation to Joseph Jamil, student-at-law at Minden Gross LLP for his assistance in the preparation of this article.

[1] Canada Business Corporations Act, R.S.C., 1985, c. C-44. (“CBCA”).

[2] CBCA, s. 241; See also Business Corporations Act (Ontario), R.S.O. 1990, c. B.16 s. 24. (“OBCA”).

[3] 2016 SCC 51.

[4] 2008 SCC 69.

[5] Ibid at para 70.

[6] Ibid at para 114.

[7] Ibid at paras 72-88.

[8] CBCA, s. 241(3); See also OBCA, s. 248(3).

[9] BCE Inc., supra note 5 at para 74; cited in Mennillo, supra note 4 at para 10.

[10] See also: OBCA, s. 250 and s. 253 and the dissenting opinion of Côté J. in Mennillo, supra note 4 at para 97.