Tuesday, July 26, 2016
Anyone who reads this blog knows that I have issues related to the distinction between LLCs (limited liability companies) and corporations. In some instances, it is a subtle, likely careless mistake. Other cases seem to be trolling me. Today, I present you such a case: Sky Cable, LLC v. Coley, 2016 WL 3926492 (W.D.Va., July 18, 2016). H/T: Jay D. Adkisson. The case describes the proceedings as follows:
DIRECTV asks the court to reverse-pierce the corporate veil and declare that Randy Coley is the alter ego of his three limited liability companies, such that the assets held by those LLCs are subject to the judgment in this case.
Okay, so claiming to pierce the "corporate veil: of an LLC is wrong (it doesn't have a "corporate" anything), but it's also exceedingly common for lawyers and courts to make such an assertion. This case takes the improper designation to the next level.
First, the court describes the LLCs in questios as "the Corporate Entities." It then goes on to discuss "Coley's limited liability companies." Ugh. The court further relates, "DIRECTV stated that in a forthcoming motion, it would ask the court to reverse-pierce the corporate veil given Coley's abuse of the corporate form." No such form, but perhaps we can now blame DIRECTV's counsel, in part, for this hot mess.
Here's the court's Legal Framework:
Generally, corporations are recognized as entities that are separate and distinct from their officers and stockholders. [Author's note: THERE ARE NO SHAREHOLDERS IN LLCS!] "But this concept of separate entity is merely a legal theory, 'introduced for purposes of convenience and to subserve the ends of justice,' and the courts 'decline to recognize [it] whenever recognition of the corporate form would extend the principle of incorporation "beyond its legitimate purposes and [would] produce injustices or inequitable consequences.' "" DeWitt Truck Brokers, Inc. v. W. Ray Flemming Fruit Co., 540 F.2d 681, 683 (4th Cir. 1976) (citations omitted). When appropriate, and " 'in furtherance of the ends of justice,' " a court may pierce the corporate veil and treat the corporation and its shareholders as one, id. (quoting 18 Am. Jur. 2d at 559), if it finds a corporation and its shareholders have misused or disregarded the corporate form, United States v. Kolon Indus., Inc., 926 F. Supp. 2d 794, 815 (E.D. Va. 2013). This is often referred to as an "alter ego theory."
The court continues: "Delaware courts take the corporate form and corporate formalities very seriously.... " Case Fin., Inc. v. Alden, No. CIV. A. 1184-VCP, 2009 WL 2581873, at *4 (Del. Ch. Aug. 21, 2009)." The opinion then states that veil piercing concepts"apply equally to limited liability companies which, like corporations, have a legal existence separate and distinct from its members." The concept may, but LLCs do not have to follow the same formalities as corporations to maintain separate existence. Even if veil piercing were appropriate here, the entire case continues to misstate the law of veil piercing LLCs. Note: Delaware courts do hold some blame here: Westmeyer v. Flynn, 382 Ill. App. 3d 952, 960, 889 N.E.2d 671, 678 (2008) ("[U]nder Delaware law, just as with a corporation, the corporate veil of an LLC may be pierced, where appropriate.").
Based on the opinion, it does seems as though the defendant here was being shady, at best, and perhaps outright fraudulent. I don't suggest that, based on the facts presented, the defendant shouldn't be held accountable for his debts. Still, in addition to the misstatements of the law, I am not sure veil piercing was necessary. As the court notes, "veil piercing is an equitable remedy and an extraordinary one, exercised only in exceptional circumstances "when 'necessary to promote justice.'" It seems to me, then, the court (and the plaintiff) should discuss other remedies first, relying only on veil piercing where "necessary."
As such, I'd like to see a discussion of fraudulent or improper transfer before veil piercing -- did the defendant improperly move assets that should have been available to the plaintiff into an entity? Before veil piercing three entities, it seems to me the court should determine what should have been available to the plaintiff -- if the answer is "nothing" then no amount of shady behavior should support veil piercing. If there should be assets, then the question should still be "which ones?" If the answer is all of the assets in all of then entities, then okay. But if the court is veil piercing three entities merely to ensure adequate recovery, that's an overreach, it seems to me. In addition, how about reviewing if there was actual fraud in how the defendant acted? That, too, could support recovery without the extraordinary veil piercing remedy.
Ultimately, it's possible the court got the outcome right here. But it clearly got the law wrong. A lot.
Tuesday, July 19, 2016
Today I will pose a simple question: Is Entity Type Material?
Of course, context matters, so here's where this is coming from: On July 1, 2016, Canterbury Park Holding Corporation filed an 8-K making the following announcement:
SHAKOPEE, Minnesota (July 1, 2016) - Canterbury Park Holding Corporation, a Minnesota corporation (Nasdaq Global Market: CPHC) (the “Company”), today announced that it has completed its previously announced reorganization of the Company’s business into a holding company structure (the “Reorganization”), pursuant to which a recently-formed Minnesota corporation with the same name, Canterbury Park Holding Company (“New Canterbury”), has replaced the Company as the publicly held corporation owned by the Company’s shareholders. At the market open today, July 1, 2016, the shares of common stock of New Canterbury will commence trading on the Nasdaq Global Market under the ticker symbol “CPHC,” the same ticker symbol previously used by the Company.
As a result of the Reorganization, the Company has been merged into a limited liability company subsidiary, Canterbury Park Entertainment LLC. In addition, the Company’s shareholders have automatically become shareholders of New Canterbury on a one-for-one basis, holding the same number of New Canterbury shares and the same ownership percentage after the Reorganization as they held immediately prior to the Reorganization. The business operations, directors and executive officers of the company will not change as a result of the Reorganization.
