This is the second in a series of postings on a multi-faceted corporate dissolution battle waged in Nassau County Supreme Court called Matter of Marciano (Champion Motor Group, Inc.) involving three partners and a luxury automobile dealership.
Part I of the series (read it here) summarized the basic facts and discussed the defendants’ initial challenge to the plaintiff Marciano’s standing to seek dissolution. The court’s decision identified evidence suggesting that, as the defendants’ argued, the plaintiff deliberately elected not to have his alleged 38% ownership interest reflected in the corporate records or in tax filings. Ultimately, however, the court refused to dismiss the case because of the disputed facts surrounding the issue of plaintiff’s share ownership.
In this Part II, we examine the several other issues of interest addressed by Justice Ira Warshawsky in his initial decision in the case dated September 5, 2006.
1. Defendants’ argument that their exclusion of plaintiff from the business was reasonable following his indictment for stock fraud.
The majority owner defendants contended that, even assuming plaintiff Marciano could establish his ownership percentage in Champion above the minimum 20% required by the dissolution statute (BCL § 1104-a), their decision to exclude him from any involvement in the business, following his criminal indictment for stock fraud in December 2004, was reasonable as a matter of law.
As with the issue of stock ownership, Justice Warshawsky concluded that the reasonableness of defendants’ exclusionary actions “must await further factual development through discovery in the underlying action”. The defendants’ evidence of damaging repercussions and concrete economic injury to the business from Marciano’s indictment, the court found, was “anecdotal” and lacked “determinative foundational support in the record”.
2. Marciano’s application to dissolve the related LLCs.
Marciano’s petition-complaint also sought judicial dissolution of four related LLCs in which his minority membership interests apparently were not disputed. Section 702 of the LLC Law authorizes judicial dissolution of LLCs “whenever it is not reasonably practicable to carry on the business in conformity with the articles of organization or operating agreement”. As noted in the decision, courts have interpreted this standard to mean that judicial dissolution will be ordered only where the complaining member can show that the business is unable to function as intended or else that it is failing financially.
Of the four subject LLCs, the court agreed that dissolution of the two inactive ones was appropriate since even defendants agreed that the purpose for which they were formed never came to fruition. Dissolution of the other two was inappropriate, the court held, because both were functioning, financially stable entities.
3. Marciano’s application to appoint a limited receiver or financial monitor, and for other interim injunctive relief concerning the business operation.
Marciano also moved with only limited success under BCL § 1113 and related statutes for various forms of interim relief, ostensibly to protect his alleged $2.2 million investment in the business.
First, the court denied his request for appointment of a limited receiver or financial monitor, finding insufficient evidence that Champion’s assets were at risk or that an outside monitor was needed to ensure proper operation of the business. The court also noted that some of the allegedly improper financial practices by the defendants existed prior to Marciano’s departure without any objection by him.
The court also denied Marciano’s requests (a) to require defendants to post a $2 million undertaking, (b) to enjoin them from taking salary, perks or distributions pending the case, and (c) to enjoin defendants from utilizing Marciano’s personal credit including the $1 million letter of credit secured by his personal assets.
The court did, however, grant Marciano’s request to require that the defendants deposit all company funds in Champion’s regular bank accounts.
4. Marciano’s application to prohibit defendants from using company funds for their legal fees in the action.
It is not unusual for controlling shareholders in dissolution proceedings and in derivative actions to hire counsel to represent both the company and themselves, and to use company funds to pay legal fees. There is a substantial body of dissolution case law, however, holding that the company in such proceedings is a nominal party and therefore the individual shareholders may not use company funds to pay fees incurred by the individuals in defending against dissolution. (If the defending shareholders elect to purchase the complaining shareholder’s stock, that’s a different story.)
Here, Marciano asked the court to prohibit the defendants from using Champion funds for their legal fees. Justice Warshawsky, noting that the defendants did not specifically address this branch of Marciano’s motion, agreed that company monies could not be used “to the extent interposed against the individual defendants Brustein and Todd”. Unfortunately, exactly what this signifies in the context of a hybrid action-proceeding such as this including derivative claims, which presumably triggered director and officer indemnities and rights of advancement, is not revealed in the court’s decision.
5. Marciano’s request for access to all books and records of the business.
The last issue addressed by the court in this initial skirmish was Marciano’s broad request for “full and unfettered access to all of Champion’s and the LLC’s books, records and documents”. Marciano alleged that he had been afforded only piecemeal, grudging and incomplete document access. The defendants countered that they had fully cooperated to the extent reasonable and that Marciano’s demands were excessive.
Justice Warshawsky noted that a shareholder has both common law and statutory rights under BCL § 624 to examine corporate documents, including for purposes of valuing a corporation’s shares, but that neither authorizes unlimited access to all documents in a corporation’s possession. Based on the “inconclusive and conflicting allegations advanced by the parties,” the court granted relief only to the extent of scheduling a conference to determine “the extent of any further document access permissible and appropriate under the common law and/or BCL § 624.”
To be continued . . .