Is It Worth It For Plaintiffs' Counsel To Gamble On Merger Class Actions in North Carolina?

I hadn't written anything yet about the multiple shareholder actions challenging the merger of PokerTek -- a developer and distributor of electronic table (gambling) games -- with Multimedia Games -- another developer and distributor of gambling technology.

The transaction was valued at $12.6 million, making it one of the lowest value mergers ever attacked in the Business Court.  But the transaction generated five cases filed last year, shortly after the announcement of the transaction, by six shareholders named Simmer, Weber, Dabord, Lobo, Stephens, and Sandler (Weber and Dabord paired up as co-plaintiffs in their case).

Each case asserted various claimed violations of fiduciary duty by the PokerTek board, and alleged that PokerTek had made inadequate disclosures in its description of the transaction.  PokerTek and Multimedia were alleged to have aided and abetted the directors' claimed breaches of fiduciary duty.  The case was settled in July of 2014.  The settlement focused on the disclosure-based claims, and PokerTek made supplemental disclosures in a Form 8-K filing per the settlement.

PokerTek's shareholders voted overwhelmingly (96% to 4%)  to approve the merger ten days after the supplemental disclosures were filed.

The Plaintiffs Had No Viable Claims, Except Perhaps Their Disclosure Claims

The decision of counsel for the class (which was certified by Judge Bledsoe in the Order and Final Judgment, 2015 NCBC 8), to settle the case for the additional disclosures was deemed by the Court to be "prudent and reasonable."  Order ¶42.  That was kind, and the Judge was equally kind in not saying outright that the other claims brought by the shareholders were likely to be losers.

Even so, he expressed serious uncertainty whether they had any chance of succeeding.  He said that "there is nothing in the record to suggest that Plaintiffs' claims are strong enough to justify further litigation."  Order ¶38. 

He then ticked through the relatively valueless claims.  He said that if the Plaintiffs' claims were deemed to be derivative, that the Plaintiffs "faced a significant standing hurdle in light of [their] failure to make statutory demand on PokerTek."  Order ¶39.  He also expressed doubt over whether the claims against PokerTek's directors "could overcome the evidentiary presumption afforded by the business judgment rule."  Order Par. 40.  And to the extent that the Plaintiffs took a run at holding the corporate defendants liable on an aiding and abetting breach of fiduciary duty theory, Judge Bledsoe said that those claims faced "substantial risk . . .  because it is unclear whether North Carolina recognizes this cause of action."  Order ¶41.  I've written at least a couple of times on this blog about the questionable viability of such a claim.  See here, and here.

When Are Disclosures "Material"?

So, the only claim with any value on which to base a settlement was the disclosure claims.  And all the preamble in this post leads up to whether Plaintiffs' counsel were entitled to any fees for obtaining this settlement.

Well, were the disclosures obtained by the Plaintiffs "material" to the transaction?  The standard for this is that "a disclosed fact is material if there is a substantial likelihood that the disclosure of the omitted fact would have been viewed by the reasonable investor as having significantly altered the 'total mix' of information made available."  Order ¶43.

Judge Bledsoe, relying on precedent from the Delaware Court of Chancery, found the supplemental disclosures to fall into "the sort of information that the Delaware Chancery Court has recognized may be material."  Order ¶44.  This included:

  • information necessary for discounted cash flow analyses;
  • comparative financial information, including enterprise value/EBITDA and enterprise/revenue multiples for companies selected as comparable by PokerTek's financial advisor; and
  • information regarding PokerTek's engagement of a financial advisor and of the business relationship between PokerTek, Multimedia, and the financial advisor.

Order ¶44.

Would this type of information be significant to a "reasonable investor"?  Well, you might have read about the recent hoopla surrounding Jonathan Gruber's statements with regard to the Affordable Care Act, when he said that the ACA passed due to the "stupidity of the American voter."  I don't think that the mythical "reasonable investor" is stupid, but I doubt that he or she cares very much about the matters that Judge Bledsoe referenced.  Of course, there is the possibility that the "reasonable investor" is an institutional investor which might attach more importance to matters like a discounted cash flow analysis and enterprise/revenue multiples.  But even so, the supplemental disclosure about the relationship between PokerTek, Multimedia, and the financial advisor which was obtained as a price of the settlement was that the financial advisor had never previously performed services for either company.

