When it comes to fair-value jurisprudence, the Brooklyn-based Appellate Division, Second Department, works in mysterious ways.
Take, for instance, its 2010 Murphy decision, in which it noted without elaboration that the application of a discount for lack of marketability (DLOM) is not in all cases limited to the enterprise’s goodwill without so much as acknowledging 25 years of its own contrary precedent.
Then there’s last week’s decision in Chiu v Chiu, 2015 NY Slip Op 01427 [2d Dept Feb. 18, 2015], in which it upheld without comment a lower court’s decision to apply 0% DLOM in valuing a membership interest in a realty-holding LLC co-owned by two brothers. Considering the ongoing, vigorous debate in legal and valuation circles surrounding the existential propriety of DLOM under the statutory fair value standard, as recently played out in the Zelouf and Giaimo cases, it would have been extremely helpful to other litigants had the Second Department explained why it believed DLOM was inappropriate in Chiu. Oh well. Continue Reading
In the early 1990’s New York enacted its version of the Revised Uniform Limited Partnership Act (NYRULPA), codified in Article 8-A of the New York Partnership Law §§ 121-101 et seq. The law’s modernized features include in §§ 121-1101 through 1105 provisions for the merger and consolidation of limited partnerships along with the right of dissenting limited partners to be paid “fair value” for their partnership interests as determined in an appraisal proceeding.
You can count on one hand the number of published New York court decisions over the last 25 years dealing with dissenting limited partners. In fact, until this year, it’s possible you could count the number on one finger, that being the Court of Appeals’ 2008 ruling in the Appleton Acquisition case which I wrote about here. Appleton held that a limited partner may not bring an action seeking damages or rescission based on allegations of fraud by the general partner in connection with a merger transaction, and that the statutory appraisal proceeding is the exclusive remedy for such claims. Appleton never reached the issue of appraisal.
It therefore appears that last month’s decision by Manhattan Supreme Court Justice Geoffrey D. Wright in Levine v Seven Pines Associates L.P., 2015 NY Slip Op 30138(U) [Sup Ct NY County Jan. 28, 2015], may be the first published ruling that addresses issues attendant to a fair value determination in a dissenting limited partner case under NYRULPA.
Now, if you’re hoping for a meaty decision that delves into the fine points of appraisal methodology, Levine is not your case. Rather, Levine was decided on pre-trial motions to fix a date for an appraisal hearing and to compel the respondent limited partnership to provide certain pre-trial disclosure. In addition, the procedural aspects of the dissenting limited partner provisions in § 121-1105 expressly piggyback on the well-established procedures set forth in § 623 of the Business Corporation Law dealing with dissenting shareholders. Still, the issues decided in Levine serve up some useful pointers for practitioners. Continue Reading
The statutes and judge-made law governing dissolution and other claims among co-owners of closely held business entities can vary significantly from state to state. Depending on the states, there also can be much in common, which is why I like to keep an eye on developments outside New York, and not just Delaware which tends to have the most advanced business-law jurisprudence.
Below are five business divorce cases decided by appellate courts outside New York that made a splash in 2014. As you might expect, four of the five involve that relatively new business entity form, the limited liability company. The one involving a traditional business corporation, however, likely made the biggest splash.
Ritchie v Rupe, 2014 WL 2788335 [Tex. Sup Ct June 20, 2014]. The Lone Star State takes the prize for the most controversial business divorce decision in 2014, thanks to the Texas Supreme Court’s decision in Ritchie which, as one commentator put it, effectively “gutted the cause of action for shareholder oppression in Texas.” A Texas intermediate appellate court ruling in 1988, which had been followed ever since, recognized a compulsory buyout remedy for oppressed minority shareholders under a broad test for oppression mirroring New York’s reasonable-expectations standard. No more. The Ritchie court, in a 6-3 decision, narrowly defined oppressive conduct by majority shareholders as “when they abuse their authority over the corporation with the intent to harm the interests of one or more of the shareholders, in a manner that does not comport with the honest exercise of their business judgment, and by doing so create a serious risk of harm to the corporation.” The Ritchie majority then applied the coup de grâce by construing the applicable Texas statute as limiting the remedy for oppressive conduct to the appointment of a “rehabilitative receiver.” Bye bye buyout. For a more detailed analysis of Ritchie‘s impact on Texas business divorce litigation, check out my friend Ladd Hirsch’s posts here, here, and here on his Texas Business Divorce blog. Continue Reading
Charlie, a minority shareholder of Troubled Corp., petitions for judicial dissolution based on alleged oppressive acts by the majority shareholder, Ted, who, in turn, exercises his statutory right to avoid dissolution by electing to purchase Charlie’s shares for fair value. Charlie and Ted are miles apart on price, so it falls on the court to determine the fair value of Charlie’s shares at an appraisal hearing. Chances are the appraisal determination is many months or even years away, depending on the complexity of the appraisal, the pace of pretrial discovery, delays on account of motion practice, and the court’s own schedule.
