A DLOM’s basic premise is that shares of a closely held corporation cannot be readily sold on a public market and therefore should be discounted to reflect the additional risk factors associated with the time and difficulty of finding buyers for non-publicly traded shares.

Sidney Turner

www.SidneyTurnerllc.com

I handle corporate workouts, reorganizations and dissolutions and other types of disputes among co-owners of privately owned companies, in other words I advise clients when they are experiencing adverse business situations.

But what does it really mean to be a business lawyer handling dissolution and other types of disputes among co-owners or adverse business situations? Does it require a special temperament and skill set? Here’s my take on the answers to these questions:

It Means understanding business and the relationships that make it work.

This is the Third of the SIX Major Points Series

Number THREE of the Six Major Points Series

It Means Knowing the Law. Each form of business entity, be it partnership, corporation or limited liability company, is governed by a separate statutory scheme with rules that, in many key instances, are significantly different as is the case law that has developed around each form. The standing requirements to bring a dissolution proceeding vary among the entities, and even within the same type of entity depending on the statute invoked. The availability of a buyout remedy depends on the type of entity and the alleged statutory basis for dissolution. Under still-evolving case law the filing of a dissolution petition may inadvertently trigger a right of first refusal under a shareholders’ agreement. Particularly with corporations, there are numerous, mandatory, statutory provisions that come into play at the board level. The availability of a court-appointed receiver can differ depending on the entity type. The list goes on and on. The business lawyer must have a thorough understanding of the legal framework within which closely held businesses operate and whose rules govern forced judicial dissolution, derivative actions and other varieties of owner vs. owner litigation.

If you missed any please check out my other blog postings

Sidney Turner

www.SidneyTurnerllc.com

Estate

No. 3D11-196
Lower Tribunal No. 10-4540

Third District Court of Appeal State of Florida

January Term, A.D. 2011
Filed: May 18, 2011

Opinion filed May 18, 2011.

Not final until disposition of timely filed motion for rehearing.

An appeal from a non-final order from the Circuit Court for Miami-Dade County, Lawrence A. Schwartz and Gerald D. Hubbart, Judges.

May, Meacham & Davell, and William C. Davell, Carolyn B. Brombacher and Christopher D. Barber (Fort Lauderdale), for appellant.

Steven Silverman, for appellee.

Before GERSTEN and SALTER, JJ., and SCHWARTZ, Senior Judge.

SALTER, J.

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BankAtlantic appeals two non-final circuit court orders directing it to transfer the funds in a deceased physician’s professional association account to the depository account (at a different bank) established for the administration of his estate. We reverse both orders and remand for the entry of an order directing repayment of the funds (and any earnings thereon) to the account from which they were transferred.

BankAtlantic was a secured creditor of the late doctor’s professional association under a note and mortgage. The promissory note included a right of setoff:

RIGHT OF SETOFF. To the extent permitted by applicable law, Lender reserves a right of setoff in all Borrower’s accounts with Lender (whether checking, savings, or some other account)…. Borrower authorizes Lender, to the extent permitted by applicable law, to charge or setoff all sums owing on the indebtedness against any and all such accounts and, at Lender’s option, to administratively freeze all such accounts to allow Lender to protect Lender’s charge and setoff rights provided in this paragraph.

The decedent personally guaranteed his professional association’s promissory note, and his death constituted an event of default under that note. The orders requiring transfer of the funds to a different bank thus impaired BankAtlantic’s right of setoff. Although the parties agreed that the deceased physician owned all of the shares of his professional association, there was no evidence presented to support a “piercing of the corporate veil” under Dania Jai-Alai Palace v. Sykes, 450 So. 2d 1114 (Fla. 1984), or any other alter ego theory.

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While the appellee Estate was apparently entitled to take possession of the professional association stock held by the doctor at his death, ¹ no such conclusion extended to the association’s funds on deposit in the corporate name at BankAtlantic. In Gettinger v. Gettinger, 165 So. 2d 757 (Fla. 1964), the Supreme Court of Florida held that “the affairs of a corporation, even though substantially owned by a decedent, cannot be administered by decedent’s executor as assets of the decedent’s estate.” In this case, “substantially” is 100%, and the result is identical.

The Estate seeks affirmance of the orders below on three independent grounds: (1) that the orders are not appealable; (2) that the Estate has the power to “take charge of and marshal” the funds in the professional association account; and (3) that the probate court ruling should be upheld because no decision was made regarding any competing claims to the funds. None of these arguments is persuasive.