The Award Of Attorneys' Fees

So, if you are with me on the lack of value of these disclosures, how much were Plaintiffs' counsel entitled to for their arduous efforts in obtaining them?  The Court awarded $140,000 in fees and expenses, the amount which the Defendants agreed to pay in the settlement agreement.

How did the parties arrive at that figure?  Plaintiffs' counsel collectively devoted about 500 hours to the case.  What did they do in that time?  They "retained an expert, reviewed and analyzed approximately 3,100 documents, prepared a motion for preliminary injunction with supporting briefs, and undertook confirmatory discovery after" entering into a Memorandum of Understanding regarding the settlement.  Order ¶57.

The hourly fee awarded counsel broke down to $226.83 per hour, which the Court found to be in line for rates for North Carolina counsel.  Judge Bledsoe noted that Plaintiffs' counsel, several of whom were from major metropolitan centers, usually charged substantially more for similar work and were taking a sizeable haircut off their usual attorney rate of $553.26 per hour.

That really wasn't a very rich recovery for the six law firms representing the Plaintiffs.  If the $140,000 is divided equally, that's only about $23,000 per firm.  It seems hardly worth the effort.  An agreement reflecting the division of the fees among the law firms is buried in the filing for the fee award (the percentages range from 45% to 5%).  That makes the work even less lucrative.

This award of $140,000 is in line with -- and actually a fair amount less than -- other fee awards by the Business Court in disclosure-only class action settlements. See, e.g. In re Progress Energy S'holder Litig., 2011 NCBC 45 ($550,000); In re PPDI Litigation, 2012 NCBC 33 ($450,000); In re Harris Teeter Merger Litig., 2014 NCBC 44 ($325,000).

The glaring outlier in the history of these fee awards in the Business Court is the $1 million plus awarded by the Court in the litigation over the Wachovia/Wells Fargo merger litigation, which is now before the NC Court of Appeals.  Perhaps the COA will undertake the analysis of the materiality of the disclosures obtained by the Plaintiff in that case.  I've previously written about my dismal opinion of the quality of those disclosures, and my disappointment at the Court's approval of a more than a million dollar fee.

I'm not the only one complaining about the fees obtained by the lawyers for the class plaintiffs in these merger related actions.  Judge Tennille, before he retired, wrote about what he condemned as "stinky fees."

Still, these types of lawsuits are certainly good for the legal economy and for the North Carolina lawyers called upon to defend them.

And there will be one more merger class action fee decision coming down this year from the Business Court in which there will undoubtedly be a large application for a fee award.  That's the merger of R.J. Reynolds and Lorillard, in which a disclosure only settlement was recently announced.

If deal value is a factor in a fee award in a disclosure-only settlement, which it appears to be, then the Reynolds/Lorillard deal, valued at $25 billion, will spin off substantially larger fees than the PokerTek class actions (in which the deal was worth, by comparison, a paltry 12.5 million).

But should deal value be a factor?  Shouldn't it be the value of the disclosures?

A Couple Of Things To Know Before Bringing A Piercing The Corporate Veil Claim

You might remember the case of  Cold Springs Ventures, LLC v. Gilead Sciences, Inc..  Last year, Judge Jolly stayed an arbitration proceeding pending a ruling on a piercing the corporate veil claim.  If you are a reader of this blog, you will remember that I wrote about that decision last April.  Now, assuming that you've gone and reread that post, you are up to speed on the issue.

Judge McGuire, taking over the case and stepping into Judge Jolly's shoes, undertook the summary proceeding mandated by G.S. § 1-569.7(b), which says that "[o]n motion of a person alleging that an arbitration proceeding has been initiated or threatened but that there is no agreement to arbitrate, the court shall proceed summarily to decide the issue."

This month's ruling is in 2015 NCBC 1

The issue for the Court was whether the individual Plaintiffs, directors of NC Kyro, could be obligated to arbitrate based on a contract that their corporation had signed with Gilead.  The individuals had not signed the contract, but Gilead argued that it was entitled to pierce the corporate veil and thus make the individuals subject to arbitration.  Gilead is contending in the arbitration it commenced that the individuals are personally liable to it on that contract, again on a piercing the corporate veil theory.

