Tuesday, December 8, 2020
A recent federal court order gets the basics of entity law representation right, but it's pretty murky on exactly what entity is involved. The case involves a claim of trademark infringement in which the plaintiff, International Watchman, Inc., sued OnceWill, LLC. The order explains:
In OnceWill's Motion, OnceWill indicated that it “is a sole proprietorship consisting of proprietor Ryan Sood.” (Id.) OnceWill's Motion also showed that it was filed by Ryan Sood, acting pro se. (Id.) The Court granted OnceWill's Motion that same day.
Subsequently, also on November 12, 2020, Plaintiff filed its Motion, requesting that the Court strike OnceWill's Motion and reconsider its order granting the requested extension of time for OnceWill to respond to Plaintiff's Complaint. (Doc. No. 13.) Plaintiff asserts that OnceWill is a limited liability company (“LLC”), not a sole proprietorship as OnceWill represented. (Id. at 2.) In support of this assertion, Plaintiff provided a printout from the Washington Secretary of State's website showing that OnceWill is listed as an LLC. (Id.; Doc. No. 13-1.) As a result of OnceWill's status as an LLC, Plaintiff argues that OnceWill only can maintain litigation or appear in court through an attorney and cannot file pleadings or motions in Court on its own behalf pro se as it has attempted to do here.
“The law is well-settled that a corporation may appear in federal courts only through licensed counsel and not through the pro se representation of an officer, agent, or shareholder.” Nat'l Labor Relations Bd. v. Consol. Food Servs., Inc., 81 F. App'x 13, 14 n.1 (6th Cir. 2003). “This rule also applies to limited liability corporations.” Barrette Outdoor Living, Inc. v. Michigan Resin Representatives, LLC, No. 11-13335, 2013 WL 1799858, at *7 (E.D. Mich. Apr. 5, 2013), report and recommendation adopted, 2013 WL 1800356 (E.D. Mich. Apr. 29, 2013); accord Perry v. Krieger Beard Servs., LLC, No. 3:17-cv-161, 2019 U.S. Dist. LEXIS 27311, at *2 (S.D. Ohio Feb. 21, 2019) (“[L]imited liability companies may not appear in this Court pro se and, thus, may only appear through a licensed attorney admitted to practice in this Court.”); Hilton I. Hale & Associates, LLC v. Gaebler, No. 2:10–CV–920, 2011 WL 308275, at *1 (S.D. Ohio Jan. 28, 2011) (“[A] limited liability corporation is another example of an artificial entity that should retain legal counsel before appearing in federal court.”).
Tuesday, December 1, 2020
In September of 2015, I did a Westlaw search, which returned 4575 cases referring to a "limited liability corporation," rather than the proper "limited liability company" or LLC. That search followed one that I had done on May 2011, and the 2015 search showed a jump of 1802 new cases. Today's search returned 5,211 such cases, an increase of 636 cases in five and a half years. That's still more than 100 cases per year, but it's a reduction of about half the rate we were seeing between 2011 and 2015. (I concede this is not especially scientific, but it's still instructive.)
It appears, then, that we're making progress, but two steps forward, one step back. Even Jeopardy -- Jeopardy! -- recently got this wrong. I thank Professor Samantha Prince at Penn State Dickinson Law for bringing this to my attention, upsetting as it is.
In addition, a recent tax court opinion followed suit: "All limited liability corporations, or LLCs, mentioned in this opinion are entities treated as partnerships for federal tax purposes." Padda v. Comm'r of Internal Revenue, T.C.M. (RIA) 2020-154, at n.3 (T.C. 2020) (emphasis added).
So, there's clearly a lot of work left to do, but I remain hopeful that we're trending in the right direction. LLCs are still not corporations, and we need to keep reminding folks. Stay vigilant, good people!
Tuesday, October 27, 2020
If one is going to ignore entity distinctions, I supposed one may as well go all in. Following is from an opinion issued last week that involves Christeyns Laundry Technology, LLC (“Christeyns”), which is a limited liability company. The opinion, though, asserts:
Selective is a New Jersey corporation with its principal place of business in New Jersey. [Docket No. 1-1, ¶ 2.] Christeyns is a Limited Liability Corporation with two partners: Christeyns Holding, Inc., and Rudi Moors. [Docket No. 25, at 14, ¶ 7.] Christeyns Holding, Inc., is a Delaware corporation with its principal place of business in East Bridgewater, Massachusetts. [Id. at 14, ¶ 8.] Rudi Moors is a resident of South-Easton, Massachusetts. [Id. at 14, ¶ 9.] The remaining parties’ claims arise out of a common nucleus of operative fact.
SELECTIVE INSURANCE COMPANY OF AMERICA, Plaintiff, v. CHRISTEYNS LAUNDRY TECHNOLOGY, LLC, et al., Defendants. Additional Party Names: Clean Green Textile Servs., LLC, Lavatec Laundry Tech., Inc., Single Source Laundry Sol., No. CV1911723RMBAMD, 2020 WL 6194015, at *3 n.2 (D.N.J. Oct. 22, 2020) (emphasis added).