The exhibits list, though, provides:
Exhibit No. Description 2.1 Agreement and Plan of Merger, dated March 1, 2016, among Canterbury Park Holding Corporation, a Minnesota corporation, New Canterbury Park Holding Corporation, a Minnesota corporation, Canterbury Park Entertainment LLC, a Minnesota limited liability corporation. (Incorporated by reference to Exhibit 2.1 to the Registration Statement on Form S-4 (File No. 333-210877) filed with the SEC on April 22, 2016.)
A what? You probably guessed it: a "Minnesota limited liability corporation." No, it's a limited liability company, as properly noted in the press release.
Okay, so I suspect it's not really material to the SEC or most other investors in the sense that this is a mistake, as long as the filing and exhibit are otherwise accurate. I looked at the May 27, 2016, DEF 14A, which did list the LLC correctly. However, in searching that document I found this was part of the 14A:
GGCP Holdings is a Delaware limited liability corporation having its principal business office at 140 Greenwich Avenue, Greenwich, CT 06830.
Sigh. Well, it may not matter to the SEC, but it's material to me.
Wednesday, July 13, 2016
This is just me musing a bit, but in following up my post on how LLCs can choose to “be corporations” for federal tax purposes, meaning they get C corp tax treatment, I was thinking that maybe the IRS could just stop using state-law designations at all. That is, stop having “corporate” tax treatment at all.
My proposal is not abolishing corporate tax – that’s a much longer post and one I am not sure I’d agree with. Instead, the proposal is to have entities choose from options that are linked the Internal Revenue Code, and not to a particular entity. Thus, we would have (1) entity taxation, called C Tax, where an entity chooses to pay tax at the entity level, which would be typical C Corp taxation; (2) pass-through taxation, called K Tax, which is what we usually think of as partnership tax; and (3) we get rid of S corps, which can now be LLCs, anyway, which would allow an entity to choose S Tax.
This post deals with the tax code, which means I am in over my head, and because this is tax related, it means the solution is a lot more complicated than this proposal. But now that the code provisions are not really linked to the state law entity, I think we should try refer to state entities as state entities, and federal tax status with regard to federal tax status. Under such a code, it would be a little easier for people to understand the concept behind state entity status, and it would make more sense to people that a “C Corp” does mean “publicly traded corporation” (a far-too common misunderstanding). Thus, we could have C Tax corporations, S Tax LLCs, K Tax LLCs, for example. We'd know tax status and state-entity status quite simply and we'd separate the concepts.
A guy can dream, right?
Tuesday, July 5, 2016
So, readers of this blog know that I despise the misuse of the term "limited liability corporation" when the writer or speaker means "limited liability company," which is the correct term for an LLC. There is a time, though, when an LLC can be a corporation, and that is for federal tax purposes if the entity makes such a choice.
Entity choice is a state law decision, but and LLC can elect to be treated as a corporation under the Internal Revenue Code. The Internal Revenue Service recently issued Publication 3402, which explains:
Classification of an LLC Default classification.
An LLC with at least two members is classified as a partnership for federal income tax purposes. An LLC with only one member is treated as an entity disregarded as separate from its owner for income tax purposes (but as a separate entity for purposes of employment tax and certain excise taxes). Also, an LLC's federal tax classification can subsequently change under certain default rules discussed later.
An LLC can elect to be classified as an association taxable as a corporation or as an S corporation. After an LLC has determined its federal tax classification, it can later elect to change that classification. For details, see Subsequent Elections, later. LLCs Classified as Partnerships If an LLC has at least two members and is classified as a partnership, it generally must file Form 1065, U.S. Return of Partnership Income. Generally, an LLC classified as a partnership is subject to the same filing and reporting requirements as partnerships. See the Instructions for Form 1065 for rep
Still, this should really be called an LLC that has elected federal tax status as a corporation or an "LLC FCorp." Or something like that. But at least in this situation, an LLC is something of a corporation.
Tuesday, June 28, 2016
SEC Chair Mary Jo White yesterday presented the keynote address, for the International Corporate Governance Network Annual Conference, "Focusing the Lens of Disclosure to Set the Path Forward on Board Diversity, Non-GAAP, and Sustainability." The full speech is available here.
In reading the speech, I found that I was talking to myself at various spots (I do that from time to time), so I thought I'd turn those thoughts into an annotated version of the speech. In the excerpt below, I have added my comments in brackets and italics. These are my initial thoughts to the speech, and I will continue to think these ideas through to see if my impression evolves. Overall, as is often the case with financial and other regulation, I found myself agreeing with many of the goals, but questioning whether the proposed methods were the right way to achieve the goals. Here's my initial take:
June 28, 2016 in Corporate Finance, Corporate Governance, Corporations, Current Affairs, Financial Markets, Joshua P. Fershee, Securities Regulation, Shareholders, Social Enterprise | Permalink | Comments (1)
Tuesday, June 21, 2016
Last week, a federal court determined that an insurance disclosure that asked about an "applicant's" criminal history did not apply to an LLC member's individual criminal past. In Jeb Stuart Auction Servs., LLC v. W. Am. Ins. Co., No. 4:14-CV-00047, 2016 WL 3365495, at *1 (W.D. Va. June 16, 2016), the court explained:
“Question Eight” on the [insurance] application asked, “DURING THE LAST FIVE YEARS (TEN IN RI), HAS ANY APPLICANT BEEN INDICTED FOR OR CONVICTED OF ANY DEGREE OF THE CRIME OF FRAUD, BRIBERY, ARSON OR ANY OTHER ARSON-RELATED CRIME IN CONNECTION WITH THIS OR ANY OTHER PROPERTY?” Hiatt, on behalf of Jeb Stuart (who [sic] was the sole [LLC] applicant for the insurance policy), answered, “No.” Hiatt signed the application and left.
As you might imagine, Hiatt had been convicted of "hiring individuals to wreck cars so that he could receive the proceeds from the applicable insurance policies," and, yep, about a month later, the building burned down. Id. at *2.