Given that deciding the question of arbitrability involved the consideration of issues basic to Defendant's claim on the merits, Judge McGuire was exceedingly careful to abide by the U.S. Supreme Court's admonition that "in deciding whether the parties have agreed to submit a particular grievance to arbitration, a court is not to rule on the potential merits of the underlying claims."  AT&T Technologies, Inc. v. Communications Workers of America, 475 U.S. 643, 649 (1986).  He said that his "decision will not have collateral estoppel or res judicata consequences." Order ¶10.

But, even with that caution, Judge McGuire's Order should send a pretty clear signal to the Defendant's counsel that its piercing the veil claims aren't likely to succeed.  And for lawyers contemplating bringing such claims in the Business Court, it clarifies some of the standard "magic words" enunciated by courts when considering motions to pierce the corporate veil.

"Control and Domination"

A party seeking to pierce the corporate veil must show "control, not mere majority or complete stock control, but complete domination, not only of finances, but of policy and business practice . . . so that the corporate entity . . . had at the time no separate mind, will or existence of its own."  Green v. Freeman, 367 N.C. 136, 145, 749 S.E.2d 262, 270 (2013).

This element "is a critical, if not the most critical, element in a court's piercing analysis."  Order ¶28.

Gilead came up short on this critical element despite its showing of the individual Plaintiffs' direct involvement in key actions taken by NC Kyro, including its winding down and its dissolution.

Those actions were taken in their capacities as directors of NC Kyro, and Judge McGuire observed that:

directors of North Carolina business corporations are charged with exercising, or directing the exercise of, all corporate powers.  Gilead's argument regarding the control exercised by [the individuals] is based almost entirely on actions taken by those individuals pursuant to their statutory authority as directors.

Order ¶31.

"Inadequate Capitalization"

Another factor considered by the Courts in determining whether to pierce the corporate veil is "inadequate capitalization."  Green, supra, 367 N.C. at 1455, 749 S.E.2d at 270.  But there is a difference between "inadequate capitalization borne [sic] out of deception or fraud, and inadequate capitalization 'arising simply out of a lack of funds available for contribution to the enterprise.'"  Order Par. 39 (quoting R. Robinson, Robinson on North Carolina Corporation Law § 2.10[2].

Although NC Kyro did suffer from inadequate capitalization (one of the Plaintiffs had testified that it "was always insolvent" and "never a going concern"), it was a startup struggling to raise capital.

Judge McGuire held that "the mere fact that NC Kyro's capitalization efforts did not ultimately yield enough capital for the company to survive should not, without more, support the drastic remedy of disregarding the corporate form.  Order ¶40.

So, if you are making a piercing the corporate veil claim, be careful to distinguish actions taken pursuant to corporate authority from "domination and control," and watch out before you take a lack of funds to be the necessary "inadequate capitalization."

Before getting to the published Order, the Judge had to step through ruling on a Motion to Disqualify Gilead's counsel because it had previously represented the Plaintiffs.  He denied that Motion in an unpublished Order.  If you are interested in reading that Order, it is here.

 

Reading Before Signing Is Advisable

It's pretty basic that your clients should read the agreements that they sign before they sign them.  Or you should at least explain to your client the key provisions in what they are going to sign, if they are not going to read it.

In McMillan v. Unique  Places, LLC, 2015 NCBC 4, decided this week by the NC Business Court, the fact that the Plaintiff had not read the agreement requiring him to arbitrate his claims provided no defense against him being compelled to arbitrate.

McMillan, one of the Plaintiffs, had entered into a business arrangement with the Defendants based upon a three page "Memorandum of Understanding."  The MOU contemplated the subsequent formation of an LLC called Enigma.  A few weeks later one of the Defendants presented McMillan with an Operating Agreement for the LLC.

The thirty plus-page Operating Agreement contained a provision obligating the LLC members to arbitrate any disputes arising out of the agreement.

When disagreements arose among the members of Enigma about the control of the LLC, McMillan ignored the arbitration provision and filed suit in Catawba County.  He then designated the case to the Business Court.

The Defendants made a Motion to compel arbitration.  McMillan, seeking to escape the arbitration obligation, said that he had not read the Agreement.  He said that he was fraudulently induced to sign the Agtreement and that he was unaware of the arbitration provision at the time that he signed it.

Those of you who went to law school know that this type of argument is not going to fare well.  Judge Bledsoe found these contentions unpersuasive, holding:

under well-established North Carolina law, a signatory to 'a written instrument is under a duty to read it for his own protection[; ] . . . [is] ordinarily . . . charged with knowledge of its contents[;] . . . [and] may [not] predicate an action for fraud on his ignorance of the legal effect of its terms.'

