News and Updates

Civil Code section 8414 prevents a subcontractor from enforcing a mechanic’s lien unless the subcontractor recorded the lien: (a) after it ceases to provide work, and (b) before the earlier of the following times: (1) 90 days after completion of the work of improvement, or (2) 30 days after the owner records a notice of completion or cessation.

In Precision Framing Systems v. Luzuriaga, (published on August 29, 2019) the Court of Appeal considered when a mechanic’s lien is premature, i.e. when it is recorded before the subcontractor “ceases to provide work.” Precision Framing Systems (Precision) had a subcontract to provide, among other things, trusses for the project. It further subcontracted the design and fabrication of the trusses to Inland Empire Truss (Inland). After Precision installed the trusses and completed the rest of its work, the city signed off on the framing, but issued a corrective notice for a problem with the truss design. Precision considered this to be an issue for Inland. On December 23, the general contractor walked the job and found Precision’s work was complete and fully in compliance with the plans and specifications. Precision recorded a mechanic’s lien 11 days later, on January 2. In the meantime, Inland did not complete the repairs on the defective trusses until February 13.

The trial court found the lien was recorded before Precision ceased work and thus dismissed its foreclosure action. On appeal, the relevant question was “whether the repairs were part of the ‘work’ that Precision was to provide to the ‘work of improvement.’”

The appellate court found the truss repairs Inland performed to correct the design problems were part of Precision’s contract to supply trusses “necessary to complete the project, not merely trusses in conformity with the plans.” It did not matter that Precision accomplished these repairs through a second-tier subcontractor – they were still part of Precision’s scope of work.

Nor did it matter that the general contractor inspected the project and found Precision completed its scope of work. “[B]ecause the scope of work was established by the relevant contracts, this was merely the factually unsupported legal opinion of two lay witnesses.”

Thus, the repair of the trusses was part of Precision’s “work,” and it “does not matter whether Precision actually carried out the repairs itself or merely ‘helped coordinate’ them.” The court also observed that it may seem unfair to find a lien premature if the claimant does not know that it has any work left to do when it records its lien. Nevertheless, the court did not consider the subcontractor’s subjective belief that he “ceased to provide work” to be relevant. Instead, the court observed that “nothing in the Mechanic’s Lien Law prohibited [the subcontractor] from recording its claim again after the repairs were performed.”

The bottom line is a subcontractor has not “ceased to provide work” if its second-tier subcontractors and suppliers are still making repairs or corrections on the project. If there is any doubt about whether subsequent repair work establishes a new timeframe to record a lien, subcontractors should re-record their lien to avoid the having the first lien declared premature.

Dane-Elec Corp sued it’s employee, Bodokh, for money due on a promissory note. Bodokh cross-complained for unpaid wages. The corporation prevailed on all claims and sought attorney fees pursuant to the promissory note agreement. The Court of Appeal reversed an award of fees to the corporation, reasoning that when an employer prevails on a good-faith claim for unpaid wages, Labor Code section 218.5 prohibits the enforcement of a provision for prevailing party attorney fees on an inextricably intertwined contract claim:

Labor Code section 218.5, an attorney fee-shifting statute in actions for nonpayment of wages, prohibits a prevailing party employer from recovering attorney fees unless the trial court finds the employee brought the wage claim in bad faith. This appeal presents an issue regarding the effect of Labor Code section 218.5 on a prevailing party employer’s right to recover contract-based attorney fees from an employee. Specifically, we address whether an employer may recover attorney fees incurred in successfully defending a wage claim, found not to have been brought in bad faith, when the wage claim was inextricably intertwined with a contract claim for which the employer would otherwise be contractually entitled to recover attorney fees. … We hold that unless the trial court finds the wage claim was brought in bad faith, Labor Code section 218.5, subdivision (a) (section 218.5(a)) prohibits, as a matter of law, an award of attorney fees to a nonemployee prevailing party for successfully defending a wage claim that is inextricably intertwined with a claim subject to a contractual prevailing party attorney fees provision. To the extent the wage claim and the contract claim are inextricably intertwined, section 218.5(a)’s prohibition on recovering attorney fees controls over the contractual attorney fees provision.