The insurance company cancelled the policy because it claimed Hiatt had lied on the application, and Hiatt sued for the improper cancellation of the policy because he did not lie (he prevailed) and for attorneys fees claiming “the insurer, not acting in good faith, has either denied coverage or failed or refused to make payment to the insured under the policy.” Id. at *3. Judge Kiser determined that not attorneys' fees were warranted:
Neither party was able to rely on a case on point regarding the issue of whether questions on an LLC's insurance application asking about criminal history applied to the members of the LLC, to the corporate entity, or to both. Although I believe the answer to that question is clear, I am not aware of any other court being called upon to answer it. Therefore, although it was unsuccessful in asserting its defense to Jeb Stuart's claim, West American's position did present a novel legal question. As such, the final Norman factor weighs in favor of a finding of good faith.
Tuesday, June 14, 2016
The New York Times ran the article How Donald Trump Bankrupted His Atlantic City Casinos, but Still Earned Millions last weekend. It's an interesting piece that provides a look at Donald Trump's east coast casino experience. The article is, as one might expect, critical of his dealings and notes that Trump made money even when his ventures when bankrupt.
Though I will not defend any of Trump's dealings, there are few issues raised that I think are worthy of a some discussion and clarification.1 The post that follows suggests how to consider Trump's business history and place that history in a political context.
Tuesday, June 7, 2016
Michigan's softball team lost in the College World Series, and there was understandable disappointment. I thought coach Carol Hutchins message, though, was spot on:
“One thing I learned after the national championship, it definitely doesn’t define you,” she said. “If winning defines you, you’re not focused on the right things. I’m defined by all the women that I’ve been able to help grow up and who have impacted my life equally. I define myself by that.
“We’ve won a lot of games here, we’ve lost a lot of games here. It’s a sport. We do the best we can every day.”
Yes. You can't control who you play. You control how you prepare, and how you try, and how you care. Sometimes, you can control how you play, but not always who you play against or the tools you have at your disposal.
This is true as a lawyer, too. You may have bad facts. Or a bad client. Or a whole host of other hurdles. On a bad day (hopefully) you may go up against someone who is just better than you. You can control how you prepare, how hard you work, and how much you care. The rest, is out of your hands.
You can't let winning define your worth. If you do, there's a good chance you will underestimate your value when you lose. And overestimate it when you win. A little perspective goes a long way, and odds are, with perspective, as long as you sustain your effort, you have a better chance at winning more often.
Tuesday, May 31, 2016
Donald Trump was in my home state of West Virginia recently, and he promised to bring back coal jobs:
And West Virginia. And we’re going to get those miners back to work. I’ll tell you what. We’re going to get those miners back to work . . .
Let me tell you, the miners in West Virginia and Pennsylvania which was so great to me last week and Ohio and all over, they’re going to start to work again. Believe me. You’re going to be proud again to be miners.
How he plans to do this is not clear, but part of it will be to attack the EPA's Clean Power Plan. Okay, but that's a relatively recent development, and was certainly not the cause of the decline in coal production since the last production peak in 2008. The primary cause: cheap and abundant natural gas from horizontal drilling and hydraulic fracturing.
In my former home state of North Dakota, Trump was telling voters he would rescind President Obama’s climate change rules and work to make the Keystone XL pipeline a reality to ship petroleum from Canada’s oil sands to the U.S. Gulf Coast refineries. Further, Trump has stated that he would relax regulations that limit coal leases on federal lands and reduce hydraulic fracturing regulations on federal lands.
It appears, then, that his plan to support the coal, oil, and natural gas industries will be to lower costs. That should increase supply, right? The problem for each industry, though, is that excess supply has lowered prices so much that all three areas are cutting back on activity (and jobs). Reducing governmental restrictions would lower costs even more, which is not likely to increase jobs or production in the current climate. Any such change might increase margins for existing activities, but it would not likely incentivize a change in behavior that would lead toward the state goals of increased employment. As the Financial Times recently explained:
One of the factors behind that [oil market] collapse was Saudi Arabia’s strategy of continuing to produce at high levels above 10m barrels per day, rather than cutting output to ease the glut of oil.
More oil (or gas or coal) equals lower prices. Lower taxes and regulations equals lower cost of exploration and production, which leads to? More oil (or gas or coal) and lower prices. Even worse, low prices tend to encourage automation, which is particularly not good for jobs.
One can debate whether there is value in reducing these kinds of regulations, but one needs to explain how greater supply and lower prices is going to help any of these industries in the way the policies are purporting to (or another justification is needed). But then, Trump has not explained how he intends to implement any of his promises or how any of his proposals would work.
Newsflash: Just saying something, no matter how confidently and assertively it is said, doesn't make it true. I sure hope a majority of voters recognize this come November.
Tuesday, May 24, 2016
Some time ago, I wrote the post Better Teaching Idea: Try to Notice When the Wind Is at Your Back. That post emerged from some observations while running, and today's post has the same origin.
This month I have been trying to up my miles again for no particular reason. I don't run for races. I run to run. And to feel like I am at least doing something to stay in some semblance of good shape (it's not really working). I now run 4 miles most days. Maybe a little more or less, but that's the norm this month. The past two days, I ran from my house, which is at the top of a hill. It is more of a mountain when I am running up it. (I promise, I am getting somewhere with this.)
I often go down to the rail trail along the river, which is a mostly flat, pretty place to run. The last two days, I have been running from my house. This means that if I want to get any distance in, I need to go down the mountain. And, of course, it means I need to get back to the top. Now, I could stay at the top. It's relatively flat on our street, and I can run a quarter of a mile down and back and stay at the top of the mountain. That's a lot of down and backs to get in four miles. No thanks. It's easier, but not much fun. (Note: you can follow along my running escapades on Twitter @jfershee and Nike+.)
