Corporations Flashcards
(9 cards)
Summary
Acme’s lawyer is wrong in almost every respect. As the member of A-B LLC with management control, Acme has breached its fiduciary duties of loyalty and care by refusing to have the LLC bring the concrete claim. Brown can bring the concrete claim on behalf of the LLC against Acme as a derivative action, though not as a direct action against Acme. Brown may have sufficient grounds to seek judicial dissolution of A-B LLC, because Acme’s failure to have the LLC bring the concrete claim likely constitutes oppression. Finally, under the rule of limited liability, the members and managers of an LLC generally are not liable for LLC losses. Thus, the A-B LLC losses arising from the judgment against the LLC are not borne by Acme or Brown, nor are they allocated between them.
[NOTE: The resolution of the issues in this problem would generally be the same in all jurisdictions. The following MEE jurisdictions have adopted the Uniform Limited Liability Company Act (ULLCA) (2006): the District of Columbia, Idaho, Iowa, Nebraska, and Utah.]
Does Acme have fiduciary duties as majority voting member that would require it to have A-B LLC bring the concrete claim against Acme?
Acme owes A-B LLC and Brown fiduciary duties of loyalty and care. Refusing to have the LLC bring the concrete claim violates Acme’s fiduciary duties because the refusal is self-interested and not in the LLC’s best interests.
Rule and Application
A-B LLC is a member-managed limited liability company (LLC). The operating agreement varies the statutory default to give Acme a 55% voting interest, which is permissible under ULLCA § 110. In exercising its management powers, Acme has fiduciary duties under ULLCA§409 as a member in a member-managed LLC to both A-B LLC and Brown. These fiduciary duties include both a duty of loyalty and a duty of care.
The ULLCA does not specifically address whether the duty of loyalty precludes a majority member from refusing to have the LLC bring a surefire claim against the member. But the ULLCA provides that members have a duty of loyalty to “account to the company and to hold as trustee for [the company] any . . . benefit derived by the member . . . in the conduct . . . of the company’s activities.” ULLCA § 409(a)(1)(A). The benefit that Acme derives by virtue of A-B LLC not bringing a claim against Acme is an improper benefit, and thus keeping the benefit is a breach of Acme’s duty of loyalty.
The ULLCA provides that, subject to the business-judgment rule, the duty of care requires the member to “act with the care that a person in a like position would reasonably exercise under similar circumstances and in a manner the member reasonably believes to be in the best interests of the company.” ULLCA § 409(c). Because refusing to have the LLC bring the concrete claim against Acme is self-interested, the business-judgment rule is inapplicable. Under the facts given, Acme cannot reasonably believe that it is in A-B LLC’s best interest to not bring the surefire concrete claim against Acme.
Can Brown bring the concrete claim against Acme?
The claim based on the defective concrete sold by Acme to A-B LLC is a claim of the LLC as an entity, not of the LLC’s members. Thus, Brown can maintain a derivative action on behalf of A-B LLC, in which the LLC brings its concrete claim against Acme. But Brown cannot maintain a claim on Brown’s own behalf directly against Acme.
Rule and Application
Brown, as a member of the LLC, may maintain a derivative action under ULLCA § 902 to enforce A-B LLC’s concrete claim against Acme. A derivative action in a member-managed LLC may be brought onlyif (1) a demand is made on the other member to bring an action and the member fails to do so, or (2) such demand would be futile. Here, Brown has made a demand on Acme and Acme has failed to have the LLC bring an action against Acme. Therefore, Brown may bring a derivative action against Acme.
Under ULLCA § 104, an LLC is an entity distinct from its members. The claim based on the faulty concrete is a claim of A-B LLC as an entity, not a claim of its constituent members. For this reason, Brown cannot advance the concrete claim on its own behalf. This is consistent with the direct action provision, ULLCA § 901, under which Brown would have to “plead and prove an actual or threatened injury that is not solely the result of an injury suffered or threatened to be suffered by the limited liability company.”
Does Brown have sufficient grounds to seek the dissolution of A-B LLC?
Based on Acme’s unjustified refusal to advance the concrete claim, Brown may have grounds to seek judicial dissolution of A-B LLC.
Rule and Application
Brown could apply to the court for an order of involuntary dissolution under ULLCA § 701(a)(5), alleging that Acme, as the member in control of the company, is acting in a manner that is oppressive and directly harmful to Brown.
The comment to ULLCA § 701 states that courts have begun to apply close corporation “oppression” doctrine to LLCs. Courts in the close corporation context have found oppression when actions by controlling shareholders violate the reasonable expectations of non-controlling shareholders. Thus, the question becomes whether Acme’s refusal to have the LLC bring a surefire claim against Acme violates Brown’s reasonable expectations. At a minimum, Brown had reasonable expectations that Acme would not violate its fiduciary duties (see Point One). In addition, Acme’s refusal to have the LLC bring the concrete claim violates Brown’s reasonable expectation that Acme would manage the LLC in the best interests of the LLC. Finally, Acme’s refusal directly harms Brown, because unless Acme makes good on the LLC losses, Brown will suffer reputational harm for being involved in a construction project where the customers lost all their money.
Should A-B LLC’s losses be borne by Acme and Brown and allocated between them in the same way as its profits?
Under the rule of limited liability, LLC members and managers are not liable beyond their investment in the LLC for losses incurred by the LLC. There are no facts to support piercing the LLC veil, nor did the homeowners bring direct claims against Acme or Brown.
Rule and Application
Although allocation of losses among partners in a partnership follows the allocation of profits, no allocation rule applies in an LLC because of limited liability. Under the rule of limited liability, if the LLC becomes indebted, obligated, or otherwise liable to an outside party, no member or manager becomes liable on that debt, obligation, or liability solely by reason of acting as a member or manager. See ULLCA § 304(a)(2). Thus, if A-B LLC lacks the assets to satisfy the judgment awarded to the homeowners, there can be no liability of either Acme or Brown on this judgment—unless a court pierces the LLC veil or finds that one of the members had acted to create direct liability.
Under the facts, there is no indication of fraud or other inequitable conduct in the formation or operation of A-B LLC that would support a piercing claim against Acme or Brown. Although state courts have recognized piercing in the LLC context, there must exist some circumstances that would justify piercing on equitable grounds, such as undercapitalization of the business, failure to follow formalities, commingling of assets, confusion of business affairs, or deception of creditors. None of these factors exists here.
At most, the homeowners may have had a direct claim against Acme for supplying defective concrete, but the homeowners did not bring this claim against Acme. Nor is there any indication that Brown was responsible for losses caused by the defective concrete. Therefore, because no claims were brought against either Acme or Brown, there are no losses for which either of them is liable directly, and there is no basis for allocating losses between them. If A-B LLC lacks the assets to satisfy the judgment awarded against it, any shortfall will be a loss borne by the homeowners.
