In our practice we have seen seemingly well intentioned corporate reorganizations that are in fact camouflaged stockholder or partner squeeze outs. As a company grows, it’s not unusual for the owners to realize they are outgrowing their initial structure. The first step is usually securing a large line of credit and not too far beyond the owners realize even that is not enough to bring them to the next step of expansion. That next step is some sort of equity financing. Many times the equity financing takes the form of issuing stock to new shareholders, sometimes creating a new class of stock, at other times through a merger into a new entity or into the entity providing the funding.
Regardless of the method, the common element is some or all of the shareholders’ interests in the original company are diluted. When the business intentions are valid and there are no alternative agendas in play, the corporate reorganization could be a sound business plan. We have encountered instances, however, where the corporate reorganization is camouflage for a squeeze out or freeze out. It’s not unusual for the individual being pushed out not to realize they are being squeezed.
The corporate reorganization will be presented to the stockholder or partner being squeezed out as reorganization for “tax purposes” or for more efficient “cost accounting” or to “better reflect profitability of each subsidiary” or the need to bring in equity partners and “they” (the equity partners) demand a certain reorganization plan.
Sometimes, the reorganization will be justified by the majority shareholder claiming the minority shareholder has “Dissenters Rights”. This gets into a discussion about “valid business purpose” vs. intentional squeezing just to deny the minority shareholder their interest. We will posting on dissenters rights in more detail in the coming weeks although for now, we leave you with the thought that engaging in a reorganization where the purpose is to eliminate a recalcitrant or obstreperous shareholder who interferes with the legitimate actions of the corporation could be a valid business reason to eliminate a minority shareholder’s rights and triggering the minority shareholder’s dissenters rights.
If this happens to you, then ask yourself if it makes sense. You may need professional assistance to evaluate it. Often the reorganization will not be performed in a vacuum. There will be other telltale signs such as bringing in family members or a falloff in sales or some event in the life of the majority shareholder’s personal life. Other criteria to watch for are whether the majority shareholders get some kind of bonus whether stock or cash in the reorganization. If certain shareholders get huge salary packages while other shareholders do not participate, that could also be a signal as to what is really taking place. Taking a longer view can help evaluate whether other minority stockholders or partners are being squeezed as part of the reorganization. Consider a five year time line and whether one by one each minority stockholder has been squeezed regardless of the pretenses.
Recognize when you are being squeezed.
Horowitz Law Offices represents businesses and individuals with corporate, stockholder, shareholder, partner and partnership disputes. Contact us at 312 787 5533 or firstname.lastname@example.org