Court Ordered Buy Out
Shareholder Oppression Remedy Court Ordered Buy Out
The shareholder oppression remedy under the former shareholder oppression doctrine
How dissolution of corporation became the buy out.
Ritchie v. Rupe's most profound disappointment for minority shareholders was loss of the buy-out remedy. Much of the specific wrongful conduct addressed by the Shareholder Oppression Doctrine can also be remedies through other causes of action, primarily breach of fiduciary duties asserted through a shareholder derivative claim. However, those substitute causes of action lack the flexibility and power of the wide range of equitable remedies available under the Shareholder Oppression Doctrine. It is important to examine the shareholder oppression remedies available under the prior law in order to develop other causes of action to fill in the gaps in the law left by the Ritchie decision.
Receivership Remedy for Shareholder Oppression
The concept of shareholder oppression in Texas law derived originally from art. 7.05 of the TBCA which authorizes the appointment of a receiver, either to rehabilitate or dissolve, if a shareholder can establish that "the acts of the directors or those in control of the corporation are illegal, oppressive or fraudulent"--now codified at Tex. Bus. Org. Code §11.402.
The statutory provisions that control the appointment of a receiver for a corporation are enumerated in BOC §§11.401-411 and Tex. Civ. Prac. & Rem. Code Ann 64.001-64.076. A court may not administer corporations in receivership for more than 3 years unless there is an application for extension, notice to parties and a hearing; no receivership shall expand beyond 8 years. The requirements of the Business Organizations Code control over conflicting provisions of the general receivership statutes.
The appointment of receivers for solvent corporations, even where oppressive conduct was established, was exceedingly rare. However, Texas court recognized that, both statutorily and based on common-law equitable powers, courts had broad authority to appoint a receiver and even order dissolution as a shareholder oppression remedy.
Receiver for specific corporate assets
BOC §§11.402-403 allows the appointment of a receiver over specific corporate assets, where "all other requirements of law are complied with and if other remedies available either at law or in equity are determined by the court to be inadequate." Such assets must be located within the state. It does not matter if the assets are owned by a domestic or foreign corporation so long as the disputed assets are the subject of litigation. The appointment of a receiver over an entire corporation instead of over specific assets is inappropriate where the more limited role of the receiver can remedy the wrong alleged.
A shareholder may petition the court for appointment of a receiver to rehabilitate the corporation. It has been held that the appointment of a rehabilitative receiver was not reversible error despite evidence that the corporation could not be rehabilitated. Because the appointment of a receiver is an equitable remedy within the discretion of the trial court, absent a clear abuse of discretion the reviewing court will not disturb the original finding. Appointment of a receiver is a drastic remedy, and a court will not order it simply because a shareholder is dissatisfied with the management of a corporation. Nevertheless, receivership is a proper remedy for serious abuses by the management of a corporation.
The most drastic form of receivership liquidates the remaining assets of a corporation. While dissolution and liquidation are within the equitable powers of the court, the remedy is considered a last resort. In Patton v. Nicholas, the Texas Supreme Court held that the equitable remedy of liquidation was within the power of the court based on proof of shareholder oppression through the malicious suppression of dividends, but reversed an equitable liquidation ordered by the trial court and substituted a mandatory injunction to pay dividends, backed up by the remedy of liquidation if the corporation failed to do so or if the majority shareholder continued to act in bad faith. However, in Boehringer v. Konkel, a case that is the very definition of shareholder oppression, the court of appeals affirmed the remedy of liquidation.
Effect of Appointment
A receiver appointed by the court has certain statutory powers enumerated in the BOC §11.406-410. If no feasible plan for remedying the problems of the corporation is presented within twelve months of the appointment of a receiver, a shareholder may obtain an order that the corporation be liquidated. Liquidation requires that all debts, obligations, and liabilities be discharged, including any claims asserted against the corporation in pending lawsuits.
The Buy-Out as Shareholder Oppression Remedy
Equitable Powers to Fashion a Shareholder Oppression Remedy
The appointment of a receiver is a harsh, even a radical remedy. If the court can, by a combination of lesser remedies, cure the illness presented by the movant -- such as malicious suppression of dividends -- the less drastic measures should be implemented. In Patton v. Nicholas, the Texas Supreme Court recognized that Texas courts, "under their general equity powers," may tailor "the remedy to fit the particular case." In Patton, the court held that the more appropriate remedy to malicious suppression of dividends was a mandatory injunction for the immediate and future payment of dividends, rather than appointment of a receiver. "The essence of equity jurisdiction has been the power of the Chancellor to do equity and to mould each decree to the necessities of the particular case. Flexibility rather than rigidity has distinguished it." On the basis of these authorities, Davis v. Sheerinconcluded "that Texas courts, under their general equity power, may decree a "buy-out" in an appropriate case where less harsh remedies are inadequate to protect the rights of the parties.
