Disputes among co-owners of closely held business entities take on a different dimension when the co-owners also are members of the same family. These are the cases, pitting parent against child or sibling against sibling, that put business divorce lawyers to the ultimate test: How to navigate and reach resolution of the parties’ conflicting interests consistent with rational business and legal norms, while also navigating the personally intense, intra-familial resentments, jealousies and even hatreds that by definition defy rational, business-driven solutions.
I’ve long had a gnawing sense of a disconnect between the one-size-fits-all legal principles governing dissolution and related litigation involving closely held business entities, and the special characteristics, dynamics and problems of the family-owned business. But I could never locate that sense of disconnect within an analytical framework.
Now comes Benjamin Means to explain it all.
Ben is a brilliant, young legal scholar and Assistant Professor of Law at the University of South Carolina School of Law. I first took notice of Ben in 2009 when I came across his law review article published that year offering a fresh perspective on adjudication of minority shareholder oppression cases. Ben has written several scholarly articles since then also focused on shareholder oppression, each one more thought-provoking than the last.
I was especially intrigued when, a few months ago, Ben sent me a preview of his most recent article, called Non-Market Values in Family Businesses, which is slated for publication later this year in the William & Mary Law Review. It’s a remarkable piece of scholarship and, as far as I’m concerned, the first of its kind to tackle in a comprehensive, thoughtful way the tension between family values and the rational-actor model underlying traditional law and economics in the context of adjudicating conflict within closely held business entities.
Okay, full disclosure. Ben’s article quotes from and cites a post I wrote for this blog in October 2011 about the Reichman case involving a suit by son against father over ownership of an online retail business. What an honor! But do not think for a moment — well, maybe a moment — that it has any influence on my regard for the article.
I reached out to Ben after reading the article and, happily, he agreed to an online interview about his work in the area of shareholder oppression and family-owned businesses. Before we get to Part One of this two-part interview, let me tell you a little more about the interviewee.
Ben graduated cum laude from Dartmouth College and magna cum laude from Michigan Law School, where he was an articles editor for the Michigan Law Review. After law school he served as a law clerk to U.S. Circuit Judge Rosemary Pooler of the United States Court of Appeals for the Second Circuit, and he then practiced law at Davis Polk & Wardwell and Satterlee Stephens Burke & Burke LLP, both in New York City. Since 2008, Ben has been Assistant Professor of Law at the University of South Carolina School of Law in Columbia, South Carolina, where he teaches courses on business associations, business crimes, liberty theory, and mergers and acquisitions.
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Mahler: Ben, I’ve followed your writings over the years with great interest, and I’m so pleased you agreed to share with my readers your insights on conflict in family-owned businesses.
Means: Before we get started, I want to thank you for inviting me to this online conversation. I’ve been an admirer of the blog for years, ever since Larry Ribstein linked to some of your posts, and it’s great to have an opportunity to contribute.
Mahler: Thanks, Ben, the pleasure’s all mine. You’re also reminding me of the huge void left behind by Professor Ribstein’s untimely passing. So let’s begin. You’ve published a number of law review articles examining shareholder oppression and other special problems associated with internal conflict in closely held business entities. What drew your interest to this area of the law?
Means: Before entering academia, I spent several years in practice at Satterlee Stephens Burke & Burke LLP, a mid-sized New York law firm with a varied corporate law practice. Some of my most memorable cases involved smaller clients embroiled in shareholder disputes, often in family owned businesses. It will come as no surprise to you that the source of dissension usually had more to do with breakdowns in personal relationships than with any fundamental disagreement concerning business matters. In my scholarship, I’ve tried to reconcile this insight with more traditional theories of the corporation that assume individuals are, for the most part, economically rational.
Mahler: In my introduction I mentioned the first article of yours I saw in 2009, published that year in the Georgetown Law Journal, in which you observed that the potential for minority shareholder oppression is an “inherent structural characteristic of the close corporation form.” You go on to argue that courts should apply varying levels of scrutiny and deference to majority action in shareholder oppression cases, depending on the level of minority “voice” or participation in corporate management. How do you measure the level of voice in a close corporation where the formalities of board meetings and voting frequently are not followed even when provided for in the shareholders agreement?
Means: If you are suggesting that it would be difficult for courts to measure minority shareholder voice with any precision, I agree! That said, I do think that it is possible to identify situations in which the minority has been utterly excluded from decision-making and in which crucial information is being withheld. If a majority shareholder has dispensed with all formalities and is running the business like a personal fiefdom, a court ought to be more alert to the possibility of wrongdoing. Conversely, if the minority shareholder has a meaningful role—a board or officer position, access to information, and an opportunity to participate in meetings concerning business decisions—there is less reason for a court to worry about abuse of control. None of this changes the substantive standard for a finding of shareholder oppression, but it suggests that certain cases may warrant more or less judicial scrutiny.
Mahler: That’s interesting, because I usually think of those types of facts from a purely evidentiary perspective, as either proving or not proving oppressive conduct, as opposed to affecting the degree of judicial scrutiny. In your next article in the Fordham Law Review (2010), you took on what struck me as an even bigger intellectual challenge. In that article you critiqued the standard law and economics, “contractarian” approach to shareholder oppression claims — you made your bed when you became a minority shareholder, now lie in it. At the same time you acknowledged the problems that arise when courts apply free-floating norms of fairness predicated on the controlling shareholders’ fiduciary duties owed the minority. Instead you advocate what you call a “nuanced theory of contract” under which courts should focus on enforcing implied contractual obligations of good faith and fair dealing. Where do these “equitable principles of contract” come from, and how do they differ from a fiduciary-based approach?
