Thursday, December 19, 2013

Kentucky Supreme Court Addresses of Scope of Corporate Director’s Statutory Fiduciary Duties

Kentucky Supreme Court Addresses the Scope of Corporate Directors Fiduciary Duties and Limitations on Culpability
      Earlier today the Kentucky Supreme Court issued its long-awaited decision in the case now styled Baptist Physicians Lexington, Inc. v. The New Lexington Clinic, P.S.C., which case had previously been styled The New Lexington Clinic, P.S.C. v. Cooper.  Therein, the Kentucky Supreme Court provided useful guidance with respect to when the statutory formula for a director’s fiduciary duties, as well as the limits upon culpability, set forth in KRS § 271B.8-300 are and are not applicable.  Baptist Physicians Lexington, Inc. v. The New Lexington Clinic, P.S.C., 2012-SC-000242-DG, 2013 WL 6700209 (Ky. Dec. 19, 2013).  This opinion, which is designated for publication, was a unanimous decision of the Supreme Court.  The author of the opinion was Justice Abramson.
      Drs. Cooper, McKinney and Winkley, each a shareholder in and director of The New Lexington Clinic, P.S.C. (the “NLC”), were recruited to join a competing healthcare provider.  After agreeing to join the new venture, however, they did not immediately tender their resignations, but remained for a significant period of time directors able to access the financial information of NLC, and it is asserted, provide that information to their new employer.  Also, after having agreed to leave NLC, but before giving notice of doing so, some or all of the physicians solicited other employees of NLC to ultimately depart with them.  After those departures, NLC brought suit against the physicians alleging breach of fiduciary duties, but without making any reference to KRS § 271B.8-300.  Rather, they relied upon common law fiduciary duties owed a corporation, duties previously accepted to be part of Kentucky law under the Aero Drapery and Steelvest decisions.  The trial court granted summary judgment, primarily (at least for these purposes) on the basis that the complaint failed to cite and therefore state a claim under KRS § 271B.8-300.  That decision was affirmed by the Court of Appeals.
      The Supreme Court granted discretionary review and heard oral arguments on March 14 of this year.  As I here summarized on March 19, on behalf of the Defendants, it was argued that:
·                     KRS § 271B.8-300 sets forth the only fiduciary duties of a director of a Kentucky business corporation and also specifics the threshold of culpability for asserting damages against a director for breach thereof; and
·                     There is no causal linkage between any violation that may have occurred and the damages now claimed by the Plaintiff.
      In contrast, the Plaintiffs argued that:
·                     Under the modern Rules of Civil Procedure, it is not necessary to cite the statutory basis of the claim;
·                     Even if KRS § 271B.8-300 is the exclusive statement of a director’s fiduciary duty and the limits on a monetary claim for breach of those duties, the limits do not apply when the violation of duty does not take place in the course of discharging the duties of a director.
      Essentially, the Supreme Court has here agreed with the arguments of The New Lexington Clinic stating:
Contrary to the lower courts’ conclusions, KRS 271B.8-300 does not abrogate common law fiduciary duty claims against directors in Kentucky but essentially codifies a standard of conduct and a standard of liability for directors that is derived from business judgment rule principles.  As it explicitly states, the statute applies to “any action taken as a director” and “any failure to take any action as a director.”  Preparing for and participating in a competing venture does not constitute the internal corporate governance conduct addressed in KRS 271B.8-300 and consequently the statute does not apply.  Slip op. at 2.
       With respect to the standards applicable to a corporate director in the discharge of their obligations on behalf of the corporation, the Court held, inter alia, that the statutory formula is the exclusive standard, writing:
[KRS 271B.8-300] codifies both the standard of conduct applicable to a director and the circumstances in which the director can be held liable for monetary damages or subjected injunctive relief.  Significantly, subsection (5) limits a corporate director’s liability but it does so only in the context of “any action taken as a director or any failure to take any action as a director.”  In short, when acting in his or her directorial capacity, a director must comply with the statutory standard of conduct.  If he fails to do so, injunctive relief is available and if the conduct at issue is willful, misconduct or reflects wanton or reckless disregard for the corporation and its shareholders, then monetary damages may also be recovered.
Looking at the other side of the coin, the Court wrote:
But just as clearly, [271B.8-300(5)] does not purport to address circumstances where a director is acting, not in his capacity as a director, but in his own individual interest with respect to a matter beyond the conduct of the corporation’s business, even if that extra-corporate matter may have some impact on the corporation.  If a director is acting on his own accord in anticipation of competing with the corporation which he still serves, that conduct implicates the director’s common law fiduciary duties, not KRS 271B.8-300.
            I do have one small quibble with this decision based upon a small apparent conflict with the Supreme Court’s decision in Ballard v. 1400 Willow (Nov. 21, 2013).  Specifically, the decision rendered in Baptist Physicians Lexington provides:
Kentucky Courts have long recognized that corporate directors owe fiduciary duties to the corporation and its shareholders, duties emanating from common law.  Slip op. at 7, 2013 WL 6700209, *4.
In support thereof, there was cited the decision rendered in Urban J. Alexander Co. v. Trinkle, 224 S.W.2d 923, 926 (1949).  My concern is that the statement that corporate directors owe fiduciary duties to the “shareholders” may create an undesirable conflict with the decision rendered in Ballard v. 1400 Willow wherein the Kentucky Supreme Court interpreted the provision of the Nonprofit Corporation Act that is identical to KRS § 271B.8-300(1) to the effect that the director’s fiduciary duties are owed to the corporate entity and not to the individual shareholders.  Ballard v. 1400 Willow, slip op. at 20, 21.  That said, accepting that the statement in Baptist Physicians Lexington as to who is the beneficiary of the board’s fiduciary duty is dicta, while it is Ballard v. 1400 Willow a core component of the case as holding, the apparent conflict may be avoided.  That being the case, there is preserved the distinction between the two decisions, namely Ballard v. 1400 Willow addressing to whom the director’s fiduciary duties are owed while Baptist Physicians Lexington addresses when the statutory definition of the fiduciary duties owed and the application of the limitations on culpability for breach thereof are applicable.

