Filed 11/20/18 Clark v. Rael & Letson CA1/4

NOT TO BE PUBLISHED IN OFFICIAL REPORTS

IN THE COURT OF APPEAL OF THE STATE OF CALIFORNIA

FIRST APPELLATE DISTRICT

DIVISION FOUR

Plaintiff Michael Clark is a minority shareholder in defendant Rael & Letson (R&L, or the company), and was formerly its chief executive officer. He alleges R&L wrongfully issued new shares in order to dilute his interest in the company and prevent him from voting himself onto the board of directors, and that he receives no benefit from his stock because R&L has not declared any dividends since terminating his employment. As a remedy for these alleged wrongs, he seeks to have R&L involuntarily dissolved.

The trial court sustained R&L’s demurrer without leave to amend on the ground Clark did not allege facts warranting dissolution as a remedy. In his appeal from the ensuing judgment, Clark argues he alleged facts showing grounds for involuntary dissolution and that the trial court erred in concluding, without trial, that the remedy of dissolution was too drastic. We shall affirm the judgment.

1. BACKGROUND

1. The Complaint and Judicially Noticeable Facts

Because this matter comes to us after a demurrer was sustained, we accept as true the facts pleaded in the complaint, as well as judicially noticeable facts. (Hernandez v. City of Pomona (1996) 49 Cal.App.4th 1492, 1497 (Hernandez).)

R&L asks us to take judicial notice of pleadings in two other actions. One of them is an action by R&L against Clark, his wife, and the Clark Family Partnership for breach of fiduciary duty and other causes of action, alleging Clark misappropriated company funds between 2007 and 2013. (Rael & Letson v. Clark et al., San Mateo County Case No. CIV523065 (A150322).) R&L prevailed on both the complaint and Clark’s cross-complaint. That case is currently before us on appeal.

The other action is a shareholder’s derivative action brought by Clark in 2014, alleging R&L and its directors violated their fiduciary duty to the company. (Clark v. Hagler et al., San Mateo County Case No. CIV530637 (A146833).) According to the complaint, the Internal Revenue Service (IRS) audited R&L, and the defendants agreed to pay additional taxes without first inquiring into the legitimacy of deductions the company had claimed for Clark’s business expenses. The trial court sustained defendant’s demurrer without leave to amend, and we dismissed Clark’s appeal as untimely. (Case No. A146833.)

We grant the request for judicial notice. (Evid. Code, §§ 452, subd. (d), 459, subd. (a).)

2. The Dispute

Clark was R&L’s sole shareholder until 2003, when he established the Rael & Letson Employee Stock Ownership Trust (the ESOT, or the Trust). The Trust then purchased 56,250 shares of R&L’s stock, equivalent to 75 percent of the outstanding stock, leaving Clark with 18,750 shares. Clark continued to work for the company as chief executive officer (CEO) and director until April 2013, when he was suspended as an employee. He later resigned. Subsequently, R&L’s Board of Directors (the board) did not declare any dividends. R&L had never paid stock dividends, but Clark alleged that policy should have changed after his employment was terminated because he was now receiving no benefit from his stock ownership.

Clark was given a proxy for, and planned to purchase, 462 additional shares from the son of a deceased employee of R&L, which would give him control over 19,212 shares. This amount would have allowed Clark to elect himself to the company’s three-person board at the annual shareholders meeting scheduled to be held March 31, 2014. The trustees of the ESOT (the trustees) and the board members and CEO of R&L became aware of the potential purchase. They thwarted Clark’s “reasonable expectation and strategy to return to the Company’s board of directors” by rescheduling the stockholder meeting and, in the interim, amending R&L’s bylaws to increase the number of shares the company was authorized to issue. The board then approved the issuance of 2,000 additional shares and offered them only to the trustees, who purchased them for $95 per share, less than their fair market value. In his shareholder’s derivative action, Clark alleged the proceeds of the stock sale were used to pay additional taxes assessed by the IRS after it audited R&L’s tax returns and found R&L had improperly claimed deductions for Clark’s expenses. Clark was not given the opportunity to buy a proportionate number of the new shares, which Clark alleges was designed to dilute his share of the company’s stock and keep him from being elected to the board. Clark attended the rescheduled meeting in July 2014, but did not have enough shares to elect himself one of the three directors.

