The High Court has interpreted a right of first refusal mechanism that applied when a shareholder wished to sell its shares in a company to a third party. The court found that the mechanism had not been properly triggered, because the party who had offered to buy the shares was not a true third party, and the sale price was not on arm’s length terms.

What happened?

Rusal plc v Crispian Investments Limited and another centred around a Russian company called PJSC MMC Norilsk Nickel (NN).

27.82% of NN’s shares were held by United Company Rusal plc (Rusal), 31% were held by Whiteleave Holdings Limited (Whiteleave) and 6.37% by Crispian Investments Limited (Crispian). The remaining 34% were publicly traded on the Moscow and St Petersburg stock exchanges.

Rusal, Whiteleave, Crispian and NN entered into a “framework agreement” – essentially a shareholders’ agreement – setting out how they were permitted to deal with their shares in NN.

The framework agreement stated that Crispian could not sell any shares unless it first offered them to both Rusal and Whiteleave under a right of first refusal mechanism. The agreement then set out a detailed procedure for that mechanism.

Under that procedure, Crispian was obliged to offer its shares to Rusal and Whiteleave at either “the price proposed by a bona-fide third party purchaser” or an average weighted market price.

In late 2017 and early 2018, Crispian and Whiteleave engaged in discussions that ultimately led to Bonico Holdings Co. Limited (Bonico), an associate of Whiteleave, offering to buy around 3.99% of NN’s shares from Crispian. Crispian accepted the offer and initiated the right of first refusal. It served a notice on both Rusal and Whiteleave offering its shares to them at the price offered by Bonico.

Rusal challenged the notice. It put forward various arguments, but the two key ones were:

  • The right of first refusal could only be triggered by an offer from a third party. Whiteleave was not a “third party” for these purposes, and so neither was its affiliate, Bonico.
  • Whether or not Bonico was a third party, the offer price itself was not bona fide or genuine, because it resulted from a scheme agreed between Whiteleave’s and Crispian’s ultimate owners. That scheme had involved an inflated offer price, the idea being that Rusal would decline to acquire the shares at that price.

What did the court say?

In short, the court agreed with Rusal. It said that the phrase “third party” in the framework agreement referred to “an outside person, unconnected with the transaction in question”. This did not extend to Whiteleave or any of its associates.

It also said that the price offered by Bonico was not a price offered by a “bona fide third party purchaser”, because it was not agreed on an arm’s length basis.

Of particular interest, though, is the approach the court took to interpreting the framework agreement.

Normally, when interpreting a commercial contract, a court follows a specific approach. The Supreme Court summarised this approach most recently in Wood v Capita Insurance Services Limited, where it said the court’s task is to find the “objective meaning” of the language of a contract. It does this by considering the contract as a whole, looking at both the language used and the context surrounding it, continually checking possible interpretations until it finds the one that makes sense.

However, it is also an important principle of company law that a share in a company is personal property, which a shareholder is free to sell or transfer. If the parties want to restrict that right, they must do so using clear language. This is often called the “Greenhalgh principle”, after a case in which it was summarised (Greenhalgh v Mallard)

This causes a tension: the court must decide what the parties intended, but it must also respect the principle that a shareholder should be free to deal with its property.

Historically, the court has generally applied the Greenhalgh principle when interpreting a company’s articles, rather than shareholders’ agreements. However, Crispian and Whiteleave said the principle should also apply to the framework agreement. They noted that, in the recent case of Re Coroin Limited, one of the judges in the Court of Appeal said the principle was capable of applying to shareholders’ agreements.

