Fiduciary duties in the LLC: Mandatory core duties to protect the interests of others beyond the contracting parties

American Business Law Journal

Volumn 46, Issue 2, 2009, Pages 243-278

  Miller, Sandra K ^a  

^a WIDENER UNIVERSITY   (United States)

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EID: 67650294116     PISSN: 00027766     EISSN: 17441714     Source Type: Journal    
DOI: 10.1111/j.1744-1714.2009.01080.x     Document Type: Article

References (158)

1. See David L. Cohen, Theories of the Corporation and the Limited, Liability Company: How Sdhould Courts and Legislatures Articulate Rules for Piercing the Veil, Fiduciary Responsibility and Securities Regulation for the Limited, Liability Company?, 51 U. OKLA. L. REV. 427 (1998).
2. See Francesco Parisi, Introduction: The Legacy of Richard A. Posner and the Methodology of Law and Economics, in, RICHARD A. POSNER, THE ECONOMIC STRUCTURE OF THE LAW xxviii (2000)
3. (discussing the work of Ronald Coase in The Nature of the Firm, 4 ECONOMICA 386 (1937)).
4. The need for regulation of the markets has been the subject of numerous debates surrounding the subprime mortgage problem and the ensuing financial crisis. See Stephanie Schorow, Soros Says Crisis Underscores Need, for Regulation, MIT NEWS, Oct. 29, 2008, http://web.mit.edu/ newsoffice/2008/soros-1029.html (observing that the current financial difficulties "undercut the pervasive belief that markets could be entirely self-regulating.").
5. See also Jackie Calmes, Both Sides of the Aisle See More Regulation, N.Y. TIMES, Oct. 13, 2008, at A15, available at http:// www.nytimes.com/2008/10/14/business/economy/14regulate.html?-r= l&scp=l&sq=Both% 20Sides%20of%20the%20Aisle%20See%20More%20Regulation&st=cse.
6. But see George Reisman, The Myth that Laissez Faire Is Responsible for Our Present Crisis, LUDWIG VON MISES INSTITUTE, Oct. 23, 2008, http://mises.org/story/3165.
7. Frank H. Easterbrook & Daniel R. Fischel, Close Corporations and Agency Costs, 38 STAN. L. REV. 271, 276-77 (1986) (discussing the different agency problems faced by public and private companies).
8. Christopher M. Bruner, The Enduring Ambivalence of Corporate Law, 59 ALA. L. REV. 1385,1389-90 (2008) (discussing key attributes of the corporation including limited liability and the issues of control that corporate attributes raise).
9. See F. Hodge O'Neal, Close Corporations: Existing Legislation and Recommended Reform, 33 BUS. LAW. 873, 883 & 885 (1978) (discussing the problems posed by majority control in the context of private business entities and setting out the justification for external regulation in the form of exit opportunities in the event of oppressive conduct).
10. See Cohen, supra note 1, at 469-70 (observing that the LLC is becoming a substitute for the corporation).
11. See Thomas C. Lee, Limiting Corporate Director's' Liability: Delaware's Section 102(b)(7) and the Erosion of the Duty of Care, 136 PA. L. REV. 239, 261-69 (1987).
12. See also John C. Coffee, Jr., Litigation and Corporate Governance: An, Essay on, Steering Between. Scylla and Charybdis, 52 GEO. WASH. L. REV. 789, 796-97 (1984).
13. See Cohen, supra note 1, at 427 (1998).
14. See also Sandra K. Miller, A New Direction in LLC Research in a Contractarian Legal Environment, 76 S. CAL. L. REV. 351, 352 (2003) (studying contractual practices of attorneys who represent LLCs);
15. Sandra K. Miller et al., An Empirical Glimpse into Limited Liability Companies: Assessing the Need to Protect Minority Investors, 43 AM. BuS. L.J. 609 (2006);
16. Larry R. Ribstein & Bruce H. Kobayashi, Choice of Form and Network Externalities, 43 WM. & MARY L. REV. 79, 80 (2001) (exploring the factors that underlie the selection of the LLC as the preferred choice of entity).