As to jurisdiction, the orders are reviewable non-final orders under Florida Rule of Appellate Procedure 9.130(a)(3)(B). CRM Distrib., Inc. v. Resolution Trust Corp., 593 So. 2d 593 (Fla. 3d DCA 1992). Regarding the Estate’s second argument, section 69.031(1), Florida Statutes (2010), and the cases cited by the Estate refer to marshaling “part or all of the personal assets of the estate” and to the

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use of court-approved depositories for such assets. The point in this case is that the stock of the professional association is an asset of the Estate, but the funds of the professional association are a step removed from the Estate. The decedent’s Estate essentially ignored the separate corporate existence of the professional association and that entity’s obligations to its own creditors.

The third argument also fails. BankAtlantic’s rights are not protected just because the funds are frozen in a restricted depository account of the Estate. In this case, BankAtlantic’s possessory and contractual rights to setoff are impaired by the transfer to a different bank.²

Reversed and remanded, with directions to order the return of the transferred funds (and any interest earned on such funds while in the transferee bank’s possession) to BankAtlantic.
——–

Notes:

^1. § 733.607(1), Fla. Stat. (2010); Perez v. Lopez, 454 So. 2d 777 (Fla. 3d DCA 1984).

^2.As an example of another such impairment, if the transferee bank later failed, BankAtlantic would have to protect its interests as an indirect creditor of the estate’s depository account (not as a direct creditor of a named account holder/debtor) in the transferee bank’s liquidation.

Sidney Turner

www.SidneyTurnerllc.com

Let us also assume that the lender has negotiated a security agreement that gives it full rights to take over the LLC upon default. In order for the lender to take ownership of the LLC units, the lender must foreclose on its security interest through one of two processes detailed in the UCC.

Possible Barriers and Drawbacks.

For a lender who has a security interest in LLC units, the borrower’s right to vote on business matters involving the LLC and/or to manage the LLC is very important. If the borrower defaults, a lender may want to control the LLC via the borrower’s voting or management rights. A careless lender or third-party purchaser of the LLC units may only get a financial distribution right instead. Florida law, for example, provides that an assignee of LLC units has no right to participate in the management of the business and affairs of the company, or to exercise any rights or powers of the members, unless the operating agreement provides otherwise.

Even if the operating agreement allows the assignee (in our case, the lender) to exercise rights and powers of a member, the assignee cannot manage the LLC until either all non-assigning members approve of the transfer of management power or the procedure for complying with the transfer of management responsibilities, as stated in the operating agreement, is followed.

As a general rule, it is essential that the lender understand its options under the UCC, compare the benefits of each option, and act promptly upon default. A secured lender that fails to do so jeopardizes its basic remedies under the UCC for a default on a loan secured by LLC units.

1. To provide a “fresh start” for economically viable debtors;

2. To promote equality of distribution among similarly situated creditors;

3. To concentrate the activities of judgment creditors into a single court of broad and exclusive federal jurisdiction;

4. To provide “breathing space” to a debtor, permit a structured process outside of a quick liquidation to enhance asset values, and a determination by creditor classes of a “plan” for the distribution of the value of those assets.

When is Chapter 11 useful?

1. To provide an opportunity for financially troubled but economically viable company to restructure and continue operations, either under new ownership or a new financial structure, or by removing debt impediments to viability such as ruinous unsecured debt or disastrous contracts; or

2. To provide an orderly liquidation of a failed business that possesses assets that will have an enhanced value if sold for their “going concern” value or that need to be marketed through a special process, or that would benefit from the retention of current management and continuing operations throughout the liquidation process.

When is it not useful?

1. To postpone the death of an irretrievably failed business that lacks significant salvageable assets;

2. To halt a foreclosure entirely upon speculative hope that something will turn up in a few weeks;

3. To escape the oppressive terms of a secured lender with a blanket lien on all business assets (except in a few rare instances);

4. When a consensual workout or an assignment for the benefit of creditors in state court would work and is the less costly alternative.

Use of bankruptcy as a sales vehicle

1. Under § 363 (f) of the Bankruptcy Code, a debtor may sell property of the bankruptcy estate free and clear of liens, claims and encumbrances, subject to certain restrictions. This allows debtor to make assets more marketable by severing third party claims and cleaning title.

2. Under certain conditions, a bankruptcy court can also, pursuant to § 363 (f), permit the debtor to sell property for which the debtor holds only a partial interest or where the debtor’s interests are contested by a third party.

II. First Steps in a Chapter 11 Case

Petition and Initial Filings

A chapter 11 case is commenced by filing a petition. The petition consists of an official form (or a document that substantially conforms to the official form) that requires the debtor to estimate the amount of its assets and liabilities. The required initial filings also include a list o the top 20 creditors and their addresses, parties with whom the debtor has executory (existing) contracts and leases, a corporate resolution authorizing the filing (if the debtor is a corporation) and an attorney’s verified statement disclosing the attorney’s fee arrangement.  A matrix of creditor addresses is also often required under the bankruptcy jurisdiction’s local rules.

