In a spring post (http://thebusinesslawblog.blogspot.com/2007/04/limited-liability-companies-new-case.html) I wrote about a new case further strengthening the protection offered to limited liability companies. During that time, I was litigating a case in which a home purchaser had paid a large amount of money down to a home builder llc to build a home, only to have it fold. She sued not only the limited liability company, but also the three individual members, one of whom I represented. My client, the only financial strong member of the three, was of course an attractive target for the plaintiff. However, my client was also the least culpable. He'd never met the plaintiff, and actually was nothing more than the cliche' "silent partner"--somebody who put up his money and creditworthiness to allow the two primary members to get loans to build homes.
I'd felt comfortable going in to the case that the law seemed to be in our favor, and during its pendency, two new cases came down from the Court of Appeals further buttressing our arguments. I scheduled a motion for summary judgment (which, for those not in the legal field, is basically a motion to dismiss the Plaintiff's complaint) for mid-November. I wrote a letter to the Plaintiff's attorney giving them one more chance to dismiss their case against my client voluntarily. Normally, in such a case the Plaintiff's attorney, even if they think their case is week, will at least try to fight. However, the Plaintiff had her own risks--we'd filed a counterclaim for attorney's fees, and one North Carolina case had ruled that when a plaintiff improperly named an LLC's member in a lawsuit, the plaintiff may be liable for attorney's fees. The attorney, who was diligent for his client, nonetheless decided the right thing was to dismiss his case against my client. Therefore, though I never got a judge's ruling to reinforce my belief about LLCs, I believe the Plaintiff's dismissal bears out my theory.
Sabtu, 03 November 2007
Sabtu, 20 Oktober 2007
Real Estate Contracts -- Conclusion
A while back on this blog I wrote about real estate contracts (http://thebusinesslawblog.blogspot.com/2006_12_01_archive.html), and described a lawsuit which I was defending on behalf of a client. We tried the case out last week and, after successfully getting the judge to exclude most of the Plaintiff's evidence, we ended up settling the case for a nominal value (about one percent of what the Plaintiff was asking).
Now that the case is over, I can look back and give some advice to prospective buyers and sellers who find themselves in a contract dispute.
1. To the Buyer: it's rarely worth it to sue over a lost sale. In North Carolina, you've got two remedies of a seller breaches his contract to sell: either get a court order forcing him to sell the proprety to you, or ask for damages.
As for specific performance (the court order), this is great if the Court will do it, but it is what is called an equitable remedy, and the Court, in its discretion,
may not order the seller to convey the property to you. Also, to get this remedy, you have to take certain quick legal steps to tie up the property (called a Lis Pendens) before the seller sells it to someone else. In my case, the Plaintiff attempted to do this, but my clients sold the property too quickly. Therefore, that just left a remedy of damages.
As for damages, they are figured by subtracting the price you would have paid for the property (the contract price) from the actual market price. In other words, you have to argue that you were buying the property for less than what it was really worth. If, however, the seller immediately resells the property (and actually this is often the reason why the seller refuses to sell it to the original buyer), then a buyer will be able to show damages in the amount of the difference between what the property sold for and what the buyer had contracted to buy it for.
In my case, however, the buyer, in addition, attempted to sue for lost profits. My clients sold the property for only $15,000 more than the original price with the Plaintiff. But the Plaintiff claimed he thought it was "feasible" that he could have subdivided it and made $700,000 profit from the sales. The judge felt that testimony was speculative, and would not allow it into evidence.
2. Sellers, don't communicate in writing with the buyer. The Plaintiff/Buyer in my case based his hopes, in large part, on the fact that he'd carried on a string of email conversations with my client long after the closing time had passed. He argued that these conversations (in which closing dates were set and re-set) showed that my clients had waived the closing deadline. I was able to get this evidence excluded (without which the Plaintiff didn't have much of a case), but on appeal (or if the Plaintiff had dismissed his case and re-filed again), I don't know if that ruling would have stood. In any event, had my client not communicated in writing with the Plaintiff, this case probably would never have been filed.
3. Get an attorney to draw the contract. Self-serving, I know. But had I drawn the contract for my clients, I would have put in numerous provisions that probably would have kept this case from ever getting started, such as:
a. A time is of the essence provision.
b. A provision that any extensions of time must require additional earnest money.
c. A larger earnest money deposit.
4. Speaking of earnest money... One final piece of advice: if you're selling a serious piece of property, make sure you have a serious buyer by requiring a serious earnest money deposit. I'm convinced that the Plaintiff/Buyer was someone who was financially unsound and was attempting to "flip" the property with almost no money down. My clients only requested a $1,000 earnest money deposit--on a purchase of $389,000! The company that ultimately bought their property put down $25,000 earnest money, and bought the property in less than 14 days. Had my clients forced the Plaintiff/Buyer to come up with serious money (at least $10,000), he probably would not have been able to, and would have simply walked away, looking for another easy mark.
Now that the case is over, I can look back and give some advice to prospective buyers and sellers who find themselves in a contract dispute.
