In Ohio, the default rule governing employment relationships is employment at-will. Absent a legally recognized exception, an employer can terminate the employment of an at-will employee for any lawful reason, without cause or notice, and not incur liability. One of the lesser-known exceptions to the rule of employment at-will relates to the termination of minority shareholders of close corporations who are also employees.
The Ohio Supreme Court has defined a “close corporation” as a corporation with few shareholders and whose shares are not generally traded on a national securities exchange or regularly quoted on an over-the-counter market. [1] Ohio courts have recognized that, given the nature of a close corporation, majority shareholders can easily abuse their corporate control to the disadvantage of the minority shareholders. Minority shareholders are not only vulnerable because they are small in number, but also because they have no readily available market for their stock.
To lessen the risk of abuse, Ohio courts have held that majority shareholders of a close corporation owe a heightened fiduciary duty (
i.e., utmost good faith and loyalty) to their minority shareholders. A majority shareholder breaches this fiduciary duty when control of the close corporation is utilized to prevent the minority shareholder from having an equal opportunity in the corporation. In other words, control of a close corporation cannot be used to give the majority benefits that are not shared by the minority.
What if the minority shareholder is also an employee of the close corporation? Ohio courts have recognized that a minority shareholder’s employment “often constitutes the major return on the shareholder’s investment,” without which “the minority shareholder is denied an equal return on the investment.” [2] As a result, a majority shareholder in a close corporation cannot terminate the employment of a minority shareholder without “a legitimate business purpose.” [3]
As Aesop noted at the conclusion of “The Fox and the Lion,” familiarity can breed contempt. In the context of close corporations, contempt can lead majority shareholders, mistakenly relying on the rule of employment at-will, to terminate a minority shareholder without a legitimate business purpose. In doing so, the majority shareholder violates the heightened fiduciary duty owed to the close corporation’s minority shareholder.
Before terminating a minority shareholder, a majority shareholder should carefully scrutinize the business purpose behind the termination and consistently document the existence and legitimacy of that business purpose.
If you would like help evaluating minority shareholder issues facing your business, please contact a member of the Frantz Ward
Corporate Practice Group.
[1]
Crosby v. Beam, 47 Ohio St.3d 105, 107 (Ohio 1989).
[2]
Kirila v. Kirila Contrs., Inc., 2016-Ohio-5469, ¶33 (Ohio 11th Dist. Ct. App. 2016).
[3]
Tablack v. Wellman, 2006-Ohio-4688, ¶122 (Ohio 7th Dist. Ct. App. 2006).