California Partition Law Blog
The statutory LLC buyout is a special remedy designed for lawsuits seeking to dissolve LLCs. After members of the entity sue to dissolve the business, the other members (all of them or some of them) have the statutory ability to avoid dissolution by buying out the membership interests of these “moving parties.”
However, problems can arise, especially when it comes to setting the buyout value. Additionally, there are some situations where the buyout can actually be terminated altogether. At Underwood Law Firm, our attorneys are knowledgeable in the fields of pass-through entities and real property. If you’re looking to proceed with dissolution, then we may be able to help.
When Can an LLC Buyout Occur?
The mandatory statutory buyout is limited to “any suit for judicial dissolution.” (Corp. Code § 17707.03.) Put simply, this means that in order for the buyout procedure to begin, there needs to have been a lawsuit in place for judicial dissolution of the subject LLC. Absent a lawsuit, the provisions of the buyout statute do not apply.
This, though, leads to the question of when and how a suit for judicial dissolution occurs. Under the statute, any manager or any member of an LLC may ask the court to formally dissolve the LLC upon the happening of several specified events. Under the code, those events are that: (1) it’s not reasonably practicable to carry on the business; (2) dissolution is reasonably necessary in the interest of the members; (3) the business has been abandoned; (4) management is completely deadlocked; or (5) those in control of the LLC are guilty of fraud or abuse of authority. (Corp. Code § 17707.03 (b).)
If any of these are present, the court can move forward with dissolving the entity. This is true even where the manager or member suing owns a relatively small portion of the LLC (even 1%).
What is the Statutory LLC Buyout?
Once a lawsuit for judicial dissolution has been filed, the buyout becomes available to the other members of the LLC.
Per the code, “the other members may avoid the dissolution of the limited liability company by purchasing for cash the membership interests owned by the members so initiating the proceeding, the “moving parties,” at their fair market value. (Corp. Code § 17707.03 (c)(1).)
This effectively allows the other LLC members to avoid dissolution. The LLC does not being wind up procedures. Instead, the membership interests of the parties who filed the suit are transferred to the other members participating in the buyout.
This is because California has an “interest in preserving the corporate enterprise as a going concern if desired by the majority or by the other 50% owners,” and providing a “meaningful alternative” to termination. (Mart v. Severson (2002) 95 Cal.App.4th 521, 524.)
What is the Procedure for the Statutory LLC Buyout?
The key provision for the LLC buyout is “fair market value.” That is the price of the membership shares that are being sold to the other members. After a party or parties submit their intent to participate in the buyout, the court must ascertain and fix the fair market value of the membership interests.
In order to do this, the court will appoint three disinterested appraisers to appraise the fair market value of the membership interests. After the appraisers are finished valuing the interests, the court must confirm the appraised value.
Importantly, once the value is confirmed, it is “final and conclusive” upon all parties. (Corp. Code § 17707.03 (c)(3).) After confirmation, the court will then issue an order decreeing the LLC shall begin winding up unless payment is made for the membership interests within the time specified.
This is all straightforward. But it’s also important to recognize what happens if buyout payments are not made in time. When this happens, the Code states that judgment shall be entered against the purchasing parties, and those parties will need to pay the court expenses of the lawsuit, and the attorney’s fees of the moving parties.
What is the Fair Market Value for the Statutory LLC Buyout?
As stated, the buyout price for the moving parties is the “fair market value” of their membership interests. But this term can be confusing, especially in light of other Corporations Code buyout procedures for different types of entities that use “fair value” as their buyout standard.
The courts have explained that fair market value is the price at which the property would change hands between a willing buyer and willing seller when the former is not under any compulsion to buy, and the latter is not under any compulsion to sell. (Rappaport v. Gelfand (2011) 197 Cal.App.4th 1213, 1228.)
This is different from fair value, which refers to the liquid value of a shareholder’s stock in a corporation. (Corp. Code § 2000) Fair market value actually considers the conditions of the “market.”
Can an LLC Buyout be Stopped?
Sometimes, but the availability of this option is very limited. For instance, one may think that the moving party, having received a valuation for his shares that is disappointing, might just decide to dismiss his lawsuit. Under the law, a plaintiff has a right to voluntarily dismiss their lawsuit at any time before actual commencement of trial. (CCP § 581.)
But this is not the case with LLC buyouts. In fact, the statute explicitly provides that “once the buyout procedure is commenced, the moving party cannot, by dismissing the judicial dissolution action, prevent the buyout procedure from going forward.” (Kennedy v. Kennedy (2015) 235 Cal.App.4th 1474, 1487, citing Corp. Code § 17707.03 (c)(6).)
Instead, the way to prevent a buyout is for the LLC itself to voluntarily dissolve. Under Corporations Code section 17707.01, the LLC is considered “dissolved” upon the first of several occurrences. One of these is judicial dissolution, but another is by a vote of 50% or more of the voting interests.
As stated, the buyout halts a judicial dissolution. Even after the court confirms the appraisers’ valuation for fair market value, a judicial dissolution has yet to occur. As such, if 50% of the LLC decides that it would be better to dissolve, and votes accordingly, it doesn’t matter if the buyout is at the finish line.
If a vote to dissolve is passed, the buyout operation is terminated, and the business entity will instead be wound up. (Friend of Camden, Inc. (2022) 81 Cal.App.5th 1054, 1066.)
How the Lawyers at Underwood Law Firm Can Help
Business dissolution suits can get messy. Some members will inevitably wish for the relationship to continue, while others may only be looking out for the biggest payday. In these situations, the right attorney can make all the difference.
As each case is unique, LLC members would be well-served to seek experienced counsel familiar with pass-through entities and the winding up procedure. At the Underwood Law Firm, our knowledgeable attorneys are here to help. If you are trying to begin dissolution, wondering whether you can fight one off, or if you just have questions, please do not hesitate to contact our office.