1. To the Buyer: it's rarely worth it to sue over a lost sale. In North Carolina, you've got two remedies of a seller breaches his contract to sell: either get a court order forcing him to sell the proprety to you, or ask for damages.
As for specific performance (the court order), this is great if the Court will do it, but it is what is called an equitable remedy, and the Court, in its discretion,
may not order the seller to convey the property to you. Also, to get this remedy, you have to take certain quick legal steps to tie up the property (called a Lis Pendens) before the seller sells it to someone else. In my case, the Plaintiff attempted to do this, but my clients sold the property too quickly. Therefore, that just left a remedy of damages.
As for damages, they are figured by subtracting the price you would have paid for the property (the contract price) from the actual market price. In other words, you have to argue that you were buying the property for less than what it was really worth. If, however, the seller immediately resells the property (and actually this is often the reason why the seller refuses to sell it to the original buyer), then a buyer will be able to show damages in the amount of the difference between what the property sold for and what the buyer had contracted to buy it for.
In my case, however, the buyer, in addition, attempted to sue for lost profits. My clients sold the property for only $15,000 more than the original price with the Plaintiff. But the Plaintiff claimed he thought it was "feasible" that he could have subdivided it and made $700,000 profit from the sales. The judge felt that testimony was speculative, and would not allow it into evidence.
2. Sellers, don't communicate in writing with the buyer. The Plaintiff/Buyer in my case based his hopes, in large part, on the fact that he'd carried on a string of email conversations with my client long after the closing time had passed. He argued that these conversations (in which closing dates were set and re-set) showed that my clients had waived the closing deadline. I was able to get this evidence excluded (without which the Plaintiff didn't have much of a case), but on appeal (or if the Plaintiff had dismissed his case and re-filed again), I don't know if that ruling would have stood. In any event, had my client not communicated in writing with the Plaintiff, this case probably would never have been filed.
3. Get an attorney to draw the contract. Self-serving, I know. But had I drawn the contract for my clients, I would have put in numerous provisions that probably would have kept this case from ever getting started, such as:
a. A time is of the essence provision.
b. A provision that any extensions of time must require additional earnest money.
c. A larger earnest money deposit.
4. Speaking of earnest money... One final piece of advice: if you're selling a serious piece of property, make sure you have a serious buyer by requiring a serious earnest money deposit. I'm convinced that the Plaintiff/Buyer was someone who was financially unsound and was attempting to "flip" the property with almost no money down. My clients only requested a $1,000 earnest money deposit--on a purchase of $389,000! The company that ultimately bought their property put down $25,000 earnest money, and bought the property in less than 14 days. Had my clients forced the Plaintiff/Buyer to come up with serious money (at least $10,000), he probably would not have been able to, and would have simply walked away, looking for another easy mark.
Rabu, 30 Mei 2007
Planning for emergencies in a (large) one-man company
Over the Memorial Day weekend, I received the sad news that a business client of mine had died in an automobile accident. In addition to the grief and sadness that the sudden loss brought, they had the additional worry of how to keep his successful business running. My client was the sole shareholder of a company that employed a large number of employees on construction jobs, was the only licensed contractor employed by the company, and furthermore was the sole officer and director of the company (more on that later). This crisis has given me pause to think about how, if you own your own large business, you should plan for what happens if an accident strikes.
1. Make sure that at least one other person can make binding decisions in your absence. My client divorced his ex-wife a few years ago, and bought out her shares of the company. At the time, he simply did not want to place anyone else in a position of authority or trust within his company. However, better times came, and as he went back to work he forgot about appointing someone, say, as a secretary or vice-president, because he was a natural leader. Unfortunately, however, when he died, no one could keep the company, which had numerous large-scale construction contracts, in motion. Had someone been able to step in as an officer (or manager) of the company, contracts could have been continued, and the process, while practically not seamless, would at least have been a legally smooth transition.
2. Plan for someone that has practical experience in running the company, in your absence. In a sole proprietorship, a business may simply fold with the death of the owner. In a larger company, however, it is not so simple: there are numerous workers employed, contracts to be fulfilled, people who are relying on the company to stay around and complete its obligations. In a construction company, at least one person has to be a licensed contractor. My client was that person. In his absence, family members are scrambling to either obtain a license for one of the employees or to hire an employee holding such a license.
3. Make sure that someone knows the important details about your company and its business. Once again, in a sole proprietorship, the business may fold with your death. However, in a large company, at least one other person in the company should know important details such as what contracts are outstanding, how to pay the bills, the location of accounts, etc. Fortunately, my client kept at least two co-workers knowledgeable about these details, and in this interim period, they have been able to keep the company above water by, e.g., paying employees.
