[This is the third in a three-part series on challenges to standing to petition for judicial dissolution where the petitioner lacks a stock certificate or other definitive evidence of shareholder status.  Part One looked at a recently decided case where the court ordered an evidentiary hearing to resolve the parties’ contradictory factual contentions.  Part Two discussed a dissolution case involving two contested corporations, in which the court rendered a split decision after an eight-day evidentiary hearing to determine whether the petitioner owned any shares.  This week’s highlighted case adds a family dimension to the problem of inadequate documentation of share ownership.]

If a corporate dissolution contest could be re-imagined as a TV game show, I’d call the case of Rodriguez v. Estevez, "Who Wants to be a Shareholder: Family Feud Edition". 

In many instances, the same bonds of kinship and trust that give life and success to family-owned businesses can lead to the most bitter of courtroom disputes when the family members/business partners have a falling out.  In Rodriguez, the dilution of family ties as control passed to the second generation, combined with a dramatic increase in the value of the business assets, created conditions rife for dissension.  The resulting legal conflagration over the question of share ownership was made even more predictable by the family members’ traditional aversion to the use of "outsider" lawyers and accountants to maintain proper corporate records.   

The Rodriguez saga starts with two first generation immigrants to the United States, Rafael Rodriguez and Joaquin Estevez, who became successful retail business owners in New York City.  Rafael owned and operated a liquor store.  Joaquin went into the retail grocery and food trades.  Rafael married Joaquin’s sister.  Joaquin had two daughters and five sons, several of whom became involved in their father’s businesses. 

In 1989, the Estevez family took over a supermarket business located in what was then a crime-ridden section of East Harlem, in a building on East 110th Street (the "Building").  Because the business needed a license to redeem food stamps, and because Joaquin and some of his sons previously were convicted of felonies relating to the food stamp program, Joaquin initially placed ownership of the supermarket in a new corporation ("D&R") owned 100% by Rafael’s brother, Juan Rodriguez.  Eventually Juan dropped out and his D&R shares were transferred to Estevez family members.

The Building’s owner later landed in financial trouble and contemplated bankruptcy which would have threatened the supermarket’s lease.  In 1992, the supermarket’s supplier proposed that the Estevez family acquire the Building and offered to finance its acquisition 100% conditioned on the purchaser’s advancing of $100,000 cash for "closing costs."  Lacking the funds, Joaquin asked Rafael to put up the $100,000 which he did out of unreported cash receipts from his liquor store.  Neither Joaquin nor any of his sons invested any cash or other monies for the Building, the ownership of which was placed in a newly-formed corporation called EB 110 Realty Corp. ("EB 110").  Rafael and Joaquin’s son, Ramon, attended the closing and executed the note and mortgage as President and Secretary of EB 110, respectively.  Both also executed personal guarantees.

Now that you know the case involves Manhattan real estate bought in the early 1990s, you’ve probably guessed correctly that the Rodriguez case centers on the disputed ownership of the EB 110 shares.  As observed by the trial judge, Justice Lewis Bart Stone, in his 42-page decision (19 Misc 3d 1116[A], 2008 NY Slip Op 50732(U) [Sup Ct NY County 2008]):

The economic change which led to this dispute was the reduction of crime and the resulting enormous escalation of real estate values in the East Harlem area where the Building is located. The Building, acquired in late 1992 for no more than the transactional costs of the acquisition over a mortgage, i.e. with effectively no equity, now has an equity of over $8 million.  Obtaining a share of this jackpot has now overwhelmed the strength of family ties.

Rafael brought his lawsuit asserting his ownership of 50% of EB 110’s shares and seeking its dissolution under Business Corporation Law Section 1104-a.  Rafael alleged that his nephews Dennis and Jose Estevez together owned the remaining 50% although he took no position as to the breakdown between the two.  Rafael’s suit also asserted derivative claims on EB 110’s behalf against D&R and Dennis arising out of inter-company loans, shortfalls of rental payments and for reimbursements of tax and/or mortgage payments.

In response to the dissolution petition, Dennis elected to purchase Rafael’s shares under BCL Section 1118.  Dennis, however, asserted that Rafael owned only one-third of EB 110’s shares and that he (Dennis) owned the remaining two-thirds.

Making matters even more complicated, Jose appeared in the action agreeing with Rafael’s claim of 50% ownership and asserting, contrary to Dennis, that he (Jose) and Dennis each owned half of the other 50%.   

EB 110’s minute book and stock ledger were blank, although stock certificates Nos. 1 through 4 were removed.  As Justice Stone noted, "[t]he ownership dispute here, therefore, cannot be resolved by the usual method of reviewing the corporate books and records, since virtually for all purposes, there are none."  In a section of his decision entitled "The Social Context," Justice Stone commented on the lack of documentation as follows:

Relying instead on family bonds and trust, documentation of intra-family transactions was rare and Joaquin and Rafael assumed they could always re-shift and re-title their business assets at will for the "benefit" of the family. Lawyers and accountants were not "of" family and were used only when necessary so as to contain costs and not to reveal too much of the family’s business to those outside of the family circle.

