Case on Redemption from Businesses Could Have Raised a Variety of Issues, But It Looks Like It Will Not

Case on Redemption from Businesses Could Have Raised a Variety of Issues, But It Looks Like It Will Not

       Earlier this year, a lawsuit was filed in Bullitt Circuit Court in connection with the failure to fully perform on a written agreement to redeem an individual from a variety of corporations and LLCs. A significant number of questions are raised by this complaint. Patel v. 28 Vansh Inc., No. 17-CI-00349 (Bullitt Circuit Court, complaint filed April 10, 2017).

      Hirenkumar Patel (“Patel”), with two other individuals, was a shareholder or member in a variety of corporations and LLC.  The other shareholders/members were Kalpesh Patel (“Kalesh”) and Mayur Patel (“Mayur”). The three of them entered into agreement pursuant to which Patel would receive $825,000 in return for his one third ownership interest in each of the companies. This agreement was written in Gujarati; a certified translation of the documents, as well as a copy of the original, were tendered with the complaint. It is further alleged that $440,000 of the purchase price has been tendered and received, but that the defendants refused to make good on the balance. From there, this wide-ranging complaint has been filed.

The Cinelli Rule

      One interesting question will be whether the agreement, which itself includes only four sentences, one of which reading in its entirety “We both want to get out of this business happily.”, is sufficient to satisfy statute of frauds. For example, none of the subject companies are identified for example, the Kentucky Court of Appeals held in 2015, that an option to purchase a business and the related real property was unenforceable as it failed to identify all of the material terms. Specifically, in that instance, where the option failed to identify description of real property, leaving that to pearl evidence, the option was insufficiently specific to be enforced. See Rosemary Hubbs Brewer v. John M. Parsons 2007 Revocable Trust, No. 2013-CA-001309-MR (Ky. App. March 27, 2015); HERE IS A LINK to my review of that decision.

Damages

      In the course of the complaint, it is alleged that the plaintiff is entitled to damages of $10 million. See Complaint ¶ 14. Curiously, the prayer for relief seeks damages of only $5 million. See Prayer for Relief, ¶ b, but then goes on to seek $5 million of exemplary/punitive damages Prayer for Relief ¶ c. But this is a breach of contract action, and the plaintiff's damages should conceptually be limited to the amount he should have received ($825,000) and the amount he has received ($440,000). Prejudgment interest on the amount due and owing should adequately account for the delay in payment.

Piercing the Veil

      A generalized assertion is made against the eighteen business ventures at issue, alleging a claim for piercing the veil against each of the basis that they are the alter egos of the defendants. Frankly, I'm confused by this assertion. Initially, the various corporations and LLCs are not parties to contract at issue. Second, as recently clarified by the Six Circuit Court of Appeals, piercing is a remedy, not a cause of action. See In re Howland; HERE IS A LINK to my discussion of the piercing aspect of that decision. The various corporations and LLCs should not be parties to this lawsuit unless and until there is a judgment against the defendants that cannot be satisfied from their individual assets. At that time, if necessary, the various business ventures may properly be brought into the action. Too, if appropriate under piercing theory, access additional assets from which the plaintiff's judgment may be satisfied.

Breach of the Duty of Loyalty

     The complaint, at ¶ 30, alleges that the defendants owed the plaintiff a fiduciary duty of undivided loyalty, a duty that rose as their positions as “officers, directors, and/or shareholders of the Company.” I have, at least initially, only three problems with this assertion.

      First, many of the companies are themselves LLC's, and neither the defendants are an officer, director or shareholder of those LLC's. If the defendants owe you a duty of loyalty in those companies, it is not consequent to being an officer, director or shareholder thereof.  Rather, assuming each is a Kentucky LLC and that the fiduciary duties therein are defined by the LLC Act (i.e., they have not been modified in a written operating agreement), even if either of the Defendants are subject to a fiduciary duty of loyalty, and that duty is owed to the LLC and not enter say the members. See KRS § 275.170. As such, any effort to allege a breach of the duty of loyalty, it being owed to the LLC, must be brought under derivative basis. This is not, however, a derivative action, but rather a direct action. Hence, the assertions of a breach of the duty of loyalty, vis a vie any of the LLCs, fails by its own terms.

      With respect to the assertion that a fiduciary duty arose because the defendants were “shareholder,”, the suggestion that shareholders in a Kentucky Corporation owe to one another fiduciary duties has been rejected. See Griffin v. Jones and Conlon v. Haise; HERE IS A LINK to my discussion of Griffin v. Gross - HERE IS A LINK to my discussion of Conlon v. Haise. In consequence, the allegation that any fiduciary obligations arose out of the defendants positions as shareholders in any of the corporations likewise fails.

      With respect to the assertion that fiduciary duties are owed by the officers and directors of the corporation, that is entirely true. However it is as well true that those obligations are owed not to the individual shareholders, but rather to the corporation as a distinct legal entity. This rule has been identified in cases including Ballard v. 1800 Willow and Griffin v. Jones. HERE IS A LINK to my discussion of Ballard v. 1800 Willow - HERE IS A LINK to my discussion of Griffin v. Jones. In that those duties are owed only to the corporation, and not to the shareholders individually, they may be enforced only by means of a derivative action. In that this suit is brought as an individual, not a derivative, action, the allegations based upon a breach of the duty of loyalty must fail. For an application of this rule, see the 2016 decision of the Kentucky Court of Appeals in Adcomm v. Jones; HERE is a link to my discussion of that case.

Conversion

      There is as well an allegation that the defendants have been converting assets from the various business organizations. The injury suffered consequent to conversion, if in fact those assets have been diverted, is suffered by the corporations and LLCs. As such, those claims need to be brought in a derivative action, and not a direct action. See, e.g., KRS § 275.337(1). In consequence, the allegations of conversion should be dismissed.

Contracts in English

      Kentucky has a statute, KRS § 446.060(2), which provides that contracts must be in English. As the agreement here at issue was not written in English, is it enforceable by a Kentucky court?

The Answer

      As this posting was being drafted, the defendants filed an answer.  It avoided the issues identified above, asserting rather that the plaintiff has in fact been fully paid and has no claim for a deficiency.