Buy-Out at "Fair Value"
In Davis v. Sheerin, the court held that an appropriate remedy for oppression of a minority shareholder is an order forcing the controlling shareholder to purchase the minority shareholder's stock at "fair value" determined by the court. "An ordered "buy-out" of stock at its fair value is an especially appropriate remedy in a closely held corporation, where the oppressive acts of the majority are an attempt to 'squeeze out' the minority, who do not have a ready market for the corporation's shares, but are at the mercy of the majority." In Davis, the jury determined the fair value, and the defendant did not contest the number on appeal, so there is no real discussion in any Texas opinion to date of what "fair value" means or how it is to be calculated.
What is Fair Value?
The typical measure of damages for loss of property, such as stock, would be fair market value. The problem with the notion of "fair market value" in the case of a minority interest in a closely-held corporation is that there is no market for the shares—and thus no way to determine a "market value." Courts have generally acknowledged that the "true value" of a closely held corporation is, at best, a subjective guess. However, the Texas shareholder oppression cases have used the term "fair value" as opposed to "fair market value."
In Alaska Plastics, Inc. v. Coppock, one of the authorities cited in Davis v. Sheerin for the concept of "fair value," the Alaska Supreme Court similarly does not define the term and ultimately does not order a buy-out at that amount; however the court does note that the price in a court-ordered buy-out should be "a price to be determined according to a specified formula or at a price determined by the court to be a fair and reasonable price." The court further noted a fair price should be one that the defendant would be able to show was fair if transaction was challenged as a breach of fiduciary duties. In McCauley v. Tom McCauley & Son, Inc., the other case cited in Davis, the New Mexico Supreme Court states that the trial court should consider the net asset value, the market value, and the investment or earnings value, along with other factors including the nature and history of the corporation, the earnings capacity of the corporation, the corporation's dividend-paying capacity, and the size of the block of stock being valued; however, the court may decide to give no weight at all to a particular factor and has considerable discretion in the valuation of intangibles.
In Advance Marine, Inc. v. Kelley, an unpublished Houston court of appeals opinion, the court did review a valuation for oppression purposes. While the court mistakenly used the term "fair market value" in the opinion, it is clear that the corporation's stock was valued as a whole and the minority shareholder was awarded his percentage interest with no minority discount. The plaintiff introduced the testimony of a certified public accountant who had experience valuing small businesses, who relied on income tax returns, financial statements, and information provided by the corporation's accountant, and utilized the"prudent investor formula" to determine the per share value of the corporation's stock. The defendant challenged the failure to apply the discount on appeal, to which the court responded that this factor and other potential factors, such as the trends in the economy and in the pleasure boating business, "may affect the weight of the evidence, but they do no show that [plaintiff's valuation expert's] testimony was against the great weight and preponderance of the evidence."
Minority Discount in the Shareholder Oppression Remedy
The most contentious issue in valuation of minority shares is the application of discounts for minority status and lack of marketability. In most contexts, appraisers believe that a minority interest in a closely-held corporation is worth less than the minority percentage of the market value of the business as a whole. The reason for this disparity in value is that no market exists for the minority shares, so that any buyer would be entirely dependent upon the declaration of dividends for a return on investment; and the purchaser, as a minority shareholder, would have no power to compel the distribution of dividends. Therefore, any purchaser of a minority interest would have to be given an incentive in the form of a discount to take these additional risks. There is no question that such discounts would have to be applied if the measure for the buy-out remedy was "fair market value."
The term "fair value" is drawn from the dissenting shareholder's appraisal remedy, in which the shareholder is entitled to "fair value"for his shares. BOC §§10.351-368. "Fair value" in the appraisal remedy is defined as based on "the value of the corporation as a going concern without including in the computation of value any control premium, any minority discount, or any discount for lack of marketability." BOC §10.362(b). The only Texas court to have addressed the issue noted that "fair value" in the context of the appraisal remedy is based on the"enterprise value" of the corporation which accounts for the assets, liabilities, and income stream of the corporation as a whole—the highest level at which a company's worth may be assessed—and does not include a discount based on shares' minority status or lack of marketability.