Thursday, December 12, 2013

Delaware Chancery Court Addresses Status as a Member of LLC, “Corporate” Opportunity Doctrine and Breach of Fiduciary Duty

Delaware Chancery Court Addresses Status as a Member of LLC,
“Corporate” Opportunity Doctrine and Breach of Fiduciary Duty

      A Delaware Chancery Court decision from this summer addresses an all too common situation, namely the break down in an equally-owned LLC with each of the opposing sides then seeking to protect what they think to be their rights.  Grove v. Brown, 2013 WL 4040495 (Del. Ch. Aug. 8, 2013).
      Marlene and Larry Grove entered into an operating agreement with Melba and Hubert Brown for Heartfelt Home Health, LLC, a Delaware limited liability company.  The operating agreement provided that each would be a 25% member and that each was obligated to make a $10,000 contribution to the LLC.  While the business was initially successful, at the end of the first year, in the course of working on the tax returns, a dispute arose because neither Larry Grove nor Melba Brown had yet satisfied the full $10,000 capital contribution.  Ultimately, Melba would contribute the full $10,000 while Larry would contribute an additional $3,657, asserting that the balance was satisfied by furniture and equipment he contributed to the LLC.  The Browns contested that valuation.  As this dispute was simmering, Marlene Grove, even as she continued her employment with the LLC, formed a new Maryland LLC for the purpose of engaging in that jurisdiction in a similar line of business as that of Heartfelt.  The place of business of this new LLC was less than ten miles from that of Heartfelt, the original LLC.  Ultimately the Groves would form as well another Delaware LLC, it engaging in a similar line of work in Delaware as that undertake by Heartfelt.

      Ultimately, the Groves decided to sever their relationship from the Browns, requesting a buyout in the amount of $941,000.  In addition, they stated an intention, presumably in the alternative, to move for the dissolution and liquidation of Heartfelt.  In response, the Browns first suggested an independent appraisal of the company, which offer was rejected.  Thereafter, the Browns sought to merge the Heartfelt Home Health LLC into another company, freezing out the Groves, this action taken on the purported basis that they held a 63% interest in the company based upon the capital contributions actually made.  Under Delaware law, the merger of an LLC may be approved by the members holding more than 50% of the current interest in the profits of the LLC.  See Del. Code Ann. tit. 6, § 18-209(b).
      The first question analyzed by the Chancery Court was whether or not the Groves and the Browns were equal owners of the company or, as asserted by the Browns, they had a majority position based upon the capital contributions made.  The Court directed that “the ownership of Heartfelt is governed by the Operating Agreement, which identifies Hubert Brown, Melba Brown, Larry Grove and Marlene Grove as the sole members of the LLC.”  2013 WL 4041495, *5.  The Court went on to note that the Operating Agreement provided that each of the four members had a capital interest of $10,000, and that “the Operating Agreement further provides that the profits and losses shall be divided among the members ‘in proportion to each Member [sic] relative capital interest in the company’.”  Id.  From there, the Court found that:
Nothing in the Operating Agreement indicates that the allocation of relative ownership interests was contingent on the Member’s actions post-signing.  Though the Operating Agreement imposes an obligation on the Members to provide capital to Heartfelt, the Operating Agreement does not provided that one member’s failure to do so divests that Member of his or her share of the company.  2013 WL 4041495, *5.   

      In that the Operating Agreement said that each of the four was an equal 25% member of the company, the Browns were 50% owners of Heartfelt, not 63% owners based upon a greater capital contribution to the company.  As such, “the purported merger transaction, in which Heartfelt merged into a company wholly owned by the Browns was a legal nullity” in that the Browns “never owned more that 50% of Heartfelt.”  2013 WL 4041495, *7.  
      Although obviously in dicta, with respect to the suggestion that  the supposed threat from the Groves to dissolve Heartfelt justified the Brown’s action in effecting the merger, the Court noted that “tit for tat is not a justification for breach for fiduciary duty under Delaware law,” and that there was no threat of dissolution in that the Groves, as 50% members, had no authority to unilaterally dissolve the company. 
      The Court then turned its attention to the breach of fiduciary duty and the usurpation of business opportunities, by Marlene and Larry Grove in setting up the LLCs that were engaged in the same line of business as Heartfelt.  Finding that both Marlene and Larry owed fiduciary duties to the LLC and the other members {note that the Delaware LLC Act, unlike the Kentucky LLC Act, does not define either what are the fiduciary duties owed by the members or to whom they are owed; rather, those duties have been developed primarily through case law and only in 2013 enacted, in at best skeletal form, into the Delaware LLC Act.  This is in contrast to the Kentucky LLC Act, which at KRS § 275.170 defines who owes fiduciary duties, to whom the duties are owed and what those duties are}, the Court reviewed Delaware law on business opportunity and determined that the companies set up by Marlene and Larry Grove in competition with Heartfelt constituted a breach of fiduciary duty.  With respect to that issue, the Court found much of the testimony to be not credible and focused on the fact that there was no “express grant of permission” from the LLC for Marlene Grove to open those other companies.  Highlighting as well the legal separation between an LLC and its members, the Court wrote:
It is unclear to what extent Marlene’s testimony, even if I accepted it as true, supports a finding that Heartfelt waived a corporate opportunity.  Marlene did not testify she presented the opportunity to expand to nearby markets to Heartfelt; she avers that she invited the Browns in their individual capacity to join her in creating new, competing entities.  Presenting an opportunity to the Browns is not the same as presenting an opportunity to Heartfelt….  In any event, as mentioned above, the Groves had the burden of proving that they had the right to pursue the opportunities which would otherwise belong to Heartfelt.  I find that they failed to meet that burden.  2013 WL 40414945, *10.
      Finding that all of the parties had engaged in some inappropriate conduct, the Court ordered that all of them account to the Heartfelt LLC for any profits they have derived that should have been earned by and paid to it, and invited the parties to come to an agreement with respect to dissolution of the company.

No Claim for Promissory Estoppel in Withdrawing Offer of At-Will Employment

No Claim for Promissory Estoppel in Withdrawing Offer of At-Will Employment

      A recent decision by Judge Hood saw him apply Kentucky’s law of employment-at-will to reject a claim for promissory estoppel while at the same time rejecting a claim for violation of the Americans With Disabilities Act (“ADA”).  McDonald v. Webasto Roof Systems, Inc., 2013 WL 5676223 (E.D. Ky. Oct. 18, 2013). 
      McDonald, then an employee of Washington Penn, applied for a position at Webasto.  At the end of the interview he was offered the position, and he advised that he needed to give two weeks’ notice.  A week after giving that notice McDonald was called by Webasto and told that a criminal background check, a drug test and a medical exam would be required.  He agreed to each.  A medical exam reported a herniated disc in McDonald’s back, but did not indicate he was unsuited for the job.  Webasto then sent McDonald to another medical facility for further investigation of his back.  Based upon that second examination and a report from a physician thereat that he could not recommend McDonald for the job, it appears (it is certainly implied but never expressly stated in the opinion) that Webasto withdrew the offer of employment.
      McDonald brought suit for violation of the ADA, asserting that Webasto withdrew the offer of employment because it regarded him as having a disability.  He also sued for breach of the employment contract and for promissory estoppel.  All these claims would be dismissed on summary judgment. 
      With respect to the claim under ADA, while acknowledging that McDonald could make out a prima facie case of unlawful discrimination, it found that McDonald would still lose.  Notwithstanding the fact that the medical assessment was open to objective questioning:
Defendant Webasto has come forward with a legitimate, non-discriminatory reason for not hiring him:  it concluded that he was not qualified based on the results of the examination of the Kentucky Back Center as reported by Dr. Lester and which stated McDonald could not perform the work required in the position for which he had been hired.  2013 WL 5676223, *4.
      The court rejected McDonald’s suggestion that this was proforma in that he was sent to the Kentucky Back Center in an effort to disqualify him from the position.  Rather:

