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, December 24, 2019
Happy holidays! Billions of people around the world are celebrating Christmas or Hanukah right now. Perhaps you’re even reading this post on a brand new Apple Ipad, a Microsoft Surface, or a Dell Computer. Maybe you found this post via a Google search. If you use a product manufactured by any of those companies or drive a Tesla, then this post is for you. Last week, a nonprofit organization filed the first lawsuit against the world’s biggest tech companies alleging that they are complicit in child trafficking and deaths in the cobalt mines of the Democratic Republic of Congo. Dodd-Frank §1502 and the upcoming EU Conflict Minerals Regulation, which goes into effect in 2021, both require companies to disclose the efforts they have made to track and trace "conflict minerals" -- tin, tungsten, tantalum, and gold from the DRC and surrounding countries. DRC is one of the poorest nations in the world per capita but has an estimated $25 trillion in mineral reserves (including 65% of the world's cobalt). Armed militia use rape and violence as a weapon of war in part so that they control the mineral wealth. The EU and US regulators believe that consumers might make different purchasing decisions if they knew whether companies source their minerals ethically. The EU legislation, notably, does not limit the geography to the DRC, but instead focuses on conflict zones around the world.
If you’ve read my posts before, then you know that I have written repeatedly about the DRC and conflict minerals. After visiting DRC for a research trip in 2011, I wrote a law review article and co-filed an amicus brief during the §1502 litigation arguing that the law would not help people on the ground. I have also blogged here about legislation to end the rule, here about the EU's version of the rule, and here about the differences between the EU and US rule. Because of the law and pressure from activists and socially-responsible investors, companies, including the defendants, have filed disclosures, joined voluntary task forces to clean up supply chains, and responded to shareholder proposals regarding conflict minerals for years. I will have more on those initiatives in my next post. Interestingly, cobalt, the subject of the new litigation, is not a “conflict mineral” under either the U.S. or E.U. regulation, although, based on the rationale behind enacting Dodd-Frank §1502, perhaps it should have been. Nonetheless, in all of my research, I never came across any legislative history or materials discussing why cobalt was excluded.
The litigation makes some startling claims, but having been to the DRC, I’m not surprised. I’ve seen children who should have been in school, but could not afford to attend, digging for minerals with shovels and panning for gold in rivers. Although I was not allowed in the mines during my visit because of a massacre in the village the night before, I could still see child laborers on the side of the road mining. If you think mining is dangerous here in the U.S., imagine what it’s like in a poor country with a corrupt government dependent on income from multinationals.
The seventy-nine page class action Complaint was filed filed in federal court in the District of Columbia on behalf of thirteen children claiming: (1) a violation of the Trafficking Victims Protection Reauthorization Act of 2008; (2) unjust enrichment; (3) negligent supervision; and (4) intentional infliction of emotional distress. I’ve listed some excerpts from the Complaint below (hyperlinks added):
Defendants Apple, Alphabet, Dell, Microsoft, and Tesla are knowingly benefiting from and providing substantial support to this “artisanal” mining system in the DRC. Defendants know and have known for a significant period of time the reality that DRC’s cobalt mining sector is dependent upon children, with males performing the most hazardous work in the primitive cobalt mines, including tunnel digging. These boys are working under stone age conditions for paltry wages and at immense personal risk to provide cobalt that is essential to the so-called “high tech” sector, dominated by Defendants and other companies. For the avoidance of doubt, every smartphone, tablet, laptop, electric vehicle, or other device containing a lithium-ion rechargeable battery requires cobalt in order to recharge. Put simply, the hundreds of billions of dollars generated by the Defendants each year would not be possible without cobalt mined in the DRC….
Plaintiffs herein are representative of the child cobalt miners, some as young as six years of age, who work in exceedingly harsh, hazardous, and toxic conditions that are on the extreme end of “the worst forms of child labor” prohibited by ILO Convention No. 182. Some of the child miners are also trafficked. Plaintiffs and the other child miners producing cobalt for Defendants Apple, Alphabet, Dell, Microsoft, and Tesla typically earn 2-3 U.S. dollars per day and, remarkably, in many cases even less than that, as they perform backbreaking and hazardous work that will likely kill or maim them. Based on indisputable research, cobalt mined in the DRC is listed on the U.S. Department of Labor’s International Labor Affairs Bureau’s List of Goods Produced with Forced and Child Labor.
When I mentioned above that I wasn’t surprised about the allegations, I mean that I wasn’t surprised that the injuries and deaths occur based on what I saw during my visit to DRC. I am surprised that companies that must perform due diligence in their supply chains for conflict minerals don’t perform the same kind of due diligence in the cobalt mines. But maybe I shouldn't be surprised at all, given how many companies have stated that they cannot be sure of the origins of their minerals. In my next post, I will discuss what the companies say they are doing, what they are actually doing, and how the market has reacted to the litigation. What I do know for sure is that the Apple store at the mall nearest to me was so crowded that people could not get in. The mall also has a Tesla showroom and people were gearing up for test drives. Does that mean that consumers are not aware of the allegations? Or does that mean that they don’t care? I’ll discuss that in the next post as well.
Wishing you all a happy and healthy holiday season.
December 24, 2019 in Compliance, Corporate Personality, Corporations, CSR, Current Affairs, Ethics, Financial Markets, Human Rights, Litigation, Marcia Narine Weldon, Securities Regulation, Shareholders | Permalink | Comments (0)
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.
Friday, July 26, 2019
I'm at the tail end of teaching my summer transactional lawyering course. Throughout the semester, I've focused my students on the importance of representations, warranties, covenants, conditions, materiality, and knowledge qualifiers. Today I came across an article from Practical Law Company that discussed the use of #MeToo representations in mergers and acquisitions agreements, and I plan to use it as a teaching tool next semester. According to the article, which is behind a firewall so I can't link to it, thirty-nine public merger agreements this year have had such clauses. This doesn't surprise me. Last year I spoke on a webinar regarding #MeToo and touched on the the corporate governance implications and the rise of these so-called "Harvey Weinstein" clauses.
Generally, according to Practical Law Company, target companies in these agreements represent that: 1) no allegations of sexual harassment or sexual misconduct have been made against a group or class of employees at certain seniority levels; 2) no allegations have been made against independent contractors; and 3) the company has not entered into any settlement agreements related to these kinds of allegations. The target would list exceptions on a disclosure schedule, presumably redacting the name of the accuser to preserve privacy. These agreements often have a look back, typically between two and five years with five years being the most common. Interestingly, some agreements include a material adverse effect clause, which favor the target.