4. Plan your estate. Most fortunate of all, my client did make a good estate plan. He set up a trustworthy executrix, and made provisions for what would happen if his children were still minors (and one is). Had my client not made such provisions, his entire estate would be tied down in a slow and difficult process since the minor would have to have a guardian appointed and the company ownership would stand in a quagmire. Instead, the executrix will soon be appointed by the Court, and will be able to then appoint officers of the company and help the company get back on its feet during these difficult times. Therefore, though some matters within the company could have been planned better, my client's overarching desire to take care of his children inadvertently helped prevent a much larger crisis in his corporation.
If you have any questions about succession planning for your business, contact me at wldeaton@vnet.net.
1. Make sure that at least one other person can make binding decisions in your absence. My client divorced his ex-wife a few years ago, and bought out her shares of the company. At the time, he simply did not want to place anyone else in a position of authority or trust within his company. However, better times came, and as he went back to work he forgot about appointing someone, say, as a secretary or vice-president, because he was a natural leader. Unfortunately, however, when he died, no one could keep the company, which had numerous large-scale construction contracts, in motion. Had someone been able to step in as an officer (or manager) of the company, contracts could have been continued, and the process, while practically not seamless, would at least have been a legally smooth transition.
2. Plan for someone that has practical experience in running the company, in your absence. In a sole proprietorship, a business may simply fold with the death of the owner. In a larger company, however, it is not so simple: there are numerous workers employed, contracts to be fulfilled, people who are relying on the company to stay around and complete its obligations. In a construction company, at least one person has to be a licensed contractor. My client was that person. In his absence, family members are scrambling to either obtain a license for one of the employees or to hire an employee holding such a license.
3. Make sure that someone knows the important details about your company and its business. Once again, in a sole proprietorship, the business may fold with your death. However, in a large company, at least one other person in the company should know important details such as what contracts are outstanding, how to pay the bills, the location of accounts, etc. Fortunately, my client kept at least two co-workers knowledgeable about these details, and in this interim period, they have been able to keep the company above water by, e.g., paying employees.
4. Plan your estate. Most fortunate of all, my client did make a good estate plan. He set up a trustworthy executrix, and made provisions for what would happen if his children were still minors (and one is). Had my client not made such provisions, his entire estate would be tied down in a slow and difficult process since the minor would have to have a guardian appointed and the company ownership would stand in a quagmire. Instead, the executrix will soon be appointed by the Court, and will be able to then appoint officers of the company and help the company get back on its feet during these difficult times. Therefore, though some matters within the company could have been planned better, my client's overarching desire to take care of his children inadvertently helped prevent a much larger crisis in his corporation.
If you have any questions about succession planning for your business, contact me at wldeaton@vnet.net.
Selasa, 08 Mei 2007
Partnership and Corporate Disputes -- Final Settlement
I've been writing lately about different clients who've found themselves in disputes with their small business partners or co-owners. This week I settled one case, involving a man who'd owned both a corporation and a partnership with one other co-owner. Although emotions ran high between the two former friends, and they'll likely not be on speaking terms for a long time, the actual dissolution process was fairly tame and was resolved without going to court. Looking back on it, there are a few lessons to be drawn from this experience.
1. Put your agreements in writing. Although both gentlemen were the type who liked to do business on a handshake, they'd had the sense, 20 years ago, to put their business agreement in writing. When things between them went sour, and they started rattling their swords at one another, at the end of the day their resolution of the conflict was governed by the written documents that had been drafted two decades earlier. Had the two men operated on simply a handshake, as is quite often the case, I believe my client would likely have been simply shut out of the company and would have had no recourse to protect himself other than go to court.
2. Look at the balance of power. One thing my client, in retrospect, would have done differently is to have put more thought into the balance of power. The two gentlemen were each 50 percent owners, so the opposing party was agreed upon as President, and my client was the Vice President. They created, however, a three-person board, made up of my client, the opposing party, and the opposing party's wife. When things went bad, my client was, to a certain extent, shut out of decisions because his partner and partner's wife constituted a majority of the board of directors. If he had it to do over, I think he'd rather have appointed an independent third party (such as an accountant) as the tie-breaking director.
3. Know your rights. When things between my client and his partner first went south, his partner threatened to just push him out of the business. My client, quite frankly, was scared that he could simply be pushed out of the business. However, he came to an attorney specializing in business matters. We reviewed his business agreement as well as the applicable law, and I was able to advise him of both the strengths and weaknesses of his position. My client learned, for example, that if he and his partner could not agree, the worst thing that could happen is that the business could be judicially dissolved and the assets divided (or sold and the proceeds divided) between the two of them. On the other hand, he also learned that if the corporation and partnership were judicially dissolved, it would involve high court costs and would likely not bring the full value of the property. Armed with this knowledge, my client was able to go into negotiations with a certain degree of confidence, yet also knew that he needed to work together with his former partner so that they both could come out better.
If you have questions about a partnership or corporate dissolution, contact me at wldeaton@vnet.net.
1. Put your agreements in writing. Although both gentlemen were the type who liked to do business on a handshake, they'd had the sense, 20 years ago, to put their business agreement in writing. When things between them went sour, and they started rattling their swords at one another, at the end of the day their resolution of the conflict was governed by the written documents that had been drafted two decades earlier. Had the two men operated on simply a handshake, as is quite often the case, I believe my client would likely have been simply shut out of the company and would have had no recourse to protect himself other than go to court.
