The Art of Manager Removal

December 19, 2022

If there’s anything more contentious than a business divorce between co-owners of closely held firms, it’s a business divorce between a couple also going through or following a marital divorce.

Case in point: the litigation in New York Supreme Court between William P. Stewart, the founding owner of an asset management firm, and his former wife Barbara Stewart, who have been embroiled for many years in lawsuits in Surrogate’s Court over control of family trusts beginning in 2005 and who finalized a marital divorce around a decade later.

What’s the business divorce angle? They’ve also spent the last four years in litigation over a one-time jointly controlled LLC’s right to possess four works of art culminating with a recent trial court decision in Stewart Family LLC v Barbara Stewart, 76 Misc 3d 1228(A) [Sup Ct NY County 2022]. The trial court’s decision, in the wake of an interim appellate ruling that narrowed the issues, upheld William’s removal of Barbara as co-manager of the LLC that owns the artwork consisting of four impressionist paintings including the one pictured above titled Le Quintette by Raoul Dufy (1877-1953).

The LLC

The artwork is owned by a manager-managed Delaware limited liability company called the Stewart Family LLC formed in 2001 presumably before the marital troubles began. The four members of the LLC are four grantor trusts formed for the benefit of the Stewarts’ (now adult) four children. The LLC’s 2001 operating agreement names William and Barbara as co-managers. William and Barbara also were the co-trustees of the children’s trusts. In 2003, the trusts conveyed the artwork to the LLC along with a variety of other assets including the Manhattan apartment used by Barbara where the paintings were displayed.

The Surrogate Removes Barbara as Co-Trustee

Starting in 2005, three of the four children and William filed a series of petitions in Surrogate’s Court to remove Barbara as trustee of all four trusts. Barbara also petitioned to remove William as trustee.

In November 2010, a Special Referee issued a post-hearing report and recommendation to remove Barbara as trustee and to reject Barbara’s petition to remove William. The trusts moved to confirm the Referee’s report and to suspend Barbara as co-trustee pending the Surrogate’s determination of the motion.

In December 2010, the Surrogate entered a temporary restraining order that “wholly and summarily suspended . . . all powers of Barbara Stewart to act as co-Trustee of the Trusts” and shortly afterward ordered that the suspension be continued pending its decision confirming the Referee’s recommendation.

In December 2011, the Surrogate confirmed the Referee’s recommendation and permanently removed Barbara as co-trustee.

William Removes Barbara as Co-Manager

In October 2011, i.e., after the Surrogate temporarily suspended Barbara but before her permanent removal as co-trustee, William held a meeting of one — himself — as sole trustee of the LLC’s four member-trusts at which the four members acting by William “voted” to remove Barbara as a manager of the LLC with immediate effect.

William held the meeting without notice to Barbara pursuant to the operating agreement’s provision stating that “[i]f all of the Members shall meet at any time and place, either within or outside of the State of Delaware, and consent to the holding of a meeting at that time and place, the meeting shall be valid without call or notice, and at the meeting lawful action may be taken.”

William acting as sole trustee based his authority to remove Barbara as manager on the operating agreement’s provision stating, “At a meeting called expressly for that purpose, either or both of the Managers may be removed at any time, with or without cause, by the unanimous vote of the Members.”

Concurrently with Barbara’s removal, again acting as sole manager and on behalf of the four member-trusts, William adopted an Amended and Restated Operating Agreement reducing the required numbers of managers from two to one and confirming his appointment as sole manager.

William Sues to Recover the Paintings

Over the next eight years or so, the four paintings, which in 2015 were appraised for insurance purposes at around $1.6 million in total, remained at the apartment used by Barbara. In June 2018, William emailed Barbara asking for access to the apartment to allow the retrieval of the paintings so that they could be sold because, he wrote, “the trusts are very low on cash.” Barbara replied, “Hahaha, you are really funny.”

A month later and presumably less humorously, William filed suit in the LLC’s name against Barbara to recover possession of the paintings, asserting claims for replevin and seeking an ex parte order of seizure which the court granted. After the order was signed but before the Sheriff executed on it, Barbara moved the paintings out of the apartment before agreeing to store them with an art dealer at the LLC’s expense pending further court order.

