Here we are again, in the doldrums of the last week of August. Offices are semi-deserted. The phones are quiet. Even the email traffic is down. Last chance to recharge the batteries before the post-Labor Day onslaught begins. A perfect time to offer vacationing readers summaries of a few recent decisions of interest involving disputes between business co-owners.
First, we’ll look at what appears to be a decision of first impression, holding that a liquidating receiver may consider the tax advantages of a shareholder bid for the dissolved corporation’s assets structured as a stock redemption. Then we’ll look at a pair of decisions addressing derivative versus direct claims, in one finding that the plaintiff’s claims were properly brought as direct claims, and in the other finding that the plaintiff failed to plead justification for failing to make a pre-suit demand.
Liquidating Receiver Authorized to Accept Shareholder Bid for Corporation’s Real Property Structured as Stock Redemption
Matter of Gohil (Bayside Mini Grocery, Inc.), 2012 NY Slip Op 30320(U) (Sup Ct Nassau County Jan. 23, 2012). The case was brought by the controlling shareholders of two corporations, one operating a bodega and the other owning the building housing the bodega, under §1103 of the Business Corporation Law for judicial dissolution of the corporations pursuant to majority shareholders’ resolution. In April 2011, the court appointed a receiver to liquidate the business and the real property. In July 2011, the court authorized the receiver to hire a real estate broker to market and sell the property at an initial listing price of $2.6 million. The court’s order also permitted the shareholders to put in topping bids to any outside offer. In August 2011, the broker obtained a $2.4 million all-cash outside offer. In September 2011, the petitioners put in a $2.5 million topping bid structured as a stock redemption agreement pursuant to which the respondents would sell to the realty corporation their 30% interest and petitioners would then own 100%. The proposed redemption also was designed to avoid approximately $75,000 in realty transfer taxes. The respondents did not at that time put in a topping bid, and the receiver determined that the petitioners’ bid was the highest offer.
Subsequently, however, the respondents objected to the proposed structure of the petitioners’ bid and made their own, untimely all-cash bid to purchase the realty for $2.5 million, which the receiver determined was less favorable than the petitioners’ stock redemption offer because of the $75,000 transfer taxes triggered by the respondents’ proposal. The receiver then received an offer for $2,575,000 from an outside corporate bidder known as Eastend — which petitioners claimed was controlled by respondents — structured as an acquisition of 100% of the common stock of the realty corporation. The receiver determined that this offer also was less favorable because of the transfer taxes. Eastend then submitted a revised offer of $2.6 million structured as a sale of the realty outright, which the receiver again determined was less beneficial to the shareholders.
The receiver next applied to the court for authority to accept and close on the petitioners’ stock redemption offer or, alternatively, to re-open the auction sale to permit petitioners and Eastend to submit one-time, sealed bids not less than $2.6 million, and giving the receiver sole discretion to accept whichever offer is higher and better whether structured as a stock redemption or deed transfer. The court’s decision, by Nassau County Commercial Division Justice Timothy S. Driscoll, holds that the receiver “properly considered the tax consequences of the Offers, and may consider those tax consequences, as well as any other factors he deems appropriate, in complying with the Court’s directions” to sell the property. However, because of “some ambiguity” in the court’s prior order in regard to the receiver’s authority to accept an offer structured as a stock redemption, Justice Driscoll grants the receiver’s alternative request to re-open the bidding.
In a subsequent decision last month in the Gohil case involving other claims and issues (read here), Justice Driscoll notes that, pursuant to the re-opened auction, the Receiver has accepted the petitioners’ offer structured as a stock redemption of the respondents’ minority interest. The final price is not given.
This is the first reported sale of this type that I’ve seen, outside of a buyout settlement, in the setting of a corporate dissolution and liquidation by a receiver. It’s interesting not only because of the additional flexibility afforded the receiver in being able to consider tax consequences, but also because (1) effectively it allows a shareholder to make a “credit” bid for the corporation’s assets, i.e., the bidding shareholder need not pay cash for his or her pro rata share of the purchase price based on equity percentage, and (2) practically speaking it entails cessation of the corporate dissolution or reinstatement of the dissolved corporation, which is what happened in Gohil.
