The Right to Reject and Entity

The Right to Reject an Entity

May a cooperative housing corporation refuse to allow an entity to purchase shares, even though its consent may not be “unreasonably withheld”? The answer was sought in Cia. Naviera Financiera Aries, SA v. 50 Sutton Place South Owners Inc.

Theodore Xenakis bought shares of 50 Sutton Place South Owners Inc. and was the proprietary lessee of Apartment 6J. In August 1980, he purported to transfer the shares and assign the lease to Cia. Naviera Financiera Aries, a corporation organized under the laws of Panama. Xenakis placed copies of the assignments in a file he maintained. He never told that co-op’s board that he had transferred the shares and lease.

In or about 2009, Xenakis transferred his stock in Aries to a friend, Georgios Anastasakis. Xenakis died on March 24, 2010, and Anastasakis claimed that he did not know Aries (and thus he) owned the apartment; he learned this when going through Xenakis’s documents. Anastasakis did not want to live in the apartment and wanted only the right to sell it, subject to approval by the board. The co-op, however, refused to acknowledge the transfer to Aries.

Aries sued, seeking a declaration that it was the owner of the shares. The co-op challenged the validity of the assignment and made a motion for summary judgment to dismiss the action. Aries cross-moved and sought summary judgment that it was the owner of the shares. It claimed that the board arbitrarily and improperly refused to acknowledge the assignment.

The court first discussed the standard for a motion for summary judgment. Although this case was started in federal court, similar to state court actions, the proponent of the motion had to show that based on all of the pleadings, discovery, disclosure, and materials, there was no genuine issue of fact that would preclude the court from granting judgment for that party.

In order to defeat a motion, the non-moving party had to set forth specific facts that demonstrated a material issue of fact.

The co-op relied on its documents when seeking judgment. It argued that Xenakis did not follow the co-op’s rules when he arguably assigned the shares and lease to Aries. The co-op’s bylaws provided, among other things, that “no transfer of shares shall be valid against the Corporation ... until is shall have been entered in the shares ledger ...” The proprietary lease stated that no transfer or assignment would be effective against the corporation unless the shareholder met certain requirements, including payment of transfer taxes, and obtained the consent of the co-op to the transfer.

There was no dispute. Xenakis never recorded the transfer on the books of the corporation and never entered any information in the corporation’s shares ledger; he never delivered the assignment to the co-op; never paid transfer taxes or the co-op’s fees and expenses; and never obtained the co-op’s consent to the transfer. Aries claimed that it did not take these steps because to do so would have been futile because Xenakis knew the board had a policy by which it refused to permit ownership by corporations.

Aries explained (and the co-op conceded) that there was no explicit prohibition against an entity owning an apartment in the bylaws, the proprietary lease, or the stock certificate. Aries challenged the rule that corporations could not own as arbitrary. The court rejected the argument, noting that judicial review of a co-op board’s policies was deferential and that it was akin to the Business Judgment Rule, in which courts exercised restraint and deferred to decisions made by the board provided that the board acted for the purpose of the co-op within the scope of its authority and in good faith.

The bylaws and lease gave the co-op, through its board, the authority to approve any lease assignments and share transfers.

Aries correctly argued that, to the lease, the board could not “unreasonably withhold” its consent to a transfer. However, Aries did not show any reason why the board’s refusal to approve assignments to corporations was unreasonable. As such, the court found that there was no genuine issue of fact as to whether the board acted within the scope of its authority by refusing to recognize Xenakis’s transfer to Aries.

The court also noted the co-op’s several legitimate reasons for its policy to not allow entities to own. All are related to the board’s right to control who resided in an apartment. The co-op argued that corporations would use apartments to house directors or officers, who would be transient tenants and whose residency would be contrary to the co-op’s goal of having residents of a permanent nature. Further, the co-op had a concern that corporate employees would use the apartment, further diminishing the co-op’s control over who lives there. Finally, the co-op raised its concern about accountability and liability when there was a corporate, rather than individual, shareholder/tenant.

The court determined that, even though Aries argued that it did not want to live in the apartment and that it merely wanted the right to sell it, the co-op’s concerns were valid. There was no reason to strike down the co-op’s policy or to require it to make an exception for Aries.

The court also explained that Aries offered no evidence of bad faith. The policy against corporate ownership was in effect before the events in question. There was no evidence that it was applied to Aries arbitrarily. On the contrary, even Aries argued that the policy was applied to everyone.

Aries raised another issue – that, as owner of the apartment, Xenakis had the right to transfer the apartment as an “inter vivos” gift without the approval of the board, even if approval was typically required. The co-op argued, however, that Aries had not demonstrated that there was an inter vivos gift, primarily because it did not demonstrate delivery.

In order to prove an inter vivos gift, the person claiming the gift must have demonstrated (i) an intent on the part of the donor to make a transfer; (ii) delivery to the donee, whether actual or constructive; and (iii) acceptance by the donee. The delivery had to be done in such a way as to vest the donee with control and dominion over the property. The court explained that while symbolic delivery was sufficient, it had to proceed to a point of no return, i.e., in the corporate context there had to be a transfer shown on the stock books of the corporation.

Here, Anastasakis stated that he did not know that Aries owned the shares and lease until after Xenakis died. The purported transfer was also not recorded in the corporation’s books. Aries apparently argued that, because Xenakis owned Aries, delivery was not necessary because the transfer to Aries constituted a delivery to himself. The court rejected that argument, however, and determined that there was no issue of material fact concerning whether Xenakis made a valid inter vivos gift to Aries. He did not.

Accordingly, the court granted judgment to the co-op and dismissed the case.

Comment: This case presents an interesting fact pattern and reminds us that, unless a share transfer is recorded in the corporation’s books and records, the corporation will not be required to acknowledge the transfer. We note that court records reflect that Xenakis’s estate intervened in this action. While this decision is obviously binding on Aries and the cooperative, we do not know whether this decision will be dispositive of claims made by Xenakis’s beneficiaries, if any, against Aries and Anastasakis for the right to receive the proceeds from any sale of the apartment.

The lease provision here apparently required the board to “not unreasonably withhold” its consent to a transfer, which is a provision we do not normally see in the context of transfers (more often, boards can withhold consent for any reason or no reason, absent discrimination). Notwithstanding, the court applied the Business Judgment Rule and determined to give deference to the board’s long-standing, yet apparently unwritten, rule that prevented corporations from owning shares. The court also discussed and acknowledged the board’s legitimate reasons for the rule.

This case is a good reminder that co-ops need to exert control over their shareholders and, to a degree, those people who are entitled to live in the building. Shares may not be sold freely and shareholders must comply with the provisions of their co-op’s governing documents in order to make sure any transfer is effective for the protection of all shareholders because of their economic interdependence.

Attorneys

For Aries

Raymond Aloysinus Connell

For 50 Sutton

Peter Axelrod & Associates

For the Estate of Xenakis

Herman Max Leibowitz