Thursday, May 29, 2014
Employee’s Agreement to Short Period of Limitations Enforced Against Employee
In a recent decision from the Sixth Circuit Court of Appeals, it considered a pair of important issues. In the first, the Court laid out the analysis for determining whether a plaintiff’s claims did or did not exceed the $75,000 threshold required for diversity jurisdiction. In the second aspect of the decision, the Court found that a voluntarily entered into six-month period of limitations for bringing a claim against an employer would be enforced. Shupe v. Asplundh Tree Expert Company, __ Fed.Appx. __, 2014 WL 2119151 (6th Cir. May 22, 2014).
Rebecca Shupe (“Shupe”) was employed by Asplundh Tree Expert Company (the “Company”). She began working for the Company in August, 2008 and was terminated in August, 2011. At the time of becoming an employee, she signed a “Limitation on Time to File Claims or Lawsuit” (the “Waiver”), it providing in part:
I agree that any claim, administrative claim or lawsuit relating to my service with [the Company] or any of its subsidiaries must be filed no more than six (6) months after the date of the employment action that is the subject of the claim or lawsuit, except as may be provided otherwise in a collective bargaining currently in effect. I waive any statute of limitations to the contrary.
Approximately one year after her termination, Shupe filed suit against the Company alleging a number of claims including sexual harassment by her supervisor, who was her former husband. She also brought claims for gender and age discrimination and that her termination was in retaliation for complaining about her former husband’s harassment. The Company removed the action to federal court, and Shupe sought remand.
One of the requirements for diversity jurisdiction is that the amount in controversy exceeds $75,000. Kentucky does not provide, however, that the amount of liquidated damages sought in a suit be stated in the complaint. Hence, when a suit is removed to federal court, there is an open question as to whether the amount in controversy does or does not exceed $75,000. In this instance, Shupe argued that the amount in controversy did not exceed $75,000. However, the District Court parsed her various claims, noting that back pay alone would amount to some $68,250 by the time of trial, none of which would account for her other claims, including those for punitive damages. In making that determination, the Court discounted certain settlement offers of less than $75,000, as well as an affidavit that she was not seeking that amount, finding that these did not go to the jurisdictional question of the amount in controversy. Further, the wording of the affidavit was found to be insufficient in light of other Court rulings as to what is and is not sufficient to make clear that plaintiff is not seeking an amount exceeding $75,000.
As such, the District Court’s determination that the requirements of a diversity jurisdiction existed was affirmed, and the Sixth Circuit turned its attention to the District Court’s grant of summary judgment on the basis of the Waiver.
The Court began by noting that “waivers of statute of limitations are valid and enforceable under Kentucky law” and that there are prior holdings to the effect that the six-month limitation period is not inherently unreasonable. 2014 WL 2119151, *6. In the face of this, Shupe argued that she did not on a knowing and voluntary basis sign the Waiver. In response to claims that she was not allowed to have the Waiver and other documents reviewed by her own attorney and that they were not explained to her, the Court responded, generally, that one who does not understand a contract needs to seek assistance before it is signed, if they do not do so they will be bound by the terms thereof.
In addition, the Sixth Circuit specifically rejected Shupe’s allegation that the Company should have provided her a copy of the Waiver at the time of her termination. 2014 WL 2119151, *9.
In that Shupe did not bring her claims within six months of her termination, the summary judgment granted by the District Court was upheld.
The Fall of Constantinople and the End of the “Middle Ages”
On this day in 1453 the city of Constantinople, and with it the Byzantine Roman Empire, fell to the forces of the Ottoman Empire under Mehmed II. Refounded as the Eastern capital of the Roman empire in the early years of the 4th Century, it had previously fallen only once, then in 1204 to an army of Western Crusaders. The strength of its walls, especially those on the land side, were legendary. The Hun army under Attila is reputed to have ridden up to the walls, taken a good look and ridden away, knowing they could not take the city. Since the fall of the Western Roman Empire in the 5th Century, it was the Eastern “Byzantine” Empire that continued the traditions and namesake of the “Roman Empire.”
Mehmed was able, however, to utilize the still relatively new cannon, but cast at sizes never before seen. A combination of the battering of the city’s walls, siege and the deprivation of supplies, and a city without the necessary military forces to patrol and protect the walls set the stage for its downfall. Ultimately the Ottoman forces were able to force entry through a gate left open in the walls through which a wounded Byzantine commander (he himself was from Genoa) had been evacuated. The last of the Byzantine emperors, Constantine XI, died leading his troops in a final push against the enemy (or at least it is so assumed; the accounts records him leading the troops and his whereabouts are never again reported, his body was never recovered).
Some scholars treat the Fall of Constantinople as the end of the Middle Ages. An interesting notion, but since scholars can’t agree as to what are the characteristics of the Middle Ages, it is hard to say the age ended as of one point in time or another. Maybe for that reason May 29, 1453 is as good a day as any.
Sixth Circuit Reminds Us of the Importance of Careful Drafting
In a recent decision, the Sixth Circuit Court of Appeals was called upon to interpret a buy-sell agreement. In the course of that decision, the Court affirmed again the importance of careful drafting and as well as rules of contractual construction. Howard v. Mercer Transportation Company, Inc., __ Fed. Appx. __, 2014 WL 2119150 (6th Cir. May 21, 2014).