2. Look at the balance of power. One thing my client, in retrospect, would have done differently is to have put more thought into the balance of power. The two gentlemen were each 50 percent owners, so the opposing party was agreed upon as President, and my client was the Vice President. They created, however, a three-person board, made up of my client, the opposing party, and the opposing party's wife. When things went bad, my client was, to a certain extent, shut out of decisions because his partner and partner's wife constituted a majority of the board of directors. If he had it to do over, I think he'd rather have appointed an independent third party (such as an accountant) as the tie-breaking director.
3. Know your rights. When things between my client and his partner first went south, his partner threatened to just push him out of the business. My client, quite frankly, was scared that he could simply be pushed out of the business. However, he came to an attorney specializing in business matters. We reviewed his business agreement as well as the applicable law, and I was able to advise him of both the strengths and weaknesses of his position. My client learned, for example, that if he and his partner could not agree, the worst thing that could happen is that the business could be judicially dissolved and the assets divided (or sold and the proceeds divided) between the two of them. On the other hand, he also learned that if the corporation and partnership were judicially dissolved, it would involve high court costs and would likely not bring the full value of the property. Armed with this knowledge, my client was able to go into negotiations with a certain degree of confidence, yet also knew that he needed to work together with his former partner so that they both could come out better.
If you have questions about a partnership or corporate dissolution, contact me at wldeaton@vnet.net.
Minggu, 29 April 2007
Think Before You Invest as a Minority Shareholder
You've got a little extra money in your pocket, and you're looking to invest. Somebody comes to you with a great business idea, and offers to cut you in on it. For just $X, you can own a five percent, 10 percent, 49 percent share in the company, and it has a lot of potential!
I have clients who are approached with these situations every day. Some are wealthy people who are actively searched out to be investment partners in large-money ventures. On the other extreme, some are humble folks, who are considering (or have) poured what little savings they have into a new start-up company. Before you invest as a minority shareholder in a company, consider these tips, and think about the cautionary tales below.
DEFINITION OF MINORITY SHAREHOLDER: a minority shareholder is someone who holds less than a 50 percent ownership interest in a company. I'm using the term loosely to not only include true stockholders in a corporation, but, for example, partners in a partnership or members in a limited liability company. If you hold less than a 50 percent interest in a company, some one or some group of people have the potential to outvote you on company governance matters.
1. What management rights will you have in the company? In consideration of your buying into the company, will you have any rights to control the daily operations of the company, other than your rights as a minority shareholder? Often, the people who start up the company want to retain majority ownership, and are looking to other investors to provide capital, yet still leave control with them. This isn't always bad, but remember, if you're not guaranteed a position as a director or an officer, you're just a shareholder, and one who can be outvoted.
2. What dividend or payout rights will you have in the company? Are there any benchmarks or rights that you'll have to receive money or profits? Too many novice investors blindly invest money in a friend's or acquaintance's speculative company, just to find once they've put their money in, that their money is not bringing them any return. Will you receive any dividends or payments? Or are you just hoping that the value of your investment will go up? Ask these questions at the beginning!
3. What buy/sell rights will you have in the company? In its simplest form, an investor should invest in ownership of a company because he thinks the company will grow, and thus will his investment. However, if you're a minority shareholder, you may not be able to control the direction of the company. What happens if you want to sell out? Can you? Or are you held hostage to the majority interests of the company? A minority interest in a company in which you can't sell your interest is practically worthless.
4. What are the other investors contributing?
Sometimes, the investors trying to get you to invest are contributing their own money, dollar for dollar. Other times, however, the investors are wanting
you to contribute the money, and yet they retain a majority of the stock. This is neither good or bad inherently, but you need to understand. If your $100,000 investment buys you a 49 percent share of a company, and the start-up investor has put in $100,000 yet wants to retain 51 percent ownership, that might be reasonable in some cases. If you're being asked to put up $100,000 for a 10 percent share, and the start-up investor has nothing but his brilliant dream, and wants to retain 60 percent ownership, you need to think about the deal a little harder.
5. Consider a Shareholders' Agreement. If you trust the other investors, and you agree that all interests should be protected, the best thing you could do is to have the attorney setting up the company draw a shareholders' agreement, a buy/sell agreement, or something similar. It, in essence, is an agreement for small companies that is set up to protect the interests of the individual investors. It often guarantees each investor a management position (such as a guaranteed spot on the corporate board of directors), and provides buyout provisions in the event of a dispute.
By way of example, I've recently handled two situations involving investors in small corporations.
