Robinson & Robinson

Each potential business divorce situation involves its own unique set of legal and business issues.  Almost all business divorces, however, share some common concerns.  This post describes some of them.

Governing Documents

The legal instruments governing an entity’s internal affairs are its “Governing Documents.”  Governing Documents of a general partnership include its partnership agreement; a limited partnership, its certificate of formation and limited partnership agreement; and a limited liability company, its certificate of formation and company agreement.

The Governing Documents contain the agreement of the owners regarding, among other things:

• • management of the business;
  • voting and other rights of the owners, including the power to remove the managers; 
  • limitations on ownership transfers;
  • events that cause the entity to be dissolved and wound up; and
  • the authority of the owners to amend their agreement.

The Governing Documents constitute the starting line in any business divorce contest. 

If an entity’s Governing Documents were prepared well, they might control or strongly influence the manner and outcome of a business divorce.  If prepared poorly, they might make a difficult situation worse.  If Governing Documents are missing because the founders neglected to create them, then the conflict is at risk of quickly turning into a free-for-all mess.

Third Party Contracts and Other Entanglements

A company’s agreements with its lenders, landlords, and other non-owners, as well as other third-party entanglements, may significantly affect the course of the business divorce process.

For example: 

• • A bank loan agreement may contain covenants or conditions that restrict or prohibit a change in the company’s ownership.  Violation may be an event of default and may impose personal liability on the owners.
  • A lease agreement may carry similar provisions, entitling the landlord to terminate the business’s lease and recover damages from the company and its owners.
  • Pending lawsuits or asserted claims against the company or its owners may complicate or delay a business divorce proceeding.
  • Absent these obstacles, a creditor or claimant of a company is nevertheless likely to be concerned to see an owner of the company exiting with a material portion of the company’s cash or property.

Continuing Company Operations

Regardless of which owner “wins” a business divorce, the company may suffer.

The owners’ infighting may distract the managers and cause employees to look for more stable job situations.   The prospect that the company’s performance and reliability may suffer may put off customers and suppliers.   Lenders may decline to extend or renew credit to an enterprise that appears shaky.

Competitors sensing the company’s weakness may try to poach employees and customers.

If the dispute is especially emotional or hostile, an owner may be tempted to go public with his side of the story.  He may file a lawsuit or spread negative comments about his fellow owners.  Any of these steps will likely harm to the company.

A Commonality of Interests can Advance Resolution

Concerns like these are not only issues common to different business divorces.  They are also problems shared by all of the owners in any business divorce.

That presents an opportunity for the owners to recognize they share at least some common interests and must cooperate if they and their company are to avoid or manage those problems.  Such cooperation can help the owners realize that resolving their divorce through private negotiation or mediation may be the best course for everyone’s interests.

Business owners engaged in a severe dispute among themselves can resolve their problem in one or more of several forums:

• • • Court
    • Arbitration
    • Mediation
    • Negotiation

In this blog post, we will look at some of the concerns with using a court or arbitration to resolve a business divorce.

Trial Court

Some business owners, or their attorneys, think that every conflict must be resolved in front of a judge or jury.   In general, however, initiating a lawsuit is not the best first route to pursue.

Filing a lawsuit before trying out an alternate method of dispute resolution usually backfires for several reasons:

• • It raises the temperature of the dispute drastically, often locking the opposing sides into mutually hostile positions and reducing their receptiveness to considering compromise.  
  • It may motivate third parties — for example, lenders, landlords, rating agencies, suppliers and customers — to become involved in the dispute or may adversely affect their relationships with the business or its owners.
  • It surrenders control over resolving the conflict to the decisionmaking and judgment of a third party.
  • It immediately increases the cost, expense, and timeline for resolution.
  • It is, by default, a public process.
  • It may lack finality, as one or both parties can appeal the trial court decision.

On the other hand, it is almost always prudent to make arrangements for engaging a litigation lawyer at an early stage of the dispute process.  First, it’s important to be prepared to defend a lawsuit if the other side elects to go to court.  Second, it can be conducive to settlement discussions to let the opposing party know that you have a litigation attorney ready if other resolution efforts break down.

Arbitration

Arbitration can eliminate or at least mitigate the access of third parties and the general public to the existence of the dispute, increasing the chance that a private argument remains private while the different sides try to resolve it.  Arbitration also brings finality to the conflict, because the grounds for a court to reverse or modify an arbitrator’s decision are few and difficult to establish.

Arbitration, however, shares several of the drawbacks of going to court, including comparable costs, expenses and time delays and ceding control of the outcome to the arbitrator.

