The parties in Leonard v. Ast, 2022 NCBC 35, decided by the NC Business Court last week, were collaborators in a business venture they named Barks and Recreation. Barks was a dog training business which the Defendants felt would funnel business to their already existing dog grooming business, “Just Dog People.”
As anyone interested in the NC Business Court can already guess, there was a falling out among the parties. It happened less than a year after Barks began operations with $100,000 invested by the Plaintiff from her retirement account. (The Defendants contributed no cash, only “sweat equity.”) One of the individual Defendants (Jason Ast) told the Plaintiff to leave the premises of the business and “never return.” Op. ¶13. He also removed her from the email system of the business, its phone lines and cut off her access to the security system cameras.
Continuing their campaign to oust the Plaintiff from the business, the Defendants then called a special shareholders meeting and voted to dissolve Barks.
But Was Barks Really A Corporation?
Plaintiff objected to the special meeting, arguing that Barks was not a corporation. She said that shares had never been issued and that corporate bylaws had never been adopted by the shareholders. Plaintiff’s Complaint included a claim for declaratory relief that Barks was not a corporation but was in fact a partnership.
You might think that a business entity without shares and bylaws could not be a valid corporation (like I did), but you would be wrong. As Judge Earp pointed out:
The North Carolina Business Corporation Act (the “Act”) states that “[c]orporate existence begins when the articles of incorporation become effective[,]” and that “[t]he Secretary of State’s filing of the articles of incorporation is conclusive proof that the incorporators satisfied all conditions precedent to incorporation[.]” N.C.G.S. § 55-2-03(a)–(b)
The Defendants had filed Articles of Incorporation. Given that “conclusive proof” of incorporation, Judge Earp held that “failure to adopt bylaws or issue shares, while problematic in other ways, does not convert a corporation to a partnership.” Op. ¶42.
The Court also rejected Plaintiff’s argument that Barks was not entitled to dissolve itself as a corporation due to the non-issuance of shares. That argument is foreclosed by G.S. §55-14-01(a), which says that “a majority of the incorporators of a corporation that has not issued shares may dissolve the corporation by . . . filing articles of dissolution.” Op. ¶43.
So the claim to have Barks declared a partnership was dismissed.
Business litigation sharpies are undoubtedly wondering about a piercing the corporate veil claim, as disregarding corporate formalities is often the basis for a veil piercing claim. That sort of claim was unnecessary, as the Business Court allowed a breach of fiduciary duty claim to go forward against the individual Defendants.
Plaintiff Did Better With Her Breach Of Fiduciary Duty Claim
Plaintiff’s claim for breach of fiduciary duty ran into a familiar roadblock, the “well-settled principle of North Carolina law that shareholders of a corporation cannot pursue individual causes of action for wrongs or injuries to the corporation.” Op. ¶30. But a shareholder can bring a direct claim “when there is a special duty between the wrongdoer and the shareholder. Op. ¶31 (quoting Barger v. McCoy Hillard & Parks, 346 N.C. 650, 659 (1997)).
Since the individual Defendants claimed to own two-thirds of the (never issued) shares in Barks, Judge Earp observed that “North Carolina courts ha[ve] recognized that individual minority shareholders of a closely-held corporation who act in concert and collectively own the
majority interest in the corporation may owe fiduciary duties as the controlling shareholders.” Op. ¶33.
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That dog picture at the top of this post? That dog has nothing at all to do with Barks and Recreation. That’s Herschel, my dog. He’s a very good dog.
Oh, and notwithstanding the click-baity title of this post, the NC Business Court is not “going to the dogs.”