Court of Appeals Addresses Expectancy Damages, Rejects Claim to Pierce the Veil

Court of Appeals Addresses Expectancy Damages, Rejects Claim to Pierce the Veil

      A recent decision of the Kentucky Court of Appeals addresses the standards required to award expectancy damages with respect to a breach of contract action while as well rejecting a suggestion that the veil of the corporate debtor should be pierced.  Stettenbenz v. Butch’s Rod Shop LLC, 2013 WL 4779862 (Ky. App.  Sept. 6, 2013).  This opinion has been designated as “Not To Be Published.” 

      Before beginning the review of this decision, it is important to note a factual mistake that appears several times in the decision.  In both the style of the case and in the first and seventh paragraphs thereof, Butch’s Rod Shop is described as being an “LLC.”  The entirety of the decision as written, however, is in terms of the law of business corporations.  In fact, upon a review of the records of the Secretary of State, it is clear that Butch’s Rod Shop is a business corporation, and that the correct name of the entity is Butch’s Rod Shop, Inc.  This discrepancy has been communicated to Judge Dixon, author of the opinion.

      Returning to the substance of the issue, Stettenbenz hired Butch’s Rod Shop to undertake the restoration of a 1966 Chevy Nova.  That restoration extended over a period of years with Stettenbenz making progress payments as work was completed.  Ultimately, it was estimated that the work would be completed for an additional $14,000, and Stettenbenz continued to make progress payments thereon.  Finally, upon being told that $6,100 would complete the work, Stettenbenz tendered a check for that amount.  Over a year later with the work still not completed, Stettenbenz was advised that Butch’s was in financial difficulty.  Stettenbenz removed the vehicle and remaining parts and as well received a refund check for the remaining parts that had not yet been ordered against the last tendered $6,100 check.  In September of that year, Stettenbenz filed suit against Butch’s Rod Shop and as well the Whitakers, its individual shareholders.  Thereafter, the Whitakers approved and filed with the Kentucky Secretary of State articles of dissolution of Butch’s Rod Shop, Inc.   Those articles of dissolution, although such was not required by the statute, recited “that no debt of the corporation remains unpaid.”  This statement, not required by KRS § 271B.14-030, would ultimately lead to questions that, had it not been said, would not have needed to be addressed.

      Stettenbenz also asserted that the corporate veil of Butch’s Rod Shop should be pierced and the Whitakers held individually liable for the damages they had suffered.

      At a bench trial, Stettenbenz brought in an expert witness who testified that the completion of the car would cost between $50,000 and $55,000, including $3,000-$8,000 required for the completion of the interior, work that had not been undertaken by Butch’s.  However, the trial court issued its decision awarding Stettenbenz $12,901.73, that being the difference between the $14,000 paid under the last agreement for completion of the car less the $1,198.27 that was refunded (the opinion is inconsistent as to whether the refund check was in the amount $1,198.27 or $1,198.22).   The Court rejected the claims for piercing the veil and for liability consequent to the statement in the articles of dissolution that all debts had been satisfied.  This appeal followed.

      With respect to the damages awarded, the Court noted the rule that damages must not be speculative.  At the same time, it cautioned that it did not be required that the plaintiff “provide exact calculations of its damages.”  On the basis of the expert testimony provided on behalf of Stettenbenz, at least $42,000 was necessary to complete the work that had been originally undertaken by Butch’s Rod Shop. 

Thus, we are of the opinion that at least $42,000 in damages was proven with reasonable certainty.  According, we reverse on this ground and remand for a determination on the issue of expectancy damages.

      All of which may be moot in that the corporation has been now long dissolved.  For that reason, Stettenbenz argued on appeal that the grounds for piercing the veil had been satisfied.  The Court of Appeals, however, disagreed.  Reciting the various elements of piercing as set forth by the Kentucky Supreme Court in its 2012 Inter-Tel Technologies decision, the Court found that the Whitakers control of their closely-held corporation and its day-to-day operations was itself “insufficient to justify imposing personal shareholder liability unless such control is calculated to defraud or harm the corporation’s creditors.”  To that end, the trial court had found that the corporation maintained its own bank accounts, paid its corporate taxes from that bank account, paid all of its employees a salary, leased the facility from which it located and filed its annual reports with the Secretary of State.  There was, in contrast, no showing that the business was purposely undercapitalized or any indication of utilization of corporate assets to pay personal debts.  Judge Thompson would dissent from this portion of the decision, stating his view that the elements for piercing had been satisfied.