Before the July 2015 annual meeting, Clark purchased the 462 shares for $163 per share, the price at which they had been appraised at the end of 2011. At the meeting he again sought to be elected to the board but was again outvoted.

3. Procedural History

Plaintiff asserted a cause of action against R&L for involuntary dissolution of the corporation, alleging that the trustees and the board breached their fiduciary duties to the company and its shareholders and that they were treating him unfairly.[1] (Corp. Code, § 1800.)[2] R&L demurred to the third amended complaint. The trial court sustained the demurrer without leave to amend, ruling the complaint “fails to allege facts sufficient to warrant dissolution as a remedy necessary to protect the Plaintiff’s rights under Corporations Code § 1800(b)(5).” The court entered judgment for defendants.

Clark moved for a new trial. He pointed out the court’s earlier ruling sustaining R&L’s demurrer to the first amended complaint; in that ruling, the court found plaintiff had “sufficiently allege[d] the persistent unfairness required under Corporations Code § 1800(b)(4),” and granted leave to amend to allege facts warranting dissolution as a remedy. Clark argued that the question of the proper remedy was inappropriate on demurrer. The trial court denied the motion.

2. DISCUSSION

Clark argues that he alleged facts showing grounds for involuntary dissolution and that the question of whether the remedy was “too drastic” is one to be decided after trial, not on demurrer.

“A demurrer tests the legal sufficiency of the complaint . . . . [On appeal], the complaint is reviewed de novo to determine whether it contains sufficient facts to state a cause of action. [Citation.] In doing so, we accept as true the properly pleaded material factual allegations of the complaint, together with facts that may be properly judicially noticed.” (Hernandez, supra, 49 Cal.App.4th at p. 1497.) We review the trial court’s result, not its reasoning, for error, and we affirm the judgment if it is correct on any theory. (Hendy v. Losse (1991) 54 Cal.3d 723, 742; Morales v. 22nd Dist. Agricultural Assn. (2018) 25 Cal.App.5th 85, 93.)

Section 1800 authorizes an action for involuntary dissolution of a corporation based on enumerated grounds. One of them occurs when “[t]hose in control of the corporation have been guilty of or have knowingly countenanced persistent and pervasive fraud, mismanagement or abuse of authority or persistent unfairness toward any shareholders” or when the corporation’s “property is being misapplied or wasted by its directors or officers.” (§ 1800, subd. (b)(4), italics added (subdivision (b)(4)).)

A shareholder who holds at least one-third of a corporation’s outstanding shares or equity, “exclusive . . . of shares owned by persons who have personally participated in any of the transactions enumerated in paragraph (4) of subdivision (b)” may bring an action for involuntary dissolution. (§ 1800, subd. (a)(2).) R&L asserts Clark lacks standing because he owns less than one-third of the company’s outstanding shares or equity, and he has not alleged facts showing the trustees of the ESOT—which holds the rest of the company’s shares—engaged in persistent unfairness for purposes of subdivision (b)(4). Therefore, R&L argues, we should not disregard the ESOT’s shares in calculating Clark’s ownership of the company. Because Clark alleges the trustees participated in the transactions upon which he bases his claim, his standing to bring this action depends on whether the behavior he alleges falls within the scope of subdivision (b)(4).

The court in Bauer v. Bauer (1996) 46 Cal.App.4th 1106 (Bauer) analyzed subdivision (b)(4) in detail. The plaintiffs there were shareholders in a family corporation, West Coast, who were forced out after they solicited customers for a rival business. (Id. at pp. 1109–1110.) They sought dissolution of West Coast on the ground that the controlling shareholder, Bruce Bauer, committed fraud and mismanagement by misappropriating corporate assets and failing to pay dividends to shareholders. (Id. at p. 1111.) The trial court found the plaintiffs had not proven they were entitled to dissolution of West Coast. (Ibid.) On appeal, the plaintiffs argued that “persistent unfairness” for purposes of subdivision (b)(4) “must be interpreted in terms of the minority shareholders’ ‘reasonable expectations,’ and that Bruce’s actions toward them violated their ‘reasonable expectations’ and were therefore actionable under subdivision (b)(4).” (Bauer, 46 Cal.App.4th at p. 1113.)