We have already established that an LLC is a limited liability company, and not a corporation. And while the opinion seems to track the diversity requirements of corporation and an LLC correctly, LLCs are not partnerships, and thus do not have partners, either. LLCs are made up of members. Referring to them as members clearly connotes limited liability protections that are generally provide to members of an LLC, while the generic "partner" could imply that each "partner" faces unlimited liability for the debts and obligations of a "partnership."
Similarly, another case from last week made the following observation about a witness:
"Ernest Thompson is listed as "GEN. PART" of M Nadlan LLC per DHPD records. The court takes this to mean General Partner of the Limited Liability Corporation."
Yolanda Martinez, Petitioner, M Nadlan LLC, Respondent., No. 41219/2019, 2020 WL 6166864, at *3 n.3 (N.Y. Civ. Ct. Oct. 21, 2020) (emphasis added).
Again with the mixing of entities. In fairness, the court did not label Mr. Thompson as "GEN. PART." Someone else did. But the court did refer to the LLC as a corporation. Once again, although I know LLCs sometimes adopt partnership terms, they should not. And yet again, here, "general partner" could imply personal liability for entity debts on the part of Mr. Thompson, evening though it is more likely he is a managing member of the LLC. If you are listed as a general partner, that holding out could be deemed to be a form or personal guarantee, at least where one could plausibly claim reliance. Moreover, it's just bad form.
Anyway, it's possible, and maybe even likely, that courts would uphold limited liability protections for these LLC members who are listed as partners. But why take the risk of having to find out?
Tuesday, October 20, 2020
I was today years old when I learned that the California courts have a group of cases captioned the "Franchise Tax Board Limited Liability Corporation Tax Refund Cases." This is distressing.
In that case, the court explains: "This coordinated litigation involves the remedies available to certain limited liability companies (LLCs) that paid a levy pursuant to section 17942 of the Revenue and Taxation Code which was later determined by this District to be unconstitutional." Fran. Tax Bd. Ltd. Liab. Corp. Tax Refund Cases, 235 Cal. Rptr. 3d 692, 697 (Cal. App. 1st Dist. 2018), reh'g denied (Aug. 6, 2018), review denied (Oct. 31, 2018) (emphasis added). We can see clearly that rhe courts knows these are limited liability companies, and not limited liability corporations. Nonetheless, for eternity, when citied, these cases will refer to limited liability corporations. See, e..g, Union Band Wage & Hour Case v. Union Bank, B295835, 2020 WL 6018545, at *18 (Cal. App. 2d Dist. Oct. 9, 2020) ("Their reliance on Franchise Tax Board Limited Liability Corp. Tax Refund Cases (2018) 25 Cal.App.5th 369, 395-396 does not support their position.").
Another recent case makes a similar mistake, thought it seems to have gotten a lot of other things right. A Louisiana court explained:
Robinson argues that, pursuant to La. R.S. 12:1320(B), as the manager of HLN, a limited liability corporation, Robinson is not liable, in solido, with HLN. Moreover, Robinson argues that Appellant mischaracterized the claim in an attempt to “resurrect” a prescribed tort claim. This Court, in Streiffer v. Deltatech Constr., LLC, explained that “[a] limited liability company is a business entity separate from its members and its members’ liability is governed solely and exclusively by the law of limited liability companies. ‘The fact that a person is the managing member of a limited liability company and/or has a significant ownership interest therein does not in itself make that person liable for its debts.’ ” 2018-0155, pp. 7-8 (La. App. 4 Cir. 10/10/18), ––– So.3d ––––, 2018 WL 4923559, writ denied, 2018-2107 (La. 2/18/19), 263 So.3d 1154 (internal citations omitted). Pursuant to La. C.C. Art. 24, limited liability companies, such as HLN, and its members, such as Robinson, are considered wholly separate entities. Ogea v. Merritt, 2013-1085, p. 6 (La. 12/10/13), 130 So.3d 888, 894-95. Further, pursuant to La. R.S. 12:1320(B), “no **11 member, manager, employee, or agent of a limited liability company is liable in such capacity for a debt, obligation, or liability of the limited liability company.” Further, pursuant to La. R.S. 12:1320(C), “[a] member, manager, employee, or agent of a limited liability company is not a proper party to a proceeding by or against a limited liability company, except when the object is to enforce such a person's rights against or liability to the limited liability company.” Based on the record before us, Robinson, as a manager of the limited liability company, cannot be liable, in solido; Appellant offered no evidence to rebut the general rule of limited liability.
Thomas v. Hous. Louisiana Now, L.L.C., 2020-0183 (La. App. 4 Cir. 9/30/20) (emphasis added). Other than the limited liability corporation thing, this is about right. An individual who is a member of an LLC may have some independent liability (respondent inferior) by his or her actions in tort or through veil piercing, but they are not liable for the torts of the entity merely by being a member or manager. Here the court notes that no evidence was offered to suggest otherwise. Thus, the rest of the assessment is spot on.
Monday, October 5, 2020
The fourth annual Business Law Prof Blog symposium, Connecting the Threads, is happening, despite the pandemic. We are proceeding in a virtual format, hosted on Zoom on Friday, October 16. More information is available here.