17. See generally REVISED UNIFORM LIMITED LIABILITY COMPANY ACT, http://www.law.upenni.edu/bll/ archives/ulc/ullca/2006act-final.htm (last visited Oct. 2, 2006) (premised on the conception of the LLC as an entity rather than as an aggregate of its members).
18. Aaron A. Dhir, Realigning the Corporate Building Blocks: Shareholder Proposals as a Vehicle for Achieving Corporate Social and Human Rights Accountability, 43 AM. BUS. L.J. 365, 369-72 (2006).
19. See also William T. Allen, Our Schizophrenic Conception of the Business Corporation, 14 CARDOZO L. REV. 261,264 (1992);
20. Adolph A. Berle, Corporate Powers as Powers in Trust, 44 HARV. L. REV. 1049, 1049 (1931);
21. Milton Friedman, The Social Responsibility of Business is to Increase Profits, N.Y. TIMES MAO., Sept. 13, 1970, at 122-26.
22. Richard Parker, The Crisis Last Time, N.Y. TIMES, NOV. 9, 2008, at Book Review p. 55, available at http://www.nytimes.eom/2008/l l/09/books/review/.Parker-t.html?-r= l&pagewanted=2& oref=slogm.
23. See id.
24. See Christopher M. Bruner, The Enduring Ambivalence of Corporate Law, 59 ALA. L. REV. 1385, 1393 (2008) (indicating that the debate concerning the proper role of the corporation is of continuing relevance).
25. See PAUL R. MILGROM & JOHN ROBERTS, ECONOMICS, ORGANIZATIONS, AND MANAGEMENT 38-39 (1992) (providing an overview of the Coase theorem and its significance).
26. See Helen Anderson, The Theory of the Corporation and its Relevance to Directors' Tortious Liability to Creditors, 16 AUSTL. J. CORK L. 73 (2004), 2004 AJCL LEXIS 1, *7 (2004) (providing a discussion of theories of the corporation and the contractarian theory).
27. THOMAS J. MICELI, ECONOMICS OF THE LAW 4 (1997).
28. ROBERT COOTER & THOMAS ULEN, LAW & ECONOMICS 48 (2004).
29. Id.
30. Id.
31. See PETER BOHM, SOCIAL EFFICIENCY: A CONCISE INTRODUCTION TO WELFARE ECONOMICS 20-21 (1973).
32. Richard A. Posner, Nobel Laureate, Ronald Coase and Methodology, 7 J. ECON. PERSPECTIVES 195-210 (1993) reprinted in RICHARD POSNER, 1 THE ECONOMIC STRUCTURE OF LAW 16 (2000).
33. See ROBERT COOTER & THOMAS ULEN, LAW & ECONOMICS 93-99 (4th ed. 2004).
34. Id. at 98.
35. Ronald Coase, The Nature of the Firm, 4 ECONOMICA 386, 386-405 (1937).
36. See also Posner, supra note 21, at 195-210.
37. Ronald Coase, The Problem of Social Cost, 3 J.L. & ECON. 1, 1-14 (1960).
38. See Posner, supra, note 21, at 201 (observing that hostility to public intervention in markets is the "leitmotif" of Coase's work).
39. See Parisi, supra note 2, at xxvii (discussing the new field of institutional economics that recognizes that the firm has production and governance functions, and credits John Commons with the view that the transaction is the fundamental unit of analysis).
40. See MILGROM. & ROBERTS, supra note 14, at 38-39 (providing an overview of the Coase theorem and its significance).
41. See Michael C.Jensen & William H. Meckling, Theory of the Firm: Managerial Behavior, Agency Costs, and Ownership Structure, 3 J. FIN. ECON. 305, 310 (1976).
42. See also Oliver Hart, Contractual Freedom in Corporate Law: Articles & Comments; An Economist's Perspective on the Theory of the Firm, 89 COLUM. L. REV. 1757, 1765 (1989) (discussing competing economic theories of the firm).
43. Hart, supra note 29, at 1765-66 (discussing the contractarian economic theory).
44. Michael Bradley et al., Challenges to Corporate Governance: The Purposes and Accountability of the Corporation in Contemporary Society: Corporate Governance at a Crossroads, 62 LAW & CONTEMR PROB. 9, 37 (1999) (discussing the working of Adam Smith's invisible hand transforming individual self-interest into optimal allocation of resources).