This dispute arose out of the buy-sell agreement entered into amongst the shareholders of Mercer Transportation Company, Inc., which corporation was apparently an S-corporation. It should be noted that all of the persons involved were corporate shareholders notwithstanding the fact that they are sometimes referred to as “partners.”
After the death of one of the three owners, a dispute arose as to how the valuation provision of the buy-sell agreement should be interpreted. Specifically, the agreement provided that the company would pay the estate “all earnings of the Corporation as reflected by the K-1 issued by the Corporation during the year of death and the five years thereafter.” The dispute involved:
whether the phrase “during the year of the death and the five years thereafter” modifies “earnings” (the estate’s view) or “issued” (the company’s view). In other words: Does section 5.4 require the company to pay the estate its earnings (as reflected by the K-1 issued by the company) during the year of death and the five years thereafter—earnings from 2008 through 2013? Or does section 5.4 require the company to pay the estate its earnings that are listed in the K-1 forms issued by the company during the year of death and the five years thereafter—earnings from 2007 through 2012?
Notwithstanding a contrary decision by the District Court, the Sixth Circuit unanimously held for the estate’s reading, finding that only it would give effect to other provisions of the document. While the company was able to identify a fact situation, namely the death of the second shareholder, in which some conflict would exist between those provisions, the Court applied the rule that:
Kentucky law discourages an interpretation of the agreement that it will allow part of section 4.1 to “perish by destruction, unless insurmountable obstacles stand in the way of any other course.” Siler v. White Star Coal Co., 226 S.W. 102, 104 (Ky. 1920) (internal quotation marks omitted).
From there it went on to observe that:
But no principle of contract law suggests that an interpretation of an agreement that always makes one provision redundant wins out over an interpretation that sometimes makes that provision redundant. 2014 WL 2119150, *3.
The Court also noted that extrinsic evidence would not be relied upon in interpretation until after “the resources of the paper itself [are] exhausted,” it citing Akins v. City of Covington, 97 S.W.2d 588, 590 (Ky. 1996).
Tuesday, May 27, 2014
A Tomb, a Tomb, My Kingdom for a Tomb
Last Friday, the British Royal Court of Justice issued its decision that the remains of King Richard III would be buried at Leicester Cathedral.
Richard III, the last English king to die in battle, fell to the forces of Henry VII at the Battle of Bosworth fought in 1485. His remains were interred at the Greyfriars Friary in Leicester. Their exact location was lost when the monasteries and friaries were suppressed under Henry VIII.
Richard’s grave was ultimately relocated in 2012. The permit under which the search for his grave had been undertaken provided that the remains would be reinterred in Leicester. However, after their discovery, a self-appointed group of purported descendants (all indirect; Richard had no children of his own), asserting that he would have preferred to have been buried in York, bought suit challenging the Leicester reburial.
The British Courts have now rejected that assertion, and directed that his remains be reinterred in the Leicester Cathedral. That is expected to happen later this year.
Monday, May 19, 2014
Some Statements Are Just So Stupid They Deserve Public Ridicule
Typically, when somebody says something monumentally stupid the best response is none at all, keeping in mind that “There but for the grace of God go I.” Other times, ridiculous statements deserve to be called out, examples being General Haig’s “I’m in charge,” Al Gore’s “I invented the Internet,” Reagan’s “Trees cause pollution,” and Clinton’s “I did not have sex with that woman.”
Squarely falling within the classification of statements that are so ridiculous they deserve public ridicule are those of the Commonwealth of Kentucky/Governor Beshear arguing in favor of Kentucky’s Constitutional provision against recognition of same-sex marriages. See Brief filed with the U.S. 6th Circuit Court of Appeals in Burke v. Beshear, No. 14-5291 (May 7, 2014).
Earlier this year, Judge Heyburn of the U.S. District Court stuck down, in Burke v. Beshear, that portion of Kentucky law providing, inter alia, that Kentucky will not recognize a same sex marriage solemnized in another state, holding that this statute violates the Equal Protection Clause of the United States Constitution. Attorney General Jack Conway stated that he would not further defend the statute, an imminently reasonable determination in that every court that has ruled on this question subsequent to the U.S. Supreme Court’s in Windsor has determined that similar statutes violate Equal Protection. For unknown reasons Governor Beshear determined to pursue the appeal.
In the Brief filed with the 6th Circuit, it is stated that:
Same-sex couples are materially different from traditional man-woman couples. Only man-woman couples can naturally procreate. Fostering procreation serves a legitimate economic interest that is rationally related to the traditional man-woman marriage model. Thus, same-sex couples are not similarly situated to man-woman couples and the distinction drawn by Kentucky’s statutes is rationally related to a legitimate interest of Kentucky. Brief at 6.
The Brief goes on to state:
Man-man and woman-woman couples are not similarly situated to man-woman couples in a significant material aspect. Only man-woman couples have the ability to naturally procreate. As set forth more fully below, procreation is reasonably related to the object of Kentucky’s traditional marriage statutes. This distinction between same-sex couples and man-woman couples is critical and provides a lawful basis to treat same-sex couples differently than man-woman couples with regard to the institution of marriage without offending the Equal Protection Clause. Brief at 15.
It then continues:
Here, Plaintiffs are not asserting a right to a traditional man-woman marriage, of which procreation can be a natural result, rather they are seeking access to a different institution – a same-sex marriage from which procreation can never actually result. Brief at 19-20.
