Real Carriage Door Company, Inc., V. Don T. Rees ( 2021 )

Filed
Washington State
Court of Appeals
Division Two
May 11, 2021
IN THE COURT OF APPEALS OF THE STATE OF WASHINGTON
DIVISION II
REAL CARRIAGE DOOR COMPANY, INC., No. 53991-8-II
ex. rel. SCOTT T. REES, MARDIE A. R.
BRODERICK and JEREMY E. BRODERICK,
Shareholders Thereof; and SCOTT T. REES,
MARDIE A. R. BRODERICK and JEREMY
E. BRODERICK, Individually,
Appellants,
v. PART PUBLISHED OPINION
DON T. REES,
Respondent.
MAXA, J. – Scott Rees, Mardie Broderick, and Jeremy Broderick (collectively,
appellants) appeal the trial court’s dismissal after a bench trial of their claims against Don Rees
for minority shareholder oppression, breach of fiduciary duty, and fraud.
Don Rees is the president, chief executive officer (CEO), and majority shareholder of
Real Carriage Door Company, Inc. (RCDC), a family business. Scott1 and Mardie are Rees’s
children and Jeremy is his son-in-law. They are minority shareholders of RCDC who at one time
worked for the company. When Rees filed for a divorce from his wife, the appellants sided with
her and eventually terminated their employment with RCDC. Rees subsequently discontinued
1
This opinion will refer to appellants by their first name when referencing them as individuals to
distinguish them from family members with the same last name. No disrespect is intended.
No. 53991-8-II
making dividend distributions to all shareholders and, to replace the dividends he ordinarily
would have received as the majority shareholder, increased his own salary by over $1 million in
the first year and over $700,000 in subsequent years.
We hold that, contrary to the trial court’s conclusion, under the facts of this case Rees’s
conduct constituted minority shareholder oppression as a matter of law and entitles the appellants
to relief. In the unpublished portion of this opinion, we affirm the trial court’s dismissal of the
appellants’ breach of fiduciary duty and fraud claims.
Accordingly, we reverse in part and affirm in part the trial court’s judgment dismissing
the appellants’ claims, and we remand for the trial court to determine the appropriate relief for
the appellants’ minority shareholder oppression claim.
FACTS
Background
Rees was the founder, president, and CEO of RCDC. RCDC was converted to an S
corporation organization, which meant that RCDC did not pay federal income tax at the
corporate level. Instead, RCDC shareholders were responsible for paying taxes on their pro rata
shares of RCDC’s profits. At that point, Rees owned 51 percent and his wife Beth Rees owned
49 percent of the company’s shares.
In 2006, Beth2 began working for RCDC and eventually took on a human resources role.
Rees later created positions in RCDC for their two adult children, Scott and Mardie, and
Mardie’s husband, Jeremy. Between 2010 and 2013, Rees and Beth gifted shares of RCDC
stock to Scott, Mardie, and Jeremy as incentive for them to continue to work for and contribute
2
This opinion will refer to Beth by her first name to distinguish her from Rees. No disrespect is
intended.
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No. 53991-8-II
to the success of RCDC. Rees and Beth wanted the appellants to eventually take over the
business.
Scott owned 6 percent of RCDC’s shares. He managed RCDC’s website and computer
needs. Mardie owned 3.1 percent of RCDC’s shares. She worked in sales at RCDC, but she
stopped working at RCDC in October 2009 after giving birth to her child. Jeremy owned 2.9
percent of RCDC’s shares. Jeremy worked as a door drafter, in pricing, and in sales engineering
at RCDC.
After gifting Scott, Mardie, and Jeremy their respective shares, Rees retained 51 percent
and Beth retained 37 percent of RCDC’s shares.
Rees Separation and Divorce
In March 2013, Rees and Beth separated. The appellants blamed Rees for the couple’s
marital problems, and the appellants’ relationships with Rees deteriorated. Rees filed for divorce
in April 2014. The divorce was finalized in January 2015. As part of the divorce settlement,
Rees agreed to purchase Beth’s ownership interest in RCDC. After this purchase, Rees now
owned 88 percent of the company’s shares.
Scott terminated his employment at RCDC in December 2014. Jeremy terminated his
employment at RCDC in January 2015. None of the appellants had any further involvement with
the company after January 2015.
Discontinuance of Dividends
Rees’s and Beth’s combined annual salary in the two years before 2015 was $190,000.
They also received dividend distributions of $976,987 in 2013 and $1,116,257 in 2014. Before
2015, all shareholders, including the appellants, received pro rata dividend distributions on a
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No. 53991-8-II
quarterly basis. As RCDC’s profits increased, the shareholders’ dividend distributions increased
pro rata.
