You know something’s seriously wrong with an LLC when the members can’t even agree on its name.
In a decision earlier this month by Suffolk County Commercial Division Justice Thomas F. Whelan, in Flax v Shirian, 2014 NY Slip Op 51229(U) [Sup Ct, Suffolk County Aug. 15, 2014], the court mercifully decreed death for a hopelessly dysfunctional, multi-member real estate holding company identified by one side as 27th Street Associates, LLC, by the other side as 27th Street, LLC, and in the property deeds and records of the New York Department of State, as 27 Street LLC.
But the name was the least of it. The LLC, formed in 2005, the following year invested over $4 million to acquire a tract of real property in Long Island City for the purpose of developing it with condominium housing. Eight years later, amidst a red-hot real estate market, nothing’s been built, there are two pending lawsuits among the members, one of the two, defined membership groups in the LLC itself has fallen into disarray, and all attempts at buy-out have failed.
You might think such are the ingredients for a successful petition for judicial dissolution of the LLC under Section 702 of the LLC Law, which authorizes the court to compel dissolution “whenever it is not reasonably practicable to carry on the business in conformity with the articles of organization or operating agreement.” But, although requested in Flax, Justice Whelan determined that court-ordained dissolution under § 702 was unnecessary because the circumstances triggered a contractually-required dissolution under the provisions of the operating agreement. Continue Reading
They say this summer has been unusually cool in the Northeast, but it’s been a hot one for business divorce litigation, judging from the number of recent court decisions involving various and sundry disputes among co-owners of closely held businesses. So, once again, it’s time for my annual summertime post featuring a few, short summaries of recent decisions of interest in business divorce cases.
First, we’ll look at a decision by Justice Melvin Schweitzer in a battle between 50/50 ownership factions over control of an international translation services company with over 3,000 employees. Next up is Justice Carolyn Demarest’s ruling denying a change of venue in a corporate dissolution case. Last is a decision by Justice Marcy Friedman in which she addressed an interesting statute of limitations defense in a drawn-out dissolution case.
Shareholder of Parent Corporation Has Standing to Sue Derivatively to Remove Subsidiary’s Director But Not for Dissolution
Elting v Shawe, 2014 NY Slip Op 32126(U) [Sup Ct, NY County July 24, 2014]. It’s not everyday you encounter business divorce litigation on the scale of this case, involving a firm with over 3,000 employees and revenues over $350 million. The subject company is a closely held Delaware holding corporation owned 50/50 by two individuals who also comprise its two-director board, and its wholly owned New York subsidiary providing international translation services. One owner-director sued the other for alleged financial and management abuses, asserting direct and derivative claims seeking the defendant’s removal as an officer and director of the subsidiary under BCL §§ 706 (d) and 716 (c), and also seeking deadlock dissolution of the subsidiary under BCL § 1104 (a). Continue Reading
The rules surrounding the death of a partner or a shareholder are familiar to most practitioners. For general partnerships governed by New York’s Uniform Partnership Act, except as otherwise provided by agreement, a partner’s death automatically triggers dissolution and liquidation, unless the surviving partners continue the business in which event they are required to pay the estate the fair market value of the deceased partner’s interest. (The rules are different in states that have enacted the Revised Uniform Partnership Act.)
For close corporations, except as otherwise provided by agreement, the deceased stockholder’s shares may freely be transferred to his or her heirs as provided by will or intestacy laws, in which event the transferee (and, in the interim, the estate representative) possesses the full panoply of voting and other statutorily enshrined rights including the right to bring a shareholder’s derivative action and the right to petition for judicial dissolution.
What about limited liability companies? Are the rules that apply following the death of an LLC member more like those for partnerships or corporations?
The answer is, neither. LLCs have their own, distinct, statutory default rules applicable when a member dies. In addition, as illustrated by a recent decision discussed below, the disposition and rights associated with the membership interest of a deceased member are uniquely amenable to the preferences of the LLC members as expressed in the operating agreement.
The pictured apartment building on Franklin Street in Brooklyn was acquired in 1991 by Mr. and Mrs. Jozef and Wieslawa Sokolowski, and Arkadiusz Wodkiewicz. The deed of conveyance was in their individual names, with handwritten inter-delineations recording that the Sokolowskis together hold a “50% interest” and Wodkiewicz the “remaining 50% interest”. The same three persons in their individual names also mortgaged the property in 2005.
If those were the only facts, we’d have to conclude that, after Mr. Wodkiewicz’s death in 2009, his estate would have the rights of a tenant in common, including the right to bring a partition action forcing a sale of the property. But those were not the only facts, which is how the Sokolowskis and the estate’s fiduciary found themselves embroiled in litigation over the ownership and disposition of the Franklin Street property.