From there the Commonwealth comes to its argument, namely that:
Procreation is “fundamental” to the very existence and survival of the race, and, therefore is a legitimate state interest. Encouraging, promoting and supporting the formation of relationships that have the natural ability to procreate further is the Commonwealth’s basic and fundamental interest in insuring the existence of the human race. This alone should be sufficient to satisfy any standard of review. The Commonwealth, however, has an additional interest in promoting procreation – supporting long-term stability through stable birth rates.
One need look no further than economic journal and news sources to the correlation between a society’s birth rates and its long-term ability to support a strong economy…. The economic crisis created from declining birth rates results from a reduced demand for goods and services and an aging workforce, which results in fewer available laborers and members of the workforce to support social programs….
Kentucky has an economic interest in procreation. Just as governments around the globe promote procreation and birth rates, so does Kentucky’s marriage policy. Though there is a cost to Kentucky by granting tax and other benefits to man-woman couples, a stable or growing birth rate offsets the cost. Only man-woman relationships can naturally procreate and only those relationships, therefore, are afforded the state-sponsored benefit. The Plaintiffs, however, seek the same tax and other benefits without furthering Kentucky’s legitimate and vital economic interest. Kentucky’s support for the only type of relationship that can naturally procreate – traditional man-woman couples – by only recognizing traditional marriage is not only rational, but also consistent with sound economic policy. Brief at 21-24 (citations and footnotes omitted).
And there you have it: marriage between heterosexuals may be fostered on the basis that babies result even as the benefits of marriage may be restricted from those who cannot naturally created children. But if that is the legal requirement, then:
· Must traditional heterosexual couples desiring to marry undergo fertility tests and, if one of them is in fact infertile, a marriage license be denied;
· Must marriages involving post-menopausal women be forbidden for the simple reasons that those marriages cannot naturally lead to children;
· Upon one or the other of the members of a heterosexual couple ceasing to be fertile, must the marriage, by its own terms, be terminated as it no longer supports the creation of baby Kentuckians;
· Should heterosexual Kentuckians be required to pledge to have children as a condition to the issuance of a marriage license;
· Should there be a fixed period from the marriage within which a child must be born or the benefits of marriage be rescinded; and
· On the basis of economic need may the Commonwealth forbid the sale and use of contraceptives?
I suppose there is somewhere buried in the “reasoning” set forth in this Brief something along the line that gay and lesbians, deprived of the ability to engage in same-sex marriage, will enter into at ersatz heterosexual relationships, thereby possibly creating additional children and taxpayers.
Of course, all of this is just silly. The availability of marriage has never been conditioned upon the ability to procreate, and the Commonwealth has opened itself to ridicule by suggesting that it should be able to deprive individuals of the ability to marry based upon procreative capacity if and only if the two persons who desire to marry are of the same sex.
I Have But Such a Little Neck
Today marks the anniversary, in 1536, of the execution of Anne Boleyn on spurious charges of adultery and therefore (by one argument) treason. While she would be included in Foxe’s Book of Martyrs, a 16th century effort at Protestant hagiography, all indications are that Anne died a Catholic; it is difficult to otherwise understand her request that the Eucharist be placed in her chambers at the Tower of London in the days before her execution.
Famously, Anne was executed not with the traditional English ax, but rather by a French swordsman. I have never found a satisfactory explanation as to why the swordsman was requested over the axeman; Friedmann suggested, and Ives admits it as a possibility, that it was at Anne’s request, she desiring the French manner of execution in light of her having been raised in the French court. His participation does lend an interesting element to the consideration of Anne’s trial. Anne was consigned to the Tower on May 2, her alleged partners in adultery (other than her brother George) were tried on May 12 and she was tried on May 15. The swordsman, normally resident in Calais, may have been ordered to come to England before her trial. Even though her trial had not yet taken place, the manner of her dispatch may have already been selected. Still she came out ahead (no pun intended); her sentence was commuted to beheading – the regular sentence for a woman convicted of treason was burning at the stake. But if the “Calais Swordsman” was summoned to London before her trial, it is curious as to whether and how Anne was consulted about her manner of dispatch.
The statement about having a little neck was made by Anne while being held in the Tower in anticipation of her execution. Anne’s execution was rescheduled twice due to the delay in the arrival of the Calais Swordsman, and the delay was understandably rather rough on her nerves.
Anne was buried in St. Peter ad Vincula, the church on the grounds of the Tower of London.
Henry would marry Jane Seymour, his third wife, on May 30.
Friday, May 16, 2014
Patmon v. Hobbs – Round Two
The Patmon v. Hobbs dispute, it involving a breach of the duty of loyalty by the managing member of an LLC in appropriating for his own benefit a business opportunity and company assets, has again returned to the Kentucky Court of Appeals. Patmon v. Hobbs, 2014 WL 97464 (Ky. App. Jan. 10, 2014).
Briefly, Hobbs was the managing member of American Leasing and Management, LLC, a company in which Patmon was as well a member (Hobbs 51%, Patmon 44% and other 5%). The primary business of the LLC was the build and lease of various retail establishments. On the alleged basis that the LLC was not able to perform on and thereby exploit certain existing contracts, Hobbs unilaterally transferred them to another LLC in which he was a member. Patmon brought suit to challenge Hobbs’ breach of duty. By a circuitous (and flawed) path, the Court of Appeals determined that Hobbs violated his fiduciary duties (a normatively correct conclusion) in unilaterally assigning to the second LLC the build and lease agreements. See Patmon v. Hobbs, 280 S.W.3d 589 (Ky. App. 2009). That first decision was reviewed in Rutledge & Geu, The Analytic Protocol for the Duty of Loyalty Under the Prototype LLC Act, 63 Ark. L. Rev. 473 (2010). Here is a LINK to that article.
