chapter 30 oppression in chc

Corporations:A Contemporary Approach

Chapter 16Public Shareholder Activism

Slide 1of 65 Nicolas Delille, “Oppression” (2013)


Chapter 30Oppression in CHC

Slide 2of 36


• Nature of dissension / oppression– Freeze out techniques– Traditional corporate rules

• Fiduciary duties– Equal opportunity– Court balancing– Traditional duties (BJR)

• Oppression statutes– Reasonable expectations– Whose expectations? and when?– Remedy: buyout or dissolution– Meaning of “fair value”

• Oppression in LLC: corporate or contract?

Module X – Close Corporations

Citizen of world

Law profession

Corporate practice

Bar exam



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Close Corporations

What if agreement -- • deviates from model? • does not comply with statute? • is unfair? • is incomplete (no liquidity)?



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Compare models

Corporate Model Majority control Dividends (BJR) Liquid - sell into market

Partnership Model Equal rights Share profits (accounting) Dissolve (liquidate)

Close Corporation

Minorityshareholder

Majorityshareholders



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Freeze-out

How can majority• take advantage of minority?• get rid of minority?

Close Corporation

Minorityshareholder




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Two freeze-outs …(two results)



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Freeze-outs

Close Corporation

Minorityshareholder


Wilkes v. Springside Nursing Home (Mass 1976)



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Wilkes v. Springside Nursing Home (Mass 1976) "... when stockholders in a close corporation

bring suit against the majority alleging a breach of the strict good faith duty ... it must be asked whether the controlling group can demonstrate a legitimate business purpose for its action .... the controlling group ... must have some room to maneuver in establishing the business policy of the corporation ..."

"When an asserted business purpose for their action is advanced by the majority, .... we think it open to minority to demonstrate that the same legitimate objective could have been achieved through an alternative course of action less harmful to the minority's interest

".. our courts must weigh the legitimate business purpose, if any, against the practicality of a less harmful alternative...."



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Freeze-outs

Close Corporation

Minorityshareholder


Nixon v. Blackwell (Del 1993)



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Nixon v. Blackwell (Del 1993)

"... stockholders need not always be treated equally for all purposes ... To say that fiduciary principles require equal treatment is to beg the question whether investors would contract for equal or even equivalent treatment ....."

"... the minority stockholders were not (a) employees of the Corporation, (b) entitled to share in the ESOP, (c) qualified for key man insurance, or (d) protected by specific provisions in a stockholders' agreement.

"The directors' actions following Mr. Barton's death are consistent with his plan. An ESOP is normally established for employees"

What does “entire fairness”

apply to?


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1. In a partnership, a partner who wants out:a. Can withdraw and get pro rata

cashb. Must get partners’ approvalc. Must have agreement to be

paid for ownership interest

2. In a CHC, a shareholder who wants out:a. Can withdraw and get pro rata

cash for sharesb. Must have buyout Kc. Is stuck

3. In CHC in MA, a mistreated minority Sh…a. Gets judicial balancing b. Gets buyout optionc. Gets only BJR

4. In a CHC in MA, a minority sh excluded from share tx…a. Gets equal treatmentb. Must show unfairnessc. Gets only BJR

5. In CHC in DE, minority sh…a. Gets equal treatment if majority

deals in sharesb. Gets judicial balancingc. Gets BJR

6. In a CHC, minority Shs…a. Should get p-ship rightsb. Should get only corporate rightsc. Should get hybrid rights, given

lack of liquidity

Answers:




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What “liquidity” rule for CHC?

Sam incorporates a family business. Eventually he retires and gives equal shares to his two daughters – Anna and Bertha.

Bertha wants to move to the big city. Can she get her money?



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PartnershipAny shareholder can

withdraw and demand payment of her fair share.

• Heatherington & Dooley: mandatory buyout right (no opt-out).

• Create market for full CHC stock by legislative fiat.

Modified Any shareholder who

is denied her reasonable expectations can withdraw and get paid.

• Need not formalize understanding

• Close corporation = incorporated partnership!!

Corporation No easy out / only

majority can set dividends or get $$ on withdrawal.

• No partner-like rights unless negotiated.

• “Corporation is corporation is corporation.”



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Enter legislature (stage left) …



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MBCA § 14.30 Grounds for judicial dissolution.

The [court] may dissolve a corporation:

(2) In a proceeding by a shareholder if it is established that

(ii) the directors or those in control of the corporation have acted, are acting, or will act in a manner that is illegal, oppressive or fraudulent ...

Noscitur a sociis



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Meaning of “Oppression”

Minority Perspective Role control / financial “Expectations”

Change over time

Majority Perspective Control prerogatives Clarity of “deal”

“Harsh, bad faith”

Close Corporation

Minorityshareholder




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In re Kemp & Beatley (NY 1984)

Chief Judge Cooke:

"A shareholder who reasonably expected that ownership in the corporation would entitle him or her to a job, a share of corporate earnings, a place in corporate management, or some other form of security, would be oppressed in a very real sense when others in the corporation seek to defeat those expectations and there exists no effective means of salvaging the investment.“



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Distinguish

In re Kemp & Beatley (NY 1984)• Long-time Eees (regular “bonuses”)• Longtime mgmt / financial rights• Remedy: buyout

Bonavita v. Carbo (NJ Super 1996)• Widow of retired Eee (family member)• No mgmt / limited financial rights• Remedy: buyout

Nixon v. Blackwell (Del 1993)• Non-Eee family members• Structural limits on liquidity rights• Remedy: none

Prof. Doug Moll, University of Houston



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NC approach …



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NC Bus Corp Act § 55-14-30 Grounds for judicial dissolution.

