Revoking the Irrevocable Buyout: Aligning Equity with Due Diligence in Corporate Dissolution
Lucas, Matthew C., Albany Law Review
Judicial dissolution of a closely held corporation, the "corporate divorce," is one of the most acrimonious, expensive, and, by almost all accounts, unpopular of legal remedies available in business litigation. Modern corporate statutes tend to reflect this widely held aversion by providing courts and litigants with a variety of alternatives to ending a business's existence. The buyout election, for example, a sort of call option patterned after common law remedies and American Bar Association ("ABA") model legislation, provides one means by which shareholders and corporations can avoid the extreme remedy of corporate dissolution by forcing complaining shareholders to sell their stock to them. But when can these electing shareholders or corporations change their minds about the decision to buy out their adversaries? Many statutes deem the buyout election "irrevocable"--but then allow a court to set it aside if it would be equitable to do so. Such a fluid notion of irrevocability presents challenges.
An electing purchaser might have second thoughts about buying a greater stake in a company for any number of reasons: a precipitous decline in business, the defection of key employees, an unexplained loss (or defalcation) of assets, an owner's death; all of which will arise in something of a no-man's-land between formal civil proceedings and private negotiations found in most statutory buyout procedures. With nothing more than the invocation of equity, courts must somehow divine whether a party ought to be allowed to withdraw an irrevocable election to purchase in a shifting landscape of evolving business conditions and competing interests. Not surprisingly, the reported rulings emanating from these disputes defy cohesive analysis. Some further clarity would be invaluable. This article explores a proposed method to hone the broad conception of equity these statutory provisions utilize into something more manageable and easier to grasp, a limitation premised on the commonly understood business term of transactional due diligence.
I. INTRODUCTION II. DEVELOPMENT OF THE MODEL STATUTORY BUYOUT ELECTION A. Common Law Origins B. The Model Act Buyout Elections III. SEARCHING FOR A STANDARD IN BUYOUT REVOCATION A. Survey of the Reported Rulings B. The Dilemma of Uncertainty IV. SHAPING t DUE DILIGENCE STANDARD FROM EQUITY A. Fundamentals of Equitable Limitations B. Components of the Vigilance Limitation 1. Awareness 2. Diligence C. Due Diligence in Commercial Transactions V. INCORPORATING A DUE DILIGENCE STANDARD INTO STATUTORY BUYOUT REVOCATIONS A. The Proposed Standard B. Reexamining the Rulings Under the Proposed Standard VI. CONCLUSION
Few areas in business litigation derive more acrimony than a lawsuit to dissolve a closely held corporation. Close corporations are often formed among family members or longtime friends and business partners, the kind of intimate relations that all too frequently carry simmering jealousies, sibling rivalries, personal grievances, real or imagined, all of which invariably become bound in subtle (or not so subtle) ways within the business's day-to-day operations and governance. (1) Bitter personality clashes between individuals can transform into heated commercial disagreements and corporate deadlock. The need to untangle these business relations may indeed be stark, but the separation itself is often freighted with ill will. As the Delaware Court of Chancery once observed, "[e]motions run high, feelings are frayed, and former friends and colleagues find themselves at odds." (2) Judicial dissolution petitions have been likened to a "corporate divorce," and not without justification. (3)
But because terminating a corporation's existence necessarily carries a profound impact on anyone connected to its business--the shareholders, employees, customers, vendors, and suppliers may all have considerable stakes, if not their entire livelihoods, invested in its viability (4)--there has arisen over time a prevailing view that, regardless of contention among the owners, involuntary dissolution of a corporate entity ought to be avoided if at all possible and reserved as a mechanism of last resort. …