At trial one of the several lawyers who in the past represented both families produced stock certificates Nos. 1, 2 and 3 showing Rafael, Dennis and Jose each holding 10 shares.  All were dated concurrent with the Building acquisition, however Nos. 1 and 2 were signed by Rafael and Ramon as President and Secretary, respectively, whereas No. 3 was signed by Dennis and Jose in the same respective positions.  The first name of the holder of certificate No. 2 was whited out and the name "Dennis" was typed over the white out in a type-face different than the one used on No. 1 and on the remainder of No. 2.  All typing on No. 3 was in the same type-face as the name "Dennis" on No. 2.  Rafael disputed the authenticity of No. 3.

A second lawyer-witness testified that his office prepared only certificates Nos. 1 and 2 at the time of the Building acquisition, in the names of Rafael and Ramon; that his office equipment did not use the type-face used for "Dennis" on No. 2 and on No. 3; and that his office did not prepare No. 3.

Ramon testified that he received a 50% interest when the Building was acquired, and that he owned it for the benefit of the Estevez family subject to any further disposition by his father, Joaquin, who did not testify at trial.  Ramon also testified that Joaquin had told him that Rafael would have a 50% interest in the Building.  Ramon further testified that in 1995, he transferred his ownership position in EB 110 to his brothers Dennis and Jose equally.  There was neither consideration nor documentation for the transfer.

Jose corroborated Ramon’s testify concerning the 1995 transfer of Ramon’s shares to Dennis and Jose equally.  Jose also testified that the only time he remembered signing a certificate was on the occasion of the 1995 Building refinancing.

The Building was again refinanced in 1998 with the assistance of a lawyer who had no previous involvement with EB 110 and who "assumed" each of Rafael, Dennis and Jose held a one-third interest.  The loan agreement included a reference to the three of them as guarantors each with a one-third interest.

Dennis asserted his two-thirds ownership based on the three stock certificates, the 1998 loan documents and his 2004 purchase of Jose’s supposed one-third interest for $500,000 cash.  Jose admitted that he agreed to sell his shares to Dennis (which Jose described as a 25% interest), but denied that Dennis ever gave him the cash and therefore claimed that he was still a 25% owner.  Dennis produced documents signed by Jose acknowledging receipt of the cash and assigning his shares to Dennis.  Jose testified that he did not read the documents before signing them and that he signed with the expectation that the cash would be subsequently paid.  Dennis testified that he delivered the $500,000 cash to Jose in a briefcase, in a car.

EB 110’s tax returns for the years 1992 through 2004 identified Rafael as 50% owner.  The pre-1995 returns identified Ramon as the other 50% owner while the post-1995 returns corroborated Ramon’s testimony that he transferred his interest to Dennis and Jose equally that same year.  The company filed no returns after 2004.  "Such failure to file," wrote Justice Stone, "coincided with this dispute, where signing a Federal Return might place Dennis between the rock of conceding Rafael’s claim if the Return recited Rafael’s 50% ownership and the hard place of perhaps knowingly signing a false Return, if the return did not."   

Based on the evidence summarized above, Justice Stone concluded that as of the commencement of the dissolution proceeding in 2005, the shares of EB 110 were owned 50% by Rafael and 50% by Dennis.  Justice Stone found that only certificates Nos. 1 and 2 for 10 shares each in the names of Rafael and Ramon were issued at the Building acquisition in 1992, and that No. 2 was modified and No. 3 was prepared and signed some time in 1995, most likely at the 1995 refinancing closing.  The personal guarantees given by Rafael and Ramon for the 1993 refinancing also supported their 50%-each ownership at that time.  The 1995 refinancing documents were consistent with Ramon’s testimony that he transferred his 50% interest at that time equally to Dennis and Jose.

Justice Stone discounted the reference in the 1998 loan documents to Rafael, Dennis and Jose as one-third shareholders, finding that it was an "error" introduced by their lawyer "based on his uncritical reading of the Certificates, which was not caught by Claimants, who relied on documentation prepared by trusted counsel, and were instead focused on consummating the refinancing."  Justice Stone also found that Rafael never knew of certificate No. 3 in Jose’s name until 2004.

Finally, Justice Stone disbelieved Jose and credited Dennis’ testimony that he paid the $500,000 cash for Jose’s 25% interest.  In this instance, the receipt and transfer documents signed by Jose were prepared by Dennis’ lawyer with whom Jose had no relationship and on whom he had no basis to rely.  In addition, the signed payment receipt was a simple document clear in both its substance and terms.  Justice Stone also found that Jose’s testimony, that he trusted Dennis by signing a cash receipt without having received payment, was inconsistent with the "bad blood" that existed between Dennis and Jose at the time. 

It’s hard to draw any lessons from a case like Rodriguez which exists precisely because the business owners shunned professional planning and corporate formalities in favor of home-grown family governance.  The best we lawyers can do is try to sort out the mess when the family bonds break.