Advanced Communication Design v. Follett

• Decision Date: 03 August 2000
• Docket Number: No. C1-99-778.,C1-99-778.
• Citation: 615 N.W.2d 285
• Parties: ADVANCED COMMUNICATION DESIGN, INC., d/b/a ACD, Inc., petitioner, Appellant, v. Brian FOLLETT, Respondent, John Doe, et al., Defendants. Brian Follett, third-party plaintiff, Respondent, v. Marco Scibora, third-party defendant, Appellant.
• Court: Minnesota Supreme Court

615 N.W.2d 285

ADVANCED COMMUNICATION DESIGN, INC., d/b/a ACD, Inc., petitioner, Appellant, v. Brian FOLLETT, Respondent, John Doe, et al., Defendants.

Brian Follett, third-party plaintiff, Respondent, v. Marco Scibora, third-party defendant, Appellant.

No. C1-99-778.

Supreme Court of Minnesota.

August 3, 2000.

Rehearing Denied August 29, 2000.

Joanne H. Turner, Mackall, Crounse & Moore, PLC, Minneapolis, for appellant.

Ruth S. Marcot, Felhaber, Larson, Fenlon & Vogt, P.A., St. Paul, for respondent.

Heard, considered and decided by the court en banc.

OPINION

STRINGER, Justice.

We granted review to consider whether, in a court-ordered buy-out of a minority shareholder pursuant to Minn.Stat. § 302A.751 (1998), a marketability discount should be applied to the value of the shares, and whether in a closely held corporation a minority shareholder with only nonvoting shares owes a fiduciary duty to the corporation or its other shareholders. Appellant Advanced Communication Design, Inc. (ACD) brought suit against respondent Brian Follett (respondent), a shareholder and former employee, alleging several claims including breach of fiduciary duty as a minority shareholder. Respondent counterclaimed against ACD and filed a third-party complaint against its President Marco Scibora (appellant Scibora) requesting that the trial court judicially intervene to dissolve ACD or grant other relief pursuant to section 302A.751 based on conduct respondent claims was unfairly prejudicial to him. The trial court found that appellant Scibora had acted in an unfairly prejudicial manner toward respondent and ordered appellants to purchase respondent's shares in ACD at a price that did not include a marketability discount. The trial court also held that respondent did not owe ACD a fiduciary duty as a minority shareholder. The court of appeals affirmed on both issues. We affirm as to the court of appeals ruling on the fiduciary duty of a minority shareholder but reverse and remand as to application of a marketability discount.

Appellant Scibora founded ACD in 1986 to engage in the business of voicemail and integrated voice response (IVR) systems¹ and from its inception has been its President, its sole voting shareholder, and its only Director.² Respondent joined ACD as a vice-president in 1988 and worked primarily with ACD's voicemail and IVR technologies.

In 1990, respondent and Don Stein, another employee, each purchased 1500 shares of ACD's Class B nonvoting stock resulting in ownership of ACD divided equally among appellant Scibora, respondent and Stein, but with appellant Scibora owning all of the Class A voting stock. In July of 1994, the three shareholders and ACD entered into a "Stock Purchase and Transfer Restriction Agreement of the Shareholders of Advanced Communication Design, Inc." (buy-sell agreement) which included a provision that if a shareholder's employment is terminated for reasons other than disability or death, the corporation may exercise an option to purchase the terminating shareholder's shares within 90 days. The agreement further provided that if the parties could not agree on a valuation, the value of the shares would be determined in an appraisal by Exponential Business Valuation and Financial Advisory, Inc. (Exponential), or its successor, or any other firm selected by agreement of the parties. Stein terminated his employment with ACD as of December 1995 and was paid $45,000 in severance and for a noncompete agreement and $50,000 for his nonvoting shares. At that time appellant Scibora informed respondent of the purchase price of Stein's stock but did not inform him of the $45,000 payment for the severance and noncompete agreement.

In January 1996, appellant Scibora's wife, Frances Scibora (F. Scibora), who had not been previously employed by the company, was appointed as the Chief Operating Officer of ACD and thus became respondent's supervisor. The letter confirming the terms of her employment stated that her compensation would include a salary of $20,000 and 1500 shares of nonvoting stock in a restricted stock award-750 shares to be issued effective January 1, 1997, and another 750 shares to be issued effective July 1, 1997. The award would be forfeited if she failed to remain an employee of the company during the restricted periods. Respondent was not informed of the restricted stock award to F. Scibora.