45. See generally ADAM. SMITH, AN INQUIRY INTO THE NATURE AND CAUSES OF WEALTH, OF NATIONS (5th ed. 1904) (1776), available at http:// www.econlib.org/library/Smith/smWN.html.
46. See generally Richard A. Posner, Utilitarianism., Economics, and Legal Theory, reprinted in, 1. RICHARD POSNER, THE ECONOMIC STRUCTURE OF LAW 140-57 (2000) (providing an excellent analysis of utilitarianism and wealth maximization as an ethical concept).
47. See Myron T. Steele, Freedom, of Contract and Default Contractual Duties in Delaware Limited Partnerships and Limited Liability Companies, 46 AM. BUS. L.J. 221 (2009).
48. See JOHN ROBERTS, THE MODERN FIRM 78-87 (2004).
49. See id.
50. See BOHM, supra note 20, at 12-13.
51. See Thomas Donaldson & Lee E. Preston, The Stakeholder Theory of the Corporation: Concepts, Evidence, and Implications, 20 ACAD. MGMT. REV. 65 (1995).
52. See Cohen, supra note 1, at 444.
53. See William W. Bratton, Jr., The Nexus of Contracts: A Critical Appraisal, 74 CORNELL L. REV. 407, 435-36(1989).
54. See Margaret Blair & Lynn Stout, A Team Production Theory of Corporate Law, 85 VA. L. REV. 247, 247-48 (1999) (conceptualizing the corporation as a team engaged in an economic undertaking).
55. LYNN SHARP PAINE, VALUE SHIFT: WHY COMPANIES MUST MERGE SOCIAL AND FINANCIAL IMPERATIVES TO ACHIEVE SUPERIOR PERFORMANCE 226 (2003).
56. See Donaldson & Preston, supra note 36, at 65 (advancing a management approach that advances the stakeholder theory of the corporation).
57. See generally R. EDWARD FREEMAN & JOHN MCVEA, A STAKEHOLDER APPROACH TO STRATEGIC MANAGEMENT (2001) (offering a landmark analysis of the managerial implications of the stakeholder approach).
58. See generally AMITAI ETZIONI, THE SPIRIT OF COMMUNITY: THE REINVENTION OF AMERICAN SOCIETY, AMITAI ETZIONI, THE MORAL DIMENSION: TOWARD A NEW ECONOMICS (1988).
59. See also Bradley et al., supra note 31, at 42 (discussing the communitarian, approach to corporate governance).
60. See Timothy L Fort, Goldilocks and Business Ethics: A Paradigm That Fits "Just Right," 23 IOWA J. CORP. L. 245, 253 (1998) (observing that the social contract theory was advanced by Thomas Donaldson, presupposing a social contract under which there is an exchange between the corporation and society, and rooted in the ideas of Rousseau, Hobbes, Locke, and Rawls).
61. See Cohen, supra note 1, at 444.
62. See Bratton, supra note 38, at 435-36.
63. See Berkey v. Third Avenue Railroad Co., .155 N.E. 58 (N.Y. .1926).
64. Julian Velasco, The Fundamental Rights of the Shareholder, 40 U.C. DAVIS L. REV. 407, 459-61 (2006).
65. See Bratton, supra note 38, at 435-36.
66. Id. at 438-39 (
67. observing that originally the theory was used to limit corporate powers, but subsequently was used by Social Responsibility advocates citing Morton J. Horwitz, Santa Clara Revisited: The Development of Corporate Theory, 88 W. VA. L. REV. 173, 181, 186-88 (1985)).
68. Henry N. Butler & Larry E. Ribstein, The Contract Clause and the Corporation, 55 BROOKLYN L. REV. 767, 776(1989).
69. See Joan MacLeod Heminway, Enron's Tangled Web: Complex Relationships; Unanswered Questions, 71 U. CIN. L. REV. 1167, 1171 (2003).
70. PAINE, supra note 40, at 226.
71. Id. at 203-07.
72. See Blair & Stout, supra note 39, at 247-48 (conceptualizing the corporation as a team engaged in an economic undertaking).
