Even a Non-Competing Side-Business Can Be Problematic for a Minority Shareholder

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July 3, 2022

I have written in the past about majority shareholders taking a business opportunity for themselves and starting a competing company as a form of shareholder oppression. However, the shoe can also be on the other foot. What do you do if you are a minority shareholder in New Jersey and you would like to start a side business? If it is a competing business, it should be obvious that it is likely a terrible idea to compete with your own company. But what if you think the new venture does not compete with your existing business?

Whether the company competes or not is only part of the analysis. The majority shareholder(s) may have significant issues if you proceed on your own without first having presented the opportunity to the existing company. Whether or not taking the opportunity for yourself was right or wrong, of course, is not the entire analysis. Even if the argument that you should have first offered the opportunity to your fellow shareholders is not strong, paying significant legal fees to defend yourself is not ideal, even if you ultimately win.

Alternatively, the majority shareholders may reject your idea but still sue you over your failure to properly document how you presented the opportunity. “But I have the email” may not be enough. Did you disclose all the facts? Did you leave out a detail that could potentially have made a difference to the majority shareholders? Even if you presented it the right way and they still turned it down – leaving the opportunity fair game for you – you still must prove you presented it the right way.   

Moreover, your shareholder’s agreement or operating agreement may have something to say on the issue. There may be a clause that, while not a restrictive covenant, requires you to devote 100% of your time and attention to the existing company. Would this new opportunity violate that provision? The stakes are high. The majority shareholder or your existing company could be declared an owner of your new company by a court. Or you could be kicked out of your existing company and paid a discounted rate for your shares. Engaging in a second business is not something you should undertake without seeking proper legal advice before doing it.

You also must know what to do if the majority shareholders say they do want the opportunity for the company. Can you ask to oversee the new venture? Should you get the terms of any such arrangement understood up front, in writing, before you present your idea? Would such an “ask” harm your relationship with the majority shareholder?

As a final recommendation, if you are just starting your company and participation in other ventures is important to you, be sure such a clause is included in your shareholder agreement or operating agreement.

©2022 Norris McLaughlin P.A., All Rights Reserved
National Law Review, Volume XII, Number 184
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