Minnesota common-law and the Minnesota Business Corporations Act (“MBCA”) create certain fiduciary duties owed by the majority shareholders of a corporation to the corporation’s minority shareholders. In McKee v. St. Paul Eye Clinic, P.A., No. 62-CV-12-8028 (Minn. Ct. App. Apr. 20, 2015), the Minnesota Court of Appeals affirmed the decision of the Ramsey County District Court in holding that the majority shareholders of St. Paul Eye Clinic did not breach their fiduciary duties owed to McKee, a minority shareholder, because certain documents detailing an incident of abuse were original source documents, and therefore exempt from restrictions in the peer review statute. The court’s decision in McKee demonstrates Minnesota courts’ application of the business-judgment rule and its deference to the terms of a written agreement to reflect a party’s reasonable expectation of employment.
Background
Scott R. McKee, M.D. was a 30-year employee of St. Paul Eye Clinic, P.A. and Eye Surgery Associates, Inc., working as an ophthalmologist and surgeon. St. Paul Eye Clinic and Eye Surgery Associates are closely-held corporations that employ physicians for its clinics and Midwest Surgery Center, its outpatient surgical facility. In addition to serving as a physician, McKee was a shareholder of the closely-held corporations.
In 2008, McKee entered into an at-will employment agreement with St. Paul Eye Clinic that included a provision stating that his employment could be terminated with or without cause. McKee also signed a stock-sale-and-redemption agreement, in which McKee acknowledged that he did not have any reasonable expectation under Minn. Stat. § 302A.751 that his status as a shareholder entitled him to rights as an employee or officer of the company that would not exist if he were not a shareholder.
McKee was accused of assaulting two cataract patients during 2010 and 2011 surgeries. In August 2010, McKee was accused of delivering several closed-fisted blows to an elderly patient’s head after the patient failed to follow McKee’s verbal commands during surgery. Two of the assisting nurses drafted an incident report outlining their observations of the patient abuse and delivered it to their supervisor within a week. The report was shared within multiple Midwest Surgery Center committees, which ultimately requested McKee attend anger-management counseling. In February 2011, McKee again struck an elderly patient during a cataract extraction surgery to gain the patient’s compliance with McKee’s instructions. One of the attending nurses reported the incident to her supervisor, who then relayed the information to several physicians at the St. Paul Eye Clinic.
In response to the second account of patient abuse committed by McKee, the physicians convened a special meeting of the board of directors to discuss the issues. The board approved submitting a confidential third-party-report form to the Minnesota Health Professional Services Program (HPSP) asking it to investigate McKee for any sign of physical, mental-health, or chemical-dependency issues that would explain McKee’s behavior.
At a March 2011 board of directors meeting, McKee denied hitting the patient in February and explained that he was using medical techniques to address complications that arose during the August 2010 surgery. The board voted to place McKee on indefinite leave of absence pending the outcome of the HPSP report. Two weeks later the HPSP report found no evidence of an untreated disease causing McKee’s behavior.
At an April 2011 retreat attended by all St. Paul Eye Clinic physicians, McKee, appearing agitated and aggressive, demanded he be allowed to return to active employment. Several days later, the board unanimously voted to terminate McKee’s employment. McKee brought an action alleging breach of fiduciary duty and age discrimination. The district court granted respondents’ motion for summary judgment for failure to state a material fact demonstrating a causal connection between an alleged breach of fiduciary duty by respondents and McKee’s claimed damages.
Duty of Shareholders in Closely-Held Corporations
Both the MBCA and common-law impose certain fiduciary duties on the shareholders of a closely-held corporation. The MBCA requires shareholders in closely-held corporations to act in an honest, fair, and reasonable manner. Minn. Stat. § 302A.751, subd. 3a. Similarly, common-law fiduciary duty, requires shareholders in a close corporation to deal openly, honestly, and fairly with other shareholders. Pedro v. Pedro, 489 N.W.2d 798, 801 (Minn. App. 1992).
In determining whether the majority shareholders breached their fiduciary duties to McKee, the court considered the business judgment rule. The business judgment rule creates a “presumption that in making a business decision, the directors of a corporation acted on an informed basis, in good faith and in the honest belief that the action taken was in the best interests of the corporation.” In re Xcel Energy, Inc., 222 F.R.D. 603, 606 n.3 (D. Minn. 2004) (quotation omitted).
Business Judgment Rule
Miority shareholders and members have a right to proper conduct by corporate fiduciaries. See Minn. Stat. §302A.251,261. Directors, officers, governors, and managers must perform the duties of their respective positions in good faith, in a manner the individual reasonably believes to be in the best interests of the company, and with the care an ordinarily prudent person in a similar position would exercise under the circumstances. Id. In exercising the duties, the individual may “rely on information opinions, reports, or statements, including financial statements and other financial data” prepared or presented by officers or employees of the company whom the individual reasonably believes to be reliable and competent, counsel, public accountants, or other individuals whom the individual reasonably believes are acting within the individual’s professional or expert competence, and a committee of the board, in which the individual is not a member, acting within its designated authority. Id.
