$85 Million Shareholder Oppression Judgment Reversed

Another installment in the court’s recent spate of shareholder oppression opinions finds the court reversing a judgment in favor of the minority shareholder. Martin and Shagrithaya started a software company named ARGO in 1980 with $1000. Martin and Shagrithaya retained 53% and 47% interests in ARGO respectively and were the sole board members, but Martin had the right to appoint a tiebreaker. There was no express agreement as to employment or compensation, which was determined on a year to year basis. For 25 years, they received equal compensation. By 2008, ARGO was valued at $152 million.

In the early 2000s, tensions arose as Martin became unhappy with what he saw as Shagrithaya’s refusal to take on executive responsibilities. In 2006, Martin unilaterally cut Shagrithaya’s annual compensation from $1 million to $300,000. Soon after, Martin and ARGO’s management began to isolate Shagrithaya. Around this time, the IRS performed an audit of ARGO and found assess it over $7 million in retained earnings tax. ARGO contested this assessment and won. Shagrithaya was not informed of the assessment or contest.

After an independent appraisal of ARGO, Martin offered Shagrithaya $66 million for his shares, representing their values less a 35% minority holder discount. Shagrithaya refused, arguing that there should be no discount because ARGO is not a third-party. Shagrithaya demanded an audit of ARGO and proposed an alternative plan to restore his previous salary, explore a sale of ARGO, and issue an $85 million dividend. ARGO allowed the audit, which uncovered that Martin had misappropriated ARGO funds to his personal use. Martin reimbursed ARGO the amount appropriated plus some amount more. In a final board meeting in December 2008, Martin appointed ARGO president Engebos as the third board member. They voted in favor of Martin’s plans regarding compensation, executive positions, and a$25 million dividend.

After losing the vote on all three issues, Shagrithaya resigned and filed a suit for shareholder oppression and other torts. At trial, Shagrithaya advanced the theory that Martin schemed to withhold compensation and dividends to ARGO so that ARGO could purchase Shagrithaya’s shares at a minority discount and force Shagrithaya out of the company. The jury found in Shagrithaya’s favor, and the trial court entered a judgment awarding Shagrithaya back compensation and ordering ARGO to issue an $85 million dividend.

On appeal, Martin and ARGO challenged the legal and factual sufficiency of the evidence supporting the jury’s finding of suppression. The court reviewed eleven of Martin and AGRO’s actions that the jury found to be oppressive to determine whether they (1) substantially defeated Shagrithaya’s objectively reasonable expectations central to his decision to join the venture or (2) constituted “burdensome, harsh, or wrongful conduct; a lack of probity and fair dealing in the company’s affairs to the prejudice of [Shagrithaya]; or a visible departure from the standards of fair dealing and a violation of fair play.”

ACTS 1 and 7: Martin reduced Shagrithaya’s annual compensation by 70 percent and forced him to report to ARGO’s president, Engebos, without the approval of the Board of Directors or shareholders. The court held that it was not reasonable for Shagrithaya to expect to maintain a level of compensation equal to Martin’s indefinitely without an employment contract. Additionally, the absence of board approval was later corrected at the December 2008 board meeting and the board retroactively cured the discrepancy in Shagrithaya’s actual past compensation. Though Shagrithaya voted against the reduction, the court noted that the inability to control board decisions is inherent in the position of a minority shareholder, citing Patton v. Nicholas. Finally, it did not prejudice Shagrithaya’s rights as a board member because these issues were purely employment matters.

ACT 2: ARGO maintained Martin’s compensation at $1 million without board approval. Shagrithaya argued that this constituted a de facto dividend to Martin, but the court found no evidence of such. And again, the boards retroactively approved and cured this action.

ACTS 3-4: Martin schemed to buy out Shagrithaya retaining earnings and refusing to pay dividends. The court held that these actions alone did not constitute oppression. The dividend were equally suppressed for Martin, and some dividends were issued and shared accordingly with Shagrithaya. Further, there was no evidence that these actions reduced Shagrithaya’s share value. The court noted that Shagrithaya had no specific expectation of dividends, and shareholders have not general expectation of dividends.

ACTS 5 and 11: Martin did not disclose the IRS assessment or ARGO’s engagement of a law firm to challenge it. The court held that because the assessment was reversed, there was no harm to Shagrithaya’s interests, and the legal representation benefited ARGO by securing the reversal.

ACT 6: Martin offered Shagrithaya $66 million for his shares at a minority discount and forced him to accept by withholding dividends. The court held that because Shagrithaya was never forced to relinquish ownership – his intent to sell was voluntary – the fair market value of his minority shares, including the discount, was the proper valuation. Using the shares’ enterprise value in the sale would only be required if ARGO or Martin were forced to purchase them. Further, the mere purchase offer, without other financial pressure, was not oppressive.

ACTS 8-10: Martin’s misappropriation of ARGO assets for his personal use. Martin’s repayment remedied any harm to Shagrithaya prior to trial.

The jury also found for Shagrithaya on his claims for fraud, breach of implied agreement, and breach of fiduciary duty. The fraud claim related to Martin’s failure to disclose his buyout scheme. The court held that his failure to disclose did not harm Shagrithaya because Shagrithaya could not force a dividend and possible sale of shares at that time were to speculative. Shagrithaya’s alleged Martin breached an implied agreement to continue their practice of equal compensation. The court held that this practice was not sufficient to establish an agreement, and in any case the terms of any agreement were too indefinite. Finally, Martin’s retaining of earnings, misuse of funds, and sale of ARGO’s assets did not cause Shagrithaya harm even if it breached his fiduciary duties.

ARGO Data Resource Corporation and Max Martin v. Balkrishna Shagrithaya, 05-10-00690-CV