In the first case, a tearful woman came in to me after she'd invested in a small corporation. She and a former co-worker had been involved in the dress design business together, and then decided to start their own. The co-worker would get 90 percent ownership, and she, for her smaller monetary contribution, would get 10 percent. They both were supposed to work as employees of the company. Unfortunately, things didn't work out, they got into a dispute, and she was fired as an employee. She was completely shut out of the company's business, and watched as her former friend continued to hire new employees and run the company without her, not providing her any idea of profits or losses. She now wants to be bought out, but under the corporate agreement she entered, the majority partner can buy her interest out with payment, over a long period of time, at a very low interest rate, such that she would likely be paid $100 per month until her interest is paid off in a few years. It's unfortunate, but she did not, when entering into the agreement, make provisions for minority shareholder rights, and has in effect given the majority shareholder money that he really doesn't have to repay.
By contrast, another client of mine hired me before the fact to review a proposed investment for him. This investor had extensive knowledge in science, and owns a chain of stores in his specific field of expertise. He was approached by a scientist and another businessman about going together and starting up a company that would create, market and sell a new invention that the scientist had created. This invention was something my client could visualize, and he knew that, if created, it could save his own business a lot of money, so he knew it was a potentially good idea.
The scientist and businessman wanted my client to invest a large sum of money for a 25 percent interest in the company. If my client desired, he had the right, within a two-year period, to purchase an additional 25 percent interest in the company for a similar sum of money.
I read the documents over numerous times, and spoke to my client about what he visualized the company doing, and what he wanted from the company. I told him I saw a few problems with the agreement:
1. The scientist and businessman were not putting any money into the company, other than their own "sweat equity." Therefore, they had less to lose.
2. The scientist and businessman would each be a director, and my client would be the third director--which meant he could always be outvoted.
3. My client, though putting forth all the money, would not have a majority interest as a shareholder.
4. In fact, the contract was written so that, after a given time, my client had to re-convey a 10 percent interest in the company to the company's employees, therefore guaranteeing that he would become a minority shareholder.
I told my client that I couldn't speak to the wisdom of the business plan, but I didn't like the fact that he was putting up all the money, yet he could be shut out of the control of the company, and furthermore had no way to force returns or the sale of his stock if the business were successful.
We sent a letter back to the gentlemen, nicely telling them that my client was interested in investing, but only if he could have more safety, and outlined some proposals that would protect my client's rights as a shareholder. He never heard from them again, and far from blaming me for "killing" a deal, he thinks that I saved him from potential trouble.
If you have questions about investing in a small company, contact me at wldeaton@vnet.net.
I have clients who are approached with these situations every day. Some are wealthy people who are actively searched out to be investment partners in large-money ventures. On the other extreme, some are humble folks, who are considering (or have) poured what little savings they have into a new start-up company. Before you invest as a minority shareholder in a company, consider these tips, and think about the cautionary tales below.
DEFINITION OF MINORITY SHAREHOLDER: a minority shareholder is someone who holds less than a 50 percent ownership interest in a company. I'm using the term loosely to not only include true stockholders in a corporation, but, for example, partners in a partnership or members in a limited liability company. If you hold less than a 50 percent interest in a company, some one or some group of people have the potential to outvote you on company governance matters.
1. What management rights will you have in the company? In consideration of your buying into the company, will you have any rights to control the daily operations of the company, other than your rights as a minority shareholder? Often, the people who start up the company want to retain majority ownership, and are looking to other investors to provide capital, yet still leave control with them. This isn't always bad, but remember, if you're not guaranteed a position as a director or an officer, you're just a shareholder, and one who can be outvoted.
2. What dividend or payout rights will you have in the company? Are there any benchmarks or rights that you'll have to receive money or profits? Too many novice investors blindly invest money in a friend's or acquaintance's speculative company, just to find once they've put their money in, that their money is not bringing them any return. Will you receive any dividends or payments? Or are you just hoping that the value of your investment will go up? Ask these questions at the beginning!
3. What buy/sell rights will you have in the company? In its simplest form, an investor should invest in ownership of a company because he thinks the company will grow, and thus will his investment. However, if you're a minority shareholder, you may not be able to control the direction of the company. What happens if you want to sell out? Can you? Or are you held hostage to the majority interests of the company? A minority interest in a company in which you can't sell your interest is practically worthless.
4. What are the other investors contributing?
Sometimes, the investors trying to get you to invest are contributing their own money, dollar for dollar. Other times, however, the investors are wanting
you to contribute the money, and yet they retain a majority of the stock. This is neither good or bad inherently, but you need to understand. If your $100,000 investment buys you a 49 percent share of a company, and the start-up investor has put in $100,000 yet wants to retain 51 percent ownership, that might be reasonable in some cases. If you're being asked to put up $100,000 for a 10 percent share, and the start-up investor has nothing but his brilliant dream, and wants to retain 60 percent ownership, you need to think about the deal a little harder.
5. Consider a Shareholders' Agreement. If you trust the other investors, and you agree that all interests should be protected, the best thing you could do is to have the attorney setting up the company draw a shareholders' agreement, a buy/sell agreement, or something similar. It, in essence, is an agreement for small companies that is set up to protect the interests of the individual investors. It often guarantees each investor a management position (such as a guaranteed spot on the corporate board of directors), and provides buyout provisions in the event of a dispute.