McDonald does not dispute that Webasto could rightfully require and even condition his employment on the results of the medical examination.  Nor does McDonald suggest that the physical requirements contained in Webasto’s position description, against which his ability to perform job-related functions was measured, for anything other than job-related and consistent with business necessity.  He has provided the Court with no citation to relevant statute, regulation or case law to support his argument that an employer cannot seek a second opinion or that his pre-employment inquiry is per se limited once an initial evaluation is received.
      With respect to the charge of breach of contract, Judge Hood noted that Kentucky follows the rule of employment-at-will, stating that to be the rule unless there is a “clearly manifested intent” to the contrary.  There being no showing of a contract of employment other than on terms of at-will, the Court found there could be no action for breach of any such contract. 
      The Court went on to note that an at-will employee cannot assert promissory estoppel as the basis for damages.  2013 WL 5676226, *6.

Monday, December 9, 2013

Counsel for Partnership Disqualified Based Upon “Substantially Related” Work on Behalf of a Partner

Counsel for Partnership Disqualified Based Upon
“Substantially Related” Work on Behalf of a Partner
      As described by the Sixth Circuit, this case is about the meaning of “substantially related” in the context of the rule disqualifying counsel from being adverse to a former client as to a “substantially related” matter.  Bowers v. The Ophthalmology Group, __ F.3d __, 2013 WL 5763173 (6th Cir. Oct. 25, 2013).
      Bowers was a partner in The Ophthalmology Group, LLP; she was expelled from the partnership in 2010.  She filed suit over that expulsion under Title VII and Kentucky law.  She moved to disqualify the partnership’s attorney on the basis that another attorney in the same firm (M&L) had previously represented Bowers on a substantially related matter.  Specifically, she referenced assistance from the firm on an ultimately uncompleted effort to open an ophthalmology practice in Louisville and counsel provided the partnership several years prior on the expulsion of another partner.
      The trial court dismissed the Title VII claim as Bowers was a partner and not covered thereby, determined to not exercise supplemental jurisdiction over the state law claims, and dismissed as moot the motion to disqualify counsel.  This appeal followed.
      The Sixth Circuit held (i) the motion to disqualify counsel should have been addressed before considering the merits of Bower’s claims and (ii) the counsel should have been disqualified.  As to the first point it wrote “A district court must rule on a motion for disqualification of counsel prior to ruling on a dispositive motion because the success of a disqualification motion has the potential to change the proceedings entirely.”  2013 WL 5763173, *6.
      As to the substance of the disqualification, the burden is not upon the objecting former client to divulge the previously disclosed confidential information, and the court is to look to the type of information “as would normally have been obtained in the prior representation.”  2013 WL 5763173, *4, quoting Ky. S. Ct. R. 3.130 (1.9 comment 3).  For similar formula the court also cited the Hazard & Hodes treatise and the Restatement (3rd) of the Law Governing Lawyers.  Addressing only the representation as to opening another practice in Louisville, the Court created hypothetical disclosures that Bower’s might have made and then explained how they might be detrimental to her in this case, acknowledging them to be “scenarios.”  2013 WL 5763173, *5.  Still, these hypothetical scenarios were enough to disqualify M&L.
      Judge Griffin filed a dissent to the majority’s determination that a conflict existed and that M&L should have been disqualified.  Beginning from the rule that motions to disqualify are viewed with disfavor, she would have found there to be no conflict as there was no “substantial relationship” to the earlier matters.  As to the earlier partner expulsion, the discussions were between all of the partners and M&L as its counsel.  On that basis she found there to be no possibility of confidential communications between Bowers and M&L.  2013 WL 5763137, *7.  As for opening a Louisville practice, those plans were disclosed to the partnership’s other partners and never materialized.  Judge Griffin was unable to see those earlier efforts as being substantially related to defending the partnership against Bower’s discrimination claims, characterizing the majority opinion as “rife with speculative scenarios.”

Friday, December 6, 2013

Nevada Supreme Court Addresses Member Status Upon Failure to Make Contribution to LLC

Nevada Supreme Court Addresses Member Status
Upon Failure to Make Contribution to LLC

      Recently the Nevada Supreme court addressed the question of whether a member of an LLC who failed to make an initial capital contribution was or was not a member.  Kaufman v. HLK, LLC, 2013 WL 5230797 (Nov. Sept. 12, 2013).
      Kaufman and Hawley formed HLK, LLC.  Kaufman’s initial capital contribution, to the extent paid, came from Hawley.  Ultimately the trial court “concluded that Kaufman lacked an ownership interest in HLK.”  This appeal followed.
      The Nevada Supreme Court came down on Kaufman’s side.  Under the Nevada LLC Act a capital contribution may be in the form of a promise to contribute, and a failure to do so creates a claim in favor of the LLC against the defaulting member.  N.R.S. § 86.391.  The statute did not define a consequence of a failure to perform as being a forfeiture of the membership interest.
      HLK, LLC was being dissolved, so the outstanding question was what was Kaufman’s sharing ratio in the net proceeds.  If his membership interest was forfeited his ratio would have been 0%.  The Court rejected forfeiture.  The operating agreement defined Kaufman’s interest, and he was entitled to that portion of the net proceeds after satisfaction therefrom of the outstanding liability.
      The Kentucky LLC Act is in this respect similar to that of Nevada, allowing a contribution in the form of a commitment to contribute (KRS § 275.195(2)) and providing that the LLC’s remedy for a failure to contribute is a claim in damages for cash.  KRS § 275.200(3).
      It bears noting that good drafting can avoid this problem.  An operating agreement may obligate a signatory to make a contribution (see KRS § 275.200(1)) and may provide any of a variety of consequences for the failure to perform including that he or she is not a member until the contribution is made or for forfeiture of the interest upon default.  See KRS § 275.003(2).