Here's an example of a representation related to "Labor Matters" from the June 9, 2019 agreement between Salesforce.com, Inc. and Tableau Software, Inc.
b) The Company and each Company Subsidiary are and have been since January 1, 2016 in compliance with all applicable Law respecting labor, employment, immigration, fair employment practices, terms and conditions of employment, workers' compensation, occupational safety, plant closings, mass layoffs, worker classification, sexual harassment, discrimination, exempt and non-exempt status, compensation and benefits, wages and hours and the Worker Adjustment and Retraining Notification Act of 1988, as amended, except where such non-compliance has not had, and would not reasonably be expected to have, individually or in the aggregate, a Company Material Adverse Effect.
c) To the Company's Knowledge, in the last five (5) years, (i) no allegations of sexual harassment have been made against any employee at the level of Vice President or above, and (ii) neither the Company nor any of the Company Subsidiaries have entered into any settlement agreements related to allegations of sexual harassment or misconduct by any employee at the level of Vice President or above.
The agreement has the following relevant definitions:
"Knowledge" will be deemed to be, as the case may be, the actual knowledge of (a) the individuals set forth on Section 1.1(a) of the Parent Disclosure Letter with respect to Parent or Purchaser or (b) the individuals set forth on Section 1.1(a) of the Company Disclosure Letter with respect to the Company, in each case after reasonable inquiry of those employees of such Party and its Subsidiaries who would reasonably be expected to have actual knowledge of the matter in question.
Even though I like the idea of these reps. in theory, I have some concerns. First, I hate to be nitpicky, but after two decades of practicing employment law on the defense side, I have some questions. What's the definition of "sexual misconduct"? What happens of the company handbook or policies do not define "sexual misconduct"? The Salesforce.com agreement did not define it. So how does the target know what to disclose? Next, how should an agreement define "sexual harassment"? What if the allegation would not pass muster under Title VII or even under a more flexible, more generous definition in an employee handbook? When I was in house and drafting policies, a lot of crude behavior could be "harassment" even if it wouldn't survive the pleading requirements for a motion to dismiss. Does a company have to disclose an allegation of harassment that's not legally cognizable? And what about the definition of "allegation"? The Salesforce.com agreement did not define this either. Is it an allegation that has been reported through proper channels? Does the target have to go back to all of the executives' current and former managers and HR personnel as a part of due diligence to make sure there were no allegations that were not investigated or reported through proper channels? What if there were rumors? What if there was a conclusively false allegation (it's rare, but I've seen it)? What if the allegation could not be proved through a thorough, best in class investigation? How does the target disclose that without impugning the reputation of the accused?
Second, I'm not sure why independent contractors would even be included in these representations because they're not the employees of the company. If an independent contractor harassed one of the target's employees, that independent contractor shouldn't even be an issue in a representation because s/he should not be on the premises. Moreover, the contractor, and not the target company, should be paying any settlement. I acknowledge that a company is responsible for protecting its employees from harassment, including from contractors and vendors. But a company that pays the settlement should ensure that the harasser/contractor can't come near the worksite or employees ever again. If that's the case, why the need for a representation about the contractors? Third, companies often settle for nuisance value or to avoid the cost of litigation even when the investigation results are inconclusive or sometimes before an investigation has ended. How does the company explain that in due diligence? How much detail does the target disclose? Finally, what happens if the company legally destroyed documents as part of an established and enforced document retention and destruction process? Does that excuse disclosure even if someone might have a vague memory of some unfounded allegation five years ago?
But maybe I protest too much. Given the definition of "knowledge" above, in-house and outside counsel for target companies will have to ask a lot more and a lot tougher questions. On the other hand, given the lack of clarity around some of the key terms such as "allegations," "harassment," and "misconduct," I expect there to be some litigation around these #MeToo representations in the future. I'll see if my Fall students can do a better job of crafting definitions than the BigLaw counsel did.
July 26, 2019 in Compliance, Contracts, Corporate Governance, Corporate Personality, Corporations, Current Affairs, Employment Law, Ethics, Law School, Lawyering, Litigation, M&A, Management, Marcia Narine Weldon, Teaching | Permalink | Comments (0)
Wednesday, July 24, 2019
In 2010, an Illinois court reviewed Delaware business law making the following observations:
With respect to a limited liability corporation, Delaware law states that “[u]nless otherwise provided in a limited liability company agreement, the management of a limited liability company shall be vested in its members....” 6 Del.C. § 18–402. Thus, pursuant to Delaware law, directors are generally provided with authority for managing the corporation and members are generally provided with authority for managing the limited liability company. The bankruptcy court therefore properly found that a member of a LLC would be an analogous position to a director of a corporation under Delaware law.
Longview Aluminum, L.L.C. v. Brandt, 431 B.R. 193, 197 (N.D. Ill. 2010), aff'd sub nom. In re Longview Aluminum, L.L.C., 657 F.3d 507 (7th Cir. 2011).
Well, initially, it must be noted that an LLC is not a corporation at all. As the quoted Delaware law observes, it is a “limited liability company.” Corporations and LLCs are distinct entities.
I’ll also take issue with adopting the bankruptcy court’s finding “that a member of an LLC would be an analogous position to a director of a corporation under Delaware law.” I will concede that a member of an LLCmaybe an analogous position to a director of a corporation under Delaware law, but that is not inherently true.
The Longview Aluminumcourt had determined that, “under Delaware law, a corporation generally must ‘be managed by or under the direction of a board of directors . . . .’” 8 Del. Code § 141. While that’s technically accurate, it understates that general nature of Delaware directors. Note that the statue is mandatory in nature (“shall”), and then provides limited changes:
The business and affairs of every corporation organized under this chapter shall be managed by or under the direction of a board of directors, except as may be otherwise provided in this chapter or in its certificate of incorporation. If any such provision is made in the certificate of incorporation, the powers and duties conferred or imposed upon the board of directors by this chapter shall be exercised or performed to such extent and by such person or persons as shall be provided in the certificate of incorporation.
8 Del. Code § 141(a).
Remember, the Longview Aluminumcourt stated that, “[w]ith respect to a limited liability corporation, Delaware law states that ‘[u]nless otherwise provided in a limited liability company agreement, the management of a limited liability company shall be vested in its members....’ 6 Del.C. § 18–402.” Id.
But Delaware LLC law provides:
“Unless otherwise provided in a limited liability company agreement, the management of a limited liability company shall be vested in its members in proportion to the then current percentage or other interest of members in the profits of the limited liability company owned by all of the members, the decision of members owning more than 50 percent of the said percentage or other interest in the profits controlling . . . .”
6 Del. Code § 18-402.
That’s different in structure than directors. Directors act as a body, usually with one vote per director. This default provision provides for a very different structure, providing that one member with over 50% of the interests is controlling. That’s not like a board at all. And furthermore, those members in charge of the entity may not have any fiduciary duties to the LLC. The Delaware LLC Act states:
“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 . . . .” 6 Del. C. § 18-1101(c).