In 2015, RCDC – at Rees’s direction – stopped distributing dividends to shareholders and
began paying Rees a dramatically increased salary instead. Rees’s salary was $1,213,618 in
2015, $834,562 in 2016, $973,926 in 2017, and $954,500 in 2018. In other words, instead of
distributing profits to all shareholders, RCDC essentially paid those profits to Rees in the form of
a salary.
Rees explained that the reason RCDC changed its profit distribution was because the
appellants no longer worked for the company:
They had abandoned, and they had all completely left, and I was alone carrying
everything; and so it didn’t make sense to me to continue to pay dividends to those
who were contributing nothing to the welfare and ongoing future of Real Carriage
Door.
Report of Proceedings (RP) (June 19, 2019) at 52.
It was my decision that I was alone, and the minority shareholders were no longer
part of the corporation in the sense that they were no longer working and
contributing and making any contribution whatsoever to the corporation; and so it
came to me in my business decision to not declare any dividends from the year
2015 forward and for those reasons and those reasons alone.
RP (June 19, 2019) at 68.
Complaint and Bench Trial
In 2018, the appellants – individually and as shareholders of RCDC – filed a lawsuit
against Rees in which they asserted claims for minority shareholder oppression, breach of
fiduciary duty regarding RCDC and the shareholders, and fraud. They also sought declaratory
and injunctive relief. The case proceeded to a bench trial. Scott, Mardie, and Rees all testified to
the facts described above.
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The trial court issued detailed findings of fact and conclusions of law, including the
following conclusions of law (which also included some factual findings):
3. Defendant Rees did not breach his fiduciary duty to the corporation and the
minority shareholders. The evidence showed that the corporation’s practice was to
distribute profits to the Plaintiffs as salary and gifts of dividends. Not distributing
gifts of dividends was a reasonable and honest exercise of the directors’ judgment
and was not a breach of his fiduciary duty.
4. There was an implied agreement to pay the minority stockholders a salary and
gifts of dividends only during the period of their employment and was terminated
when they left the corporation.
....
6. Defendant Rees’ decision to not distribute dividends was within the power of
RCDC and his authority of management. This decision was made in good faith and
was reasonable.
....
8. Defendant Rees actions were business judgments. He provided reasonable
explanations for his conduct which were not oppressive. The minority shareholders
failed to show oppressive conduct.
....
11. The reasonable expectations for the minority shareholders were that they
would receive a salary and gift distributions of shares while employed at RCDC.
Clerk’s Papers (CP) at 264-65.
The trial court also entered conclusions of law that the appellants did not prove their
minority shareholder oppression, breach of fiduciary duty, and fraud claims. Therefore, the court
entered a judgment that dismissed all of the appellants’ claims with prejudice.
The appellants appeal the trial court’s judgment.
ANALYSIS
A. STANDARD OF REVIEW
When reviewing a trial court’s decision following a bench trial, we ask whether
substantial evidence supports the trial court’s findings of fact and whether those findings support
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No. 53991-8-II
the conclusions of law. Columbia State Bank v. Invicta Law Group PLLC, 199 Wn. App. 306,
319, 402 P.3d 330 (2017). Evidence is substantial if it is sufficient to persuade a rational, fair-
minded person that the declared premise is true. Viking Bank v. Firgrove Commons 3, LLC, 183
Wn. App. 706, 712, 334 P.3d 116 (2014). We view the evidence and all reasonable inferences in
the light most favorable to the prevailing party. Columbia State Bank, 199 Wn. App. at 319. On
appeal, we do not review the trial court’s credibility determinations. Id. Unchallenged findings
of fact are treated as verities on appeal. Id.
Here, several of the trial court’s key factual findings are included in the court’s
conclusions of law. If findings of fact are mischaracterized as conclusions of law, we analyze
them as findings of fact. Allen v. Dan & Bill’s RV Park, 6 Wn. App. 2d 349, 365, 428 P.3d 376(2018).
We review the trial court’s application of facts to law and the court’s legal conclusions de
novo. Viking Bank, 183 Wn. App. at 712.
B. MINORITY SHAREHOLDER OPPRESSION CLAIM
The appellants argue that Rees engaged in minority shareholder oppression by paying
RCDC’s profits to himself as a salary rather than making regular dividend distributions that
would benefit all the shareholders. We agree.
1. Legal Principles
a. Duty to Minority Shareholders
It is a recognized principle that majority shareholders “must, at all times, exercise good
faith toward the minority stockholders.” Hay v. Big Bend Land Co., 32 Wn.2d 887, 897, 204
P.2d 488 (1949).
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No. 53991-8-II
The foundation of a minority shareholder oppression claim is RCW 23B.14.300(2)(b).