The relationship between appellant Scibora and respondent deteriorated and in October 1996, appellant Scibora demoted respondent from the position of vice-president and reduced his salary. Respondent thereupon provided appellant Scibora with a proposal for a severance package. When no agreement could be reached as to the terms, on November 18, 1996, respondent submitted a letter of resignation effective immediately. He retained his ACD stock however.

ACD brought suit against respondent in December of 1996 alleging several claims relating primarily to solicitation of ACD customers and included a claim that respondent breached a fiduciary duty owed to the corporation as a shareholder. Respondent filed a counterclaim against ACD and a third-party complaint against appellant Scibora asserting several claims, including that persons in control of appellant ACD had acted in an unfairly prejudicial manner toward him and that the court should dissolve the corporation or provide other equitable relief pursuant to section 302A.751.

In February of 1997 appellant Scibora sent respondent a letter exercising ACD's option to purchase respondent's shares pursuant to the buy-sell agreement executed in July of 1994. ACD offered to purchase respondent's shares for $24,646 but respondent declined. ACD then sought an appraisal of the shares from Chartwell Financial Advisory, Inc. (Chartwell) because Exponential no longer performed such appraisals.³ Chartwell appraised the shares at $30,000 and ACD thereupon amended its complaint seeking an order requiring respondent to sell his ACD shares to the corporation at the appraised value pursuant to the buy-sell agreement.

In January of 1998, the parties agreed to a trial court order for another appraisal of the shares, this by a three-member panel with each party appointing one member and the court appointing a third. The appraisers selected by respondent and the trial court joined in a majority report and the appraiser appointed by ACD and appellant Scibora prepared a minority report. The majority appraised ACD as an enterprise at $1,426,143 and respondent's one-third interest at $475,381 but applied a marketability discount of 55%, thus valuing respondent's shares at $213,921. Chartwell, the appraiser selected by appellants, valued ACD as an enterprise at $875,000, and after applying a minority discount of about 75%⁴ and a marketability discount of 35%, appraised respondent's stock at $46,665.

The parties' claims were tried in May 1998 in three phases. The trial court first determined that Chartwell was not the successor to Exponential for purposes of ACD's compliance with the buy-sell agreement. Though the trial court never made explicit findings as to the enforceability of the buy-sell agreement, it apparently concluded that ACD breached the agreement by obtaining an appraisal from Chartwell.

The trial court then rejected ACD's assertion that respondent owed ACD a fiduciary duty as a minority shareholder and directed a verdict for respondent on this claim. ACD's remaining claims against respondent were tried before a jury,⁵ and respondent's claims against appellants were tried before the court. The trial court entered findings that appellant Scibora had acted in bad faith toward respondent because he failed to disclose all of the terms of Stein's severance agreement, did not offer respondent the opportunity to purchase some or all of Stein's stock, did not inform respondent that F. Scibora would receive stock in ACD, and, when attempting to exercise ACD's option to purchase respondent's stock, failed to follow the valuation procedures in the buy-sell agreement and offered to purchase the stock for an unfairly low price. The court found that as of November 18, 1996-respondent's resignation date-he owned one-third of the shares in ACD. The court concluded that pursuant to Minn.Stat. § 302A.751, subd. 1(b)(3) (1998), appellant Scibora's actions had been unfairly prejudicial and ordered him and ACD, jointly and severally, to purchase respondent's shares in ACD for fair value.

The court adopted the majority appraisal report but declined to adopt the marketability discount reasoning that while it may be appropriate to apply such a discount in a sale to a third party, here the court-ordered sale was to a corporation whose only remaining shareholders would be the president, who had acted in an oppressive manner to the selling shareholder, and his wife. In these circumstances the court concluded that applying a discount would interfere with the statutory purposes of protecting minority shareholders and ensuring that court-ordered buy-outs are fair and equitable to all parties. It found the fair value of respondent's shares to be one-third of the majority's appraised value of $1,426,143 of ACD as an enterprise, or $475,381.⁶

The court of appeals affirmed. See Advanced Communication Design, Inc. v. Follett, 601 N.W.2d 707, 712 (Minn.App. 1999). Noting no Minnesota precedent and citing two recent New Jersey Supreme Court decisions, Balsamides v. Protameen Chemicals, Inc., 160 N.J. 352, 734 A.2d 721 (1999), and Lawson Mardon Wheaton, Inc. v. Smith, 160 N.J. 383, 734 A.2d 738 (1999), the court held that a marketability discount was inappropriate because it would allow the controlling shareholder to benefit at the expense of an oppressed minority shareholder. See Advanced Communication Design, Inc., 601 N.W.2d at 710-11. The court also held that respondent, who "in no sense controlled the corporation[,]" did not owe appellants a fiduciary duty as a shareholder. Id....