73. See id. at 249.
74. See Cohen, supra, note 1, at 431-32.
75. See Velasco, supra note 47, at 447-48.
76. See Dhir, supra note 10, at 369-77.
77. See id.
78. See generally Larry E. Ribstein, Fiduciary Duty Contracts in Unincorporated Firms, 54 WASH. & LEE U. L. REV. 537 (1997).
79. See J. Dennis Hynes, Fiduciary Duties and RUPA; An Inquiry into Freedom of Contract, 58 L. & COTEMP. PROB. 29, 31 (1995) (recounting the fiduciary duty debate in connection with the drafting of the RUPA).
80. Id. at 37-38.
81. See RUPA 103 Comment (1997), http://www.law.upemi.edu/bll/ archives/ulc/uparta/1997act-final.htm.
82. See Rochelle C. Dreyfuss, Forums of the Future: The Role of Specialized Courts in Resolving Business Disputes, 61 BROOKLYN L. REV. 1, 22-23 (1995);
83. Melvin A. Eisenberg, The Bargain Principle and its Limits, 95 HARV. L. REV. 741, 742-43 (1982) (indicating that the assumption of a perfectly competitive market breaks down and there may be situations where limitation should be placed upon the bargain principle).
84. See Allan W. Vestal, Fundamental Contractarian Error in the Revised, Uniform Partnership Act, 73 B.U. L. REV. 523, 568 (1993)
85. [hereinafter Fundamental Contractarian Error] (discussing the fact that people do not behave as they might in economic models).
86. See also Reza Dibadj, Disputed, Concepts in Contemporary Business Association Law: Discussions on, Fiduciary Duty and Capital Lock-in: The Misguided Transformation of Loyalty into Contracts, 41 TULSA L. REV. 451, 465-66 (2006) (referring to the contractarian error of "not paying sufficient attention to the messy reality of how human beings actually behave);
87. Allan W. Vestal, Advancing the Search for Compromise: A Response to Professor Hynes, 58 LAW & CONTEMP. PROBS. 55 (1995).
88. See Vestal, Fundamental Contractarian Error, supra note 65, at 568 (discussing the fact that people do not behave as they might in economic models).
89. See Hynes, supra note 61, at 32-38 nn.32-.37 (citing letter from Melvin A. Eisenberg dated July 27, 1992, on file with Dennis Hynes at the time of the writing of the article written on RUPA).
90. See Howard M. Friedman, The Silent Revolution-The Social Cost, of Academic Neglect, 38 CREIGHTON L. REV. 35, 37-38 (2004-2005).
91. See also International Association of Commercial Administrators Annual Report of the Jurisdictions, 2007, available at http://www.iaca.org/downloads/ AnnualReports/2007-IACA-AR.pdf.
92. See Wood v. Baum, 953 A.2d 136, 141 (Del. 2008).
93. See Miller, supra note 9, at 351;
94. Miller et al., supra note 9, at 609.
95. See Miller, supra note 9, at 388.
96. See Miller et al, supra note 9, at 642-43.
97. See id.
98. See id.
99. Bratton, supra note 38, at 460-61.
100. See J. Robert Brown, Jr. & Sandeep Gopalan, Opting Only In: Contractarians, Waiver of Liability Provisions, and the Race to the Bottom (U. Denver Legal Studies Research Paper No. 08-02), available at http://www.ssrn.com/abstract= 1087404.
101. See Andrew Robertson, The Limits of Voluntariness in Contract, 29 MELBOURNE U. L. REV. 179, 187-217 (2005) (discussing the mandatory components of contract law).
102. Id. at 202-03.
103. Id.
104. See REV. UNIR LTD. LIAIS. CO. ACT §502, Transfer of a Transferable Interest: (a) A transfer, in whole or in part, of a transferable interest: (1) is permissible; (2) does not by itself cause a member's dissociation or a dissolution and winding up of the limited liability company's activities; and (3) [ ] does not entitle the transferee to: (A) participate in the management or conduct of the company's activities; or (B) except as otherwise provided in subsection (c), have access to records or other information concerning the company's activities. (b) A transferee has the right to receive, in accordance with the transfer, distributions to which the transferor would otherwise be entitled.