The line-up includes an impressive majority of our bloggers speaking on a wide range of topics from shareholder proposals to social enterprise, opting out of partnership, and much more. Most papers will have a faculty and student discussant. My submission, “Business Law and Lawyering in the Wake of COVID-19,” is coauthored with two students and carries one hour of Tennessee ethics credit. While I wish we could host everyone in person in Knoxville, it always is an amazing day when we all get together. I look forward to learning more about what everyone is working on and hearing what everyone has to say.
Tuesday, July 7, 2020
As to the first element, the Court agrees that the Eastern District of Michigan would have subject matter jurisdiction pursuant to the Class Action Fairness Act, 28 U.S.C. § 1332(d)(2). The Class Action Fairness Act vests federal courts with original jurisdiction over class actions that meet the following prerequisites: (1) “the matter in controversy exceeds the sum or value of $5,000,000, exclusive of interest and costs”; (2) the parties meet minimal requirements for diversity such that “any member of a class of plaintiffs is a citizen of a State different from any defendant”; and (3) the class equals to or exceeds 100 individuals in the aggregate. 28 U.S.C. § 1332(d). Those requirements are satisfied here. ... [A]t least one class member is a citizen of a different state from Defendant: Plaintiff Esquer is a citizen of California, id. ¶ 17, whereas Defendant is a Michigan limited liability company with its principal place of business in Michigan, id. ¶ 26; Rollins Decl. ¶ 11. Accordingly, the Eastern District of Michigan would have subject matter jurisdiction under the Class Action Fairness Act.
As to the second element, Defendant StockX, LLC would be subject to personal jurisdiction in Michigan as a Michigan limited liability corporation with its principal place of business in Michigan, as set forth above.
Tuesday, May 19, 2020
I am teaching Business Associations this summer, and I am excited to get back in the classroom. Well, I was. Instead, I am teaching in virtual class room via Zoom. I am still glad to be interacting with students in a teaching capacity, but I sure miss the classroom setting. I am glad, though, to have this experience so I am closer to what this has been like for our students and faculty. I still have the benefit of my colleagues experiences, students who have been in the online learning environment, and a little time to plan, so it's better for me than it was for everyone in March. Still, there is quite a learning curve on all of this.
Over the past several years, I have asked students to create a fictional limited liability company (LLC) for our first class. It does a number of things. To begin, it connects them with a whole host of decisions businesses must make in choosing their entity form. It also introduces them to the use of forms and how that works. I always give them an old version of the form. This year, I used 2017 Articles of Organization for a West Virginia Limited Liability Company. It does a couple of things. There is an updated form (2019), so it gives me a chance to talk about the dangers of using precedent forms and accepting what others provide you without checking for yourself. (Side note: I used West Virginia even though I an in Nebraska, because Nebraska doesn't have a form. I use this one to compare and contrast.)
In addition, I like my students to see how most businesses start with entity choice and formation -- by starting one. It leads to some great conversations about limited liability, default rules, member/manager management choices, etc. Each year, I have had at least one person opt-in for personal liability, for example, for all members.
I also, which will shock no one, use the form to discuss the distinct nature of LLCs and how they are NOT corporations. And yet, the West Virginia LLC form tries to under cut me at each turn. For example, the form requires that the LLC name choose a "corporate name ending." From the instructions:
Enter the exact name of the company and be sure to include one of the required corporate name endings: “limited liability company,” “limited company,” or the abbreviations “L.L.C.,” “LLC,” “L.C.,” or “LC.” “Limited” may be abbreviated as “Ltd.” and “Company” may be abbreviated as “Co.” [WV Code §31B-1-105] Professional companies must use “professional limited liability company,” “professional L.L.C.,” “professional LLC,” “P.L.L.C.,” or “PLLC.” [WV Code §31B-13-1303]
Seriously, people. LLC are not corporate. In fact, choosing a corporate name ending would be contrary to the statute.
The form continues:
13. a. The purpose(s) for which this limited liability company is formed is as follows (required): [Describe the type(s) of business activity which will be conducted, for example, “real estate,” “construction of residential and commercial buildings,” “commercial painting,” “professional practice of law" (see Section 2. for acceptable "professional" business activities). Purpose may conclude with words “…including the transaction of any or all lawful business for which corporations may be incorporated in West Virginia.”] (final emphasis added)
Finally, the instructions state that
[t]he principal office address need not be in WV, but is the principal place of business for the company. This is generally the address where all corporate documents (records) are maintained.(final emphasis added)
My students know from day one this matters to me, and it's not just semantics. My (over) zealousness helps underscore the importance of entity decisions, and the unique opportunities entities can provide, within the default rules and as modified. My first day, I always make sure students see this at least twice: "A thing you have to know. LLCs are not Corporations!"
Is it overkill? Perhaps, we all have our things.
Oh, and it's time for West Virginia to add a 2020 update to the LLC form.
Wednesday, April 29, 2020
This has been quite a first year as a dean. Heck, it's been quite a year for all of us.
