SPONSOR VOTING RIGHTS AFTER RELINQUISHMENT OF CONTROL

By Robert Cantor, Esq.
April, 2014

For many years, the courts have discussed the issues which arise when a sponsor/holder of unsold shares (hereafter, “sponsor”) in a cooperative apartment corporation seeks to vote its shares at elections for the board of directors after the statutory period of permitted sponsor control has expired. Justice Ellen J. Coin, recently issued a decision in 420 W. 206th Street Owners Corp. v. Lorick, 2014 WL 468908 (N.Y. Sup. 2014), in which the Court elaborated on the different results which should ensue depending on the specific language of a cooperative corporation's governing documents.

The plaintiff co-op in 420 W. 206th Street (the “Co-op”) has a five member board of directors. The by-laws provided that, given the number of apartments which the sponsor then owned, the sponsor would be permitted to designate two of the directors. The question was whether the sponsor could vote for the other board seats, even assuming that the candidates did not receive salaries or other remuneration from the sponsor.

Specifically, the Co-op's by-laws stated that, upon the earlier of three years subsequent to the closing of title with the Co-op or after 51% of the shares are sold to other than the sponsor, the sponsor will “relinquish control of the Board? and will not elect a majority of the Directors ? even though the number of shares owned by them may enable them to otherwise do so.”

The Court then reviewed the regulatory provision which requires a sponsor to relinquish control, 13 NYCRR 18.3(v) (5) (i), the purpose of which “is to provide that the offering plan contains assurances by the sponsor that it will, inter alia, ultimately relinquish voting control over the board of directors.” This regulation applies where the offering plan or by-laws (i) contain no other limitations on the sponsor's voting rights and (ii) incorporate the language of the regulation by stating that a sponsor must relinquish “voting control” of the cooperative's board, Park Briar Assoc. v. Park Briar Owners, Inc., 182 AD2d 685 (2d Dept. 1992); Rego Park Gardens Assoc. v. Rego Park Gardens Owners, 174 AD2d 337 (1st Dept. 1991).

In such cases, courts have narrowly construed the phrase “voting control” to mean that a sponsor has the power to nominate or designate one less that a majority of board members, and, with respect to the other board seats, to vote for any candidate who is not on the sponsor's own slate or receives a salary or other remuneration from it. The rationale for this conclusion is that, with respect to 13 NYCRR 18.3 (v) (5) (i), the concept of relinquishing board control involves not disenfranchisement of the sponsor, but rather its inability to designate related parties to fill a majority of the board member seats; Matter of Park Briar Assocs., 182 AD2d at 687; Kensington v. Terrace Apts., LLC, 23 Misc 3d 1105(A) at *6.

However the Co-op's by-laws, while incorporating the regulatory language that the sponsor shall relinquish “voting control” over the board, also stated that the sponsor “will not elect” a majority of board members. The Court observed that courts have distinguished “voting control” by-law provisions (where no other restriction exists) from “will not elect” provisions. The Second Department has ruled, in Matter of Flagg Ct. Realty Co. v. Flagg Ct Owners Corp., 230 AD2d 740 (2d Dept 1996) and Visutton Assoc. v. Anita Terrace Owners, Inc. 254 AD2d 295 (2d Dept 1998) that where a sponsor had agreed not to elect a majority of the board, this specific restriction on voting rights prohibited a sponsor from casting any votes for board members other than those members it was entitled to designate.

The Court also noted that the First Department's decisions in “will not elect” cases were historically less clear-cut than the Second Department decisions, and that the First Department had reached different conclusions in two separate decisions rendered in 1996. However, seven years later, the First Department clarified its position in Mundiya v. Beattie, 2 AD3d 317, 318 (1st Dept 2003), where the by-law provision restricted the sponsor to the election of no more than two directors “by reason of its vote” of unsold shares, which phrase is the functional equivalent of a “will not elect” provision. The First Department ruled that this provision clearly limited the sponsor to voting its shares for one less than a majority of the board of directors. In conclusion, the Court's ruling in the instant case was that the sponsor should be restricted to voting his unsold shares only for the two directors he is permitted to designate.

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Robert I. Cantor, Esq., member of member of NAM's (National Arbitration and Mediation) Hearing Officer Panel. He is available to hear arbitrations and mediations throughout the New York Metro area. Mr. Cantor, is a commercial litigation specialist, and is the founding partner of Cantor, Epstein & Mazzola, LLP.

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For any questions or comments, please contact Ms. Silvey via email at jsilvey@namadr.com or direct dial telephone at 516-941-3228.