By way of example, I've recently handled two situations involving investors in small corporations.
In the first case, a tearful woman came in to me after she'd invested in a small corporation. She and a former co-worker had been involved in the dress design business together, and then decided to start their own. The co-worker would get 90 percent ownership, and she, for her smaller monetary contribution, would get 10 percent. They both were supposed to work as employees of the company. Unfortunately, things didn't work out, they got into a dispute, and she was fired as an employee. She was completely shut out of the company's business, and watched as her former friend continued to hire new employees and run the company without her, not providing her any idea of profits or losses. She now wants to be bought out, but under the corporate agreement she entered, the majority partner can buy her interest out with payment, over a long period of time, at a very low interest rate, such that she would likely be paid $100 per month until her interest is paid off in a few years. It's unfortunate, but she did not, when entering into the agreement, make provisions for minority shareholder rights, and has in effect given the majority shareholder money that he really doesn't have to repay.
By contrast, another client of mine hired me before the fact to review a proposed investment for him. This investor had extensive knowledge in science, and owns a chain of stores in his specific field of expertise. He was approached by a scientist and another businessman about going together and starting up a company that would create, market and sell a new invention that the scientist had created. This invention was something my client could visualize, and he knew that, if created, it could save his own business a lot of money, so he knew it was a potentially good idea.
The scientist and businessman wanted my client to invest a large sum of money for a 25 percent interest in the company. If my client desired, he had the right, within a two-year period, to purchase an additional 25 percent interest in the company for a similar sum of money.
I read the documents over numerous times, and spoke to my client about what he visualized the company doing, and what he wanted from the company. I told him I saw a few problems with the agreement:
1. The scientist and businessman were not putting any money into the company, other than their own "sweat equity." Therefore, they had less to lose.
2. The scientist and businessman would each be a director, and my client would be the third director--which meant he could always be outvoted.
3. My client, though putting forth all the money, would not have a majority interest as a shareholder.
4. In fact, the contract was written so that, after a given time, my client had to re-convey a 10 percent interest in the company to the company's employees, therefore guaranteeing that he would become a minority shareholder.
I told my client that I couldn't speak to the wisdom of the business plan, but I didn't like the fact that he was putting up all the money, yet he could be shut out of the control of the company, and furthermore had no way to force returns or the sale of his stock if the business were successful.
We sent a letter back to the gentlemen, nicely telling them that my client was interested in investing, but only if he could have more safety, and outlined some proposals that would protect my client's rights as a shareholder. He never heard from them again, and far from blaming me for "killing" a deal, he thinks that I saved him from potential trouble.
If you have questions about investing in a small company, contact me at wldeaton@vnet.net.
Kamis, 19 April 2007
Limited Liability Companies, new case
I've written before on this blog that, in my opinion, LLCs are not only as protective as a regular corporation, but that recent caselaw suggests they may be stronger than corporations. A new case from the North Carolina Court of Appeals appears to support this.
In Babb v. Bynum & Murphrey, PLLC, the Plaintiff sues a professional LLC, and one of the members of the LLC (Mr. Murphrey), for alleged wrongful acts committed by the LLC's other member, Mr. Bynum (basically, misappropriation and/or theft of trust account monies held for the Plaintiff).
Plaintiffs stated that they were not following a theory of vicarious liability (i.e., they did not allege that Mr. Murphrey was liable just by virtue of being a member), and the Court appears to tacitly acknowledge that this theory would have gotten the plaintiffs nowhere. Instead, the Plaintiffs proceeded on the theory that the Defendant failed to act to stop the misdeeds of his fellow member. The Court of Appeals held that the "innocent" member had no affirmative duty, absent actual knowledge of wrongdoing, to investigate his fellow member.
This case appears to further buttress the theory that LLCs are strong. Had the defendant law firm been a corporation of some sort, the case most likely would have included additional allegations that corporate formalities weren't followed, or would otherwise argue that the corporate veil should be pierced.
To read the text of the case, go to:
http://www.aoc.state.nc.us/www/public/coa/opinions/2007/060876-1.htm
In Babb v. Bynum & Murphrey, PLLC, the Plaintiff sues a professional LLC, and one of the members of the LLC (Mr. Murphrey), for alleged wrongful acts committed by the LLC's other member, Mr. Bynum (basically, misappropriation and/or theft of trust account monies held for the Plaintiff).
Plaintiffs stated that they were not following a theory of vicarious liability (i.e., they did not allege that Mr. Murphrey was liable just by virtue of being a member), and the Court appears to tacitly acknowledge that this theory would have gotten the plaintiffs nowhere. Instead, the Plaintiffs proceeded on the theory that the Defendant failed to act to stop the misdeeds of his fellow member. The Court of Appeals held that the "innocent" member had no affirmative duty, absent actual knowledge of wrongdoing, to investigate his fellow member.
This case appears to further buttress the theory that LLCs are strong. Had the defendant law firm been a corporation of some sort, the case most likely would have included additional allegations that corporate formalities weren't followed, or would otherwise argue that the corporate veil should be pierced.
