Much digital ink has been spilled on this blog (here, here, here, and here) and elsewhere (Tom Rutledge’s terrific article can be read here) concerning the ability of LLC controllers to adopt or amend an operating agreement without the consent of all members.

In New York, Shapiro v Ettenson kicked things off, holding that the majority members of an LLC validly adopted a post-formation operating agreement without the minority member’s consent. The agreement in that case eliminated the minority member’s salary, authorized dilution of a member interest for failing to make mandatory capital contributions (the majority members issued a capital call promptly after the amendment), and member expulsion (the majority members expelled the minority member soon after the court upheld the LLC agreement).

Next came Ho v Yen where the court denied interim injunctive relief to a minority member who challenged the majority members’ adoption of a post-formation LLC agreement that authorized member expulsion and buy-out at book value (the majority members expelled the minority member within days after the amendment).

The appellate panel in Shapiro rested its holding on LLC Law § 402 (c) (3) which speaks to the majority’s right not only to adopt an operating agreement but also to amend it subject, of course, to any contrary provision in the operating agreement and certain statutory carve-outs in LLC Law § 417 (b). But since the vast majority of operating agreements that I’ve seen expressly require the consent of all members to amend, I figured I’d have a long wait before seeing a case that tests the limits of the non-unanimous amendment power.

My wait wasn’t nearly as long as I expected. Last month, in Yu v Guard Hill Estates, LLC, 2018 NY Slip Op 32466(U) [Sup Ct NY County Sept 28, 2018], Manhattan Commercial Division Justice Saliann Scarpulla denied a motion to dismiss a minority LLC member’s claims against the majority members for breaching their fiduciary duty by adopting, without the minority member’s consent, amendments authorizing mandatory capital calls and foreclosing upon the interest of a member who fails to contribute. What makes the case even more interesting is that the pre-existing operating agreement signed by all the members included a provision generally authorizing amendment by vote of members holding 51% of the member interests.  Continue Reading Does This Decision Put the Brakes on Non-Unanimous Amendments to Operating Agreements?

Unlike the LLC statutes in many other states, New York’s LLC Law does not authorize the LLC or any of its members to seek judicial expulsion of another member, no matter how egregious the member’s behavior. As the Appellate Division ruled in Chiu v Chiu, the only way to expel (a/k/a dissociate) a member of a New York LLC is if the operating agreement so provides.

A carefully tailored expulsion provision in an operating agreement, paired with a reasonably fair buyout, can provide a salutary mechanism for protecting the LLC against a member who engages in wrongful or illegal conduct, jeopardizes the LLC’s licensing or legal status, or consistently fails to perform his or her delegated responsibilities. On the other hand, an expulsion provision that uses subjective or overly broad criteria to define expulsion trigger events can encourage opportunistic behavior by the control faction against the minority, especially if expulsion is accompanied by a forced buyout of the expelled member on unfair financial terms. LLC guru Tom Rutledge wrote a very informative article on the topic, about which I interviewed him for my podcast, in which he gives a roadmap of the various considerations involved in designing and implementing an effective expulsion provision in an LLC agreement.

It’s one thing when all of the LLC’s members consent to an operating agreement authorizing member expulsion. However well or poorly drawn, however fair or unfair its terms, that’s called freedom of contract. You made your bed, now lie in it. But what about an operating agreement adopted by a control faction, without the consent of the minority, authorizing member expulsion at the control faction’s behest? Or how about an operating agreement with expulsion and lopsided buyout provisions adopted without minority consent, after the breakout of hostilities with the minority?

Which points back to Shapiro v Ettenson, a case I’ve written about several times before (here, here, and here). For those unfamiliar with the case, in Shapiro the lower and appellate courts construed LLC Law § 402 (c) (3) (“Voting Rights of Members”) as permitting holders of a majority interest in the LLC to adopt an initial, binding operating agreement long after the LLC was formed and commenced business, without the consent of the minority member. The operating agreement adopted in that case, among other things, converted the LLC from member-managed to manager-managed, authorized additional capital calls, the dilution of the membership interest of a non-contributing member, and member expulsion for cause. Continue Reading LLC Member Expulsion: What Hath Shapiro Wrought?

