Equitable is Not Always Fair: Why Minority Shareholders Need Contribution Agreements with Co-Vendors in a Share Purchase Agreement

July 6, 2023 /

Contracts enable parties to negotiate and customize the terms of their relationships and transactions recognizing that the default rules may not always align with their mutual goals or their subjective sense of fairness.

When multiple shareholders participate in selling their business, the usual provisions of joint and several liability and the equitable right of contribution require an equal contribution to any shared liability that arises from the sale. For minority shareholders, this means their potential liability may far exceed their proportionate share of the business.

To ensure a fair and proportionate share of liability, minority shareholders may wish to safeguard their interests by negotiating a contribution agreement with the other shareholders involved in the sale.

Practical Implications of Joint and Several Liability

When there are multiple parties to a commercial contract, such as a Share Purchase Agreement, those parties may make the same representations and warranties and agree to fulfill the same obligations. These “co-obligors” typically assume both joint and several liability with respect to performance of their co-obligations and the representations and warranties they have jointly made.

When co-obligors are jointly and severally liable for the performance of their shared obligations, each individual obligor is liable for the payment or performance of the full obligation, may be sued separately or together with its co-obligors, and has a right to contribution from its co-obligors.

Therefore, there are situations where a single party who shares joint and several liability with other parties may bear the entire liability on their own. This often arises in litigation where one of the liable parties has “deeper pockets”. To ensure successful recovery of damages, a claimant may choose to recover solely against the co-obligor with the most wealth or liquidity.

The Equitable Right of Contribution

The equitable right of contribution is the general entitlement of a party who fully discharges a shared liability to claim contribution from the other liable parties. This is rooted in the law of unjust enrichment, as the party who did not pay for the shared liability receives an unjust enrichment when the other party discharges their shared liability in its entirety.[1]

These equitable rules are partially codified in section 34 of the Law and Equity Act (the “Act“). Subsection (3) clarifies that the party discharging the shared liability is not entitled to recover, through the right of contribution, more than the just proportion to which the other party or parties are justly liable. However, the Act does not define the term “just proportion”. Instead, one must look to the rules of equity: absent agreement otherwise, parties who are equally liable for the same debt or obligation should contribute equally towards the satisfaction of this debt or obligation. Parties can, however, vary this presumed equitable right of contribution by way of an agreement. [2]

When a minority shareholder is one of several vendors in a Share Purchase Agreement, standard joint and several liability clauses and the equitable right of contribution will impose an obligation to contribute equally with other vendors should liability arise from the sale of the business. This is true even if the minority shareholder held, for example, 10% of shares sold, and its co-vendor held 90% of the shares sold. The minority shareholder would be, by the equitable right of contribution, responsible for 50% of the liability.

Contribution Agreements

Share proportion alone will not rebut the presumed equitable right of contribution. Rather, an agreement between the parties is necessary.

Contribution Agreements allow multiple vendors in a Share Purchase Agreement to set out how any liability arising from the agreement will be divided, which helps ensure that parties with a lesser gain from the transaction are not subject to liability equal to those parties with a more significant gain from the transaction.

A claimant is still entitled to recover the full amount of liability from a single co-obligor under the principles of joint and several liability. However, to ensure fairness, a Contribution Agreement enables a minority shareholder to seek contributions from co-vendors based on their proportionate shareholding. Conversely, if another vendor is required to pay the full liability, the minority shareholder will only be required to contribute an amount proportionate to their shareholding.

Freedom of contract is an important tool for customizing business relationships and protecting one’s interests. To curtail the risk of a disproportionate share of liability, minority shareholders in a Share Purchase Agreement should strongly consider negotiating a Contribution Agreement with their fellow vendors.

Want More?

Our Business Law Group is experienced in providing transaction services that are tailored to your specific needs. If you would like support with a Contribution Agreement or transaction, generally, reach out to David Allardice, Emily Savage, Peter Eirikson, or Myles Brown.

[1] Rant v. Ward, 1998 CanLII 5993 (BC SC) at paras 26-29, citing Fridman and McLeod, Restitution (1982) and McGuinness, The Law of Guarantee (1986)

[2] Gill v. Cheema, 2018 BCSC 1453 at para 42