My usual route from my house takes my down the mountain, then back up the mountain, where I turn around and retrace my steps. That means I am running up the steepest part of the run at mile 3.5. It's not always my favorite part of the run, even if it is my most triumphant. As I was slogging my way back up the mountain, my mind wandered and I caught myself thinking again, "It would have been a lot easier to just stay at the top." And it is. It's true in running, and it's true in most everything else we do.
It doesn't matter how you get to the top. Once you're there, it's easier to stay there than it was to get there. It may take a lot of work to get to the top. For most people, it does. But someone can just take you to the top, too. Once you're there, it's easier to stay there. And once you leave, it's hard to get back up.
Knowing all of this is important. And it is important to remember that not everyone has the same amount to climb to get to the top of whatever it is they are climbing. I did not come from money, but I had everything I needed. I am a straight, white male. The data show that starts you ahead of the game. I went to good public schools. I went to college. And law school. This required a lot of work to move ahead, but the opportunity was there for me in a way it isn't for many.
It's easy to start thinking that everyone is starting from the same point. And it's a lot easier to notice the people who are ahead of you on the way up. It's not that often that we look back, which can skew our perspective in unproductive ways.
As teachers, it's important to recognize that we can be part of helping our students move up their mountain. And they may not be starting from the same place we were. They may have further to go. Some may have less. It's our job to help them get where they want go. As a corollary, it's also important to remember that just because they might have farther to go, it's not our job to limit the mountains they can climb. To the contrary, it's our job to help them see that the sky truly is the limit.
That's my take away for the day: as hard as it is to keep climbing to the top, don't ever think you're doing it alone. Appreciate who helped you. Keep slogging. And when you get to the top, don't forget to see if you can help someone else up.
Wednesday, May 18, 2016
California is the back on my short list for the state's inability to successfully differentiate between corporations and limited liability companies (LLCs). Last week, an "unpublished/noncitable" decision that was published on Westlaw provided a good example.
The opinion states:
A corporation—including a limited liability corporation—may be served by effecting service on its agent for service of process. (Code Civ. Proc., § 416.10, subd. (a); see also Corp.Code, § 17701.16, subd. (a) [allowing service on limited liability corporations under Code Civ. Proc., § 413.10 et seq.].)7
*12 One of the ways a limited liability corporation can be served is by substituted service. (1 Weil & Brown, Cal. Practice Guide: Civil Procedure Before Trial (The Rutter Group 2015) ¶ 4:172, p. 4–26.) This requires that a copy of the summons and complaint be left at the office of the person to be served (or, in some cases, at the mailing address of the person to be served), in the presence of a person who is apparently in charge, “and by thereafter mailing a copy of the summons and complaint by first-class mail, postage prepaid to the person to be served at the place where a copy of the summons and complaint were left.” (Code Civ. Proc., § 415.20, subd. (a).)
No, no, no. First, even in California, an LLC is a "limited liability company." It says so right in the act. Cal. Corp. Code § 17701.01 (West) ("This title may be cited as the California Revised Uniform Limited Liability Company Act.").
And, yet, I have to admit, if you note the cite to the LLC act, California lawmakers have made this less clear than in other states. Yes, that's right. In California, the LLC Act is part of the California Corporations Code. Cal. Corp. Code §§ 17701.16 - 17713.13 (West). For that matter, so are partnerships, under Title 2. Sigh.
Would it be so terrible if the Corporations Code were called what it is: the Business Entities Code? As currently structured, LLCs and partnerships are arguably types of corporations under California law, as the above cases suggests. One could argue the headings don't change the meaning or intent of the laws. See Cal. Corp. Code § 6 (West) ("Title, division, part, chapter, article, and section headings contained herein do not in any manner affect the scope, meaning, or intent of the provisions of this code."). The problem with that is that the code text says otherwise: "This act shall be known as the Corporations Code." Cal. Corp. Code § 1 (West).
To reinforce that notion, the Code Commission notes from the 2014 main volume explain:
This code was listed in the appendices of Code Commission reports showing code classification as the “Corporations, Partnerships, and Associations Code.” The 14 syllables of that title appear to make it impractical, but no shorter phrase indicative of the full subject-scope has been found. Therefore, resort has been had to the rhetorical device of synecdoche, and the entire code designated by the name of longest part.
I admit I had to look up synecdoche to be sure I was on the right track, but the term supports, I think, my point that California is treating LLCs and partnerships as corporations (or some subset thereof). See, for example, this explanation:
Synecdoche is a literary device in which a part of something represents the whole or it may use a whole to represent a part.
Synecdoche may also use larger groups to refer to smaller groups or vice versa. It may also call a thing by the name of the material it is made of or it may refer to a thing in a container or packing by the name of that container or packing.
Still, even if it were accurate to says LLCs and partnerships are "types" of corporations under the California code, one thing is still clear: an LLC is a limited liability company, which is, at a minimum, a specific type of "limited liability corporation."
I supposed I can see how "14 syllables" might be deemed "impractical," but not at the cost of imprecision. The "Business Entities" -- or even just "Entities" or "Associations" -- Code would seem like a better, more accurate, option.
Oh well. At least the court cited the part of the California code for service of an LLC. That much, they got right.
Tuesday, May 10, 2016
I had a plan to write on something else today, but I got a note from Keith Bishop sharing his blog post, which he was right to think I would appreciated. In his post, Bishop discusses a California case:
The LLC May Well Be The Platypus Of Business Organizations
What happens to the attorney-client privilege when a corporation dissolves? Magistrate Judge Sallie Kim recently answered that question in Virtue Global Holdings Ltd. v. Rearden LLC, 2016 U.S. Dist. LEXIS 53076 (N.D. Cal. April 5, 2016):
When a corporation ceases to exist, “the corporate powers, rights and privileges of the corporation shall cease.” Cal. Corp. Code §1905(b). In that case, no entity holds the attorney-client privilege for Original MO2. City of Rialto, 492 F.Supp.2d at 1197 (“a dissolved corporation is not entitled to assert the attorney-client privilege”).
