Zion v. Kurtz, 50 N.Y.2d 92 (1980)

A shareholder agreement that requires unanimous consent for corporate actions, even if it restricts the board of directors’ authority, is enforceable between the original parties under Delaware law, especially when no third-party rights are implicated.

Summary

Zion and Kurtz, the sole shareholders of Lombard-Wall Group, Inc. (Group), entered into a shareholder agreement requiring Zion’s consent for any corporate activities. Despite this, Group entered into interest and escrow agreements without Zion’s consent. The court held that the agreement was enforceable between the parties, even though it was not formally incorporated into Group’s charter, because all shareholders had agreed to it. The court reasoned that Delaware law permits such restrictions, particularly in close corporations, and that Kurtz was estopped from challenging the agreement’s validity. The court modified the Appellate Division’s order, clarifying the ongoing validity of the consent provision.

Facts

Kurtz formed Group to acquire Lombard-Wall Incorporated (Lombard). Zion, through Half Moon Land Corporation, guaranteed Group’s debt. A shareholder agreement between Zion and Kurtz required Zion’s consent for Group to engage in any business activities. Subsequently, Group, without Zion’s consent, entered into agreements that made a previously non-interest bearing loan from Lombard to Group bear interest and established an escrow account to secure the loan. Zion objected to these agreements.

Procedural History

Zion sued for declaratory and injunctive relief, arguing the interest and escrow agreements violated the shareholder agreement. The lower court denied summary judgment to both parties. The Appellate Division reversed, granting summary judgment to Zion on the first cause of action (violation of shareholder agreement) and dismissing defendants’ counterclaim for reformation, while granting summary judgment to defendants dismissing Zion’s second cause of action (regarding the formation of two subsidiaries). The New York Court of Appeals modified the Appellate Division’s order, affirming the declaration of a past violation, dismissing the reformation counterclaim, and dismissing the second cause of action without prejudice, clarifying the ongoing validity of the consent provision.

Issue(s)

Whether a shareholder agreement requiring unanimous consent for corporate actions is enforceable under Delaware law, even if it restricts the board of directors’ authority and is not incorporated in the corporation’s charter.

Holding

Yes, because under Delaware law, a provision proscribing corporate action without the consent of a minority stockholder is not against public policy and, under the circumstances of this case, is enforceable even though not incorporated in the corporation’s charter.

Court’s Reasoning

The court applied Delaware law, as stipulated in the shareholder agreement, noting that Delaware law permits restrictions on director authority, especially in close corporations. Delaware General Corporation Law sections 350, 351, and 354 do not invalidate agreements restricting director discretion. The court emphasized that Kurtz, as the initial sole shareholder, consented to the agreement and was thus estopped from challenging its validity. The court reasoned that the agreement’s language, prohibiting “any business or activities of any kind,” was comprehensive and unambiguous. The court rejected the argument that the term “engage” necessitates multiple actions, finding that the context indicated a broader prohibition. The court emphasized the importance of protecting the minority shareholder’s interests, especially considering the guarantee provided by Half Moon. The court stated, “the agreement requires nothing that is not permitted by statute, and all of the stockholders of the corporation assented to it.” The court found no basis for reformation of the contract, as the parties engaged in an arm’s-length transaction with clear intentions. The court emphasized that the consents to form the subsidiaries were not conditioned upon the actual deposit of stock in escrow. The court concluded that the consent provision in the shareholder agreement remained in effect, rejecting the argument that it terminated upon full payment of the note.