Buy-SellAt least on paper, shotgun provisions in shareholder and operating agreements provide an elegant and efficient buy-out solution when business owners can’t get along and need a divorce. In a two-owner company, the one who “pulls the trigger” names a price at which he or she either will buy the other’s interest or sell to the other. The other owner has a specified amount of time to decide which. Since the offeror doesn’t know who will be the buyer, in theory there’s a great incentive to name an objectively fair price. The agreement usually also will prescribe payment terms. No need for appraisal. No fuss. No muss.

I’m not aware of any data-based studies on the subject, but I believe experienced lawyers would concur that shotgun clauses, although frequently included in owner agreements, are rarely invoked. Why is that? I can only speculate that owners generally prefer other ways to achieve a breakup without the uncertainty of knowing who will end up with the business. Also, owners are reluctant to be the trigger-puller, that is, there’s a natural preference to be the one with the option to buy or sell at a price named by the other.

Shotguns also can suffer from informational and financial asymmetries between the owners, a problem highlighted in my two-part, online interview of Professors Landeo and Spier some years ago (here and here). As Professor Spier described it: Continue Reading Aim Carefully Before Pulling Trigger on Shotgun Buy-Sell Agreement

Lady Justice

Welcome to another edition of Winter Case Notes in which I clear out my backlog of recent court decisions of interest to business divorce aficionados by way of brief synopses with links to the decisions for those who wish to dig deeper.

And speaking of digging deeper, if you don’t already know, New York’s e-filing system has revolutionized public access to court filings in most parts of the state. The online e-filing portal (click here) allows searches by case index number or party name. Once you find the case you’re looking for, you’ll see a chronological listing with links allowing you to read and download each pleading, affidavit, exhibit, brief, decision, or other filing. No more trips to the courthouse basement to requisition paper files!

This year’s synopses feature matters that run the gamut, from a claimed de facto partnership, to several disputes pitting minority against majority shareholders, to an LLC case in which the court resolved competing interpretations of a somewhat murky operating agreement. Continue Reading Winter Case Notes: De Facto Partnership and Other Recent Decisions of Interest

Freeze-out2Unless otherwise provided in the operating agreement, majority members of LLCs formed under New York law — and under the LLC laws in most other states — effectively can expel a minority member by implementing a merger with another company owned by the majority members. The so-called freeze-out merger (a/k/a cash-out merger) compels the minority member to accept cash for his or her membership interest in lieu of equity in the surviving entity. The statutes generally protect the frozen-out member to the extent of providing the right to dissent from the merger and to demand a fair-value judicial appraisal.

As best as I can tell, until last month there were exactly four reported court decisions in New York involving challenges to LLC freeze-out mergers, each of which I’ve covered on this blog. In three of them — the Stulman case, the Alf Naman case, and the Slayton case — trial judges rejected various procedural and substantive objections to the mergers by the minority members. In the fourth case (SBE Wall), the trial judge denied a motion to dismiss an action seeking to invalidate a freeze-out merger, but the merger was never enjoined or rescinded and the case eventually settled.

Along comes a fifth case decided last month by Manhattan Commercial Division Justice Charles E. Ramos — who also decided the Stulman case — in which he denied the frozen-out minority members’ preliminary injunction motion seeking to enjoin the merger’s implementation after finding no basis for the minority members’ claim that the merger breached the operating agreement. Huang v Northern Star Management LLC, 2016 NY Slip Op 32194(U) [Sup Ct NY County Oct. 24, 2016]. Continue Reading Court Finds No Breach of Operating Agreement, No Basis to Enjoin LLC Freeze-Out Merger

deadlockTwo major themes are at work in a noteworthy decision last month by Manhattan Commercial Division Justice Charles E. Ramos in Goldstein v Pikus, 2015 NY Slip Op 31455(U) [Sup Ct NY County July 20, 2015], dismissing a petition for judicial dissolution of a New York limited liability company.

First, a petition asserting hostility-infused deadlock between co-managers of a New York LLC will be dismissed summarily absent allegations that the deadlock defeats the LLC’s purposes as defined in the operating agreement, or is causing the LLC to fail financially. Deadlock, per se, doesn’t cut it.

Second, single-asset real estate holding companies present a greater challenge for the dissolution petitioner alleging a dysfunctional relationship between co-managers. No matter the level of discord between co-managers, tenants must continue paying rent and the landlord must continue providing building services, maintenance and financial upkeep. In other words, compared to the operational mayhem and business impairment often caused by warring co-owners of a sales or service business, the realty firm’s purpose and finances tend to remain intact, making it harder to satisfy the dissolution standard for LLCs.


