Failure to Disclose Stock Interest in Bankruptcy Petition Defeats Standing in Later Dissolution Proceeding
It's not often that bankruptcy law intersects with corporate dissolution proceedings based on deadlock or minority shareholder oppression, but when it does, likely it's bad news for the petitioner seeking to liquidate the company or to be bought out by another shareholder.
Such was the fate of the plaintiff in a recently decided dissolution case called Light v. Boussi, 2008 NY Slip Op 51212(U). In 2006, plaintiff Beril Light sued Samuel Boussi for an accounting, imposition of constructive trust, damages and an order compelling dissolution of a real estate holding company formed in 1995 called 10-18, Inc. Light claimed that he and Boussi were 50-50 shareholders. Light alleged that Boussi failed to maintain corporate formalities, provide him with notice of corporate meetings or financial information, or distribute to Boussi 50% of the company profits. Boussi denied that Light ever was a shareholder and also asserted as affirmative defenses that Light lacked legal capacity to sue, and that Light's claims were barred by the doctrine of judicial estoppel.
Both defenses arose from the fact that in 1998, Light and his wife filed a voluntary petition under Chapter 11 of the Bankruptcy Code. Their petition listed various assets owned by them including real properties and interests in stock corporations, but made no mention of 10-18, Inc. The bankruptcy court entered a final decree in 2002, Light's bankruptcy case was closed, and the trustee was discharged.
Continue Reading...Caplash Redux: 50% Member Cannot Hire Lawyer to Represent LLC in Dispute with Other 50% Member
When 50-50 business partners have a falling out, the ensuing battle for the high ground can lead one of them to take hostile action in the company's name without the other's consent.
Examples of the phenomenon, recently featured in this blog, include the case of Hellman v. Hellman, where the court upheld the authority of a 50% shareholder as president to enter into a lease opposed by the other shareholder, and Sports Legends, Inc. v. Carberry, where the court refused to authorize a lawsuit brought in the company's name by one 50% shareholder against the other.
Then there's Caplash v. Rochester Oral & Maxillofacial Surgery Associates, LLC. About four months ago I wrote about an appellate decision in the Caplash case in which the court reversed a trial court order dissolving a medical practice LLC because of unresolved factual issues concerning the plaintiff's standing to seek dissolution. The issue before the court was whether to give legal effect to the plaintiff's letter to the company resigning his employment, and thereby terminating his LLC membership, where the company's requisite acceptance of the resignation was by letter from an attorney whose authority under the operating agreement to act on the company's behalf was not established. The appellate court sent the case back to the trial court for a hearing to determine the issue.
Since then, there's been a flurry of activity in the Caplash case and a new trial court decision which, I'm happy to report, supplies many of the underlying facts missing from the appellate decision. The recent decision, by Justice Kenneth R. Fisher of the Monroe County Supreme Court, Commercial Division, addresses two issues of interest. First, it examines the interplay between the parties' operating agreement and the LLC Law in deciding whether the lawyer engaged by one member with 50% voting power had the authority to accept on the LLC's behalf the other member's resignation. Second, it determines whether the same lawyer could act on the entity's behalf in asserting claims against the resigning member for wrongful competition and other economic injury to the LLC.
Continue Reading...50% Shareholder May Not Sue Other 50% Shareholder in Company's Name
The concept of the corporation as a separate "person", with a legal identity distinct from its shareholders and the ability to sue and be sued in its own name, is the cornerstone of the corporate form of business organization. The essential corporate attribute of limited liability and the attendant imposition of fiduciary duties of loyalty and care on those entrusted to manage the corporation's affairs, could not comfortably exist without corporate separateness.
Okay, I admit that's a highfalutin way to introduce the discussion that follows, of a trite lawsuit between shareholders of a two-bit sports memorabilia business, but that's the beautiful thing about the law, its noblest notions inform even the most mundane of disputes.
The dispute in question is the subject of a decision last month by New York County Supreme Court Justice Joan Madden in a case called Sports Legends, Inc. v. Carberry, 2008 NY Slip Op 30718(U) (Sup Ct NY County Mar. 10, 2008) (read decision here). The case arose when one of two 50% shareholders of a sports memorabilia business caused a suit to be filed in the name of the corporation against the other shareholder, asserting claims to recover company merchandise allegedly taken by the defendant and not returned. The primary issue in the court's decision, of no interest here, was whether the action was barred by the statute of limitations (the court found that it was). Secondarily, and the reason I'm discussing the case, the court addressed the issue whether the shareholder who brought the suit in the company's name had the authority to do so.