Corporate directors have some version of fiduciary duties. Again, a notable difference. It appears that the Longview Aluminumcourt (affirming the bankruptcy court) may have been right to extend the corporate director concept to the LLC managers in that case because of the structure of the LLC’s operating agreement. But the court went on to imply that a member of a LLC is“an analogous position to a director of a corporation under Delaware law.” That very much overstates things.
Why discuss this 2010-11 case at length now? Because this section was cited last week:
“[I]n referencing a director, Section 101(31)(B) was intended to refer to the party that “managed” the debtor corporation.” Longview Aluminum, L.L.C. v. Brandt, 431 B.R. 193, 197 (N.D. Ill. 2010) (citing 11 U.S.C. § 101(31)(B)). “With respect to a limited liability corporation, Delaware law states that ‘[u]nless otherwise provided in a limited liability company agreement, the management of a limited liability company shall be vested in its members ....” Id. (quoting 6 Del.C. § 18–402).
In re Licking River Mining, LLC, No. 14-10201, 2019 WL 2295680, at *41 (Bankr. E.D. Ky. July 19, 2019), as amended (July 19, 2019).
Fortunately, other than failing to correct the mistake of calling an LLC a corporation, the Licking River Miningseems to have gotten the outcome right. The court determined that a 25% member interest lacked control because all LLC “decisions were to be made either by a majority of the LLC interests or by the entity's managing member.”Id.Good call, and hopefully this case will clarify (and correct) any negative implications from the Longview Aluminum case. But even if it does, it gives longer life to an incorrect reference to LLCs and increases the likelihood it will be cited repeatedly.
Win some, lose some, I guess.
Tuesday, July 9, 2019
A recent Tennessee court decision subtly notes that limited liability companies (LLCs) are not, in fact corporations. In a recent Tennessee federal court opinion, Judge Richardson twice notes the incorrect listing of an LLC as a "limited liability corporation."
First, the opinion states:
The [Second Amended Complaint] alleges that Defendant Evans is a resident of Tennessee, Defendant #AE20, LLC is a California limited liability company, and Defendant Gore Capital, LLC is a Delaware limited liability “corporation.”3
3 Gore Capital is in fact a limited liability company.
Judge Richardson later notes, in footnote 11:
Plaintiff states that he was sent documents that listed Gore’s (not #AE20’s) principal place of business as being in Chattanooga, Tennessee, although the SAC lists Gore as a “Delaware limited liability corporation (sic)[.]”
Tuesday, July 2, 2019
Veil piercing continues its randomness. Back in April, in Hawai'i Supreme Court decision, Calipjo v. Purdy, 144 Hawai'i 266, 439 P.3d 218 (2019), the court determined that there was evidence to support a trial court jury's decision to pierce the veil of an multiple entities and hold the sole member/shareholder of the entities liable. (An appellate court had determined that there was insufficient evidence to support veil piercing.)
The decision may be sound, but the evidence for the decision makes the outcome seemingly inevitable. In determining there was evidence to support the jury's decision, the court notes the plaintiff's allegations were that "sole ownership and control is one of many factors that can establish alter ego and, therefore, evidence of Purdy’s ownership and control was pertinent to this claim." The court then explains,
In this case, the jury was presented with evidence that Purdy exercised exclusive ownership and control over Regal Corp. and Regal LLC. Purdy testified that he was the sole shareholder, director, and officer of Regal Corp. and the sole member and manager of Regal LLC. This court has held that “sole ownership of all of the stock in a corporation by one individual” is one relevant factor to determine alter ego. Id. (quoting Associated Vendors, 26 Cal. Rptr. at 814). Purdy’s testimony supports the jury’s determination that Purdy exercised exclusive ownership and control over Regal Corp. and Regal LLC; it constitutes evidence that Purdy was the sole owner and manager of either company.
Note, though, that the plaintiff claimed that "sole ownership and control ... can establish alter ego." The court more accurately states that ownership and control are a factor. They are not dispositive or else limited liability for a single-member LLC, corporation, or other limited liability entity would be a fiction. The jury instructions, though, seem to eliminate the possibility that an entity and a single shareholder or member could be separate. The jury was told:
You should consider the following facts in determining whether or not to disregard the legal entity of Regal Capital Corporation and return a verdict in favor of plaintiff against Defendant Jack Purdy, as an individual.
One, whether or not defendant Jack Purdy owned all or substantially all the stock in Regal Capital Corporation; two, whether or not Jack Purdy exercised discretion and control over the management of Defendant Regal Capital Corporation; three, whether or not Defendant Jack Purdy directly or indirectly furnished all or substantially all of the financial investment in Defendant Regal Capital Corporation; four, whether or not Regal Capital Corporation was adequately financed either originally or subsequently for the business in which it was to engage.
Five, whether or not there was actual participation in the affairs of Regal Capital Corporation by its stockholders and whether stock was issued to them. Six, whether or not Regal Capital Corporation observed the [formalities] of doing business as a corporation such as the holding of regular meetings, the issuance of stock, the filing of necessary reports and similar matters. Seven, whether or not Defendant Regal Capital Corporation [dealt] exclusively with Defendant Jack Purdy, directly or indirectly in the real estate sales development activities in this case. Eight, whether or not Defendant Regal Capital Corporation existed merely to do a part of business of Defendant Jack Purdy.
So, here was have an undercapitalization factor, and that could be separate from the shareholder/member, and we have the traditional "corporate formalities" test, but even there, these instructions imply that the entity must have additional shareholders to be "real." For numbers one, two, three, five, seven, and eight, a jury would almost always have to find that those factors would support veil piercing for any sole shareholder corporation or single-member LLC. I don't think that's either the intent or the substance of current law in most jurisdictions, though the Hawai'i Supreme Court clearly disagrees with me.
In this case, there seems to be at least some evidence of fraud, and I'm more than willing to defer to a jury if they determined that the defendant had sole control of his entities and he used those entities to commit fraud. I just object to court's apparent comfort level with the idea having sole control of an entity or entities, and exercising that control, on its own suggests something nefarious.
I know people use LLCs and corporations to engage in all sorts of bad behavior, and I'd like to see that punished more often than it seems to be. But relaxing the application of legal standards to get there is not a good way to do it. If the law should be changed, then legislatures should get to work on that. If we think single-owner entities are a bad idea (I don't think they are inherently so), let's deal with that through legislation so that at least everyone knows the rules.
Ultimately, it's not as though current veil piercing jurisprudence has been clear or sound or predictable. There has always been a random nature to it. However, for single-member entities, if the current trends continue, the randomness of veil piercing will not attach not to the outcome of a lawsuit -- it will attach to whether or not someone brings suit at all.