Shareholder’s Derivative Claims Against Other Owners Fail to Satisfy Demand Futility Pleading Requirements
Ditlya v. Grinberg, 2012 NY Slip Op 51580(U) (Sup Ct Kings County Aug. 17, 2012). This case involves claims brought by one of three equal shareholders of Sprague-Goodman Electronics, Inc. (SGE) against the other two. Their shareholders’ agreement gave the defendant, Grinberg, sole authority for day-to-day operations. The plaintiff, Ditlya, initially filed a complaint against Grinberg and the third shareholder alleging direct claims for non-payment of a $500,000 loan Ditlya made to SGE; denying Ditlya access to SGE’s books and records; issuing checks over $5,000 without Ditlya’s consent; making a “smaller distribution” to Ditlya; and shipping products to customers with large debts. The defendants moved to dismiss the complaint on the ground that the claims sought redress for harm to SGE and therefore must be brought derivatively. Ditlya responded by serving an amended complaint adding SGE as a defendant and recasting the claims as derivative claims. The amended complaint alleged that the two defendant shareholders comprised the entire board of directors and that it would be futile to demand they bring an action against themselves. In reply, defendants challenged the merits of the amended complaint.
The court’s decision, by Brooklyn Commercial Division Justice David Schmidt, grants the defendants’ dismissal motion, noting that a shareholder derivative complaint brought under §626 of the Business Corporation Law must plead with particularity at least one of the three grounds for pre-suit demand futility: (1) a majority of the board is interested in the challenged transaction; (2) the board’s failure to fully inform themselves about the challenged transaction; or (3) the challenged transaction was so egregious on its face that it could not have been the product of sound business judgment. “Plaintiff does not allege with particularity any of these reasons,” Justice Schmidt writes, “but merely alleges, in essence, that a demand would be futile because defendants would refuse to bring suit.” Justice Schmidt also finds that, regardless of the pleading deficiency, the allegations in the amended complaint fail to satisfy the elements of the proposed causes of action for breach of fiduciary duty and breach of contract.
LLC Member’s Claims Against Managing Member Seek to Vindicate Individual Rights, Therefore Need Not Satisfy Derivative Claim Pleading Requirements
Piroozian v. Homapour, 2012 NY Slip Op 31188(U) (Sup Ct Nassau County Apr. 19, 2012). The case involves a two-member limited liability company called Higgins Avenue LLC that operates a warehouse. Their operating agreement entitled the plaintiff, Piroozian, and the defendant, Homapour, to 37.5% and 62.5%, respectively, of the LLC’s net income distributions. Piroozian sued Homapour and the LLC alleging three claims for breach of the agreement by failing to distribute to Piroozian his 37.5% share of the 2010 net income; an accounting of the LLC’s finances; and breach of Homapour’s duty to manage the warehouse and secure tenants. Homapour moved for summary judgment of dismissal, arguing that the claims were derivative in nature and plaintiff therefore lacked standing to seek direct relief; that his non-distribution of the 2010 net income was justified due to potential third-party claims against the LLC; and that the challenged activities were protected by the business judgment rule.
The court’s decision, by Nassau County Commercial Division Justice Timothy S. Driscoll, denies dismissal of Piroozian’s claims for withheld distributions and for an accounting, holding that they are not in the nature of derivative claims. The “thrust” of the claim for distributions, Justice Driscoll states, “is to vindicate his personal rights as an individual and not as a stockholder on behalf of the corporation in that Plaintiff alleges that Homapour breached an agreement between Homapour and Plaintiff providing for the payment of certain distributions to Plaintiff.” Justice Driscoll also finds issues of fact precluding dismissal of the accounting claim. The third claim for mismanagement does not survive, however, based on Piroozian’s failure to refute Homapour’s allegations and documentation regarding the leasing of the warehouse.