The case was then remanded to the trial court for the consideration of what damages were owed by Hobbs.
In a ruling dated September 6, 2012, the trial court ordered Hobbs to remit to Patmon $37,400, that being 44% of the proceeds from the sale of his portion of the LLC to which the contracts were transferred.
Patmon submitted damages request based on the total contract price of the contracts at issue, but Patmon is only entitled to the percentage of profit she would have received if the contracts were executed by American Leasing instead of American Development. After the projects were complete, Hobbs sold his interest to a third party for $115,000 minus $25,000 for attorney fees. Hobbs made a total profit of $85,000 on the projects in question. Since, Patmon owns 44% of American Leasing, the Court finds that her damages are 44% of $85,000, or $37,400. Accordingly, the Court sets Patmon’s damages for Hobb’s common-law breach of fiduciary duty and failure to follow statutory guidelines of KRS § 275.170 at $37,400.
This second trip to the Court of Appeals then followed.
Ultimately, this ruling of the Court of Appeals is dicta. The order from which Patmon appealed was not final and therefore the Court of Appeals lack jurisdiction to hear the appeal. On that basis it was dismissed. Still, the Court of Appeals was at pains to discuss what should be the proper measure of damages in the suit. Hence, while it may ultimately be dicta, it is compelling dicta. As to those points:
The Duty of Loyalty
The Court of Appeals recited that in the prior decision:
[w]e noted the existence of a common law duty of loyalty owed to members of a limited liability company as well as the existence of statutory duty set forth in KRS 275.170, that requires a member to “account to and hold as trustee for a [LLC] any profit or benefit derived from transaction involving the use of a [LLC’s] property by that member or manager without [adequate] consent.” 2014 WL 97464, *1 (the [adequate] being added by the Court of Appeals).
The “owed to members of the LLC” is curious in that later in the decision the Court noted that a member’s duty of loyalty is owed to the company. 2014 WL 97464, *2, note 7. It is the latter statement that is correct. The LLC Act is clear – the duty of loyalty is owed to the LLC – that is what the statute says. See KRS § 275.170(2) (“account to the [LLC] and hold for it”); see also Ballard v. 1400 Willow Council of Co-Owners, Inc. __ S.W.3d __, ___; 2013 WL 6134150, *10 (Ky. 2013) (directors owe their duties “to the corporation.”, citing KRS § 273.215).
From there the Court of Appeals:
Reversed and remanded with instructions for the trial court to determine whether American Leasing was able to take advantage of the opportunity diverted by Hobbs, which is a prerequisite to recovery.
The Business Opportunity Doctrine and the Capacity to Perform
As to the requirement that Patmon demonstrate that the LLC had the wherewithal to perform on the build-to-lease agreements there are a pair of failings, namely the allocation of the burden and the assumption that one exists.
As to requiring Patmon to show that the LLC could have performed on the contract, this relieves the fiduciary of the obligation of showing that they satisfied his or her obligations. Hobbs unilaterally and for no consideration assigned an LLC asset to the company he controlled. Those facts are uncontested. Any burden should be exclusively upon Hobbs to demonstrate the propriety of his actions. Yes, Kentucky’s Business Corporation Act places the burden on the plaintiff to show the director violated his or her duties; KRS § 271B.8-300(6), but that is a rule that reverses the burden as traditionally imposed. The LLC Act has no such reversal of the burden.
As to the question of the LLC’s capacity to perform, Hobbs, who controlled the LLC, should not be permitted to raise inability to perform as a defense. Second, even if the LLC could not perform, it does not follow that the transferred contracts were without value. For example, the LLC could have sold the right to build out the stores, thereby realizing value.
While the capacity to perform may be an element of whether or not there was an opportunity as to a corporation (see, e.g., Urban J. Alexander v. Trinkle, 224 S.W.2d 923 (Ky. 1943)), that reasoning is inapplicable in LLCs and was never applicable to the LLC out of which arose this suit. At to the second point, American Leasing and Management, LLC, the company owned by Patmon and Hobbs, had signed the contract that was subsequently transferred. This was not a business opportunity floating in the breeze but rather an asset in hand. As to the former point, LLCs are statutory constructs that are strangers to the common law. As recently observed by the Supreme Court in Pannell v. Shannon:
In fact, “limited liability companies are creatures of statute,” controlled by Kentucky Revised Statutes (KRS) Chapter 275,” Turner v. Andrew, 413 S.W.3d 272, 275 (Ky. 2013) (quoting Spurlock v. Begley, 308 S.W.3d 657, 659 (Ky.2010)), not primarily by the common law. To the extent that common law doctrines could arguably govern limited liability companies, the Kentucky Limited Liability Company Act “is in derogation of common law,” KRS 275.003(1), and the traditional rule of statutory construction that “require[s] strict construction of statutes which are in derogation of common law shall not apply to its provisions.” Id. Thus, to the extent the statutes conflict with common law, the common law is displaced.
This Court must therefore first look at the controlling statutory law. The obvious place to start, then, is the source of limited liability in the LLC context, KRS 275.150. Pannell v. Shannon, __ S.W.3d __, 2014 WL 1101472, *7 (Ky. 2014).
The application of the business opportunity doctrine cases to LLCs based upon their supposed similarity to corporations and with it the “ability to perform” defense to expropriation was inappropriate ab initio.