      Last, Stettenbenz sought to impose liability based upon the Whitakers based upon the allegedly false statement (curiously identified as being an “affidavit”) set forth in the articles of dissolution filed with the Secretary of State to the effect that all corporate debts had been paid.  In connection therewith, Stettenbenz relied upon KRS § 271B.140-020, it setting forth the steps to be employed when corporation dissolution is approved by both the directors and the shareholders.  Reviewing this statute, the Court found it to be purely procedural in nature.  Further, to the extent that the statement in the articles of dissolution was inaccurate, that point should be addressed through whatever administrative remedies are available through the Secretary of State’s office.  The Court also rejected the notion that allowing dissolution with an outstanding claim should not be permitted as means of avoiding liability, noting that a dissolved corporation may still be sued and “[i]f any corporate assets exist, the judgment can be collected from them.”

The Last Viking Invasion of England

The Last Viking Invasion of England

      Today is the anniversary of the battle at Stamford Bridge in 1066, it ending, for all intents and purposes, the Viking invasions of England.  Beginning in the 8^th century, England had repeatedly suffered both Viking raids and invasions/migrations.  The great King Canute II was an aspect of this chain of events; he was himself Danish.

      Earlier in 1066, King Edward the Confessor died.  The crown was assumed by Harald Godwinson.  His dispute with William the Bastard of Normandy over whether Harald had previously agreed to surrender the crown to William would ultimately lead to the Battle of Hastings.  In the meantime, Harald Godwinson had to deal with an invasion from Norway led by another claimant to the throne, Norwegian King Harald Hardrada; Hardrada was supported in this invasion by Tostig Godwinson, Harald’s Godwinson brother.

      Two factors were crucial to the resolution of the battle.   First, the invading force was dispersed on both sides of the river.  Thus, when the English army attacked the Norse contingent on the south side of the river, they outnumbered their opponent.  Second, the intelligence of the Norse army failed; they did not realize the English army was already present and ready to launch an attack.  It being a warm day, the invading army had left much of their armor on board their ships.  Initially, the English forces largely massacred the Norse forces on the south side of the river.  They then proceeded to attack over the bridge, an effort that, in what was an apocryphal story, was delayed by a single Viking yielding an ax who single-handedly killed some forty soldiers before he was himself slain.  With the English having now crossed the bridge, the two armies again faced one another.  Ultimately, the Norse army would collapse consequent to its lack of armor and the deaths in battle of both Harald Hardrada and Tostig.  The few Normans who survived the battle entered into a truce with Harald agreeing to leave and never return.  While the invading fleet filled some 300 ships, the Norse survivors of the battle were able to return home in only 24 of them.

Court of Appeals Addresses Requirements for Enforcement of Choice of Venue

Court of Appeals Addresses Requirements for Enforcement of Choice of Venue

      In a recent decision of the Kentucky Court of Appeals, it returned to the trial court for further findings its determination to enforce a choice of venue provision in a written contract.  Robinson v. Colorado Personnel Resources Inc., 2013 WL 5050489 (Ky. App. Sept. 13, 2013).  This opinion is designated as “Not To Be Published.”

      Robinson, a certified registered nurse anesthetist, entered into a one-year agreement with Colorado Personnel Resources (“CPR”).  Six months into the agreement, CPR terminated that agreement, and in response Robinson filed suit in Jefferson Circuit Court.  CPR, in turn, filed a motion to dismiss the action on the basis of a choice of forum provision in its agreement with Robinson, that provision providing:

The laws of the State of Colorado shall govern this agreement.  Any dispute arising under the term or execution of this agreement shall be submitted to arbitration in the State of Colorado pursuant to the laws of the State of Colorado.

      In response to CPR’s motion, the trial court entered an order pursuant to which it “declines to exercise jurisdiction in this matter as a result of the parties’ selection of forum, and that this action is thereby dismissed.”

      The Court of Appeals noted that Kentucky has adopted § 80 of the Restatement (Second) Conflict of Laws, it providing, inter alia, that a venue selection will be given effect unless it is unfair or unreasonable.  In reliance upon Prezocki v. Bullock Garages, Inc., 938 S.W.2d 888, 889 (Ky. 1997), it stated that the following will be applied in determining whether the venue clause is either unfair or unreasonable, namely:

·                    Inconvenience of the chosen forum;

·                    Disparity in bargaining power between the parties; and

·                    Whether Kentucky maintains more than a minimal interest in the dispute.