Opinion ¶15 (quoting Raper v. Oliver House, LLC, 180 N.C. App. 414, 420, 637 S.E.2d 551, 555 (2006) (quoting Biesecker v.Biesecker, 62 N.C. App. 282, 285, 302 S.E.2d 826, 828-29 (1983)).

But McMillan's wife, another Plaintiff, was also trying to get out from under the unwanted burden of having to arbitrate her claims.  She had not signed the Operating Agreement, but her arguments met with about the same success as those of her non-reading husband.

Judge Bledsoe found her to be bound by the arbitration provision, even though she hadn't signed the Agreement containing it, because she was an intended third party beneficiary of the Operating Agreement, and some of the claims made by her in the Complaint before the Business Court were based on the Agreement.

These Plaintiffs, apparently appalled by the prospect of arbitration, have already filed a Notice of Appeal of Judge Bledsoe's decision.

My partner Clint Morse represents one of the Defendants (Josh Hawn) in this case.

 

Do You Have To Be The Owner Of A Trade Secret To Sue For Misappropriation?

Can an exclusive licensee of a trade secret sue for its misappropriation?  Maybe, even though North Carolina's version of the Uniform Trade Secrets Protection Act reserves the right to sue to an "owner."  N.C. Gen. Stat. §66-153.

The Uniform Act, by contrast, allows a "complainant" to bring an action for misappropriation.  The Fourth Circuit, applying Maryland's version of the Uniform Act, has held that it is not necessary to be an "owner" to sue under that state's law.  DTM Research, LLC v. AT&T Corp., 245 F.3d 327, 332 (4th Cir. 2001).

Judge Gale addressed the question whether a licensee has standing to sue for misappropriation of its trade secret under the North Carolina Trade Secrets Protection Act just before the new year began, in SCR-Tech LLC v. Evonik Energy Services LLC, 2014 NCBC 71.  Well, he kinda sorta addressed the question, because he refused to reconsider an earlier ruling in the case and never really delved into the issue.

Judge Tennille had been presented with the exact same issue in the SCR-Tech case back in 2010.  (This case has the dubious distinction of being one of the longest running cases in the Business Court, having been filed in 2008).  He denied a motion for summary judgment in which the Defendants argued that Plaintiff lacked standing to pursue its trade secrets claim because it was not the owner of the trade secrets at issue.  That Motion was summarily denied without any discussion.

So, did  that 2010 ruling settle the issue of whether non-owners of trade secrets can sue for misappropriation?  In other words, was Judge Gale entitled to reconsider the issue?

Judge Gale refused to reconsider the issue, stating that he did not see any new argument that had not been raised before Judge Tennille, and that he was "mindful of the import of allowing or requiring one Business Court Judge to revisit the earlier order of another Business Court Judge without any material change in record, policy, or authorities."  Order ¶15.

I would not read this Order as opening the door to trade secrets lawsuits by licensees, given the lack of discussion of the issue by Judge Tennille, and Judge Gale's reluctance to tread on the prior ruling.

Can the Defendants appeal to the NC Supreme Court based upon the recent changes to the cases that may be appealed from the Business Court?  Perhaps.

Let me observe that there were a lot of Business Court decisions in the final month of 2014 which I did not write about.  I've been kind of distracted and will get back on top of things early this new year.

Is Your Client's Customer Information A Trade Secret? Maybe, If You Plead It Specifically Enough.

I have remarked before how hard the Business Court has been on Plaintiffs making trade secrets claims.   You can look here and here for example of these prior posts.  The Court has often dismissed trade secrets claims on a 12(b)(6) Motion because the trade secrets were not described with sufficient particularity.

This week, in Le Bleu Corp. v. B. Kelley Enterprises, Inc., 2014 NCBC 65, Judge Gale stopped short of granting a Motion to Dismiss a trade secrets claim, but nevertheless ordered the Plaintiffs to provide a more definite statement describing their alleged trade secrets in their customer information.

The parties in the case are engaged in the manufacture, sale, and distribution of bottled water in the Southeastern United States.  The trade secrets claimed were Plaintiffs' "customer lists, pricing information, transaction histories, key contacts, and customer leads."  First Amended Complaint ¶30. 

