Another Frozen-Out Minority LLC Member’s Petition for Dissolution Bites the . . . Sushi?

December 05, 2016

The Japanese word “omakase” translates as “I’ll Ieave it up to you” and is used by patrons of sushi restaurants to leave the selection to the chef rather than ordering à la carte.

The minority member of an LLC that operates a high-end Japanese restaurant in Brooklyn featuring omakase service, and who sued for judicial dissolution, recently learned a different meaning of omakase, as in, don’t leave it up to the court to protect you from being frozen out by the majority member when you don’t have a written operating agreement, much less a written operating agreement containing minority-interest safeguards.

The hard lesson learned by the petitioner in Matter of Norvell v Guchi’s Idea LLC, 2016 NY Slip Op 32307(U) [Sup Ct Kings County Nov. 18, 2016], has been taught before, starting most prominently with the First Department’s 2013 decision in Doyle v Icon, LLC and reinforced by that court two years later in Barone v Sowers, holding that minority member claims of oppressive majority conduct including systematic exclusion from the LLC’s operations and profits, in the absence of a showing that the LLC is financially unfeasible or not carrying on its business in conformity with its operating agreement, do not constitute grounds for judicial dissolution under LLC Law § 702.

In Norvell, the petitioner worked as a chef at the LLC’s Japanese restaurant for some time before the sole member in 2014 gave her a 25% membership interest. They had no written operating agreement.

The relationship apparently ran aground by late 2015 when the 75% member unilaterally gave himself a three-fold salary increase retroactive for 2015. A couple of months later, the 75% member adopted — or, as the petitioner would later claim, purported to adopt — an operating agreement for the LLC signed only by himself as majority member. Among other features augmenting the majority member’s control, the operating agreement named himself sole managing member; authorized the managing member to make additional capital calls and to reduce the membership interest of a member who fails to contribute; and authorized member expulsion on various grounds.

In May 2016, acting under authority of the disputed operating agreement, the 75% member issued a capital call and allegedly reduced the petitioner’s membership interest to 14.6% after she did not contribute the called-for capital of $25,000.

A few months later, the minority member filed a petition for judicial dissolution in which she denied the existence of a valid written operating agreement and alleged that the majority member terminated her employment, excluded her from the LLC’s management and deprived her of her profit share. The petition further contended that the members were at “irreversible odds and cannot carry out the business functions of the LLC.”

In opposition, the majority member pointed to the LLC’s profitability and defended his actions as proper under the LLC Law, including his adoption of the operating agreement. He also argued that the petitioner’s assertion of deadlock was an impossibility since he held at least a 75% membership interest and thus could take all necessary actions on the LLC’s behalf.

The court, in a decision by Brooklyn Commercial Division Justice Sylvia G. Ash, agreed with the majority member and denied the petition insofar as it sought the LLC’s dissolution under the two-part standard established in the 1545 Ocean Avenue case, i.e., whether the LLC’s management is unable or unwilling to reasonably permit or promote the stated purpose of the entity to be achieved, or continuing the entity is financially unfeasible. As the court explained:

Here, it is undisputed that when the partnership commenced, there was no operating agreement signed by the parties. Thus, the issue is whether, currently, the purpose of the LLC is being achieved and whether it remains financially feasible. The evidence before the Court indicates that both the purpose of Guchi, as a Japanese restaurant, and its financial viability are being achieved. That Norvell disagrees with Haraguchi’s control and operation of Guchi is insufficient to warrant dissolution of Guchi (see Matter of Belardi-Ostroy, Ltd. v American List Counsel, Inc., 2016 N.Y. Misc. LEXIS 1468, 2016 NY Slip Op 30727(U), *10 [NY County 2016]). Thus, that portion of the petition seeking dissolution of Guchi must be denied.

Nothing surprising here. Justice Ash’s decision followed case precedent — the Belardi-Ostroy case cited in the above excerpt in turn relied on the First Department’s Doyle and Barone decisions — in holding that allegations by a minority LLC member of oppressive conduct and freeze-out by the majority, unless they fit within the contract-centric framework established in 1545 Ocean Avenue, do not state cognizable grounds for judicial dissolution.

Justice Ash’s ruling expressly left for another day resolution of the disputed issue surrounding the validity of the operating agreement. It’s a fascinating and controversial issue that, as far as I know, has been addressed in only one previous lower court decision in Shapiro v Ettenson which held that the LLC Law authorized the majority to adopt a binding post-formation operating agreement without the consent of the minority member. The losing minority member in Shapiro filed a notice of appeal over a year ago but I’m not aware whether the appeal has gone forward, so it may be some time before we see an appellate ruling on the subject.

For those not tired of hearing me state it for the umpteenth time, the import of cases like Norvell is simple: before you acquire an LLC membership interest, and even more so if it’s a minority interest, get thee to a lawyer and make sure you get the protection you need in a sensible, written operating agreement. Otherwise, the statutory default rules and the dissolution statute as construed by the courts will offer little help if and when the minority-majority relationship takes on the character of unrefrigerated, two-day old sushi.