Breach in Company Relationships – Sanctions and Liability for Damages

Default in corporate relationships can arise in various relations and trigger different sanctions. While the general principles of contract law provide a theoretical starting point, corporate law has developed specific rules that take into account the unique party constellations and interests present in companies. This article reviews the central rules on breach, sanctions, and liability in corporate relationships, with a particular focus on the practical remedies available to the parties involved.

The scope of default rules in corporate relationships

Party relations and duty basis

Breach in corporate law can occur in three main relationships:

1. Between the company and the company's fiduciaries

2. Between the company and the individual participant

3. Between the participants

Unlike ordinary contractual relationships, corporate relationships are characterized by complex party constellations where multiple interests must be balanced. The obligations that can be breached vary depending on the form of company, the number of participants, and the content of the articles of association or partnership agreement.

Typical breach situations

In general partnerships, breaches typically occur in the relationships between participants, for example, in cases of cooperation problems or breaches of loyalty obligations such as non-compete clauses.

In limited liability companies, issues of breach arise both in the relationships between shareholders and between the company and its shareholders. Examples of the latter may include:

• Failure to pay share contributions

• Violation of distribution limitations

• Abuse of power by majority shareholders

Sanctions for breaches in corporate relationships

Exclusion and removal in general partnerships

In general partnerships, exclusion and removal are key sanctions for breach. A participant can demand to be removed immediately when:

• The participant's rights have been violated by a significant breach of the corporate relationship

• Removal is justified by substantial reasons of fairness

• The participant is outvoted in a significant decision (assuming majority vote is agreed upon)

The company or participants can, on the other hand, demand the exclusion of a participant when:

• The participant has significantly violated the corporate relationship through breach

• Compelling reasons justify exclusion

• Bankruptcy or public composition proceedings have been initiated against the participant's estate, or the participant is unable to fulfill their obligations

Redemption in limited companies

In limited liability companies, redemption is the most relevant sanction for breach. A shareholder can demand redemption when there are "compelling reasons" for the shareholder to be given the right to exit the company, cf. the Companies Act § 4-24.

The company can, on the other hand, demand redemption when:

• The shareholder has significantly violated the corporate relationship through breach

• A serious and lasting conflict has arisen between the shareholder and other shareholders

In calculating the redemption amount, the "real value" of the share is determined at the time the demand is made. The Supreme Court has clarified that the term "real value" must be interpreted in light of the considerations behind the individual redemption provision. In redemption after abuse of power, the calculation should be linked to the underlying values of the company (Bergshav Holding case), while in redemption following denial of consent, market value may be more relevant (Flesberg case).

Dissolution of the company

Dissolution is the most drastic sanction and is reserved for particularly serious cases.

In limited liability companies, a shareholder can demand the company be dissolved by court order when a corporate body or others representing the company have acted contrary to the rules against abuse of power and "particularly compelling reasons" justify dissolution, cf. the Companies Act § 16-19.

In general partnerships, a participant can demand immediate dissolution of the company when:

• The participant's rights have been violated by a significant breach

• Reference to withdrawal would not be reasonable

• Compelling reasons otherwise justify dissolution

Rescission - a rarely applicable sanction

Rescission, a central sanction in contract law, has limited practical application in corporate law. Particularly, rescission of share subscriptions is generally excluded after the share capital is registered with the Norwegian Register of Business Enterprises. This is due to the consideration for creditors, who may have based their lending on the notoriety that enterprise registration provides.

Invalidity and similar objections

Invalidity in share subscription

The ability to invoke invalidity or similar objections is severely limited in corporate law. Once share capital is registered in the Norwegian Register of Business Enterprises, a subscriber cannot generally invoke invalidity or frustrating conditions to recover their contribution, cf. the Companies Act § 2-10.

Exceptions apply for the severe grounds of invalidity:

• Forgery

• Fraud

• Severe coercion

• Lack of legal capacity

Contract law's minor grounds for invalidity do not prevail after the registration date. The reasoning is the consideration for creditors and the trust in the registered share capital.

Invalid general meeting resolutions

General meeting resolutions can be invalid if the general meeting has acted contrary to:

• Their substantive competence

• The Companies Act or the company's articles of association

• Their personal competence

In the case of procedural errors, invalidity only results if the error may have influenced the content of the resolution. Significant violation of the notice rules always leads to invalidity.

Lawsuits concerning invalidity must generally be filed within three months after the decision was made, cf. the Companies Act § 5-23.

Liability in corporate relationships

Claims for damages from the company

The Companies Act § 17-1 first paragraph authorizes the company to claim damages from the general manager, board member, member of the corporate assembly, auditor, or shareholder who has intentionally or negligently caused the company damage.

Board members and managers can be held liable for:

• Illegal or bylaw-violating decisions

• Exceeding authority

• Violation of oversight and control duties

• Lack of duty to act in case of loss of equity

Shareholders can be held liable for:

• Voting for resolutions that are illegal or contrary to bylaws

• Resolutions the shareholder understands or should understand will cause the company loss

Claims for damages from others than the company

The Companies Act § 17-1 first paragraph also supports claims from "shareholder or others" (typically the company's creditors) against the company's trusted persons. Such liability requires the tortfeasor to have acted negligently.

A particular issue is whether a shareholder can claim compensation for their share of the company's loss. The Supreme Court in the Skiltmaker case (Rt. 2004 p. 1816) has been skeptical of this, but the issue remains contested.

Contributory liability

The Companies Act § 17-1 second paragraph establishes contributory liability for those who intentionally or negligently contributed to causing damage. This can, for example, include:

• Advisors who contribute to board members causing damage

• Shareholders who influence trusted persons' damaging decisions

Conclusion

Breach in corporate relationships triggers specific sanctions tailored to the nature of corporate law. The most practical remedies are removal/exclusion in general partnerships, redemption in limited liability companies, and liability in both company forms. Dissolution is reserved for the most severe cases, while rescission has very limited practical significance. The rules balance the interests of the aggrieved party against the interests of the company's creditors, other participants, and continued operation.