Means: Any contract that covers complex subject matter and seeks to govern a long-term arrangement will have gaps. The covenant of good faith and fair dealing addresses the problem of incomplete contracting by forbidding the parties from acting opportunistically. The covenant is supplied as a mandatory term in every contract and is not a special equitable rule created for the benefit of minority shareholders in close corporations. Yet, the covenant seems quite well suited to address many situations in which the majority shareholders take advantage of an incomplete shareholder bargain to exploit the vulnerability of minority shareholders. In these cases, there is no need to impose any additional, fiduciary obligations on majority shareholders. Fiduciary analysis can also be an effective approach, especially with regard to questions of disclosure, but fiduciary duties can be overly vague and must somehow be reconciled with the majority’s legitimate business interests. Contractual analysis is tied to evidence of the parties’ actual agreement, or, at the very least, to arguments about what agreement rational individuals might have reached. By contrast, fiduciary law is animated by an ethos of selflessness that can’t literally be applied to a business relationship. Thus, my disagreement with the “contractarian” approach is not with the idea of using contract theory to redress governance problems in close corporations, but, rather, with the narrowness of the recommended application. Equity is part of contract law.
Mahler: Before we move on to your most recent work on the family-owned business, I want to ask about your 2011 article in the Western New England Law Review. That article stemmed from a symposium on the legacy of the Massachusetts Supreme Court’s 1976 decision in Wilkes v. Springside Nursing Home, Inc., a seminal decision in the shareholder oppression field. In Wilkes the court attempted to strike a balance in shareholder oppression cases between the majority shareholders’ “selfish ownership” interest in the corporation and their fiduciary duty of “utmost loyalty” owed the minority, by having courts “weigh the legitimate business purpose, if any,” of the majority’s contested behavior “against the practicability of a less harmful alternative.” In your article you call the Wilkes test “vacuous.” Why so, and how does your suggested contractual approach to a shareholder’s “reasonable expectations” provide a more workable test?
Means: Again, it is not easy to reconcile a fiduciary standard that requires selflessness toward minority investors with the majoritarian principles of corporate law. The Massachusetts Supreme Judicial Court recognized in Wilkes that majority owners must have room to pursue legitimate business purposes, even over the objection of minority shareholders. However, the Wilkes Court failed to define its terms, and the announced test could support almost any result in any particular case. As an analytic matter, therefore, the Wilkes test is vacuous. In my view, a reasonable expectations approach grounded in contractual analysis is a better approach because it focuses on the parties’ own understanding of their relationship. In recent cases, Massachusetts courts seem to be moving in this direction and placing less reliance on the older Wilkes test.
Mahler: Now we come to your most recent article entitled Non-Market Values in Family Businesses, which I understand will be published soon in the William and Mary Law Review and currently can be downloaded from your SSRN home page. In it you note a dearth of legal scholarship concerning governance issues affecting family-owned businesses. You also cite statistics showing that family dominated businesses comprise over 80% of U.S. firms, employ over 50% of the workforce and account for the bulk of America’s gross domestic product. In light of the economic importance of the family-owned business, why do you think there’s a dearth of legal scholarship and what prompted you to examine the topic?
Means: The laws of business organization pay scant attention to whether partners, shareholders, or members have preexisting relationships. A family business is still, legally speaking, a partnership, corporation, or LLC. Also, the dominant economic theories of the corporation operate on the assumption that individual investors care only about maximizing the value of their investment. This does not take us very far in seeking to understand the distinguishing characteristics of family businesses, and I thought that there was more to say. The research I’ve found in other disciplines concerning family dynamics is very much consistent with my own experience representing family businesses.
Mahler: “More to say” puts it mildly! Let me pick up on your point about dominant economic theories. In your previous articles you present the case for mitigating the contractarian approach to minority shareholder oppression, which assumes a set of rational actors concerned with maximizing their own economic opportunities and able to pick the best strategy to advance those preferences. In your latest article you write that this approach excludes “family values” that are integral to family businesses and are no less important than wealth maximization. Are you suggesting that courts should apply a standard even more remote from the rational actor model to minority shareholder oppression claims involving family businesses versus non-family businesses?
Means: Yes, up to a point. The legal standard should remain the same, so long as the family has chosen to do business through a particular form of business entity. However, shareholder oppression analysis is always fact intensive and an appreciation of family dynamics would help a court to understand the nature of a particular dispute in order to apply the oppression standard in an appropriate way. In many cases, it may be helpful to view the family business as an extension of family relationships. Not all family businesses are alike, however, and some will resemble the contractarian model. In short, the goal is to make the law responsive to the needs of the actual parties to a dispute.
Mahler: In my practice I’ve come across so many variations in the make-up and governance of family businesses, sometimes also involving persons related neither by birth or marriage. How do you define a family business?
Means: I used a broad definition with just two basic elements: first, a family must have the ability to control business decisions; second, there must be two or more family members with a stake in the business (otherwise, every sole proprietorship would be a family business). Admittedly, it’s a broad-brush definition, and I didn’t get into details concerning multiple-family ownership or, for that matter, what counts as a family.
Click here to read Part Two of my interview with Ben Means.