Common-Law Dissolution Hits Speed Bumps in Recent Decisions

Farrell Fritz, P.C.
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The heyday of common-law dissolution — if it ever had one — is long past, largely displaced by a statutory dissolution remedy for oppressed minority shareholders paired with an elective buy-out option for the respondent majority shareholders.

New York’s version of the statutory remedy, section 1104-a of the Business Corporation Law enacted in 1979, authorized shareholders holding at least 20% of the voting shares in an election of directors to petition for judicial dissolution based on “oppressive actions” and other misconduct by the majority including illegality, fraud, looting, waste, and diversion of corporate assets. Courts subsequently interpreted the undefined term “oppressive actions” as meaning conduct that defeats the minority shareholder’s “reasonable expectations” upon joining the enterprise, such as termination without cause of one’s employment and positions as an officer and director.

A “special solicitude toward the rights of minority shareholders of closely held corporations” was how the New York Court of Appeals in Matter of Kemp & Beatley subsequently described the legislature’s motivation for enacting section 1104-a, the implication being that common-law dissolution didn’t sufficiently protect the locked-in minority shareholder against majority abuse and overreach. Common-law dissolution’s remedial reach simply was too short.

Since section 1104-a’s enactment in 1979, common-law dissolution’s utility effectively is limited to actions by shareholders with less than 20% of the voting shares.

Under the case law, common-law dissolution requires the minority shareholder to show, as articulated by the Court of Appeals in Leibert v Clapp, that “the directors and majority shareholders . . . so palpably breached the fiduciary duty they owe to the minority shareholders that they are disqualified from exercising the exclusive discretion and the dissolution power given to them by statute.” In other words, to prevail under the common-law standard the minority shareholder essentially has to show that a rogue majority is operating the company as their personal fiefdom for their sole benefit. Not an easy undertaking.

With that background, let’s take a look at two recent court decisions in which the plaintiffs’ common-law dissolution claims suffered setbacks.

Common-Law Dissolution Plaintiff Loses Fight Over Venue

Last year I wrote about a federal court’s first-impression decision in Busher v Barry in which it applied the Burford abstention doctrine to dismiss, without prejudice to refiling in state court, the minority shareholders’ claim for common-law dissolution.

Busher involves a single-asset, realty holding corporation that owns a bucolic 280-acre golf course in Westchester County. For decades, the holding corporation has leased the golf course for nominal consideration to the separately incorporated Winged Foot Golf Club.

Over time the overlapping ownership of the holding corporation and membership in the Club dissipated. Eventually the Club acquired a controlling interest in the realty corporation and thus was leasing the property to itself. Some of the remaining minority shareholders of the holding corporation, who were non-members of the Club, claimed that the Club wasted and misappropriated the realty corporation’s sole asset — allegedly having a development value over $300 million — for the benefit of the Club and its members by renewing until 2071 a “sweetheart” lease that gives the Club exclusive use of the property for only $30,000 per year.

S.D.N.Y. District Judge Nelson S. Roman, sitting in the District’s White Plains courthouse about six miles from the Winged Foot golf course, issued his ruling on the verge of trial in late 2019, after which the plaintiffs decided to withdraw with prejudice their other, derivative claims for breach of fiduciary duty, etc., and to refile their 102-page complaint in New York state court asserting a single cause of action for common-law dissolution.

Instead of filing the action in Westchester County Supreme Court, the plaintiffs filed it about 30 miles to the south, in Manhattan Supreme Court. That immediately led, you guessed it, to a fight over the case’s proper venue.

Unlike its statutory dissolution cousin, which dictates venue in the judicial district that corresponds to the county identified in the certificate of incorporation as the corporation’s office location, venue in a common-law dissolution case is governed by the general rules contained in Article 5 of the Civil Practice Law and Rules (CPLR).

The complaint in Busher alleged the residency in Manhattan of one of the plaintiffs as the basis for venue under CPLR 503 providing that, “[e]xcept where otherwise prescribed by law, the place of trial shall be in the county in which one of the parties resided when it was commenced.” Interestingly, the original plaintiffs in the federal action all resided outside New York. The state court action named the Manhattan resident as an additional shareholder-plaintiff. I’m guessing he was left out of the federal action because his inclusion would have destroyed diversity jurisdiction.

The Club and the director co-defendants responded by serving a pre-motion demand for change of venue back to Westchester County under CPLR 507 which generally places venue of actions affecting “title to, or the possession, use or enjoyment of, real property” in the county in which any part of the realty is situated. The demand asserted that the dissolution of the the corporation would require a sale of the land and thus would affect title, use, or possession of the property.

The plaintiffs rejected the demand, prompting defendants to file a motion to compel transfer of the case to Westchester County Supreme Court.

In opposing the motion, plaintiffs denied that CPLR 507 trumps their choice of venue based on residence under CPLR 503, and argued that the disposition of the corporation’s realty is a matter not for the court under CPLR 507 but for a post-dissolution, court-appointed referee. As back-up, plaintiffs argued that even if CPLR 507 applies, Manhattan Supreme Court should exercise its discretionary authority to retain venue under CPLR 510(3) for the “convenience of material witnesses” most of whom allegedly resided outside New York, were in their 70s or older, and needed to “minimize travel” during the COVID-19 pandemic.