That would seem to be enough of a description of customer information to make out a trade secrets claim.  The NC Court of Appeals had held, just last year, that allegations of misappropriation of "pricing information, customer proposals, historical costs, and sales data" is a sufficient identification of alleged trade secrets. GE Betz, Inc. v. Conrad, __ N.C. App. __, 752 S.E.2d 634, 648-49 (2013). Also, the Business Court had held, in one of its early opinions, that customer information "including the identity, contacts and requirements" of customers can constitute a trade secret.  Sunbelt Rentals, Inc. v. Head & Engquist Equip., LLC, 2002 NCBC 2 at *38, 41-42.

But notwithstanding that authority, Judge Gale was not satisfied that the Plaintiffs' description of their claimed trade secrets was sufficient to support their claim.  He ruled that:

whether 'pricing information, transaction histories, key contacts, and customer leads,' actually constitute trade secrets depends upon the contents of the materials at issue. A price list may constitute a trade secret where it contains pricing information, market forecasts, and feasibility studies, but may not if it consists of raw information without any methodology.

Op. ¶26.

He directed, with regard to the two lists which the Plaintiffs claimed were the trade secrets that had been misappropriated, that they  provide, within twenty days, a more definite statement "that specifically describes the contents of both lists and why the information is entitled to trade secret protection."  Order ¶33.

 

A "Proper" Party Isn't Necessarily A "Necessary" Party

What is the difference between a "proper" party and a "necessary" party"?  Judge McGuire spelled out the difference early this week in Cape Hatteras Electric Membership Corp. v. Stevenson, 2014 NCBC 62.

Why should you care about the distinction?  Because Rule 19 of the North Carolina Rules of Civil Procedure says that all "who are united in interest must be joined as plaintiffs or defendants."  In the absence of the joinder of a "necessary" party a valid judgment cannot be rendered.

But, as Judge McGuire held:

[a] party is not a necessary party simply because a pending action might have some impact on the party's rights, or otherwise affect the party.

Op. ¶10.

Instead, a person whose interests "may be affected by a decree, but whose presence is not essential in order for the court to adjudicate the rights of others is a 'proper' party, but not a necessary party."  Op. ¶10.

By now you are looking for some context.  The Defendants in the case before Judge McGuire were members of the Plaintiff corporation, an electric membership corporation per G.S. Chapter 117.  The corporation's Bylaws required its members to consent to the relocation of electrical transmission lines running over their property.  The Defendants had agreed, as a condition of their membership, to be bound by the Bylaws of the corporation.  So had all of the other hundreds of members of the corporation.

When the Defendants refused to allow the relocation of a transmission line running over their property, they were sued by the corporation.  The Defendants, in their Motion for dismissal per NC Rule of Civil Procedure 12(b)(7) (for failure to join a "necessary party"), argued that all of the corporation's hundreds of members were necessary parties to the action, because the Court's ruling interpreting the Bylaws would affect all of the members.

Judge McGuire didn't buy that argument.  Although he said that a judgment in the case before him could "in some sense" affect the rights of the members who hadn't been joined, it would "not deprive them of any rights."  Op. ¶14.  Moreover, he observed that there was no existing controversy with the other members, and that joining them as parties might put the Court in the impermissible position of issuing an advisory opinion.  Op. ¶14 & n.7.

Judge McGuire, after denying the Motion to Dismiss, said that the other members of the corporation could intervene in the case, subject to his discretion.  Op. Par. 14.

 

 

 

Don't Try To Get A Retired Business Court Judge's Orders Changed Or Overruled By A Successor Business Court Judge

When there is a change in the Business Court Judge handling your case, there is probably a natural reaction to try to get the new Judge to revisit rulings by the previous Judge which were unfavorable to your client.  That effort is most likely to come to naught, as illustrated by Judge Bledsoe's decision last week in DeGorter v. Capitol Bancorp Ltd., 2014 NCBC 62.

DeGorter had been on the losing end of a summary judgment ruling by Judge Murphy, in June 2014, before Judge Murphy's retirement.  After Judge Bledsoe succeeded to what was remaining of the case, DeGorter moved for reconsideration of the summary judgment ruling.

Of course, DeGorter immediately ran into the buzz saw of the principle that:

‘[o]ne superior court judge may only modify, overrule, or change the order of another superior court judge where the original order was (1) interlocutory, (2) discretionary, and (3) there has been a substantial change of circumstances since the entry of the prior order.’