Further, it must be recognized that KRS § 275.170, in direct response to the first Patmon v. Hobbs decision, has been amended. Initially, KRS § 275.170(2) has been defined as the exclusive formula of the duty of loyalty applicable in an LLC with respect to the actions of the members or managers (“The duty of loyalty applicable to each member and manager shall be….”). Second, with respect to any suggestion that the utilization of a company opportunity or asset may be approved ex ante on the basis that the transaction was “fair,” the LLC Act has been amended to preclude that argument (“That a transaction was fair to the [LLC] shall not constitute a defense to the failure to request and receive the required consent of the disinterested managers or members.”). See also Rutledge, The 2012 Amendments to Kentucky’s Business Entity Statutes, 101 Ky. Law J. Online 1 (p. 13-14) (2012). Hobbs should never have been permitted to assert, and prospectively nobody may assert, “the LLC could not perform, therefore the contract had no value, and therefor I took nothing from the LLC, and certainly that is fair.”
The Measure of Damages
The Court of Appeals criticized the trial court for its method of calculating damages. For example, Hobbs sold his interest in the company to which the build-to-suit contracts were transferred for $115,000. After certain reductions for assumed third-party expenses, Hobbs was awarded 44% of the net proceeds. As identified by the Court of Appeals, this was incorrect. Rather, Hobbs is obligated to hold all of the benefit of the transferred assets in trust for the LLC. KRS § 275.170(2) says exactly that.
By way of example, if Hobbs transferred the build-to-suit contracts to an LLC in which he was a 40% owner, and the transferee LLC realized $100,000 on the asset, Hobbs’ liability back to the original LLC is not $40,000 but rather $100,000. Remember that when the embezzler steals $100,000 but then donates $60,000 to the church, the embezzler’s liability is not reduced to $40,000. Rather, the embezzler is liable for the full amount taken. On the other side of the coin, if the embezzler invests the $100,000 and it grows to $120,000, the entire $120,000 is owed to the employer – the embezzler cannot claim the gain on the misappropriated funds.
Further, upon dissolution, Hobbs’ sharing ratio in any net proceeds of the company will need to be adjusted in order to account for his misconduct. Ultimately, that needs to be accomplished as part of the LLC’s dissolution as the settling of accounts is not a separate matter therefrom. 2014 WL 97464, *2.
Massachusetts Further Adds to the Mess of Inter-Shareholder Fiduciary Duties
Massachusetts has long been infamous amongst those who practice business entity law for a string of cases holding, inter alia, that the shareholders of a business corporation, amongst themselves, owed to one another the same fiduciary duties that are owed amongst partners in a general partnership. Those cases include Rodd v. Donahue Electrotype Co. and Wilkes v. Springdale Nursing Home. A March decision of the Massachusetts Supreme Court has continued this string of cases and in so doing demonstrated the underlying fallacy of these supposed duties. Selmark Associates, Inc. v. Erlich, 5 N.E.3d 923 (Mass. 2014).
The underlying facts of the case are rather involved, but they do not ultimate impinge upon the Court’s analysis. Essentially, Erlich was a shareholder in a close corporation and as well an employee thereof. In his employment role, he served as a sales representative, and was the second most productive, in terms of commissions, salesman for the company. The only person more successful was the other shareholder. After working together for a number of years, without prior notice, the majority shareholder advised Erlich that his service as an employee was terminated effective immediately. Suit was brought for breach of fiduciary duty and other claims. Meanwhile, the minority shareholder, Erlich, went to work for a competitor of his former employer, a corporation in which he remained a shareholder. Working for that new employer, Erlich solicited customers of his former employer, and was successful in convincing at least one to move their account. The former employer then filed a counterclaim against Erlich for breach of his fiduciary duties owed to the corporation.
The case would ultimately be tried by a jury, its decision being appealed to the Massachusetts Supreme Court.
As to Erlich’s claims for breach of fiduciary duty in his termination from employment, the jury’s verdict in Erlich’s favor upheld. Erlich had been terminated “without warning on reasonable explanation” and there was “no evidence of poor performance,” or “of an inability to get along with others.” 5 N.E.2d at 935. Ultimately, “Erlich has demonstrated that [the defendant] could have sought less harmful alternatives before resorting to termination.” Id.
Still, the victory was not entirely for Ehrlich. He remained a shareholder in his former employer, and in that capacity owed it fiduciary duties. In going to work for a competitor and soliciting customers to move to the competitor Ehrlich was working against the interest of his former employer. Ergo, Erlich violated his fiduciary duties. Ehrlich argued against this analytic path, asserting that:
because he was fired [ ] and essentially “frozen out” [of this former employer], he had the right to compete with [his former employer] without committing a breach of his fiduciary duties to the company. 5 N.E.3d at 943.
In rejecting this argument the Massachusetts Supreme Court wrote:
Our cases are clear that shareholders in close corporations owe fiduciary duties not only to one another, but to the corporation as well. At issue here is whether those fiduciary duties to the corporation continue once a shareholder has been “frozen out,” or wrongfully terminated, by that corporation….
Allowing a party who has suffered harm within a close corporation to seek retribution by disregarding its own duties has no basis in our laws and would undermine fundamental and long-standing fiduciary principles that are essential to corporate governance…. We see no reason to take such a drastic step. “If shareholders take it upon themselves to retaliate any time they believe they have been frozen out, disputes in close corporations will only increase. Rather, if unable to resolve matters amicably, aggrieved parties should take their claims to court and seek judicial resolution.” 5 N.E.3d at 943-44 (citations omitted).
