I’ve often said that business owners don’t fight over corpses, meaning that no one in their right mind would incur the trouble and expense of bringing or contesting a judicial dissolution petition over a business that has no value.
Well, like most generalities, there are exceptions. Seven years ago, among this blog’s inaugural posts, I wrote about a Manhattan Supreme Court case called Matter of Giraud in which an allegedly oppressed minority shareholder petitioned under BCL § 1104-a for judicial dissolution of an art consignment business, the majority shareholder elected to buy him out under BCL § 1118, the majority shareholder’s unopposed appraisal expert testified that the indebted, money-losing business with a short remaining term on its lease had no positive value, and the court ordered the majority shareholder to tender a symbolic $1 to acquire the petitioner’s shares.
Now there’s another one. Earlier this month, in Matter of Markowitz, 2014 NY Slip Op 51739(U) [Sup Ct, Kings County Dec. 10, 2014], Brooklyn Commercial Division Presiding Justice Carolyn E. Demarest, citing the Giraud case, ordered the two respondent shareholders, who had elected to purchase the shares of the two petitioning shareholders, to pay the nominal sum of $1 to each of them. Easing the pain somewhat, Justice Demarest also ordered the purchasing shareholders to provide releases and an indemnification and hold harmless personal guarantee against any claims made against the petitioners relating to the business.
The corporation in Markowitz operates Mary’s Bar in Park Slope, Brooklyn, described in one online review as a “plain venue with mismatched furniture and a laid-back vibe” that “manages to neatly straddle the line between unpretentious barroom and shabby chic watering hole.” The venture was started by two couples, with each of the four shareholders owning 25%. Since its opening in 2011, management of the bar alternated between one member of each couple.
Relations between the two couples deteriorated, culminating with the petitioners’ commencement of a judicial dissolution proceeding in June 2013. The petition (read here) sought dissolution under the deadlock statute, BCL § 1104, based on irreconcilable differences concerning virtually all aspects of the business’s management, operation and finances. The petition also alleged that the corporation was insolvent, could not pay its rent, continued to lose money, and that all efforts to negotiate a buy-out failed.
As experienced practitioners know, unlike when dissolution is sought under the oppressed shareholder statute, BCL § 1104-a, a deadlock dissolution petition such as the one brought in Markowitz under BCL § 1104 does not trigger the respondent’s right under BCL § 1118 to elect to purchase the petitioner’s shares for fair value. In Markowitz, the respondents nonetheless served a notice of election under § 1118 and, for whatever reason, the petitioners accepted the election as reflected in a December 2013 court Order (read here).
The Valuation Hearing and Decision
At the subsequent valuation hearing, the respondents relied on a March 2014 evaluation by an agreed neutral who reported a zero value. As related in the court’s decision, the neutral testified that “the business simply was not making money, but was seriously under-water based upon rent and taxes due”; that the lease asset was “over market rent” and had no value; that no buyer could be found for the business due to unpaid sales tax; and that the corporation’s tangible assets had a liquidation value of $6,000 to $10,000 which barely offset the liabilities of almost $275,000. A second appraisal expert for the respondents corroborated the neutral’s conclusions.
The petitioners did not offer their own appraisal expert, contending that the respondents failed to disclose necessary financial records — a contention rejected in Justice Demarest’s decision. The likely high point of petitioners’ case was confronting one of the respondents during cross examination with her pre-litigation email to one of the petitioners, containing a demand for $375,000 for respondents’ 50% share of the business. The respondent retorted that the demand was not serious and meant “leave me alone.”
The petitioners also offered a Letter of Intent from a neighboring bar owner offering $90,000 to purchase the entire business and assets of the bar, but without assuming any of the corporation’s existing liabilities. The neutral appraisal expert discounted the offer as speculative, indicating that debts in excess of the offering price would have to be paid off as a condition of sale, resulting in a net loss to the shareholders.
Justice Demarest’s decision, after summarizing the testimony and party contentions, concluded that “there is no evidentiary basis to dispute the conclusions of both experts who testified that Maribelle’s Inc., a/k/a Mary’s Bar, has no market value.” She accordingly directed each of the petitioners to transfer his or her shares to respondents for the nominal sum of $1 and, as noted above, ordered the respondents to provide petitioners with releases and indemnifications for any corporate liabilities because “petitioners will no longer be in control of the business and will no longer have an interest therein.”
A Few Observations
Valuation contests, by definition, occur because the two sides cannot overcome their widely disparate opinions of share value. Except in rare instances involving admissible proof of reasonably contemporaneous, bona fide, arm’s-length, unconditional, third-party offers to acquire the corporation’s equity or all of its assets, i.e., actual proof of market value, going to trial over stock valuation without offering testimony of a business appraisal expert is a high-risk strategy, to put it mildly. In both Giraud and Markowitz, the petitioners’ failure to offer expert testimony essentially sealed the courts’ nominal buy-out orders.
I’ve frequently noted that a 50% shareholder-petitioner who may be the “natural” seller, and who anticipates ultimately selling his or her shares to the other 50% shareholder who may be the “natural” buyer, can lose bargaining leverage by pleading a dissolution claim under BCL § 1104-a either by itself or in combination with a claim under BCL § 1104. Either way the presence of the BCL § 1104-a claim triggers the respondent’s absolute right to elect to purchase. By omitting the § 1104-a claim, the 50% petitioner keeps alive for bargaining purposes the threat of liquidation of the corporation should the court conclude that deadlock exists.
The petitioners in Markowitz, whose petition relied on BCL § 1104 alone, made a fateful decision when they voluntarily accepted the respondents’ unauthorized § 1118 election to purchase. Interestingly, in their post-trial brief, the petitioners asked the court to revoke respondents’ election, and to dissolve the corporation, on the ground their petition made no mention of BCL § 1104-a. But it was too late. As Justice Demarest noted,
the record is clear that petitioners accepted respondents’ BCL § 1118 election on December 18, 2013 (see Order of December 18, 2013 in this matter), abandoning their defense that the election was improper in this BCL § 1104 proceeding . . ..