See Scott v. Trans-System, Inc., 148 Wn.2d 701, 708-09, 64 P.3d 1 (2003). Under that statute,
trial courts have discretion to dissolve a corporation in a proceeding by a shareholder if there is
proof that “[t]he directors or those in control of the corporation have acted . . . in a manner that is
illegal, oppressive, or fraudulent.” RCW 23B.14.300(2)(b). Judicial dissolution is such an
extreme remedy that it should be applied with caution. Scott, 148 Wn.2d at 708-09. But courts
also may consider alternative remedies that are less severe than dissolution, including an award
of damages to minority shareholders. Id. at 717-18.
Courts have adopted two tests for determining oppressive conduct toward minority
shareholders under RCW 23B.14.300(2)(b). See Scott, 148 Wn.2d at 710-11. The first test, the
“reasonable expectations” test, defines oppressive conduct as an act taken by the majority in
violation of the minority’s reasonable expectations – “ ‘those spoken and unspoken
understandings on which the founders of a venture rely when commencing the venture.’ ” Id. at
711 (quoting Robblee v. Robblee, 68 Wn. App. 69, 76, 841 P.2d 1289 (1992)). This test is most
appropriate when the minority shareholder was one of the original participants in forming the
corporation. Scott, 148 Wn.2d at 711.
The second test defines oppressive conduct as “ ‘burdensome, harsh and wrongful
conduct; a lack of probity and fair dealing in the affairs of a company to the prejudice of some of
its members; or a visible departure from the standards of fair dealing, and a violation of fair play
on which every shareholder who entrusts his money to a company is entitled to rely.’ ” Id.(quoting Gimpel v. Bolstein, 125 Misc. 2d 45, 50-51, 477 N.Y.S.2d 1014 (Sup. Ct. 1984)). The
court in Scott approved a statement that oppressive conduct also includes “ ‘the plundering of a
‘close’ corporation by the siphoning off of profits by excessive salaries or bonus payments and
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No. 53991-8-II
the operation of the business for the sole benefit of the majority of the stockholders, to the
detriment of the minority stockholders.’ ” Scott, 148 Wn.2d at 713 (quoting Baker v.
Commercial Body Builders, Inc., 264 Or. 614, 629, 507 P.2d 387 (1973)).
The minority shareholder bears the burden to prove oppressive conduct by a
preponderance of the evidence. Scott, 148 Wn.2d at 712. Once the minority shareholder shows
oppressive conduct, “the burden shifts to the majority shareholder . . . to show there were
legitimate business justifications for the conduct.” Id. at 709. “[A]cts are not oppressive where
there is a reasonable explanation for them.” McCormick v. Dunn & Black, P.S., 140 Wn. App.
873, 889, 167 P.3d 610 (2007).
b. Business Judgment Rule
The business judgment rule provides immunity to corporate management for a
transaction that is within the corporation’s power and management’s authority if “there is a
reasonable basis to indicate that the transaction was made in good faith.” Scott, 148 Wn.2d at
709; see also RCW 23B.08.300(4). Absent “evidence of fraud, dishonesty, or incompetence,”
courts generally will not interfere with the judgment of corporate management. In re Spokane
Concrete Prods., Inc., 126 Wn.2d 269, 279, 892 P.2d 98 (1995). However, immunity does not
apply when a corporate director or officer acts “in bad faith and with a corrupt motive.”
Interlake Porsche & Audi, Inc. v. Bucholz, 45 Wn. App. 502, 509, 728 P.2d 597 (1986).
2. Rees’s Increased Salary in Lieu of Dividends
To prevail on their minority shareholder oppression claim, the appellants were required to
prove the (1) Rees engaged in oppressive conduct, and (2) there was no legitimate business
justification for the conduct. Scott, 148 Wn.2d at 712-13.
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No. 53991-8-II
a. Oppressive Conduct
The appellants had the initial burden to prove oppressive conduct by a preponderance of
the evidence. Scott, 148 Wn.2d at 712. We hold that the trial court erred in concluding that the
appellants did not satisfy this burden.
The evidence is undisputed that in 2015, RCDC at Rees’s direction (1) stopped
distributing dividends to shareholders, thereby depriving them of their share of company profits;
and (2) converted the dividends the shareholders would have received into a dramatically
increased salary for Rees. In other words, instead of distributing profits to the shareholders as
RCDC historically had done, Rees paid those profits to himself.
As a matter of law, this conduct was wrongful and oppressive. The Supreme Court
adopted the statement that oppressive conduct includes “ ‘the plundering of a ‘close’ corporation
by the siphoning off of profits by excessive salaries or bonus payments and the operation of the
business for the sole benefit of the majority of the stockholders, to the detriment of the minority
stockholders.’ ” Scott, 148 Wn.2d at 713 (quoting Baker, 264 Or. at 629). That is exactly what
happened here. Rees’s decision to increase his salary in lieu of paying dividends benefitted him
by preserving his pre-2015 total compensation to the detriment of the appellants, who no longer
shared in company profits.
