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An Ounce of Prevention …

AN OUNCE OF PREVENTION …

  Ronnie and J.O. were the sole and equal shareholders in a rock supply business [“Limestone”] for ten years, when J.O. suddenly died a few months before the business line of credit expired with the bank, which had required the personal guarantys of both shareholders to loan money to the business.  J.O.’s Estate refused to renew its guaranty and the bank shut down the line of credit, causing the business to temporarily cease.  Shortly thereafter, Ronnie started a new business, which conducted the rock supply operations from the old business site.  He collected money due the old business and paid the old business’ debts.

Probably fearing a suit was coming, Ronnie filed a preemptive action for declaratory judgment that he had “the right to independently invest and operate a rock-supply business; that he violated no corporate fiduciary duties to Limestone; that he possessed the right to continue and sell Limestone’s existing inventory; and that he possessed the right to continue to collect Limestone’s accounts receivable and apply them to the corporation’s debts.”  J.O.’s Estate counterclaimed for breach of fiduciary duty.  Both sides engaged experts in business valuation and loss of profits and, after trial, the chancellor awarded J.O.’s Estate $115,000.  The Court of Appeals affirmed, 5-4, with one judge not participating.  Lane v. Lampkin, No. 2013-CA-00554-COA, 2014 Miss. App. LEXIS 497 (Miss. Ct. App. Sept. 16, 2014).

In view of the split affirmance, a petition for writ of certiorari to the Mississippi Supreme Court may be coming soon.  Considering the extent of litigation, including the costs of expert witnesses, plus one appeal so far, each side has no doubt spent more than, and possibly multiples of, the $115,000 judgment, all of which could have been avoided by a properly drawn shareholder contract between Ronnie and J.O.

Any closely held business, regardless of form—corporation, partnership or limited liability company—should have a written agreement among its principals, prepared with the assistance of knowledgeable counsel, providing for the death of one of its principals or some other unforeseen event that could impair the ability of the business to continue.  Often, these contracts take the form of mandatory buyout provisions with a set price, or formula for a price, for the interest of a dying or withdrawing principal, and many times the purchase price of a dying or disabled principal’s share can be funded by insurance paid for by the business.

–Robert C. Galloway