Rules of Professional Conduct and Employment-at-Will

Sixth Circuit Court of Appeals Hold That Requirement That Attorney Violate Ethical Rules Does Not Constitute an Exception to the Rule of At-Will Employment

      A recent decision out of the Sixth Circuit Court of Appeals held, inter alia, that an assertion by an attorney that he was fired for his refusal to violate what he understands to be his ethical obligations under the Kentucky Rules of Professional Conduct will not constitute an exception to Kentucky’s rule of employment-at-will.  Gadlage v. Winters & Yonker, Attorneys at Law, PSC, ___ Fed. Appx. ___, 2013 WL 5749547 (6th Cir. Oct. 24, 2013).
      Anthony Gadlage, an attorney, was dismissed from his employment by the Winters & Yonkers firm (W&Y) alleging due to his refusal to refer clients to the “Ask Gary” medical service providers.  In his wrongful discharge suit, he asserted that the rules applicable to Kentucky attorneys fall within the scope of the “public policy” exception to Kentucky’s general applicable rule of employment-at-will.  Gadlage also asked the Federal District Court to certify to the Kentucky Supreme Court the question of whether “a violation of the Kentucky Supreme Court Rules can form the basis of a wrongful discharge claim as a ‘public policy’ exemption to the employment-at-will doctrine.”  
      The trial court upheld W&Y’s motion to dismiss for failure to state a claim on which relief can be granted.  On a motion for reconsideration, the District Court refused to certify the question believing it had already been sufficiently addressed by the Kentucky Supreme Court. 
      Curiously, while the Sixth Circuit acknowledged that Greissman v. Rawlings & Associates, No. 12-CI-00744 (Oldham Cr. Ct. Apr. 8, 2013) and Isaacs & Isaacs, PSC v. Rigor, No. 05-CI-7688 (Jefferson Cir. Ct. Oct. 18, 2010) both held, inter alia, that the Rules of Professional Conduct may support a public policy exception to the rule of at-will employment, the Court of Appeals retreated from the question, upholding the dismissal on what is effectively an insufficient pleading standard, namely:
Even if obligatory Supreme Court Rules can ground a public-policy exception to the at-will doctrine, Gadlage does not allege a singular particularized Rule violation in his complaint or in his appellate briefing.  He relies instead on vague and generalized statements about third-party conflicts of interests and obligations to clients.  Gadlage has thus failed to state a claim that is “plausible on its face.”
      A dissenting opinion by Judge White would have referred to the Kentucky Supreme Court the question Gadlage sought to be certified and she would also have found that the pleadings were sufficient to avoid dismissal.

      With due respect to the majority, I found this decision to be quite unsatisfactory.  The Kentucky Supreme Court alone has the final voice on the interpretation and application of the Rules of Professional Conduct.  The Sixth Circuit’s affirmance of the trial court’s refusal to certify the question, not wanting to “trouble” the Kentucky Supreme Court, is without justification.  In fact, not “troubling” the Supreme Court with this question has created uncertainty as this decision and those in the Greissman and Isaac cases are in conflict; a certification would have provided a clear opportunity for its resolution.

Tuesday, November 26, 2013

An LLC and Its Solitary Member Are Not Legally Interchangeable

An LLC and Its Solitary Member Are Not Legally Interchangeable
      A recent decision of the Kentucky Supreme Court provides important guidance with respect to a number of issues, including the absolute legal distinction between an LLC and its members, even a sole member, and an unwillingness by the Court to permit members to at a whim ignore the legal reality of the LLC through insider reverse piercing.  Turner v. Andrew, ___ S.W.3d ___, 2013 WL 6134372 (Ky. Nov. 21, 2013).
       Andrew operated a trucking business under the name “Billy Andrew, Jr. Trucking, LLC” even as the individual trucks were in his own name.  One of those trucks was damaged in a collision with a truck belonging to M&W Milling Co., Inc.  Andrew then brought suit against M&W for both the damage to the truck as well as the lost profits suffered as a consequence of the truck being out of service.  Notably, the LLC through which the trucking business was operated was not a party to the action.  Thereafter, Andrew seems to have ignored the case, missing numerous discovery deadlines and even, apparently, ignoring a court order compelling him to produce documents.  Ultimately, the trial court entered an order in limine excluding from evidence any claim for property damages in excess of the amount estimated by M&W’s expert and as well granted M&W judgment on the pleadings with respect to the claim for lost business profits, that on the grounds that any lost profits were suffered by the LLC, a stranger to the action.
      The Court of Appeals reversed that determination, “concluding that Andrew could properly pursue the lost business claim in his own name because he is the sole owner of the LLC.”  2013 WL 6134372, *2.  The Kentucky Supreme Court would ultimately and resoundingly reject that suggestion.
       The Supreme Court began by reciting the law that a limited liability company is a legal entity distinct from its members, citing therefore KRS § 275.010(2).  Noting that:
The Court of Appeals reasoned that because Andrew was the sole owner of the business he was necessarily the real party in interest, a status that allowed him to properly advance the lost profits claim in his own name rather than in the name of the LLC.  2013 WL 6134372, *3.

the Supreme Court stated that this position was long ago rejected in Miller v. Paducah Airport Corp., 551 S.W.2d 241 (Ky. 1977).  From there the Supreme Court wrote:

The LLC and its solitary member, Andrew, are not legally interchangeable.  Moreover, an LLC is not a legal coat than one slips on to protect the owner from liability but then discards or ignores altogether when it is time to pursue a damage claim.

       The Court went on to then discuss the notion of piercing the veil, noting that traditional piercing is not here available, and likewise this does not constitute a “outsider reverse” piercing instance.  Rather, this is in effect an “insider reverse” pierce, i.e., Andrew sought to claim for himself the personal benefit of a company asset.  The Court as well noted that there exists a question as to whether Kentucky will recognize insider reverse piercing, but not making a ruling one way of the other.  What is clear is that in this case an insider reverse pierce was not allowed. 
       Separately, the trial court’s dismissal of the action for discovery abuse was reversed on the grounds that the court had not made findings of fact and conclusions of law with respect thereto.   For that reason, the case was remanded for consideration of those issues.

       My quibble with this decision is that it failed to cite the statute that most directly addresses the point in contention.  The Court properly cited KRS § 275.010(2) for the rule that the LLC is a legal entity distinct from its members, a statute that does support the Court’s reasoning.  Still, it could (and should) have as well cited KRS § 275.240(1), it providing that the assets of the LLC are not the assets of its members.  In that it was the LLC that had lost the profits, and not the member thereof, this statute clearly supports the determination that the claim for lost profits belonged to the LLC and not it's member.

