October 4, 2016

Business Divorce New York Style

Reading through a recent court opinion out of the New York Supreme Court, I am struck by the way the law has diverged in corporate governance litigation. There are two distinctly different approaches to the business divorce. Crossing the Hudson can make a world of difference in operating a closely held business.

Business Divorce State by State

Understanding the different approaches taken by the courts of different states is something that should be considered by business owners not just when they form the business, but as they work through the inevitable conflicts that are part of running a business.

September 22, 2016

Lockout of a Minority Member from the Closely Held Business

by Jay R. McDaniel, Esq.

Oh, the fine art of the lockout. For a business divorce litigator, a lockout or expulsion of a minority member is a relatively common occurrence. Managing the lockout, from either the majority or the minority’s perspective, is a key issue that will set the tone of the litigation.

WHY LOCKOUTS MATTER

The minority who is locked out of a business has a very clear disadvantage. In a closely held business, whether it is a limited liability company, a corporation or a partnership, most principals participate in the day-to-day management of the business. A lockout separates the minority from management.

September 13, 2016

Supreme Court Sets Standard to Expel Member from Limited Liability Company

by Jay R. McDaniel, Esq.

The Revised Uniform Limited Liability Company Act adopted in New Jersey permits a court to expel a member of a limited liability company when it is not reasonably practicable for the company to continue with that individual as a member.
Expulsion, known as involuntary dissociation, based on the not reasonably practicable standard requires a showing that there is a structural impediment to the members continuing in business together, such as deadlock.
When the company is able to make decisions and pursue its business purpose, the not reasonably practicable standard does not exist, whatever the level of animosity among the members.

September 6, 2016

Partnership Dissolution Presents Factual Issues

by Jay R. McDaniel, Esq.

In a case turning on an unusual provision in West Virginia partnership law, the state Supreme Court sent a partnership dissolution action back to the trial judge to determine whether the plaintiffs were actually partners of the partnership that they were trying to dissolve.

The opinion in Sugar Rock, Inc. v. Washburn (Supreme Ct. Appeals June 3, 2016) turned on a specific, and unusual, provision in West Virginia law that requires that an interest in “mining partnerships” to be in writing. The existence of a statute of frauds, however, doesn’t mean that this is not a question that arises with some frequency.

Formation of General Partnership Under RUPA

August 12, 2016

Trial Judges Have Discretion to Dissolve an LLC or Dissociate a Member

by Jay R. McDaniel, Esq.

Limited Liability Company Attorneys Petitioning members and managers of limited liability companies need to choose carefully between dissolution and dissociation of a member when they initiate litigation to expel a “bothersome” member. If the petitioning member includes grounds for both, they will not be able to choose the preferred remedy. Rather, the trial judge has discretion to choose between the two remedies without consideration of the preferences of any of the parties. The District Court of Appeals has held that the D.C. Code “substantially mirror[s]” language in the Revised Uniform Limited Liability Company Act (RULLCA), which grants discretion to trial judges to decide between dissolution and dissociation when grounds for both causes of action are present.

‘Shall Be Disassociated’ Does Not Compel Remedy

The D.C. court’s decision in Reese v. Newman, 131 A.3d 880 (D.C., 2016) disagreed with the appellant’s interpretation that the statue’s language compelled trial judges to disassociate a member of an LLC when one of the enumerated grounds for expulsion has been established. C. Allison Defoe Reese, the appellant, argued that the language “a person shall be disassociated” was a command to the trial judge to disassociate the appropriate member and removed the judge’s discretion to choose between the remedies.

August 1, 2016

Single Member LLC May Be a Poor Choice for Asset Protection

by Jay R. McDaniel, Esq.

Asset Protection, Charging Order — LLCs Can Protect Individual Assets From Judgement Creditors

One of the principal reasons for forming a business entity is to protect the owners from personal liability for the debts of the corporation. At the same time, business owners may use the business, most often a limited liability company, as a way to protect their business interests from being at risk for personal liabilities.

Understanding how a charging order could ultimately be applied is particularly important for individuals in high-risk professions. This includes not just the professionals like doctors or engineers, but also anyone who routinely deals with intellectual property, including patents, copyrights, trademarks and trade secrets. In all of these areas, the insurance coverage is poor and the risk is high. For that reason, many individuals will seek to hold assets inside of other vehicles, including a limited liability company.

August 1, 2016

Fraud Claim Against Yankee Star Derek Jeter Survives

by Jay R. McDaniel, Esq.

