True Deadlock

This case summary was prepared by Joshua Jacobs

One of the most frightening words in the vocabulary of a corporation is ‘deadlock’. In Delaware, a ‘deadlocked’ board of directors can have its powers transferred to a custodian, or, in the alternative, the entity can be dissolved entirely. These high stakes make it critical to stay abreast of potential evolutions in the ‘deadlock’ standard. That brings us to an important case out of Massachusetts, Koshy v. Sachdev, where the Supreme Judicial Court of Massachusetts wrestled, for the first time, with the state's corporate dissolution statute.[1] Koshy v. Sachdev, 81 N.E.3d 722 (Mass. 2017). In doing so the court engages in a comprehensive analysis of what constitutes a ‘deadlock’ and thereby provides a useful window for any corporate observer.

The Massachusetts deadlock standard, which is a virtual facsimile of Delaware’s[2], requires the petitioning party to show that: (1) “the directors are deadlocked in the management of the corporate affairs”; (2) “the shareholders are unable to break the deadlock”; and (3) “irreparable injury to the corporation is threatened or being suffered.”[3] Id. But how should ‘deadlock’ be defined? The Court supplies the answer in the form of a four factor test.

First, the Court looks to the plain meaning of the word ‘deadlock’ and arrives at the following definition “a state in which progress is impossible, as in a dispute, produced by the counteraction of opposing forces.” Id. At 731. Second, the Court identifies to the size of the corporation at issue and finds that a deadlock is “…more likely to occur in a small or closely held corporation, particularly one where ownership is divided on an even basis between two shareholder-directors.” Id. Third, the Court looks to whether a party has “manufactured a dispute in order to engineer a deadlock” and that in such circumstances, a court should “view the party's claim with skepticism”. Id. Finally, the Court examines the degree and extent of the distrust and antipathy between the directors finding that mutual antipathy “can transform what may begin as a run of the mill disagreement into irreconcilable conflict and stalemate where hostility precludes compromise”. Id.

Utilizing this standard the Court found conclusive evidence that a two member LLC was facing a ‘true-deadlock’ and ordered dissolution. Obviously, this decision is not binding on any Delaware court. However, this detailed analysis, by the highest court of a respected sister-jurisdiction, provides a valuable template for any would-be litigant.

[1] G. L. c. 156D, §14.30
[2] (1) the directors are “so divided respecting the management of the affairs of the corporation that the vote required for curative action by the board as a governing body cannot be obtained.”; (2) because of the deadlock the “business of the corporation must either be suffering or be threatened with irreparable injury” and; (3) “circumstances must be such that the shareholders are unable by shareholder vote to terminate the division between the directors.” In re Shawe & Elting LLC, , 2015 WL 4874733, at *26 (Del. Ch. Aug. 13, 2015), aff'd sub nom. Shawe v. Elting, 157 A.3d 152 (Del. 2017) citing Hoban v. Dardanella Elec. Corp, 1984 WL 8221 (Del. Ch. June 12, 1984).
[3] Sachdev, 81 N.E.3d at 730.