I am somewhat baffled by the ruling because the entity asserting the privilege in the case was not a corporation at all (Section 1905 is in the General Corporation Law). The entity attempting to claim the privilege was, according to the information provided in the opinion, indubitably a California limited liability company. Thus, the court should be citing the California Revised Uniform Limited Liability Company Act, not the General Corporation Law.
California, like many others states, seems to make the error relatively often.
Today, though, I will pick on the news. A Google News search of "limited liability corporation" for the past twenty-four hours provides a few such instances. (Note for new readers, an LLC is a "limited liability company," not corporation.)
I'll highlight two. According to one news outlet, the University of Illinois just extended a $2 million line of credit to an entity do research in Singapore.
To set up shop in another country, the university created a limited liability corporation, Singapore Research LLC. The LLC then established a private entity in Singapore which allows the center to compete legally for government grants.
Oops. Next, another news outlet reports:
A Nevada energy company said it wants to purchase an unfinished nuclear power plant from the Tennessee Valley Authority (TVA) and use the site in northeast Alabama to produce electricity with new technology.
Michael Dooley, managing partner of Phoenix Energy of Nevada, told the Associated Press his company wants to use the mothballed Bellefonte Nuclear Plant site as the base for a new, non-nuclear generation method.
. . .
Phoenix Energy of Nevada describes itself as a privately-held Nevada limited liability corporation, incorporated in October 2010, Kallanish Energy learns.
This time, though, the report is right. Phoenix Energy of Nevada, LLC (PENV) says on its web page it "is a Veteran owned closely and privately held viable early stage mid-market Nevada State Limited Liability Corporation (LLC) Small Business Company founded and incorporated in October 2010." Nope. It's an LLC.
I know I complain about this a lot, but there is value in getting it right. Reporters should get it right, and those who own the entity really should get it right. One of these days some court will find that an LLC didn't follow the corporate formalities required of a "limited liability corporation" and they won't even know to object.
I concede when one writes things like "company" and "corporation" a lot, a mistake may occur from time to time, especially when the distinction is not, on its face, crucial. My concern is less that people make mistakes. It's more that they don't know they are making one. That's where I come in.
On the plus side, I am about halfway through grading my Business Organizations exams, and not one person has called an LLC a corporation.
Wednesday, May 4, 2016
In follow up to my post yesterday, my trusted and valued co-blogger Joan Heminway asked a good question (as usual) based one of my comments. My response became long enough that I thought it warranted a follow-up post (and it needed formatting). Joan commented:
you say: "there should be no problem if, for example, Delaware corporate law did not allow a for-profit entity to exercise religion for the sole sake of religion. I think that is the case right now: that’s not a proper corporate purpose under my read of existing law." Are you implying that a corporate purpose of that kind for a for-profit corporation organized in Delaware would be unlawful? Can you explain?
My response: I am suggesting exactly that, though I concede one might need a complaining shareholder first. My read of eBay, and Chief Justice Strine’s musing on the subject, suggest that an entity that is run for purposes of religion (not shareholder wealth maximization) first and foremost, is an improper use of the Delaware corporate form. (“I simply indicate that the corporate law requires directors, as a matter of their duty of loyalty, to pursue a good faith strategy to maximize profits for the stockholders.”) Chancellor Chandler explained in eBay:
The corporate form in which craigslist operates, however, is not an appropriate vehicle for purely philanthropic ends, at least not when there are other stockholders interested in realizing a return on their investment.
I think this definition of philanthropic easily includes religious ends (or should).
Chancellor Chandler continued:
Jim and Craig opted to form craigslist, Inc. as a for-profit Delaware corporation and voluntarily accepted millions of dollars from eBay as part of a transaction whereby eBay became a stockholder. Having chosen a for-profit corporate form, the craigslist directors are bound by the fiduciary duties and standards that accompany that form. Those standards include acting to promote the value of the corporation for the benefit of its stockholders.
I don’t see how this should play any differently if it applied to religion. Consider, for example, this possible spin:
Jane and Carrie opted to form Religion, Inc., as a for-profit Delaware corporation and voluntarily accepted millions of dollars from BigCo as part of a transaction whereby BigCo became a stockholder. Having chosen a for-profit corporate form, the Religion directors are bound by the fiduciary duties and standards that accompany that form. Those standards include acting to promote the value of the corporation for the benefit of its stockholders.
Further to the point, Chancellor Chandler added:
I cannot accept as valid . . . a corporate policy that specifically, clearly, and admittedly seeks not to maximize the economic value of a for-profit Delaware corporation for the benefit of its stockholders—no matter whether those stockholders are individuals of modest means or a corporate titan of online commerce.
Thus, a for-profit business can be religious in nature—e.g., make religious books or products or sponsor religious seminars—but as a Delaware corporation, the purpose of the entity must be to “promote the value of the corporation for the benefit of its stockholders.”
This is the potential problem with the Hobby Lobby case as to Delaware law. There, the companies had a lot to lose:
If they and their companies refuse to provide contraceptive coverage, they face severe economic consequences: about $475 million per year for Hobby Lobby, $33 million per year for Conestoga, and $15 million per year for Mardel. And if they drop coverage altogether, they could face penalties of roughly $26 million for Hobby Lobby, $1.8 million for Conestoga, and $800,000 for Mardel.
These losses were justified in that case as being necessary to exercise religion, and not to further a corporate purpose. Of course, they had to make that claim, because otherwise they couldn’t get the benefit of RFRA, which requires demonstrating “an honest conviction,” which could be problematic if the reason was couched in business terms, and not religious ones.