Continue Reading...Anatomy of a Dissolution Slugfest: Part IV
This is the fourth in a series of postings on a multi-faceted corporate dissolution battle waged in Nassau County Supreme Court called Matter of Marciano (Champion Motor Group, Inc.) involving three partners and a luxury automobile dealership.
Part I of the series (read it here) reviewed the basic facts of the case and discussed the defendants’ initial, unsuccessful challenge to Marciano’s standing to seek dissolution based on allegations that he deliberately sought to conceal from tax authorities and federal prosecutors his stock ownership interest in Champion. Part II (read it here) covered some additional issues raised in the court’s initial decision in the case, including the defendants’ argument that they acted reasonably by excluding Marciano from the business after his criminal indictment. Part III (read it here) highlighted portions of the court’s second decision in the case in which it denied Marciano’s motion to compel payment to him of distributions pending the litigation and granted his motion for leave to amend his complaint.
In this Part IV, we look at Justice Warshawsky's third decision in the case dated September 19, 2007, occasioned by the defendants' renewed assertions that Marciano lacked standing to seek dissolution and that their exclusion of him from the business was reasonably required to protect the business in response to the unrelated stock fraud charges brought against him by federal prosecutors.
Continue Reading...Anatomy of a Dissolution Slugfest: Part I
Question: What do you get when you take a luxury automobile dealership consisting of multiple corporations and limited liability companies, stir in three business partners, add contradictory documents concerning one partner’s ownership interest, season with a federal indictment of that same partner for stock fraud following which the other two partners freeze him out of the business, top off with a pair of litigators and bring to a boil?
Answer: A great recipe for a corporate dissolution slugfest recently played out in Nassau County Supreme Court.
Business divorce devotees can go to school on this case, thanks to a series of fact-filled and law-laden written decisions authored by Justice Ira B. Warshawsky of the Nassau County Supreme Court, Commercial Division. About the only disappointing thing about this battle royal, entitled Matter of Marciano (Champion Motor Group, Inc.), is that the plaintiff’s first name isn't Rocky.
This first of five consecutive postings on the Marciano case summarizes the underlying facts. It then examines the court’s handling of the primary defense raised by the defendants in their initial attack on the dissolution petition, in which they challenge Marciano’s standing as a shareholder to seek dissolution. In subsequent postings New York Business Divorce will discuss a number of other issues discussed in each of the court’s four, separate decisions, including:
- whether Marciano’s criminal indictment justified the defendants’ decision to exclude him from the business;
- Marciano’s application under Section 702 of the LLC Law to dissolve the several LLCs formed by the parties;
- Marciano’s request for appointment of a limited receiver or financial monitor to oversee the business;
- Marciano’s request for access to all corporate records;
- Marciano’s request to compel distributions to him pending the proceedings;
- Marciano’s application to amend his pleading to add post-commencement derivative claims for waste and mismanagement;
- Defendants’ application made after discovery for summary judgment dismissing the action based on lack of standing and Marciano’s eventual guilty plea to unrelated federal charges;
- Marciano’s application to dismiss defendants’ “unclean hands” and estoppel defenses; and
- Marciano’s application for injunctive relief concerning the defendants’ alleged self-dealing when they assigned the dealership’s lease to a related company in which they alone are principals, following which the related entity exercised an option to purchase.
LLC Members May Bring Derivative Suits
The New York Court of Appeals (the state's highest court), in a split decision with a vigorous dissent by three of the court's seven judges, today resolved the hotly debated question whether members of New York limited liability companies may bring derivative suits on the LLC's behalf. Answer: they may. Here's the decision in Tzolis v. Wolff.
A number of lower courts, in refusing to grant member standing to sue derivatively, interpreted the LLC Law's legislative history as indicative of the legislature's deliberate omission of statutory authority for derivative suits. The Court of Appeals majority held otherwise, finding the legislative history "too ambiguous to permit us to infer that the Legislature intended wholly to eliminate, in the LLC context, a basic, centuries-old protection for shareholders, leaving the courts to devise some new substitute remedy" (p. 11).
Waving the separation of powers banner, the dissenters accuse the majority of "judicial fiat" by "effectively rewrit[ing] the law to add a right the Legislature deliberately chose to omit", adding: "The proponents of derivative rights for LLC members -- who were unable to muster a majority in the Senate -- have now obtained from the courts what they were unable to achieve democratically" (p. 20).
The availability to LLC members of derivative rights will have a substantial impact on LLC member relations and the kind of litigation that may ensue when members seek judicial recourse. Without such rights, members holding minority interests in LLCs had little recourse against majority abuses that caused direct injury only to the LLC (e.g., taking excessive compensation or other forms of self dealing). The LLC Law's provision for judicial dissolution has not proved to be a potent remedy in the face of typical operating agreement provisions giving broad management control to the majority owners. Today's decision in Tzolis evens the playing field by providing an alternative avenue for judicial relief.