In a one-page Decision and Order issued last February, Manhattan Commercial Division Justice Jennifer G. Schecter granted the defendants’ motion to change venue. Citing CPLR 507, the court ruled that the “action affects title to real property in Westchester County so it must be venued there” and that “[t]he pandemic, in fact, actually militates against retaining venue” because “[a]ll proceedings are and will be remote during the pandemic so the county in which the action proceeds should not matter to the witnesses.”

The plaintiffs quickly perfected an appeal to the Appellate Division, First Department. Their appellate brief paid scant attention to the CPLR 503 vs. 507 issue and concentrated almost all its fire power on its argument that the lower court erred by not retaining venue for the convenience of witnesses under CPLR 510(3).

Defendants’ opposing brief argued that the “mandatory” language of CPLR 507 overcomes discretionary consideration of witness convenience under CPLR 510(3), and that in any event Justice Schecter correctly ruled that the convenience of witnesses did not militate retaining venue in Manhattan.

Last week, the Appellate Division issued its order affirming Justice Schecter’s Decision both as to the primacy of CPLR 507 and the inappropriateness of changing venue for witness convenience. As to the former, the court wrote:

Plaintiffs assert a single cause of action, for common-law dissolution of nominal defendant Winged Foot Holding Corporation (the Corporation). The Corporation’s sole asset and function throughout its existence has been to own a golf course and improvements leased to defendant Winged Foot Golf Club, Inc. If plaintiffs are successful, the property will be sold and the net proceeds distributed to the Corporation’s shareholders. Accordingly, defendants have met their burden, under CPLR 511(b), of showing that Westchester County, the locus of the property, is the “prescribed” venue pursuant to CPLR 507 (see CPLR 503[a]), thereby warranting transfer from New York County.

As to witness convenience, the court found that the asserted need to minimize travel for out-of-state witnesses during the Covid-19 pandemic did not merit change of venue given that “the two courthouses [in Westchester and Manhattan] are some 30 miles apart and similarly situated vis-à-vis modes of interstate transport.”

While the appeal was pending the case made its round trip to Westchester Supreme Court where it landed in the Commercial Division before Justice Linda Jamieson. Currently awaiting  decision by her is defendants’ motion to dismiss the common-law dissolution claim on several grounds including statute of limitations and claim preclusion.

I suspect many in the legal profession would opine that the battle to secure venue in one’s home turf is more about perception, psychology, and attorney familiarity with court personnel than it is about enhancing the odds of prevailing, especially in cases like Busher involving a claim for equitable relief that gets decided by a Commercial Division judge rather than a jury.

Whatever the motivations, we now know that a plaintiff suing for common law dissolution of a realty holding corporation will need to think twice before filing the action in a county other than where the property is located.

LLC Common-Law Dissolution: Speed Bump or Dead End?

Last fall my law partner and blogger-in-arms Frank McRoberts wrote about a decision by the Brooklyn Commercial Division in another common-law dissolution case with a major twist. Two major twists. First, the court in Pachter v Winiarsky recognized a cause of action for common-law dissolution of an LLC, which no New York court had previously done. Second, it held that a 50% member of the LLC had standing to sue for common-law dissolution, contra the long-prevailing rule limiting standing to minority shareholders in cases seeking common-law dissolution of close corporations.

Adding to the quirkiness of the case, the court found that the same allegations of oppression, freeze-out, and diversion of company income supporting the claim for common-law a/k/a “equitable” dissolution did not adequately plead a viable statutory dissolution cause of action under section 702 of the LLC Law.

Before any of you lawyers start drafting your common-law LLC dissolution complaints, I’ve got news: Following last year’s decision, the plaintiff in Pachter both moved to reargue the decision and filed an amended complaint beefing up its allegations supporting a section 702 dissolution claim. The result? In a decision earlier this month, the court granted reargument, reinstated the statutory claim, and dismissed the common-law claim. Here’s the heart of the court’s explanation:

The technicalities regarding limited liability corporations [sic] as opposed to business corporations may prevent equitable dissolution claims. However, the new amended complaint adequately suffices to assert judicial dissolution claims. There is no basis to dismiss both causes of action. Thus, the judicial dissolution claim is now viable and asserts claims pursuant to LLCL § 702. Those claims are detailed, factually relevant and more than sufficient to survive a motion to dismiss. Thus, the amended complaint now properly asserts a claim for judicial dissolution. Thus, the motion seeking to dismiss the judicial dissolution claim is denied. The motion seeking to reargue to dismiss the equitable dissolution claim is granted and upon such reargument the equitable dissolution claim is dismissed.

Has the newly born cause of action for common-law dissolution of LLCs just met its demise? The court’s statement that “technicalities . . . may prevent equitable dissolution claims” by its terms doesn’t close the door completely on common-law dissolution of LLCs, but the decision nonetheless no longer serves as precedent that can be cited in support of a claim for common-law dissolution of New York LLCs.

[View source.]

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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