Full opinion is here.

Buy-sell agreements protect each owner from being forced to accept a new co-owner who acquires a share of the business from an original owner, e.g. by purchase, inheritance, divorce, bankruptcy, etc. These buy-sell agreements usually give the original owners the right to buy another owner’s share upon specific triggers, e.g. sale, death, divorce, bankruptcy, etc. When evaluating whether a buyout has been triggered under such an agreement, the precise identity of each owner of the business can be extremely important.

In Han v. Hallberg, the Court of Appeal considered whether the death of one dentist in a four-way partnership triggered a buyout when the deceased dentist’s partnership interest was owned by his trust. Refusing to follow an earlier case which found an original owner continued to be a partner after transferring ownership to his trust, the Hallberg court held the dentist’s death did not trigger the buyout “upon the death of a partner” because the trust, not the deceased dentist, was the partner.

This ruling is particularly important for buy-sell agreements with triggering events unrelated to a proposed transfer of ownership, e.g. termination of a shareholder’s employment or upon the filing of a lawsuit by the shareholder against the company. If an original owner transfers his share of the company to a trust, Hallberg suggests a mandatory buyout would not be triggered if the now-former shareholder (rather than his trust) experienced a triggering event, e.g. sued the company or was terminated from his employment.

Typically, plaintiffs with claims for fraud, breach of fiduciary duty, and conversion can only recover the actual damages they sustained. In Switzer v. Wood, (ordered published on May 10, 2019), the California Court of Appeal recognized a statutory right to recover treble damages, i.e. triple the actual damages, in certain civil actions for fraud, breach of fiduciary duty, and conversion. This theft action can even arise in a business dispute between partners. In Switzer, the parties were partners and co-owners of a business selling medical devices:

According to the allegations of the cross-complaint, not long after this business venture got started, Wood deceitfully took possession of, converted, and withheld for himself large sums of money or income belonging to Switzer and/or to [the business], and Wood also converted valuable property items belonging to Switzer (i.e., spinal implant inventory) and, upon selling said property items, kept the profits for himself.

In both his direct and derivative claims under section 496, Switzer’s cross-complaint asserted, based on relevant foundational allegations referred to in the pleading, that “[t]he acts of Mr. Wood constitute a violation of Penal Code § 496(a), thus entitling Mr. Switzer to recover from Mr. Wood treble the amount of actual damages sustained by Mr. Switzer, along with Mr. Switzer’s costs of suit and reasonable attorney’s fees . . . .”

The jury found in favor of Switzer on his civil claim for violation of Penal Code section 496, but the trial court refused to award treble damages. The appellate court reversed and found that section 496 was clear and required treble damages:

The language of section 496(c) is clear and unambiguous. A criminal conviction is not a prerequisite to recovery of treble damages. All that is required for civil liability to attach under section 496(c), including entitlement to treble damages, is that a “violation” of subdivision (a) or (b) of section 496 is found to have occurred. … [T]he elements required to show a violation of section 496(a) are simply that (i) property was stolen or obtained in a manner constituting theft, (ii) the defendant knew the property was so stolen or obtained, and (iii) the defendant received or had possession of the stolen property.

*   *   *

In the present case, it is undisputed that the jury specifically and unequivocally found all the factual elements necessary to establish that Wood and Access Medical had engaged in conduct constituting a violation of section 496(a). … That being the case, under the plain and literal terms of section 496(c), Switzer was entitled to an award of three times his actual damages that were found by the jury on both the direct and derivative section 496 causes of action.

Thus, if an officer, manager or other corporate fiduciary steals, or knowingly possesses stolen property, triple damages apply. Importantly, stolen property also includes “property obtained in a manner constituting theft.” Penal Code section 484(a) describes theft as follows:

Every person who shall feloniously steal, take, carry, lead, or drive away the personal property of another, or who shall fraudulently appropriate property which has been entrusted to him or her, or who shall knowingly and designedly, by any false or fraudulent representation or pretense, defraud any other person of money, labor or real or personal property, … is guilty of theft.

