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Corporate divorce: Creating leverage for the victimized shareholder

Hellmuth & Johnson provides guidance on messy business breakups.
Author:
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By Terry Moore and Kylie Kaminski, of Hellmuth & Johnson 

It is a common story. Two friends start a business. Over the next 15 years, the business becomes a success, but the partners’ priorities change. One partner wants to grow the business and the other wants to relax and enjoy their success. Pretty soon, they want to split up.

If you think this sounds like a broken marriage, you are right.

Like marriage, business divorce can bring out the nasty side. Most people go into business thinking things will never go sideways. But things do. Planning ahead can save you headaches down the road. As is human nature, the last thing people want to discuss when starting a new business is the possibility of bad acts down the road.

Break ups are usually painful, but can be considerably worse if you don’t plan in the beginning.

A closely-held corporation in Minnesota is subject to statutes concerning business divorce.

Minnesota Statute 302A governs closely held corporations (not LLCs, which are governed by Minn. St. 322C). This article discusses the statutory remedies in the event one shareholder starts acting badly.

Shareholders and directors have options, like a good old-fashioned sit-down, but the leverage of each side is governed by Sec. 302A.751 and the corporate documents. If a shareholder is being unreasonable (or worse), these remedies can force them to the table.

One situation where the Court can intervene is when “the directors or the persons having the authority otherwise vested in the board are deadlocked in the management of the corporate affairs and the shareholders are unable to break the deadlock” 2 (See Minn. Stat. 302A.751, subd. 1(b)(1)).

A deadlock occurs when the directors are fighting in the management of the company, and are unable, or unwilling to agree on a path forward. In plain English, a deadlock is when the management of a corporation is equally divided on a direction and the corporation essentially cannot function. Directors of a corporation are required to act in good faith and in the best interests of the company and its shareholders.

A deadlock may occur when directors have differing views on what these duties mean for the corporation. If the shareholders have a shareholder buy-sell and control agreement, these agreements should detail what happens in the event of a deadlock. When there is no agreement in place, the statutes control the process.

When a deadlock exists, it is necessary to formalize it. To formally declare a deadlock, a special meeting of the shareholders should be called to discuss the issue. The shareholder declaring the deadlock will also want to make a demand for the inspection of books and records as well as financial information.

If the other shareholders and the corporation do not comply with the requests, a whole host of additional remedies open up (attorney fees being a formidable one).

In Minnesota, victimized shareholders have strong rights. The court shall take into consideration the duty which all shareholders in a closely held corporation owe one another to act in an honest, fair, and reasonable manner in the operation of the corporation and the reasonable expectations of all shareholders as they exist at the inception and develop during the course of the shareholders' relationship with the corporation and with each other*.

This duty creates a very high bar for all shareholders to treat each other fairly. The court has the right to grant any equitable relief it deems just and reasonable in the circumstances, including attorneys' fees and even involuntary dissolution of the corporation.

In a business divorce, the goal for the departing shareholder is to obtain fair value for their shares with as little pain and expense as possible. In many cases, the threat of deadlock and potential dissolution will motivate the remaining shareholder to make a fair offer in order to avoid the pain and risk of litigation.

Hellmuth & Johnson provides the very highest quality legal representation to businesses, organizations and individuals in numerous jurisdictions, including Minnesota, Wisconsin, North Dakota, and South Dakota. Find more here.

* See Minn. Stat. §302A.751, subd. 3a (emphasis added); see also Pedro v. Pedro, 489 N.W.2d 798, 802 (Minn. App. 1992) (“Trial courts have broad equitable powers in fashioning relief for the buyout of shareholders in a closely held corporation”).

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