I woke up (very) early this morning, and it struck me that I hadn't been in contact with our students since Friday, which was our last day of classes. I don't want to be a distraction to their studies, but I also realized the midway through the first week, they might need a reminder of what they have accomplished in the face of unique and unprecedented challenges. Following is the note I sent our students, which I share for all of us who might need a reminder of what we're accomplishing. It is addressed to our Creighton Law students, but it's for all law students. Hang in there.
It’s the middle of the first week of what has to be the strangest finals we have ever experienced. This is always a time of hard work, long days, and high stress, but never before have we had to be so separate while going through it. We can’t experience study group or lunch breaks with friends, or play basketball or soccer in a group to blow off steam. In addition, there are health concerns for ourselves and loved ones, and many of us have kids at home, in wide ranges of ages who may need help with homework or just to be watched because the daycares are closed.
Despite all of this, you have shown up. You have worked, and you have learned. You are a remarkable group of people, and I am so proud of all you have accomplished. I know there is more to do, and I know this has not been easy. And there will continue to be bumps in the road, so I need you to know you can do this. Not just exams. Not just law school. All of it. You can do life, and you can be exceptional at what you do.
This is true even if you’re struggling right now. It’s not what happens in the next couple of days that will define you. It will be how you respond on the other side of this that matters, and from what I have seen, you are up to the task. And know you will have your Creighton Law community by your side, or at you back, when you need it.
I know you have a lot left to do, so I won’t take up more of your time. Please just know that even though we’re not in the law school, we’re still here for you. Keep at it, and know you’re not alone.
Tuesday, March 24, 2020
Like so many law schools, we're navigating our way to online and other remote teaching and learning in a rapid and unexpected way. We started classes yesterday, and it's gone fairly well. Our faculty has worked hard, and our students have been incredibly resilient in the face this adversity we all, unfortunately, share. It does, though, impact people in many different ways.
Some people face additional health risks, financial challenges, childcare problems, technology limitations, learning disabilities, and more, and I have been so impressed with the strength and composure I have seen in our community. I suspect it's that way a lot of places, and I hope so, but it has been remarkable to see.
The Harvard Business Review posted a piece yesterday that framed this whole COVID-19 experience in a way I had not considered. The piece is titled, That Discomfort You’re Feeling Is Grief. I would not have framed it the way, but I think it's an important perspective. The whole piece is worth a read, but here are some important points worth considering:
Anticipatory grief is the mind going to the future and imagining the worst. To calm yourself, you want to come into the present. This will be familiar advice to anyone who has meditated or practiced mindfulness but people are always surprised at how prosaic this can be. You can name five things in the room. There’s a computer, a chair, a picture of the dog, an old rug and a coffee mug. It’s that simple. Breathe. Realize that in the present moment, nothing you’ve anticipated has happened. In this moment, you’re okay. . . . .
You can also think about how to let go of what you can’t control. What your neighbor is doing is out of your control. What is in your control is staying six feet away from them and washing your hands. Focus on that.
Finally, it’s a good time to stock up on compassion. Everyone will have different levels of fear and grief and it manifests in different ways. A coworker got very snippy with me the other day and I thought, That’s not like this person; that’s how they’re dealing with this. I’m seeing their fear and anxiety. So be patient. Think about who someone usually is and not who they seem to be in this moment.
This all makes sense to me, and it is a helpful way to think about things when everything feels a little off. And right now, that seems to be often. Another thing I have tried to do is find some routine and ways to share with one another. We have been having family dinners and family movie night most nights. And we have been reconnecting with friends around the country via phone calls, but more often on Zoom. Sharing some time with friends works remarkably well, at least now that we lack other options interaction.
In the interest of sharing, here are a few recommendations. As to movies and music, if periodic coarse language, drug references, etc., are not for you, my recommendations may not be for you. So in closing, I will share some (mostly new) songs you may not have heard (and I think you should). Be safe, be well, and be good to each other.
1. I think I'm OKAY, Machine Gun Kelly, et al., -- seems about right.
2. how will i rest in peace if i'm buried by a highway?, KennyHoopla (for old guys like me, there's a modern edge with an old techno, maybe New Order, feel)
3. Hit the back, King Princess (sultry, smooth, with a 70s dance vibe, not too sappy).
4. Celoso, Lele Pons (chill Latin dance that's upbeat yet goes well with a cocktail)
5. Don't You (Forget About Me), beabadoobee (Okay, you've probably heard this one, but not this version. Like I said, I'm Gen X).
Tuesday, March 17, 2020
Like all of us, the past few weeks have been hard. The past few days, harder. Still, I am fortunate that my challenges are nothing compared to so many. My family and I are healthy so far; my job is challenging, but not currently threatened; and the people I love are, generally, safe. I am truly fortunate.
Complaining about courts messing up LLCs is not at the top of my mind right now, even though it remains both satisfying and important to me. Today, all I have are some thoughts. That all I’ve got, and it will have to be good enough.
So, here are some things I think:
- It was right to cancel March Madness, and it still makes me sad.
- Other than being a father and a spouse, I have the most important job I have ever had.
- I love our students. Every day.
- My family is the best and far more than I deserve.