Also, the procedural process in arbitration may vary widely from the procedural rules a court follows.  The arbitrator may give considerable weight to evidence a court would quickly rule inadmissible or allow a recalcitrant party to engage in conduct a judge would sanction.  Subjective procedures like these may benefit one party to the detriment of the other or may leave both parties scrambling to figure out how the arbitrator will referee their conflict.

Arbitrators usually possess broad discretion in fashioning their award. An arbitrator may choose not to grant the prevailing party the remedy it wants, but a remedy the arbitrator deems fair and appropriate. 

In the next blog post, we will look at the very different resolution models of mediation and negotiation.

Continuing our Business Divorces series, this blog looks at the people problem.

What do we mean by "People Problem"?

The problem is not the people themselves.  The problem occurs whenever there is a failure to distinguish between the people involved in a legal matter and the matter itself.

Lawyers sometimes categorize a client as having a “real estate law matter” or a “commercial law problem” or a “business law dispute.”  Using short, quick jargon like that can be useful when lawyers are communicating among themselves, with paralegals, and to other professionals.  If they use similar language to describe the matter when talking with their client or the other side, however, the effect may be counterproductive.

Business Divorces are Human Matters, not Law Matters

In my experience, clients have “human” matters, problems and disputes which involve legal overtones.  In my opinion, it is not possible for an attorney to adequately understand the legal problem a client has without first understanding the client who has that legal problem.  I also believe it is not possible for an attorney to adequately assist a client with a legal problem without first understanding, insofar as possible, the other parties involved in the legal problem.

Listening, Perceptions and Interests

Learning about a client requires actively listening to him and to the other people that are involved in or affected by the client’s legal matter.  It requires a critical grasp of their perceptions of the legal concern and the exercise of good judgment in evaluating the accuracy of those perceptions.  It also requires working through those perceptions to find out the reasons and true interests underlying the perceptions each person holds.

Distinguishing People from the Problem Helps; Confusing People with the Problem Hurts

Only then can an attorney begin to take the essential step to “separate the people from the problem.”  Unless a lawyer can distinguish the people who have a legal dispute from the dispute itself, he and the client he represents will make little progress toward resolving the conflict.  On the contrary, they are likely to succeed only in hardening the initial positions of both sides and worsening the problem.

The first installment of this “Business Divorces” blog series —“BUSINESS DIVORCES: Introduction” — can be found here:  http://roblawfirm.com/business-divorces-introduction/.  This installment discusses one critical component in negotiating a business divorce: a party’s BATNA.

"BATNA" Defined and Why Knowing It ASAP is Critical

“BATNA” stands for “Best Alternative to a Negotiated Agreement.”

The acronym “BATNA” was coined by Professor Roger Fisher of Harvard Law School a few decades ago.  I was one of the students in Roger’s 1981 “Negotiation Workshop” course.  At the time, Roger was composing his seminal book on negotiation, Getting to Yes — Negotiating Without Giving In.  In teaching the class, Roger tried out various versions of his working drafts for the book on us.  Our class, plus the prior year’s workshop, received acknowledgment in the first edition of his book for “the benefit of [our] criticism” of those drafts — evidence more of Roger’s generosity than the value of our assistance.

Now in its Third Edition, “Getting to Yes” does not discuss the subject of BATNA until the second half of the book.  However, any party in a business divorce negotiation  — and that party’s attorney — should begin analyzing and crafting his BATNA before negotiations start.

BATNA is Much More than the "Bottom Line"

BATNA does NOT mean a party’s “bottom line.”  BATNA WILL lead a party to discover its bottom line but a party who understands his own BATNA will find much more and will protect himself from accepting a negotiated settlement better rejected.

A party and his lawyer who grasp the BATNA for their side before negotiations begin, and who regularly review and adjust their BATNA as negotiation proceeds, will have a confident sense of all alternatives available to them.  With that analysis in hand, they can weigh the net benefits and risks of each option against the others.

Benefits of Using BATNA Throughout the Divorce Process

Using this tool early and regularly, a party and her attorney can, among other things:

• • evaluate how a negotiated resolution of the divorce may compare with either resolving the divorce by other means or by doing all they can to avoid the divorce  (or delaying it until a better time);

• • distinguish their essential requirements for a negotiated settlement (the terms for which they lack a good alternative) from those benefits they can acquire outside of a negotiated agreement;

• • identify available alternatives and, even while engaged in negotiating a settlement, work to improve those other potential choices;

• • imagine alternatives not currently available but which they can develop as viable alternatives.

Using the BATNA method to critique, evaluate and understand your alternatives may sound like plain common sense.