In the course of affirming the judgment, our colleagues in Division Three compared subdivision (b)(4) with the “considerably broader” provisions of section 1800, subdivision (b)(5) (subdivision (b)(5)), which authorizes an action for involuntary dissolution in the case of a corporation with 35 or fewer shareholders where “reasonably necessary for the protection of the rights or interests of the complaining shareholder or shareholders.” (Bauer, supra, 46 Cal.App.4th at pp. 1113–1114, 1116, italics omitted.) Its analysis is relevant to the issue before us. The court explained that, “[i]n enacting the two separate provisions of subdivisions (b)(4) and (b)(5), the Legislature clearly distinguished between a cause of action for involuntary dissolution based on the controlling shareholders’ misconduct, and one based specifically on protection of the rights, interests and expectations of complaining minority shareholders.” (Id. at pp. 1113–1114.) Subdivision (b)(4)’s concept of “persistent unfairness” must therefore be interpreted “in the context of the statute’s general focus on the dominant stockholder’s ‘persistent mismanagement.’ ” (Bauer, 46 Cal.App.4th at p. 1114, italics added.) The court explained that the leading case interpreting subdivision (b)(4)’s predecessor, Buss v. J.O. Martin Co. (1966) 241 Cal.App.2d 123 (Buss), upheld findings of persistent abuse of authority and persistent unfairness to minority stockholders “on the basis of factual circumstances in which the controlling shareholder lost most of the corporation’s business goodwill and market position previously accumulated over the years, alienated customers, discharged or lost the corporation’s competent employees, failed to hire competent employees to carry on the business, deprived minority stockholders of access to corporate books and records, used corporate funds to pay himself excessive salaries, and generally managed and directed the corporation ‘as his private affair,’ to the actual financial loss and detriment of minority shareholders.” (Bauer, 46 Cal.App.4th at p. 1114, citing Buss, 241 Cal.App.2d at p. 135.)

Relying on these standards, the court in Bauer concluded the evidence supported the conclusion that the plaintiffs had not shown misconduct by the dominant shareholder: the corporation performed relatively well under Bruce Bauer’s control; there was no evidence he had paid himself excessive compensation; and he did not bar the plaintiffs from membership on the board of directors. (Bauer, supra, 46 Cal.App.4th at pp. 1114–1115.) The plaintiffs complained that they had been “squeezed out” when their employment was terminated and they were not paid dividends; however, the evidence showed that dividends had never been paid on the company’s stock and that there was a legitimate motive for terminating the employment of one of the plaintiffs. (Id. at p. 1115.) On these facts, the appellate court upheld the finding that the plaintiffs were not entitled to involuntary dissolution under subdivision (b)(4). (Ibid.)

There is, of course, an important difference between Bauer and this case. We are considering a judgment not after trial but after a demurrer was sustained. The question before us is not whether substantial evidence supports the judgment, but whether the complaint “contains sufficient facts to state a cause of action.” (Hernandez, supra, 49 Cal.App.4th at p. 1497.) Nevertheless, we are guided by the legal principles enunciated in Bauer and the authorities upon which it relies.

Clark alleged the trustees, R&L’s board, and its CEO treated him with “persistent unfairness” (Subd. (b)(4)), but Clark does not allege any “persistent” actions that were unfair. His complaint is instead about a single course of action in 2014, in which R&L issued stock and the trustees purchased it. As explained in Buss, persistent is defined as “ ‘continuing in a course of action without regard to opposition or previous failure: tenacious of position or purpose: inclined to persist . . . existing for a long or longer than usual time or continuously: Enduring, Lingering.’ ” (Buss, supra, 241 Cal.App.2d at p. 134.) R&L’s one-time issuance and sale of the stock does not meet this definition. Nor does the allegation that Clark again sought to be elected to the board at the 2015 meeting and was rebuffed constitute an allegation of “persistent” unfairness; Clark does not allege any new actions on R&L’s part upon which he based his right to election.

