Sunday, October 2, 2016

Kentucky Court of Appeals Holds That Shareholders Are Not As To One Another Fiduciaries

Kentucky Court of Appeals Holds That Shareholders Are Not
As To One Another Fiduciaries

Last Friday the Kentucky Court of Appeals issued an opinion in which it was squarely held that shareholders in a corporation do not as such owe fiduciary duties to one another. Conlon v. Haise, No. 2014-CA-001581-MR, ___ S.W.3d ___, 2016 WL 5485531 (Ky. App. Sept. 30, 2016).

This dispute arose out of a two shareholder corporation in which the shareholders were Steve Haise and Jim Conlon, respectively 53% / 47% owners.  A dispute arose out of the adoption of a new buy/sell agreement.  Haise, as president, terminated Conlon’s employment.  Conlon then put his shares to the corporation for redemption pursuant to an existing buy/sell agreement.  Ultimately Conlon would file this action.

The action was initially a direct and derivative action.  The derivative aspects were dismissed early in the litigation for the plaintiff’s failure to satisfy the requirements of the derivative action statute (KRS § 271B.7-400).

Conlon alleged that:

(1) his termination by Haise was in violation of a fiduciary duty owed by Haise as a majority shareholder to Conlon as a minority shareholder;

(2) Haise breached an agreement that Conlon would be a 50% shareholder;

(3) the price of his shares under the buy/sell agreement was improperly calculated;

(4)  the offset against the buyout price under the buy/sell agreement of certain indebtedness of Conlon to the company was improper; and

(5) the trial court (Judge Edwards) abused his discretion in not permitting the filing of a third amended complaint.

Breach of Fiduciary Duty

            In holding that shareholders in a Kentucky corporation do not stand in a fiduciary relationship with one another, the Court of Appeals wrote:

     This case requires us to squarely confront an issue that to date no appellate court in this Commonwealth has explicitly ruled upon: whether shareholders in a privately owned corporation owe one another common-law fiduciary duties.  Having reviewed the nature of fiduciary relationships in conjunction with the applicable business statutes and our prior case law, we have concluded that our common law does not support imposing fiduciary duties on shareholders. Slip op. at 7.
It would do violence to normal corporate practice and our corporation law to impose a duty on the majority to vote their shares in the minority’s interests as opposed to their interests. Slip op. at 13.

There being no duty, there could be no breach thereof. This determination was acknowledged as being consistent with that rendered earlier this year in Griffin v. Jones, 2016 WL 1092879 (W.D. Ky. March 21, 2016), referenced in footnote 4 (Slip op. at 14).  HERE IS A LINK to the discussion of that decision.

Breach of Contract

            The dismissal of the claim for breach of contract to make Conlon a 50% shareholder was affirmed based upon (i) the written documents relied upon by Conlon to evidence a written agreement to that effect did not support the existence of an agreement and (b) the alleged oral agreement failed under the Statute of Frauds.  Slip op. at 15-16.

Valuation of Shares under the Buy/Sell Agreement

            The agreement provided that the shares would be valued by the company’s CPA unless there was disagreement as to the CPA; if there was disagreement as to who was the CPA there would be a three arbitrator determination of the price.  Conlon objected to the company’s CPA doing the necessary appraisal.  The Court of Appeals (as had the trial court) parsed the agreement and found that there was agreement as to who was the company’s CPA.

     Raymond Lindle had been All Safe’s CPA for about four years when this dispute arose. .…  Haise and Conlon jointly interviewed Lindle and another candidate in 2008 and the jointly selected Lindle.  Conlon has not objected to these facts.  Instead, Conlon merely objected to Lindle performing the valuation when he tendered his shares.

     There is no evidence to support a conclusion that the CPA was anyone other than Lindle.  Conlon cannot manufacture a deadlock. Slip op. at 18

Offset of Conlon Indebtedness Against the Redemption Price

            The Court of Appeals quoted the provision of the buy/sell agreement that “required the application of Conlon’s debt to the purchase price.”, observing that “Conlon fails to make any real argument or provide any legal support for his argument that the trial court erred.” Slip op. at 19.

Amended Complaint

            Holding that the trial court had not abused its discretion in denying the motion to file a third amended complaint, the Court of Appeals observed:

We are somewhat perplexed by Conlon’s assertion surrounding the “additional claims” he sought to add to his prior complaint.  The majority of the proposed “amendment relates to the inclusion of facts to support the already asserted claims.” Slip op. at 20.

The Court of Appeals panel was Judges Jones, Maze and Stumbo, with Jones authoring the opinion. The opinion has been designated “To be published.”

      That the inter-shareholder relationship is not, under Kentucky law, fiduciary in nature is a point about which I have written and spoken for many years.  Those writings include Shareholders Are Not Fiduciaries – A Positive and Normative Analysis of Kentucky Law, 51 Louisville Law Review 535 (2012-13) (HERE IS A  LINK TO THAT ARTICLE) and a blog post as to further evidence discovered after that article’s publication (HERE IS A LINK TOTHAT POSTING).  2016 has been a banner year with both the federal district court and the Kentucky Court of Appeals expressly adopting this rule.

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