            In this instance, the Court of Appeals acknowledged that the trial court may have undertaken this analysis, but the record was silent as to whether or not it did so.  Signaling an apparent lack of concern with the substance of the decision and critiquing only its form, the Court of Appeals wrote:

While trial court likely reached the proper conclusion in dismissing the action, because it did not make the appropriate findings as to the reasonableness of the choice of forum provision in the parties’ agreement, we must reverse and remand for further proceedings. On remand, the trial court is directed to make findings on the record in conformity with Prudential [Resources Corp. v. Plunkett, 583 S.W.2d 97 (Ky. App. 1979)].

      At least two consequences need to be recognized.  First, in any contractual action, it appears that the party seeking enforcement of a choice of venue is going to be saddled with an affirmative burden to demonstrate the reasonableness of that provision.  This burden is only going to give rise to additional, likely unjustified, arguments by a counterparty who, for whatever reason, seeks to avoid the choice of venue.  Second, with respect to transactional attorneys, decisions of this nature, qualifying the effectiveness of a contractual provision upon an ex-post facts and circumstances analysis, make it more difficult to give legal opinions and other assurances as to the enforcement of agreements as written.

 

New Rule 506(c)

Following is a short piece on new Rule 506(c) distributed by my firm on September 23, the effective date of the new rule.

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NEW SEC RULES TAKE EFFECT TODAY

 

The Securities and Exchange Commission’s new Rule 506(c) takes effect today, September 23, 2013.  Under this new rule, companies are allowed to publicly advertise sales of securities and broadly solicit potential investors, opening the gates to additional sources of capital for many businesses.  Sales may be made only to verified accredited investors.

Until now, unless a company complied with the (quite expensive) rules for a registered offering, advertising an offering was prohibited.  Prohibited advertisements included cold calling investors, advertisements in trade publications, website solicitation and distributing brochures (including at a horse auction).  As of today, companies will be able to advertise to potential investors, provided that sales of the securities are made only to “accredited investors” whose status as such is “verified.”

While it has been possible to raise funds from “accredited investors” (e.g., individuals with income in excess of $200,000 for each of the previous two years, with that amount reasonably expected in the current year, or individuals with a net worth, excluding their primary residence and related debt, exceeding $1 million), finding enough interested accredited investors has been difficult for many businesses, especially for start-ups and small businesses.  Under the old rule, a company could receive investments from accredited investors, but it was not allowed to advertise its offering or call on potential investors with whom the company’s representatives did not have a prior relationship.  Placing an advertisement in the paper, “cold calling,” or soliciting investors on your website were effectively prohibited.  While, subject to certain limitations, accredited investors could be identified through brokers, that route has been cumbersome and expensive.

Taking advantage of the new rule may greatly increase the chance of success of an offering.  For example, a manufacturer needs an additional $2 million to expand its business, but after two months of calling on all its investor contacts, the manufacturer has commitments for only $500,000.  Traditionally, its offering would have likely failed.  However, under the new rule, the manufacturer may advertise its offering in a trade publication, making the opportunity known to potential investors located in California, Texas and wherever else that trade publication is distributed, and pitch the opportunity to potential investors anywhere and everywhere.  Both of these alternatives would greatly expand the chance of the offering having success.

The new rule is not industry restricted – service provides as well as physical product businesses may use it.  To that end both the software developer and the film producer may advertise the offering of securities.  For instance, the new rule presents significant opportunities for raising funds for equine ventures, including stallion syndication.

There is no ceiling under the new rule on either the number of investors or the maximum amount that may be raised in the offering.  That being said, there remain a number of particular requirements:

1. The issuer must “verify” the status of each investor as an “accredited investor.” There are numerous avenues through which verification may take place, including confirmation from a CPA, a lawyer, a securities broker-dealer or an investment advisor that he or she has taken steps to review an investor’s financial statements and determined that the income or the $1 million net worth requirement is satisfied.  Third-party verification companies are already up and running.

2. Beware of Integration.  Consequent to the “integration” rules, it will be important to clearly separate investments made by “friends and family” who are not accredited investors from the 506(c) advertised offering.  If the offerings are “integrated,” which requires a technical legal analysis, the sales to non-accredited friends and family will taint the 506(c) offering, rendering the exemption unavailable.