Op. ¶33 (quoting Taidoc Tech Corp. v. OK Biotech Co., Ltd., 2014 NCBC 48 at ¶11)

So what was the "substantial change in circumstances" offered by DeGorter in support of his Motion for Reconsideration?  It was pretty skimpy.  He said that a new Judge had been appointed and that he had filed a Motion for Reconsideration before the new Judge.  Judge Bledsoe said that accepting those things as a basis for changing Judge Murphy's previous order was insufficient because it would "open the floodgates' and invite reconsideration of numerous matters decided in the months preceding [his] appointment."  Order ¶35.

Judge Bledsoe refused to tamper with Judge Murphy's Order.

So if you are thinking of taking a stab at having one of Judge Murphy's rulings changed or overruled by the Judge taking over his case, you probably shouldn't bother.  Your chances of getting a Business Court Judge to do that are pretty slim.

Also, making a post-judgment Motion to Amend your Complaint is unlikely to be successful.  DeGorter sought to add by amendment a new claim for conspiracy, which would have rested on the claims of constructive fraud and negligent misrepresentation on which summary judgment had been granted.  The  Judge ruled that although a Motion to Amend following summary judgment was not necessarily prohibited (Op. ¶46), the allowance of this Motion would, in effect, result in an overruling of Judge Murphy because the dismissed claims would need to be the basis for the conspiracy claim. Op. ¶48.

But bit as probably fatal to the effort to add a conspiracy claim when, as Judge Bledsoe observed: "in North Carolina 'there is no such thing as a civil action for conspiracy." Op. ¶50 (quoting Reid v. Holden, 242 N.C. 408, 414, 88 S.E.2d 125, 130 (1955)).

Don't like a now-retired Business Court Judge's ruling?  You are probably stuck with it.

 

The NC Business Court Rules On Recovering Attorneys' Fees In A Derivative Action Against An LLC

In this week's opinion in Ekren v. K&E Real Estate Investments, 2014 NCBC 56, Judge Bledsoe outlined how a derivative action plaintiff can recover attorneys' fees.

What Constitutes A 'Substantial Benefit"?

Fees are specifically allowed by §57D-8-05(1) for a plaintiff in a derivative action against an LLC  if the action results in a "substantial benefit to the LLC."

North Carolina's appellate courts have not construed that term in the LLC context but the Court of Appeals has ruled in a case involving similar language under North Carolina's Business Corporation Act that:

the plaintiff need not necessarily be the prevailing party, nor must the derivative claim have proceeded to a final judgment or order.

Op. ¶13 (quoting Aubin v. Susi, 149 N.C. App. 320, 326, 560 S.E.2d 875, 880 (2002).

The Business Court found further light shed on the term "substantial benefit" by looking to the Model Business Corporation Act, which references in a comment the United States Supreme Court's interpretation of similar language in MBCA §7.46(1).  The Supreme Court said in the case of Mills v. Electric Auto-Lite Co., 396 U.S. 375 (1970) that:

[A] substantial benefit must be something more than technical in its consequence and be one that accomplishes a result which corrects or prevents an abuse which would be prejudicial to the rights and interests of the corporation or affect the enjoyment or protection of an essential right to the stockholder’s interest.

Id. at  396.

The Plaintiff in the Ekren Case Obtained A "Substantial Benefit" For The LLC Even Though The Defendant Granted Her All The Relief Demanded In Her Complaint Before Judgment

The Defendant in the Business Court case argued that the Plaintiff had not obtained a substantial benefit because the Defendant had voluntarily returned to the LLC title to the four properties which he had originally transferred to himself from the LLC, and he had also returned $20,000 he had removed from the LLC account.  The Defendant further argued that he was justified in these actions because he merely meant to "safeguard" the LLC's assets from the Plaintiff, who Defendant said was engaging in "irrational and pathological behavior which appeared to be the product of a degenerative disease." Op. ¶17. 

Because the properties had been returned and the $20,000 had been returned, and those items were the only relief sought by the Plaintiff, the Business Court had dismissed all the claims as moot in March 2014. 