This is Why I’m Glad to be in the Commonwealth of Kentucky and Not the Commonwealth of Massachusetts
This case demonstrates the utter silliness of imposing upon shareholders fiduciary duties owed among themselves. Here we have an individual, Ehrlich, who was otherwise an at-will employee of his employer. However, simply because he was a shareholder the terms of his employment were morphed into employment that could be terminated only upon notice and for cause. At the same time the corporation became the beneficiary, inter alia, of a non-compete/non-solicitation agreement binding the shareholder.
Fortunately, Kentucky has not adopted fiduciary duties among shareholders. See Rutledge, Shareholders Are Not Fiduciaries – A Positive and Normative Analysis of Kentucky Law, 51 Louisville Law Review 535 (2012-13). Here is a LINK to that article. See also More Evidence that Kentucky Law Does Not Recognize Fiduciary Duties Among Shareholders (March 20, 2013) – LINK.
Thursday, May 15, 2014
Where Does Kentucky Stand on Piercing LLCs?
In Inter-Tel Technologies, Inc. v. Linn Station Properties, LLC, 360 S.W.3d 152 (Ky. 2012), the Kentucky Supreme Court updated the law on when the corporate veil may be pierced. Left unresolved was the question of whether and how the veil of a limited liability company (LLC) may be pierced.
While the Kentucky Court of Appeals has applied veil piercing to LLCs, the Kentucky Supreme Court has for now (maybe?) reserved judgment as to whether and how LLCs may be pierced. Specifically, in Pannell v. Shannon, __ S.W.3d __, 2014 WL 1101472, *14 fn. 15 (Ky. 2014), the Court wrote:
This, of course, assumes the doctrine of veil piercing even applies to limited liability companies under Kentucky law. While several decisions have assumed that it does, see Stettenbenz v. Butch's Rod Shop, LLC, 2012–CA–001405–MR, 2013 WL 4779862 (Ky.App. Sept. 6, 2013) (unpublished), the question appears to have been raised in only one case, Howell Contractors, Inc. v. Berling, 383 S.W.3d 465, 466 (Ky.App.2012), which ultimately avoided the question by applying Ohio law, which does allow veil piercing of LLCs. There are, of course, strong arguments for why LLC veil piercing should not be allowed, see generally Stephen M. Bainbridge, Abolishing LLC Veil Piercing, 2005 U. Ill. L.Rev. 77 (2005), even when corporate veil piercing is viable in the jurisdiction, see Thomas E. Rutledge & Lady E. Booth, The Limited Liability Company Act: Understanding Kentucky's New Organizational Option, 83 Ky. L.J. 1, 17 n. 73 (1995) (“An issue to be considered is the degree to which the common law doctrine of piercing the corporate veil should apply to LLCs. While the use of the LLC's liability shield should not be permitted to protect wrongdoers, the application of the law that has developed in this area is questionable.”).
Other Court of Appeals decisions involving the piercing of an LLC include Mountain Paving and Construction, LLC v. Workman, No. 2012-CA-001822-MR, 2014 WL 272463 (Ky. App. Jan. 24, 2014) (Not to be Published) (veil of LLC pierced in order to hold one member liable on LLC debt) and Rednour Properties, LLC v. Spangler Roof Services, LLC No. 2009-CA-001159-MR, 2011 WL 2535330 (Ky. App. June 10, 2011, modified July 8, 2011) (LLC pierced on basis including that it was a single member LLC and was set up for tax purposes and to achieve limited liability). Subsequent to the Rednour decision the LLC Act as well as the business corporation act were amended to make express that being a SMLLC or single shareholder corporation are not basis for piercing. Ky. Rev. Stat. Ann. § 271B.6-220(3) (“That a corporation has a single shareholder is not a basis for setting aside the rule recited in subsection (2) of this section.”), id. § 275.150(1) (“That a limited liability company has a single member or a single manager is not a basis for setting aside the rule otherwise recited in this subsection.”). See also Rutledge, The 2012 Amendments to Kentucky’s Business Entity Statutes, 101 Kentucky Law Journal Online 1, 3-4 (2012).
Further, the Supreme Court has recognized that LLCs are statutory constructs that are strangers to the common law.
In fact, “limited liability companies are creatures of statute,” controlled by Kentucky Revised Statutes (KRS) Chapter 275,” not primarily by the common law. To the extent that common law doctrines could arguably govern limited liability companies, the Kentucky Limited Liability Company Act “is in derogation of common law,” KRS 275.003(1), and the traditional rule of statutory construction that “require[s] strict construction of statutes which are in derogation of common law shall not apply to its provisions.” Id. Thus, to the extent the statutes conflict with common law, the common law is displaced.
This Court must therefore first look at the controlling statutory law. The obvious place to start, then, is the source of limited liability in the LLC context, KRS 275.150. Pannell v. Shannon, supra at *7 (citations omitted).
, thereby distancing LLCs from the roots of piercing jurisprudence. But see Ky. Rev. Stat. Ann. § 275.003(1) (“Unless displaced by particular provisions of this chapter, the principles of law and equity shall supplement this chapter.”).
Unfortunately, the apparent categorical reservation of the question of piercing the LLC veil set forth in Pannell v. Shannon stands in contradiction to another recent decision of the Supreme Court. In Turner v. Andrew, the Court wrote:
The doctrine [of veil piercing] can also apply to limited liability companies. 413 S.W.3d 272, 277 (Ky. 2013).
