Tuesday, June 18, 2013

LLC Treated as Nominal party to Dispute Between Members

Sixth Circuit Court of Appeals Holds LLC to be a Nominal Party to
Dispute Between LLC Members as to Ownership Thereof


      The Sixth Circuit Court of Appeals has set forth the analysis of when, in a dispute between the members, the LLC will itself be treated as an nominal party whose citizenship will not impact upon the diversity analysis.  Mortenson Family Dental Center, Inc. v. Heartland Dental Care, Inc., 2013 WL 1942849 (6th Cir. May 13, 2013).
      Mortenson Family Dental Center, Inc. and Heartland Dental Care, Inc. were the two members of Morheart Dental Management Services, LLC.  A dispute arose as to the management of that LLC, and Mortenson asserted that Heartland’s interest therein had been diluted for failure to satisfy a capital call.  Mortenson and the LLC then brought a declaratory judgment action in Kentucky to determine Heartland’s ownership interest in Morheart.  Heartland removed that action to federal court and filed a motion seeking dismissal in favor of litigation already pending in Illinois.  Mortenson moved for remand on the basis that diversity jurisdiction was lacking.  The Court held to the contrary and granted the motion to dismiss in favor of the Illinois litigation. 
      Morheart, originally organized as a Kentucky LLC, in January, 2009, merged with and into a Delaware LLC of the same name.  If the citizenship of the LLC were at issue, diversity would be lacking, it having the citizenship of its two members.  The Court found, however, that the LLC was only a nominal party to the action in that it did not itself seek to enforce any duty owed by either of the members.  In doing so, the Court explained that, for example, the fact that the LLC needs to make distributions in accordance with the ownership ratios did not itself cause the LLC to be a real party in interest as to the dispute. 

      In summation, the Court wrote:
The real dispute in this case is between Mortenson and Heartland.  The LLC is only a spectator on the sideline.  That it will give a trophy to the winner does not make it a player in the game.

     My only quibble with this decision (and nominal party/real party in interest analysis is not my forte) is the statement by the Court:
Indeed, the LLC is not even a party to the operating agreement,
noting that this is essentially a dispute between Mortenson and Heartland as to “their ownership percentages in the LLC under the operating agreement.”  My only problem with this statement is that it is diametrically opposed to the statute.  Morheart had been, over the period of its existence, both a Kentucky and a Delaware LLC.  Under the Kentucky LLC Act, and specifically KRS § 275.003(4):
Except to the extent set forth in a written operating agreement, a limited liability company is bound by and a party to the operating agreement. 
The Delaware LLC Act contains similar language at Del. Code Ann. tit. 6, § 18-101(7).  As such the statement by the Court of Appeals that the LLC is not a party to the operating agreement is, at minimum, open to dispute (e.g., was there a provision in the operating agreement expressing providing that the company is not a part thereto) or simply inaccurate.

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