The court rejected this line of argument. In doing so, it made the following comments:

  • There is a difference between a company’s articles and a shareholders’ agreement. Articles of association govern a company’s constitutional framework. They are a contract not only between a company’s current shareholders, but also with any new shareholders from time to time, who will not have played any role in negotiating them. Any transfer restrictions in them must therefore be interpreted narrowly.On the other hand, a shareholders’ agreement is a private and commercial arrangement entered into voluntarily. While a company’s articles set out the rights of shareholders, a shareholders’ agreement sets out how individual shareholders have agreed to exercise those rights. The court should therefore interpret a shareholders’ agreement according to normal contractual principles, without applying the “Greenhalgh principle”.
  • Even if the judge in Re Coroin was right in suggesting that the Greenhalgh principle could apply to shareholders’ agreements, there was an important difference. The shareholders’ agreement in Re Coroin had been made between all of the company’s shareholders. New shareholders were required to sign up to it, and it was drafted to prevail over the company’s articles. In this sense, it had taken on a special quality and was “effectively synonymous” with the company’s articles.That was not the case in Rusal. The framework agreement was an arrangement between three of NN’s numerous shareholders (not all of them), it did not prevail over NN’s articles of association, and the transfer restrictions in it (including the right of first refusal mechanism) did not appear in NN’s articles. It was plainly a private arrangement.

The court also looked not only at the wording of the right of first refusal, but also the surrounding commercial context. Crispian had been introduced as a shareholder essentially to act as an “honest broker” in disputes between Rusal and Whitleave. Rusal and Whiteleave had sold shares to Crispian in amounts proportionate to their pre-existing shareholdings in NN.

The right of first refusal was designed to allow Rusal and Whiteleave to buy them back in similar proportions. If Crispian were able to field offers from Whiteleave or Rusal (or their associates), the result could be the transfer of shares to a rival shareholder. This would encourage the breakdown of that “broker” arrangement.

Practical implications

This is a good decision for sophisticated investors. The Greenhalgh principle, whilst noble in origin, has been a potential difficulty for shareholders who want to agree bespoke transfer restrictions.

The judgment suggests that the courts will be ready to respect bespoke transfer restrictions negotiated between commercially sophisticated shareholders. It also reinforces that courts will normally strive to prevent parties to an agreement from abusing pre-emption and right of first refusal mechanisms.

However, investors should still tread carefully. Although the court said the Greenhalgh principle does not apply to private contracts, this was only a High Court decision, and the court arguably left the door open for higher courts to find that the principle might apply in certain circumstances.

For now, investors should consider the following issues when drafting share transfer restrictions:

  • Decide where to include restrictions: in the company’s articles or a separate shareholders’ agreement. On the one hand, restrictions in a shareholders’ agreement are likely to be easier to enforce, as the court should find that the parties adopted them voluntarily. Indeed, including transfer restrictions in a shareholders’ agreement might be the only option if they are to apply between some (but not all) of the shareholders, or if the shareholders wish to keep them private.On the other hand, it may be preferable to include any restrictions in a company’s articles. They should still be enforceable (provided they are expressed in clear language), and any breach is likely to render a purported share transfer ineffective, rather than simply giving rise to a claim for contractual damages.
  • It can be tempting to mirror restrictions in both the articles and a shareholders’ agreement to gain the advantages of both options above. However, this requires care. First, there is always the possibility that the language of the restrictions will diverge during negotiations, and it is hard to know how a court might interpret discrepancies if the restrictions do not “match up”.Second, the greater the overlap, the more potential there may be to argue that the shareholders’ agreement is “standing in” for or supplementing the articles (particularly if it prevails over the articles) and that the Greenhalgh principle should therefore apply to the shareholders’ agreement. It also makes it more likely that the shareholders’ agreement would form part of the company’s constitution and a copy would need to be filed publicly at Companies House.
  • Use very clear language when drafting share transfer restrictions. The more vague, inconsistent or incomplete the wording used, the more likely a court is to interpret it in favour of a shareholder wishing to sell its shares.
  • Finally, consider whether to set out the commercial rationale for a right of first refusal (and any other bespoke provisions) in the shareholders’ agreement. This could appear in a background or recitals section, or in a specific clause in the relevant part of the shareholders’ agreement. This won’t always be appropriate, but it may help the court in the case of a dispute.