Rees argues that the trial court’s findings of fact support the conclusion that paying Rees
a large salary in lieu of paying dividends was justified. First, the trial court found in finding of
fact 20 that RCDC took this action because Rees “now either performed or oversaw the previous
duties” of the appellants after they no longer were employed at RCDC. CP at 264. Rees’s
additional responsibilities certainly justified some increase in his salary. But nothing in the
record supports a finding that because the appellants no longer were working at RCDC, Rees was
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No. 53991-8-II
justified in discontinuing the distribution of dividends and increasing his annual salary by
$700,000 to $1 million.
Second, the trial court found in conclusion of law 3 that “[t]he evidence showed that the
corporation’s practice was to distribute profits to the [appellants] as salary and gifts of
dividends.” CP at 264 (emphasis added). The court found in conclusion of law 4 that “[t]here
was an implied agreement to pay the minority stockholders a salary and gifts of dividends only
during the period of their employment and was terminated when they left the corporation.” CP
at 264 (emphasis added). These conclusions are factual findings, which we analyze as findings
of fact. Allen, 6 Wn. App. 2d at 365.
Based on these findings of fact, the trial court concluded that “[t]he minority shareholders
failed to show oppressive conduct.” CP at 265. And the court concluded that the appellants
failed to prove their minority shareholder oppression claim.
Substantial evidence does not support the factual findings supporting the trial court’s
dismissal of the appellants’ claims. Conclusions of law 3 and 4 refer to “gifts of dividends.” CP
at 264. Although Rees and Beth gifted stock, there was no evidence that the dividends paid were
“gifts.” In other words, the trial court failed to recognize the distinction between stock and
dividends. The court correctly found that that the appellants’ “reasonable expectations” were
that they would receive “gift distributions of shares while employed at RCDC.” CP at 265. But
as the owners of the gifted stock, the dividends the appellants received were not “gifts”; they
were the appellants’ share of the company profits.
Regarding the implied agreement to pay dividends to the appellants during their period of
employment that the trial court found in conclusion of law 4, Rees, Scott, and Mardie all testified
that the appellants were gifted RCDC shares to incentivize them to continue working for RCDC.
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No. 53991-8-II
But the gift of shares is a different issue than distribution of dividends. The appellants are not
claiming that Rees should have continued to gift them shares after they left the company. They
are claiming that they were entitled to dividends on the gifted shares that they already owned.
Further, there was no evidence that supported the finding that there was an implied agreement to
distribute dividends to appellants only while they were working for RCDC. Again, the
appellants certainly expected that they no longer would receive gifts of stock if RCDC did not
employ them. But entitlement to dividends is a different issue.
We hold that the undisputed evidence that Rees paid RCDC’s profits to himself instead of
paying dividends establishes that the appellants proved that Rees engaged in oppressive conduct
against them as minority shareholders. Substantial evidence does not support the trial court’s
findings that lead the court to conclude otherwise.
b. Reasonableness of Decision/Business Judgment
Because the appellants demonstrated oppressive conduct, the burden shifted to Rees to
show “legitimate business justifications for the conduct.” Scott, 148 Wn.2d at 709. In addition,
Rees could avoid liability under the business judgment rule by showing that the dividend
decision was reasonable and made in good faith. Id. We hold that the trial court erred in
concluding that Rees established a reasonable, good faith reason for dramatically increasing his
salary in lieu of payment of dividends.
The trial court concluded that Rees’s decision to increase his salary in lieu of distributing
dividends was reasonable and made in good faith. Specifically, the court made the following
conclusions of law: (1) “[n]ot distributing gifts of dividends was a reasonable and honest
exercise of the directors’ judgment,” CP at 264; (2) the decision not to distribute dividends “was
made in good faith and was reasonable,” CP at 264; and (3) “Defendant Rees’ actions were
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No. 53991-8-II
business judgments. He provided reasonable explanations for his conduct which were not
oppressive,” CP at 265.
The only findings of fact that provided support for these conclusions were the three
discussed above: finding of fact 20 and the findings of fact incorporated in conclusions of law 3
and 4. The trial court concluded that Rees’s decision to pay himself a dramatically increased
salary in lieu of paying dividends was reasonable because he had taken on extra responsibilities
and that dividends were gifts to the minority shareholders to which they were entitled only while
they worked for RCDC. However, as discussed above, finding of fact 20 does not justify
increasing Rees’s salary by $700,000 to $1 million. The court concluded that the decision not to
distribute dividends was reasonable because dividends were merely gifts that would be paid only
while the appellants were working for RCDC. However, as discussed above, substantial
evidence does not support the findings in conclusions of law 3 and 4.