105. (c) In a dissolution and winding up of a limited liability company, a transferee is en tided to an account of the company's transactions only from the date of dissolution. See http://www.law.upenn.edu/bll/archives/ulc/ullca/ 2006act-final.htm. Delaware's treatment of transferees as nonmembers without powers to exercise any rights of owners also illustrates a typical approach, to transferees. See DEL. CODE ANN. tit. 6 §18-702(b)(l) (2008) ("Unless otherwise provided in a limited liability company agreement, an assignment of a limited liability company interest does not entitle the assignee to become or to exercise any rights or powers of a member.").
106. See also 15 PA. CONS. STAT §8924 (2008) (providing that "unless otherwise provided in writing in the operating agreement, if all. of the other members other than the member proposing to dispose of his interest do not approve of the proposed transfer or assignment by unanimous vote or written consent, which approval may be unreasonably withheld by any of the other members, the transferee of the interest of the member shall have no right to participate in the management of the business and affairs of the company or to become a member.").
107. See Larry E. Ribstein, An Analysis of the Revised Uniform Limited Liability Company Act, 3 VA. LAW & BUS. REV. 35, 48-49 (2008) (referring to the interest that involuntary tort creditors may have in the LLC).
108. See Daniel S. Kleinberger, Seven, Points to Explain Why the Law Ought Not Allow the Elimination of Fiduciary Duty Within Closely Held, Businesses-Cardozo is Dead; We Have Killed Him, 3-4 (William Mitchell Legal Studies Research Paper No. 61, 2006), available at www.ssrn.com/abstract= 948235.
109. See Cincinnati SMSA v. Cincinnati Bell Circular Sys. Co., 708 A.2d 989 (Del. 1998) (refusing to use the implied covenant of good faith and fair dealing to enjoin one of the limited partners from competing with the limited partnership).
110. See ROBERTS, supra note 33, at 78-87.
111. Id.
112. Id. at 83.
113. See Helen Anderson, Creditors' Rights of Recovery: Economic Theory, Corporate Jurisprudence and the Role of Fairness, 30 MELBOURNE U. L. REV. 1, 8-9 (2006) (discussing the role played by fairness in the development of laws that will protect vulnerable creditors).
114. Dreyfuss, supra note 64, at 22-23 (1995) (discussing repeat player advantage with regard to litigation).
115. See JEAN JACQUES DU PLESSIS ET AL., PRINCIPLES OF CONTEMPORARY CORPORATE GOVERNANCE 1.2 (2005).
116. See Cohen, supra note 1, at 444.
117. Easterbrook & Fischel, supra note 4, at 276-77.
118. Id. at 277-78.
119. See Margaret M. Blair, Reforming Corporate Governance, 1 BERKELEY BUS. L.J. 1, 33 (2004).
120. See Steven C. Bahls, Resolving Sharehlder Dissension,: Selection of the Appropriate Remedy, 15 J. CORP 285, 293 (1989).
121. See also Sandra K. Miller, What Standards of Conduct Should Apply to Members and Managers of Limited Liability Companies?, 68 ST. JOHN'S L. REV. 21, 69 (1994).
122. See Ribstein, supra note 60, at 548-49 (1997) (discussing the inefficiencies of mandatory duties in the unincorporated firm).
123. See Jonathan D. Glater & Vikas Bajaj, Cuomo Asks Recovery of Bonuses at A.I.G., N.Y. TIMES, Oct. 16, 2008, at B1.
124. See HAWAWINI VIALLET, FINANCE FOR EXECUTIVES 384-38 (2007) (discussing the trade-off between profitability levels expected and the degree of risk presented).
125. Id.
126. Id.
127. See DU PLESSIS ET AL., supra note 89, at 1.2.
128. See BOHM, supra note 20, at 20-21 (discussing the external effects and indicating that the individual decision maker does not take into account how the decision will impact others and that sometimes there are negative or positive external effects that must be considered in developing economic policies).
129. See U.S. Census Data, Table 722, Number of Returns and Business Receipts by Size of Receipts: 2000 to 2004 (including statistics from 2008 U.S. Census Data compiled in U.S. Internal Revenue Services, Statistics of Income Bulletin), available at http://www.census.gov/ compendia/statab/business- enterprises/sole-proprietorships-p artnerships-corporations.html (last visited Sept. 23, 2008).