To read the text of the case, go to:
http://www.aoc.state.nc.us/www/public/coa/opinions/2007/060876-1.htm
Sabtu, 31 Maret 2007
Owner Financing Property
Perhaps you own a piece of property that you want to sell. If you're like most, you would just like to sell, take your cash, and move on. However, perhaps you should consider "owner financing" your property--that is, letting someone buy your property on payments. Before you owner finance anything, consider some of the advantages and disadvantages, as well as ways to best protect yourself.
Advantages:
1. You spread out your tax burden. If you're making a profit, selling by taking payments can allow you to spread out the taxes you'll pay.
2. You can make money on top of money. If you sell your property and finance the purchase, you can charge interest, which lets you make money in addition to your initial sales profits.
3. You create a larger buyer's pool for your property. By offering owner financing, you can sometimes pick up possible purchasers who otherwise would not be able to buy your property (e.g., someone starting out with no credit, or someone who's got a poor credit history preventing them from getting a loan, but who now can make payments).
Of course, there are some disadvantages as well:
1. You don't get your money up front. This is pretty self-evident, of course, but bears stating. That means if you owe money on your property, you can't pay off the mortgage (and thus, owner financing in such a case will be an imperfect solution). Also, if you need the money from this sale to finance something else, owner financing may not be for you.
2. You will create a long-term relationship with the buyer. You'll be a bit like a landlord, which means you'll be making calls if someone's payment is late, or if you find out the buyer has let his insurance on your property lapse.
3. What if the buyer stops paying? With owner financing, there's always the risk that your buyer, for whatever reason, will stop paying. This means you might have to go through a costly foreclosure procedure, and take back a property that you no longer wanted to own.
STILL INTERESTED? If so, below are some tips to help protect you if owner financing the sale of a property.
1. Do it right and have an attorney draw up the necessary paperwork. Do not attempt to draw up papers on your own. In North Carolina (and probably most other states), the law is very specific about what has to be done to owner finance property. For example, many of my clients had drawn up their own documents that they called "lease/purchase" documents, which stated that if one payment was missed, the buyer could be "evicted" and all payments kept as rent. They believed this was better than a traditional mortgage document, which would take two to three months to foreclose on in the event of a default. Unfortunately, in North Carolina, those documents are not enforceable, and when the debtor stopped paying, my client lost its attempt at an eviction, and eventually had to hire me to sue the people to get out. We got them out--after the debtors had lived in the house rent-free for more than a year.
2. Do your own due diligence on the buyers. Do they have bad credit, or do they perhaps just not have much credit yet because of their age? Are the people going to pose a risk? Run a credit check on the potential buyer through one of the credit reporting services.
3. Shore up your collateral. Offering 100% owner financing is a great way to sell your property. However, if a buyer has little invested in the property, you'll carry more risk. Although it is not always possible, when owner financing, try to get some money down. This of course will reduce the risk that if you foreclose on the property you will incur a financial lost. But more importantly, when a buyer has invested money already into the property, he is less likely to default in his mortgage to begin with.
4. Protect your investment. For so long as you are financing the sale, think of the collateral as "yours"--because one day, you might have to foreclose on it and sell it at a public auction. Therefore, it is in your best interest to make sure the collateral is taken care of.
a. Have your attorney draw up requirements that the debtor will keep the property insured and list you as the mortgagee on his insurance--and make sure that the insurance company mails you proof of the policy annually. You don't want to know how many properties I've seen mysteriously burn down right before the owners were to lose them at foreclosure. Being listed as a "mortgagee" (and not an additional insured) on the policy means your mortgage will be paid off (and you'll get your money) if the property is destroyed--even by an act of the insured!
b. Make sure the property taxes are paid on time. If you find out the debtor is not paying his taxes, it may be an early indicator of trouble.
c. Put in the agreement that you may remedy problems and charge the costs back to the loan balance. If, for example, the debtor fails to pay taxes, or allows a huge hole to open in the roof of a house, you have a self-interest in remedying the problem. If the debtor refuses to remedy the problem, place in the agreement that you can either foreclose or fix the problem and charge the costs to the loan balance.
5. [Advanced] Understand anti-deficiency laws. In North Carolina, the law provides that owner-financed mortgages are non-recourse. This means that if the debtor default, the seller can only foreclose on the property and cannot seek a personal judgment against the debtors. This can be a disadvantage if the sale of the property brings less than what it is owed (e.g., you're owed $90,000 but the property only brings $60,000 at a sale and you don't want to bid any higher to get the property back). First, you need to understand the limitations of the anti-deficiency laws. Second, if you don't like this, in North Carolina you can circumvent the laws by creating a separate entity to finance the property. For example, perhaps I own the property and sell it; however, I can structure the sale so that, though Wesley Deaton sells the property, the buyer is financing the sale with "Wesley Deaton, Inc." This is a bit tricky, and you'll need to seek good counsel so you don't create undesired tax implications (and violate any specific state laws regarding licensing of lenders). However, if you're very concerned about this issue, then setting up an entity lender is an option.
