A year ago I wrote a piece called The Elusive Surcharge in Dissolution Proceedings highlighting the rare appearance in the case law of the surcharge provision found in Section 1104-a (d) of the Business Corporation Law. The provision allows a court in dissolution proceedings brought by an “oppressed” minority shareholder to “order stock valuations be adjusted and may provide for a surcharge upon the directors or those in control of the corporation upon a finding of willful or reckless dissipation or transfer of assets or corporate property without just or adequate compensation therefor.”

If something strikes you amiss, at least as to the provision’s first clause concerning stock valuation, you’re not alone. If the court orders dissolution, there’s no stock valuation to be adjusted, right? The best (if not wholly satisfactory) answer I can give points to subsection “b” of BCL Section 1118, enacted at the same time as Section 1104-a, which allows the court, in determining the fair value of the petitioner’s shares once there has been a buy-out election, to “giv[e] effect to any adjustment or surcharge found to be appropriate in the proceeding under section 1104-a of this chapter.”

To my eye, that’s just sloppy legislative drafting. The stock valuation adjustment and surcharge both feed off the same thing: a transfer of corporate assets without fair consideration. The drafters should have excised the needlessly confusing reference to stock valuation adjustment in Section 1104-a (d), and more simply should have provided in Section 1118 (b) that the court, in determining the fair value of the petitioner’s shares, can “give effect to any surcharge found to be appropriate under section 1104-a (d) of this chapter.” How the surcharge is to be given effect — whether by way of a pro rata distribution to the petitioner of a discrete surcharge amount on top of the fair value award, or by factoring (“adjusting”) it into the business appraisal upon which the fair value award is based — is up to the appraisal experts and ultimately the court. Justice Dianne Renwick’s 2006 decision in the Exterior Delite case gives guidance to that effect.

The legislative sloppiness continues to have real-world consequences, which is why I’m revisiting the subject a year later prompted by a trial court decision earlier this month in Matter of Carter (Ricwarner, Inc.), 2017 NY Slip Op 51479(U) [Sup Ct Bronx County Nov. 2, 2017]. Continue Reading The (Even More) Elusive Surcharge in Dissolution Proceedings

A dissolution petitioner received the judicial equivalent of the old quip “Where’s the beef?” in a Brooklyn appeals court decision last week reversing an order dissolving a limited liability company under Section 702 of the Limited Liability Company Law. In Matter of FR Holdings, FLP v Homapour, 2017 NY Slip Op 07439 (2d Dept Oct. 25, 2017), the Appellate Division, Second Department, sent the case back to the drawing board, despite the LLC having been in receivership for more than two years, because the petitioner “offered no competent evidentiary proof” in support of his petition for dissolution.

A Common Fact Pattern

FR Holdings involved a common fact pattern. 3 Covert LLC (“Covert”) was formed to own and operate a mixed-use apartment and commercial building in Brooklyn.  Under the operating agreement, the purpose of the member-managed LLC was “to purchase and sell residential and commercial real estate and to engage in all transactions reasonably necessary or incidental to the foregoing.” Section 6.01 (a) of the operating agreement permitted most actions by “the vote or consents of holders of a majority of the Membership Interests.” As alleged in the petition, the LLC had five members, four of whom each held 12.5% interests. The fifth member, FR Holdings, owned a 50% interest. Continue Reading “Where’s the Beef?” Says Appeals Court, Reversing LLC Dissolution

Minority shareholder oppression and deadlock are the twin pillars of most business divorce litigation. Both are codified in the vast majority of statutes authorizing proceedings for judicial dissolution of closely held corporations and, to a lesser extent, limited liability companies. Both encompass infinite permutations of  behaviors — of both the well and ill-intended variety — among business co-owners that make any working definition of the two doctrines only marginally more useful than Justice Potter Stewart’s famous “I know it when I see it” definition of obscenity.

From my casual observations over the years, I’d say the courts probably have devoted far more attention to formulating and refining the standard for minority shareholder oppression, which is of more recent vintage than deadlock as ground for judicial dissolution and typically is not defined in the statutes. Oppressive conduct is evaluated in most states under one of three judicially-created formulations: majority conduct that defeats the reasonable expectations of the minority shareholder; breach of the fiduciary duty of good faith and fair dealing majority shareholders owe minority shareholders; and burdensome, harsh, and wrongful conduct constituting a visible departure from the standards of fair dealing majority shareholders owe minority shareholders in close corporations.