Amid the emotion and momentum of a business divorce negotiation, common sense often loses its way.

In my last post — here — I listed some of the advantages  a privately held, financially distressed company might realize by choosing to liquidate by way of a state law ABC, or assignment for the benefit of creditors, instead of a federal bankruptcy proceeding.

In this post, I provide a recent real-life example of how the ABC process works.

The Debtor — LeisureLink, Inc.

LeisureLink, Inc. used its proprietary software algorithms and hospitality industry network connections to provide operators of vacation rental, hotel timeshare and resort lodging properties an online platform to increase their reservations and bookings through online travel agents, tour operators, travel aggregators and other distribution systems. LeisureLink acted as an intermediary to collect receivables from customers (guests) and subsequently remit the proceeds to the operators (after deducting LeisureLink’s fee). LeisureLink was a high-flying Delaware corporation based in Salt Lake City in January 2016 when it closed a $17 million round of funding with a small group of California, New York and Texas funds to scale up LeisureLink’s operations to meet growing demand for LeisureLink’s services. But within a few months, LeisureLink’s business operations began to falter beneath the weight of an expanding customer base too large for LeisureLink’s service capacity. Its hospitality property operator clients began to notice longer and longer lag times between the dates their guests’ stays ended and the dates the operators collected payments from LeisureLink. Some operators reduced or discontinued use of LeisureLink’s services. Like many companies facing liquidity crises, LeisureLink tried at first to survive through cost-cutting measures including employee layoffs and freezing expenditures, but quickly shifted into a search for a buyer. Unable to sell the entire company, LeisureLink in August 2016 sold off the most desirable portion of its business to a competitor in the resort industry. It tried to sell the remainder of its business to non-specialized hospitality booking services but rumored deals fell apart. Without formal prior warning, LeisureLink in late September sent letters to its clients announcing that it would be immediately ceasing operations, terminating all of its employees, and shutting its online platform.

LeisureLink’s abrupt shutdown left its clients — the operators of hospitality properties — holding the bag as unsecured creditors. They had honored the bookings of guests made through LeisureLink, which had collected payments from those guests for their stays. But LeisureLink went out of business without passing on millions of dollars in those payments to the operators.

Choosing an ABC instead of Bankruptcy

LeisureLink did not enter bankruptcy proceedings. instead it chose to use an Assignment for the Benefit of Creditors under Delaware law to effect an orderly disposition of its assets, with the proceeds to be distributed among its creditors in accordance with their respective legal priorities.

The documents referenced below may be found at http://www.proofofclaims.com/leisurelink/documents/.

An ABC Step by Step

LeisureLink engaged Sherwood Partners, a California-based company providing services in connection with corporate restructurings, ABCs and receiverships, as its ABC advisor and manager. Sherwood formed a Delaware limited limited liability company (Newco) named “LeisureLink (assignment for the benefit of creditors), LLC” to serve as the assignee of LeisureLink’s assets.

On September 23, LeisureLink and Newco entered into a General Assignment instrument (just six pages long) assigning to Newco “in trust, for the benefit of Assignor’s creditors generally, all of the property of Assignor of every kind and nature and wheresoever situated ….” and authorizing Newco to sell the property on terms it considered fit, paying the net proceeds to LeisureLink’s creditors pro rata after deducting amounts paid to release liens, to pay priority debts as required by law, and expenses (including the fee of Newco and its attorneys).

Newco sent a one page “Notice of Assignment” to the creditors and equity holders of LeisureLink on September 28. Newco fixed March 21, 2017 as the deadline for any interested party to file a proof of claim using the single sheet “Proof of Claim” form (documentation evidencing and supporting the claim had to be attached separately) and instructions prepared by Sherwood and available online at the link mentioned above. Although set up for an ABC, the Proof of Claim form and its instructions were clearly derived from and similar to the forms of those documents typically used in federal bankruptcy proceedings. Sherwood designed the Proofs of Claim to be prepared, signed and submitted online, but also allowed creditors and other interested parties to download the Proof of Claim form onto paper for completion, manual execution and submission by mail or fax to the assignee at Sherwood’s office.

From the perspective of an unsecured creditor, an ABC is a process that gets underway quickly with minimal documentation. From the perspective of the debtor, it’s a fast-moving process largely subject to the control and timing of the debtor (although the debtor must obtain the authorization of its directors and stockholders and would almost always have to obtain the consent of its secured creditors). Unfortunately for every interested party, it’s a process well-suited to a collapsing business like LeisureLink, where there’s little cash left for paying creditors or for administering a winding up and liquidation.