Access to Books and Records

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subsidiary

Two decisions do not a trend make, but I can’t shake the feeling that the Appellate Division, First Department, is telling trial judges to take a broader view of shareholder statutory and common-law rights to inspect corporation books and records.

The first decision, two years ago, was the McGraw-Hill case which I reported on here. In that case, the First Department reversed a lower court’s ruling denying a shareholder’s inspection petition under Section 624 of the Business Corporation Law and common law. The petitioner sought records concerning the McGraw-Hill Board of Directors’ oversight of purported wrongdoing by its wholly-owned subsidiary, the Standard & Poor’s credit rating agency. The appellate ruling focused on the proper-purpose standard, holding that the petitioner’s stated purpose to investigate alleged misconduct by McGraw-Hill’s management and obtaining information that may aid in litigation are proper purposes “even if the inspection ultimately establishes that the board had engaged in no wrongdoing.” Essentially, the ruling eliminated the Catch-22 of requiring outside shareholders to tender proof of management wrongdoing to gain access to company records enabling them — or not — to show wrongdoing.

The petition in McGraw-Hill sought records of the parent company in which the petitioners held shares, not the subsidiary. Last week, in Matter of Pokoik v 575 Realties, Inc., 2016 NY Slip Op 06648 [1st Dept Oct. 11, 2016], in a decision of apparent first impression, the First Department again reversed a lower court ruling denying inspection rights and held that the petitioner was entitled under the common law to inspect records of the corporation’s wholly-owned subsidiary. Continue Reading Ruling Upholds Shareholder’s Right to Inspect Subsidiary’s Books and Records

shorts

It’s late August, when the lure of the seashore and vacation plans push aside all but the most serious work-related endeavors, and when I share with my readers a few short summaries of recent decisions of interest in business divorce cases.

First, we’ll look at a decision in a dispute among former law firm partners in which the court upheld a partnership agreement amendment by the defendant majority partners, reducing the plaintiff’s percentage interest after he announced his intention to withdraw but before the actual withdrawal became effective. Next up is a relatively rare decision in an LLC dissolution case granting a motion to disqualify defense counsel under the advocate-witness rule of professional conduct. In the third case highlighted below, the Delaware Chancery Court dismissed a books-and-records action for lack of standing where the shares issued to the plaintiff never existed.

Court Enforces Eve-of-Withdrawal Reduction of Partnership Interest

Zohar v LaRock, Short Form Order, Index No. 14826/10 [Sup Ct Nassau County July 25, 2016].  Article 8-B of New York’s Partnership Law authorizes regulated professional practices to organize as registered limited liability partnerships. The LLP form is highly popular with law firms because it offers the same limited liability protection afforded corporation shareholders and LLC members, except for their own professional negligence or malpractice. The LLP otherwise is subject to the same statutes and common-law rules governing general partnerships, which give partners great leeway in ordering their own affairs in their partnership agreement. Continue Reading Summer Shorts: Partnership Interest Reduction and Other Recent Decisions of Interest

consentThe pick-your-partner principle is universally embedded in the default rules of limited liability company enabling acts, including Sections 601 through 604 of the New York LLC Law which permit free assignment of distributional and other economic rights appurtenant to a membership interest but require the other members’ consent before an assignee is granted full member status with voting and other rights associated with membership in an LLC.

The distinction between a “mere” assignee versus a transferee with member status can become a battle ground when a putative LLC member who received his, her or its interest by assignment brings legal action against the LLC’s managers for dissolution, access to books and records, or asserting derivative claims on behalf of the LLC. That’s because by statute and/or common law, the suing party’s requisite legal standing to assert such claims depends on having member status.

A recent decision by Manhattan Commercial Division Justice Saliann Scarpulla in MFB Realty LLC v Eichner, 2016 NY Slip Op 31242(U) [Sup Ct NY County June 24, 2016], in which she dismissed derivative claims by a mere assignee of LLC interests, starkly illustrates the distinction and the importance of compliance with the LLC agreement’s provisions for bestowing member status on assignees. Continue Reading Operating Agreement’s Two-Step Consent Provision Foils Assignment of LLC Member Interest

LLCIf there’s a common theme to the trio of LLC cases highlighted in this post, it’s that having a well-crafted written operating agreement is no guarantee there won’t be a litigation dust-up, while not having a written operating agreement greatly enhances the odds of a legal dispute among members at some point down the road.