Incidentally, I think the business judgment rule should probably protect this decision, anyway, but I don’t know that Delaware law would support that view. In fact, it shouldn't based in recent case law, and I think plainly eBay says no on that one. The Supreme Court says RFRA protects the right to pursue religious ends. It doesn't mean Delaware law does. (Note: Hobby Lobby is not a Delaware entity, so the rules are admittedly different.)
Thus, my fix seek to balance these competing possible outcomes. Tell shareholders your plan, and they can’t question it later, even if that plan costs the company $475 million in losses. Where the law has evolved, I don't think it's fair to suggest it was part of the bargain for all companies, thought maybe investors in Hobby Lobby did know. But it doesn't matter. I thought craigslist’s long-standing business plan was sufficient notice, too. Chancellor Chandler disagreed.
Tuesday, May 3, 2016
A recent Vanity Fair article discussing Citizens United is making the rounds. (I saw it on Facebook!) The article notes:
It had already been established, in Buckley v. Valeo (1976), that anyone has a First Amendment right to spend his or her own money advancing his or her own cause, including a candidacy for political office. Citizens United extended this right to legally created “persons” such as corporations and unions.
I have been giving some more thought to whole “personhood” discussion of late, and my thoughts have taken me back to both Hobby Lobby and Citizens United. What follows is a long blog post that pulls together my thoughts on these two cases in an admittedly not well developed way. But it's a start (though I really should be grading).
Tuesday, April 26, 2016
Beer is good. It's an opinion based on serious research. A lot of beer laws are not good. They often restrict beer distribution, limits sales, and generally make it harder for us to access good beverages.
There have been some benefits of these restrictions. The main one, probably, is that it provided the storyline for Smokey and The Bandit:
Big Enos (Pat McCormick) wants to drink Coors at a truck show, but in 1977 it was illegal to sell Coors east of the Mississippi River without a permit. Truck driver Bo "Bandit" Darville (Burt Reynolds) agrees to pick up the beer in Texas and drive it to Georgia within 28 hours. When Bo picks up hitchhiker Carrie (Sally Field), he attracts the attention of Sheriff Buford T. Justice (Jackie Gleason). Angry that Carrie will not marry his son, Justice embarks on a high-speed chase after Bandit.
(Note that IMDB's description -- "The Bandit is hired on to run a tractor trailer full of beer over county lines in hot pursuit by a pesky sheriff." -- seems to have confused the film with the Dukes of Hazzard. Crossing state, not county, lines was the issue and Rosco P. Coltrane was not part of the Bandit films. I digress.)
In my home state of West Virginia, getting craft beer, until 2009, was hard. Beer with more than 6% ABV could not be sold in the state. All beer in the state is "non-intoxicating beer" but the definition was raised from 6% so that it now includes (and allows) all malt-based beverages between 0.5% and 12% ABV.
Tuesday, April 19, 2016
A recent Illinois case uniquely applied the alter ego doctrine in the context of a criminal case. See People v. Abrams, 47 N.E.3d 295, ¶¶ 57-61, 399 Ill. Dec. 790 (2015) ( slip op. PDF here ). In my view, not quite right, either.
In the case, the defendant (Abrams) stole $1.87 million from the victim (Lev), which led to a restitution order for that amount and a twelve-year prison sentence for Abrams. The conviction was for a Class 1 felony, for the the theft of property exceeding $500,000. Id.¶ 23 (citing 720 Ill. Comp. Stat. Ann. 5/16-1(a(2) (West 2012)). The statute provides, "Theft of property exceeding $500,000 and not exceeding $1,000,000 in value is a Class 1 non-probationable felony." 720 Ill. Comp. Stat. Ann. 5/16-1(b)(6.2).
On appeal, the defendant argued the indictment was wrong in that it stated the money was stolen from Lev, when most of the money actually belonged to Lev's company, The Fred Lev Company (presumably a corporation, but that is not stated expressly). Abrams claimed:
the State did not prove he obtained “unauthorized control” of more than $500,000 of Lev’s property. Abrams recognizes the evidence presented at trial established that over $1.8 million was taken. Abrams contests the finding that the entire amount was taken from Lev and not The Fred Lev Company.
Abrams, 47 N.E.3d 295 ¶ 57. The court countered: "This is a distinction without a difference. Two separate doctrines of law guide our decision." Id. Although I think the court is probably right on the outcome, one of the rationales is wrongly explained.
The court's first assertion is as follows:
First, the alter ego doctrine of corporate law was developed for and has been traditionally used by third persons injured due to their reliance on the existence of a distinct corporate entity. In re Rehabilitation of Centaur Insurance Co., 158 Ill. 2d 166, 173 (1994). “The doctrine fastens liability on the individual or entity that uses a corporation merely as an instrumentality to conduct that person’s or entity’s business.” Peetoom v. Swanson, 334 Ill. App. 3d 523, 527 (2002). In the context of “piercing the corporate veil,” an alter ego analysis starts with examining the factors which reveal how the corporation operates and the particular party’s relationship to that operation. A.G. Cullen Construction, Inc. v. Burnham Partners, LLC, 2015 IL App (1st) 122538, ¶ 43. Generally, did the corporation function simply as a facade for the dominant shareholder? Id. Here, without question, the corporate entity, The Fred Lev Company, served as the alter ego or business conduit of Lev, and Abrams’ own testimony confirmed it.
Id.¶ 58. This is an overreach, as far as I am concerned, and I don't like the ease with which the court uses veil piercing without a detailed analysis. I believe that veil piercing, if it is to be used, should have some consistency, though I know that's now how it tends to work (i.e., without consistency). Here, would the court have pierced the veil if this were a creditor bringing suit directly against Lev because his corporation couldn't satisfy a judgment? I think it would be wrong to do so on similar facts, so I think it is careless to apply the alter ego doctrine in this manner here.
