Business Relations

What happens when you’re in business with someone whose behavior harms the LLC but who refuses to leave voluntarily?

Ideally, you have a well-drafted buy-sell agreement or operating agreement that addresses this exact situation and clearly lays out next steps. If not, you may be able to go to court to pursue judicial dissociation, the court-ordered removal of a member from an LLC.

South Carolina courts are typically reluctant to take such a drastic step, but it can be done. This blog will cover what it takes for a court to grant judicial dissociation in SC according to state statute and look at a case where the appeals court did not grant judicial dissociation, reversing the circuit court’s earlier decision. Note: We previously covered this case, The Boathouse v. Richard Stoney (2024) (read it here), on the issue of whether a single member “class of one” can bring a derivative action in SC.

South Carolina Statute on Judicial Dissociation

South Carolina Code Section 33-44-601 lays out the many ways in which a member of an LLC may be dissociated from the LLC, with subsection (6) specifically listing the circumstances under which a member may be expelled by judicial determination:

• If the member engaged in conduct that “adversely and materially” affected business;
• If the member committed a “material” breach “wilfully or persistently” of the operating agreement or duty owed to the company and other members, as described in Section 33-44-409 (covering General standards of member’s and manager’s conduct); OR
• If the member’s conduct relating to the business made it “not reasonably practicable” for the business to carry on with that member.

If a member’s conduct fits into one or more of the categories above, he or she may be removed from the LLC by the court.

Factors to Consider Whether Judicial Dissociation Is Warranted

That’s what the law says, but it’s up to the court to apply it on a case-by-case basis.

In the Boathouse opinion, the SC appeals court cited an “instructive” decision from the Supreme Court of New Jersey, IE Test, LLC v. Carroll (N.J. 2016), which laid out several factors to consider (while noting that it’s not binding on the South Carolina court):

1. The nature of the LLC member’s conduct relating to the LLC’s business;
2. Whether, with the LLC member remaining a member, the entity may be managed so as to promote the purposes for which it was formed;
3. Whether the dispute among the LLC members precludes them from working with one another to pursue the LLC’s goals;
4. Whether there is a deadlock among the members;
5. Whether, despite that deadlock, members can make decisions on the management of the company, pursuant to the operating agreement or in accordance with applicable statutory provisions;
6. Whether, due to the LLC’s financial position, there is still a business to operate; and
7. Whether continuing the LLC, with the LLC member remaining a member is financially feasible.

The New Jersey Supreme Court states that mere conflict isn’t enough to warrant dissociation. Members seeking to expel another member through forcible dissociation must “clear a high bar” and prove that it’s not reasonably practicable to carry on the business with the member.

The Boathouse case: Judicial Dissociation in Practice

All of that sounds well and good, but it’s very theoretical. What does it look like in real life?

In the Boathouse case, the circuit court granted a motion for judicial dissociation of a member, which the appeals court later reversed.

For a more thorough look into the interesting background of this case, read our previous blog. Briefly: Cousins Laurence Stoney and Richard Stoney are both members, along with other individuals, of an LLC that runs the popular Charleston-area restaurant The Boathouse on Breach Inlet. Over the course of many years, Laurence alleged, Richard misspent company funds, taking money earned by the Boathouse and spending it in his other businesses and on personal expenses such as vacations and polo ponies. Richard, through a different but related LLC, ended up owing the Boathouse LLC $4 million.

But the motion for dissociation was not against Richard, it was against Laurence. Laurence sought to bring a derivative action as a “class of one” against Richard for his conduct. In turn, Richard and a few other third-party Intervenors filed a motion to dissociate Laurence from the company. The circuit court granted the motion to dissociate Laurence, based on:

1. Laurence denigrating the company to vendors,
2. Laurence’s efforts to change ownership and management during Richard’s divorce, and
3. Laurence’s efforts to purchase land that Richard had an interest in without disclosing his efforts to Richard

The court of appeals looked at whether this behavior reached the high level required for forcible judicial dissociation.

Why the Appeals Court Reversed the Circuit Court

The South Carolina Court of Appeals found that “none of these incidents evidence conduct relating to the Company’s business that would warrant judicial dissociation.” In addition, the animosity between the members was not substantial enough to warrant judicial dissociation, as much of the animosity stemmed from disagreements over Richard’s use (or misuse) of company funds.

As to the other factors laid out by the New Jersey court, cited above, the South Carolina appeals court notes that Laurence was not in a position to create a deadlock or interfere with the running of the business, owning just a 5% stake; the Boathouse restaurant still brought in money and was projected to continue with strong sales; and the LLC would not be prevented from continuing to operate if Laurence remained a member.

The appeals court ultimately held that the circuit court erred when it found Laurence “engaged in conduct relating to the company’s business which makes it not reasonably practicable to carry on the business with the member” and reversed the grant of the motion for dissociation.

A Better Option: Solid Corporate Governance Documents

You don’t know what the future holds for your LLC, but you can be sure that it won’t always be smooth sailing. So figure out what to do in advance, instead of deciding how to handle the storm only after it strikes. When a situation does arise in the future, you can turn to your corporate governance documents instead of the courts.

At the least, when you are going into business with another person you should have:

An Operating Agreement. An operating agreement lays out the roles and responsibilities of each party so everyone is clear on what his or her job is and knows when a member is not living up to his or her duties. An operating agreement often includes provisions for removing or dissociating a member in certain situations such as misconduct or breach of duty.

A Buy-Sell Agreement. A buy-sell agreement sets the rules for how and when changes in ownership occur due to things like death, disability, divorce, or dispute. Members can agree in advance on what to do if one member does not live up to his or her duties as outlined in the operating agreement, which could include buying him or her out. Read more about buy-sell agreements here on our blog.

It’s best to have these drawn up when you start up your business, while all members are still on good terms. However, if you’ve been in business for a while and still don’t have anything in place, you can do it now – it’s never too late.

For Corporate Governance Documents and Strategic Legal Advice, Call Gem McDowell

To draw up or review operating agreements, buy-sell agreements, and other corporate governance documents, or for strategic business advice, call Gem at the Gem McDowell Law Group. Gem and his team help South Carolina businesses and business owners with starting, buying, selling, and more. With over thirty years in practice in the state, Gem has the experience to help you grow, avoid mistakes, and protect your interests.

The Gem McDowell Law Group has offices in Myrtle Beach and Mt. Pleasant, SC. Call 843-284-1021 today to schedule your free, no-obligation consultation.