Moreover, the concept of persistent unfairness must be interpreted in light of the statute’s “focus on the dominant stockholder’s ‘persistent mismanagement’ ” (Bauer, supra, 46 Cal.App.4th at p. 1114), and Clark does not allege that the trustees or board members mismanaged R&L in any way. In fact, he acknowledges the company under their leadership was “quite profitable.” Specifically with regard to the 2014 stock transaction, Clark does not allege that R&L had no authority to issue the additional stock, or that the company itself was harmed by the directors’ actions. Rather, the gravamen of his complaint is that the transaction thwarted Clark’s own “reasonable expectation and strategy to return to the Company’s board of directors.”

Clark cites Sheppard v. Wilcox (1962) 210 Cal.App.2d 53, 59 (Sheppard), and Jones v. H.F. Ahmanson & Co. (1969) 1 Cal.3d 93, 111 (Jones), for the proposition that diluting the value of his shares was unfair to him as a minority shareholder, but these cases do not assist him because neither involved an involuntary dissolution. In an action for breach of fiduciary duty, Sheppard states that stockholders may demand that officers and directors “ ‘do not use their positions for their own personal advantage, or to discriminate between stockholders, or to so cause stock to be issued as to make a profit for themselves or to obtain or retain control of the corporation.’ ” (Sheppard, supra, 20 Cal.App.2d at p. 59.) But the issue was whether a constructive trust was properly imposed to allow minority shareholders to buy pro rata portions of newly issued shares, not whether the corporation should be dissolved. (Id. at pp. 58–59.) Similarly, Jones explained that controlling shareholders have fiduciary obligations to minority shareholders, concluding a demurrer was improperly sustained where the majority shareholders were alleged to have used their control to pursue a strategy that benefited themselves to the detriment of the minority. (Jones, supra, 1 Cal.3d at pp. 105, 115.) The case before us, unlike Jones, is not one seeking damages from a controlling shareholder for breach of fiduciary duty, and Clark has not alleged facts showing self-dealing on the part of R&L’s directors. And in any case, as we have explained, there is no allegation of any conduct regarding the stock transaction that was “persistent” for purposes of section subdivision (b)(4).

Clark also contends R&L’s failure to declare dividends shows persistent unfairness. But the complaint shows that the company had not declared dividends in the past. Clark alleges he advocated for dividends at a board meeting in 2011 or 2012, while he was still a director. He also alleges the company should have begun paying dividends after his employment ceased because the changed circumstances meant he was denied any benefit from his ownership share. “Whether ‘a private corporation should declare and pay a dividend . . . is a matter committed to the sound business judgment of the corporation’s board of directors.’ ” (Barnes v. State Farm Mut. Auto. Ins. Co. (1993) 16 Cal.App.4th 365, 378 [demurrer properly sustained]; see also Bauer, supra, 46 Cal.App.4th at p. 1116, fn. 6 [“it makes a great deal of difference whether dividends had at one time been paid on a regular basis, but were stopped”].) Clark acknowledges that “any lawsuit [he] might bring to challenge the Board’s failure to issue dividends would be doomed by the business judgment rule,” so it is remarkable that he contends the continuation of the preexisting policy of not declaring dividends provides a basis for involuntarily dissolving the corporation.

Because Clark failed to allege facts falling within the scope of subdivision (b)(4), we need not consider whether he was also required to allege facts showing the “drastic remedy of liquidation” (Stuparich v. Harbor Furniture Manufacturing, Inc. (2000) 83 Cal.App.4th 1268, 1279) was necessary.

3. DISPOSITION

The judgment is affirmed.

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Tucher, J.

We concur:

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Streeter, Acting P.J.

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Lee, J.*