“Shareholders in closely-held corporations owe one another a fiduciary duty.” Evans v. Blesi, 345 N.W.2d 775, 779 (Minn. App. 1984). Owing a fiduciary duty includes dealing “openly, honestly, and fairly with other shareholders.” Id. A breach of one’s fiduciary duties can extend beyond depleting a corporation’s value. In Evans, the court found that majority shareholders breached their fiduciary duties to a minority shareholder by forcing his resignation. Id. at 779-80. However, Minnesota has also held that, “[n]o breach of fiduciary duty occurs if the controlling group can demonstrate a legitimate business purpose for its action.” Gunderson, 628 N.W.2d at 191.
In this case, the court found that the majority shareholders made a rational business judgment to terminate McKee’s employment. Here, the court determined that the majority shareholders presented compelling evidence that McKee committed patient abuse and that respondents’ inquiry into the abuse was sufficient to justify McKee’s termination.
Reasonable Expectation of Employment
Shareholders of a closely-held corporation or members of a limited liability company have a duty to one another to act in an honest, fair, and reasonable manner in the operation of the company, and in maintaining the reasonable expectations of all shareholders and members as they exist at the entity’s inception and develop over the course of the shareholder or member’s relationship with the company and its shareholders or members. Minn. Stat. §302A.751. The shareholder or member’s reasonable expectations are presumed to be reflected in any written agreement entered into between or among shareholders and the corporation. Id. However, a shareholder or member can demonstrate his or her reasonable expectations to continue acting in the role as a shareholder or member based upon oral representations, absent a written agreement expressly providing otherwise. See Gunderson, 628 N.W.2d at 185. (holding that “reasonable expectations” can be determined by the terms of a written buy-back agreement if they were bargained for in the agreement).
An expectation of continuing employment is reasonable in the first instance if:
- continued input was a significant reason for the shareholder investing in the business;
- the shareholder’s expectation of continued input was known and accepted by the other shareholders;
- the course of dealing between the shareholders implies an understanding or agreement; “the shareholder’s salary and benefits constitute de facto dividends” and procuring employment with the corporation was a significant reason for investing in the business;
- the shareholder’s continuing input is not unduly burdensome against the controlling shareholder’s “need for flexibility to run the business in a productive manner.”
Id. at 185-191.
Perhaps the seminal Minnesota case on the issue of an owner’s reasonable expectation of employment is Pedro v. Pedro, 489 N.W.2d 798 (Minn. App. 1992). In Pedro, one brother, an equal owner in the family business, was terminated by his two other brothers because he complained about accounting discrepancies. Alfred Pedro was then forced to sell his ownership interest to the company under the terms of a stock retirement agreement for 75% of the fair value of his interest. The court found that due to the length of time the brothers worked for the company, it was reasonable for Alfred Pedro to assume that after working for the company for the last 45 years that he would continue working for the company until he chose to retire. As a result, the court found that Alfred Pedro was entitled to damages for both breach of fiduciary duty and lost wages under Minn. Stat. §302A.751, subd. 3(a), to account for his interest as an owner and employee of the company. Id. at 803.
The court also considered McKee’s reasonable expectation of continued employment. As noted, a shareholder-employee’s reasonable expectation of continued employment is reasonable if it “can fairly be characterized as part of the shareholder’s investment.” Gunderson, 628 N.W.2d at 191. Any expectation of continued employment, however, must be balanced against the reasonableness of the employee-shareholder’s expectation and “the controlling shareholder’s need for flexibility to run the business in a productive manner.” Gunderson, 628 N.W.2d at 186, 191.
The court determined that when viewing the evidence in the light most favorable to McKee, no rational factfinder could conclude that McKee possessed a reasonable expectation of continued employment, based upon the provisions of the employment and buy-sell agreement. A shareholder’s expectations are presumptively reflected in the buy-sell agreement as to matters covered by the agreement. Gunderson, 628 N.W.2d at 186. As an at-will employee, McKee knew that his employment could be terminated at any time. Moreover, the buy-sell agreement demonstrated McKee’s reasonable expectation that he had no additional rights as an employee by virtue of his status as a shareholder.
Conclusion
Shareholders and other fiduciaries of companies and small businesses are tasked with handling the well-being of the business, as well as taking care of the interests of other shareholders. As long as they are not breaching any agreements and have a rational business justification for their actions, courts will give great deference to fiduciaries operating a business. However, this deference may be limited by agreements with other fiduciaries of the company, such as shareholder or employment agreements.
If you have questions about drafting, enforcing, or resolving disputes involving a shareholder agreement, contact the business attorneys at Trepanier MacGillis Battina, P.A.
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About the Author:
Minnesota business attorney James C. MacGillis advises clients on corporate and business law matters such as business entity formation, business transactions, and corporate governance. Jim may be reached at 612.455.0503 or jmacgillis@trepanierlaw.com. Trepanier MacGillis Battina P.A. is a Minnesota business law firm located in Minneapolis, Minnesota.