- Women are widely over scrutinized, over worked, and underappreciated.
- I am proud to be a lawyer.
- Lawyers lawyering everything is exhausting, and too often, wrong (i.e., bad lawyering)
- I hate racism, and I need to work harder to be anti-racist.
- Babies are the best.
- Sometimes, it is better to be happy than to be right.
- I’m proud to be Irish.
- Law school rankings suck.
- Online teaching and learning is more work than a lot of people think.
- We all need to give each other a break.
- We can have high expectations and still be compassionate and forgiving.
I think a lot more things, but it’s time to pay attention to my family. There is no question I am the weak link in this group, and they deserve more. I guess that’s one more thing I think. Be well, friends.
Tuesday, March 3, 2020
Plain Bay alleges that it is a citizen of Florida for diversity purposes as it is a Florida limited liability company incorporated in Florida with its principal place of business in Florida and that Yates is a citizen of California for diversity purposes as he “is a citizen of the United States and a resident of the State of California[.]” . . . In order for this Court to properly exercise jurisdiction over a case, “the action must be between ‘citizens of different States.’ ” 28 U.S.C. § 1332(a)(1).
Tuesday, February 25, 2020
The Honorable Aida M. Delgado-Colón made me smile today. As BLPB readers know, An LLC By Any Other Name, Is Still Not a Corporation. Finally, I received a notice of a court acknowledging this fact and requiring a party to refer to their legal entity correctly. Judge Delgado-Colón writes:
Pursuant to this Court’s sua sponte obligation to inquire into its own subject matter jurisdiction and noticing the unprecedented increase in foreclosure litigation in this District, the Court ordered plaintiff to clarify whether it is a corporation or a limited liability company (“LLC”).
Here, the Court cannot ascertain that diversity exists among the parties. Rule 11(b) of the Federal Rules of Civil Procedure holds attorneys responsible for “assur[ing] that all pleadings, motions and papers filed with the court are factually well-grounded, legally tenable and not interposed for any improper purpose.” Mariani v. Doctors Associates, Inc., 983 F.2d 5, 7 (1st Cir. 1993) (citing Cooter & Gell v. Hartmarx Corp., 496 U.S. 384, 393 (1990). Despite Rule 11’s mandate, the Court finds significant inconsistencies among plaintiff’s representations, which to this date remain unclear. As noted at ECF No. 53, plaintiff has repeatedly failed to explain why its alleged principal place of business is in New Jersey instead of Michigan. To make matters worse, plaintiff now claims to be a “limited liability corporation”1 under Delaware law.
Tuesday, February 11, 2020
The United States Bankruptcy Court for the Western District of Kentucky has opened my eyes to some bankruptcy law issues I hadn't previously seen. The court also committed what I consider to be a cardinal sin: the court refers to an LLC as a "limited liability corporation." An LLC is a "limited liability company," which is a statutorily different entity than a corporation.
The court states: "Sunnyview and TR are limited liability corporations. They are not individuals and do not meet the definition of insiders under 11U.S.C.§ 101(31)(B)[sic]." In re: Bullitt Utilities, Inc., No. 15-34000(1)(7), 2020 WL 547278, at *6 (Bankr. W.D. Ky. Jan. 24, 2020) (emphasis added). Other than being LLCs, and not corporations, this appears to be correct. The statute, 11 U.S.C.§ 101(31), provides:
. . . .(B)if the debtor is a corporation—(i)director of the debtor;(ii)officer of the debtor;(iv)partnership in which the debtor is a general partner;(v)general partner of the debtor; or
(9) The term “corporation”— (A) includes— (i) association having a power or privilege that a private corporation, but not an individual or a partnership, possesses; (ii) partnership association organized under a law that makes only the capital subscribed responsible for the debts of such association; (iii) joint-stock company; (iv) unincorporated company or association; or (v) business trust; but (B) does not include limited partnership.
Sunday, January 26, 2020
As a new dean in a new city, I have had the opportunity to meet hundreds of impressive lawyers in Omaha. I have been incredibly impressed by the sophisticated practices at the very law firms I have visited. For "midsized" firms, there are lawyers doing incredible work here that is the same work being done on the coasts, including some amazing M & A work.
But here in Omaha, just like every city around the country, law firms have "corporate" practices. But really, those are business law practices or transactional practices. Almost every corporation of significant size also owns some LLCs (limited liability companies) and perhaps other entities. And certainly these firms, especially those working with real estate companies, will work with LLCs and other pass through entities.
So, consistent with my prior posts on this subject, I urge lawyers and firms to acknowledge the full scope of what we do. It's not just corporate. It's so much more. And that's a good thing. I just ask that we embrace business practice or transactional practice to try to include all we do.
