Most business divorce litigation involving closely held companies results either in a buyout of one party by the other, or the two sides dividing the remaining assets and going their separate ways.
The biggest problem getting to the buyout is the absence of a public market to establish the value of the interest being acquired, particularly when dealing with a non-controlling interest in a sales or services-based operating company. The buyer and seller, even when advised by qualified business appraisers, can be light years apart on price due to different assumptions about a host of valuation inputs some of which necessarily require subjective analysis.
Splitting up the business can be very easy or very difficult, depending on the specifics of the business. It tends to be more difficult when there is value associated with the defunct company’s name or other such intangible good will value at the enterprise level (as opposed to personal good will that follows the individual business partner wherever he or she goes).
Litigation means time, expense and uncertainty, all of which can jeopardize the potential benefits of an eventual buyout or business split-up. It is difficult for the controlling owner to invest and make business plans while under the cloud of a prospective buyout of uncertain magnitude. The risks can be even greater in a split-up scenario for business partners who, perhaps as a matter of business survival, begin taking unilateral and sometimes surreptitious steps at odds with each other, designed to retain for themselves the loyalty and business of key customers and vendors.
These ruminations, and the title of this post, are inspired by recent decisions in two cases in which business partners remain locked in protracted and undoubtedly expensive litigation even after one side’s initial attempt to achieve judicial dissolution became moot.
The first decision is Mouhlas Realty, LLC v. Koutelos, 2009 NY Slip Op 30893(U) (Sup Ct Queens County Apr. 7, 2009). If the party names sound familiar, that’s because I highlighted a prior decision in this LLC dissolution case in a post last year (read here). In the prior decision, Queens County Supreme Court Justice Patricia Satterfield held that the petitioner, who owned a minority membership interest in the LLC, failed to establish grounds for judicial dissolution under LLC Law Section 702, and also held that the controlling members had no right to compel an "equitable" buyout of the petitioner’s interest — thereby leaving the litigants locked in a relationship neither wants. The decision also left unresolved a series of counterclaims brought by the controlling members against the petitioner, including one seeking imposition of a judicial lien on her membership interest on account of an unsatisfied demand for capital contribution.
Justice Satterfield’s recent decision addresses the controlling members’ motion for summary judgment on those unresolved claims. The controlling members argued, based on the "law of the case" doctrine, that the court’s prior rejection of the minority member’s grounds for dissolution, including her objection to a mandatory capital contribution, entitled them to judgment against her for specific performance enforcing the capital contribution requirement and imposing a lien. Justice Satterfield disagreed, stating that her prior decision did not determine the propriety of the capital call, only that there was no statutory prohibition against it, and that the petitioner failed to show that the LLC is unable to function in accordance with its operating agreement or that the business is failing financially.
So here it is, over a year after the minority member sued for dissolution, and even though the issue of dissolution has been taken out of the case, the parties seemingly are not one step closer to resolving their broken relationship. Have the parties been discussing a buyout? I don’t know, I can only assume that they have and, if so, that the demand and offer are too far apart due to different views of the business value and/or the impact on price of the capital call.
The second case is Stack v. O’Higgins, 2009 NY Slip Op 30874(U) (Sup Ct NY County Apr. 2, 2009), decided by the newest member of the Commercial Division of the New York County Supreme Court, Justice Shirley Werner Kornreich. The plaintiff, Lawrence Stack, and the defendant, Michael O’Higgins, are 50-50 members of an LLC called Stack’s Sales East Coast LLC ("SSEC") which buys and sells rare coins, medals, paper currency and other numismatic items. In September 2006, Stack brought an action for judicial dissolution of SSEC due to disagreement regarding the proposed transfer of Stack’s membership interest. It appears from the court’s docket that the case got bogged down in discovery for the next year and a half. Again, I don’t know if any buyout negotiations took place in the interim.
What we do know from the court’s decision is that in May 2008, Stack changed course by sending O’Higgins a written notice purporting to exercise his right under the operating agreement to cancel SSEC’s license to use the word "Stack" in its company name or otherwise. The relevant section of the operating agreement expressly conditioned the license termination on Stack’s withdrawal from SSEC or SSEC’s dissolution, so O’Higgins responded with a letter demanding confirmation of Stack’s withdrawal, which Stack gave by written notice in September 2008. Soon thereafter, O’Higgins filed a certificate of amendment changing SSEC’s name to "Steib’s Sales East Coast LLC."
Did Stack’s withdrawal from SSEC, which effectively mooted his claim for dissolution, end the hostilities? Not by a long shot. Even after the formal withdrawal, O’Higgins apparently continued to use Stack’s name to market and advertise his business, as evidenced by certain trade journal ads and online directories. This prompted Stack to file a motion to amend his complaint to add claims for breach of contract, a declaratory judgment and a permanent injunction. O’Higgins opposed the motion on the grounds that Stack’s withdrawal from SSEC mooted the entire action and that, in any event, his company’s official change of name met any obligation under the operating agreement to cease using Stack’s name. Justice Kornreich rejected O’Higgins’ contentions and, for the most part, granted Stack leave to amend his complaint.
Stack, as Stack’s Rare Coins, and O’Higgins, as Steib’s Sales East Coast, are now business competitors fighting each other for customers, sources and for the good will they spent years developing jointly. Dissolution is out of the picture. Yet they are still locked in a three-year old litigation that drains their financial resources, places in the public record matters that most business owners prefer to keep private, and distracts from time better spent building their business.
In both of these cases, Koutelos and Stack, the defendants avoided dissolution and were able to carry onward in control of the business. In that narrow sense they won the dissolution battle. But in both cases the war goes on to an uncertain end as they continue to litigate their unresolved business and financial differences.