The superior court may dissolve a corporation:

(2) In a proceeding by a shareholder if it is established that

(ii) liquidation is reasonably necessary for the protection of the rights or interests of the complaining shareholder; ...

Meiselman v. Meiselman(NC 1982)



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Remedies …



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In re Kemp & Beatley (NY 1984)

Chief Judge Cooke:

"A court has broad latitude in fashioning alternative relief, but when .... there has been a complete deterioration of relations between the parties, a court should not hesitate to order dissolution.

"Every order of dissolution, however, must be conditioned upon permitting any shareholder of the corporation to elect to purchase the complaining shareholder's stock at fair value. See NY BCL § 1118(a)."

Francisco GoyaTres de Mayo (1814)



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Brodie v. Jordan (Mass 2006)

“The defendants interfered with the plaintiff’s reasonable expectations by excluding her from decision-making, denying her access to company information, hindering her ability to sell her shares. The defendants were the only ones receiving any financial benefit from the corporation.

“The remedy should neither grant the minority a windfall nor excessively penalize the majority. [Buyout ordered by trial court] placed the plaintiff in a significant better position than she would have enjoyed absent the wrongdoing. Money damages will be the appropriate remedy.



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“Oppression” cases

1960-76 1984-85 1990-2000

No relief 27 (50.0%) 4 (10.8%) 55 (36.9%)

Dissolution order 16 (29.6%) 10 (27.0%) 42 (28.2%)

Buyout order 3 ( 5.6%) 20 (54.1%) 42 (28.2%)

Other relief 8 (14.8%) 3 ( 8.1%) 10 (6.7%)

TOTAL 54 (100%) 37 (100%) 149 (100%)

Cases/year 3.4 18.5 13.5



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Meaning of “fair value” …



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MBCA § 14.34 Election to Purchase in Lieu of Dissolution

(a) In a proceeding under 14.30(2) to dissolve a [close corporation] ... the corporation may elect or ... one or more shareholders may elect to purchase all shares owned by the petitioning shareholder at the fair value of the shares.

(b) An election to purchase ... may be filed with the court at any time within 90 days after the filing of the petition under 14.30(2) ....

(d) If the parties are unable to reach an agreement [as to fair value within 60 days after the election], the court ... shall determine fair value ...

(e) ... the court shall enter an order directing the purchase ... as the court deems appropriate, which may include payment of the purchase price in installments ... and any additional costs, fees, and expenses as may have been awarded ...



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Hypothetical

Remember Justin (40%), Kathy (40%) and Lorenzo (20%). Kathy and Lorenzo kick Justin out. He petitions for involuntary dissolution.

Kathy and Lorenzo then ask the court for a a buyout order. After a failed negotiation, the court must fix “fair value”.

What is “fair value” of minority shares?• Pro rata value of “going concern” enterprise value?• Subject to discounts?

– “lack of control”– “lack of marketability”



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Enterprisevalue (100%) $10.0



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Enterprisevalue (100%)

$4.0 Pro rata value (40%)



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$2.8Pro rata

value (40%)

Lack ofcontrol

(30% discount)



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$1.6

Pro rata value (40%)

Lack ofcontrol

(30% discount)

Lack ofmarketability (30% discount)



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Minority shares• “Fair market value”• “Fair value”

Enterprisevalue

Pro rata value

Control discount

Marketabilitydiscount


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1. In a CHC, a minority Shs can seek involuntary dissolution:a. When shareholders fail to elect

a new boardb. When directors disagree on

business policyc. When control Shs are

oppressive

2. In a CHC, a minority Sh who has a lousy buyout contract:a. Can petition for dissolution if

terms are unfairb. Is stuck with contract

3. In CHC, involuntary dissolution will be granted …a. When minority’s expectations

are frustratedb. When course of dealing has

not been followedc. Only if majority in bad faith

4. In a CHC, involuntary dissolution …a. Has effect of terminating

businessb. Forces business assets to be

soldc. Usually leads to buyout

5. In CHC, buyout orders …a. Are not allowed by statute, only

dissolution availableb. Are allowed by statute, if minority

proves oppressionc. Are an elective “out” for control

group

6. In a CHC, “fair value” …a. Is pro rata “enterprise value”b. Is generally same as FMVc. Is generally subject to minority

discounts

Answers:




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Minority protectionspreads to LLCs …



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Haley v. Talcott (Del Ch 2004)

Haley (50%) / Talcott (50%)

Exit agreement(LLC statute)

Judicial dissolution(corporate statute)



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Haley v. Talcott (Del Ch 2004)

It is inequitable to force Haley to use the exit mechanism [in the parties’ operating agreement]. Haley would be left liable for the debt of any entity over which he has no further control.

With no reasonable exit mechanism [despite the contractual “fair value” provision in LLC operating agreement] I find that Haley is entitled to judicial dissolution [under the Delaware two-shareholder corporate dissolution statute]. Vice Chancellor Leo Strine



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The end



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Bonavita v. Corbo (NJ Super 1996) New Jersey Superior Court:

"... Alan Corbo will continue to make decisions which are in his best interests (and those of his family) and ignore the wishes, needs and the best interests of the shareholders. “

"... Regardless of whether defendants’ action might otherwise be termed “wrongful” or “illegal” there is no question that defendants’ conduct has destroyed any reasonable expectations that plaintiff may have enjoyed respecting her stock interests. …. Defendants’ actions do indeed constitute “oppression”.

chapter 30 oppression in chc

Documents

contemporary approachchapter

close corporationswhat

legitimate business

asserted business purpose

business policy

springside nursing home

equal treatment

harmful alternative