Even so, Judge Bledsoe was buying none of the Defendant's arguments that his good intentions as opposed to the lawsuit, had prompted the result.  He said:

all of the evidence brought forward by the parties shows that the catalyst for the return of the LLC’s assets was the filing and prosecution of Plaintiff’s lawsuit. Although [the Defendant] contends he was going to return the LLC’s assets, he did not do so after Plaintiff’s pre-suit demand, and he did not take any action prior to Plaintiff’s suit to have a receiver or trustee appointed to receive the LLC’s assets he claimed he held in trust. Even if he planned to return the assets to the LLC, the fact that he returned them when he did – and thus the timing of relief to the LLC – was because of the litigation.

Op. ¶18.

So the Court found that the Plaintiff had obtained a "substantial benefit" for the LLC by obtaining the return of the properties and the funds.  It awarded $33,704.50 in attorneys' fees after reducing the amount sought and finding some of the fees sought to be "excessive, redundant or otherwise unnecessary." Op. ¶34.

Recovering For Rule 11 Type Violations In A Derivative Action

The LLC statute allows for the recovery of attorneys' fees if the court finds that any filing:

was not well grounded in fact or was not warranted by existing law or a good-faith argument for the extension, modification, or reversal of existing law and that it was interposed for an improper purpose, such as to harass or to cause unnecessary delay or needless increase in the cost of litigation.

N.C. Gen. Stat. §57D-8-05(3).

If that language sounds familiar, it may be because it "sets out a standard similar to the standard for sanctions under Rule 11 of the North Carolina Rules of Civil Procedure."  Op. ¶20.

But there's a difference between this section and Rule 11,  A Rule 11 analysis has "three prongs."  A violation of any of the three prongs -- which are "(1) factual sufficiency, (2) legal sufficiency, and (3) improper purpose" -- makes out a Rule 11 violation.  Op. ¶23.

The LLC statute, by contrast, requires showing an “improper purpose” in addition to finding that same document 'was not well grounded in fact or was not warranted by existing law. '" Op. ¶23.

The Defendant escaped from being tagged with attorneys' fees despite filing an Answer containing defenses that the Court said were "not well-grounded in law."  Judge Bledsoe found that the Defendant's actions were not motivated by an improper purpose based on the "totality of the objective circumstances."  Op. ¶28.

But don't think that this case gives you the license to raise unfounded defenses.  Judge Bledsoe "caution[ed] . . . that [his] ruling [was] based on the specific circumstances of this case and [was] not in any way intended to suggest a general rule that a party may assert claims or defenses that are not well-grounded in law without consequences under N.C.G.S. § 57D-8-05(3)."  Op. ¶28.

Avoid "Block Billing" Because It Can Result In A Reduction Of Fees

A good point for those seeking to recover attorneys' fees is to avoid "block billing."  That is the pretty common practice for aggregating all of your time entries for a client on a given day without providing the hours expended for each separate task.  Judge Bledsoe cited a couple of cases for the propositions that:

  • “[B]lock billing is not objectionable ‘per se,’ though it may increase the risk that the trial court, in reasonable exercise of its discretion, will discount a fee request, and that
  • block billing precludes the court from determining that all of the amounts claimed . . . are both compensable and reasonable.

Op. ¶33 (quoting Jaramillo v. Cnty. of Orange, 200 Cal. App.4th 811, 830 (Cal. Ct. App. 2011) and Dixon v. Astrue, 2008 U.S. Dist. LEXIS 9903, *11 (E.D.N.C. Feb. 8, 2008))

Based on his review of the Plaintiff's counsel's blocked billed time entries, Judge Bledsoe excluded nearly 80 hours of billing recorded by Plaintiff's attorney on  the basis that those hours  were "excessive, redundant, or otherwise unnecessary."  Op. ¶35.

Notwithstanding that reduction in fees, Judge Bledsoe said that Plaintiff's counsel was "a highly experienced and able litigator and practitioner," and that his hourly rate of $275 was reasonable. Op. ¶¶39-40.

 

Continue Reading...

Eighty Five Thousand Reasons Not To Represent An LLC Without The Approval Of A Majority Of The Members (and one Other Thing)

Be sure that an LLC member has the authority to hire you before accepting the representation of the LLC in a suit by or against another LLC member.  That authorization generally requires a majority of the interest of the members, at least under the default provisions of the LLC Act, which apply in the absence of an Operating Agreement providing to the contrary.

But what if a 50% owner goes ahead and retains counsel to represent the LLC against her 50% co-owner, who does not consent to the representation?  That can only turn out badly, even if there is a written fee agreement signed by the 50% owner.

