Texas Business Dispute Blog

Does the spouse of a professional sports team have the right to claim rights as a partial owner of the franchise based on the fact that the ownership of the team is part of the marital community estate?  This is by no means an academic question as the recent comments made by Sherry Sterling, the estranged wife of LA Clippers owner Donald Sterling, have presented the issue for public consideration.

Private companies are governed as mini-democracies - the majority rules.  In Texas, however, majority owners in private businesses do not have total discretion to act as they wish.  In fact, when majority owners engage in conduct that unduly benefits themselves, they are likely to find themselves subject to claims in litigation where their conduct may not survive judicial scrutiny.  When they overreach, majority owners remain subject to claims for breach of fiduciary duties and to claims for minority shareholder oppression.  There are three key danger areas that often trip up majority owners.  One of these may not be sufficient to create liability, but majority owners who engage in more than one of these are likely to find themselves in legal hot water.

In politics, it is often all about the economy (stupid).  In Business Divorce disputes between majority owners and minority investors in private companies, it is often all about the valuation of the minority held interest.

When a minority shareholder establishes at trial that he has been subject to oppression by the majority owner, the question becomes, what standard of value should be applied to the minority ownership interest.  More simply stated, should the minority owner’s shares be valued based on “fair value” or “fair market value.”

Sometimes what we take for granted is not so clear.  It had been axiomatic for years that only shareholders have the right to bring a derivative lawsuit in the name of the company.  Yet, the Houston Court of Appeals recently permitted a shareholder (of a parent company) to bring a derivative lawsuit on behalf of the parent’s wholly-owned subsidiary.  See Webre v. Sneed, 358 S.W.3d 322 (Tex. App.—Houston [1st Dist.] 2011, pet. granted) (No. 12-0045).  The appellate court’s decision approved what is known as a “double derivative” lawsuit in which a stockholder of a parent corporation seeks to recover for a claim that belongs to a subsidiary corporation. The Texas Supreme Court has recently granted review of this decision, which is of considerable interest because of the “double derivative” situation in which the shareholder in the parent company did not own any shares in the subsidiary.

Until recently, Texas courts routinely gave the trump card to majority owners of private companies in conflicts with minority investors when they had entered into a buy-sell agreement.  Specifically, if the minority investor entered into a buy-sell agreement, the investor was bound to the buy-out formula in the agreement despite any later actions by the majority that were allegedly to be improper. This settled rule has been modified, however, by recent Texas appellate cases.  Indeed, unless the Supreme Court intervenes, minority investors have the right to challenge the enforcement of a buy-sell agreement when the majority owners engage in conduct that deprives the minority investor of the benefit of its bargain.

In July 2012, the Dallas Court of Appeals declined to enforce a buy-sell agree-ment at the majority shareholder’s request based on jury findings that the majority owner had oppressed the minority shareholder. The appellate court upheld the jury verdict and awarded the minority investor a buyout at “fair value” rather than “book value” provided by the buy-sell agreement. See Cardiac Perfusion Servs., Inc. v. Hughes, 380 S.W.3d 198 (Tex. App.—Dallas 2012, pet. filed)(Supreme Court requested briefs on the merits in June 2013, but has not yet formally granted or denied petition for review)

Over the past year, the suspense has been steadily building in Texas in the Business Divorce arena.  Trial and appellate courts throughout the state are grappling with the claim for minority shareholder oppression and the Supreme Court is on now the verge of issuing its first significant opinion considering the shareholder oppression claim in more than fifty years.   The following are some brief take-aways from Business Divorce cases decided in Texas last year or in late 2012, which involve issues that will continue to be considered and developed in future cases:

Legal commentators have recently described shareholder oppression claims as a “hot topic” in Texas.  That is not a surprise in light of three separate opinions from the Dallas Court of Appeals (since March 2011) focusing on shareholder oppression claims.  And each of these three decisions has attracted the attention of the Texas Supreme Court which recently heard oral argument in Ritchie v. Rupe, 339 S.W.3d 275 (Tex. App.—Dallas 2011, pet. granted) (No. 11-0447) in February 2013—while also recently requesting (and receiving) briefs on the merits in the two other shareholder oppression cases in Argo Data Resource Corp. v. Shagrithaya, 380 S.W.3d 249 (Tex. App.—Dallas 2012, pet. filed) (No. 12-1012) and also in Cardiac Perfusion Services, Inc. v. Hughes, 380 S.W.3d 198 (Tex. App.—Dallas 2012, pet. filed) (No. 13-0014). 

Seven months ago, the Supreme Court heard oral argument in Ritchie v. Rupe.  This was the Texas Supreme Court’s first look at the claim for minority shareholder oppression in more than 50 years since the Court first recognized the cause of action in Patton v. Nicholas, 279 S.W.2d 848 (Tex. 1955).  With briefing and oral argument completed in Ritchie, the time has come to start reading tea leaves as the Supreme Court will soon issue just its second decision since the statute was enacted by the Texas Legislature in 1955.

On August 29, 2012, the Dallas Court of Appeals reversed a trial court’s decision that ordered the issuance of an $85 million dividend based on a minority shareholder’s claim of oppression. See ARGO Data Resources Corp., et al. v. Shagrithaya, No. 05-10-00690-CV, 2012 WL 3755748 (Tex. App.—Dallas, Aug. 29, 2012, no pet. h.).  A copy of the court’s opinion is available here.  The one-time dividend in ARGO Data would be split between the majority (53%) and minority (47%) shareholders. The trial court’s judgment was based on the results of a six-week trial where the jury made extensive findings that the majority shareholder had committed fraud, violated his fiduciary duties and improperly withheld dividends. The Dallas Court of Appeals nevertheless held that the minority shareholder was not oppressed primarily because the value of the company increased while the majority shareholder engaged in various improper acts, including the implementation of a secret scheme to phase out the minority shareholder from the company. Id. at *13.

A favorite Willie Nelson song cautions mothers not to let their babies grow up to be cowboys. If Willie had been asked to offer guidance to mothers of investors in private Texas companies, however, he might have changed his lyrics to sing, “Mamas don’t let your babies grow up to be minority shareholders in private Texas companies without a redemption agreement.” This new version of Willie’s hit song might have been a dud on country radio, but it would have been sage advice.