Divorce is always difficult, but at least there are rules aimed at producing a fair and relatively efficient dissolution of marriage. Indeed, the Wisconsin Statutes devote several chapters to marriage and its dissolution, covering everything from marital property to no-fault divorce to ensuring appropriate custody and support for children whose parents are splitting up.
That is not the case for break-ups in closely held corporations, in which shareholders often are family members with relationships longer than many marriages and just as complicated. Their brainchildren – the corporations they cared for and helped to evolve, often since their founding – have grown to become a matter of public interest, with employees, business partners that rely on them, and tax revenue generation for the state. But the Wisconsin statutes devote only one subsection to break-ups among shareholders in the most common form of corporation: nonstatutory close corporations, whose shares are not publicly traded and which have relatively few shareholders. That section’s only remedy for shareholder strife is to dismantle and liquidate the corporation through judicial dissolution.
Specifically, Wis. Stat. section 180.1430(2) states that a court may dissolve a corporation (that is, liquidate and terminate its corporate life) if a minority shareholder proves irresolvable deadlock or “oppressive,” illegal, or fraudulent conduct by the controlling shareholders or directors, among other grounds. The reward for doing so is the right to pursue a discretionary remedy that breaks up the company, almost certainly destroys value, and may consume years in judicial management before any shareholder receives the proceeds of the fire sale.
Wisconsin’s dissolution statute is a clumsy solution to shareholder discord, a Solomon-esque threat to cut the baby in two but without the prospect of saving it once the shareholders’ motives are revealed. It is one of the rare statutes that provides a remedy in which no one benefits: not the shareholders, who lose value as the corporation is broken up; not the courts, which must manage the dissolution in protracted legal proceedings; and certainly not the corporation and its employees.
However, in spite of the statute, courts and litigants are finding ways to address shareholders’ need for judicial intervention without employing the drastic remedy of dissolution. Courts in other states with similar or identical statutes have expressly blessed judicially created alternatives to the nuclear option of dissolution, in various forms of equitable buyouts of complaining shareholders’ interests,1 and Wisconsin courts and litigators are beginning to follow suit. Given these legal developments, a dissolution claim now presents an opportunity for creative lawyering and adjudication, rather than a losing proposition for all involved.
There are several strategies to significantly reduce the risks posed by the dissolution statute, both before and after disputes arise. This article addresses those strategies and outlines various remedies that litigants may seek to facilitate business divorces among shareholders without destroying the company in the process.
Before Disputes Arise: A Fair Pre- or Post-Nup
Shares in close corporations typically are subject to transfer restrictions of some kind, limiting a shareholder who wishes to cash out his or her shares to selling only to certain buyers through certain procedures. Those restrictions frequently establish a pricing mechanism for the sale. Ideally, a shareholder who wants out of the corporation will make a share-purchase demand under such an agreement, leading to a peaceful exit for all involved.
But such buy-sell agreements among shareholders work only if shareholders use them, and shareholders only use those agreements if the pricing mechanism is fair. If a buy-sell agreement calls for a sale price that is below the perceived liquidation value of the company, a shareholder may decide that commencing an action under the dissolution statute is a better option than proceeding with a contractual sale. Although a shareholder might proceed under the dissolution statute anyway as leverage for a better sale price, an objectively fair pricing mechanism in the buy-sell agreement reduces the risk.
There is no one-size-fits-all best pricing mechanism for buy-sell agreements, but those that use an appraisal process – whether after the contractual demand or on a periodic, ongoing basis before any demand – tend to work well. They adjust for the company’s financial condition at or around the time of the sale, provide an objective value, and introduce a third-party neutral (the appraiser), which adds to the sense of fairness.
For the Plaintiff: Pleading an Alternative Remedy from the Outset
Absent an appropriate buy-sell agreement (or if one of the shareholders declines to use it), then an action for judicial dissolution may be the only remaining option for a shareholder who seeks to leave a corporation.
com snickels foley Steve Nickels, Marquette 2000, and com mlynch foley Matt Lynch, Iowa 2006, are attorneys with the Madison office of Foley & Lardner LLP. Both have litigated multiple disputes between shareholders of close corporations in Wisconsin.
But such an action need not seek actual dissolution, at least in the first instance. “[P]etitions for judicial dissolution rarely result in the actual dissolution of a corporation,”2 even when the grounds for dissolution are proved. The dissolution statute gives the circuit court discretion to impose dissolution, and Wisconsin courts have held that they should exercise that discretion only under exceptional circumstances.3 Thus, a shareholder could spend a year litigating a dissolution claim and proving conduct to support it, only to return to square one after the circuit court declines to exercise its discretion to dissolve the corporation.
Plaintiff shareholders need not run that risk. If an actual dissolution is both unlikely and undesirable, why not seek an alternative in the complaint itself, such as an equitable buyout based on the valuation method of the plaintiff’s choice? Doing so allows the plaintiff to frame the valuation debate in advance and avoids any characterization of the plaintiff as an uncaring malcontent bent on destroying the corporation. It also places defendants in a difficult position; if the defendants argue that a buyout is inappropriate, they are essentially saying they would prefer dissolution to a less destructive outcome – thus helping make the plaintiff’s case that the defendants are engaging in wasteful or oppressive conduct.