I’ve not encountered comparable attempts to formulate a deadlock standard, although one might think the term deadlock needs no judicial interpretation à la oppression. After all, the dictionaries tell us that deadlock is a state of impasse or inability to progress when two opposing factions with equal control can’t come to agreement on something. But the dictionary definition doesn’t get us very far in the context of judicial dissolution proceedings. For example, 50/50 owners in an otherwise well-functioning company could be deadlocked over what shape table to buy for their conference room; no one would suggest that deadlock of this sort would warrant a judicial death verdict for the company. And what about a feigned deadlock created by one faction in pursuit of a break-up, buy-out, or other strategic objective?

In my case-law travels I’ve come across decisions that catalog prior cases granting dissolution as illustrative categories of disagreement warranting dissolution, e.g., impasse over distributions or the hiring or firing of key personnel, but I’ve seen no attempt to fashion an overall framework for evaluating claims of deadlock, that is, until last month’s opinion in Koshy v Sachdev (read here) in which the Supreme Judicial Court of Massachusetts, in its first-ever effort to construe that state’s deadlock-dissolution statute, devised a four-factor test to determine whether a “true deadlock” exists. Continue Reading Court Defines “True Deadlock”

abstentionCivil litigation in federal court can be a luxury experience. The quality of the judiciary is superb. Federal judges often give their cases substantial individualized attention. Lawsuits progress relatively quickly. The procedural rules in federal court have been litigated nationwide, so lawyers can easily find case law on almost every procedural nuance. Yet, business divorce cases are almost never litigated in federal court. Why?

The Friedman Decision

In 1994, the United States Court of Appeals for the Second Circuit all but sealed the courthouse door to business dissolution cases in federal court, at least in the territorial jurisdiction of the Second Circuit, which includes New York. Continue Reading Federal Court No Mecca for Business Divorce Litigants

No U TurnArticle 11 of the Business Corporation Law governs dissolution of closely held New York business corporations. Article 11 has existed, more or less in its current form, for decades. Some of its provisions have been heavily litigated, including Sections 1104 and 1104-a governing judicial dissolution for deadlock and oppression, and Section 1118 governing buyout of a minority’s interest in an oppression proceeding. Other provisions have received surprisingly little attention.

In Morizio v Roeder, 2017 NY Slip Op 50248(U) [Sup Ct Albany County Feb. 17, 2017], Albany County Commercial Division Justice Richard M. Platkin addressed one of these latter, relatively-overlooked sections.

Section 1116 of the Business Corporation Law governs the circumstances in which a party who sues for dissolution may later change his or her mind and withdraw the claim for dissolution. The key language of the statute provides that a petitioner who wishes to withdraw his or her claim must “establish” to the court “that the cause for dissolution did not exist or no longer exists.”

What does that mean? Only a few courts have considered the issue, including a decision last year by Justice Timothy Driscoll in the Cardino case. As it turns out, a leading case to consider the legal standard to withdraw a dissolution claim was an earlier decision in the Morizio litigation. Continue Reading Withdraw a Dissolution Claim? Not So Fast

NewYorkCourtofAppealsIn a controversial ruling last year in Congel v Malfitano, the Appellate Division, Second Department, affirmed and modified in part a post-trial judgment against a former 3.08% partner in a general partnership that owns an interest in a large shopping mall, and who unilaterally gave notice of dissolution, finding that

  • the partnership had a definite term and was not at-will for purposes of voluntary dissolution under Partnership Law § 62 (1) (b) based on the partnership agreement’s provisions authorizing dissolution by majority vote, notwithstanding a 2013 ruling by the Court of Appeals (New York’s highest court) in Gelman v Buehler holding that “definite term” as used in the statute is durational and “refers to an identifiable terminate date” requiring “a specific or even a reasonably certain termination date”;
  • the former partner’s unilateral notice of dissolution therefore was wrongful; and
  • having wrongfully dissolved the partnership and upon the continuation of its business by the other partners, under Partnership Law § 69 (2) (c) (II) the amount to be paid to the former partner for the value of his interest properly reflected a 15% reduction for the partnership’s goodwill value, a 35% marketability discount, a whopping 66% minority discount, and a further deduction for damages consisting of the other partners’ litigation expenses over $1.8 million including statutory interest.

The Appellate Division’s decision, which I wrote about here, and the former partner’s subsequent application for leave to appeal to the Court of Appeals, which you can read here, reveal, to say the least, a remarkable result: the former partner, whose partnership interest had a stipulated topline value over $4.8 million, ended up with a judgment against him and in favor of the other partners for over $900,000.

