Articles Posted in Valuation

Oppressed Minority Shareholder Litigation Attorney
An oppressed minority shareholder was awarded approximately $750,000 in attorneys fees and expert expenses — some eight times the amount of the buyout — even though the majority had good reason to fire him from his position as the corporation’s CEO.

Fee Award Under Oppressed Shareholder Statute to Selling Shareholder

This case is a 14-year-old litigation involving a dispute between the family members of a family-owned business, and the outsider executive who was brought in to take over the management of the corporation.  The relationship quickly deteriorated amid allegations of misappropriation and sexual harassment in the workplace.

Oppressed Shareholder Valuation in Sale of Plant Business
Interior Plant Installation of Plaintiff Parker Interior Landscapes

The general rule is that a court should not apply discounts for marketability or lack of control (the later known as the minority discount) unless there is some unfairness or wrongdoing among the parties. Still, in the world of oppressed minority shareholder litigation, there is always some allegation of wrongdoing, so the question of discounts, or not, is invariably part of the ruling in any court-ordered valuation.

A trial court in Union County recently applied a 25 percent discount in the purchase of a 50% share of a family business after a 35-day trial. The net result was that the defendant in the case took significantly less for the acquisition of his shares in a family owned business than might have been available if there was not a finding of wrongdoing. Parker v. Parker, Docket No. UNN-C-108-13 (Chancery December 22, 2016) The parties involved in a business divorce litigation need to be cognizant that the allegations of bad behavior may have a significant effect on the ultimate determination of value made by a court.

Business Divorce Attorneys | Corporations
No one gets married expecting to get divorced.  And no one forms a business expecting that it will fall apart.  Just as people get divorced, many businesses come to the point at which a business divorce is the best alternative because the partners cannot, or will not, continue to work together.  When that happens, the parties need to restructure, and often separate, their business interests.

Business Divorce Defined

We use the term business divorce to describe a series of different types of lawsuits that involve the owners of a closely held business. The defining character of the business divorce is that co-owners of a business must separate their business interests.  There are typically two alternatives. In this article, we focus on the closely held corporation.  Some of the principles are similar with other types of businesses, which we address in other articles, but the application of the principles are often quite different.

9 Characteristics of Good Buy-Sell Agreements

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.

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Appellate courts usually defer to a trial court’s factual findings in a business divorce case that
25204-surgem_logomakes it to trial.  Here is a rare decision, however, in which the Appellate Division reversed the factual determinations of the trial judge, finding that the disputed ownership interest had been conceded by one of the parties.

Limited Liability Company Decision is Reversed

The case, Surgem LLC v. Adhievmed, Inc., Docket No-A4198-11T! (October 16, 2013) involved a dispute between a successful surgeon, John Hajjar, who established a chain of same day surgical centers and his former business partner, John Seitz.  The businesses, and the relationships, were poorly documented, however, and the outcome turned on the issue of whether the parties had made an oral agreement.

We represent clients in the formation stages of limited liability companies  as well as during disputes.  Consult with us about limited liability operating agreements and disputes between members.

LLC Operating Agreement

Notably absent from the Appellate Division opinion is any mention of the terms of the LLC’s operating agreement.  It appears that this is another case in which the owners of a business failed to document the basic details of their relationship and the trial court had to fashion a decision from evidence that was equivocal – or so the trial court thought.

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New Jersey Limited Liability Company Attorneys

Imagine that the limited liability company you and your partners started five years ago is involved in a nasty corporate governance lawsuit.  Perhaps one of the partners needs to be expelled, or maybe one of the owners is involved in a competing business.  Imagine that you are spending tens of thousands of dollars every month on legal fees, that the business is in a state of constant disruption and that you haven’t had a good night’s sleep in weeks.

And now, accept the fact that this could have been avoided.

The chances are that if a closely held business is involved in this type of litigation it is because the owners did not plan well when they started the business.  How do I know?  Having litigated many of these matters over the years, I see the same mistakes made early in the life of the business surfacing again and again as the source of litigation.

New Jersey Limited Liability Company Operating Agreement

This is my non-exclusive list of what I think  are the most expensive mistakes that I see people make in their business.  There are others, to be sure, but these are the ones that I see as the source of litigation among the members.

No Operating Agreement:  Actually, I am not going to count not having an operating agreement as one of the five “mistakes.”  It is not really a mistake, it is a colossal blunder, kind of like drunk driving – you may get away with it for a while, but you know how it’s going to end.

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Value

Sometimes an expert valuation opinion, however well documented, leads to a conclusion that just doesn’t square with reality.  That was the case with an expert opinion in Rughani-Shah v. Noaz, Docket No. A-4943-08T2 (Sept. 16, 2011) that valued a one-third interest in a medical practice at just $25,000.  The trial court’s decision was affirmed by the Appellate Division of New Jersey Superior Court.