Significantly, Rees did not explain why there was a business reason for not paying
dividends and how his dividend decision benefitted RCDC. Instead, he admitted that the only
reason he discontinued paying dividends was because the appellants no longer worked for
RCDC. He was using the payment of dividends to reward the appellants while they worked for
RCDC and to not reward them when they did not. But that is not a legitimate, good faith
business reason for discontinuing the distribution of dividends while simultaneously increasing
his own salary. Dividends are not “bonuses” to be distributed for good performance. They are a
way that the existing shareholders share in a company’s profits.
Rees also testified that “the majority shareholders of any corporation in the United States
can declare dividends or not declare dividends.” RP (June 19, 2019) at 67-68. Rees may be
correct that no law requires a company to make dividend distributions and that whether to
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No. 53991-8-II
distribute dividends generally is within a corporation’s business judgment. See 1 F. HODGE
O’NEAL & ROBERT B. THOMPSON, OPPRESSION OF MINORITY SHAREHOLDERS AND LLC
MEMBERS § 3:5 (rev. 2d ed. 2011). However, there is a well-established principle that majority
shareholders owe a duty of good faith to minority shareholders, Hay, 32 Wn.2d at 897, and Rees
is incorrect that a majority shareholder simply can stop paying dividends without a valid business
justification.3
We hold that substantial evidence does not support the trial court’s findings and therefore
that those findings do not support the court’s conclusions that Rees’s decision to discontinue the
distribution of dividends was reasonable. Instead, we hold that the undisputed evidence
establishes as a matter of law that Rees’s justification for paying RCDC’s profits to himself
instead of paying dividends – because the appellants no longer worked for RCDC – was not a
legitimate business reason.
c. Summary
We hold that substantial evidence does not support the trial court’s findings of fact and
conclusions of law regarding the appellants’ minority shareholder oppression claim, and
therefore that the trial court erred in dismissing that claim. We also hold as a matter of law that
the appellants established their minority shareholder oppression claim.
There are a number of possible remedies for minority shareholder oppression, including
the award of damages. Scott, 148 Wn.2d at 717-18. We remand for the trial court to determine
the appropriate remedy.
3
The appellants also argue that the testimony of RCDC’s bookkeeper demonstrates that Rees
acted in bad faith when he stopped making dividend distributions. However, Rees disputed that
testimony, and the trial court’s findings indicate that the court did not accept the bookkeeper’s
testimony on this issue.
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CONCLUSION
We reverse in part and affirm in part the trial court’s judgment dismissing the appellants’
claims, and we remand for the trial court to determine the appropriate relief for the appellants’
minority shareholder oppression claim.
A majority of the panel having determined that only the foregoing portion of this opinion
will be printed in the Washington Appellate Reports and that the remainder shall be filed for
public record in accordance with RCW 2.06.040, it is so ordered.
In the unpublished potion of this opinion, we hold that (1) Rees’s salary was not
excessive, and therefore Rees did not breach his fiduciary duty to RCDC; (2) the $3 million Rees
received from RCDC was a loan and not a distribution of profits, and therefore Rees did not
breach his fiduciary duty to RCDC’s shareholders; and (3) Rees’s actions did not constitute
fraud.
ADDITIONAL FACTS
As part of his divorce settlement with Beth, Rees agreed to pay $3 million to purchase
Beth’s ownership interest in RCDC. In order to make the payment to Beth, Rees obtained
approximately $3 million from RCDC, which was funded through a bank loan and existing
RCDC cash reserves.
RCDC’s bookkeeper, Jennifer Pomeroy, was responsible for handling RCDC’s financial
accounts. After the divorce settled, Rees instructed Pomeroy to record the transfer of money to
Beth on RCDC’s books as a note receivable from Rees. Pomeroy took notes at the meeting and
recorded that she was supposed to create an amortization schedule to record interest and that the
payments made to Beth should be booked as a loan to Rees. However, Pomeroy recorded the
payments to Rees as “Owner Draws – Beth.” Ex. 117.
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In October 2016, Rees scheduled a special shareholders meeting to discuss the 2015
transfer of $3 million from RCDC to Rees. The appellants received timely notice of the special
meeting and the topic of the meeting, but did not attend. At the meeting, it was agreed that the
RCDC funds transferred to Rees in 2015 were supposed to have been documented as a loan. It
also was agreed that the loan was to be memorialized in a promissory note payable to RCDC and
executed by Rees. The promissory note was backdated to an effective date of December 31,
2015. Rees subsequently made all payments due under the loan.
Shelley Drury, a certified public accountant specializing in business valuation and
forensic accounting, testified as the appellants’ expert. Robert Ryan, a certified public
accountant who worked with RCDC, testified as Rees’s expert.
The trial court made the following conclusions of law:
5. Defendant Rees’ salary was not excessive but was reasonable and comparable
to prior years when viewed as a whole given his role in RCDC and RCDC’s
success; his different job roles, job functions and increased work hours once the
four family members left the company.
....