Monday, November 25, 2013

Kentucky Supreme Court Identifies the Beneficiary of a Board’s Fiduciary Obligations

Kentucky Supreme Court Identifies the Beneficiary of a Board’s Fiduciary Obligations

      Last Thursday, the Kentucky Supreme Court issued its long-awaited decision in Ballard v. 1400 Willow Council of Co-Owners, Inc., a dispute that in part revolves around fiduciary duties among the members of the board of directors, the board of directors as a collegial body and the members of a nonprofit corporation.  In that the statute defining the fiduciary obligations of the directors of a nonprofit corporation (KRS § 273.315) uses the same formula as that utilized in the Kentucky Business Corporation Act (KRS § 271B.8-300(1)), this decision has application across both forms of business organization.  Ballard v. 1440 Willow Council of Co-Owners, Inc., 2010-SC-000533-DC (Ky. Nov. 21, 2013). 
      Ballard was the owner of a condominium in the 1400 Willow building.  Consequent to certain problems with exterior masonry, agreed by all to be a common element, the window frames in her condo began to rot out.  There was a dispute as to whether or not the rotting was of such a degree that there was a risk of the glass falling; the condominium board believed there to be an eminent risk, while Ballard’s consultant thought there to not be a problem.  During the pendency of a complaint for declaratory relief, workers employed by the condominium association (a/k/a the “Council”) entered the condominium and replaced the windows at a total cost of $65,000.  The Council as well filed a lis pendens on the title to the condominium as security for the amount it had expended.  Slip op. at 3.  Thereafter Ballard amended her complaint to claim damages for breach of contract, breach of fiduciary duty, promissory estoppel and punitive damages.  Some two years later she would again amend her complaint to assert that the lis pendens filed by the Council as well as a similar document filed with the Jefferson County Clerk constituted slander of title.
      At a trial that took place in September, 2007, the jury determined that the windows did need to be replaced and that the need for replacement was caused by the masonry problem.  The jury also found that (a) the Council failed to exercise “good faith and loyalty” to the condo owners including Ballard, (b) that she should be made whole on $54,000 of condo fees paid, and (c) that the lis pendens was a knowing and malicious false statement as to the title of her condo for which $75,000 would compensate her.  The jury declined to award punitive damages.
      The jury’s decision was appealed to the Court of Appeals, which reversed and remanded for a new trial.  The Supreme Court then granted discretionary review.

       Before going to what I find interesting in this decision, namely the discussion of fiduciary duties and contract law, it should be noted that this decision has important points on real property law.  First, the Supreme Court held that the statute of limitations on a claim of slander of title would be five years (KRS § 413.120) and in so doing reversed a prior decision holding it to be one year.  See slip op. at 11.  Turning to the actuality (or not) of the slander of title claim, while the Court reviewed a good deal of foreign law holding that the filing of a lis pendens has an absolute privilege, it ultimately held that the filing of a lis pendens has only a qualified privilege.  Slip op. at 16.  From there, in reliance upon the jury’s determination that the lis pendens was “false and knowingly and maliciously made,” the Court held that the qualified privilege was not available to the Council.
      The broader issue addressed by the Court is the nature of fiduciary duties, specifically who owes them and to whom they are owed.  While Ballard’s theory of the case appears to have changed over time, she ultimately asserted not a derivative action on the corporation’s behalf charging the directors with a breach of duty owed the entity but rather “she sued the [Council] as an entity for breach of its contractual obligations and common law fiduciary duties to her, individually.”  Slip op. at 20.  That attempted parsing of her claim ultimately failed as she relied upon a non-existent fiduciary duty.
[W]e cannot say that the Council had a fiduciary duty to the individual owners.  Ballard has not cited any Kentucky authority which provides that a nonprofit corporation has a fiduciary duty.  Rather, we believe it is the officers and directors that have a fiduciary duty, and that duty is to the nonprofit corporation.  See KRS 273.215.
Slip op. at 20.
      The Court continued its analysis of the point, making express that the duty is to the entity and not the individual members:
[T]he directors in this case only owed a fiduciary duty to the corporation.  Specifically, KRS 273.215 provides that a director shall discharge his duties “(a) In good faith; (b) On an informed basis; and (c) In a manner he honestly believes to be in the best interests of the corporation.”  (Emphasis added).  As correctly noted by the Court of Appeals, this is a reasonable interpretation because the co-owners in this case could have competing agendas, which may not be in the best interests of the Council.  Thus, the board of directors had a fiduciary duty to the Council as a whole and not to the individual unit owners, such as Ballard.

Slip op. at 21.  On that basis the jury’s award of $54,000 for breach of fiduciary duty was for breach of a non-existent duty, the Court of Appeal’s reversal thereof was upheld.

      Justice Noble, joined by Justice Scott, dissented as to the reversal of the finding of a breach of fiduciary duty.  Essentially, Justice Noble argued that the jury’s determination that the Council filed to “exercise good faith and loyalty” (slip op. at 27) equated to a breach of fiduciary duty.  The problem with this assessment was identified (but apparently not recognized) by Justice Noble when she noted the source of Ballard’s rights as a condo owner as to her particular unit, namely the “contractual rights and expectations” set forth in her deed and the Master Deed.  The failure was in not recognizing that contractual obligations are not fiduciary obligations, and that the obligation of “good faith and fair dealing” is contractual in nature.  See slip op. at 31 (“thus violating the general fiduciary duty – that ‘of good faith and fair dealing’ – contained in all contracts.”).
      Fortunately the majority opinion addressed this point, recognizing that “we cannot say that the jury’s find of a breach of fiduciary duty is equivalent to a finding of failing to act in good faith” (slip op. at 22), thereby properly separating the status-based gap filler that is the law of fiduciary duties from the contractual interpretation principle that is good faith and fair dealing.

Pillars of the Earth & the Sinking of the White Ship

Pillars of the Earth & the Sinking of the White Ship

            Pillars of the Earth is in my view an excellent book both for its description of events “from the ground level” of the period of English history known as the Anarchy as well as its treatment of medieval as people just like those of the modern era who are just trying as best they can to make it through each day.
            The fulcrum of the macro-political events described in the book is the Anarchy, the contest between Matilda, daughter of King Henry I (and former spouse of the Holy Roman Emperor, hence her title “Empress,), and Stephen of Blois, Henry’s nephew (just to keep things confusing Stephen’s wife was named Matilda).  The expected heir to Henry I was his son William.  William, however, drowned on this day in 1120 in the sinking of the White Ship, thereby affording Follett the pivot around which to write Pillars of the Earth.

Wednesday, November 20, 2013

North Carolina Supreme Court Addresses Nature of Piercing the Veil

North Carolina Supreme Court Addresses Nature of Piercing the Veil

      A recent decision from the Supreme Court of North Carolina is notable in every jurisdiction for the clear guidance it has provided with respect to piercing the veil.  Green v. Freeman, No. 424A12 (N.C. Nov. 8, 2013).
      Most of this decision is spent addressing whether or not there existed a valid evidentiary basis for holding a particular individual liable for an alleged breach of fiduciary duty.  Ultimately, the Court found that evidence to be lacking.  In the course thereof, the Court also set aside an earlier determination to pierce the veil in order to hold that individual liable for the alleged breach.  In this case, the Court noted that, even where the elements of piercing itself, mainly domination and control, are established, the task is only half done.  “There must also be an underlying legal claim to which liability may attach.”  As such:
The doctrine of piercing the corporate veil is not a theory of liability.  Rather, it provides an avenue to pursue legal claims against corporate officers or directors who would otherwise be shielded by the corporate form.
      This is important guidance that apparently must be oft repeated.  Piercing the veil is not a legal theory of liability, but rather a remedy.  If and only if the plaintiff has a claim against the legal organization that is not satisfied from corporate assets does piercing become an issue.  Like negligence in the air resulting in no injury to anyone giving rise to a claim, domination and control of a corporation is of itself not actionable unless and until, on some other basis, a plaintiff is both injured and unable to recover.