Many actions for fraud, breach of fiduciary duty, and conversion will qualify as theft under section 484(a), and thus expose those defendants to treble damages under section 496(c). Since these claims routinely arise in shareholder disputes, corporate defendants should expect to see more claims for treble damages in the wake of Switzer.

Minority shareholders are important. Just ask the World Bank.

Every year, the World Bank publishes an “Ease of Doing Business Index” for countries and economies across the world. The index looks at a variety of factors, and one of the most important is each country’s legal framework for protecting minority shareholders. The World Bank considers these protections extremely important for evaluating whether a jurisdiction is a good place to do business.

WHY DO MINORITY INVESTOR PROTECTIONS MATTER?

One of the most important issues in corporate governance is self-dealing—the use of corporate assets by company insiders for personal gain. Related-party transactions are the most common example. High ownership concentration and informal business relations can create the perfect environment for such transactions, which allow controlling shareholders to profit at the expense of the company’s financial health—whether because company assets are sold at an excessively low price, assets are purchased at an inflated price or loans are given by the company to controlling shareholders on terms far better than the market offers.

Empirical research shows that stricter regulation of self-dealing is associated with greater equity investment and lower concentration of ownership. This conclusion is in line with the view that stronger legal protections make minority investors more confident about their investments, reducing the need for concentrated ownership to mitigate weaknesses in corporate governance.

California and Delaware share many of the same rules when it comes to corporations, but they also diverge on some issues. When it comes to advancement of litigation expenses for officers and directors, California and Delaware are both remarkably similar and, at the same time, worlds apart.

Typically, corporations will indemnify their directors and officers who have acted in good faith against the costs of defending lawsuits arising out of their duties. Since indemnification rights usually cannot be established at the outset of the case, corporations will often agree to pay a defendant’s legal expenses in advance of a final judgment. Advancement is an especially important corollary to indemnification as an inducement for attracting capable individuals into corporate service. Advancement provides corporate officials with immediate interim relief from the personal out-of-pocket financial burden of paying the significant on-going expenses inevitably involved with investigations and legal proceedings.

Like Delaware, California provides that “expenses incurred in defending any proceeding may be advanced by the corporation prior to the final disposition of the proceeding.” (Corp. Code, § 317, subd. (f).) How a corporation chooses to provide advancement is left to the discretion of the shareholders and the board of directors. In many cases, the corporation will provide advancement rights in the by-laws. 

Not surprisingly, disputes often arise as to whether (and when) a defendant has a right to advancement. That, in and of itself, is hardly unusual. Disputes regarding the interpretation of corporate bylaws are commonplace. But unlike ordinary disputes, advancement is not an issue that can wait for final judgment after trial, i.e. if a defendant is forced to pay for his own litigation expenses until the end of trial, his advancement rights will be defeated regardless of the judgment. Similarly, if the defendant officers use corporate money to pay their defense costs when no right of advancement has been approved, the corporation could suffer substantial losses if it lacks a remedy to stop the unauthorized advancement prior to trial. 

This is where Delaware and California diverge. Unlike California, Delaware provides a specific summary proceeding to determine a defendant’s advancement rights.

The Court of Chancery is hereby vested with exclusive jurisdiction to hear and determine all actions for advancement of expenses or indemnification brought under this section or under any bylaw, agreement, vote of stockholders or disinterested directors, or otherwise.  The Court of Chancery may summarily determine a corporation’s obligation to advance expenses (including attorneys’ fees).

Del.Code Ann. tit. 8, § 145(k).