7. Defendant Rees is authorized to pay himself a reasonable salary and the salary
payment from 2015 to the present for Defendant Rees were reasonable for a
President/CEO and were not excessive.
....
9. Plaintiffs, minority shareholders failed to prove fraud by clear, cogent and
convincing evidence that Defendant Rees deceived them or that he did anything
that was procedurally wrong regarding the distribution of salary, the termination of
distribution of dividends or the corporation loan he received and paid after his
marriage was dissolved.
10. The funds provided to Defendant Rees by RCDC used to pay his ex-wife Beth
Rees was a loan secured by a promissory note. The Plaintiffs had terminated their
employment with the corporation and failed to attend a special meeting after
receiving timely notice. The Loan was not disguised.
CP at 264-65.
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The court also entered conclusions of law that the appellants did not prove their breach of
fiduciary duty and fraud claims. Therefore, the court entered a judgment that dismissed all the
appellants’ claims with prejudice.
ANALYSIS
A. BREACH OF FIDUCIARY DUTY CLAIM
The appellants argue that Rees breached his fiduciary duty to RCDC and to company
shareholders when he (1) paid himself an excessive salary rather than making dividend
distributions and (2) received a $3 million distribution from RCDC that he later characterized as
a loan. They claim that Rees violated his duty to RCDC because he jeopardized the company’s S
corporation status, caused the company to pay extra payroll taxes, and decreased the company’s
value. We disagree.
1. Legal Principles
RCW 23B.08.300(1) requires corporate directors to discharge their duties to the
corporation “(a) In good faith; (b) With the care an ordinarily prudent person in a like position
would exercise under similar circumstances; and (c) In a manner the director reasonably believes
to be in the best interests of the corporation.” Similarly, corporate directors and officers owe a
fiduciary duty of good faith and loyalty to their corporations. See Interlake Porsche & Audi, 45
Wn. App. at 508.
Shareholders also owe a fiduciary duty to the corporation and to other shareholders. See
McCormick, 140 Wn. App. at 894-95. The scope of this fiduciary duty owed to the corporation
has not been well-defined in case law “beyond the common sense prohibition against retaining
personal profit owing to the corporation.” Id. However, as noted above, it is a recognized
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principle that majority shareholders “must, at all times, exercise good faith toward the minority
stockholders.” Hay, 32 Wn.2d at 897.
To prevail in a breach of fiduciary duty action, the plaintiff must establish that a
shareholder breached his fiduciary duty and that the breach was a proximate cause of sustained
losses. McCormick, 140 Wn. App. at 894. Whether a party has breached a fiduciary duty is a
question of law. Lodis v. Corbis Holdings, Inc., 172 Wn. App. 835, 857, 292 P.3d 779 (2013).
2. Reasonableness of Rees’s Post-2015 Salary
The appellants’ primary argument regarding breach of fiduciary duty to RCDC is that the
salaries RCDC paid to Rees were excessive, which constituted a breach of fiduciary duty
because it threatened the company’s S corporation status. They point out that under federal law,
an S corporation can have only one class of stock, and that disguising a dividend distribution to
one shareholder as salary violates this rule.
However, this argument depends on a finding that Rees’s annual salaries after 2014 in
fact were excessive. Therefore, the question is whether Rees’s salaries were reasonable.
Significantly, this is a different issue than the one addressed in the published portion of this
opinion – whether recharacterizing Rees’s total compensation as salary instead of dividend
distributions constitutes minority shareholder oppression.
a. S Corporation Background
The appellants’ breach of fiduciary duty claim relies on their allegation that Rees’
decision to pay an increased salary in lieu of distributing dividends threatened RCDC’s S
corporation status.
An S corporation is a small domestic business corporation with less than 100
shareholders and only has one class of stock. 26 U.S.C. § 1361(a), (b)(1)(A). As a pass-through
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No. 53991-8-II
entity, S corporations do not pay federal income taxes at the corporate level. 26 U.S.C. §
1363(a); see also Palomarez v. Wilcox, 15 Wn. App. 2d 187, 191, 475 P.3d 512 (2020). Instead,
each shareholder reports the S corporation’s taxable income or loss on their individual tax returns
and pays taxes that are proportional to their individual percentage ownership interest. 26 U.S.C.
§ 1366(a)(1).
If an S corporation has more than one class of stock, it risks losing its status as an S
corporation with the Internal Revenue Service. See 26 U.S.C. § 1361(b)(1)(D); 26 C.F.R. §
1.1361-1(l)(1). A corporation only has one class of stock when “all outstanding shares of stock
of the corporation confer identical rights to distribution and liquidation proceeds.” 26 C.F.R. §
1.1361-1(l)(1). Whether a stock confers the same rights to all shareholders depends on “the
corporate charter, articles of incorporation, bylaws, applicable state law, and binding agreements
relating to distribution and liquidation proceeds.” 26 C.F.R. § 1.1361-1(l)(2)(i).
b. Findings of Fact
The trial court made several factual findings relevant to the reasonableness of Rees’s
salary after 2014. First, the court found in findings of fact 6, 7, 8, and 12 that all the appellants
had stopped working at RCDC by January 2015 and that they had no further involvement with
the company since then. The appellants argue that substantial evidence does not support the
finding that they had no further involvement with the company.