Here are the additional facts: Concurrently with the 1991 deed, the three owners signed and filed a Business Certificate of Partnership in the name of J&J Real Estate Partnership, and also signed a Partnership Agreement providing:
- J&J’s purpose is to “hold real estate and at this time, it owns 223 Franklin Street and 225 Franklin Street, Brooklyn, New York.”
- The two Sokolowskis are deemed “one partner” holding a 50% “undivided interest in the partnership’s holdings.”
- All profits and losses are to be “equally divided between Sokolowski and Wodkiewicz” and all deductions for expenses and “carrying charges of partnership holdings including mortgage interest” are to be split 50/50.
- In the event of the “death of one of the Partners or the purchase of a partner’s interest by the other Partner, the value of such shall be the fair market value” based on the average of two appraisals obtained from “two independent business brokers.” Continue Reading
Can we all agree that the unincorporated business entity known as the limited liability company (LLC), which made its debut in 1977 in Wyoming before spreading nationwide, and the traditional business corporation, which has been around in the U.S. since at least the 1800′s, are distinct forms of business entities; that LLCs have “members” whereas corporations have “shareholders”; and that the two types of entities are governed by separate statutory schemes with different rules governing their judicial dissolution?
I raise the question in light of a recent decision in Scibelli v. Beacon Building Group, LLC, 2014 NY Slip Op 24199 [Sup Ct Queens County June 20, 2014], in which the trial court inexplicably granted a petition seeking dissolution of an LLC under both LLC Law § 702 and BCL § 1104-a.
The recognition of LLCs and corporations as distinct forms, at least for dissolution purposes, got off to a rocky start in New York. In 2002, when New York’s LLC Law was only eight years old, I published an article (read here) in which I commented critically that, in the handful of reported decisions in LLC dissolution cases, ”almost all of them either explicitly or implicitly treat LLCs as business corporations subject to the same dissolution standards and remedies available under Business Corporation Law Article 11, without any acknowledgment of the statutory differences and without offering any rationale for doing so.” Continue Reading
A trio of recent decisions by Nassau County Commercial Division Justice Stephen A. Bucaria (photo right) in Abatemarco v Abatemarco, Index No. 6455/13, presents a smorgasbord of noteworthy issues in a dispute between two brothers over a buy-out gone wrong involving their 50/50 interests in an advertising firm and the separate realty company that owns the building housing the advertising firm’s office.
No single issue in the case is a headline grabber, but all together they present a compelling illustration of the serial problems that can arise when the buy-out agreement doesn’t spell out with adequate precision the valuation parameters, and also doesn’t adequately address the buy-out’s effect on the landlord-tenant relationship between the two companies.
The Companies. Brothers Robert and Andrew Abatemarco were 50/50 shareholders in Robelan Displays, Inc., which produces indoor advertising displays, and 50/50 partners in Anthony Realty which owns the building in Hempstead, New York, rented by Robelan under an oral lease at $16,000 per month. Continue Reading
One of three, equal shareholders in a family-owned business licensed by the state liquor authority was convicted of a felony. Under state law the felony conviction of an owner jeopardizes the company’s license and with it, the entire business. The other two shareholders therefore adopted a resolution terminating his employment and simultaneously exercised the company’s option, set forth in their shareholders’ agreement, to redeem his stock at a value to be determined by appraisal.
Problem solved? Not quite. For one thing, the termination of employment was made retroactive about three months, arguably contrary to a provision in the shareholders’ agreement requiring that the purchase option be exercised within 30 days of termination. For another, the company did not obtain the required appraisal or propose a closing until about a year after the termination, whereas the agreement required that the company close on its option to redeem the shares within 90 days of the termination.
The ousted shareholder refused to tender his shares, contending that the company forfeited its purchase option by failing to exercise it in a timely fashion. The company, under pressure of a threatened de-licensing, sued to enforce the buy-out.
Probably you won’t be surprised to learn that, last week, an appellate panel in A. Cappione, Inc. v Cappione, 2014 NY Slip Op 05230 [3d Dept July 10, 2014], affirmed the trial court’s decision in favor of the company, ordering the ousted shareholder to convey his shares but also allowing him to contest the appraised value offered for his shares. The court’s ruling is particularly important in that it ordered the conveyance even assuming the option to purchase was not timely exercised, based on the manifest intent of the shareholders’ agreement to retain managerial control within the family, and the risk to the company of losing its critical license. Continue Reading
Last week, in Matter of Gould Erectors & Rigging, Inc., 2014 NY Slip Op 05004 [3d Dept July 3, 2014], an upstate appellate panel affirmed in part and reversed in part a lower court’s decision that highlights the special rules governing the filing and service of petitions seeking judicial dissolution of close corporations under Article 11 of the Business Corporation Law.
