At Least I Still Have My Rights of Inspection
October 29, 2018
Perhaps it’s because I’ll be speaking on the topic later this week, or perhaps it’s because of a recent post on another one of our blogs, but shareholder rights of inspection have been on the mind of late.
While researching 2018 New York cases addressing inspection rights, particularly in the Commercial Division, I came across a Second Department decision from over the summer, which modified a post-trial judgment from Queens County Commercial Division Justice Marguerite A. Grays by ruling in favor of the individual defendant on his counterclaim for an accounting and directing the corporate plaintiff to permit an inspection of its books and records.
In World Ambulette Transp., Inc. v Lee, a corporate ambulance service sought to recover damages from a former driver/dispatcher who was terminated after allegedly charging the company’s debit card for various personal expenses. The defendant counterclaimed for breach of contract and an accounting, claiming not only that he was wrongfully discharged as an employee, but that he was denied certain rights as a minority owner under a shareholder’s agreement, including the right to continued employment, salary, dividends, and other company profits.
At trial, the parties offered conflicting testimony concerning the business arrangement between them, with the defendant claiming that he was a full-blown 49% owner in the company, and the plaintiff claiming that he was merely an employee entitled to 49% of the company’s profits. Confident in its founder’s testimony in this regard, the plaintiff moved under CPLR 4401 for judgment during trial effectively to dismiss the defendant’s counterclaims, including his claim for an accounting — which, by its very nature, was contingent on the existence of a fiduciary relationship between the parties. After all, if the defendant never was a shareholder and the requisite fiduciary relationship wasn’t there in the first place, how could he maintain a claim for an accounting against the plaintiff?
The trial court concurred, crediting the founder’s testimony and other “extrinsic evidence” relating to “the parties’ intent,” and found that the parties had “entered into nothing more than a profit sharing agreement,” which warranted dismissal of the defendant’s counterclaims.
The Second Department disagreed, in part anyway, finding that there was nothing ambiguous about an agreement, which on its face was denominated a “shareholder’s agreement,” and which contained a “Warranties” section designating a specific 51/49 percentage ownership of “Class A shares” among the parties. There simply was no need to consider any extrinsic evidence concerning the parties’ intent when that intent was expressed unambiguously within the four corners of the agreement itself.
After citing section 624 of the Business Corporation Law (“Books and records; right of inspection”) and stating that “a shareholder has both statutory and common-law rights to inspect the books and records of a corporation if inspection is sought in good faith and for a valid purpose,” the Second Department ruled that the defendant was entitled to an accounting and that he should be permitted to examine the plaintiff’s books but otherwise affirmed the trial court’s findings with respect to the defendant’s unauthorized debit-card charges card and the propriety of his termination.
Pyrrhic victory, you say? Maybe not. Sure, the defendant in World Ambulette may not have a right to continued employment, or to a director’s meeting on notice prior to termination, or to any salary, dividends, or future profits from the company in which he is a 49% shareholder, but he still has his rights of inspection. And given the recent expansion of those rights in New York case law (see, e.g., Retirement Plan for Gen. Empls. of City of N. Miami Beach v McGraw Hill Cos., Inc., 120 AD3d 1052 [1st Dept 2014]) — including the right to “investigate alleged misconduct by management and obtaining information that may aid legitimate litigation . . . even if the inspection ultimately establishes that the board engaged in no wrongdoing” — the defendant may eventually have his day in court after all.
** Nota Bene ** — As noted above, the topic of shareholder inspection rights (among others) will be the subject of a panel discussion at the Westchester County Bar Association this coming Thursday, November 1, 2018, at 6 p.m. at the WCBA Headquarters, 4 Westchester Park Drive, Suite 155, in White Plains. The 1.5 credit CLE program will address the utility of the books-and-records proceeding in disputes among business owners in partnerships, corporations, and LLCs, and the ways in which such disputes might be avoided by having proper formation documents prepared and in place from the beginning. The three-person panel will be addressing these topics from the perspective of a litigator, a forensic accountant, and a corporate attorney. Registration and networking at 5:30 p.m. Hope to see you there!
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