However, the appellants do not provide any citations to the record or any substantive
analysis explaining why substantial evidence does not support these findings. And in fact, Rees
testified that he “was completely in charge of the company, and the entire family had abandoned
the operation.” RP (June 18, 2019) at 40. This statement is corroborated by testimony from
Scott and Pomeroy that Scott did not perform any services for RCDC after he left the company
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in December 2014. Finally, there is no evidence that suggests that Mardie and Jeremy continued
to provide any support after January 2015. We conclude that substantial evidence supports
findings of fact 6, 7, 8, and 12.
Second, the trial court found in finding of fact 17 that (1) total shareholder/officer
compensation was $1,166,987 in 2013 and $1,306,257 in 2014, which consisted of annual
salaries of $190,000 and dividend distributions; and (2) total shareholder/officer compensation in
2015 was $1,213,618, which consisted of all salary and no dividends. The appellants do not
challenge these findings, asserting only that the $190,000 was not Rees’s salary alone.
Therefore, they are verities on appeal. Columbia State Bank, 199 Wn. App. at 319.
Third, the trial court found in conclusion of law 5 that “Defendant Rees’ salary was not
excessive but was reasonable and comparable to prior years when viewed as a whole given his
role in RCDC and RCDC’s success; his different job roles, job functions and increased work
hours once the four family members left the company.” CP at 264. Similarly, the court found in
conclusion of law 7 that “the salary payment from 2015 to the present for Defendant Rees were
reasonable for a President/CEO and were not excessive.” CP at 264. These conclusions are
factual findings, which we analyze as findings of fact. Allen, 6 Wn. App. 2d at 365. The
appellants also treat conclusion of law 5 as a finding of fact, arguing that substantial evidence
does not support the conclusion.
The appellants rely on expert testimony from Drury to argue that Rees’s salary was
unreasonable. Drury testified that a reasonable, fair market salary for Rees would be $200,000.
The appellants claim that because only Drury gave an opinion about what a reasonable salary
should be and both Rees and Pomeroy testified that he changed the composition of his total
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No. 53991-8-II
compensation by increasing his salary and excluding dividend distributions, substantial evidence
does not support the trial court’s conclusion that Rees’s salary was reasonable.
However, the record shows that Ryan provided testimony that rebutted Drury’s opinion.
Ryan testified that Drury’s fair market value replacement salary was irrelevant here because an
owner’s salary is “based more directly on how much value they bring to the company.” RP
(June 18, 2019) at 75. He also explained why Drury’s methodology was flawed. We do not
reweigh evidence on appeal. Columbia State Bank, 199 Wn. App. at 319.
Further, even Drury also admitted that “owner compensation . . . [is] very much
discretionary when there is a single owner or a majority owner that has control.” RP (June 17,
2019) at 112. And Drury conceded that (1) she only interviewed the appellants and possibly
Pomeroy regarding Rees’s duties at RCDC, (2) she did not analyze the value that Rees brought
to RCDC in terms of revenue generation, and (3) she did not analyze how his efforts and services
performed related to revenue.
In addition, the evidence showed that Rees’s total compensation in 2015 and after was
comparable to the total shareholder/officer compensation before 2015. Total compensation was
$1,166,987 in 2013 and $1,306,257 in 2014. Rees’s 2015 salary of $1,213,618 actually was
lower than his total compensation in 2014, and his salary was less than $1 million in subsequent
years. Only the characterization of the compensation changed from salary plus dividends to
salary only. In fact, the appellants do not challenge Rees’s total compensation, only the
characterization.
The trial court found that “when viewed as whole” Rees’s salary after 2014 was
reasonable, not excessive. CP at 264. We conclude that with regard to Rees’s total
compensation, substantial evidence supports this finding.
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No. 53991-8-II
c. Other Arguments
In addition to their S corporation arguments, the appellants also argue that Rees’s
increased salary caused harm to RCDC and its shareholders based on Drury’s testimony that (1)
RCDC incurred greater payroll taxes and (2) the increased salary potentially diminished the
value of RCDC. These arguments technically could apply even if Rees’s salary was not
excessive for purposes of S corporation law.
But Ryan testified that RCDC was not paying more in payroll taxes, and that Rees’s
increased salary did not lower RCDC’s value. The trial court did not make any findings
regarding the credibility of these two witnesses, but the court apparently accepted Ryan’s
testimony. We do not reweigh evidence on appeal. Columbia State Bank, 199 Wn. App. at 319.
d. Conclusions of Law
The trial court entered a conclusion of law that “Rees did not breach his fiduciary duty to
the corporation.” CP at 264. The court also entered a conclusion of law that the appellants failed
to prove their breach of fiduciary duty claim.
