• Court Chooses Voluntary Dismissal Over Buy-Out in Two-Year Dissolution Case
  • July 8, 2013 | Author: Peter A. Mahler
  • Law Firm: Farrell Fritz, P.C. - New York Office
  • Time can be your enemy or your friend in business divorce litigation — and sometimes both.

    Businesses and the economic climate in which they operate are dynamic. For any number of reasons the value of a business can change significantly in the course of litigating a business divorce case, sometimes for the better and sometimes for the worse. The odds of such change increase as the case lingers.

    Perhaps for that very reason, when the New York legislature designed the buy-out election in corporate dissolution cases brought by minority shareholders alleging oppressive conduct by the controlling shareholders, (1) it mandated that the election must be made within 90 days after the petition’s filing and (2) it fixed the valuation date as of the day before the petition’s filing. After the 90 days, an election to purchase can only be made at the court’s discretion and subject to court-imposed conditions.

    An interesting decision last month by Albany County Commercial Division Justice Richard M. Platkin in Matter of Ryan (Integra Networks, Inc.),2013 NY Slip Op 51030(U) (Sup Ct Albany County June 11, 2013), brought into sharp relief the competing considerations when, with the passage of time, a dramatic increase in the business value prompts the petitioner to ask the court’s permission to voluntarily discontinue the dissolution proceeding while also prompting the controlling shareholder to make an untimely request for leave to purchase the petitioner’s shares valued as of the day before the petition’s filing. The court’s resolution — permitting the discontinuance but precluding the refiling of a new dissolution proceeding based on the same facts and circumstances — highlights the importance of making an early buy-out election.

    Ryan involved a dispute between shareholders of Integra Networks, Inc., a fiber optics equipment manufacturer based in upstate New York. In August 2011, the two petitioners together holding a 48.75% stock interest filed for judicial dissolution alleging director deadlock under Business Corporation Law (BCL) § 1104 and shareholder oppression under BCL § 1104-a. In October 2011, a non-shareholder named Streeter filed an action which was joined with the dissolution proceeding, to enforce a “barroom agreement” granting him a 5% stock interest in Integra.

    Procedural jousting followed. The respondents sought to withdraw opposition to dissolution based on director deadlock, in response to which the petitioners sought to withdraw without prejudice the claim under BCL § 1104. In March 2012, the court eliminated the § 1104 claim and announced its intention to determine Streeter’s claim to a 5% interest before addressing the remaining dissolution issues. In February 2013, following a trial the court dismissed Streeter’s claim and urged the other parties to meet and confer in good faith in an effort to settle the outstanding litigation.

    The Dueling Motions to Discontinue and to Elect to Purchase

    The settlement efforts were unsuccessful.  In March 2013, the petitioners applied for leave to voluntarily discontinue the proceeding. They contended that discontinuance was appropriate because they were not active participants in the business of Integra and that, due to continuing conflict with the majority faction, they no longer sought a seat on the company’s board of directors. They also pointed out that the respondents had not elected to purchase the petitioners’ shares within 90 days of the proceeding’s commencement, as permitted by BCL § 1118.

    The respondent majority faction opposed the proposed discontinuance and, in May 2013, cross-moved for leave to file an election to purchase the petitioner’s shares under BCL § 1118 to be valued as of the day before the petition’s filing almost two years earlier, in August 2011. The respondents argued that the petitioners would receive a “fair price” for their shares and that the company would be free from the threat of future acrimony and litigation. Respondents argued in the alternative that any grant of the petitioners’ motion to discontinue should be “with prejudice,” i.e., preclusive of their refiling all claims that were or could have been raised in the proceeding.

    The petitioners opposed the proposed buy-out, which they characterized as an effort to obtain a windfall from the significant appreciation of Integra during the pendency of the litigation, as evidenced by the company’s revenue growth and a recent third-party offer to acquire the company for more than $10 million. Having failed to exercise their right to elect within 90 days of commencement, petitioners argued, the respondents should not be permitted to reap solely for themselves the increased value of the company by compelling a buy-out based on a valuation date almost two years earlier.

    The respondents countered that it was the petitioners who sought an inequitable windfall through the strategem of discontinuing the extant dissolution proceeding in order to start a new dissolution proceeding which would “reset” the valuation date to take advantage of the company’s enhanced value.

    The Court’s Ruling

    Justice Platkin’s decision initially reviewed the two relevant statutes: BCL § 1116 governing voluntary discontinuance of dissolution proceedings, and BCL § 1118 giving respondents an elective right to purchase the petitioner’s shares for fair value.