Let’s start with the well-crafted operating agreement in Estate of Calderwood v Ace Group International LLC, 2016 NY Slip Op 30591(U) [Sup Ct NY County Feb. 29, 2016], in which Manhattan Commercial Division Justice Shirley Werner Kornreich ruled that upon the death of the subject Delaware LLC’s majority member, under the express terms of Sections 9.7 and 7.1 of the LLC Agreement (read here), his estate was deemed a “Withdrawing Member” with no management rights and retaining solely the right to receive distributions. Continue Reading LLC Case Notes: Member Expulsion, Withdrawal, and LLC Purpose

bananasAs Thomas Hoey, Jr., the formerly wealthy, self-proclaimed “Banana King,” sits in his prison cell serving lengthy sentences for beating up his mistress and for what the New York Post describes as “his callous attempt to cover up a wild coke orgy in a Manhattan hotel room that ended with one woman dead of an overdose,” and as he awaits sentencing for his subsequent conviction for stealing from the employee pension fund of his bankrupt, wholesale banana company, I suppose the least of his concerns is a civil court ruling last month throwing out his lawsuit seeking to enforce his assignment to his estranged wife of his membership interest in two real estate holding LLCs.

His loss is our gain, at least to those interested in the law governing transfer of LLC interests.

New York LLC Law § 603 sets forth the basic default rules governing assignment of LLC membership interests. Except as provided in the operating agreement:

  • membership interests are assignable in whole or in part;
  • assignment does not entitle the assignee to become a member or to exercise any membership voting or management rights; and
  • the assignment’s only effect is to entitle the assignee to receive distributions and allocations of profits and losses to which the assignor would be entitled.

Under LLC Law § 604 (a), except as provided in the operating agreement, an assignee can become a member only upon the consent of at least a majority in interest of the members excluding the assignor. Continue Reading How Good is Your Operating Agreement’s Anti-Assignment Clause?

Access1It’s been over 21 years since New York enacted its LLC Law, during which we’ve only seen a handful of court decisions concerning a member’s right to inspect company books and records under LLC Law § 1102. A first impression decision last month addressed not the scope of inspection, but whether inspection can be conditioned on an undertaking not to disseminate the information obtained or to contact other members whose identities are disclosed by the inspection.

Let’s begin with a few basics. Managing members of a limited liability company normally require unrestricted access to, and control over, company books and records, which is right and proper given their supervisory and fiduciary roles in regard to company operations and finances. Non-managing members generally have a narrower but nonetheless vital interest in gaining access to company books and records, centered on monitoring the activities of, and potential abuses by, the managers as agents of the LLC, and keeping themselves apprised of the company’s financial condition and the value of their investment.

Section 1102 of New York’s LLC Law, which in large part was patterned after Section 121-106 of the state’s Revised Limited Partnership Law, contains both mandatory and default rules governing the maintenance of, and member access to, books and records. Sections 1102 (a) and (b) mandate that “any member” has the right to inspect “for any purpose reasonably related to the member’s interest as a member” certain minimal records that must be maintained by the LLC including the names and addresses of all managers and members, the LLC’s articles of organization and operating agreement, and tax returns for the three most recent fiscal years, plus such “other information regarding the affairs of the [LLC] as is just and reasonable.”

At the same time the statute recognizes management’s competing interest to control and even limit both the logistics and scope of inspection. Under Section 1102 (b), the manner and circumstances of inspection are subject to “reasonable standards as may be set forth in, or pursuant to, the operating agreement.” For instance, it’s typical to find in operating agreements provisions requiring a written demand for inspection, regulating the time and place of inspection, and specifying the requesting member’s obligation to pay the costs of inspection. Continue Reading Conditional Inspection of LLC Books and Records: When Is It Permitted?

deathThe death of a shareholder amidst a court battle for control of a closely held business can have a dramatic effect on the direction and outcome of the case.

We saw it happen in my post a few weeks ago about the Catalina Beach Club case which started as a deadlock dissolution case between feuding 50/50 factions, but was discontinued abruptly after the petitioning faction gained voting and board control by acquiring an additional 25% interest from the estate of one of the respondent shareholders who died a few months after the suit began, much to the chagrin of the surviving 25% respondent now downgraded to non-controlling, minority shareholder.

Not one but two deaths in another, fractious family-owned business resulted in shifts in control with game-changing consequences for the positions and leverage of the litigants. The resulting travails of two generations of the Lewis family are laid bare in a recent decision by Albany Commercial Division Justice Richard M. Platkin in Heller v Lewis, 2015 NY Slip Op 51867(U) [Albany County Dec. 21, 2015], in which he denied preliminary injunctive relief sought by the majority-turned-minority faction. Continue Reading Death of a Shareholder

KornreichManhattan Commercial Division Justice Shirley Werner Kornreich (pictured) is not known to mince words, so one has to sit up and take notice when she describes a partnership dissolution case as “yet another unfortunate example of a family business dispute that has developed into needless litigation” whose “outcome here is obvious.”

