A recent decision by the California Court of Appeals upheld liability against a third party for aiding and abetting an LLC member’s breach of fiduciary duty. In American Master Lease LLC v. Idanta Partners, Ltd., the defendants entered into an unauthorized competing agreement with non-majority members of AML, knowing that it constituted a breach of loyalty. The defendants unsuccessfully argued that liability required the existence of an independent fiduciary duty with AML. The court stated that was only one of two possible claims for aiding and abetting; the claim is also available where the defendant knows that the member’s conduct constitutes a breach of fiduciary duty and gives substantial assistance or encouragement toward the conduct. No independent fiduciary duty is required. After finding the defendants liable, the court explained the relevant statute of limitations and remedy for the violation. The statute of limitations is that of the underlying tort itself - breach of fiduciary duty - either three or four years, depending on the presence of fraud. As for the remedy, the court held that disgorgement of profits was an appropriate. The court stated that this furthered public policy, in both preventing an individual from benefiting from his wrongful actions and acting as a deterrent for future actions.
Brown, Neri, Smith & Khan LLP Blog
A California Court of Appeal this past week determined that a foreign LLC which is not qualified to transact business in California can nonetheless enforce a judgment obtained in another state in California. Conseco Marketing, LLC v. IFA and Ins. Services, Inc., 2013 Cal. App. LEXIS 946 (Cal. App. 2d Dist. Nov. 22, 2013). Under both California's current LLC Act and the new one effective in 2014, neither maintaining or defending a lawsuit nor collecting a debt is by itself sufficient to constitute transaction intrastate business in California.
Beginning in January 2014, newly formed limited liability companies ("LLCs") in California will be formed under a new LLC law. the Revised Uniform Limited Liability Company Act or "RULLCA." The new law is very significant because many smaller companies use the flexibility of the LLC structure to operate their business. Among many changes, RULLCA gives new LLCs greater flexibility is curtailing and defining the fiduciary duties their members or managers will be subjected to. The prior act gave California LLCs and their members substantially less flexibility in eliminating fiduciary obligations as compared to LLCs in other states such as Delaware. Now, under RULLCA, default fiduciary duties are limited to those duties specified in the acts. Moreover, even those duties can be curtailed as long as they are not curtailed "unreasonably." The new law gives founding members and managers a greater ability to shield themselves from liability. On the other hand, investors must be more careful where fiduciary obligations have been sharply limited because those investors will have a significantly lesser ability to protect their interests in court.
On August 8, the Delaware Court of Chancery issued a post-trial decision regarding a series of disputes among the owners of a closely-held Delaware LLC. Grove v. Brown (http://courts.state.de.us/opinions/download.aspx?ID=193130). The decision is significant because there is relatively little law about internal disputes in limited liability companies. Delaware is a popular jurisdiction for organizing LLCs as with C corps so the decision from Delaware's Chancery Court carries extra weight. A number of issues were raised, making the case a useful read. Here, we'll touch on one: the parties disputed ownership. The Operating Agreement and other documents stated that there were four equal partners. The parties' actions were not consistent and not all of the four owners put up all of the initial capital implied by their ownership shares. Faced with whether the contract or practical actions controlled, the court held that the unambiguous contract controlled. LLCs are peculiarly creatures of contract, and this decision emphasizes that in the LLC context, the operating agreement will control in most all circumstances. In this case, the owners who fully performed, assumed and acted as though they owned a larger share commensurate with their greater performance. Those actions based upon their belief that they held a majority interest, including effecting a merger premised on their position that they owned more than 50% of the LLC, were rendered void as they were inconsistent with the Operating Agreement. Where a party does not meet his or her obligations under that agreement, Grove suggests that the other parties need to force compliance or sue -- rather than assuming that the underperforming owner will be assumed later to have fewer rights in the LLC. All too often disputes in a closely held company or LLC are swept under the rug and not addressed -- until litigation ultimately erupts, leaving a multitude of the type of challenging issues raised in Grove.