California, unfortunately, provides no specific remedy to enforce advancement rights. In the absence of a summary proceeding, injunctive relief is one option. Courts have granted preliminary injunctive relief to stop a director’s unauthorized or unlawful use of corporate funds to pay personal litigation costs. (Havens v. Attar (Del. Ch. Jan. 30, 1997) 22 Del. J. Corp. L. 1230, 1254-1258, No. 15134, 1997 Del. Ch. LEXIS 12 [enjoining advancement approved in breach of directors’ fiduciary duties before Delaware statutes provided a summary proceeding]; Johnson v. Couturier (9th Cir. 2009) 572 F.3d 1067, 1078-1081 [enjoining corporation from advancing defense costs to corporate directors accused of breaching ERISA fiduciary duties]; Allergia, Inc. v. Bouboulis (S.D.Cal. Jan. 19, 2017) Case No. 14-CV-1566 JLS (RBB) [advancement denied where by-laws incorporated limitations from indemnity clause].) Although injunctive relief is available, it does have its drawbacks. For example, the party requesting an injunction often needs to establish a risk of irreparable harm, which can be difficult on a simple motion hearing. A clear procedural remedy for challenging improper advancement would remove much of the uncertainty and ambiguity inherent in the current law.

Do you remember 2015? Yes, it may seem like the distant past, but in 2015 the Obama administration approved a new rule increasing the minimum salary necessary to qualify as exempt from overtime under the Fair Labor Standards Act (FLSA) from from $455 per week ($23,660 annually) to $913 per week ($47,476 annually). But before these changes could take effect, the U.S. District Court of the Eastern District of Texas enjoined the new rule on December 1, 2016. The court ruled that although the FLSA authorizes the Department of Labor to “delimit” and “define” the scope of the exemption for executive, administrative, and professional employees, the statute does not permit the DOL to limit those exemptions to workers making more than a designated minimum salary.  The court further held the new rule does not reflect a permissible construction of the FLSA, because the significant increase to the salary level creates essentially a de facto salary-only test.

The DOL appealed the ruling, but while that appeal was pending, two things happened: First, Trump’s new Secretary of Labor sought public comments about a new minimum salary for exempt workers. Second, the District Court granted summary judgment against the DOL. On October 30, 2017, the DOL appealed this decision to the U.S. Court of Appeals for the Fifth Circuit. The DOJ lawyers representing the DOL “will file a motion with the Fifth Circuit to hold the appeal in abeyance while the Department of Labor undertakes further rulemaking to determine what the salary level should be.”

So the salary-basis rules proffered by the Obama administration seem destined to be replaced without ever becoming effective. The question now is what the new salary-basis rules will look like. Based on comments made at his confirmation hearing, Labor Secretary Alex Acosta believes the new minimum salary should only be increased to $33,000. Whether the DOL will adopt this number is unknown, but one thing is certain: the new rule will require much less than the $47,476 minimum salary under the prior amendments.

When the majority wants to get rid of minority shareholders but still keep control of the business, they may attempt a squeeze-out acquisition. First, the majority will form a second entity where they are the sole owners. Under their direction, this new company offers to acquire or merge with the target corporation. Using their majority vote in the target corporation, they approve a sale/merger that forces the minority to accept what the new company offers for the purchase of the corporation’s shares. Under this scheme, the minority gets squeezed out and the majority continues to operate the business as the sole owner(s).

Fortunately, California’s Corporations Code provides dissenting minority shareholders with specific remedies for this species of shareholder oppression.

First, dissenting shareholders may “require the corporation in which the shareholder holds shares to purchase for cash at their fair market value the shares owned by the shareholder.” (Corp. Code, § 1300, subd. (a).) “The fair market value shall be determined as of the day of, and immediately prior to, the first announcement of the terms of the proposed [acquisition], excluding any appreciation or depreciation in consequence of the proposed reorganization or short-form merger, as adjusted for any stock split, reverse stock split, or share dividend that becomes effective thereafter.” (Corp. Code, § 1300, subd. (a).) This remedy applies to any acquisition, regardless of whether there is common ownership between the corporation and the acquiring entity.

In order to avail themselves of this remedy, dissenting minority shareholders must “make written demand upon the corporation for the purchase of those shares and payment to the shareholder in cash of their fair market value… not later than the date of the shareholders’ meeting to vote upon the [acquisition]” of, if not approved by vote at a shareholders meeting, within 30 days after the date on which the notice of the approval by the outstanding shares is mailed to the shareholder. (Corp. Code, § 1301, subd. (b).) “The demand shall state the number and class of the shares held of record by the shareholder which the shareholder demands that the corporation purchase and shall contain a statement of what the shareholder claims to be the fair market value of those shares as determined pursuant to subdivision (a) of Section 1300. The statement of fair market value constitutes an offer by the shareholder to sell the shares at that price.” (Corp. Code, § 1301, subd. (c).)