Derek Jeter promised his new business partners that his ownership and support of the Frigo brand of men’s underwear would not conflict with the superstar Yankee’s obligations to sportswear giant Nike. In return, RevolutionWear, Inc. gave him 15 percent of the company and a seat on the board.

Apparently, Nike did not take too kindly to Jeter becoming well-known as one of the principal owners of a competitor, and when the athlete failed to embrace the brand — $50 undershirts and $100 briefs — the relationship spun out of control. Jeter filed suit first, seeking a declaration supporting his conduct. RevolutionWear counterclaimed, alleging fraud and breach of fiduciary duty.

The decision of the Delaware Chancery Court in Jeter v. Revolutionwear, Inc., C.A. No.11706-VCG (Del. Chancery July 19, 2016) points out some of the pitfalls in trading equity for services. Once Jeter was on board, according to the plaintiff’s counterclaim, he was loathe to be publicly associated with the enterprise, or in other words, to live up to his obligations.

July 25, 2016

Buy-Sell Agreements: Planning for the Business Divorce

by Jay R. McDaniel, Esq.

Few of us have the liquidity that we need to contemplate the divorce while we are making plans to get marriedIt just doesn’t enter our minds at the time and, of course, when if it does later become an issue, it is way too late to come to an easy decision about how to handle the breakup.

The same is true for businesses. It is difficult to get the new business owners to focus on what they will do if one leaves — and the probability is that one will — when they are in the formation mindset. It’s a type of honeymoon, I suppose, full of optimism and promise. And yet, experience says that if the business survives long enough, the absence of a buy-sell provision is going to create an issue, and maybe event a lawsuit.

Business owners need to reflect on the fact that with enough success, they will want to retire, or may become disabled or die. That they might want to bring children into the business. Or that one of them will undergo some type of personal change or circumstances that just makes it impossible to carry on. A company’s organizing documents without a buy-sell in some form or fashion is incomplete. It keeps the litigators happy, but it’s not wise. Chris Mercer’s blog post here talks about some of the elements that you find in a reasonable buy-sell agreement.

July 18, 2016

Parties to Arbitrate MD Expulsion

by Jay R. McDaniel, Esq.

070116_1250_PartiestoAr1 The subject of the Appellate Division’s recent decision in Ames v. Premier Surgical, LLC, Docket No. A-1278-15T1 (June 29, 2026) is who decides whether a dispute is subject to mandatory arbitration. But the nature of dispute here suggests a cautionary tale about withdrawal and valuation, and what happens when the exit rules from a business don’t have clear valuation provision accepted by all as fair.

Limited Liability Company Valuation Dispute Triggered by Member Departure

The direction that you’re headed at the time certainly determines the parties’ perspective in business divorce and succession cases. Here the office to buy a retired surgeon’s shares was just 2.5 percent of his demand, and only about 13 percent of what the membership units cost 15 years earlier.

June 27, 2016

Partner Who Wrongfully Dissolved Partnership Hit With Whopping 66% Minority Discount

by Jay R. McDaniel, Esq.

Talk about playing your cards wrong.

A partner with a 3.08% interest worth $4.85 million in a partnership that owns a major shopping mall likely will walk away with only a few hundred thousand dollars after a court decision finding that he wrongfully dissolved the partnership and deducting from the value of his interest the other partners’ damages including legal fees, a 15% discount for goodwill, a 35% marketability discount, and a whopping 66% minority discount.

Last week’s decision by the Brooklyn-based Appellate Division, Second Department, in Congel v Malfitano, 2016 NY Slip Op 03845 [2d Dept May 18, 2016], rejected the partner’s appeal from the trial court’s determination of wrongful dissolution and also upheld its valuation determination with one major exception: the appellate court held that the trial court erred by failing to apply a minority discount and that it should have applied a 66% minority discount based on the “credible” expert testimony “supported by the record.”

Business Divorce State by State

The Revised Uniform Limited Liability Company Act adopted in New Jersey permits a court to expel a member of a limited liability company when it is not reasonably practicable for the company to continue with that individual as a member.

Expulsion, known as involuntary dissociation, based on the not reasonably practicable standard requires a showing that there is a structural impediment to the members continuing in business together, such as deadlock.

When the company is able to make decisions and pursue its business purpose, the not reasonably practicable standard does not exist, whatever the level of animosity among the members.

Formation of General Partnership Under RUPA

‘Shall Be Disassociated’ Does Not Compel Remedy

Limited Liability Company Valuation Dispute Triggered by Member Departure