North Carolina Court Considers Authority to Hire Legal Counsel on Behalf of LLC and Grounds for Judicial Dissolution

North Carolina Court Considers Authority to Hire Legal Counsel on Behalf of LLC and Grounds for Judicial Dissolution

 

In a recent decision from North Carolina, the court considered the question of who has authority, when one member brings a suit against the LLC, to hire legal counsel on behalf of that LLC. The court addressed as well the standard for judicial dissolution of an LLC, a decision which has application in Kentucky due to the similarity of the statutory formulae.  Battles v. Bywater, LLC, 2014 NCBC 52, 2014 WL 5512304 (October 31, 2014).

 

Battles and Rogers, each individuals, formed two North Carolina LLCs, Bywater and Agiqua.  Battles and Roger were each 50% owners in each LLC; they were also managers of each LLC. Eventually their relationship would break down, it being asserted that Rogers inappropriately disengaged from management after an automobile accident.  At least Bywater had been represented by the Hart Law group (“Hart”), and Rogers consulted with Heart as to how to protect the LLC from, what Battles alleged, was Rogers’ inappropriate conduct.  Battles began moving the bank account of Bywater among various banks at which Rogers did not have signature authority.  Invariably the accounts were frozen when the banks were made aware of the dispute, and they were again moved.  Eventually the account came to rest at a bank at which both Battles and Rogers had signature authority.

 

Rogers retained Asheville Law group (“Asheville”) to represent him versus Battles as to Bywater.  Battles filed suit seeking, among other claims, the judicial dissolution of each LLC.  Rogers then terminated Asheville as his personal counsel and retained it on behalf of the two LLCs, Bywater and Agiqua, against Battles.  Rogers then sought to effect Battles’ expulsion from Bywater on the grounds that Battles’ movement of the Bywater bank accounts justified his expulsion.

 

Battles moved to disqualify Asheville as counsel to the LLCs on the grounds that Rogers, as a 50% member and one of two managers of each of the LLCs, did not constitute a “majority” enabled to act. Rogers responded that Bywater had a written operating agreement pursuant to which Battles was expelled, leaving at a single-member LLC. As to Agiqua, Rogers asserted that the default rules of the LLC act permitted him to act unilaterally, and that absent agreement of a majority of the managers his action is binding.

 

After finding the Bywater’s operating agreement was effective even though never “signed,” the Court bypassed the question of Battles’ expulsion by noting that it was some 10 days after Asheville was hired. Hence, as of that date, Bywater could not have been a single-member LLC. Further, the Court found that Battles’ alleged actions did not satisfy the “stringent requirements for expulsion under the Agreement.”

 

Addressing then the specific authority (or the absence thereof) to retain Asheville, retention that would generate a fee of some $85,000, the Court concluded that this retention was in opposition to Rogers’ authority under the operating agreement.  Specifically, the retention was “other than in the ordinary course of business” and it created “an actual … conflict of interest between a member and the company[.]” In that Rogers had retained Asheville without the “affirmative vote of members holding a majority of the ownership interests,” he acted outside of his authority.

 

Turning to Agiqua and looking to the default rules of the North Carolina LLC Act, and in reliance upon a number of other decisions, the Court found that Rogers did not have the unilateral authority, on behalf of the LLC, to retain counsel.   Is therein noted:

 

To conclude otherwise would leave open the possibility of two equal LLC members each designating competing counsel to represent the same LLC in the same legal action.

 

As such, the motion to disqualify Asheville on behalf of each of the LLCs was granted, and all of the pleadings they had submitted were ordered struck.

 

As to the question of judicial dissolution, the court noted that the North Carolina LLC act, as most recently amended, provides for dissolution if “it is not practicable to conduct the LLCs business in conformance with the operating agreement.”  N.C. Gen. Stat. § 57 D-6-02. Brushing aside the suggestion that mere deadlock amongst the members did not satisfy the statutory requirement on the basis that the prior statute referred to deadlock and the current one does not, the Court held that:

 

It cannot be reasonably argued that continuation of the LLC’s operations is “practicable” where, as in the instant case, the two 50% member-managers are unable to reach agreement with respect to even the most basic management decisions.

 

The Court as well granted the request for a receiver.

 

With respect to the grant of judicial dissolution, the statute in North Carolina is very similar to that in Kentucky although while North Carolina uses a “practicable” standard Kentucky utilizes a “reasonably practicable” standard.  KRS § 275.290(1).  

 

As for the inability in a two member LLC where action requires majority approval and the authority to hire legal counsel when suit is brought, this decision is in no manner an outlier.  For example, and as cited in this decision, on similar facts the Delaware Chancery Court has held there to be no authority to hire counsel. Maitland v. International Registries, LLC, 2008 Del. Ch. Lexis 70 (Del. Ch. June 6, 2008). This problem can be avoided in a well-crafted operating agreement that specifically grants authority to retain counsel on behalf of the company if either of the members should initiate legal action against it.