When Does a Transaction Involve “Commerce” Implicating the Federal Arbitration Act

Kentucky Court of Appeals Addresses When a Transaction Involves
“Commerce” Implicating the Federal Arbitration Act

      In a recent decision, the Kentucky Court of Appeals addressed the question of when a particular transaction involves “commerce” such that the Federal Arbitration Act, rather than the Kentucky Arbitration Act, is controlling.  This question can be crucial in that the Kentucky Arbitration Act is far more restrictive than the Federal Arbitration Act, enforcing arbitration agreements only if they provide that the arbitration will take place within the Commonwealth of Kentucky.  If the agreement is governed by the federal law there is no such limitation.  Nissan v. Hurt, 2013 WL 5592372 (Ky. App.  Oct. 11, 2013) (Not To Be Published)
      The Hurts contracted to purchase a vehicle from Nissan.  Thereafter, they sought to void the contract on the basis that Nissan had falsified the credit application associated therewith.  In turn, Nissan moved that the trial court compel arbitration pursuant to an arbitration clause contained in the agreement between Hurt and Nissan.  The trial court denied that motion on the basis that the arbitration clause at issue did not require arbitration in Kentucky as required by Ally Cat, LLC v. Chauvin, 724 S.W.3d 451, 455 (Ky. 2009).  Essentially, it was held that “the transaction did not involve interstate commerce so as to bring it within the purview of the Federal Arbitration Act.”  Nissan appealed that determination. 
      An agreement to arbitrate will be enforced under the Federal Arbitration Act when the contract at issue “evidenc[es] a transaction involving commerce.”  9 U.S.C. § 2.  In turn, “commerce” is defined as “commerce among several States.”  9 U.S.C. § 1.  The Court of Appeals also referenced certain ruling of the United States Supreme Court indicating that the “involving commerce” component of the Federal Arbitration Act is “functionally equivalent” to the “affecting commerce” term used with respect to the powers afforded Congress under the Commerce Clause.
      Applying these principles, the Court of Appeals found that the transaction between Hurt and Nissan involved interstate commerce.  While it was “a transaction between a Kentucky resident and a Kentucky business concerning a vehicle located in Kentucky,” it also involved interstate commerce in that the vehicle had been transported between various states and the credit application had been submitted to an out-of-state processing facility.  Further, that credit application specified that it would place the transaction with GMAC in either New Mexico or Michigan or a GMAC affiliate in Arizona. 
       It will be interesting to see what are ultimately determined to be the outer limits of “involving commerce” and thereby preserving the application of the Kentucky Arbitration Act.  For example, if this transaction had not involved an out-of-state lender, would the mere fact that the vehicle had moved across state lines be sufficient?

Tuesday, November 5, 2013

The Supreme Court and the Contraceptive Mandate

The Supreme Court and the Contraceptive Mandate

     As matters stand, the Hobby Lobby and Gilardi courts have held that either the corporation or the shareholders thereof have standing to object to the contraceptive mandate aspects of the PPACA while the Autocam, Eden Foods and Conestoga Woods courts have all found that both the shareholders and the corporation lacked standing to assert the mandate violates the Free Exercise clause and the RFRA.
       Following is a copy of a posting from today's SCOTUS Blog discussing the mandate cases, the question of which cases the Supreme Court will take and when it might rule:

Posted: 04 Nov 2013 05:20 PM PST
With lawyers in different cases arguing that theirs is the best one for the Supreme Court to use in deciding the legality of the birth-control mandate in the new federal health care law, the Court on Monday indicated that it will examine all four pending cases together later this month. The Court’s electronic docket said the four will be considered on November 26. If any are granted then or soon afterward, the Court probably would hear and decide them in the current Term.

The federal government has one of the three petitions, and ordinarily it can expect to get its pleas heard. But the government’s case has been challenged by other lawyers as too narrow in scope, and that has led government lawyers in reply to promise to make theirs broader if it is the one chosen.

The Affordable Care Act’s contraceptive mandate requires employers with fifty or more employees to provide health care coverage that includes birth-control methods and devices, pregnancy screening, and other reproductive health services. At this point, three of the pending cases involve only challenges to that by profit-making business firms with owners who are religiously devout, and the fourth is a challenge by a religiously affiliated university.

At least one of the cases has a strong likelihood of being heard by the Justices, because the federal appeals courts have reached conflicting rulings on the mandate, and two of those courts have indicated that the mandate cannot survive the legal challenges by the business itself, or by its owners as individuals.

To illustrate the conflicts:

The Tenth Circuit Court, in the case that the Justice Department has appealed in the case of a retail crafts store chain, ruled that the mandate’s required coverage of birth-control drugs is likely to be struck down as it applied to the corporation itself; it did not rule on whether the owners themselves could pursue a similar religion-based challenge. The petition in that case is Sebelius v. Hobby Lobby (docket 13-354). (The D.C. Circuit Court, in a decision last week that has not yet been taken to the Supreme Court, ruled that the corporation was not protected from the mandate, but that the owners were as individuals.)

The Third Circuit Court, in a case appealed to the Court by a Pennsylvania cabinet-making company and its owners, disagreed directly with the Tenth Circuit, and ruled that a corporation has no religious rights of its own, and it also refused to allow the individual owners to object on their own. The petition in that case is Conestoga Wood Specialties Corp. v. Sebelius (docket 13-356).

The Sixth Circuit Court, in a case involving two related Michigan companies that make precision instruments for use in auto manufacturing and in medical practice, ruled that a corporation cannot exercise religion and thus cannot make a challenge for itself, and it also barred the religious owners from pursuing their own complaint, finding that the mandate only applies to the company. The petition in that case is Autocam Corp. v. Sebelius (docket 13-482).

The fourth case in the group now at the Court is Liberty University v. Lew (docket 13-306). That case involves challenges not only to the birth-control mandate, but also to the individual insurance mandate and the employer insurance mandate. The Fourth Circuit Court did not rule on the complaint about the birth-control provision, saying that the company was late in raising that issue; however, it rejected the other challenges. (In 2012, the Supreme Court upheld the tax penalty that is used to enforce the individual mandate, but did not rule on the employer mandate.)