3. Nothing about the new rule eliminates or limits the anti-fraud rules of the securities laws. Companies and their management still need to disclose all material information about the company and the risks of the investment.  While there is no set formula, this most frequently takes the form of an offering circular that sets forth all company history, its prospects, biographies of directors and management, business plan, anticipated use of the funds, financials (either audited or reviewed) and pro-formas.  Disclosure of risks is a defense to later suits charging fraud in the sale of the securities.

Raising needed capital will always be a difficult task for most businesses, but new Rule 506(c) should open new avenues for start-ups and growing companies. The above is a summary of the very detailed and technical rules regarding the Regulation D exemption from registration of securities. Advice of legal counsel should be sought before commencing any offering of securities. If you have any questions about the new rule, please contact Allison Donovan, Rich Mains or Tom Rutledge.

Athenian Forces Defeat Invading Persians at Marathon

Athenian Forces Defeat Invading Persians at Marathon

      Today might be the anniversary of the great battle, fought in 490 at Marathon, at which the forces of Athens defeated the Persian invasion sent by Darius the Great. The exact date of the battle is subject to controversy, although there is something of a consensus on the 21^st.

      At this time, the Persian Empire extended from the western boundaries of what is today India across the Middle East, Turkey and to Southwest Europe.  Darius had decided that the land we refer to today as Greece, inhabited by a variety of city-states, would be next incorporated into his empire.  An invasion fleet landed its troops some 26 miles northeast of Athens at the Bay of Marathon.  Working with collaborators in Athens, it was thought that the army could be drawn away and destroyed even as the collaborators led an internal revolt, taking control of the city and making it available to Darius.  It would not turn out that way.

      At news of the landing, Athens sent word to Sparta seeking its assistance, the Spartan hoplite troops being the strongest force in the region.  Famously, the Spartans were unwilling to send their forces in light of an upcoming religious festival.  Athens would stand alone.  The Athenian army, well smaller than the Persian forces, camped facing their enemy for over a week.  On the 8^th day, seeing that the Persians were re-embarking some troops onto ships, and fearing that they intended to launch a direct assault on Athens, the Greek forces attacked.  Although outnumbered, by skillful flanking maneuvers the Greeks were able to envelop the Persian forces.  While the historical records recite what must be grossly inflated figures, certainly the Persians lost in excess of 6,000 men while the Greeks lost fewer than 200.  Although not recounted in the contemporary historic record, a runner took off to announce the victory to Athens.  Just over 26 miles later, he entered the city, announced “nickomen” (“victory”) and dropped dead from exhaustion.  Meanwhile, the Persian ships set out from the Bay of Marathon with the apparent intent of directly attacking Athens.  The Athenian army force-marched itself back to the city, manning its walls as the Persian fleet approached.  The Persians decided that another attack was not in their best interest and they withdrew.

     A decade later, the Persian forces under Xerces, son of Darius, would again invade Greece.  They would ultimately fall victim to the Spartan and allied forces at Thermopylae, the Greek naval forces at Salamis and again the allied forces at Plataea.

Sixth Circuit Court of Appeals Affirms Dismissal of Derivative Action Brought Without Demand, Holds Futility Exception Not Satisfied

Sixth Circuit Court of Appeals Affirms Dismissal of Derivative Action

Brought Without Demand, Holds Futility Exception Not Satisfied

      A just-released decision of the Sixth Circuit Court of Appeals has affirmed the trial court’s dismissal of a derivative action filed with respect to a public corporation incorporated in Tennessee where the plaintiff shareholder did not make a demand upon the corporation and was held to have not satisfied the demand futility requirements.  Lukas v. McPeak, ___ F.3d ___, 2013 WL 5272924 (6^th Cir. Sept. 19, 2013).

      Lukas was a shareholder in Miller Energy Resources, Inc., a Tennessee corporation.  The corporation had made numerous misstatements as to its value and as well had entered into an increasingly beneficial compensation with its CEO.  Ultimately it was disclosed that certain assets, recorded on the books as having a value of $350 million, were worth only $25-30 million, and that value was further offset by $40 million in liabilities.  Dismissal of the derivative action was sought on the basis that he had not made a demand upon Miller’s board prior to filing the suit and had failed to state claims against the individual directors.  The District Court granted the motion to dismiss on the grounds that he had failed to make the pre-suit demand and that failure should not be excused.