Sunday, December 15, 2019
Prof. Bainbridge recently posted, Here's the thing I don't understand about the implied covenant of good faith and fair dealing. He explains:
In Bandera Master Funds LP v. Boardwalk Pipeline Partners, LP, C.A. No. 2018-0372-JTL (Del. Ch. Oct. 7, 2019), the court reviews the Delaware law of the implied covenant:
“In order to plead successfully a breach of an implied covenant of good faith and fair dealing, the plaintiff must allege a specific implied contractual obligation, a breach of that obligation by the defendant, and resulting damage to the plaintiff.” Fitzgerald v. Cantor, 1998 WL 842316, at *1 (Del. Ch. Nov. 10, 1998). In describing the implied contractual obligation, the plaintiffs must allege facts suggesting “from what was expressly agreed upon that the parties who negotiated the express terms of the contract would have agreed to proscribe the act later complained of . . . had they thought to negotiate with respect to that matter.” Katz v. Oak Indus. Inc., 508 A.2d 873, 880 (Del. Ch. 1986). That is because “[t]he implied covenant seeks to enforce the parties’ contractual bargain by implying only those terms that the parties would have agreed to during their original negotiations if they had thought to address them.” El Paso, 113 A.3d at 184. Accordingly, “[t]he implied covenant is well-suited to imply contractual terms that are so obvious . . . that the drafter would not have needed to include the conditions as express terms in the agreement.” Dieckman, 155 A.3d at 361.
My question is simple: How do you know that the provision was left out because it was obvious? After all, if it was obvious, shouldn't the parties have put it in the contract? Put another way, how do you know the parties did think about it and decide to leave it out?
Agreed. And I think this concept of the implied covenant matters more than ever, now that Delaware allows the elimination of the duty of loyalty in LLCs (my thoughts on that here). Even in allowing parties to eliminate the duty of loyalty in an LLC, such agreements always retain the duty of good faith and fair dealing. The Delaware LLC Act provides (emphasis added):
. . .
(c) To the extent that, at law or in equity, a member or manager or other person has duties (including fiduciary duties) to a limited liability company or to another member or manager or to another person that is a party to or is otherwise bound by a limited liability company agreement, the member’s or manager’s or other person’s duties may be expanded or restricted or eliminated by provisions in the limited liability company agreement; provided, that the limited liability company agreement may not eliminate the implied contractual covenant of good faith and fair dealing.
So what does that mean? I am of the mind that the implied covenant of good faith and fair dealing means that: (1) you get the express terms of the agreement, and (2) the agreement cannot take away all possible reasons for the deal in the first place. As to the latter point, it means, quite simply, even without a duty of loyalty, there must be some reason for the contract to exist at all. So, you may not be entitled to a fair share of proceeds from the agreement, or even a significant share. But there must always be some value (or potential value) to have been gained by entering the agreement. At a minimum, it can't be an agreement to get nothing, no matter what.
As one example, a Delaware court explained that a plaintiff's claim was lacking when the
the incentive [gained by the defendant] complained of is obvious on the face of the OA [operating agreement]. The members, despite creating this incentive, eschewed fiduciary duties, and gave the Board sole discretion to approve the manner of the sale, subject to a single protection for the minority, that the sale be to an unaffiliated third party. . . . [T]he parties to the OA [thus considered] the conditions under which a contractually permissible sale could take place. They avoided the possibility of a self-dealing transaction but otherwise left to the [defendant] the ability to structure a deal favorable to their interests. Viewed in this way, there is no gap in the parties’ agreement to which the implied covenant may apply. The implied covenant, like the rest of our contracts jurisprudence, is meant to enforce the intent of the parties, and not to modify that expressed intent where remorse has set in.
Miller v HCP & Co., C.A. No. 2017-0291-SG (Del. Ch. Feb. 1, 2018). (More commentary on this case here.)
Furthermore, the implied covenant
does not apply when the contract addresses the conduct at issue, but only when the contract is truly silent concerning the matter at hand. Even where the contract is silent, an interpreting court cannot use an implied covenant to re-write the agreement between the parties, and should be most chary about implying a contractual protection when the contract could easily have been drafted to expressly provide for it.
Monday, December 9, 2019
Once again, a court seems to arrive at the correct outcome, while making mistakes in the describing entity type. As usual, the court mislabeled a limited liability company (LLC). Here we go:
Andrea and Timothy Downs each held a 50% interest in a corporation, Downs Holdings, Inc. It held limited liability corporation (“LLC”) and limited partnership (“LP”) ownership interests. Eventually, the Downs agreed to dissolve the corporation and, as shareholders, passed a corporate resolution electing dissolution.
We acknowledge that some of the bankruptcy court’s findings lack support in the record, but we ignore harmless error because the bankruptcy court’s ultimate conclusion is correct: Downs Holdings owned the relevant assets, and Ms. Downs could not pledge them to Norio as collateral for the loan.
Sunday, December 1, 2019
Over at Kentucky Business Entity Law Blog, Tom Rutledge recently posted Respectfully, I Dissent: Dean Fershee and Elimination of Fiduciary Duties, in response to my recent paper, An Overt Disclosure Requirement for Eliminating the Fiduciary Duty of Loyalty. Tom and I have crossed paths many times over the past few years, and I greatly value his insight, expertise, and opinion. On this one, though, we will have to agree to disagree, but I recommend checking out his writing. You may well agree with him.