Friday, May 31, 2019
Last week, I attended the American Law Institute (ALI) Annual Meeting in Washington, DC. (I am back in The District this week for the Law and Society Association Annual Meeting. More on that in a later post.) Many important project drafts and projects were vetted at the ALI meeting. As many readers know, however, the tentative draft of the Restatement of the Law, Consumer Contracts generated some significant debate in advance of and at the conference. The membership approved part of the draft of the project at the meeting, but much still is to come.
As many of you likely know, there has been significant litigation about the enforceability of these kinds of provisions in form agreements--and whether a valid contract has been formed at all. See, e.g., this article from earlier this year. As the debates on the Restatement proceeded at the meeting, I found myself thinking about whether the common law of contracts is the best way to handle legal challenges to standard form contracts. Something inside me just kept screaming for a more tailored legislative solution . . . .
After conclusion of the ALI Annual Meeting, I found this testimony before the Senate Judiciary Committee from Myriam Gilles, Paul R. Verkuil Research Chair and Professor at Cardozo Law. She notes in that testimony:
[W]hen pre-dispute arbitration clauses and class action bans are forced upon consumers and employees in take-it-or-leave-it, standard-form agreements, “the probability of litigation positions is highly asymmetrical: the seller is far more likely to be the defendant in any dispute, and the consumer the plaintiff.” There is no negotiation, no choice, and the resulting arbitration procedures are not, in truth, intended to provide a forum to resolve claims. The one and only objective of forced, pre-dispute, class-banning arbitration clauses is to suppress and bury claims. The whole point is that consumers and employees seeking redress for broadly distributed small- value harms cannot and will not pursue one-on-one arbitrations.
(footnotes omitted) Professor Gilles recommended a legislative solution.
I do not teach contracts. Perhaps those of you who do have comments on this matter that negate what I have written here. If so, please share them. In general, as a corporate finance lawyer, I favor private ordering. But consumer contracts are a whole other animal, distinct from merger or acquisition and other corporate finance agreements. Perhaps we should decrease pressure on the courts by focusing some legislative attention on the appropriate form of standardized terms in consumer contracts that operate as contracts of adhesion or otherwise offend public policy. I am not sure quite what that looks like overall, but the idea seems to bear further thought . . . .
Tuesday, March 12, 2019
It is Spring Break at WVU, so I am using this time to finish some paper edits and catch up on my email. Last week, I got an email about a recent case from the United States District Court for the Northern District of Illinois. It is a headache-inducing opinion that continues the trend of careless language related to limited liability companies (LLCs).
The opinion is a civil procedure case (at this point) regarding whether service of process was effective for two defendants, one a corporation and the other an LLC. The parties at issue, (collectively, “Defendants”) are: (1) Ditech Financial, LLC f/k/a Green Tree Servicing, LLC (“Ditech Financial”) and (2) Ditech Holding Corporation f/k/a Walter Investment Management Corp.’s (“Ditech Holding”). The court notes that it is unclear whether there is diversity jurisdiction, because
“the documents submitted by Defendants with their motion to dismiss suggest that there may be diversity of citizenship in this case. See [12-1, at 2 (stating Ditech Holding is a Maryland corporation with a principal office in Pennsylvania) ]; [12-1, at 2 (stating Ditech Financial is a Delaware limited liability corporation with a principal office in Pennsylvania) ].”
Clayborn v. Walter Investment Management Corp., No. 18-CV-3452, 2019 WL 1044331, at *8 (N.D. Ill. Mar. 5, 2019) (emphasis added).
Why do courts insist on telling us the state of LLC formation and principal place of business, when that is irrelevant as to jurisdiction for an LLC? Hmm. I supposed that fact that courts keeping calling LLCs “corporations” might have something to do with it. The court does seem to know the rule for LLCs is different than the one for corporations, noting that “Plaintiff has not pled or provided the Court with any information regarding the citizenship of each member of Ditech Financial LLC. “ Id.
Despite this apparent knowledge, the court goes on to say:
Under Illinois law, “a private corporation may be served by (1) leaving a copy of the process with its registered agent or any officer or agent of the corporation found anywhere in the State; or (2) in any other manner now or hereafter permitted by law.” 75 ILCS 5/2-204. At least one court to consider the issue has concluded that Illinois state law does not allow service of a summons on a corporation via certified mail. Ward v. JP Morgan Chase Bank, 2013 WL 5676478, at *2 (S.D. Fla. Oct. 18, 2013); see also 24 Illinois Jurisprudence: Civil Procedure § 2:20; 13 Ill. Law and Prac. Corporations § 381. Plaintiff has not cited, nor has the Court located, any support for the proposition that a summons and complaint sent by certified mail constitutes one of the “other manner[s] now or hereafter permitted by law” to effectuate service. Consequently, the Court concludes that Plaintiff has not properly served Ditech Holding under Illinois law, and therefore cannot have served Ditech Financial.2 [see below]
Id. Now the case gets more confusing. Note that last line above: the court implies that proper service of the corporate parent may have been sufficient to serve the LLC, too. Footnote 2 of the opinion properly clarifies this, though the court then provides another baffling tidbit.
Footnote 2 provides:
Even if Plaintiff had properly served Ditech Holding, it would not have properly effectuated service upon Ditech Financial. Ditech Financial appears to be a limited liability company.; . Under Illinois law, service on a limited liability company is governed by section 1–50 of the Limited Liability Company Act. 805 ILCS 180/1–50; John Isfan Construction, Inc. v. Longwood Towers, LLC, 2 N.E.3d 510, 517–18 (Ill. App. Ct. 2016). Under section 1–50 of the Limited Liability Company Act, a plaintiff may only serve process upon a limited liability company by serving “the registered agent appointed by the limited liability company or upon the Secretary of State.” Pickens v. Aahmes Temple #132, LLC, 104 N.E.3d 507, 514 (Ill. App. Ct. 2018) (quoting 805 ILCS 180/1–50(a)). To properly serve Ditech Financial, Plaintiff would have had to deliver a copy of the summons and complaint to Ditech Financial’s registered agent in Illinois: CT Corporation System. [12, at 5.]
The court had already stated the Ditech Financial was an LLC, though it had called it a “limited liability corporation.” Is the court unclear about the entity type? If entity type is in question, it would seem worthy of note in the body of the opinion. The court properly cites to the LLC Act, but it inconclusive as to whether Ditech Financial is, in fact, an LLC.
To make matters worse, the court repeats, in footnote 3, its earlier mistake as to what an LLC really is:
Service on a limited liability corporation, such as Ditech Financial, must be effectuated in the same manner as service on a corporation such as Ditech Holding. See, e.g., Grieb v. JNP Foods, Inc., 2016 WL 8716262, at *3 (E.D. Pa. May 13, 2016) (evaluating the effectiveness of service of process on a limited liability company under Pa. R. Civ. P. 424).
