How to Initiate a Fair Value Appraisal Proceeding – a Dissenter’s Checklist
May 13, 2019
Over the years, we’ve written a lot about limited partnership, corporation, and LLC “fair value” appraisal proceedings. An appraisal proceeding is a statutory remedy that allows a minority business owner to “dissent” from a business transaction and/or withdraw from the business and have a court determine the “fair value” of his or her interest in the business, usually for the purpose of a buyout of that interest by the majority owners or the entity itself.
Despite all we’ve written on the subject of appraisal proceedings, we have never given extensive treatment to the procedures involved in the run-up to, and initiation of, an appraisal proceeding. In New York, the steps one must take to commence an appraisal proceeding depend on the kind of entity involved, and are set forth in various statutes contained in the Partnership Law, the Business Corporation Law (“BCL”), and the Limited Liability Company Law (“LLC Law”). The purpose of this article is to collect those various statutes in a single reference source. This article is in response to a specific reader request. You ask, we deliver.
Step One: The Triggering Event
The first step in any appraisal proceeding is the occurrence of an event giving rise to a right of appraisal. There are myriad ways business owners can wind up in an appraisal proceeding, a subject about which we gave extensive treatment in this article. Some examples include “wrongful” partner withdrawal under Partnership Law 69, death or retirement of a partner under Partnership Law 73, the filing of a buyout election under BCL 1118 in response to a petition for corporate dissolution based upon oppression, and LLC member withdrawal under LLC Law 509.
For this article, we’ll focus on another example: a merger. In a prior article, we gave extensive treatment to the so-called “freeze-out” or “squeeze-out” merger. The occurrence of a merger is an event giving rise to an appraisal right. When does the right to an appraisal begin? The rules vary slightly based on the kind of entity.
For all three kinds of entities, the majority must duly notice and schedule a meeting for the purpose of adopting a plan of merger. Under BCL 605 (a), a shareholder meeting to adopt a plan of merger, or to take any other kind of corporate action, requires no less than ten days’ and no more than 60 days’ notice. Under Partnership Law 121-1102 (a) and LLC Law 1002 (c), a meeting must be scheduled on no less than 20 days’ notice.
Step Two: The Filing of Notice or Election to Dissent
The appraisal process begins with the filing of a notice or election to dissent. Under BCL 623 (a) and (c), a dissenting shareholder must must file with the entity, “before the meeting” at which the transaction is to be voted upon, a “written objection to the action,” and then, “within twenty days after the giving of notice to him” of the meeting, a written “election” that the shareholder “dissents” from the transaction and demands fair value. Under Partnership Law 121-1102 (b) and LLC Law 1002 (e), a dissenting owner must file with the entity a written “notice” to dissent and demand fair value “prior to” the meeting to adopt a plan of merger.
Unique to the LLC Law, however, LLC Law 407 (a) permits the majority members to effectuate a merger or any other action by written consents in lieu of meeting “except as otherwise provided in the operating agreement.” In that case, the majority members may merge the LLC into another entity prior to notifying a minority member the merger has happened. How does the minority dissent in that case? The statutes do not address this question. LLC Law 407 (a) does, however, require the giving of “prompt” notice of any action taken by written consents in lieu of meeting. If a minority LLC member receives notice of a merger — especially a cash-out merger — effectuated by written consents in lieu of meeting, then he or she should file a notice of dissent immediately.
Step Three: The Offer to Pay Fair Value
Once an owner dissents from a merger or other transaction giving rise to a right of dissent, the entity must make a “written offer” to pay “fair value” for the dissenter’s interest. Under BCL 623 (g), the offer must be made “within fifteen days after the expiration of the period within which shareholders may file their notices of election to dissent, or within fifteen days after the proposed corporate action is consummated, whichever is later.” Under Partnership Law 121-1105 (a) and LLC Law 1005 (a), the offer must be made “within 10 days” of the filing of the notice of dissent.
Step Four: Acceptance or Rejection of the Offer
Once a dissenting owner receives a written offer to be paid fair value in the case of a cash-out merger, he or she has a choice: accept the offer, or reject the offer and attempt to negotiate a better one. Under BCL 623 (h), the corporation and dissenting shareholder have 30 days from the date of the corporation’s offer to negotiate and attempt to agree upon the fair value of dissenter’s interest. Under Partnership Law 121-1105 (b) and LLC Law 1005 (b), the entity and dissenting owner have up to 90 days from the date of the entity’s offer to “agree on the price to be paid” for the former owner’s interest in the business.
Under BCL 623 (g), if the parties agree on price, payment must be made within 60 days of the making of the original offer to pay fair value or the consummation of the transaction that triggered the right of dissent, whichever is later. Under Partnership Law 121-1105 (a) and LLC Law 1005 (a), payment must be made within 10 days after notice of an acceptance is received from a dissenter.
Step Five: The Filing of the Petition
If the parties have not agreed on a buyout at the expiration of the statutory negotiating period (30 days for corporations, 90 days for limited partnerships and LLCs), then the next step is the filing of the appraisal petition. At this point in the process, the procedures for limited partnerships, corporations, and LLCs merge: the provisions of BCL 623 (h) – (k) apply to all three kinds of entities.
Under BCL 623 (h), either the entity or the dissenter may file the appraisal petition. The entity has up to “twenty days” after expiration of the negotiation period to “institute a special proceeding” to “determine the rights of dissenting shareholders and to fix the fair value of their shares.” If the entity fails to institute a proceeding with 20 days, then the dissenter may “institute such proceeding for the same purpose” within “thirty days after the expiration of such twenty day period.” If no appraisal proceeding is commenced within those deadlines, then “all dissenter’s rights shall be lost,” and the dissenter is bound by the entity’s determination of fair value, “unless the supreme court, for good cause shown, shall direct otherwise.”
Once the petition is filed, the fair value litigation begins. Fair value appraisal proceedings are a universe of litigation unto themselves. In prior articles, we have written extensively about the legal rules and valuation principles that apply in the appraisal proceeding itself.
The procedures for initiating an appraisal proceeding are complicated and replete with strict deadlines. Noncompliance can be deadly, particularly for a dissenter upon whom the entity’s determination of fair value may be binding if he or she fails to comply with the statutory deadlines. We sometimes get contacted by clients who wait until the last minute to respond to a merger notice or other event giving rise to a right of dissent. We urge readers not to fall into that trap. Be proactive.
Lastly, as with many subjects we write about at New York Business Divorce, the parties are free for the most part to opt out of these rules in written agreements. Thus, if the parties adopt partnership, shareholder, or operating agreements expanding the deadlines, or varying the procedures by which the parties may agree upon a buyout, those deadlines and procedures usually will control.