At this point the corporation can choose to accept the offer, and pay the dissenting shareholder the amount stated in the demand. However, “[i]f the corporation denies that the shares are dissenting shares, or the corporation and the shareholder fail to agree upon the fair market value of the shares, then the shareholder demanding purchase of such shares as dissenting shares …, within six months after the date on which notice of the approval by the outstanding shares (Section 152) or notice pursuant to subdivision (h) of Section 1110 was mailed to the shareholder, but not thereafter, may file a complaint in the superior court of the proper county praying the court to determine whether the shares are dissenting shares or the fair market value of the dissenting shares or both or may intervene in any action pending on such a complaint.” (Corp. Code, § 1304, subd. (a).) In other words, if the corporation rejects the offer, the dissenting shareholder may file an action for an appraisal within six months after the vote, or (if no vote) the date notice of the approval was mailed to the shareholder.

On the trial of the action, the court shall first determine (if disputed) the status of the shares as dissenting shares. “If the fair market value of the dissenting shares is in issue, the court shall determine, or shall appoint one or more impartial appraisers to determine, the fair market value of the shares.” (Corp. Code, § 1304, subd. (c).) After deciding the fair market value, “judgment shall be rendered against the corporation for payment of an amount equal to the fair market value of each dissenting share… with interest thereon at the legal rate from the date on which judgment was entered.” (Corp. Code, § 1305, subd. (c).) “The costs of the action, including reasonable compensation to the appraisers to be fixed by the court, shall be assessed or apportioned as the court considers equitable, but, if the appraisal exceeds the price offered by the corporation, the corporation shall pay the costs (including in the discretion of the court attorneys’ fees, fees of expert witnesses and interest at the legal rate on judgments from the date of compliance with Sections 1300, 1301 and 1302 if the value awarded by the court for the shares is more than 125 percent of the price offered by the corporation under subdivision (a) of Section 1301).” (Corp. Code, § 1305, subd. (e).)

But what if the dissenting minority wants to stop the squeeze-out and does not want cash in exchange for their shares? If the majority and the new company have common ownership, the dissenting shareholder(s) may bring an action to have the acquisition “set aside or rescinded.” (Corp. Code, § 1312, subd. (b).) However, if they elect to pursue this remedy, “the shareholder shall not thereafter have any right to demand payment of cash for the shareholder’s shares.” (Corp. Code, § 1312, subd. (b).) The acquisition may then be set aside “upon 10 days’ prior notice to the corporation and upon a determination by the court that clearly no other remedy will adequately protect the complaining shareholder or the class of shareholders of which such shareholder is a member.” (Corp. Code, § 1312, subd. (b).) Importantly, when the majority owners of the target corporation also own part of the new company, they “shall have the burden of proving that the transaction is just and reasonable as to the shareholders of the [target] corporation.” (Corp. Code, § 1312, subd. (c).)

In most squeeze-out cases, the dissenting shareholders are limited to the statutory remedies in Corporations Code section 1312. However, in some circumstances, the minority shareholders may also have individual claims for fraud or breach of fiduciary duty against the majority shareholders and derivative claims against the corporation’s officers and directors. If you are a minority owner and you believe the majority are treating you unfairly, contact an experienced attorney to help you protect and defend your investment.

Labor Code sections 551 and 552 provide that every employee “is entitled to one day’s rest therefrom in seven” and that “no employer of labor shall cause his employees to work more than six days in seven.” Labor Code section 556 provides that “Sections 551 and 552 shall not apply… when the total hours of employment do not exceed 30 hours in any week or six hours in any one day thereof.” In Mendoza v. Nordstrom, Inc., (2017) 2 Cal.5th 1074, the California Supreme Court considered the following questions about these statutes:

1. Is the day of rest required by sections 551 and 552 calculated by the workweek, or does it apply on a rolling basis to any seven-consecutive-day period?