I actually agree with Tom in most cases when he says, "I do not believe there is justification for protecting people from the consequences of the contracts into which they enter." Similarly, I generally agree with Tom "that entering into an operating agreement that may be amended without the approval of a particular member constitutes that member placing themselves almost entirely at the mercy of those with the capacity to amend the operating agreement . . . . " Nonetheless, I maintain that there is a subtle but significant difference where, as in Delaware, such changes can be made to completely eliminate (not just reduce or modify) the fiduciary duty of loyalty.
As applied, Tom may be right. Still, until Delaware's recent change, we had a long history, in every U.S. jurisdiction, prohibiting the elimination of the duty of loyalty. It is simply expected, that at some basic level, those in control of an entity owe the entity some level of a duty of loyalty. Because that is such a long-held rule and expectation, I remain convinced that the option to eliminate the duty requires some type of special notice to those entering an entity. Until now, even conceding that a lack of control could put an LLC member "almost entirely at the mercy of those with the capacity to amend the operating agreement," the amending member's power was still limited by the duty of loyalty.
Ultimately, I tend to be a big fan of private ordering and freedom of contract, especially for LLCs. But, when we change fundamental rules, I also think we should more overtly acknowledge those changes, for at least some period of time, to let people catch up.
Monday, November 25, 2019
Last Friday, a new opinion from the United States Court of Appeals for the First Circuit tackled a complex application of the Employee Retirement Income Security Act of 1974 (ERISA) law that required an analysis of “federal partnership law,” which assessed whether two entities had created a “partnership-in-fact, as a matter of federal common law.” Sun Capital Partners III, LP v. New England Teamsters & Trucking Indus. Pension Fund, No. 16-1376, 2019 WL 6243370, at *5 (1st Cir. Nov. 22, 2019). I hate the idea of “federal partnership law,” but I concede it is a thing for determining certain responsibilities under the tax code and ERISA. I still maintain that rather than discussing federal entity law and entity type in these cases, we should instead be discussing liability under certain code sections as they apply to the relevant persons and/or entities. Nonetheless, that’s not the state of the law.
Even though I don’t like the concept of federal partnership law, I can work with it. As such, I think it is fair to ask courts to respect entity types if they are going to insist on using entity types to determine liability. Alas, this is too much to ask. Friday’s opinion explains:
The issue on appeal is whether two private equity funds, Sun Capital Partners III, LP (“Sun Fund III”) and Sun Capital Partners IV, LP (“Sun Fund IV”), are liable for $4,516,539 in pension fund withdrawal liability owed by a brass manufacturing company which was owned by the two Sun Funds when that company went bankrupt. The liability issue is governed by the Multiemployer Pension Plan Amendments Act of 1980 (“MPPAA”). Under that statute, the issue of liability depends on whether the two Funds had created, despite their express corporate structure, an implied partnership-in-fact which constituted a control group. That question, in the absence of any further formal guidance from the Pension Benefit Guaranty Corporation (“PBGC”), turns on an application of the multifactored partnership test in Luna v. Commissioner, 42 T.C. 1067 (1964).
Id. at *1 (emphasis added). The court continued: “To the extent the Funds argue we cannot apply the Luna factors because they have organized an LLC through which to operate SBI, we reject the argument. Merely using the corporate form of a limited liability corporation cannot alone preclude courts recognizing the existence of a partnership-in-fact.” Id. at *6. (emphasis added).
LLCs are not corporations, and they do not have a corporate form or structure! They are limited liability companies, which are totally different entities from corporations.
It seems I am often saying this, but the court does seem to get to the right conclusion despite the entity errors:
The fact that the entities formally organized themselves as limited liability business organizations under state law at virtually all levels distinguishes this case from Connors and other cases in which courts have found parties to have formed partnerships-in-fact, been under common control, and held both parties responsible for withdrawal liability.
Id. at *8.
That courts tend to get it right, even when using improper entity language, does not mean it’s not a big deal. It simply means that judges (and their clerks) understand the distinctions between entities and entity types, even if their language is not perfect. That seems to be generally okay as applied in the individual cases before each court. However, these cases communicate beyond just the parties involved and could influence poor drafting decisions that could have impacts as between individual members/partners/shareholders down the road. It sure would be great if more courts would take the chance when there is an opportunity to be clear and precise.
Monday, November 18, 2019
It’s been a minute since I took some time to look at whether courts are still treating LLCs as corporations. Spoiler alert: They are. Last week, the Southern District of Florida gave a shining example:
Defendants argue that Vista, a limited liability corporation, is a citizen of any state of which a member of the company is a citizen for diversity purposes. Because the January 26, 2018 written agreement (“Agreement”) granted the PJM Defendants a 10% ownership interest in Vista, Defendants maintain that Vista is a Florida citizen by virtue of the PJM Defendants’ Florida citizenship, thereby destroying complete diversity. . . .
Plaintiffs contend that Vista is a California corporation and complete diversity exists. In support, Plaintiffs proffer Vista’s California LLC records which show that Armen Temurian is the entity’s only member. Defendants argue that these records are self-serving, and that the plain language of the Agreement contradicts these records and establishes the PJM Defendants’ ownership in Vista. . . .