In the meantime, although still legally a shareholder until the buyout is consummated, Charlie, whose employment Ted previously terminated and whom Ted voted off the board, has little or no ability to monitor much less control Troubled’s finances and business affairs. In effect, Charlie’s been demoted to creditor status while he awaits the court’s fair-value determination and his eventual payday.
Charlie’s concerned that, by the time the court renders its decision, Ted won’t have the financial wherewithal to pay or finance the fair value award. Of even greater concern, Charlie believes that Ted is running Troubled’s business into the ground either negligently or deliberately as part of a scheme to transfer the company’s good will and other assets to another company under the sole ownership of Ted’s family members. Likely the buyout will never happen if the company’s assets aren’t sufficient to finance Ted’s purchase of Charlie’s shares.
What can Charlie do the ensure that he’ll be able to collect his fair-value award? Continue Reading
Ready to take a pop quiz? Here we go:
- Can a 50% shareholder of a closely held corporation petition for judicial dissolution under the deadlock statute, Business Corporation Law § 1104? __ Yes __ No
- Can a 50% shareholder of a closely held corporation petition for judicial dissolution under the oppressed shareholder statute, Business Corporation Law § 1104-a? __ Yes __ No
- Can a 50% shareholder of a closely held corporation petition for judicial dissolution under common law? __ Yes __ No
- Can a 50% shareholder of Company A, who also is a director of Company B in which Company A holds a majority interest, petition for judicial dissolution of Company B under common law? __ Yes __ No
Let’s see how you did. If you answered “Yes” to #1, you’re right. But that was easy. Without even looking at the statute, BCL § 1104, logic tells you that a shareholder who possesses half the available voting power — that is, not enough to secure majority approval for shareholder or board action but enough to block the other 50% shareholder from doing the same — should be able to seek dissolution where deadlock results from disagreement with the other 50% shareholder. Continue Reading
Despite its pejorative-sounding name, “jerk insurance” — it’s more vulgar name is “schmuck insurance” — can serve a useful purpose in addressing a business owner’s concern about looking, well, like a jerk by selling his or her equity stake to a co-owner who then turns around and sells the company or its assets to an outside buyer at a much higher value. Basically it works by guaranteeing the seller additional monies in the event of a company sale within a defined post-buyout period, usually computed as a percentage of the net sale proceeds above a threshold value specified in the buyout agreement.
It’s a type of deal protection, for example, that would have avoided the seller’s remorse suffered by the unsuccessful plaintiffs in the well-known New York case, Pappas v Tzolis, who sold their majority stake for $1.5 million to the minority owner who, within months, sold the company’s sole asset to a third party for $17.5 million.
I can’t cite statistics, but I’d venture to say the great majority of buyers who are willing to give jerk insurance do so because they have no intention of selling the company within the defined post-buyout period. In that sense it’s giving away ice in winter, but it nonetheless can facilitate the buyout agreement by giving additional comfort to the seller that he or she is not losing out on a better deal the buyer may already have lined up to sell the company.
All of which makes all the more unusual and instructive the recently decided case of Charron v Sallyport Global Holdings, Inc., Opinion and Order, 12-cv-06837 [SDNY Dec. 10, 2014], in which one 50% shareholder bought out the other 50% shareholder for almost $41 million pursuant to a buyout agreement with a jerk insurance provision setting a $65 million threshold and, in the event of a company sale within the following year, giving the seller 20% of the entire proceeds of the sale rather than 20% of the difference between the threshold and the sale price. Continue Reading
“[T]he Court concludes that it lacks subject-matter jurisdiction to dissolve a Delaware corporation, and thus dismisses the First Cause of Action.”