The Justice Department rushed to the Court its responses to the Conestoga, Autocam, and Liberty University petitions to assist the Court in taking them up together, and it urged the Court either to deny review, or to hold the other cases until after it ruled on the government’s Hobby Lobby petition.

Lawyers in the other cases, however, have argued that the Hobby Lobby case only involves the question of a business firm’s right to pursue a challenge to the mandate, and does not address whether the individual owners could do so for themselves. Thus, the attorneys contend, that is not the best case for review.

The Justice Department, however, has countered that some members of the Tenth Circuit Court did address that separate question when their court ruled, that Hobby Lobby’s lawyers will be raising the issue in their defense of the Tenth Circuit ruling, and that, if the government petition is selected, it will confront that issue in the written briefs it would file in that case.

The government’s case asks the Court to rule only on whether the birth-control mandate violates a federal law, the Religious Freedom Restoration Act. However, the Conestoga petition also urged the Court to rule on whether it violates the First Amendment’s protection of the “free exercise” of religion, as well as violating RFRA.
The Justice Department argued that the constitutional issue has been ruled upon only by the Third Circuit in the Conestoga case, and the issue has thus not produced a conflict among the appeals courts. The Court, the Department contended, should not step in to decide that issue.

Proposed Charging Order Rejected for Including Right to Participate in LLC’s Management

Proposed Charging Order Rejected for Including
Right to Participate in LLC’s Management


       A recent decision from the Court of Civil Appeals of Oklahoma has affirmed the rule that while a charging order may properly reach a member’s economic (interim and liquidating distribution) rights in an LLC, it does not extend to giving the judgment-creditor a voice in the LLC’s management for control over the judgment-debtor’s voting rights therein.  Southlake Equipment Company, Inc. v. Henson Gravel & Sand, LLC, __ P.3d __, 2013 WL 5657702 (Okla. Civ. App. Div. 4 Sept. 6, 2013).
      An agreed judgment in the amount of $40,840.19 plus attorneys’ fees and costs was entered against Henson Gravel & Sand, LLC and Melvin D. Henson, Jr., that judgment in favor of Southlake Equipment Company, Inc.  That Texas judgment was then domesticated in Oklahoma and Southlake filed an application for a “writ of special execution” pursuant to which Henson’s 24% interest in Econtuchka Erosion Control, LLC (“EEC”) would be assigned to Southlake.  The trial court granted that request, and Henson appealed.
      The Court of Appeals reviewed Oklahoma’s charging order statute as set forth in its LLC Act, noting that it is limited in application to a member’s economic rights in an LLC and does not extend to the voting rights.  It bears noting that while this statute contains the usual recitation that the holder of the charging order has only the rights of an assignee of the membership interest, the Oklahoma statute goes on to provide:
A charging order entered by a court pursuant to this section shall in no event be convertible into a membership interest through foreclosure or other action.
      The Court ultimately determined that, while the charging order could be properly issued with respect to Henson’s right to the economic fruits of EEC, it could not extend to the right to participate in management.  Rather:
In the present case, the trial court charged Debtor to transfer his entire membership interest, both economic and voting, to Southlake in partial satisfaction of the judgment.  This charge clearly conflicts with the plain meaning of § 2034 and was therefore in error.  The trial court may only charge Debtor to assign the share of the profits and surplus that flow from his membership interest in his Units in EEC until the judgment has been satisfied.

Friday, October 25, 2013

Court of Appeals New Opinion in Ziegler v. Knock is a Confused Mix of Partnership and LLC Law, Fiduciary and Contract Law

      In October, 2012,  the Court of Appeals issued its opinion in Ziegler v. Knock, affirming the trial court’s determination that there had been a breach of duty in accepting a secret commission but dismissing the action based upon a choice of venue provision in the subject agreements.  Ziegler v. Knock, No. 2008-CA-002160-MR, 2012 WL 5273999 (Ky. App. Oct. 26, 2012).  By its determination of improper venue the Court’s decision as to breach of fiduciary duty was rendered dicta.  That decision was reviewed here in Decision of Trial Court Reversed, Inter Alia, For Lack of Jurisdiction (posted Nov. 19, 2012).
      Presumably on a motion for reconsideration, the Court of Appeals issued a new decision in this case.  See Ziegler v Knock, No. 2008-CA-002160-MR (Jan. 18, 2013).  Like the prior holding it is designated “Not to be Published.”  On October 16, 2013, the Kentucky Supreme Court denied discretionary review.  The petition for discretionary review was restricted to the proper venue question.  That being the case I held off on a substantive review of the decision.  Ultimately it has serious issues.
      In this decision, on the basis that the question of venue had not been raised in a timely manner, the Court of Appeals determined that Ziegler had waived that defense.  Ergo, the Court of Appeal’s affirmance of the trial court’s ruling stands, and the matter would not be re-litigated in Ohio.
      Which brings us back to the primary point, namely Ziegler’s breach of duty.  The contract between Ziegler and Knock contained a warranty that Ziegler was not to receive a direct or indirect commission on the acquisition of the property to be acquired by TZG III, LLC, the acquisition vehicle formed by Zigler and Knock.  In fact, Ziegler received a $72,000 commission on the sale.
      While the ultimate determination that Ziegler’s conduct was improper is without question correct (at this point I’m not considering the effect of the release signed by Knock and Ziegler), the analysis applied by the Court of Appeals mixes concepts that are and should be distinct from one another.  Ergo, it might be a case of right answer, wrong reason.

      First is the issue of structure and the beneficiaries of fiduciary duties.  David and Richard Knock were the members of Knock Investments, LLC.  Ziegler Group, LLC appears to have been wholly-owned by Michael Ziegler.  Knock Investments, LLC and Ziegler Group, LLC in turn formed and were the members in TZG III, LLC; that LLC was the actual purchaser of the strip mall.  The agreement to form TZG III, LLC was labeled a “Membership Interest Purchase Agreement,” and it was in that document Ziegler represented he was not receiving a commission.
      One point of contention was whether the Knocks could individually be plaintiffs, or whether only Knock Investments, LLC had standing.  The Knocks were not individually parties to the Membership Interest Purchase Agreement.  Still the trial court allowed them to proceed individually, a decision not set aside by the Court of Appeals in either of its decisions.
      The problem with this conclusion is that it is manifestly erroneous.  The rights and claims of an LLC are not the property of its members.  See, e.g., KRS § 275.010(2) (LLC is a legal entity distinct from its member); id. § 275.250 (interest in an LLC is personal property); id. § 275.240(1) (property of LLC is that of the LLC and not of the members); Chou v. Chilton, Nos. 2009-CA-002198-MR, 2009-CA-002284-MR, 2012 WL 6526184 (Ky. App. Nov. 16, 2012) (individual member of LLC could not in his own name bring claim for breach of fiduciary duties owed to the LLC); R.C. Tway Co. v. High Tech Performance Trailers, LLC, 2013 WL 842577 (W.D. Ky. Mar. 6, 2013) (claim for misappropriation of company assets belongs to the LLC); Bobbitt v. Russellville Mobile Park, LLC, No. 2007-CA-00684-DG (Ky. App. Sept. 12, 2008, modified Oct. 17, 2008) (member of LLC, seeking to represent the LLC in court proceeding, engaged in unauthorized practice of law; member was not an attorney and the interests of the LLC were not those of the member). 