Goldstein stems from a fight for control of Ten Sheridan Associates, LLC, which was formed in 1996 to acquire a 14-story, mixed-use rental building with 73 residential apartments located in Manhattan’s West Village. All of the apartments are rent regulated. Continue Reading Deadlock Hits Dead End in LLC Dissolution Case

I recently wrote about the Kensington Publishing case in which the two children of the deceased business founder’s first marriage took control of a successful publishing house — to the consternation of the founder’s surviving second wife who inherited a majority of the company’s voting shares — by means of a voting agreement signed by the father without his wife’s knowledge several years before he died. In that case, the second wife, who was stymied in her effort to sell her majority stake on a control basis to a major publishing house, failed to convince the court to invalidate the voting agreement which port-mortem left board control in her stepchildren’s hands even upon a sale of the shares to an outside buyer.

The tables are turned in a new decision by Manhattan Commercial Division Justice Charles E. Ramos, in Serota v Scimone, 2014 NY Slip Op 30924(U) [Sup Ct, NY County Apr. 8, 2014], where it’s the second wife who prevails over the sons of her deceased husband’s first marriage by means of a different kind of dead-hand control mechanism involving a blanket delegation of LLC management authority to an outside contractor allied with the second wife and her son from her own prior marriage.

The Management Agreement in question, made by the ailing patriarch and business founder less than a month before his death, left his sons with ownership of a realty empire but with virtually no power to control it even though they automatically became the LLCs’ designated managers after their father died. Continue Reading Father’s Dead-Hand Control of LLCs Frustrates Sons’ Takeover of Realty Empire

New York’s statutory default rules governing transfer of LLC membership interests, codified in LLC Law §§ 603 and 604, authorize an “assignment” of the economic rights associated with the interest but condition the assignee’s attainment of full member status, inclusive of voting and management rights, on the consent of a majority of the LLC’s members other than the assignor.

The overwhelming majority of LLC agreements I’ve come across flip the default rule and prohibit all manner of assignment absent the other members’ or managers’ consent and/or is made subject to a right of first refusal. Most agreements take it a step further, also banning or heavily restricting a member’s right to pledge or grant a security interest in his or her interest.

Prohibitions and restrictions of this type promote a variety of interests, first and foremost among them the “pick your partner” principle. Another such interest is maintaining the balance of voting power and management control within multi-member LLCs. The latter interest was crucial in the Delaware Chancery Court’s 2011 ruling in the Achaian case, about which I wrote here, in which a 50/50 deadlock requiring dissolution ensued when the court construed disputed language in the LLC agreement to permit a 25% member to transfer full membership rights to another 25% member without the third, 50% member’s consent.

Shao v. Li, 2013 NY Slip Op 51079 (U) (Sup Ct NY County July 9, 2013), decided last week by Manhattan Commercial Division Justice Charles E. Ramos, offers another interesting look at the subject. Shao involved an effort to circumvent the LLC agreement’s membership interest transfer restrictions by fashioning an agreement between two of the LLC’s three members that characterized the conveyance of economic, management and voting rights from one to the other as a permitted “pledge” in the form of a collateral assignment and security interest. Justice Ramos agreed with the aggrieved third member that the transaction was an outright assignment (sale) of the membership interest rather than a collateral assignment, thereby resulting in a prohibited transfer of the membership interest. Continue Reading When is Permitted Collateral Assignment of LLC Membership Interest a Prohibited Sale?

The highly competitive and lucrative market for premium vodka has spawned some of the most creative advertising and promotional campaigns known to consumers (think Absolut). A new market entrant offering vodka imported from Holland under the brand name Medea, sold in special bottles designed with an interactive LED ticker display, has spawned a different kind of competition, of the litigious sort, involving a fight for control between an angel investor and the managing member of the company.

An appellate court decision issued last week in Lehey v. Goldburt, 2011 NY Slip Op 08670 (1st Dept Dec. 1, 2011), reinstated the managing member whom the lower court had removed and replaced with the investor on the latter’s application for interim relief. The decision reinforces the constraints lower courts face in granting provisional remedies without holding an evidentiary hearing to resolve conflicting allegations. The decision also addresses an interesting issue of contract construction arising from an arguable inconsistency between the operating agreement’s provisions for the appointment and removal of managers.