The Wisconsin Supreme Court implicitly blessed this approach in Northern Air Services Inc. v. Link,4 a longstanding shareholder dispute in which the plaintiff’s complaint sought “fair value” of his shares as an alternative to dissolution.5 Although the plaintiff was ultimately denied that relief on other grounds, the court never questioned the availability of the equitable buyout he sought and even characterized it as a “well articulated”6 remedy under the dissolution statute.
The Wisconsin Court of Appeals squarely addressed the availability of such remedies in an unpublished decision in June 2013. In Estate of Sheppard v. Specht,7 the court rejected an argument that actual dissolution is the sole available remedy under the dissolution statute, going so far as to hold that because dissolution is equitable in nature, “the court’s discretion is virtually unlimited” in “fashioning an equitable remedy appropriate to the needs of the particular case.”8
In sum, for the usual case there is no downside for plaintiffs in seeking a buyout in lieu of dissolution in the complaint. The upside, however, is substantial: a court is more likely to exercise its discretion in favor of the plaintiff shareholder when the plaintiff presents the court with an option that does not involve blowing up a corporation and potentially taking jobs from innocent employees. Moreover, in most cases the buyout remedy is preferable for the plaintiff, because it avoids a distressed sale of assets in dissolution, which can diminish value and cause delay in the distribution of proceeds while potential claims of creditors are resolved.
For the Defendant: Turning the Tables
Often, the controlling shareholder and defendant (typically the same person) in a judicial dissolution case wants the plaintiff shareholder out of the corporation just as badly as the plaintiff wants to leave – but not by dissolving the company in the process. Therefore, it makes as much sense for the defendant to pursue an alternative buyout remedy as it does for the plaintiff.
If the plaintiff persists in seeking dissolution, the defendant can fight that remedy on two fronts, both of which can avoid a messy battle over the underlying allegations of oppressive conduct. First, the defendant can note the extreme nature of dissolution and any adverse consequences for third parties not involved in the shareholders’ dispute, which weigh strongly against the imposition of the discretionary remedy of dissolution.
Indeed, while one must strain to find any examples in any jurisdiction of a court imposing dissolution against the wishes of the majority shareholder of a solvent corporation, one can find numerous examples of cases in which courts deny dissolution because they find that the corporation’s life is worth sparing, even if the grounds for dissolution otherwise exist.9 Any allegations of misconduct by the controlling shareholder can be addressed through derivative or direct claims for damages; therefore, the defendant may argue, there is no need to dissolve the company.
That approach does not solve the ultimate problem, however: a disgruntled minority shareholder who wants to exit the corporation but not on the terms offered by the controlling shareholder. Minority shareholders might not have decision-making authority within the corporation, but the Wisconsin Statutes do grant them tools to make certain demands on the corporation – such as the right to demand investigation of potential claims against the controlling shareholder10 and to demand various financial records11 – that can make life difficult for the controlling shareholder and occupy substantial amounts of company time after dissolution is denied. Defendants might not want to lose dissolution lawsuits, but they do not necessarily want to dismiss them, either.
Defendants in such situations may be wise to seek an equitable buyout, as well, either in the responsive pleading or through motions practice. This second prong of argument acknowledges the problem of shareholder discord and offers the plaintiff a remedy that will arguably mirror or exceed the per-share value that could be obtained in a dissolution. Defendants raising such arguments will appear reasonable and responsible regarding the corporation and its future; plaintiffs opposing such relief might appear unreasonable and spiteful. Appearances matter in proceedings in which the circuit court has “virtually unlimited” discretion to fashion the appropriate remedy,12 and an equitable buyout proposal by a defendant has the appearance of a fair alternative to the all-or-nothing language of the dissolution statute.
The Sheppard case provides an example of this approach in action. In Sheppard, the plaintiff shareholder insisted that an actual dissolution was the only permissible option, while the defendant shareholder proposed an alternative buyout that preserved the company (and included a valuation method that was more favorable to the defendant, because it included a discount of the plaintiff’s shares for lack of marketability).13
By proposing a buyout, the defendant was able to claim the equitable high ground; the circuit court rejected the “most possible drastic remedy” of dissolution and adopted a buyout consistent with the valuation method the defendant proposed.14 Because the circuit court’s choice of valuation method was within its discretion,15 the court of appeals affirmed.
Forms of Equitable Buyouts
Wisconsin courts have not adopted any standard form for equitable buyouts under the dissolution statute, and the options for tailoring an equitable buyout or other alternative relief are as unlimited as the circuit court’s discretion. That said, precedent offers some general starting points that lawyers and judges can tailor to the facts and circumstances of a particular case.
