In re Kemp & Beatley, Inc.

New York Court of Appeals · 1984 · Corporations

CorporationsClose corporationsJudicial dissolutionMinority shareholder oppressionclose corporationminority shareholdersoppressive actionsreasonable expectations

Facts

Kemp & Beatley was a closely held corporation with 1,500 shares owned by eight shareholders. Petitioners Dissin and Gardstein were long-time employee-shareholders who together held 20.33% of the stock; after Dissin resigned and Gardstein's employment was terminated, they no longer received any distribution of corporate earnings. There was evidence that the company had long distributed earnings to shareholders based on stock ownership through dividends or extra compensation bonuses, and that this policy was changed around the time petitioners left employment so that stock ownership no longer determined the payments. Petitioners claimed this change froze them out and deprived them of any return on their investment.

Issue

Whether, under Business Corporation Law § 1104-a, majority shareholders in a close corporation engage in 'oppressive actions' when they alter a long-standing practice of distributing earnings based on stock ownership so that minority shareholders alone are excluded from any return on their investment. Also, whether dissolution was a proper remedy on these facts.

Rule

Under BCL § 1104-a, oppressive conduct in a close corporation exists when majority conduct substantially defeats minority shareholders' reasonable expectations that, objectively viewed, were reasonable under the circumstances and central to their decision to join the venture. In deciding whether to dissolve, the court must consider whether liquidation is the only feasible means for the petitioners to obtain a fair return and whether dissolution is reasonably necessary to protect shareholder interests; once a prima facie showing of oppression is made, those opposing dissolution should demonstrate an adequate alternative remedy.

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Lakefront Fabrication, Inc., a closely held New York manufacturer in Buffalo, has for 18 years paid most annual profits to shareholder-employees as year-end "special compensation" in exact proportion to stock ownership. After minority shareholders Elena Cruz and Martin Lowe retire, the board continues paying the same amounts to all remaining shareholder-employees but says the payments are now purely compensation for current services. Cruz and Lowe receive nothing on their shares.

If Cruz and Lowe petition for judicial dissolution on the ground of oppressive conduct, which is the strongest argument in their favor?

Explanation. Oppression in a close corporation is measured by whether majority conduct substantially defeats expectations that were objectively reasonable and central to joining the venture. A longstanding practice of distributing earnings based on stock ownership can create such an expectation, and the majority may not evade that reality by merely recharacterizing the distributions as compensation while excluding the minority from any return. The rule does not make every service-based payment oppressive, nor does it require formally declared dividends.