The judge’s admonition in Redel v Redel, 2015 NY Slip Op 31941(U) [Sup Ct NY County Oct. 16, 2015], springs from a suit against the plaintiff’s father and two sisters concerning a general partnership formed by the four of them over 30 years ago to acquire and hold a 10% interest in a limited partnership known as 225 Broadway Co. which owns an office building in lower Manhattan. The amended complaint (read here) identifies Leder Enterprises as an at-will family partnership with no written partnership agreement in which the father holds a 40% interest as managing partner and the sisters hold 20% apiece.

The complaint alleges that, in violation of various provisions of the Partnership Law, the father sold a 4% partnership interest to the plaintiff’s ex-boyfriend without her knowledge or consent; failed to provide plaintiff with reasonable access to partnership books and records; failed to provide a reasonable explanation for a $50,000 “shortfall” in plaintiff’s capital account; and failed to comply with the plaintiff’s demand for the immediate dissolution and winding up of Leder Enterprises. The complaint seeks declaratory judgments of dissolution and that the ex-boyfriend is not a partner, a formal accounting, and damages against the father for breach of fiduciary duty. Continue Reading Court Chides Parties in Family Partnership Dispute for “Needless” Litigation with “Obvious Outcome”

pizzaA self-described “world-renowned Neapolitan pizza chef” won a round in court earlier this month in a dispute with his business partner over control of a popular pizzeria located in Manhattan’s Greenwich Village. The court’s opinion by Manhattan Commercial Division Justice O. Peter Sherwood in Manzella v Caporuscio, 2015 NY Slip Op 31870(U)[Sup Ct NY County Oct. 6, 2015], granted summary judgment for the chef/majority member on his counterclaim against the minority member for breach of fiduciary duty and modified a prior Consent Order to authorize termination of the minority member’s employment for cause.

The case involves a Greenwich Village restaurant called Keste Pizza and Vino founded in 2009 by pizza chef Roberto Caporuscio. Since 2012 the business is co-owned by Caporuscio and Sandra Manzella as 55% and 45% members, respectively, of Keste Group LLC. Keste has a fairly standard operating agreement for member-managed LLCs, giving Caporuscio as majority member the controlling vote with a few exceptions requiring unanimous consent such as the admission of a new member.

Keste’s operating agreement (read here) doesn’t mention much less guarantee a member’s “employment” by the LLC. What it does say — which apparently stiffened spines on both sides in the lead-up to litigation — is that “[n]otwithstanding anything to the contrary contained in the provisions of this Agreement, the Members agree that Caporuscio and Manzella shall have primary responsibility for running the day-to-day operations of the Company” (¶ 4.1). Continue Reading Pizza Chef with Bigger Piece of LLC Pie Allowed to Terminate Minority Member’s Employment

limited partnershipA post I wrote two years ago referred to the limited partnership as “the dinosaur of business forms in New York” destined for “virtual extinction” due to New York’s outmoded partnership laws coupled with the meteoric rise of the limited liability company. As the years roll by, the limited partnership’s obsolescence is especially pronounced for those governed by New York’s Uniform Limited Partnership Act of 1922 (“NYULPA”) codified in Article 8 of the New York Partnership Law, applicable to limited partnerships formed prior to, and exempted from, the New York Revised Uniform Limited Partnership Act of 1991 (“NYRULPA”) codified in Article 8-A of the Partnership Law.

The rarity of new business divorce cases involving NYULPA-governed limited partnerships makes it all the more intriguing when one comes along, as happened earlier this month in a case called Doppelt v. Smith, 2015 NY Slip Op 31861(U) [Sup Ct NY County Oct. 1, 2015], decided by Manhattan Commercial Division Justice Eileen Bransten.

Doppelt doesn’t disappoint, thanks to its holding that a provision in a limited partnership agreement, authorizing voluntary dissolution upon the majority vote of the limited partners, precluded the plaintiff’s claims seeking judicial (involuntary) dissolution. Although neither the court nor the parties labeled it as such, and while the defendant in his briefs referred to plaintiff’s lack of “capacity” to seek judicial dissolution, I believe a more apt description of the court’s holding is that, effectively, it enforced a contractual waiver of the limited partner’s statutory right to seek judicial dissolution. Continue Reading Court Enforces Waiver of Limited Partner’s Right to Seek Judicial Dissolution — Or Did It?