The trial judge didn’t buy it – not when the practice was grossing $1.7 million a year and not when the buy-in for the shareholder seeking the buyout had been eight times that amount.  Common sense said the number was just too low, and the expert’s opinion was rejected.

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Socialite’s Family Partnership Interest

Book value can have a few different meanings. The best definition is simply the value of assets and liabilities that a company carries on its books. Is it different than the “fair value” standard applied in statutory buyouts?  Yes– a lot different.

There are many partnership agreements and corporate 13958-partneragreementbuy-sell agreements still in effect with a book value buyout provision. They tend to be older entities, often involving family businesses, and I cringe whenever I look at the agreement and see the term applied to the company’s value.

Book Value Used to Buy Socialite’s Interest

A recent decision involving the estate of socialite Claudia Cohen demonstrates why. Estate of Claudia Cohen v. Booth Computers, et al., Docket No. A-0319-09T2. Estate of Cohen App Div.pdf. (Thanks also to Peter Mahler’s NY Business Divorce blog for finding the trial decision. Cohen Chancery Div.pdf.) In that decision, the Cohen’s estate argued that the book value of a successful business was just less than 2 percent of its fair value – $ 178,000 as opposed to $11.526 million – and sought to reform the partnership agreement. The effort failed and the Appellate Division affirmed the trial court’s enforcement of the agreement. The disparity between book value and fair value was not, in the court’s opinion, reason to alter an otherwise unambiguous document.

The result was a windfall for the last surviving partner, Claudia’s bother James, and the same result is likely to occur in most agreements that set the value of the business at book value rather than fair value.

The Cohen case involved a partnership formed by the late Robert Cohen, an entrepreneur who amassed a considerable fortune through various entities including the Hudson News Group. He had three children – Claudia, Michael and James. Claudia, well known in Manhattan and Hamptons social circles, was also an editor of Page 6 of the New York Post and the ex-wife of entrepreneur Ronald Perelman.

The estate, with Perelman as executor, brought suit against Booth Computers and Claudia’s brother, James, after Claudia’s interest in a family partnership was valued at a fraction of the fair value of the partnership’s holdings.

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minority_mike

This case goes into the “be careful what you say” category – particularly when it’s under oath, and particularly when you are involved in an oppressed shareholder action, or any other type of business divorce, for that matter.

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Oppressed Shareholder Litigation

Oppressed shareholder actions almost invariably involve the purchase of the interests of some of the principals based upon valuations prepared by experts. One of the issues that the valuation expert will consider is whether a discount (or reduction in value) should be applied for the loss of a key person.

The inclination of the oppressed shareholder  is to insist that they were absolutely critical to the success of the business, while the controlling shareholders insists that the shareholder who was forced out or frozen out was of no use anyway.

There is no bonus for being important to the business in valuation proceedings. In fact, the opposite is true. It runs contrary to the emotions of the parties and is completely counterintuitive to non-lawyers. For example, the big rainmaker who accounts for 80 percent of his professional firm’s business, but has somehow gotten frozen out of the enterprise, should keep his opinion about the extent of the contribution to himself or herself.  The fact is that the enterprise is worth a lot less without them around, and that decrease in value may be reflected in a lower price for the purchase of their interests.

Key Person Discounts

There is surprisingly little case law on this topic in either New York or New Jersey and I am surprised that the issue does not come up more often between feuding principals. Yet you can have the unexpected situation in which a controlling shareholder fires key sales people and then asserts that they were absolutely critical – i.e., “key persons” – to the success of the business.

That was the case recently when the Supreme Court of New York County reviewed an application of this discount, which revealed an interesting point of the very personal nature of business divorce.  Matter of Abraham (Elite Techonology NY, Inc.), 2010 NY Slip Op 33225(U) (Sup. Ct. NY County Nov. 10, 2010), (opinion here) (Thanks to Peter Mahler’s NY Business Divorce blog for finding the decision and publishing the referee’s report).

The key person discount, in the context of business valuation, is defined by….

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dis3

When a limited liability company dissolves, it pays its creditors and distributes the remaining assets in the winding-down process. Many professional practices are organized as LLCs, and their principal assets are the clients they serve.  That does not mean, however, that the professional limited liability company in dissolution has to divide up the clients.

This is an important holding for lawyers, accountants, doctors and other professionals that are practicing in New Jersey as a limited liability company. According to a New Jersey appeals court, the clients that the professionals, such as an accountant, bring to the LLC represent personal goodwill that belongs to the individual professional, rather than goodwill belonging to the enterprise.  Thus, clients of professional limited liability companies are not considered assets of the LLC and on dissolution are not subject to distribution.

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