      Knock Investments, LLC, being a party to the Membership Interest Purchase Agreement, had standing to object to its breach.  The Knocks, not being parties to that agreement and absent other facts (e.g., intended third-party beneficiaries) not set forth in the opinion, had no standing.
      Turning to the substance of the dispute, Ziegler represented that he was not earning a commission on the sale of the property.  In fact he did receive a commission, and the court properly held him to account for his breach of that covenant.  The problem is in the muddled manner in which it did so.
      In explaining Ziegler’s liability for accepting the commission the Court wrote:
… because Knock Investments, LLC is a closely held entity owned by the Knocks individually, and because the Knocks were asserting claims of fraud and misrepresentation in their individual capacities rather than through the corporate entity, they had standing to assert their individual interests as members of the limited liability corporation. Ziegler and TZG have cited no statutory law or case law in support of their assertion that this conclusion was erroneous. The trial court's rulings are presumptively correct, and the burden rests with the appellants to demonstrate error. Boggs v. Burton, 547 S.W.2d 786 (Ky. App. 1977).

… The trial court determined that if Ziegler had not breached his fiduciary and contractual duty to forgo a commission, the purchase price of Park Plaza could have been lowered. In the alternative, the court determined that at the very least, the Knocks were entitled to a percentile share of the commission which they could have reinvested in the project or disposed of in some other manner. The basis of the court's conclusion on this issue is that as partners with mutual fiduciary duties, the Knocks and Ziegler were vested with the right to reap the benefits of their joint venture commensurate with their percentile ownership interest. Since Ziegler secretly received a 2% commission, the court concluded that equity demanded that the Knocks also benefit from that commission commensurate with their percentile ownership interest in the venture. The court awarded to the Knocks a 74% interest in the commission based on their 74% interest in the project. Since the relationship of partners imposes upon each the obligation of good faith and fairness with respect to partnership affairs, Betts v. Smither, 310 Ky. 402, 220 S.W.2d 989 (Ky. App. 1949), and since Ziegler unduly benefitted from his acceptance of a commission in violation of his fiduciary duty and the Membership Interest Purchase Agreement, we find no error in the court’s determination that the Knocks are entitled to a pro rata share of the commission.

      The Court, in these few sentences, mixed a significant number of concepts.
      First, even between those who stand in a fiduciary relationship with one another, is a breach of a contractual obligation a breach of fiduciary duty?  Assume that the receipt of a secret commission is a breach of fiduciary duty.  As was here the case that limitation was reduced to a contractual obligation.  There is then a breach of the obligation.  Does there now arise a decision for breach of fiduciary duty, breach of contract, or both?  The Court seemed to assume both, but it is not obvious that is correct.  Fiduciary duties are gap-fillers.  Conceptually, where the express contract addresses the point, there is no gap to be addressed by fiduciary obligation? 
      Second, what was the source of the alleged fiduciary duty?  The covenant was that Ziegler, and not Ziegler Group, LLC, was not receiving a commission.  Was Ziegler a member in a member-managed LLC or a manager of a manager-managed LLC?  The opinion does not say.  On the basis that the Ziegler Group, LLC was wholly-owned by Ziegler, is he being held responsible for discharge of the LLC’s fiduciary obligations?  The opinion does not say.   Did the operating agreement identify Ziegler as a fiduciary?  The opinion does not say.  Has USACafes been adopted as Kentucky law?  Essentially we are told that Ziegler violated a fiduciary duty without being provided any direction as to the source of that duty.
       Third, where was the breach of fiduciary duty?  Even assuming Ziegler was a fiduciary and that he accepted the commission, it does not necessarily follow that there was a breach.  What fiduciary duty was violated?  Subject to “First” above I have no doubt there was a breach, but the Court needs to tell us what it was and why.
       Fourth, if this is a case about a breach of fiduciary duties rather than contractual duties, why did the court use a contract measure of damages, namely putting the Knocks back in the same position they would have been but for the breach?

       Fifth, and going back to the point above on standing, whey is the recovery to the individual Knocks rather than either the TZG III, LLC or to Knock Investments, LLC?  Chou v. Chilton and the statutory law make clear that injury to the LLC, in this instance TZG III, LLC (if there had been no commission to Ziegler then TZG III, LLC’s purchase price for the subject property would have been lower), is to be addressed for the account and benefit of the LLC.
       Sixth, from where came this reference to “partners”?  Members in an LLC are members and they owe the duties and enjoy the benefits of members as defined by the LLC Act.  Partners in a partnership are partners and they owe the duties and enjoy the benefits of partners as defined in the law of partnerships.  Partnership law, by its express terms, does not apply among the members in an LLC.  See KRS § 362.1-202(2).  Yes, in LLCs there exists an obligation of good faith and fair dealing, but that is a principle of contract law that is confirmed by the LLC Act.  See KRS § 275.002(7).  And as good faith and fair dealing is a principle of contract law (and not the law of fiduciary duty), it cannot be the basis for the fiduciary duty Ziegler violated.

      It is clear that Ziegler’s conduct was improper, but this decision does little to illuminate why or to provide guidance for the analysis of future disputes.
      Which brings us back to the question of the effect of the mutual release, an issue to which the existence of the fiduciary duty is crucial.  Assuming a third-party independent relationship, a mutual release will be binding upon each party, and each party, in entering into such an agreement, is bound and required to look out for its own interest.  Where, in contrast, one bound by a fiduciary relationship seeks a release from the beneficiary of that relationship, the release is effective if and only if the fiduciary has made full and complete disclosure to that beneficiary.  See, e.g., Restatement of (Third) of Agency § 8.05.   Ziegler sought to avoid liability in this dispute by refereeing a mutual release that had been entered into.  Knock sought to avoid the application of that release on the basis that Ziegler was a fiduciary.  While the court may, ultimately, have been normatively correct in setting aside the release on the basis that Ziegler owed a fiduciary duty, its analysis was so muddled that little can be taken away from it.  For example, if Ziegler owed a fiduciary relationship, had that situation so broken down by the time that the mutual release was entered into that Knock had no right to expect Ziegler to be acting in a fiduciary, as contrasted with an arms-length independent, role?  Such determinations matter.  They were, however, ignored in this decision.