    Under BCL § 1116, the court may approve the voluntary discontinuance of a corporate dissolution proceeding “when it is established that the cause for dissolution did not exist or no longer exists.” The court’s power to authorize such discontinuance is discretionary, and the court may order that discontinuance be “with prejudice” where the substantial rights of a party would be adversely affected.

    BCL § 1118 allows the corporation or majority shareholders to respond to a dissolution petition for minority shareholder oppression under BCL § 1104-a by making a binding election to purchase the petitioner’s shares at their fair value determined as of the day prior to the petition’s filing. The buy-out election may be made as of right within 90 days after commencement of the proceeding. Quoting from Ferolito v. Vultaggio, 99 AD3d 19, 25-26 (1st Dept 2012), Justice Platkin observed that the buy-out election “‘accommodates the interests of the respective parties in ensuring the continuing functioning of the business, while also protecting the financial interest of the shareholders and creditors.’”

    Justice Platkin next examined the Ryan petition’s allegations of financial abuse and frustration of petitioners’ reasonable expectations, leading him to conclude that the claims would no longer exist, and therefore were appropriate for voluntary discontinuance, if the discontinuance was made with prejudice. As he further explained:

    "A discontinuance with prejudice would represent a binding election by petitioners to abandon any claims of wrongdoing by [respondents] with respect to the transactions and occurrences that form the basis of the Petition, even if based upon different legal theories or seeking different remedies.

    In so ruling Justice Platkin denied respondents’ cross motion to elect a buy-out under BCL § 1118, essentially finding that they squandered the opportunity to purchase petitioners’ shares by not acting sooner. Here’s what he wrote:

    "[R]espondents made no attempt at a BCL § 1118 election until after the filing of petitioners’ motion to discontinue, which came some 19 months after the commencement of this proceeding. Moreover, respondents’ attempt at election comes after Integra received a buy-out offer from a third party that assigns a value to the company substantially in excess of the value of the corporation immediately prior to commencement. Thus, insofar as petitioners are said to be guilty of invoking BCL § 1116 as a strategic tool for “resetting” the valuation date, respondents are equally guilty of strategically holding back their BCL § 1118 election until Integra’s current value was substantially in excess of the value as of the commencement of this proceeding. . . .

    In reaching the foregoing conclusions, the Court is mindful of the unusual procedural circumstances of this action, particularly with regard to Streeter’s third party action claiming an ownership interest in Integra. Moreover, the fact that a BCL § 1118 election comes in response to a BCL § 1116 application for leave to discontinue is not necessarily determinative. But respondents here took no overt steps towards a BCL § 1118 election during the critical ninety day period following the filing of the petition, and the issue of election was raised by respondents for the first time almost 21 months after the date of commencement and only in response to a lucrative buy-out offer from a third-party and a motion for voluntary discontinuance by petitioners.

    Under all of the facts and circumstances of this case, the Court determines, in the exercise of its discretion, that it would be inequitable to require the [petitioner] to sell its shares to respondents for their fair value as of almost two years ago where a dismissal with prejudice of this proceeding and the formal change in position by the minority shareholder have eliminated the causes of dissolution and there are no proven impediments to the successful operations of the corporation going forward. Accordingly, petitioners should be given leave to voluntarily discontinue this proceeding with prejudice, and respondents’ cross-motion for a BCL § 1118 election should be denied.

    In so ruling Justice Platkin also distinguished Ryan from other cases in which the courts refused to grant an application for voluntary dismissal of a dissolution petition made after the respondents already had made a timely election to purchase under § 1118, see, e.g., Matter of Musilli, 134 AD2d 15 (2d Dept 1987), and Matter of Ong, 299 AD2d 173 (1st Dept 2002).

    Finally, as an added measure of protection against the possibility of the petitioners refiling for dissolution at a later date based on the same or similar allegations, Justice Platkin further conditioned the voluntary dismissal on the court’s

    "reserv[ation of] the right to apply the August 11, 2011 valuation date to any future BCL § 1118 election made in a BCL § 1104-a dissolution proceeding brought by petitioners where the grounds for dissolution were or could have been raised in this proceeding or the new proceeding effectively constitutes a foreseeable continuation of this proceeding.

    Ryan is a difficult case in which to tally the score. Are petitioners better off for having abandoned what appears to have been a two-year, hard fought contest over money and, ultimately, corporate control? Will they enjoy the benefit of the company’s enhanced value, or will the majority shareholders, now exercising unchallenged control of Integra’s board, be emboldened to exert their will without fear of judicial reproach? Only time will tell.