The court continues:
Second, the indictments sufficiently apprised Abrams of the charges against him. See People v. Collins, 214 Ill. 2d 206, 219-20 (2005) (any variance was neither material nor prejudicial to defendant). We do not believe that the defendant was in any way prejudiced by the indictments at issue.
Id.¶ 59. I totally and completely buy this. And, in addition, the court noted:
Even more convincing is that in opening statements to the jury, defense counsel told the jury that the checking accounts “were not used solely for [Lev’s and Abrams’] corporate work. They didn’t separate the corporation from their personal lives and personal expenses. *** They were using everything that went into that corporate account and writing checks on it for their own personal private, for their own person use. There was a commingling.” Additionally, defense counsel referred to “Fred Lev and Company” as being both Abrams and Lev. In closing argument, defense counsel argued that the company was “a small-time operation” with “one corporate book” that both Lev and Abrams used as “their own personal piggybank.”
Id.¶ 60. In the trial, it was determined that the statutory felony monetary amount threshold was met. And the defendant admitted that he considered the funds to be Lev's and that he (the defendant) disregarded the entity. I see no notice problem as to the defendant, and I have no concern that a jury couldn't understand whether the theft occurred in the amount claimed. I can see an argument, perhaps, that the prosecution should still get it right as to whom the money actually belonged, but it seems to me correct to say the crime was properly analyzed and assessed as to the criminal elements, so the claim is harmless error in this instance. Lev would have been the one to assert the claim for the Company, so it is hard to see how Abrams was harmed.
I will maintain, though, that the veil piercing rationale is unnecessary and overstated. (I might be comfortable if they used the analogy to explain harmless error, but the way it was done is too much for me.) Furthermore, as to the judgment for restitution to Lev, it is wrong. That money (or some portion of it) belongs to The Fred Lev Company. Suppose there are creditors out there who have gone unpaid. Or they are unpaid down the road. At a minimum, the funds stolen from the company should go back through the company so it could be clear what funds were there and should have been available. Thus, as to the charges, I think the court probably got it right. But as to respecting the entity (and protecting creditors now, and in the future), this could have been handled better.
H/T Prof. Gary Rosin
Tuesday, April 12, 2016
Short post today: I spent Business Organizations today whining that Benefit Corporations dilute the business judgment rule for regular corporations. I do this, in part, because I hate it, but I also do it because students can see (I think) how the concept of the business judgment rule works in practice.
I left class to find that Coca-Cola is providing paid leave for new fathers, not just new mothers. I fully support this, and think it is both wise and moral. The report notes:
Coke said one motivation is to help it recruit and retain millennials.
This makes total sense to me. And I think it good business. But I still hope the reason to say this is that it is (in the Board's judgment) good business, and not because the board thinks they otherwise need to justify such a decision.
Tuesday, April 5, 2016
AP reported yesterday:
NEW ORLEANS (AP) — A federal judge in New Orleans granted final approval Monday to an estimated $20 billion settlement over the 2010 BP oil spill in the Gulf of Mexico, resolving years of litigation over the worst offshore spill in the nation's history.
The settlement, first announced in July, includes $5.5 billion in civil Clean Water Act penalties and billions more to cover environmental damage and other claims by the five Gulf states and local governments. The money is to be paid out over roughly 16 years. The U.S. Justice Department has estimated that the settlement will cost the oil giant as much as $20.8 billion, the largest environmental settlement in U.S. history as well as the largest-ever civil settlement with a single entity.
The settlement with the government (private claims remain) reminds me of a post I made almost six years ago, where I argued that it was not the federal government's job to avoid the harm of such an oil spill, and it was neither advisable nor reasonable to expect that the government could handle such an event. I explained my thinking:
Just imagine what would have happened six months [before the oil spill] if the President had suggested a new agency that would be trained and funded to clean up disasters like this, granted the authority to take over an oil well at the first sign of trouble, and this agency would be funded by a large tax on oil companies. You can be sure that the response would have been that the government shouldn’t be in this business because the oil companies are better trained, better prepared, and better able to respond to such problems. I guarantee it.
Yes, perhaps the federal government could have been swifter than it has been, especially with regard to protecting the coast. However, in this situation, President Obama’s primary mistake was likely listening to BP when they said they could, and would, handle the problem. I find it curious that many of the same people who often argue that government should stay out of the way of big businesses now want to lay blame at the feet of a president who did just that.
In this political era where candidates suggest that the government should be in business of building big walls (funded, and perhaps also built, by other governments) and free college tuition, I think it's worth taking another close look at what we really should expect of government. (For the record, of the two ideas proposed above, I hate the first idea, and I am skeptical of the second. I appreciate the sentiment behind the free college tuition idea, but highly question the wisdom or feasibility in practice, even if I would prefer that someone else pay my law school loans.)
The reality is that, where we allow highly specialized industrial activity, we cannot ensure there will be no harm. We can try create protections, and we can enact penalties for failures to follow the rules and remediate harm. This is not to say everything was done correctly leading up to the Deepwater Horizon spill. There were significant regulatory failures to accompany BP's failures. But when we look for solutions, we still need to be realistic about what role the government can and should take. About one thing I am confident: it is still not a good use of government funding to put a fleet of government-funded, oil-well plugging submarines at the ready.
Tuesday, March 29, 2016
(c) for purposes of imposing liability on any member or manager of a limited liability company for the debts, obligations or other liabilities of the company, a court shall consider only the following factors no one (1) of which, except fraud, is sufficient to impose liability:(i) Fraud;(ii) Inadequate capitalization;(iii) Failure to observe company formalities as required by law; and(iv) Intermingling of assets, business operations and finances of the company and the members to such an extent that there is no distinction between them.