In early 2019, the trial judge denied the LLC’s motion for summary judgment on the ground that it failed to demonstrate financial need to sell the paintings for the trusts’ benefit. The judge also denied Barbara’s motion for summary judgment but nonetheless directed that the paintings be returned to Barbara’s possession pending the litigation. The LLC then successfully applied to the Appellate Division for a stay of the order pending its appeal, thus leaving the paintings in the art dealer’s custody.

The Appellate Division Narrow the Issues

The Appellate Division decided the LLC’s appeal and Barbara’s cross-appeal in June 2020 (read here). The decision affirmed the trial court’s order with one exception, by directing that the paintings remain in storage with the art dealer. The opinion, however, eliminated most of Barbara’s defenses to the replevin action:

• The panel held that the trial court erroneously imposed the requirement that the LLC demonstrate financial need for the sale of the paintings.
• It rejected Barbara’s argument, based on the proceedings in Surrogate’s Court, that she held a life estate in trust property.
• It also rejected Barbara’s argument that the operating agreement’s provision granting her the power of attorney, coupled with an interest, rendered her immune from removal as a manager without her consent.

You might ask, given those rulings, what stopped the appellate court from making a dispositive ruling in William’s favor for removal of Barbara as co-manager? The answer: in the lower court proceedings and therefore in the record on appeal, only the LLC’s Amended and Restated Operating Agreement, and not the original operating agreement in effect when William voted to remove Barbara, was filed with the court. As the court explained:

The Amended Agreement is not the agreement that governed when Barbara was purportedly removed as manager. Bill does not attach the prior operating agreement and he does not represent that the prior operating agreement was identical to the Amended Agreement with respect to the removal of managers. Therefore, among other questions, we do not know whether the prior operating agreement allowed for removal of a manager for cause without notice. Accordingly, there is an issue of fact as to whether Barbara was properly removed as co-manager of Stewart LLC. If she was not properly removed as manager, then there is a question as to whether Stewart LLC is authorized to bring this lawsuit.

The Trial Court Orders Barbara to Deliver the Paintings

As it turns out, the original operating agreement’s above-described provisions governing special meetings and manager removal are the same as those in the Amended and Restated Operating Agreement.

Following the appellate ruling, the LLC re-filed for summary judgment. Barbara’s opposing argument, essentially contending that the trusts never voted to remove while ignoring that the trusts can only act through their trustee, i.e., William, deservedly gained no traction. Upon its review of the trust instruments and the original operating agreement put in evidence, the trial court had no trouble concluding that:

• William had sole authority as trustee on behalf of the trusts following the Surrogate’s suspension of Barbara’s powers to act as co-trustee.
• The meeting without notice at which William voted on the trusts’ behalf to remove Barbara as manager complied with the operating agreement’s provisions for special meetings of the members.
• William as sole trustee had the authority to vote to remove Barbara as manager “with or without cause” also as authorized by the operating agreement.

Based on those findings, the court ordered that the LLC is entitled to a judgment of possession as to the four paintings and further ordered Barbara “forthwith” to arrange for their delivery from the art dealer to a location designated by the plaintiff.

I have no clue why the amended operating agreement rather than the original one was relied upon by the LLC when it first moved for summary judgment, or why, as the Appellate Division wrote, William did “not represent that the prior operating agreement was identical to the Amended Agreement with respect to removal of managers.” On top of the additional legal fees for a second round of summary judgment motions, the omissions appear to have cost the LLC over two years during which the artwork continued to rack up storage charges.

Know Your Default Rules on Manager Removal

It’s not unusual to see manager removal provisions in LLC agreements, especially Delaware LLCs such as the one in the Stewart case. That’s because Section 18-402 of Delaware’s LLC Act provides that “a manager shall cease to be a manager as provided in a limited liability company agreement.” In other words, there is no default rule for Delaware LLCs if the operating agreement is silent concerning forced removal of a manager.

In contrast, Section 414 of New York’s LLC Law states that, “[e]xcept as provided in the operating agreement, any or all managers of a limited liability company may be removed or replaced with or without cause by a vote of a majority in interest of the members entitled to vote thereon.” Thus, a New York LLC whose operating agreement is silent on the issue of manager removal nonetheless gives a majority of the members the power of removal with or without cause.

When we see express provisions for manager removal in operating agreements of New York LLCs — and Delaware LLCs for that matter — we’re likely to see variations on the default rule such as removal only for specified causes or, as in the Stewart Family LLC’s operating agreement, a voting requirement for unanimous or other supermajority consent.