The Agreement expressly recognizes that the PJM Defendants have obtained a 10% ownership of all Vista current and future direct and indirect entities, which contradicts Plaintiffs’ proffered California LLC records on their face. . . . Because Vista is a citizen of every state that any member is a citizen of, Vista is a citizen of Florida, which destroys diversity. The Court therefore does not have diversity jurisdiction over this matter.
ARMEN A. TEMURIAN, et al, Plaintiffs, v. PHILLIP A. PICCOLO, JR., et al, Defendants. Additional Party Names: George Foerst, Joseph Reid, K.F.I. Software, Kevin Dalton Johnson, Paul Morris, Travelada, LLC, Vista Techs. LLC, No. 18-CV-62737, 2019 WL 5963831, at *3-*4 (S.D. Fla. Nov. 13, 2019) (emphasis added).
The court seems to arrive at the correct conclusion, though without clearly and properly identifying the entities involved, it’s hard to be sure. Note that here, according to the court, the defendants claim Vista is an LLC ( a limited liability company.) The Plaintiffs replied, the court says, that the company is a “California corporation.” If Vista is an LLC, as it seems to be, and it had members who were also Florida citizens, the court would be correct to find a lack of diversity jurisdiction. Still, it would be a big help if the court would help lay out the facts in an accurate way so that the facts more clearly lead to the legal outcome.
Monday, October 28, 2019
The recent Tennessee Court of Appeals decision in Mulloy v. Mulloy has me thinking. Here is the case synopsis:
Two brothers formed a limited liability company to own and lease a commercial property. When the tenant sought to expand, both brothers sought to find a suitable space for the tenant to lease. The younger of the two brothers found a property that would ideally suit the tenant’s needs, a fact that was communicated to his brother. The older brother purchased the property through a newly created limited liability company without his younger sibling’s involvement. The older brother’s new limited liability company then leased the new property to the tenant. The younger brother brought a derivative suit against his brother and the newly formed limited liability company, claiming usurpation of a corporate opportunity belonging to the limited liability company that the brothers had formed together and tortious interference with business relationships. The younger brother also claimed unjust enrichment. Following a trial, the chancery court found in favor of the older brother and his newly formed limited liability company and dismissed the complaint. After our review of the record, we affirm.
The facts are quite a bit more complex than that. But you get the idea.
First, let me make Josh Fershee's point for him: limited liability company (LLC) members cannot usurp "corporate" opportunities, since they are not corporations. Indeed, the court in Mulloy repeatedly refers to the doctrine in that way and cites to corporate law precedent we all know and love. This despite an accurate citation to Tennessee's statutory standard for the usurpation of LLC opportunities: requiring members to hold in trust for the LLC "any property, profit or benefit derived by the member in the conduct . . . of the LLC’s business, or derived from a use by the member of the LLC’s property, including the appropriation of any opportunity of the LLC.” Tenn. Code Ann. § 48-249-403(b)(1).
But the big surprise for me was "we affirm." Why? I just kept thinking of Meinhard v. Salmon. Apart from he fact that this case involves a Tennessee LLC and two brothers, the material facts are substantially similar. Yet, the result is different. The Mulloy court reasons that the property acquisition opportunity at issue was not the LLC's, but rather the older brother's (even though the brothers' jointly owned LLC existed to lease property to a specific tenant--the same tenant to which the older brother rents the new property--property that the younger brother originally identified). The court references facts that do help the older brother here. But something just smells wrong about this. The lack of candor in this situation is particularly disturbing.
So, that set me to wondering if there was a way to get that "punctilio of an honor, the most sensitive" back into the judicial sightline. Immediately, I thought of Anderson v. Wilder--a 2003 Tennessee Court of Appeals case in which the court applies the close corporation shareholder fiduciary duties under Massachusetts corporate law to members in a Tennessee LLC. However, it then occurred to me that Anderson was decided under Tennessee's "old" LLC Act; but the LLC in Mulloy opted into Tennessee's modernized, "new" LLC Act, which became effective on January 1, 2006. The new LLC Act is modeled in part on the Revised Uniform Limited Liability Company Act and provides as follows, in pertinent part (in Tenn. Code Ann. § 48-249-403(a) and (b) (emphasis in italics added)):
- "The only fiduciary duties a member owes to a member-managed LLC and the LLC's other members and holders are the duty of loyalty and the duty of care . . . ."
- "A member's duty of loyalty to a member-managed LLC and the LLC's other members and holders of financial rights is limited to the following: (1) To account to the LLC and to hold as trustee for it any . . . benefit derived by the member in the conduct . . . of the LLC's business, or derived from a use by the member of the LLC's property, including the appropriation of any opportunity of the LLC . . . ."
These statutory provisions would appear to foreclose an argument that members of an LLC organized under the new LLC Act have a fiduciary duty of utmost good faith and loyalty to each other under Anderson (or otherwise at common law). Much as I hate to admit it, that's the way a court should, and likely would, see this.
What do you think? Is my concern about the holding in the appellate court opinion in Mulloy warranted? Or do we treat the Mulloy brothers like "big boys" and agree with the appellate and trial courts? Your views are welcomed. I am looking for some creative arguments here . . . .