Tuesday, February 12, 2019
Sometimes, LLC cases are a mess. It is often hard to tell whether the court is misstating something, whether the LLCs (and their counsel) are just sloppy, or both. My money, most of the time is on "both."
Consider this recent Louisiana opinion (my comments inserted):
The defendant, Riverside Drive Partners, LLC (“Riverside”) appeals the district court judgment denying its motion for a new trial related to its order of January 8, 2018, dismissing all pending claims against three parties in this multiparty litigation: (1) CCNO McDonough 16, LLC (“CCNO”); (2) R4 MCNO Acquisition LLC (“R4”); and (3) Joseph A. Stebbins, II. After review of the record in light of the applicable law and arguments of the parties, the district court judgment is affirmed. . . .
This litigation arises out of a dispute among partners in a real estate development related to the conversion of an existing historic building into an affordable housing complex. Pursuant to the Operating Agreement signed on September 30, 2013, McDonough 16, LLC, was formed to acquire, rehabilitate, and ultimately lease and operate a multi-family apartment project consisting of the historic building and a new construction building. In turn, McDonough 16, LLC had two members, also limited liability entities: (1) the “Managing Member,” CCNO [an LLC] and (2), the “Investor Member,” R4, a Delaware limited liability company with its principal place of business in New York. [Who cares? Jurisdiction of the LLC is based on the citizenship of the LLC member(s).] Likewise, CCNO had two limited liability partnerships as members: (1) CCNO Partners 2, LLC, [thus not an LLP, but and LLC] which was formed by two members who were residents of and domiciled in Orleans Parish: Mr. Stebbins and Michael Mattax; and (2) the appellant, Riverside, a Florida limited liability company [also not an LLP] with its principal place of business in Florida whose sole member, Jack Hammer, is a resident of and domiciled in Georgia. Iberia Bank was lender for the project.
CCNO McDonough 16, LLC v. R4 MCNO Acquisition, LLC, 2018-0490 (La. App. 4 Cir. 11/14/18), 259 So. 3d 1077, 1078 (comments and emphasis added)
The issue was whether Riverside, LLC, as a member of CCNO, was needed to agree for CCNO to enter a settlement agreement. The court noted,
Section 3. 13 of the CCNO Operating Agreement provides:
Overall Management Vested in Members and Managers. Except as expressly provided otherwise in this Operating Agreement or otherwise agreed in writing at a meeting, management of the Company is vested in the Members in proportion to their initial Capital Contributions, and every Member is hereby made a Manager. All powers of the Company are exercised by or under the authority of the Managers and Members and the business and affairs of the Company are managed under the direction of the Members and Managers. The Managers may engage in other activities of any nature. (Emphasis added).
In addition, the CCNO Operating Agreement defines “Majority in Interest” as “any referenced group of Managers, Members or persons who are both, a combination who, in aggregate, own more than fifty percent (50%) of the Membership Interests owned by all of such referenced group of Managers and Members.” Notably, Section 2.05 of the CCNO Operating Agreement specifically provides that any amendment to the agreement requires the approval of the beneficiary of any mortgage lien, i.e., Iberia Bank.
Riverside does not dispute that it owns less than fifty per cent of the CCNO shares or that CCNO Partners 2, of which Mr. Stebbins is a member, owns proportionally more of the membership interest in CCNO. Rather, Riverside asserts that this does not matter because, although the CCNO Operating Agreement clearly established CCNO Partners 2 owned 66.67% of CCNO (and, concomitantly, that Riverside only 33.33%), a subsequent amendment altered the proportion of ownership to 60% (CCNO Partners 2) and 40% (Riverside) and redefined “Majority in Interest” to mean “more than 60%,” thereby making any settlement agreement reached without the appellant's consent invalid.
Two closing thoughts:
- Jack Hammer as an LLC member of a construction-focused entity sounds like one of my exam characters. Awesome.
- Westlaw's synopsis states: "Managing member of limited liability corporation (LLC) brought action against investor member to enjoin removal as manager." No. An LLC is a limited liability company, not a corporation. (Regular readers had to see that coming.)
- LLCs are not limited partnerships, either, even if they are structured similarly or even use the term "partner." An LLC is a separate and unique entity. Really.
Tuesday, December 18, 2018
Sometimes I think courts are just trolling me (and the rest of us who care about basic entity concepts). The following quotes (and my commentary) are related to the newly issued case, Estes v. Hayden, No. 2017-CA-001882-MR, 2018 WL 6600225, at *1 (Ky. Ct. App. Dec. 14, 2018):
"Estes and Hayden were business partners in several limited liability corporations, one of which was Success Management Team, LLC (hereinafter “Success”)." Maybe they had some corporations and LLCs, but the case only references were to LLCs (limited liability companies).
But wait, it gets worse: "Hayden was a minority shareholder in, and the parties had no operating agreement regarding, Success." Recall that Success is an LLC. There should not be shareholders in an LLC. Members owning membership interests, yes. Shareholders, no.
Apparently, Success was anything but, with Hayden and Estes being sued multiple times related to residential home construction where fraudulent conduct was alleged. Hayden sued Estes to dissolve and wind down all the parties’ business entities claiming a pattern of fraudulent conduct by Estes. Ultimately, the two entered a settlement agreement related to (among other things) back taxes, including an escrow account, which was (naturally) insufficient to cover the tax liability. This case followed, with Estes seeking contribution from Hayden, while Hayden claimed he had been released.
Estes paid the excess tax liability and filed a complaint against Hayden, "arguing Hayden’s breach of the Success partnership agreement and that Estes never agreed to assume one hundred percent of any remaining tax liabilities of Success." Now there is a partnership agreement? Related to the minority shareholder's obligations to an LLC? [Banging head on desk.]
The entity structures to these business arrangements are a mess, and it makes the opinion kind of a mess, though I would suggest the court could have at least tried to straighten it out a bit. It even appears that the court got a little turned around, as it states, "While Estes may have at one time been liable for a portion of Success’s tax liabilities incurred from 2006 to 2010, once the parties signed the Settlement Agreement, his liability ended pursuant to the release provisions contained therein." I think they meant that Hayden may have been liable but no longer was following the release, especially given that the court affirmed the grant of summary judgment to Hayden.
Wednesday, December 5, 2018
In this case, Commerce and Industry served the summons on Southern Construction by serving the wife of the manager of Southern Construction. Doc. No. 10. Because Southern Construction is a limited liability corporation, service is proper under Fla. Stat. § 48.062 . . . .
*2 (1) Process against a limited liability company, domestic or foreign, may be served on the registered agent designated by the limited liability company under chapter 605. A person attempting to serve process pursuant to this subsection may serve the process on any employee of the registered agent during the first attempt at service even if the registered agent is a natural person and is temporarily absent from his or her office.
