question archive You have just had an initial meeting about a potential litigation support engagement
Subject:AccountingPrice: Bought3
You have just had an initial meeting about a potential litigation support engagement. You met with an attorney who represents an individual named John Tower. Tower holds a real estate investment that is currently the subject of a dispute.
The case facts
The formation of a partnership and purchase of Manhattan commercial real estate
In 1996, a woman named Penninah Flowers identified a commercial building in the borough of Manhattan, part of New York City. She believed it was a great investment opportunity. The building was run down, and Mrs. Flowers was convinced that it would be a profitable if it were purchased, improved and held for the long term as a rental income-producing property.
Mrs. Flowers met with Mr. Tower and Mr. Parsons, among others, to discuss the investment. Mr. Tower later discussed the opportunity with his brother, Anthony. John and Anthony Tower decided to invest together. They formed an entity called Two Brothers LLC to make this investment.
Ultimately, the following parties made initial investments to form FPT Partners Realty LLC ("FPT"):
Each of these parties signed an Operating Agreement for FPT. According to the Operating Agreement, if not otherwise terminated, the partnership would dissolve on December 31, 2016.
Each of the Members made an initial capital contribution and the partnership obtained debt financing. With the capital that had been raised, the partnership purchased the building, which had street-level retail space and residential apartments. The building looked like this:
For many years, the investment generated positive cash flows. The rent income generally exceeded the loan payments and operating costs. For the most part, capital improvements and repairs were funded over time out of the operating cash flow. Some working capital was retained in the partnership. Excess cash flow, as determined by the Managing Partner, was distributed once a year from the partnership to the partners. The partnership generated a cash distribution in each and every year since it was founded, although the amounts varied. John Tower has generally been happy with the investment returns.
From the outset, it was understood that Mrs. Flowers would be the Managing Member of the partnership and would make the decisions regarding the management of the property. In 1996, Mrs. Flowers was 54 years old. She came from a family that owned and managed a number of commercial properties in the metropolitan New York area. Mrs. Flowers has a daughter, Barbara Meadows and a son-in-law Timothy Meadows. Timothy Meadows, Barbara's husband, is a well-regarded real estate executive and owner and CEO of Meadows Property Management, a company that specialized in managing Manhattan commercial real estate.
Sometime after the Operating Agreement was executed, Mrs. Flowers appointed Meadows Property Management to provide property management services for an agreed-upon fee. That fee was an expense of the partnership. John Tower and Paul Parsons were aware that Meadows Property Management was a related party and was providing management services.
Changes over the years relating to Two Brothers LLC and Paul Parsons
Around 1998, Anthony Tower wanted out of his partnership with his brother John. John purchased his brother's interest in Two Brothers LLC. John became the sole
owner of Two Brothers LLC. Around that time, John notified Penninah Flowers of the change in the ownership of Two Brothers LLC. Since approximately 1999, all the mailings and filings were directed to John Tower as the sole owner of Two Brothers LLC. Correspondence between John Tower and FPT always indicated John's status as "member" or "partner" of FPT.
Sometime in 2005 or 2006, Paul Parsons was effectuating some estate tax planning, and transferred his interest in FPT to a Family Limited Partnership. John Tower doesn't have much information about that transfer.
Performance of the investment and events relating to the dissolution date
Throughout the years, Mr. Tower received annual distributions and occasional correspondence from FPT. He was never involved in the management of the building or the operations of the partnership. He understood that his investment was illiquid. He always saw himself as a passive investor and was content to receive cash distributions of the profits until the end of the partnership in 2016. He spoke to Mr. Parsons from time to time, but had little contact with Mrs. Flowers except through the limited correspondence about FPT. Shortly after each year end, he received a Form K-1 partnership tax report from FPT, which he used to file his income taxes.
By early 2016, Mr. Tower began thinking about FPT. He was retired by this time and he wanted to be rid of the investment. He was glad FPT would be wrapping up at year end. He began to wonder why he hadn't heard anything from FPT about the upcoming dissolution.
He suspected that Mrs. Flowers had retired and that Meadow Management was handling all the day-to-day management matters. He called the office of Meadow Management to try to speak to Mrs. Flowers, but his calls were not returned. Finally, he sent letter to Mrs. Flowers at the Meadow Management office address to inquire about the dissolution. Instead of receiving a response from Mrs. Flowers, as he had expected, he got a strange letter from Timothy Meadows of Meadow Management. The letter was unsigned, but indicated "on behalf of the managing member of FPT Realty LLC" that "the building continues to be a solid investment and we are not currently anticipating sale of the building in the near future." Mr. Tower sent a reply letter to Mr. Meadows and Mrs. Flowers stating that it was his understanding that the partnership would dissolve as of December 31, 2016 and that he hoped that Mrs. Flowers would maximize the returns to the partners by liquidating while the commercial real estate market in New York remained strong.
A couple of weeks later, Mr. Tower received a letter on Meadows Management letterhead from Mr. Meadows offering to purchase his interest in FPT for $500,000. The letter said, "we are authorized to offer $500,000 for your interest. This offer is valid for 8 days."
Mr. Tower's daughter Alana Tower had recently begun to help him with his financial affairs. When he discussed the recent correspondence with Alana, she asked to look at the documents. She was surprised at how little documentation he had. There were only Forms K-1 that provided an annual report of income for tax purposes, the original Operating Agreement and the correspondence relating to the cash
distributions that John Tower had received over the years. Alana did a Google search on the name of Penninah Flowers. To her surprise, Google returned an obituary that indicated that Mrs. Flowers had passed away in Palm Springs in December 2013!
The litigation
The news that Mrs. Flowers had passed away over two years earlier shocked Mr. Tower into action. He hired legal counsel to assert his rights, if any, under the partnership agreement.
Mr. Tower also telephoned Mr. Parsons, although he hadn't talked to him in years. Mr. Parsons was also surprised to hear that Mrs. Flowers had passed away. Mr. Tower told him that he was exploring legal options to enforce the December 31, 2016 dissolution of the partnership. Mr. Parsons said that he was in poor health and did not want to sue anyone or be sued.
Mr. Tower's attorney made preliminary oral and written inquiries of the attorneys for Meadow Management and the Flowers family. During these communications, the counsel for Meadow Management and/or the Flowers family disclosed the following:
Mr. Tower has filed suit in New York, seeking to enforce his rights under the partnership agreement. The complaint was filed in January 2017 and the defendants filed a motion to dismiss in March 2017.
The attorney provided you with a few documents to consider:
Case study questions
The attorney who has called you is asked for you to consult on this litigation matter. He would like some help in thinking through the forensic accounting and real estate valuation aspects of this, including help in preparing document requests for the discovery phase of the litigation. The attorney suspects that the early offer to buy John Tower's interest suggests that the Meadows family would be interested in a cash settlement of the dispute, if the price was right.
You are using the following questions as a guideline for your discussion with the attorney to scope out the case and plan the engagement.