In an “ordinary” lawsuit, due process as embodied in the rules of civil procedure requires service of the summons and complaint on named defendants to confer personal jurisdiction over them. If service is not effected, or if service is not effected properly, the non-served defendant can appear and move to dismiss, which can have especially drastic consequences if the statute of limitations has expired in the interim. A non-served defendant who doesn’t appear in the case, i.e., who defaults, and against whom a judgment is entered, can later apply to have the judgment vacated.
The rules for corporate dissolution proceedings are different. The first important difference is that each of the statutory grounds for dissolution, including deadlock under BCL § 1104 and shareholder oppression under BCL § 1104-a, authorizes the filing of a “petition” – not a complaint – in what New York practice refers to as a “special proceeding” governed by Article 4 of the Civil Practice Law and Rules. In general, the rules for special proceedings provide for expedited judicial review in statutorily delimited categories of disputes. One of the other, more frequent uses of special proceedings is for challenges to decisions made by administrative and other quasi-judicial governmental bodies under CLPR Article 78. Continue Reading
Shifting alliances. Pacts made and broken. Territorial disputes. Sounds like nations at war, but it also describes an unusual, three-way battle over a real estate partnership being waged in Brooklyn Supreme Court in which Commercial Division Presiding Justice Carolyn E. Demarest (pictured) recently dealt with the fundamental question: Can someone become a partner absent compliance with the partnership agreement’s transfer restrictions?
Justice Demarest answered “yes” in a decision earlier this month, in Camuso v Brooklyn Portfolio LLC, 2014 NY Slip Op 50940(U) [Sup Ct, Kings County June 9, 2014]. Essentially, she found that each of the two 50% partners separately had validated the transfer of a 25% interest by one of them to his ex-wife, by means of stipulations in prior legal proceedings and in partnership tax returns identifying the ex-wife as a partner, resulting in a three-way, 50/25/25 partnership.
The ultimate issue in the case is the validity of a $5.9 million contract, executed on the partnership’s behalf solely by the remaining 50% partner, for the sale of the partnership’s realty to a third-party buyer. The court’s ruling didn’t resolve the contract’s enforceability, instead finding an issue of fact whether other provisions in the partnership agreement and the Partnership Law require unanimous partner approval for the sale.
Last week I had the privilege of presenting a panel discussion with Justice Elizabeth H. Emerson and my Farrell Fritz colleague, Matthew Donovan, at the Annual Conference of the Greater New York Chapter of the Association for Conflict Resolution, held at The Cardozo School of Law. The title of our presentation: Every Unhappy Family Business Is Unhappy In Its Own Way.
Aficionados of 19th century Russian literature will no doubt recognize our title as being not-so-subtly cribbed from the famous first line of Tolstoy’s Anna Karenina. Literary irreverence aside, the title unfortunately is fitting, at least with respect to the unique characteristics and problems associated with the family businesses that I deal with in my business-divorce practice.
The distinctiveness of family businesses, as well as the distinctiveness of the disputes that arise within them, derive in large part from a fundamental, inherent conflict that lies within each family business owner – namely, the conflict of whether to allow one’s obligations to the family or to the business to take priority (and under what circumstances). This inherent conflict, for example, can cause family-business owners to bring their family-related “baggage” to work and disrupt the corporate structure; to neglect critical corporate formalities and fail to make for themselves a sufficient record of ownership and key corporate transactions; and to discount the importance of arm’s-length negotiation and fail to procure for themselves essential contractual protections.
Our audience included an interesting mix of lawyers and non-lawyers who work primarily in the field of alternative dispute resolution, hence our discussion focused less on the mechanics and legal framework of business divorce litigation and more on how the professionals involved at various stages – lawyers, mediators, accountants, judges — can guide family business owners toward amicable resolution of family conflict or avoid such conflict before it happens. Many in our audience offered their own insights based on their mediation experiences both in commercial and non-commercial family dispute resolution.
Our panel discussion echoed many of these themes and offered experiential insights into this fascinating field during Thursday’s program. Some of the highlights included:
- Justice Emerson’s observations that family business disputes often have less to do with the legal issues being litigated before her than with the familial hang-ups that plague the parties’ history, and that getting to the true source or sources of the dispute goes a long way toward resolving it;
- Matt’s historical anecdotes and statistical data on the prominence of the family-owned business in our economy and the failure rate of family-owned businesses over successive generations;
- My observations that mediation lends itself better than litigation to a more inclusive approach to issue identification and resolution, such as when inheritance issues cloud the immediate dispute between sibling co-owners of the family business.
For those who’d like to learn more, Matt prepared an informative outline for the program, available here.