(2) If service cannot be made on a registered agent of the limited liability company because of failure to comply with chapter 605 or because the limited liability company does not have a registered agent, or if its registered agent cannot with reasonable diligence be served, process against the limited liability company, domestic or foreign, may be served:(a) On a member of a member-managed limited liability company;(b) On a manager of a manager-managed limited liability company; or(c) If a member or manager is not available during regular business hours to accept service on behalf of the limited liability company, he, she, or it may designate an employee of the limited liability company to accept such service. After one attempt to serve a member, manager, or designated employee has been made, process may be served on the person in charge of the limited liability company during regular business hours.(3) If, after reasonable diligence, service of process cannot be completed under subsection (1) or subsection (2), service of process may be effected by service upon the Secretary of State as agent of the limited liability company as provided for in s. 48.181.
In the proof of service, the process server attests that he served Kenneth W. Jordan, the manager of Southern Construction, by serving Kimberly Jordan, Kenneth Jordan’s wife, at an address in Midway, Georgia. Doc. No. 10. Neither the process server nor counsel for Commerce and Industry provided any evidence that Southern Construction did not have a registered agent or, if it did, that service could not be made on the registered agent. There is also no evidence that Kimberly Jordan is a member, a manager or an employee of Southern Construction designated to accept service. Finally, there is no evidence regarding the address at which service was made, i.e., at the office of the registered agent, at the office of Southern Construction or at a residence. Therefore, based on the present record, the Court cannot conclude that service of process has been properly perfected.
Service of unincorporated associations is much more complicated. Service is made
Upon an unincorporated association which is subject to suit under a common name, by delivering a copy of the summons and complaint to any officer, director, or governor thereof, or by delivering or mailing in accordance with paragraph (1) above a copy of the summons and complaint to any agent or attorney in fact authorized by appointment or by statute to receive or accept service in its behalf; or, if no such officer, director, governor, or appointed or statutory agent or attorney in fact be found, then by delivering or mailing in accordance with paragraph (1) above a copy of the summons and complaint to any member of such association and publishing notice of the pendency of such action once a week for two successive weeks in the newspaper of general circulation in the county wherein such action is pending. Proof of publication of such notice is made by filing the publisher’s certificate of publication with the court.
Does a manager count as an officer or director? A quick look at cases did not answer that question, but it would seem to me the answer should be "no." Obviously, the easiest way to do complete service would be to serve an LLC's agent or attorney, if either can be found. But if you have to serve a "member," one must deliver the summons and complaint to the member AND "publish notice of the pendency of such action once a week for two successive weeks in the newspaper of general circulation in the county wherein such action is pending." Old school. Anyway, it seems to me that it is high time for West Virginia to specifically recognize LLCs and other entity forms in the Rules of Civil Procedure.
Tuesday, November 13, 2018
Back in May, I noted my dislike of the LLC diversity jurisdiction rule, which determines an LLC's citizenship “by the citizenship of each of its members” I noted,
I still hate this rule for diversity jurisdiction of LLCs. I know I am not the first to have issues with this rule.I get the idea that diversity jurisdiction was extended to LLCs in the same way that it was for partnerships, but in today's world, it's dumb. Under traditional general partnership law, partners were all fully liable for the partnership, so it makes sense to have all partners be used to determine diversity jurisdiction. But where any partner has limited liabilty, like members do for LLCs, it seems to me the entity should be the only consideration in determing citizenship for jurisdiction purposes. It works for corporations, even where a shareholder is also a manger (or CEO), so why not have the same for LLCs. If there are individuals whose control of the entity is an issue, treat and LLC just like a corporation. Name individuals, too, if you think there is direct liability, just as you would with a corporation. For a corporation, if there is a shareholder, director, or officer (or any other invididual) who is a guarantor or is otherwise personally liable, jurisdiction arises from that potential liability.
- Util Auditors, LLC v. Honeywell Int'l Inc., No. 17 CIV. 4673 (JFK), 2018 WL 5830977, at *1 (S.D.N.Y. Nov. 7, 2018) ("Plaintiff ... is a limited liability corporation with its principal place of business in Florida, where both of its members are domiciled.").
Thermoset Corp. v. Bldg. Materials Corp. of Am., No. 17-14887, 2018 WL 5733042, at *2 (11th Cir. Oct. 31, 2018) ("Well before Thermoset filed its amended complaint, this court ruled that the citizenship of a limited liability corporation depended in turn on the citizenship of its members.").ALLENBY & ASSOCIATES, INC. v. CROWN "ST. VINCENT" LTD., No. 07-61364-CIV, 2007 WL 9710726, at *2 (S.D. Fla. Dec. 3, 2007) ("[A] limited liability corporation is a citizen of every state in which a partner resides.").
Tuesday, October 30, 2018
Tom Rutledge, at Kentucky Business Entity Law Blog, writes about a curious recent decision in which the Kentucky Court of Appeals overrule a trial court, holding that the law of piercing the veil required the LLC veil to be pierced. Tavadia v. Mitchell, No. 2017-CA-001358-MR, 2018 WL 5091048 (Ky. App. Oct. 19, 2018).
Here are the basics (Tom provides an even more detailed description):
Sheri Mitchell formed One Sustainable Method Recycling, LLC (OSM) in 2013. Mitchell initially a 99% owner and the acting CEO with one other member holding 1%. Mitchell soon asked Behram Tavadia to invest in the company, which he did.
He loaned OSM $40K at 6% interest from his business Tavadia Enterprises, Inc. (to be repaid $1,000 per month, plus 5% of annual OSM profits). There was no personal guarantee from Mitchell. OSM then received a $150,000 a business development from METCO, which Tavadia personally guaranteed and pledged certain bonds as security.
Two years (and no loan payments) later under the original $40,000 loan, Tavadia agreed to delay repayment. OSM and Tavadia the created a second loan for $250,000, refinancing the original $40,000 and a subsequent Tavadia $12,000 loan. This loan provided Tavadia a 25% ownership interest in OSM, but there was still no personal guarantee on the loan. Mitchell claimed this loan was needed to purchase essential equipment (no equipment was purchased). OSM then received a $20,000 loan from Fundworks, LLC, which was secured by Mitchell, who signed Tavadia’s name for OSM and she signed a personal guarantee in Tavadia’s name (both without permission).
Not surprisingly, in October 2015, OSM stopped operations, the equipment was sold, and more than half of the sale proceeds were deposited in Mitchell’s personal bank account, with the rest going to OSM’s account. OSM (naturally) defaulted on the Fundworks’ loan, which Tavadia learned about when Fundworks demanded repayment. The METCO loan also defaulted, and Tavadia was asked to provide funds from the bonds he provided as collateral.
Okay, so it sounds like Mitchell took advantage of Tavadia and engaged in some elements of fraud. What I can’t figure out from this case is why we’re talking about veil piercing.