The current version of the Model Business Corporation Act allows a corporation or its shareholders to elect to purchase the plaintiff’s shares in lieu of dissolution at “fair value.” Although the Wisconsin legislature has not yet enacted that provision for nonstatutory close corporations, it has enacted provisions calling for “fair value” buyouts in the context of statutory close corporations16 and with regard to the shareholders’ rights to dissent from corporate mergers.17
Wisconsin courts have defined fair value in the equitable-buyout context as “the net worth of a closely held corporation divided by the [total] number of shares,” multiplied by the number of shares the plaintiff holds.18 This approach does not apply a discount to the value of the plaintiff’s shares to account for the lack of controlling interest in the corporation, which makes it more akin to the value that a shareholder would obtain in an actual dissolution. The appraisers may debate whether to value the assets of the corporation under distressed conditions (akin to a dissolution) or under general market conditions.
Alternatively, one may advocate a “fair market value” approach that discounts the value of the plaintiff’s shares to reflect the plaintiff’s lack of a controlling interest in the corporation.19 This approach focuses more on hypothesizing what a shareholder would receive through the open market (absent the transfer restrictions) rather than through a dissolution. While fair value is more common, some courts have authorized discounts for the minority shareholder’s interest in equitable buyouts,20 particularly in situations in which the plaintiff is the cause of deadlock or otherwise engages in conduct that precipitates the dissolution action.21
The terms of the buyout also are subject to the court’s discretion. For example, the Model Act and some states permit the court to schedule payment of the buyout price in installments.22
Finally, buyouts are not the only alternative remedies available. While an equitable buyout offers a “clean break” among shareholders, courts have employed less drastic alternatives to prevent the specific conduct giving rise to the dissolution claim without severing the shareholder relationship. Appointing provisional directors to break deadlocks,23 enjoining specific oppressive acts, and a host of other targeted remedies may be available for shareholder relationships that are broken but not beyond repair.24
As Wisconsin courts continue to approve alternatives that do not appear in the dissolution statute, the nuclear option of Wis. Stat. section 180.1430 is gradually being taken off the table in shareholder disputes. Despite little help from the dissolution statute itself, these equitable alternatives and other strategies allow for court-administered business divorces among shareholders without the needless destruction of a judicial dissolution.
1 See, e.g., Alaska Plastics Inc. v. Coppock, 621 P.2d 270, 274 (Alaska 1980); Edenbaum v. Schwarcz-Osztreicherne, 885 A.2d 365, 380 (Md. Ct. App. 2005); McCauley v. Tom McCauley & Son Inc., 724 P.2d 232, 236 (N.M. 1986).
2 Notz v. Everett Smith Grp. Ltd., 2009 WI 30, ¶ 54, 316 Wis. 2d 640, 764 N.W.2d 904 (Roggensack, J., concurring).
3 Link v. Northern Air Servs. Inc., 2011 WI 75, ¶ 90, 336 Wis. 2d 1, 804 N.W.2d 458 (noting that dissolution is an “extreme remedy”); Notz, 2009 WI 30, ¶ 52, 316 Wis. 2d 640 (Roggensack, J., concurring); Dickman v. Vollmer, 2007 WI App 141, ¶ 27, 303 Wis. 2d 241, 736 N.W.2d 202; Jorgensen v. Water Works Inc., 218 Wis. 2d 761, 784 n.11, 582 N.W.2d 98 (Ct. App. 1998).
4 2011 WI 75, 336 Wis. 2d 1, 804 N.W.2d 458.
5 Id. ¶ 17.
6 Id. ¶ 94.
7 Estate of Sheppard v. Specht, 2012AP1633, 2013 WL 3198424 (Wis. Ct. App. June 26, 2013) (per curiam).
8 Id. ¶¶ 8-9.
9 See, e.g., Orchard v. Covelli, 590 F. Supp. 1548, 1559 (W.D. Pa. 1984); Belcher v. Birmingham Trust Nat’l Bank, 348 F. Supp. 61, 152-53 (N.D. Ala. 1968); Maddox v. Norman, 669 P.2d 230, 236 (Mont. 1983); Landstrom v. Shaver, 561 N.W.2d 1, 9 (S.D. 1997).
10 Wis. Stat. § 180.0742.
11 Wis. Stat. § 180.1602(2).
12 Estate of Sheppard, 2012AP1633, 2013 WL 3198424, ¶ 9.
13 Id. ¶¶ 8-12.
14 Id. ¶¶ 11-16.
15 Id. ¶ 16.
16 Wis. Stat. § 180.1833.
17 Wis. Stat. § 180.1325.
18 Id. ¶ 15. See also Link, 2011 WI 75, ¶ 13 n.6, 336 Wis. 2d 1.
19 Link, 2011 WI 75, ¶ 13 n.6, 336 Wis. 2d 1.
20 See, e.g., Stanton v. Republic Bank of S. Chicago, 581 N.E.2d 678 (Ill. 1991).
21 See Balsamides v. Protameen Chems. Inc., 734 A.2d 721 (N.J. 1999).
22 See, e.g., Ill. Comp. Stat. 5/12.55(c); Minn. Stat. Ann. § 302A.751(2).
23 See Estate of Sheppard, 2012AP1633, 2013 WL 3198424, ¶¶ 4-5.
24 See, e.g., Baker v. Com. Body Bldg. Inc., 507 P.2d 387, 395-96 (Ore. 1973) (listing potential equitable remedies).