2. Does the section 556 exemption for workers employed six hours or less per day apply so long as an employee works six hours or less on at least one day of the applicable week, or does it apply only when an employee works no more than six hours on each and every day of the week?

3. What does it mean for an employer to ―cause‖ an employee to go without a day of rest (§ 552): force, coerce, pressure, schedule, encourage, reward, permit, or something else?

It answered these questions as follows:

1. A day of rest is guaranteed for each workweek. Periods of more than six consecutive days of work that stretch across more than one workweek are not per se prohibited.

2. The exemption for employees working shifts of six hours or less applies only to those who never exceed six hours of work on any day of the workweek. If on any one day an employee works more than six hours, a day of rest must be provided during that workweek, subject to whatever other exceptions might apply.

3. An employer causes its employee to go without a day of rest when it induces the employee to forgo rest to which he or she is entitled. An employer is not, however, forbidden from permitting or allowing an employee, fully apprised of the entitlement to rest, independently to choose not to take a day of rest.

You can read the full opinion here. I think the court reaches gets the right answer, but I doubt this is the last we will hear about the informed consent requirement the court proposes in response to the third question.

And to answer the question posed by the title, an employee can be required to work no more than six days per workweek. Accordingly, an employee could conceivably be given a day’s rest on the first day of one workweek, work the next six days, work the first six days of the next workweek, and then be given a day’s rest on the last day of the second workweek.  Thus, an employee can be required to work no more than 12 days in a row in California.

Last year, the Obama administration’s Department of Labor approved a new rule increasing the minimum salary necessary to qualify as exempt from overtime under the Fair Labor Standards Act (FLSA) from from $455 per week ($23,660 annually) to $921 per week ($47,892 annually). However, before these changes could take effect, the U.S. District Court of the Eastern District of Texas enjoined the new rule on December 1, 2016.

The District Court ruled that although the FLSA authorizes the DOL to “delimit” and “define” the scope of the exemption for executive, administrative, and professional employees, the statute does not permit the DOL to delimit the scope with a salary-basis test.  The court further held that the new rule does not reflect a permissible construction of the FLSA, because the significant increase to the salary level creates essentially a de facto salary-only test.

The DOL appealed the ruling but on February 22, 2017, the Court of Appeal granted its request for an extension of time “to allow incoming leadership personnel adequate time to consider the issues.” In other words, the Trump administration will now decide whether to continue defending the new rule or to accept the decision of the District Court.  Should it choose the latter option, that could be the death knell for the new salary-basis test – and it could even put the existing salary-basis test in jeopardy.  The DOL has not announced its decision yet, but per the court’s order, it has until May 1, 2017 to file its reply brief and proceed with the appeal.

Tell me if this sounds familiar: Jane works as an bookkeeper for Jim’s company. She is not an accountant, but she manages invoices, receipts, and bills for the business. Jane has access to  company checks, but Jim still has to approve and sign every payment. One day, Jim is reviewing his bank statements and notices $130,000 has been deducted from his account for several checks he does not recognize. He discovers that Jane wrote the checks to herself and forged his signature. Jim fires Jane, and learns she has a big gambling problem. The police tell Jim that they do not investigate employee embezzlement cases under $1 million, and suggest that Jim hire an attorney to file a lawsuit. But the money is gone and Jane is broke. Can Jim get his money back?

Yes, from his bank.

It may seem old-fashioned, but your bank has a duty to recognize your signature and only pay checks actually bearing your signature. When Jane deposited the forged checks, Jim’s bank violated its duty to only pay checks that are “properly payable,” i.e. not forged. (Comm. Code, § 4401.) However, if the bank sends out monthly statements, Jim has 30 days to review those statements and report a possible forgery to the bank. (Comm. Code, § 4406, subd. (d)(2).) If Jim reports a forgery within 30 days, the bank must refund his money. 