First, the court states: “The evidence presented at trial demonstrated that Mitchell diverted OSM assets into her own account.” Tavadia v. Mitchell, No. 2017-CA-001358-MR, 2018 WL 5091048, at *5 (Ky. Ct. App. Oct. 19, 2018). So that money Mitchell owes to OSM, which owes money to Tavadia. The court noted that at least half the funds from the sale of OSM equipment went into Mitchell’s personal account. That needs to go back to OSM, and if veil piercing has value, then a simple order of repayment should be, too.
Second, the Fundworks loan, which Mitchell signed for, is really her loan, not Tavadia’s. He did not know about it until they sought payment, so it wasn’t ratified, and there is no other indication she has authority to enter into the contract.
At a minimum, these funds are owed Tavadia (or OSM) and should be itemized as such. Presumably, that is not enough money to make Tavadia whole. And I don’t know he should be. To the extent there were legitimate (if poorly executed) business attempts, he is on the hook for those losses. As such, I don’t see this as a veil-piercing case.
Instead, Tavadia should be able to sue Mitchell for her fraudulent actions that harmed him directly. And Tavadia should be able to make OSM sue Mitchell for improper transfers and fraud.
Maybe there are other theories for recovery, too, but veil piercing should not be one. Mitchell did not use the entity to commit fraud. She committed fraud directly. Just because there is an entity, plus an unpaid loan, it does not make this a veil-piercing case. In fact, because Tavadia is a member of the LLC, I think there is a reasonable argument that (absent truly unique circumstances) veil piercing cannot apply.
I am sympathetic that Tavadia was taken advantage of, and I think that Mitchell should have a significant repayment obligation to him, but I just don’t think this claim should be rooted in veil piercing. At a minimum, like in administrative law, one should have to exhaust his or her remedies before proceeding to a veil-piercing theory.
Tuesday, August 7, 2018
It's not just judges and lawyers. Big banks, too, are apparently not committed to clear and accurate language when it comes to LLCs (limited liability companies). A recent antitrust case provides an excerpt from a Barclays Settlement Agreement that states:
Paragraph 2(cc) of the Barclays Settlement Agreement defines “Person” as: “An individual, corporation, limited liability corporation, professional corporation, limited liability partnership, partnership, limited partnership, association, joint stock company, estate, legal representative, trust, unincorporated association, municipality, state, state agency, any entity that is a creature of any state, any government or any political subdivision, authority, office, bureau or agency of any government, and any business or legal entity, and any spouses, heirs, predecessors, successors, representatives, or assignees of the foregoing.” Barclays Settlement Agreement ¶ 2(cc).
(h) “Person” means an individual, corporate entity, partnership, association, joint stock company, limited liability company, estate, trust, government entity (or any political subdivision or agency thereof) and any other type of business or legal entity . . . .
Friday, April 6, 2018
Within the next few weeks, the Supreme Court will decide a trio of cases about class action waivers, which I wrote about here. The Court will decide whether these waivers in mandatory arbitration agreements violate the National Labor Relations Act (which also applies in the nonunion context) or are permissible under the Federal Arbitration Act.
I wonder if the Supreme Court clerks helping to draft the Court's opinion(s) are reading today's report by the Economic Policy Institute about the growing use of mandatory arbitration. The author of the report reviewed survey responses from 627 private sector employers with 50 employees or more. The report explained that over fifty-six percent of private sector, nonunion employees or sixty million Americans must go to arbitration to address their workplace rights. Sixty-five percent of employers with more than one thousand employees use arbitration provisions. One-third of employers that require mandatory arbitration include the kind of class action waivers that the Court is looking at now. Significantly, women, low-wage workers, and African-Americans are more likely to work for employers that require arbitration. Businesses in Texas, North Carolina, and California (a pro-worker state) are especially fond of the provisions. In most of the highly populated states, over forty percent of the employers have mandatory arbitration policies.
Employers overwhelmingly win in arbitration, and the report proves that the proliferation of these provisions has significantly reduced the number of employment law claims filed. According to the author:
The number of claims being filed in employment arbitration has increased in recent years. In an earlier study, Colvin and Gough (2015) found an average of 940 mandatory employment arbitration cases per year being filed between 2003 and 2013 with the American Arbitration Association (AAA), the nation’s largest employment arbitration service provider. By 2016, the annual number of employment arbitration case filings with the AAA had increased to 2,879 (Estlund 2018). Other research indicates that about 50 percent of mandatory employment arbitration cases are administered by the AAA (Stone and Colvin 2015). This means that there are still only about 5,758 mandatory employment arbitration cases filed per year nationally. Given the finding that 60.1 million American workers are now subject to these procedures, this means that only 1 in 10,400 employees subject to these procedures actually files a claim under them each year. Professor Cynthia Estlund of New York University Law School has compared these claim filing rates to employment case filing rates in the federal and state courts. She estimates that if employees covered by mandatory arbitration were filing claims at the same rate as in court, there would be between 206,000 and 468,000 claims filed annually, i.e., 35 to 80 times the rate we currently observe (Estlund 2018). These findings indicate that employers adopting mandatory employment arbitration have been successful in coming up with a mechanism that effectively reduces their chance of being subject to any liability for employment law violations to very low levels.
This data makes the Court's upcoming ruling even more critical for American workers- many of whom remain unaware that they are even subject to these provisions.
Tuesday, December 26, 2017
No one will be shocked that my last post of the year is about a court referring to a limited liability company (LLC) as a "limited liability corporation." It's wrong to do so, and it's my thing to point out when it happens. This case is especially striking (and perhaps upsetting) because of the context of the reference. In this 2015 case that just showed up on Westlaw (or at least, in my alerts), "Plaintiff argues that because Defendants are all limited liability corporations they must identify and prove the citizenship of their various members and that they have failed to do so." Skywark v. Healthbridge Mgmt., LLC, No. 15-00058-BJR, 2015 WL 13621058, at *1 (W.D. Pa. July 22, 2015). They mean LLCs, not corporations. Okay, so far this is a pretty typical mistake. But wait!
Plaintiff is correct that the citizenship of a limited liability corporation is determined by the citizenship of its members. Zambelli Fireworks Mfg. Co. v. Wood, 592 F.3d 412, 420 (3d Cir. 2010). Defendants have sought to fix any errors that may affect diversity jurisdiction by filing a declaration that identifies the members of their limited liability corporations and allegations of their citizenship. Plaintiff raises several arguments in response to Defendants' declaration and alleges that it is insufficient to prove diversity of citizenship.
If you celebrated, I hope you had a great Christmas. We sure did. Wishing you and yours peace, warmth, and love in this holiday season.