Often filed initially, however, not required to be, are the schedules listing all secured and unsecured creditors, their potential claims, and the debtor’s assets and a list of equity security holders. Finally, a statement of financial affairs (called the “SOFA”) is required to be filed, a form document of some length that provides for a more detailed view of the debtor’s finances and situation regarding such things as litigation and property transfers pre-petition.

“First Day Motions”

Because the bankruptcy process initiated by the bankruptcy petition places the debtor under court supervision and restricts its ability to operate its business, a debtor must in the first instance obtain court permission to operate realistically. So-called “first day motions” are not necessarily filed the first day, but with an operating business they are often required to be filed and heard by the bankruptcy court as soon as possible, if not, in fact, the first day. Typical first day motions include:

 1. Employee Wages

2. Cash Collateral

3. Debtor in Possession (“DIP”) Financing

4. Retention Motions

5. Utilities

III. Small Business Debtor v. Non-Small Business Debtor

A small business bankruptcy case is a chapter 11 case involving a small business debtor, whom the Bankruptcy Code defines as a person engaged in commercial or business activities other than owning or operating real estate with debt no greater than (as of December 28, 2009) $2.19 million, not including debt to insiders and affiliates.

All chapter 11 debtors must attend meetings and timely file schedules and tax returns and allow the UST to inspect its books, but the 2005 amendments to the Bankruptcy Code added other obligations for the small business debtor. One theme of the small business amendments is that creditors deserve more and better information, presented in understandable and recognizable formats. Many sections of the small business amendments were framed with this goal in mind. As a result, small business debtors must file balance sheets, income statements, and cash flow statements with the petition, or state under penalty of perjury that none exist.

Small business debtors can receive only a 30 day extension of its time to file schedules and statement of financial affairs. In a small business case, the United States Trustee is required to conduct an initial interview with the small business debtor before the Section 341 meeting. Senior management and counsel are required to the initial debtor interview, as well as scheduling conferences and meetings of creditors.

IV. Leases and Executory Contracts

1. Leases

Section 365(d) (4) requires a debtor to assume or reject a lease of non-residential real property within 120 days of the petition date or the lease will be rejected. The court upon motion may extend the deadline an additional 90 days. No additional extension is permitted accept with the written approval of the landlord. The deadline may force a debtor to make premature decisions as to its future needs related to subject real estate, since, not atypically, a Chapter 11 debtor may not have its financing in place or its plan formulated (particularly if it turns on settlement of litigation) by the 210 day deadline.

In large retail cases, where there may be dozens of leases and sites to analyze, this requirement may be particularly burdensome. Leases may be rejected, assumed, or assumed and assigned, in accordance with the rules discussed below for executory contracts.

2. Executory Contracts

Section 365 of the Bankruptcy Code provides a debtor with authority to assume or reject an executory contract subject to court approval. In re Carlisle Homes, Inc., 103 B.R. 524, 534 (Bankr. D. N.J. 1988) the court explained: The purpose of § 365 is, in part, to enable the debtor to take advantage of favorable agreements that benefit the estate. The Bankruptcy Code does not define “executory contract.” The legislative history of § 365, however, is instructive as to the meaning of the term in the bankruptcy context. An executory contract is one on which performance remains due to some extent on both sides.

Upon rejection, the debtor must pay “rejection damages”, consisting of damages for breach of the contract, however, despite the fact the contract is rejected after the filing of the bankruptcy petition, the claim is as a general unsecured pre-petition claim and thus subjected to the limitations of any pro rata distributions to unsecured creditors. A debtor may also assume a favorable contract, and obligate itself to pay a “cure amount” and provide adequate assurance of future performance. Cure amounts are paid in full amount as a current obligation.

With some exceptions, a debtor may also assume and assign (i.e. sell) a favorable contract to a third party, subject to court approval. In such instances, the third party pays the cure amount and provides the adequate assurance of future performance. With both executory contracts and leases, upon assumption, the debtor is required to meet post-assumption obligations under those contracts and leases as those obligations come due.

Borrowers are getting the opportunity to turn the tables on bank creditors. The recent financial engineering and resulting financial instruments required by the securitization of mortgages has created a defense to the lenders attempting to foreclose on those defaulting borrowers.

On Oct. 9 in federal bankruptcy court in the Southern District of New York. A judge ruled that a alleged lender, PHH Mortgage, hadn’t proved its claim to a delinquent borrower’s home in White Plains, Judge Robert D. Drain wiped out a $461,263 mortgage debt on the property. That’s right: the mortgage debt disappeared, via a court order. If the lender can’t come forward with proof of ownership, then borrowers may have a stronger argument in court and, may even be able to stay in their homes mortgage-free.

Securitizations allowed for large pools of bank loans to be bundled and sold to legions of investors, but some of the nuts and bolts of the mortgage game — notes, for example — were never adequately tracked or recorded during the boom. In some cases, that means nobody truly knows who owns what. Click here to learn more.