With regard to the breach of fiduciary duty, the appellants’ claim depends on a finding
that Rees’s salaries after 2014 were excessive. As discussed above, we conclude that substantial
evidence supports the trial court’s findings that Rees’s salaries were reasonable and not
excessive. In addition, there is evidence to support the conclusion that Rees’s salaries did not
cause any other damage to the company. Therefore, we conclude that to the extent that the
breach of fiduciary duty claim is based on the size of Rees’s salary, the court’s findings support
the conclusion that Rees is not liable for breach of fiduciary duty to RCDC.
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No. 53991-8-II
3. $3 Million Rees Received from RCDC
The appellants argue that Rees breached his fiduciary duty to RCDC’s shareholders by
receiving a $3 million distribution of profits from RCDC and then later attempting to
characterize it as a loan. We disagree.
The trial court made the following findings of fact:
15. Plaintiffs received timely notice of A Special Meeting that was scheduled for
October 14, 2016. Plaintiffs failed to attend the meeting.
16. On October 14, 2016 at the Special Meeting it was discussed and agreed that
the RCDC funds given to Defendant Rees were supposed to have been documented
as a loan to Defendant Rees. It was agreed that the loan was to be memorialized in
a promissory note payable to RCDC and executed by Defendant Rees. Upon
agreement, the promissory note was backdated to an effective date of December
31, 2015. Defendant Rees subsequently made all payments due under the loan.
CP at 263.
In conclusion of law 10, the trial court made a finding that “[t]he funds provided to
Defendant Rees by RCDC used to pay his ex-wife Beth Rees was a loan secured by a promissory
note. . . . The Loan was not disguised.” CP at 265. This conclusion is a factual finding, which
we analyze as a finding of fact. Allen, 6 Wn. App. 2d at 365.
Regarding finding of fact 15, the evidence was undisputed that the appellants received
notice of the meeting and did not attend. The appellants claim that the trial court failed to
acknowledge that they could not attend the meeting because of their personal work schedule and
that their presence would have been futile. But the appellants do not explain why this
information is relevant.
Regarding finding of fact 16 and conclusion of law 10, the appellants challenge the trial
court’s determination that the $3 million Rees received from RCDC was a loan, not a
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No. 53991-8-II
distribution.4 They focus on the fact that the 2015 cash advances originally were classified as an
owner draw in RCDC’s accounting records and then reclassified as a loan at the 2016
shareholders’ special meeting with a backdated promissory note.
But Pomeroy’s personal notes from a meeting with Rees that occurred around the time of
the divorce settlement specified that the $3 million Rees received from RCDC was to be
recorded as a loan to Rees. And Pomeroy’s personal understanding was that the transaction
should have been documented as a loan to Rees to be repaid by him. Further, Rees testified
about the meeting with Pomeroy and that his understanding was that the $3 million would be
booked as a loan to himself.
This evidence supports a finding that the $3 million Rees received from RCDC always
was intended to be a loan, and the October 2016 special meeting merely confirmed that fact and
did not constitute an after the fact characterization of the transaction. Therefore, we conclude
that substantial evidence supports finding of fact 16 and conclusion of law 10.
The trial court made a conclusion of law that the appellants failed to prove their breach of
fiduciary duty claim. To the extent that this claim is based on the $3 million Rees received from
RCDC, we conclude that the court’s findings support this conclusion.
B. FRAUD CLAIM
The appellants argue that Rees is liable for fraud because he paid himself an excessive
salary and received an improper $3 million distribution from RCDC. Specifically, they assert
4
The appellants also argue that the trial court erred in entering finding of fact 16 because
substantial evidence does not support the finding that Rees made all payments under the loan.
But they do not explain why substantial evidence does not support this finding. And Rees
testified that he made all the payments due under the note. Therefore, substantial evidence
supports this specific finding.
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No. 53991-8-II
that the trial court erred by applying the elements of common law fraud instead of the broader
standard for corporate fraudulent conduct. We disagree.
As discussed above, we conclude that substantial evidence supports the trial court’s
findings that Rees’s salary was not excessive and that Rees’s $3 million distribution was
properly characterized as a loan. Therefore, regardless of the standard for fraud that is applied,
we conclude that these findings support the trial court’s conclusions of law that the appellants
failed to prove their fraud claim.
CONCLUSION
We reverse in part and affirm in part the trial court’s judgment dismissing the appellants’
claims, and we remand for the trial court to determine the appropriate relief for the appellants’
minority shareholder oppression claim.
MAXA, J.
We concur:
SUTTON, J.
GLASGOW, A.C.J.
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