The Turner decision was written by Justice Abramson, and this language is consistent with an unpublished trial court ruling written by now Justice Abramson when she was on the Circuit Court, she then stating:
While it is true that the foregoing represents the law with respect to the liability of corporate officers and shareholders, equity and fairness required that those same theories of liability [piercing and personal responsibility for personally committed torts] should extend to managers and member of limited liability companies as well. Fabing v. E Concepts, LLC, Jeff. Cir. Ct. (Div. 3) No. 01-CI-06835, Order Granting Plaintiff’s Motion for Partial Summary Judgment entered June 9, 2003 (emphasis in original).
It remains to be seen whether the acceptance of LLC veil piercing (Turner v. Andrew) or the reservation of the question (Pannell v. Shannon) will be determined to be controlling.
Tuesday, May 13, 2014
LLCs Are Not Partnerships
A recent slip opinion from New York provides further authority for the proposition that LLCs are just that, and they are not a species of either the corporation or, as is specifically referenced in this opinion, a partnership. Born to Build, LLC v. Saleh, 2014 N.Y. slip. op. 50594 (U) (Sup. Ct. Nassau County, Feb. 28, 2014).
The subject dispute involved the rights of a purported purchaser of an interest in an LLC at a courthouse step sale. In response to efforts by the purchaser to allege rights vis-à-vis the LLC based upon partnership law, the Court wrote:
The plaintiff’s reliance upon comparisons to the Partnership Law to justify a levy in sale of a membership interest in a limited liability company is unavailing as limited liability companies do not fall within the ambit of the Partnership Law and the existence and character of partnerships and limited liability companies are statutorily dissimilar. (citation omitted).
Monday, May 12, 2014
Expert Testimony as to Parameters of Fiduciary Obligations is Necessary
In a recent decision, the Court of Appeals upheld the directed verdict granted the defendant where the plaintiff failed to submit expert testimony as to the obligations of the alleged fiduciary. Davidson v. King, 2014 WL 1680461 (Ky. App. April 25, 2014) (Not to be Published).
Davidson, who was experiencing financial difficulties, consulted with King who had been designated as a “Crown Financial Budget Advisor.” He advised Davidson to do a sale-lease back of her house (most recently appraised for $121,000 and fully paid for) for $25,000 subject to a buy-back option for $26,000. King was to be the purchaser/lessor. The proposed deed was done. Davidson would fall behind on her lease payments and other obligations, and King initiated eviction proceedings. Davidson’s counter-suit made a variety of allegations against King including breach of fiduciary duty.
At the close of Davidson’s case, the trial court granted King a directed verdict on her claim for breach of fiduciary duty. Her claims for breach of contract and fraud, as well as King’s claim for breach of contract, would go to the jury.
Responding to a motion for a new trial, Davidson argued the directed verdict as to breach of fiduciary duty was in error. This assertion was rejected “because Davidson had failed to offer expert testimony on the applicable standard of care. The trial court specifically found neither exception mentioned in Jarboe v. Harting, 397 S.W.2d 775, 778 (Ky. App. 1965), applied because the duty of care owed by a budget counselor to a client is specialized and not generally known by the public.” 2014 WL 1680461, *2.
This appeal followed. Upholding the trial court, the Court of Appeals wrote:
We agree with the trial court’s exercise of its discretion. Green v. Owensboro Medical Health System, Inc., 231 S.W.3d 781, 783 (Ky. App. 2007) (“Whether expert testimony is required in a given case is squarely within the trial court’s discretion.”). An expert was required to explain why the relationship between Davidson and King went beyond a mere subjective trust or normal contractual business relationship. 2014 WL 1680461, *4-5.
Friday, May 9, 2014
A Partnership is a Party to the Partnership Agreement
A recent decision out of Texas has examined whether a partnership, as distinct from each of the individual partners, is a party to the partnership agreement, finding the answer to be “yes.” Elkjer v. Scheef & Stone, L.L.P., 2014 WL 1255844 (N.D. Tex. March 27, 2014).
Kimberly Elkjer was a partner in Scheef & Stone, L.L.P., a law firm, it being organized under Texas law. She brought claims of gender discrimination under Texas and federal law against the firm. On the basis of federal question jurisdiction the firm removed the case to federal court, and then the firm sought to stay the case and an order compelling arbitration as provided in the partnership agreement. Elkjer contested the arbitrability of her claims on several grounds including that the partnership is not a party to the partnership agreement and is therefore not a party to the arbitration clauses therein; hence there was no agreement to arbitrate.
Disposing of her argument, the Court wrote:
The Court recognizes that Defendant is not a signatory to the Partnership Agreement, but the Court does not find this fatal. This Partnership Agreement is a master agreement of sorts that created an ongoing relationship between the Partners but also between the Partners and the Partnership. The Partnership Agreement addresses much more than just her relationship with the other Partners. It governs the very existence and operation of the limited liability partnership that is Defendant, as well as the terms and conditions of Plaintiff's employment with Defendant. Section 152.002(a) of the Texas Business Organization Code states, “[e]xcept as provided by Subsection (b), a partnership agreement governs the relations of the partners and between the partners and the partnership.” TEX. BUS. ORG. CODE § 152.002(a) (West 2012) (emphasis added). None of the exceptions set forth in subsection (b) apply to this Partnership Agreement, and Plaintiff makes no argument to that effect. The Court reads this statutory language to encompass the partnership, here Defendant, as a party to the Partnership Agreement. The Court could find no statutory requirement that Defendant must sign the Partnership Agreement in order for Section 152.002(a) to apply, and Plaintiff did not provide any such citation. 2014 WL 1255844, *4.