The veil of a limited liability company may be pierced under exceptional circumstances when: (1) the limited liability company is not only owned, influenced and governed by its members, but the required separateness has ceased to exist due to misuse of the limited liability company; and (2) the facts are such that an adherence to the fiction of its separate existence would, under the particular circumstances, lead to injustice, fundamental unfairness, or inequity.
(d) In any analysis conducted under subsection (c) of this section, a court shall not consider factors intrinsic to the character and operation of a limited liability company, whether a single or multiple member limited liability company. Factors intrinsic to the character and operation of a limited liability company include but are not limited to:(i) The ability to elect treatment as a disregarded or pass-through entity for tax purposes;(ii) Flexible operation or organization including the failure to observe any particular formality relating to the exercise of the company’s powers or management of its activities;(iii) The exercise of ownership, influence and governance by a member or manager;(iv) The protection of members’ and managers’ personal assets from the obligations and acts of the limited liability company.
Tuesday, March 22, 2016
March has provided a slate of mistakes as to entity form, focusing (as it almost always does) on limited liability companies (LLCs) and various outlets calling such entities "corporations." These are not in any particular order, but lists are neat. Enjoy!
(1 ) Politifact Checks Trump Facts, Forgets to Check Entity Law Facts
In an article on Politifact.com, Donald Trump incorrectly says Virginia winery is the largest on East Coast, which determines that Trump's claims about the size of a winery that his son runs to be false and notes some statements are incorrect. Ironically, the article also claims:
A legal disclaimer on the winery website says the GOP presidential candidate doesn’t own the winery. The venture is a limited liability corporation, and its owners are not a matter of public record.
Wrong. The winery site says, "Trump Winery is a registered trade name of Eric Trump Wine Manufacturing LLC, which is not owned, managed or affiliated with Donald J. Trump, The Trump Organization or any of their affiliates." An LLC is still not a corporation.
(2) Big Bang Theory: Big Brains Don't Know Entity Law
I don't watch the Big Bang Theory, but my colleague at Valparaiso University, Professor Rebecca J. Huss, is a reader of this blog who also cares about precise language with regard to LLCs alerted me to this one. The story line of the March 10 show (the show can be found here) related to a the creation of a partnership agreement for some of the characters. One thing that is realistic is that the folks think it's a good idea to form an entity and draft contract language without a lawyer. One character says he has some concerns about the partnership, and another replies with this "joke": "Are you suggesting a limited liability corporation, because I did not LLC that coming." (The offending segment is roughly 14 minutes into the show.) (This was also covered at Kentucky Business Entity Law Blog, here, which noted, "Ughhhh. LLC ≠ limited liability corporation. Rather, LLC = limited liability company.")
(3) Ghost LLCs Masquerading as Corporations
The Washington Post last week ran a story, How ‘ghost corporations’ are funding the 2016 election. The article discusses how entities can be used to shield those backing political candidates. The article states:
Advocates for stronger campaign-finance enforcement fear there will be even more pop-up limited liability corporations (LLCs) funneling money into independent groups, making it difficult to discern the identities of wealthy players seeking to influence this year’s presidential and congressional contests.
. . . .
Many corporate givers this cycle are well-established hedge funds, energy companies and real estate firms. But a significant share of the money is coming from newly formed LLCs with cryptic names that offer few clues about their backers.
(4) Pass-Through Tax Law Isn't Really About Corporations (mostly)
The Topeka Capital-Journal Editorial Board wrote on March 20: LLC loophole needs plugging: Even some small business owners think the tax exemption should be eliminated. The editorial is related to a 2012 Kansas law, HB 2117, which eliminated taxes on pass-though entities like LLCs, S corps, partnerships, farms, and sole proprietorships. (So, I admit, S corps are corporation, but they are essentially partnerships for federal tax purposes.) Even though I agree with some their concerns, the board makes a couple mistakes here when they assert that the bill "was simply an unconditional gift from the state for anyone who has created an entity called a limited liability corporation (LLC)."
First, it assumes that just LLCs get the benefit, which is not true. All pass-though entities benefit. Second, of course, the "limited liability corporation" is a corporation, not an LLC, and the corporation (other than one chosen to be an S corp) does not get the benefit of the law.
(5) Court Gets Entity Right, Regulations Not Quite
I'm not one to leave the courts out of this. Judge Robert M. Dow, Jr., of the United States District Court, Northern Illinois has an incredible resume. A member of Phi Beta Kappa and a Rhodes Scholar, his credentials are impressive. In a recent decision, though, his opinion refers to a defendant LLC correctly, but then goes on to say that Treasury Regulations are silent on treatment of "limited liability corporations." Alas, that's not accurate. Here's the passage:
It is undisputed that, as of the date of Anderson Bros.' withdrawal from the fund, Anderson Bros. (an Illinois corporation) was 100% owned by Anderson. Anderson therefore had a “controlling interest” in Anderson Bros. 29 U.S.C. § 1.414(c)-2(b)(2)(A). At the same time, Defendant (an Illinois limited liability company) was also solely owned by Anderson. Section 1.414(c)-2 of the Treasury Regulations does not address specifically the treatment of limited liability corporations, and the Board does not address this issue in its brief. According to the Internal Revenue Service (“IRS”), “an LLC with only one member is treated as an entity disregarded as separate from its owner for income tax purposes * * *, unless it files Form 8832 and affirmatively elects to be treated as a corporation.” IRS, Single Member Limited Liability Companies, https://www.irs.gov/Businesses/Small-Businesses-&-Self-Employed/Single-Member-Limited-Liability-Companies (last visited Mar. 16, 2016).
Bd. of Trustees of the Auto. Mechanics' Local No. 701 Union & Inustry Pension Fund v. 6516 Ogden Ave., LLC, No. 14-CV-3531, 2016 WL 1043422, at *4 (N.D. Ill. Mar. 16, 2016) (emphasis added).