However, if Jim forgets to review his bank statements and discovers the forgery after 30 days, the bank will only have to pay back the money if it acted negligently. (Espresso Roma Corp. v. Bank of America (2002) 100 Cal.App.4th 525, 528-529.) Proving the bank’s negligence will usually require a lawsuit against the bank. Moreover, Jim must immediately report the forgery and there is a one-year statute of limitations to sue the bank for improperly paying those checks. 

The important thing to remember is this: always review your bank statements and report any suspicious payments right away. But even if you do not report the payments right away, you can still recover from the bank if you can prove it acted negligently. If that’s the case, report the embezzlement to your bank immediately and contact a lawyer. Either way, your claims could be lost if you wait too long, so it is important to act quickly.

We all know the general rule: If the principal has the right to control the manner and means of the work, the worker is an agent or an employee.  If not, the worker is an independent contractor.  But what if the principal’s “control” is limited to enforcing the worker’s compliance with government regulations?

Under one line of case law, “where the method of performing a task is dictated by health and safety regulations imposed by the government, the principal is not exercising the manner and means of control as an employer.”  (Southwest Research Institute v. Unemployment Ins. Appeals Bd. (2000) 81 Cal.App.4th 705, 709, citing Empire Star Mines Co. v. Cal Emp. Com. (1946) 28 Cal.2d 33, 43) The appellate court, however, recently called into question this rule in Secci v. United Indep. Taxi Drivers, Inc. (2017) 8 Cal.App.5th 846.

In Secci, plaintiff sued a taxicab company for injuries sustained in a car accident. The trial court overturned the jury’s verdict on the grounds that the evidence of an agency relationship between the taxi company and the driver was based entirely on controlling the driver’s compliance with local regulations.  The appellate court disagreed and reinstated the jury’s verdict:

The fact that many of the controls imposed by the taxi association on its drivers are based on governmental rules and requirements or operate for the mutual benefit of the taxi company and its drivers does not give courts or factfinders license to ignore those controls in deciding whether a principal-agent relationship exists. Once we have established that the status of the taxi industry as a publicly regulated industry may expose taxi companies to vicarious liability for the negligent acts of drivers who act as the companies’ agents, it would be illogical to exclude from consideration the controls required by such regulations.

Secci v. United Indep. Taxi Drivers, Inc. (2017) 8 Cal.App.5th 846.

So does the rule from Empire Star Mines still survive after Secci? That’s unclear. Secci expressly rejected the rule in cases of vicarious liability for contractors in publicly regulated industries.  At the same time, the Secci court was careful to limit its holding to the agency question.  It did not consider whether government regulations should impact the “control” analysis for workers who claim statutory rights under an employment relationship.

When faced with an action for involuntary dissolution, California law gives the majority an option to buyout the minority shareholders.  (Go v. Pacific Health Services, Inc. (2009) 179 Cal.App.4th 522, 532.)  Corporations Code section 2000 provides that when a shareholder sues for involuntary dissolution, the corporation, or the holders of 50 percent or more of the voting power of the corporation, may avoid the dissolution by purchasing for cash the shares owned by plaintiffs at their “fair value.”  (§ 2000, subd. (a).)  The statute defines “fair value” as the “liquidation value as of the valuation date but taking into account the possibility, if any, of sale of the entire business as a going concern in a liquidation.”  (Ibid.)  If the parties cannot agree on a valuation, the trial court shall appoint three disinterested appraisers to appraise the fair value of the shares.  (§ 2000, subd. (c).)  “The order shall prescribe the time and manner of producing evidence, if evidence is required.  The award of the appraisers or of a majority of them, when confirmed by the [trial] court, shall be final and conclusive upon all parties.”  (Ibid.)

In Goles v. Sawhney, (2016) 5 Cal.App.5th 1014 the California Court of Appeal clarified several important aspects of this appraisal process.  In Goles, the minority shareholders sued for involuntary dissolution and the majority owners invoked the Section 2000 appraisal process.  Three different appraisals were obtained, but none of the appraisers could agree on a value.  The trial court overruled minority shareholder objections to the methodologies used and without holding an evidentiary hearing, the trial court simply averaged the three appraisals.