In Judge Bledsoe's decision last week in Battles v. Bywater, LLC, 2014 NCBC 52, the Court found that one of the 50% owners of two LLCs which were defendants did not have the power to hire counsel for the LLCs, either under the default provisions of the LLC Act or the terms of the Operating Agreement of one of the LLCs.

There is nothing new in holding that one 50% member does not have the power to retain counsel for the LLC in a lawsuit against the other 50% member.   The Court of Appeals held seven years ago, in Crouse v. Mineo, 189 N.C. App. 232, 658 S.E.2d 33 (2007) that:

a fifty percent LLC member 'lacked authority to cause [the LLC] to institute [an]  . . . action on its own behalf' against the other fifty percent LLC member).

Id. at 239, 658 S.E.2d 37-38.

The Business Court rejected the Plaintiff's argument that he, as a 50% owner of the LLCs, had the authority under the new LLC Act to hire counsel without the consent of his adversarial member. 

Judge Bledsoe struck all of the filings made in the case by the lawyers for the LLC, though "without prejudice to Defendants' right to refile these or other legally supportable and permissible documents after retention of new counsel." Op. ¶52.

That's an expensive ruling for the lawyers who had been retained without proper authorization to represent the LLCs.  They had represented to the Court that they were owed $85,000 in legal fees by the LLCs that they were disqualified from representing.

Apart from guidance from the Bywater case of the necessary approval of the LLC members for an LLC representation, the case also makes clear that a management deadlock is a valid basis for dissolving an LLC per G.S. §57D-6-02(2).

Deadlock was formerly mentioned specifically in the dissolution statute (in the former G.S. §57C-6-02(2)), but the revised act deleted any reference to "deadlock" as a basis for dissolution in G.S. §57D-6-02.

Judge Bledsoe found that since the statute now allows dissolution where "it is not practicable to conduct the LLC's business," that this embraces deadlock.  He supported that conclusion with reference to the similar language of the Delaware LLC Act.  The Delaware Court of Chancery held in Fisk Ventures, LLC v. Segal, 2009 Del. Ch. LEXIS 7 (Del. Ch. 2009) that if:

a board deadlock prevents the limited liability company from operating or from furthering its stated business purpose, it is not reasonably practicable for the company to carry on its business.

Op. ¶19 (quoting Fisk Ventures at *12)

 

 

 

An Important Message From The Business Court On The Proper Filing Of A Notice Of Designation

Yesterday, the Business Court entered an important Order, titled "Order Regarding Notice of Designation and Assignment," in Southern Fastening Systems, Inc. v. Grabber Construction Products, Inc., 2014 NCBC 55.

The Order deals with the time limits for designating a case to the Business Court, and clears up the question of when and where a Notice of Designation needs to be filed.  This question was not raised by either of the parties to the case.  The Court said that it was the result of an inquiry "on its own motion whether the Notice of Designation was timely in accordance with recent statutory amendments regarding mandatory designation."  Order at 1.  

Section 7A-45.4(d) of the General Statutes says that a Notice of Designation "shall be filed . . . within 30 days of receipt of service of the pleading seeking relief from the defendant . . . ."

Grabber Construction Products, the Defendant, e-filed its Notice of Designation with the Business Court on November 3rd, which was within the thirty day period set by the statute.  The Defendant mailed the Notice of Designation that same day to the Superior Court for Buncombe County, where the case had originated.  The Notice of Designation then was filed in Buncombe County more than thirty days after service.

So, was the Designation timely?  No, said the Court, although it accepted the Designation, stating that it was "recognizing the possible uncertainty in how the statute should be read until clarified by [its] Order."

The Court concluded its very short (about two pages) Order by stating that this largesse would not be extended going forward and that the Order was being published to:

provide notice to the practicing bar that the Court will in the future expect a Notice of Designation to be filed with the appropriate Clerk of Superior Court within the time provided by N.C. Gen. Stat. § 7A-45.4, and that failure to do may result in the Notice of Designation being deemed untimely, defeating a right to mandatory designation.

Order at 2 (emphasis added).  This isn't the first time that the Business Court has dealt with the interplay between electronic filing and the need to file paper copies of filings in the Superior Court for the county in which the case originated.  You probably remember the several cases in which the Business Court dismissed an appeal because the notice of appeal, although timely filed with the Business Court, wasn't timely filed with the Clerk of Superior Court in the county where the case had originally been filed.