130. See generally Schorow, supra note 3.
131. AVERY WIENER KATZ, FOUNDATIONS OF THE ECONOMIC APPROACH TO LAW 313 (.1.998).
132. Id.
133. JEAN TIROLE, THE THEORY OF CORPORATE FINANCE 59-60 (2006) (criticizing the stakeholder model).
134. Id.
135. See Velasco, supra note 47, at 412 (2006) (indicating that the right to elect directors and the right to sell shares deserve a great deal of protection under the law).
136. See DU PLESSIS ET AL. supra note 89, at 1.1.8 at 6-7.
137. James W. Fox, Jr., Relational Contract Theory and Democratic Citizenship, 54 CASE W. RES. L. REV. 1, 9-10 (2003) (discussing long-term contracting).
138. See generally Cohen, supra note 1, at 427.
139. See Miller v. American Real Estate Partners, LP, No. 16788,2001 Del. Ch. LEXIS 116, at*36 (Del. Ch. 2001) (presumably referring to the right to regulate the enforcement of a clause in a limited partnership agreement on the basis of public policy).
140. See PAINE, supra note 40, at 203-07.
141. See Eric M. Runnesson & Marie-Lawrence Guy, Mediating Corporate Governance Conflicts and Disputes, http://www.ifc.org/ifcext/cgf. nsf/AttachmentsByTitle/Focus+Mediation/$FILE/Focus4-Mediation-12.pdf (observing the high cost of internal conflict in organizations).
142. See Lisa Chedekel & Lyne Tuohy, No Haven For the Elderly, HARTFORD CURRENT SPECIAL REPORT, NOV. 18, 2007, available at http://www.courant.com/news/ specials/hc-havenl.artnov 18,0,7979487.story (involving an LLC engaged in nursing home care business and documenting patient death from bedsores and malnutrition). This privately owned chain of fifteen nursing homes utilizing the LLC structure was found to have diverted millions of dollars to a country music label in Nashville Tennessee.
143. See also Alison Leigh Cowan, Nursing Home Operator in Connecticut Files for Bankruptcy, N.Y. TIMES, NOV. 22, 2007, available at http://www. nytimes.com/2007/11/22/nyregion/22care. html.
144. Cass R. Sunstein, Law, Economics, Norms: On the Expressive Function of Law, 144 U. PA. L. REV. 2021, 2052-53 (1996) (exploring the interplay between the law and the expression of social values).
145. See PAINE, supra note 40, at 226.
146. William L. Carey, Federalism and Corporate Law, 83 YALE L.J. 663, 705 (1974).
147. Lyman Johnson, Having the Fiduciary Duty Talk: Model Advice for Corporate Officers (and OtherSenior Agents), 63 BUS. LAW. 147, 155 (2007).
148. See also Laura Jankolovits, No Borders. No Boundaries. No Limits.: An Analysis of Corporate Law in the European Union After the Centros Decision, 11 CARDOZO J. INT'L & COMP. L. 973, 999 (2004) (discussing the race to the bottom in the context of the development of corporate law in the European Union).
149. See ROBERT ELLICKSON, ORDER WITHOUT LAW: HOW NEIGHBORS SETTLE DISPUTES 52 (1991) (using the term "shadow of the law").
150. See also Nim Razook, Obeying Common Law, 46 AM. BUS. L.J. 55 (2009).
151. See Razook, supra note 120, at 92-93
152. Meinhard v. Salmon, 164 N.E. 545 (1928).
153. See Anderson, supra note 87, at 2.
154. Donald J. Weidner, Three Policy Decisions Animate Revision of the Uniform Partnership Act, 46 BUS. LAW. 427, 462 (1991).
155. See id.
156. See Wood v. Baum, No. 6212007 (De. 2007), available at http://www.courtalert.com/ chancerypdf/108500.7-1-08.pdf.
157. See generally Cohen, supra note 1, at 427.
158. See Richard H. McAdams, A Focal Point Theory of Expressive Law, 86 VA. L. REV. 1649, 1671-72 (2000).