Decision Highlights Interplay Between Employment Status and LLC Membership
Closely held companies with multiple owners actively involved in the business sometimes use employment agreements between the company and the owners, separate and apart from the shareholders’ agreement (for corporations) or operating agreement (for LLCs). Such employment agreements are especially prevalent in medical practices where, among other reasons, restrictive covenants are routinely used to prevent departing doctors from establishing competing practices in the same locality.
Quite often the shareholders’ or operating agreement and the employment agreement will provide that, upon termination of employment, the shareholder or member is required to redeem his or her interest in the company on specified terms. Disputes and litigation, including proceedings for judicial dissolution of the business, may erupt when the outgoing owner perceives enough of a disparity between the specified compensation (or lack thereof) and the “real” value of his or her interest.
A decision last week by an intermediate appellate court in Rochester, involving a medical practice organized as an LLC, highlights the interplay between the interest redemption triggered by termination of employment and the threshold issue of standing to seek judicial dissolution of an LLC under Section 702 of the Limited Liability Company Law. The statute confers standing to seek dissolution upon members only.
In Caplash v Rochester Oral & Maxillofacial Surgery Assoc., LLC, the trial court summarily granted the plaintiff’s application to dissolve the practice. On appeal by defendant, the panel of five appellate judges unanimously reversed the lower court’s decision on the ground that defendant raised a genuine issue for trial whether, based on plaintiff’s apparent resignation, he was a member of the company within the meaning of the statute when he sought dissolution. Here’s what the court said:
Defendant submitted a letter from plaintiff to the company indicating that plaintiff was resigning as an employee of the company, and he also submitted a letter from an attorney who purported to accept plaintiff's resignation on behalf of the company. The company operating agreement unequivocally provides for the termination of membership in the event of the termination of a member's employment with the company, and plaintiff's employment agreement specifies that "This Agreement shall terminate . . . at any time by mutual agreement in writing by Employer and Employee." The record does not disclose the circumstances under which the attorney came to represent the company and whether such representation was authorized by the operating agreement. We thus conclude that there is an issue of fact whether plaintiff has standing to seek dissolution.
The appellate decision does not reveal any additional facts, such as the percentage membership interest of the plaintiff and whether, for instance, the issue concerning the attorney’s authority to act on behalf of the company arose because the plaintiff and defendants were 50/50 members. In any event, the decision is another reminder that, no matter how high temperatures rise when business partners are on the brink of breakup, careful reading of agreements and obtaining advise of counsel should precede any decisive steps.
Double Whammy: When Romantically Involved Business Partners Fall Out
The mom-and-pop business is engrained in the American psyche as a symbol of combined domestic and business durability. I have two theories about that. One, in the olden days if the business was incorporated, chances are the husband owned 100% notwithstanding the wife’s equal labors. Two, those were the days before a 50% divorce rate.
Today, women have become equal forces as entrepreneurs and managers in most areas of the business world. Combine that with the high incidence of unmarried couples not only living together, but also going into business together, and you have a sure-fire recipe for heated business divorce cases when a good number of these couples inevitably break up.
The mix of personal and business relationship turned volatile in a recent case (read opinion here) in which the girlfriend – let’s call her Barbie – commenced a proceeding for judicial dissolution of a company she allegedly owned 50-50 with her former boyfriend – let’s call him Ken – alleging that he had looted, wasted or diverted company assets and was engaging in oppressive acts toward her. The court’s opinion doesn’t describe the company business, though it does mention that the company owned the house in which Barbie lived. Indeed, Barbie filed for dissolution shortly after Ken caused the company to serve her with eviction papers.
Ken asked the court to dismiss Barbie’s case on the ground she was not a shareholder and therefore lacked standing. The company’s stock register listed Ken and Barbie as the only two shareholders with 100 shares each. Relying on § 624(g) of the Business Corporation Law (BCL), Barbie contended that the register was prima facie evidence of ownership even if the stock certificate never was physically delivered to her. Ken countered that Barbie had failed to pay an agreed upon price of $165,000 for her shares, and cited BCL § 504(h) which states that stock certificates may not be "issued" until payment is made for the shares. Barbie did not claim that the shares were a gift nor, apparently, did she deny her agreement and failure to pay $165,000. The court found for Ken and dismissed the case.
Did Mattel ever make a Shareholder Barbie?
The case, Matter of Sanyou New York, Inc., 2007 NY Slip Op 33326(U) (Sup Ct Queens County Sept. 25, 2007), was decided by Justice Joseph P. Dorsa of the Queens County Supreme Court.