Continue Reading Appellate Court Reinstates LLC Manager in Dispute with Investor in Vodka Venture

There are many reported decisions addressing the rights of dissenting minority shareholders in merged corporations to receive cash payment for the fair value of their shares pursuant to an appraisal proceeding (e.g., see last week’s post on the Barasch case). Dissenters’ rghts, embodied in statutes enacted over 100 years ago, protect minority shareholders from majority actions that fundamentally change the nature of their investment without their consent, while abrogating the ancient common-law rule that permitted a single shareholder to block a merger.

There’s also ample statutory and case law addressing the rights of the controlling shareholders to compel the cashing out of a minority shareholder for fair value subject to appraisal, in what’s known as a “freeze-out merger.”

But what about that relatively recent invention, the limited liability company? Do minority members of LLCs have a statutory right to demand payment for their interest if the LLC is merged into another entity? Can the majority members force a minority member to cash out his or her interest in a freeze-out merger? Is there any case law on the subject?

Yes, the LLC laws in New York and some other states make provision for dissenters’ rights.

Yes, the majority can effectuate a freeze-out merger.

Yes, there is decisional law but the cases are few and hard to find.

Continue Reading Freeze-Out Merger and the Limited Liability Company

This is the second of two posts analyzing two recent decisions by the Manhattan-based Appellate Division, First Department, in which the court dismissed fraudulent inducement claims by LLC members against co-member fiduciaries arising from agreements that included broad general releases.  Last week’s post examined Centro Empresarial Cempresa S.A. v. America Movil S.A.B. de C.V.2010 NY Slip Op 04719 (1st Dept June 3, 2010), which involved a dispute over a buyout between members of a Delaware LLC that owned an Ecuadorian mobile telephone company.  The second case, discussed in this week’s post, also concerns a dispute between co-members of a Delaware LLC, but this time the business operations are closer to home, involving a series of real estate acquisitions in New York City.  

The case of Arfa v. Zamir is one of those hydra-headed business partnership disputes that takes on a life of its own, generating multiple lawsuits and dozens of motions, decisions and appeals that take up years before anything seems to get resolved on the merits.  I’ve written up decisions in the Arfa family of cases on several prior occasions, most recently on the issue whether LLC promoters are fiduciaries (see here), before that on indemnification rights of LLC managers (see here), and before that on whether a general release of a LLC fiduciary given as part of an inter-member transaction bars a subsequent action for fraudulent inducement (see here). 

The last-mentioned post highlighted a December 2008 decision by Manhattan Commercial Division Justice Charles E. Ramos refusing to dismiss a fraudulent inducement claim by plaintiffs Rachel Arfa and her husband, Alexander Shpigel, as 60% members of the subject LLC, against defendant Gadi Zamir, who held the remaining 40% interest, relating to a real estate acquisition and development venture in upper Manhattan known as Academy Street.  Here’s a short summary of the factual background from my prior post:

Continue Reading Recent Appellate Rulings Clarify Standards for Challenging Releases Given to Fiduciaries of Closely Held Business Entities: Part 2

Will there be a new wave of lawsuits by disappointed investors in business enterprises organized as limited liability companies, alleging that the investors were solicited to become members by slick, fast-talking promoters who concealed their own self-dealing in violation of a fiduciary duty of disclosure that existed even before the LLC was formed?  A recent New York appellate ruling has opened the door to just such suits.  

By the beginning of the 18th century, when Daniel Defoe wrote about the "Villainy of Stock-Jobbers", the public held a contemptuous view of those who traded in the proto stock markets of the time.  In the late 19th century, the term "promoter", referring to those who organized companies and sold shares, likewise took on derogatory shades amidst an industrial boom that experienced no shortage of flim-flam artists exploiting an unprecedented wave of public investment in railroads, utilities, heavy industry and real estate development companies. 

Common-law courts in the U.S. reacted by imposing fiduciary duties on corporate promoters, thereby providing some means of civil recourse for duped investors, and some incentive for greater disclosure by corporation organizers.  For example, in Dickerman v. Northern Trust Co., 176 U.S. 181 (1900), the U.S. Supreme Court wrote that a corporate promoter, which it defined as one who "brings together the persons who become interested in the enterprise, aids in procuring subscriptions and sets in motion the machinery which leads to the formation of the corporation itself," must be "treated as standing in a confidential relation to the proposed company, and is bound to the exercise of the utmost good faith."  The promoter, the Court went on, "is the agent of the corporation and subject to the disabilities of an ordinary agent.  His acts are scrutinized carefully, and he is precluded from taking a secret advantage of the other stockholders. . . . [and] must faithfully disclose all facts relating to the property which would influence those who form the company in deciding upon the judiciousness of the purchase."

Continue Reading Are LLC Organizers Fiduciaries?