Derivative Claims

On appeal, the minority shareholders argued the appraisals were flawed because they did not take into account the value of their derivative claims on behalf of the corporation. Derivative claims are legal actions shareholders bring for the benefit of the corporation. Minority shareholders often make derivative claims when the people in control of the corporation damage the business or take its property.  In Goles, the minority shareholders claimed the managers took unauthorized loans, employed family members, used corporate funds to pay personal expenses, and purposefully neglected corporate governance.  The Court of Appeal agreed these derivative claims should be included in the corporate valuation.

“A derivative claim (or other claim that may yield a potential recovery for the corporation) is a corporate asset that must be considered when determining ‘fair value.’”  (Friedman et al., Cal. Practice Guide:  Corporations (The Rutter Group 2016) ¶  8:873.6, p. 8-176; see Cotton v. Expo Power Systems, Inc., supra, 170 Cal.App.4th at p. 1380.)  “If successful, a derivative claim will accrue to the direct benefit of the corporation and not to the stockholder who litigated it.  [Citations.]”  (Grosset v. Wenaas (2008) 42 Cal.4th 1100, 1114.)

None of the derivative claims were considered by the appraisers or the trial court in determining the fair value of Katana.  This was erroneous.  (See Cotton v. Expo Power Systems, Inc., supra, 170 Cal.App.4th at p. 1374; Kennedy v. Kennedy (2015) 235 Cal.App.4th 1474, 1485 [dismissal of derivative claim requires court approval].)  Where a minority shareholder claims that his shares were undervalued because of self-dealing and misconduct by corporate directors and officers, he should be afforded the opportunity to demonstrate that the alleged misconduct in fact occurred.

Control Discount

The minority shareholders also challenged the use of a “control discount” to reduce the value of the minority shares in two of the appraisals.  A “control discount” reduces the value of a minority share based on the presumption that shares are less valuable when you do not control the company.  The Court of Appeal agreed with the minority shareholders and held it was improper to use a control discount in Section 2000 appraisal proceedings.

Section 2000 does not permit a lack-of-control discount when determining the fair value of a minority shareholder interest.  (Friedman et al., Cal. Practice Guide:  Corporations, supra, ¶  8:876, p. 8-178; Ronald v. 4-C’s Elec. Packaging (1985) 168 Cal.App.3d 290, 298.)  “[T]he rule justifying the devaluation of minority shares in closely held corporations for their lack of control has little validity when the shares are to be purchased by someone who is already in control of the corporation.  In such a situation, it can hardly be said that the shares are worth less to the purchaser because they are noncontrolling.  [Citation.]”  (Brown v. Allied Corrugated Box Co. (1979) 91 Cal.App.3d 477, 486.)  The trial court erroneously did not follow section 2000 because it averaged the three appraisals, two of which used a lack-of-control discount to determine the fair value of appellants’ shareholder interest.

Averaging Method

Although the code allows trial courts to reject the three appraisals and make a new determination, the Court of Appeal reversed the trial court’s decision to average the three appraisals because they were based on flawed methodologies, i.e. no derivative claims and a control discount.

Section 2000, subdivision (c) provides that “[t]he award of the appraisers or of a majority of them, when confirmed by the court, shall be final and conclusive upon all parties.”  (Italics added.)  But such an award requires that at least two of the appraisals reach a consensus on fair value.  (See, e.g., Abrams v. Abrams-Rubaloff & Associates, Inc. (1980) 114 Cal.App.3d 240, 248; Brown v. Allied Corrugated Box Co., supra, 91 Cal.App.3d at pp. 489, 491.)  Here, the trial court confirmed all three appraisal reports even though there was no consensus.  If the trial court intended to determine fair value de novo, it could not do so by “confirming” the appraisals and taking the mathematical average of defective appraisals that use a lack-of-control discount and do not consider the derivative claims. … [T]he trial court could not select among conflicting appraisals or decide the matter de novo unless 1. the derivative claim was considered, and 2. the “lack of control” discount was removed from consideration.

The opinion did not squarely address whether trial courts may still make a de novo determination by averaging three non-defective appraisals that relied on proper criteria.