Typically, the appraisal remedy arises as a result of a merger approved by the majority of the shareholders that forces the dissenting minority to sell their shares along with everybody else at the same price. Dissenting shareholders do not believe the price is fair and would not agree to sell their shares at that price absent statutory compulsion, and therefore the purpose of the statutory remedy is to require the corporation to pay the minority shareholders the difference between the agreed value and the fair value found through an appraisal. In this context, the corporation is being sold (or merged) as a whole. All the shareholders are receiving their percentage interest in the sales proceeds, without any discount or premium applied to their individual interests. The chief danger is that the sale may not be at arm's length, and so the court pays the dissenting shareholders what they would have received in a hypothetical sale conducted at arm's length for a fair price. This hypothetical situation necessarily precludes any application of a minority discount because the dissenting shareholders are not selling their minority interests separately but as part of the sale of the entire company.
This issue of discounts was addressed in detail in the court of appeals opinion in Ritchie v. Rupe. The conclusion was that "enterprise value" (no discounts) would ordinarily be the measure in a buy-out remedy in a shareholder oppression case, unless equitable factors required that the "fair market value" (with discounts) be used, as they did in Ritchie because the specific oppressive conduct was to prevent the plaintiff from selling her stock to a third party in which she would have realized only fair market value.
Shareholder Oppression Damages Remedy
Breach of Fiduciary Duty
In Redmon v. Griffith, the court overturned a summary judgment on a breach of fiduciary duties claim based solely on the allegations and summary judgment evidence offered in support of the shareholder oppression claim. The court's reasoning was based on the assumption that a fiduciary relationship exists between a majority and minority shareholder of a closely-held corporation, where the majority shareholder exercises sufficient control over the corporation. The practical implication of the court's holding in Redmon is that a tort/damages remedy may available for oppressive conduct. Under Texas law breach of fiduciary duties is a tort.
Based on the holding in Redmon, a plaintiff could conceivably argue that he is entitled to actual damages for certain misconduct, such as excessive compensation, that could otherwise be pursued only as a derivative claim on behalf of the corporation—although a court paying attention to the duties involved might very well hold that the violation of duties owed solely to the corporation cannot be a proximate cause of actual damages to an individual shareholder. The Redmon holding would also clearly entitle a shareholder to punitive damages. In Davis v. Sheerin, the court held that informal dividends to appellants by making contributions to profit sharing plan and waste of corporate funds for legal fees were breaches of fiduciary duties that could be remedied by damages and injunction.
In Redmon v. Griffith, the court suggests that a plaintiff could pursue a breach of contract claim for wrongful termination of at-will employment arising out of oppressive conduct; however, such a claim could be made only against the corporation, not against the controlling shareholder. "Where a corporation enters into a contract, the officer's signature on the contract, with or without a designation as to his representative capacity, does not render him personally liable under the contract."
In Willis v. Bydalek, the trial court awarded the plaintiff substantial punitive damages ($180,000.00) solely based on a judgment of shareholder oppression with a forced buy-out (for $612.50). The court of appeals did not address the punitive damages issue because it reversed the holding of oppression. In Davis v. Sheerin, the trial court did not award punitive damages on the oppression claim. In Patton v. Nicholas, as a remedy for malicious suppression of dividends, the Texas Supreme Court ordered the trial court to issue a mandatory injunction requiring the controlling shareholder and the corporation to immediately declare and pay a reasonable dividend in the amount to be determined by the trial court, and further to continue paying reasonable dividends in the future, with the trial court retaining jurisdiction for a period not to exceed five years to enforce the good faith compliance with the order. The Court further provided that if the order was not complied with in good faith, then the trial court, in addition to its contempt powers, was instructed to liquidate the corporation.
"We regard this latter provision as fair and even necessary, considering the malicious character of the misconduct heretofore involved and the consequent possibility of its repetition." The court reversed the awards of actual and punitive damages, holding that the award of actual damages would represent a double recovery, and holding that no punitive damages could be awarded in the absence of actual damages. Implicitly, the court held that punitive damages could not be awarded on the basis of the considerable monetary recovery that would result from the equitable relief granted. However, in International Bankers Life Ins. Co. v. Holloway, the Texas Supreme Court indicated that a form of punitive damages could be included in a court's equitable remedy, noting that "there should be a deterrent to conduct which equity condemns and for which it will grant relief. The limits beyond which equity should not go in its exactions are discoverable in the facts of each case which give rise to equitable relief."