      The Sixth Circuit found that under Tennessee law, a modified version of Delaware’s Aronson v. Lewis, 473 A.2d. 805, 814 (Del. 1984) test would be applied with respect to assertions of futility.  Under Lewis ex rel. Citizens Sav. Bank & Trust Co. v. Boyd, 838 S.W.2d 215 , 221 (Tenn.Ct.App.1992), futility requires:

In demand-excused cases, the grounds for the shareholder’s claim are (1) that the board is interested and not independent and (2) that the challenged transaction is not protected by the Business Judgment Rule.

      This test as applied in Tennessee is conjunctive, rather than a disjunctive test as utilized in Delaware.  The Sixth Circuit analyzed on the string of Tennessee cases that it was argued indicate that demand is excused when all of the directors are named as defendants.  Ultimately, the Sixth Circuit would determine that, of itself, that was not sufficient to excuse demand.  Ultimately, Lukas’ claims would fail because he had not shown that a majority of the board was interested and lacked independence:

The District Court did not err in its disinterested – and, independent analysis.  At best, Lukas’ allegations make out what the District Court already acknowledged, that [the CEO/director’s] disinterest and independence may have been comprised.  However, Lukas does not allege any specifics regarding other board members and does not city any Tennessee authority supporting his contention that board members’ exposure to potential liability via allegations consisting primarily of nonfeasance – as opposed to malfeasance – should suffice to demonstrate a reasonable doubt as to independence and disinterest.

      There was a dissent, it arguing that certain dated Tennessee law remains in place and effective, and suggesting that the Sixth Circuit should have certified the decision to the Tennessee Supreme Court for resolution.

Sixth Circuit Court of Appeals Upholds Contraceptive Mandate of the PPACA

Sixth Circuit Court of Appeals Upholds Contraceptive Mandate of the PPACA

and Holds That Corporations Do Not Have Religious Rights

      On September 17 the Sixth Circuit Court of Appeals issued its decision in Autocam v. Sibelius, there addressing a challenge to the contraceptive mandate brought by a for-profit business venture.  Essentially, the company and its shareholders argued that they should be exempt from the requirement under the PPACA that insurance plans cover contraceptives (the “Mandate”) on the basis that they, the shareholders, as Catholics, has religious objections thereto.  Consistent with the holding of the Third Circuit Court of Appeals in Conestoga, but in contrast to the ruling of the Tenth Circuit in Hobby Lobby, the Sixth Circuit held that no religious rights were being violated.

      The opinion begins with a short discussion of the Anti-Injunction Act, which, if applied, would preclude the Court from hearing the dispute.  The Sixth Circuit determined that the limitations of the Anti-Injunction Act are not applicable.

      Turning to Autocam, the corporation, it was determined that it had Article 3 standing under the Constitution to challenge the Mandate.  In contrast, the shareholders of Autocam do not have Article 3 standing to assert a claim either under the Free Exercise Clause of the First Amendment or under the Religious Freedom Restoration Act (“RFRA”).  The obligation of the Mandate is upon the Corporation, and no burden is imposed upon the shareholders.  They bearing no burden, they have no standing to object to the Mandate.

       With respect to the suggestion that any actions taken by the Corporation to comply with the Mandate will require the shareholders to act against their religious beliefs, the Court noted that when they act on behalf of the Corporation they do so as officers and directors of the Corporation, fiduciary roles obligating them to act on behalf of that distinct legal entity.  Those actions do not of themselves give rise to a distinct injury suffered by the shareholders that would otherwise allow them to pursue an individual, as contrasted with a corporate, claim against the Mandate.

      Acknowledging that there are two decisions of the Ninth Circuit Court of Appeals allowing a for-profit corporation to assert the Free Exercise rights of the owners, the Sixth Circuit noted that those decisions “seem[] to abandon corporate law doctrine at the point that matters most,” namely the legal existence of the corporation as a person distinct from the shareholders.  “For this reason, the Kennedys cannot bring claims in their individual capacities under RFRA, nor can Autocam assert the Kennedys’ claims on their behalf.”  Turning then to the substance of Autocam’s argument that the Mandate violates its rights under RFRA, the Court held that a corporation is not a “person” capable of a “religious exercise” as contemplated by RFRA.