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Archive for April, 2011

No Fiduciary Duty Owed By Minority Shareholders When Selling Stock

Posted on: April 26th, 2011 by admin No Comments

The Demoulas saga continues in Massachusetts.  This ugly family feud has kept dozens of lawyers, the courts and even the bar licensing authorities busy for many years.  In this newest skirmish, a superior court judge has ruled that minority shareholders do not owe a fiduciary duty to the corporation when selling their stock even though by selling their shares the minority shareholders would cause the Company to lose valuable tax protections.

In Merriam, et. al. v. Demoulas Supermarkets, Inc., et. al., the plaintiff shareholders had given written notice to the defendant corporation of their intent to sell their stock in the supermarket.  The notice was required by the stock transfer provision set forth in the articles of organization of the corporation.  The board of directors for the corporation rejected the plaintiff shareholders’ stock purchase proposal and sought to obtain its own valuation of the stock.  In the lawsuit that was commenced by the  selling shareholders, the corporation filed counterclaims seeking a declaration from the court that these shareholders would violate their fiduciary duties of utmost good faith and loyalty owed to the corporation.  The company suggested that because the sale of these shares would result in the corporation losing its tax-saving status as a Subchapter S corporation the sale was improper as it would hurt both the company and the remaining shareholders.  In reply to the corporation’s position, the minority shareholders argued that they did not owe any fiduciary duties to the majority shareholders in connection with the proposed sale since the articles of organization alone governed the sale of stock and thus any obligations owed by the minority to the majority shareholders are determined exclusively by the terms of the stock transfer restrictions of the articles of organization.   The plaintiff shareholders persuasively claimed that, in Massachusetts, “when rights of stockholders arise under a contract [such as the corporation’s articles of organization] . . . the obligations of the parties are determined by reference to contract law, and not by the fiduciary principles that would otherwise govern.”  Chokel v. Genzyme Corp., 449 Mass. 272, 278 (2007).  Observing that the articles of organization did not contain an explicit restriction designed to ensure the survival of the corporation’s Subchapter S status, the court agreed with the plaintiffs that the shareholders “do not owe [Demoulas] a fiduciary duty to refrain from selling their shares in a manner that terminates [Demoulas’] Subchapter S status . . .”  Merriam, Middlesex Superior Court Civil Action No. 2010-02681, Consolidated Memorandum of Decision and Order on Cross-Motions for Judgment on the Pleadings, March 30, 2011 (Haggarty, J). 

Although the defendants have filed a motion for reconsideration of the decision in Merriam, it is unknown whether Demoulas intends to appeal that decision.  However, if past practice gives any indication, this battle is not over yet.  Even if an appellate court finds that the shareholders owed a fiduciary duty to the corporation in this sale of stock, it is questionable whether the appeals court would reverse the lower court’s decision.  It appears unlikely that the appeals court would hold that the proposed sale of stock by these shareholders would constitute a breach of their fiduciary duties given that the trial court determined that the shareholders had a legitimate business reason to sell the stock and that there was not a less harmful alternative to the contemplated sale of stock since the corporation’s board of directors had rejected the shareholders’ proposed sale. 

While the trial court ruled that minority shareholders do not owe a fiduciary duty to a corporation in the sale of stock where the sale is governed by the corporation’s articles of organization, the court indicated that shareholders are still bound by the covenant of good faith and fair dealing which is implied in the corporation’s articles of organization.  As the court pointed out, Massachusetts law provides that a corporation’s articles of organization form a contract between the corporation and its shareholders, and the shareholders are bound to exercise their contractual rights in accordance with the covenant of good faith and fair dealing implied in the articles of organization.  Chokel v. Genzyme Corp., 449 Mass. 272, 275-276 (2007).  However, the court declined to opine on whether the proposed sale of stock would constitute a breach of the implied covenant of good faith and fair dealing because that issue was not before it.  Therefore, if the trial court’s decision in Merriam is upheld on appeal, future litigation between these parties might conceivably involve the question of whether the shareholders’ contemplated sale that would destroy the corporation’s Subchapter S status constitutes a breach of the implied covenant of good faith and fair dealing.  Stay tuned for further updates in this ever developing court and family drama.

Hairdresser’s New Job Cut Short by Non-Compete

Posted on: April 12th, 2011 by admin No Comments

We discussed the general standards for enforcing non-compete agreements in a prior blog post. A recent decision from the Plymouth Superior Court highlights the fact-specific nature of the analysis in evaluating the enforceability of a non-compete agreement, and reinforces the risk to employees who carelessly enter such agreements with an employer.

The Defendant, Daniel McKinnon, took a hair stylist position with the Plaintiff, Zona Salon straight out of cosmetology school. At the time of his hiring, McKinnon signed an agreement that, for twelve months following the end of his employment, he would not directly or indirectly compete with Zona in its ‘market area’ of Norwell, Hingham, Hanover, Cohasset, Scituate, Rockland, and Pembroke. He also agreed, among other things, not to solicit business from any client of Zona.

After about four years of employment, Zona terminated McKinnon. Approximately one month after McKinnon’s termination, Zona discovered that McKinnon had accepted a hair stylist position in Hingham and that he had solicited one of Zona’s customers. Zona sued to enforce the non-compete agreement and asked the Court to grant a preliminary injunction barring McKinnon from competing with Zona and from soliciting any present or former customer. McKinnon argued that he should not be bound by the non-compete because he had not read all of the papers he signed when he was hired, he was in need of a job at the time and in no position to negotiate the terms, and he was involuntarily terminated.

The Court granted Zona’s motion for a preliminary injunction and precluded McKinnon from continued work in violation of the restrictive covenants. In doing so, the Court emphasized several factors, including the limited nature of the restrictions- which were tailored to specific towns and the restrictions lasted only one year- as well as the irreparable nature of any harm to Zona’s good will that would result from McKinnon’s continued breach of the agreement.

No matter the lack of sophistication, nature of the position or the lack of bargaining power of the employee, Courts may very well enforce reasonably-tailored non-compete agreements, provided that they serve a legitimate business interest. The Zona case demonstrates both the need for employers to draft appropriate, narrowly tailored, agreements and the importance for employees to actively review and negotiate these contracts in advance of signing them.