The Court would determine that Elkjer’s claims were otherwise arbitrable (e.g., there is nothing about a claim under Title VII that precludes its resolution by arbitration).
There should be no dispute under Kentucky law that the partnership is itself a party to the partnership agreement. The Kentucky Revised Uniform Partnership Act (2006) provides that “relations among the partners and between the partners and the partnership are governed by the partnership agreement.” KRS § 362.1-103(1). Obviously this language is equivalent to that relied upon by the Elkjer court. Further, the partnership act permits the partnership to seek a partner’s expulsion based upon the partner’s breach of the partnership agreement. KRS § 362.1-601(5). It would be most curious if the partnership could bring an action based upon violation of an agreement to which it is not a party.
Diversity Jurisdiction and National Banks
The availability of access to the federal court based upon diversity jurisdiction is in many respects form dependent. For example, a corporation is deemed to be a citizen of up to two jurisdictions, namely that in which it is incorporated and that in which it maintains its principal place of business. 28 U.S.C. § 1362. Conversely, partnerships, limited partnerships and LLCs each have the citizenship of the each of its members with that of natural persons being based upon domicile. National banks, which are chartered not by a state but by the Comptroller of the Currency, have their own diversity jurisdiction statute, 28 U.S.C. § 1348, which provides that a national bank is deemed a citizen of the states in which it is “located.” In a recent decision, the 9th Circuit Court of Appeals considered the question of interpreting where a national bank is “located.” Rouse v. Wachovia Mortgage, FSB, No. 12-55278, 2014 WL 1243869 (9th Cir. Mar. 27, 2014).
The underlying lawsuit involved the plaintiff’s claims in connection with a home loan and deed of trust issued by Wachovia Mortgage, that being a division of Wells Fargo. The suit was originally filed in state court, and the bank removed it to federal court on the basis of both diversity jurisdiction and a federal question. After the plaintiffs dropped their claims based upon federal law, the suit was remanded by the district court on the basis that diversity jurisdiction was lacking, that determination being premised upon the fact that California was the principal place of business of Wells Fargo.
The 9th Circuit would reverse that determination.
Parsing the statute, as well as changes made and not made over the years to analogous statutes addressing that diversity jurisdiction of state chartered banks (28 U.S.C. § 1332), the 9th Circuit would hold that a national bank is “located,” for purposes of 28 U.S.C. § 1348, at the place designating in its articles of association as its principal place of business. On that basis, in that Wells Fargo’s principal location was identified in its articles as being in South Dakota, diversity jurisdiction existed.
It bears noting that there is a circuit split as to this issue, with at least two circuits holding that a national bank can be “located” in two or more states while others, including the Sixth, holding that national banks are citizens of the state in which they maintain their “main office,” a/k/a principal place of business.
Tuesday, May 6, 2014
The Sack of Rome and The Papal Swiss Guard
Today marks the anniversary of the Sack of Rome in 1527 by troops of Charles V, Holy Roman Emperor.
Since the late 15th Century Italy (or at least the region we today identify as Italy – the notion of the region as a nation was long in the future) had been repeatedly invaded by forces from Northern Europe, each seeking to claim dominion over one area or another. Rival claimants to the crown of Naples caused as much trouble as did anything, but economic rivalry between for example Genoa and Venice did nothing to calm the waters.
Charles’ forces were at this point battling the League of Cognac, it being comprised of France, Milan, Venice, Florence and the Papal States (keeping track of the various Leagues through the Italian Wars is a troubling task; the League of Cambrai was initially formed against Venice by the Papacy, France, Spain and the Holy Roman Empire. Later the initial members would be allied against France with Venice as an ally. Later Venice and France would be against the Papacy, Spain and the Holy Roman Empire). After a significant victory over the French army the troops were restive in that they had not been paid – most were mercenary. Pillaging Rome would be a way of paying the troops. The city was not well defended, although its formidable walls did need to be and were breached. Discipline immediately broke down among the troops and a sack of over three days began.
The Pontifical Swiss Guard, created only in 1506 under Pope Julius II, rose to the occasion. Of its then number of 189, 147 would fall defending Pope Clement VII, affording him time to take refuge in the Castel Sant’Angelo (Hadrian’s Mausoleum). In recognition of this event, new members of the Pontifical Swiss Guard are sworn in on May 6. Earlier today, in the continuation of that triadition, Pope Francis I officiated at the swearing in of a number of new Swiss Guards.
There was last year an event unique to the Guard, namely the recognition of a Pope’s retirement. Benedict XVI left the Vatican as Pope, flying to the Castle Gandolfo. The Swiss Guard accompanied him to the castle and there stood guard. When the moment his resignation became effective, and Benedict became not Pope but Pope Emeritus, the Guard left their station at the castle and returned to Rome. While the Vatican has its security forces, and they no doubt continued to provide protection for Benedict, the Swiss Guard serve the Pope.
Of course this was not the only sack of Rome – it had fallen many times in its long history. It fell to the Normans in 1084, in 546 by the Ostrogoths, in 455 by the Vandals, in 410 by the Visigoths and in 387 BC by the Gauls.