But the story’s not over. Last week, the Court of Appeals issued an order granting the former’s partner’s motion for leave to appeal. Sometime later this year, the Court of Appeals will hear argument in its magnificent courtroom pictured above and issue a decision in the Congel case which likely will have important ramifications for partnership law whatever the outcome. Continue Reading Court of Appeals to Decide Controversial Partnership Dissolution Case

Litigating

There’s little doubt in my mind that “business divorce” has achieved name recognition as a distinct subgenre of commercial litigation whose regular practitioners, by dint of experience dealing in and out of court with the many and varied legal and practical issues arising from dysfunctional family and non-family owned closely-held businesses, offer clients a level of expertise not shared by civil litigation generalists.

I like to think that my blog, in its tenth year and still chugging along, has contributed to the enhanced recognition along with the efforts of a small but growing cadre of fellow bloggers, contributors of articles in legal publications, and speakers at bar association programs and business valuation seminars.

Now, with the publication of a smartly constructed and well-written treatise called Litigating the Business Divorce (Bloomberg BNA 2016), the law practice of business divorce truly has come of age.

LBD, as I’ll call it, is the fruit of a two-year project led by contributing editors Kurt Heyman and Melissa Donimirski in collaboration with an all-star cast of contributing authors. Kurt is a partner and Melissa a senior associate at the firm of Heyman Enerio Gattuso & Hirzel LLP in Wilmington, Delaware. Kurt, a seasoned business divorce litigator whom I’ve known for about ten years and whom I interviewed last year for my podcast, is a founding Co-Chair of the Business Divorce Subcommittee of the ABA Business Law Section, Business and Corporate Litigation Committee. Continue Reading Announcing Must-Have Treatise on Business Divorce Litigation

door“Marriage is tough, business relationships may be tougher.”

Wise words from someone who should know — Nassau County Supreme Court Justice Timothy S. Driscoll, who presided over matrimonial cases before joining the Commercial Division where he has adjudicated some of the thorniest business divorce cases such as the AriZona Iced Tea donnybrook.

The quoted words appear in an oral argument transcript in a case called Cardino v Feldman pending before Justice Driscoll involving a fight between 50-50 owners of a construction company operated by the defendant Feldman. It’s a factually and procedurally complex matter, the details of which I’ll spare readers in favor of focusing on the main takeaway from Justice Driscoll’s recent decision in the case, namely, that once a business owner asserts a claim for judicial dissolution under Section 1104-a of the Business Corporation Law — even if not pleaded in strict accordance with the statute — it’s very difficult to reverse course after the other shareholder timely elects to purchase the petitioner’s shares for fair value under BCL Section 1118. Continue Reading Once Opened, The Door to Judicial Dissolution and Buy-Out Is Hard to Close

SurchargeHidden in plain view in Section 1104-a (d) of the New York Business Corporation Law, which authorizes an oppressed minority shareholder to petition for judicial dissolution, is a provision empowering the court to adjust stock valuations and to “surcharge” those in control of the corporation for “willful or reckless dissipation or transfer” of corporate assets “without just or adequate compensation therefor.”

A second, fleeting reference to surcharge appears in Section 1118 (b) of the buy-out statute, empowering the court in its determination of the stock’s fair value to give effect to any surcharge “found to be appropriate” under Section 1104-a.

The ordinary definition of surcharge, at least in the context of settling accounts, is to show an omission for which credit ought to have been given. But what does it mean in its statutory setting, and how has it been applied by the courts? Continue Reading The Elusive Surcharge in Dissolution Proceedings

Not VerifiedIn one of my first posts on this blog I warned about the dire consequences (i.e., dismissal) of bringing a summary proceeding for corporate dissolution under Article 11 of the Business Corporation Law by filing a petition verified by the petitioner’s attorney rather than by the petitioner, unaccompanied by the petitioner’s sworn affidavit attesting to the merits of the petition’s alleged grounds for dissolution.

What about the other way around, that is, when a respondent opposing a dissolution petition files an answer to the petition verified only by his or her attorney, also unaccompanied by a sworn affidavit of the respondent attesting to the facts offered in opposition to dissolution?

Not surprisingly, the consequences are equally dire — for the respondent, anyway — as illustrated by the court’s recent decision in Matter of Salcedo (Hispanos Car Service, Inc.), 2016 NY Slip Op 31143(U) [Sup Ct Richmond County May 11, 2016], granting a dissolution petition in the absence of “admissible evidence” contradicting the petition’s allegations. Continue Reading How Not to Oppose a Dissolution Petition