Tuesday, November 14, 2017
Plaintiff alleges that Sinsky violated 15 U.S.C. § 1125(a)(1)(A) and engaged in unfair and deceptive trade practices, in violation of Maryland common law. ECF 1, ¶¶ 17-22, 23-26. At its core, plaintiff's contention is that “Sinsky is the resident agent and incorporator” of Farm Fresh Home (ECF 1, ¶¶ 12-13), and in that capacity she “filed” the articles of organization for Farm Fresh Home, creating a name for the “competing company” that is “intentionally confusing” because of its similarity to Farm Fresh Direct. ECF 1, ¶ 12.
. . . .
*4 Farm Fresh Home is a limited liability company. As a threshold matter, I must determine whether Sinsky is subject to suit in light of Farm Fresh Home's status as a limited liability company.
The question here is not whether plaintiff will ultimately prevail. Its allegations as to Sinsky border on thin. But, for purposes of the Motion, plaintiff adequately alleges sufficient facts and inferences that Sinsky participated in the creation of Farm Fresh Home for the purpose of using a confusingly similar name to compete with Farm Fresh Direct. See A Society Without a Name, 655 F.3d at 346. Therefore, plaintiff is not entitled to the protection of the corporate shield at this juncture.
Thursday, October 5, 2017
On Monday, the Supreme Court heard argument on three cases that could have a significant impact on an estimated 55% of employers and 25 million employees. The Court will opine on the controversial use of class action waivers and mandatory arbitration in the employment context. Specifically, the Court will decide whether mandatory arbitration violates the National Labor Relations Act or is permissible under the Federal Arbitration Act. Notably, the NLRA applies in the non-union context as well.
Monday’s argument was noteworthy for another reason—the Trump Administration reversed its position and thus supported the employers instead of the employees as the Obama Administration had done when the cases were first filed. The current administration also argued against its own NLRB’s position that these agreements are invalid.
In a decision handed down by the NLRB before the Trump Administration switched sides on the issue, the agency ruled that Dish Network’s mandatory arbitration provision violates §8(a)(1) of the NLRA because it “specifies in broad terms that it applies to ‘any claim, controversy and/or dispute between them, arising out of and/or in any way related to Employee’s application for employment, employment and/or termination of employment, whenever and wherever brought.’” The Board believed that employees would “reasonably construe” that they could not file charges with the NLRB, and this interfered with their §7 rights.
The potential impact of the Supreme Court case goes far beyond employment law, however. As the NLRB explained on Monday:
The Board's rule here is correct for three reasons. First, it relies on long-standing precedent, barring enforcement of contracts that interfere with the right of employees to act together concertedly to improve their lot as employees. Second, finding individual arbitration agreements unenforceable under the Federal Arbitrations Act savings clause because are legal under the National Labor Relations Act gives full effect to both statutes. And, third, the employer's position would require this Court, for the first time, to enforce an arbitration agreement that violates an express prohibition in another coequal federal statute. (emphasis added).
This view contradicted the employers' opening statement that:
Respondents claim that arbitration agreements providing for individual arbitration that would otherwise be enforceable under the FAA are nonetheless invalid by operation of another federal statute. This Court's cases provide a well-trod path for resolving such claims. Because of the clarity with which the FAA speaks to enforcing arbitration agreements as written, the FAA will only yield in the face of a contrary congressional command and the tie goes to arbitration. Applying those principles to Section 7 of the NLRA, the result is clear that the FAA should not yield.
My co-bloggers have written about mandatory arbitration in other contexts (e.g., Josh Fershee on derivative suits here, Ann Lipton on IPOs here, on corporate governance here, and on shareholder disputes here, and Joan Heminway promoting Steve Bradford’s work here). Although Monday’s case addresses the employment arena, many have concerns with the potential unequal playing field in arbitral settings, and I anticipate more litigation or calls for legislation.
I wrote about arbitration in 2015, after a New York Times series let the world in on corporate America’s secret. Before that expose, most people had no idea that they couldn’t sue their mobile phone provider or a host of other companies because they had consented to arbitration. Most Americans subject to arbitration never pay attention to the provisions in their employee handbook or in the pile of paperwork they sign upon hire. They don’t realize until they want to sue that they have given up their right to litigate over wage and hour disputes or join a class action.
As a defense lawyer, I drafted and rolled out class action waivers and arbitration provisions for businesses that wanted to reduce the likelihood of potentially crippling legal fees and settlements. In most cases, the employees needed to sign as a condition of continued employment. Thus, I’m conflicted about the Court’s deliberations. I see the business rationale for mandatory arbitration of disputes especially for small businesses, but as a consumer or potential plaintiff, I know I would personally feel robbed of my day in court.
The Court waited until Justice Gorsuch was on board to avoid a 4-4 split, but he did not ask any questions during oral argument. Given the questions that were asked and the makeup of the Court, most observers predict a 5-4 decision upholding mandatory arbitrations. The transcript of the argument is here. If that happens, I know that many more employers who were on the fence will implement these provisions. If they’re smart, they will also beef up their compliance programs and internal complaint mechanisms so that employees don’t need to resort to outsiders to enforce their rights.
My colleague Teresa Verges, who runs the Investor Rights Clinic at the University of Miami, has written a thought-provoking article that assumes that arbitration is here to stay. She proposes a more fair arbitral forum for those she labels “forced participants.” The abstract is below:
Decades of Supreme Court decisions elevating the Federal Arbitration Act (FAA) have led to an explosion of mandatory arbitration in the United States. A form of dispute resolution once used primarily between merchants and businesses to resolve their disputes, arbitration has expanded to myriad sectors, such as consumer and service disputes, investor disputes, employment and civil rights disputes. This article explores this expansion to such non-traditional contexts and argues that this shift requires the arbitral forum to evolve to increase protections for forced participants and millions of potential claims that involve matters of public policy. By way of example, decades of forced arbitration of securities disputes has led to increased due process and procedural reforms, even as concerns remain about investor access, the lack of transparency and investors’ perception of fairness.
I’ll report back on the Court’s eventual ruling, but in the meantime, perhaps some policymakers should consider some of Professor Verges’ proposals. Practically speaking though, once the NLRB has its full complement of commissioners, we can expect more employer-friendly decisions in general under the Trump Administration.
 Murphy Oil USA v. N.L.R.B., 808 F.3d 1013 (5th Cir. 2015), cert. granted, 137 S. Ct. 809, 196 L. Ed. 2d 595 (2017); Lewis v. Epic Sys. Corp., 823 F.3d 1147 (7th Cir. 2016), cert. granted, 137 S. Ct. 809, 196 l. Ed. 2d. 595 (2017); Morris v. Ernst & Young, LLP, 834 F.3d 975 (9th Cir. 2016), cert. granted, 137 S. Ct. 809, 196 L. Ed. 2d 595 (2017)