Sounds familiar? It should. The above ruling, found in Nassau County Commercial Division Justice Timothy S. Driscoll’s decision last month in Bonavita v Savenergy Holdings, Inc., Short Form Order, Index No. 603891-13 [Sup Ct Nassau County Dec. 8, 2014], adds to the growing list of cases in New York’s Second and Third Departments in which courts have declined subject-matter jurisdiction over claims for judicial dissolution of a foreign business entity. It also accentuates the schism, about which I’ve previously written, between decisions in those Departments and a smaller number of First Department rulings upholding jurisdiction in similar cases.
The plaintiffs in Bonavita, likely aware of the Second Department precedent stacked against them, took a somewhat different tack by asserting in their complaint’s First Cause of Action (read here) a claim for common-law dissolution of the subject Delaware corporation rather than a statutory claim for judicial dissolution under Article 11 of the Business Corporation Law. (Delaware has no statute authorizing judicial dissolution at the behest of a minority shareholder.) Continue Reading
The question is, will the Zelouf case prove to be an outlier or the beginning of a sea change in the way New York courts view the marketability discount in fair value proceedings?
Last October I wrote about Zelouf Int’l Corp. v Zelouf, an important post-trial decision in which, among other significant rulings, Manhattan Commercial Division Justice Shirley Werner Kornreich refused to apply a discount for lack of marketability (DLOM) in a statutory fair value proceeding triggered by a freeze-out merger of a family-owned business.
Justice Kornreich found the risk of illiquidity associated with the company “more theoretical than real,” explaining there was little or no likelihood the controlling shareholders would sell the company, i.e, themselves would incur illiquidity risk upon sale. Imposing DLOM in valuing the dissenting shareholder’s stake, therefore, would be tantamount to levying a prohibited discount for lack of control a/k/a minority discount.
Within weeks of the decision, both sides filed motions for reargument seeking to vacate or modify various aspects of the court’s rulings. In a decision dated December 22, 2014 (read here), Justice Kornreich adhered to her prior rulings in all respects save one concerning the limitations period for the minority shareholder’s derivative claims.
Happily for us sideline observers, Justice Kornreich saw fit to revisit and expand upon her reasons for rejecting a DLOM given what she described as “New York’s contentious DLOM jurisprudence and the persuasive opinions of the academic community and non-New York courts.” Continue Reading
I’m pleased to present my seventh annual list of the past year’s ten most significant business divorce cases. This year’s crop includes noteworthy rulings on a variety of issues in dissolution, appraisal, books-and-records, and other cases involving closely held corporations and limited liability companies. All ten were featured on this blog previously; click on the case name to read the full treatment. And the winners are:
- Zacharius v Kensington Publishing Corp., 42 Misc 3d 1208, 2014 NY Slip Op 50011(U) [Sup Ct, NY County Jan. 6, 2014], a lawsuit involving a family-owned publishing business in which Justice Eileen Bransten upheld a stock voting agreement that gave board control to the minority shareholders/step-children of the majority shareholder, although she allowed the majority owner’s suit to proceed on a claim challenging the authenticity of her late husband’s signature on the voting agreement.
- Pokoik v Pokoik, 115 AD3d 428, 2014 NY Slip Op 01502 [1st Dept Mar. 6, 2014], a first impression ruling in which the Appellate Division, First Department, in granting summary judgment against an LLC manager for breach of fiduciary duty, rejected the manager’s reliance on the safe-harbor provisions of LLC Law § 409.
- Mintz v Pazer, Decision and Order, Index No. 502127/13 [Sup Ct, Kings County Mar. 12, 2014], in which Justice David Schmidt enforced an unusual, “quick draw” buy-sell provision in the shareholders’ agreement of a real estate holding company owned 50/50 by two families, compelling a sale to the family that gave the first notice of purchase following unsuccessful mediation of a deadlock.