If you'd like to learn more about owner financing property in North Carolina, give me a call at 704-735-0483 to set up a consultation, or email me at wldeaton@vnet.net
Advantages:
1. You spread out your tax burden. If you're making a profit, selling by taking payments can allow you to spread out the taxes you'll pay.
2. You can make money on top of money. If you sell your property and finance the purchase, you can charge interest, which lets you make money in addition to your initial sales profits.
3. You create a larger buyer's pool for your property. By offering owner financing, you can sometimes pick up possible purchasers who otherwise would not be able to buy your property (e.g., someone starting out with no credit, or someone who's got a poor credit history preventing them from getting a loan, but who now can make payments).
Of course, there are some disadvantages as well:
1. You don't get your money up front. This is pretty self-evident, of course, but bears stating. That means if you owe money on your property, you can't pay off the mortgage (and thus, owner financing in such a case will be an imperfect solution). Also, if you need the money from this sale to finance something else, owner financing may not be for you.
2. You will create a long-term relationship with the buyer. You'll be a bit like a landlord, which means you'll be making calls if someone's payment is late, or if you find out the buyer has let his insurance on your property lapse.
3. What if the buyer stops paying? With owner financing, there's always the risk that your buyer, for whatever reason, will stop paying. This means you might have to go through a costly foreclosure procedure, and take back a property that you no longer wanted to own.
STILL INTERESTED? If so, below are some tips to help protect you if owner financing the sale of a property.
1. Do it right and have an attorney draw up the necessary paperwork. Do not attempt to draw up papers on your own. In North Carolina (and probably most other states), the law is very specific about what has to be done to owner finance property. For example, many of my clients had drawn up their own documents that they called "lease/purchase" documents, which stated that if one payment was missed, the buyer could be "evicted" and all payments kept as rent. They believed this was better than a traditional mortgage document, which would take two to three months to foreclose on in the event of a default. Unfortunately, in North Carolina, those documents are not enforceable, and when the debtor stopped paying, my client lost its attempt at an eviction, and eventually had to hire me to sue the people to get out. We got them out--after the debtors had lived in the house rent-free for more than a year.
2. Do your own due diligence on the buyers. Do they have bad credit, or do they perhaps just not have much credit yet because of their age? Are the people going to pose a risk? Run a credit check on the potential buyer through one of the credit reporting services.
3. Shore up your collateral. Offering 100% owner financing is a great way to sell your property. However, if a buyer has little invested in the property, you'll carry more risk. Although it is not always possible, when owner financing, try to get some money down. This of course will reduce the risk that if you foreclose on the property you will incur a financial lost. But more importantly, when a buyer has invested money already into the property, he is less likely to default in his mortgage to begin with.
4. Protect your investment. For so long as you are financing the sale, think of the collateral as "yours"--because one day, you might have to foreclose on it and sell it at a public auction. Therefore, it is in your best interest to make sure the collateral is taken care of.
a. Have your attorney draw up requirements that the debtor will keep the property insured and list you as the mortgagee on his insurance--and make sure that the insurance company mails you proof of the policy annually. You don't want to know how many properties I've seen mysteriously burn down right before the owners were to lose them at foreclosure. Being listed as a "mortgagee" (and not an additional insured) on the policy means your mortgage will be paid off (and you'll get your money) if the property is destroyed--even by an act of the insured!
b. Make sure the property taxes are paid on time. If you find out the debtor is not paying his taxes, it may be an early indicator of trouble.
c. Put in the agreement that you may remedy problems and charge the costs back to the loan balance. If, for example, the debtor fails to pay taxes, or allows a huge hole to open in the roof of a house, you have a self-interest in remedying the problem. If the debtor refuses to remedy the problem, place in the agreement that you can either foreclose or fix the problem and charge the costs to the loan balance.
5. [Advanced] Understand anti-deficiency laws. In North Carolina, the law provides that owner-financed mortgages are non-recourse. This means that if the debtor default, the seller can only foreclose on the property and cannot seek a personal judgment against the debtors. This can be a disadvantage if the sale of the property brings less than what it is owed (e.g., you're owed $90,000 but the property only brings $60,000 at a sale and you don't want to bid any higher to get the property back). First, you need to understand the limitations of the anti-deficiency laws. Second, if you don't like this, in North Carolina you can circumvent the laws by creating a separate entity to finance the property. For example, perhaps I own the property and sell it; however, I can structure the sale so that, though Wesley Deaton sells the property, the buyer is financing the sale with "Wesley Deaton, Inc." This is a bit tricky, and you'll need to seek good counsel so you don't create undesired tax implications (and violate any specific state laws regarding licensing of lenders). However, if you're very concerned about this issue, then setting up an entity lender is an option.
If you'd like to learn more about owner financing property in North Carolina, give me a call at 704-735-0483 to set up a consultation, or email me at wldeaton@vnet.net
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