I’m delighted to present my 10th annual list of this past year’s ten most significant business divorce cases.

This year’s list includes seven noteworthy appellate decisions, two of which — Mace v Tunick and Shapiro v Ettenson — are poised to have major impact on future operating agreements and business divorce cases involving LLCs.

The growing dominance of the LLC as the preferred choice of business entity also is reflected in this year’s list, all but three of which resolve disputes among members of LLCs.

Rounding out the list are two decisions, in the Kassab and Levine cases, involving interesting and important issues in fair value contests.

All ten decisions were featured on this blog previously; click on the case name to read the full treatment. And the winners are: Continue Reading Top 10 Business Divorce Cases of 2017

NY

DelawareThe common perception among practitioners familiar with the business entity laws of New York and Delaware is that Delaware law generally is friendlier to, and more protective of, majority ownership and management interests.

Two recent cases — one from each state — highlight at least one important area where the common perception does not apply: majority rights under the statutory default rules to adopt or amend an LLC operating agreement without the consent of all the members.

The difference between the two states can have critical consequences for both majority and minority members of the many LLCs that, for better or worse, are formed without a written operating agreement.

The New York case is one I previously wrote about on this blog. Last January, in Shapiro v Ettenson, the Appellate Division, First Department, in a case involving a three-member LLC that was formed without a written operating agreement, affirmed a lower court’s decision construing Section 402 (c) (3) of the New York LLC Law (“except as provided in the operating agreement . . . the vote of a majority in interest of the members entitled to vote thereon shall be required to . . . adopt, amend, restate or revoke the articles of organization or operating agreement”) to permit the two-member majority to adopt a written operating agreement almost two years after the LLC was formed and began operating, without the third member’s consent and notwithstanding certain provisions in the agreement that modified the statutory default rules adversely to the third member. Continue Reading Delaware Ruling Highlights Difference With New York Over Amending LLC Agreements

SushiThe Japanese word “omakase” translates as “I’ll Ieave it up to you” and is used by patrons of sushi restaurants to leave the selection to the chef rather than ordering à la carte.

The minority member of an LLC that operates a high-end Japanese restaurant in Brooklyn featuring omakase service, and who sued for judicial dissolution, recently learned a different meaning of omakase, as in, don’t leave it up to the court to protect you from being frozen out by the majority member when you don’t have a written operating agreement, much less a written operating agreement containing minority-interest safeguards.

The hard lesson learned by the petitioner in Matter of Norvell v Guchi’s Idea LLC, 2016 NY Slip Op 32307(U) [Sup Ct Kings County Nov. 18, 2016], has been taught before, starting most prominently with the First Department’s 2013 decision in Doyle v Icon, LLC and reinforced by that court two years later in Barone v Sowers, holding that minority member claims of oppressive majority conduct including systematic exclusion from the LLC’s operations and profits, in the absence of a showing that the LLC is financially unfeasible or not carrying on its business in conformity with its operating agreement, do not constitute grounds for judicial dissolution under LLC Law § 702. Continue Reading Another Frozen-Out Minority LLC Member’s Petition for Dissolution Bites the . . . Sushi?

Sign hereIt just got more dangerous to become a minority member of a New York limited liability company without a written operating agreement.

In a case of first impression decided last month, a Manhattan judge ruled that the majority members of an LLC that had no operating agreement at the time of its formation were authorized by statute to later adopt and enforce against a non-signatory minority member an operating agreement that, among other things, authorizes additional capital calls and potentially dilutes the membership interest of a member who fails to contribute.

The facts in Shapiro v Ettenson, 2015 NY Slip Op 31670(U) [Sup Ct NY County Aug. 16, 2015], are fairly simple. In January 2012, three individuals — plaintiff Shapiro and defendants Ettenson and Newman — filed articles of organization for ENS Health, LLC as a member-managed LLC with each member holding a one-third membership interest. From its formation until December 2013, ENS had no written operating agreement. Between September and December 2013, the members negotiated and exchanged draft agreements but none was executed. Continue Reading Can LLC Agreement Be Enforced Against Member Who Doesn’t Sign It?