- JPS Partners v Binn, 2014 NY Slip Op 31204 [Sup Ct, NY County May 6, 2014], in which Justice Melvin Schweitzer held that the restructuring of an LLC, in which substantially all of its assets were transferred to a subsidiary, unintentionally triggered the LLC’s dissolution under a provision in the operating agreement.
- Budis v Skoutelas, Short Form Order, Index No. 702060/13 [Sup Ct, Queens County July 16, 2014], in which Justice Orin Kitzes held that the estate of a deceased LLC member had no standing to assert derivative claims on the LLC’s behalf.
- Retirement Plan for General Employees v McGraw-Hill Cos., 120 AD3d 1052, 2014 NY Slip Op 06154 [1st Dept Sept. 11, 2014], in which the Appellate Division, First Department, reversed the trial court’s ruling dismissing a books-and-records proceeding brought against McGraw-Hill, and held that the petitioning pension fund’s stated purpose of the requested inspection, to investigate the board’s oversight of McGraw-Hill’s subsidiary, Standard & Poor’s, was a proper purpose even if the inspection ultimately establishes that the board engaged in no wrongdoing.
- Zelouf International Corp. v Zelouf, 45 Misc 3d 1205(A), 2014 NY Slip Op 51462(U) [Sup Ct, NY County Oct. 6, 2014] [click here for Part 2], a post-trial ruling in a dissenting shareholder appraisal case in which, among other significant rulings, Justice Shirley Kornreich rejected a discount for lack of marketability and granted the petitioner a separate award on her quasi-derivative claims against the controlling shareholders.
- Ferolito v AriZona Beverages USA, LLC, 2014 NY Slip Op 32830(U) [Sup Ct, Nassau County Oct. 14, 2014], in which Justice Timothy Driscoll awarded close to $1 billion (that’s not a typo) to the 50% owner of the AriZona Iced Tea business in a fair value buy-out proceeding under BCL § 1118. The court’s many significant rulings included its sole reliance on the DCF method and its rejection of potential acquirers’ expressions of interest.
- Cortes v 3A N. Park Ave. Rest Corp., 2014 NY Slip Op 24329 [Sup Ct, Kings County Oct. 28, 2014], in which Justice Carolyn Demarest conditionally ordered the dissolution of a restaurant business from which the controlling shareholders were found to have skimmed about $3.7 million cash, unless they purchased the minority owner’s shares for about $1.2 million.
- Slayton v Highline Stages, LLC, 2014 NY Slip Op 24333 [Sup Ct, NY County Oct. 30, 2014], in which Justice Shirley Kornreich ruled that LLC Law § 407’s default rule, permitting members to act by written consents without a meeting, trumped the meeting requirement in LLC Law § 1002(c) governing member approval of mergers.
Two of the above cases — Ferolito and Zelouf — also made it onto the nationwide top-ten list published in the January 2015 issue of Business Valuation Update, the business valuation profession’s leading monthly newsletter.
I’ve often said that business owners don’t fight over corpses, meaning that no one in their right mind would incur the trouble and expense of bringing or contesting a judicial dissolution petition over a business that has no value.
Well, like most generalities, there are exceptions. Seven years ago, among this blog’s inaugural posts, I wrote about a Manhattan Supreme Court case called Matter of Giraud in which an allegedly oppressed minority shareholder petitioned under BCL § 1104-a for judicial dissolution of an art consignment business, the majority shareholder elected to buy him out under BCL § 1118, the majority shareholder’s unopposed appraisal expert testified that the indebted, money-losing business with a short remaining term on its lease had no positive value, and the court ordered the majority shareholder to tender a symbolic $1 to acquire the petitioner’s shares.
Now there’s another one. Earlier this month, in Matter of Markowitz, 2014 NY Slip Op 51739(U) [Sup Ct, Kings County Dec. 10, 2014], Brooklyn Commercial Division Presiding Justice Carolyn E. Demarest, citing the Giraud case, ordered the two respondent shareholders, who had elected to purchase the shares of the two petitioning shareholders, to pay the nominal sum of $1 to each of them. Easing the pain somewhat, Justice Demarest also ordered the purchasing shareholders to provide releases and an indemnification and hold harmless personal guarantee against any claims made against the petitioners relating to the business. Continue Reading