In
their oversight of the business and affairs of a Virginia limited liability
company, “managers” of “manager-managed” Virginia limited liability companies
and members of “member-managed” Virginia limited liability companies
functioning as “managers”[i]
owe the limited liability company a fiduciary Duty of Care which
requires that the managers perform their oversight duties in good faith and in
a reasonably prudent manner.
Although
there is some uncertainty as to whether managers owe any fiduciary duties to creditors,
the Supreme Court of Virginia has intimated that a fiduciary duty may be
owed to creditors in the case of “self-dealing” transactions between a limited liability
company and its managers where the limited liability company is
rendered “insolvent.”
The Bottom Line: To
fulfill their fiduciary Duty of Care owed to the limited liability
company and to fulfill any fiduciary duty that might be
owed to creditors, managers of “financially distressed” Virginia limited
liability companies should: rely upon “opinions, reports and statements” of employees
and “statutorily sanctioned” experts; ensure that any “self-dealing”
transactions between the managers and the limited liability company do not
render the limited liability company “insolvent;” and maintain all materials provided
by experts and ensure that all consents and minutes of managers’ meetings are detailed
and accurate.
The Duty
of Care, a common law construct, requires that managers perform their
oversight duties in good faith and in a reasonably prudent manner. The Virginia Limited Liability Company Act
(VLLCA) sets forth a threshold test for the Duty of Care, stating
that “a manager shall discharge his or its duties as a manager in accordance
with the manager’s good faith business judgment of the best interests of the
limited liability company.”[ii]
The VLLCA
expressly provides that, in making business judgments, a manager may rely upon “opinions, reports and statements” of employees of the limited
liability company, legal counsel and public accountants unless the manager has
knowledge or information that makes such reliance unwarranted.[iii]
While
directors and officers of corporations organized pursuant to the Virginia
Stock Corporation Act owe the corporation and its shareholders a Duty of
Loyalty which prohibits directors and officers from benefiting personally
at the expense of the corporation (through, for example, “self-dealing”
transactions between the director or officer and the corporation or the
usurpation by a director or officer of “business opportunities” that may have
benefited the corporation), it would appear that managers of limited
liability companies organized pursuant to the VLLCA do not owe a similar Duty
of Loyalty to the limited liability company that they serve.[iv]
In
response, many attorneys will insert provisions into the Operating Agreement
between members of a Virginia limited liability company requiring that all
“self-dealing” transactions between a manager and the limited liability company
be approved by a majority of the “disinterested members” of the limited liability
company and further requiring that all “business opportunities” that might
benefit the limited liability company be offered first to the limited liability
company and/or be “disclaimed” by a majority of the “disinterested
members.”
Proceedings
against managers for purported breaches of the Duty of Care may be
brought by the members on behalf of, and in the name of, the limited liability
company. The provisions of the VLLCA
governing so called “derivative proceedings” explicitly limit the right to
initiate such proceedings to “members.”[v]
Although
creditors of insolvent Virginia limited liability companies do not have the
right to initiate “derivative proceedings,” the Supreme Court of Virginia intimated
in its 2009 decision in Luria v. Board of Directors of Westbriar Condominium
Owners Association that creditors of Virginia limited liability
companies may enjoy a direct right of action against managers for breach of
fiduciary duty where the managers have approved distributions of funds from a
limited liability company to themselves, rendering the limited liability
company “insolvent.”[vi]
How
should managers of “financially distressed” Virginia limited liability
companies proceed to ensure that they fulfill their fiduciary Duty of Care
owed to the limited liability company and minimize the risk of creditors
bringing an action for breach of any fiduciary duty that may be owed to them? The first step for such managers should be the
engagement of legal counsel.
With
the assistance of legal counsel, the managers should then undertake a
comprehensive review of: the VLLCA; the limited liability company’s Articles
of Organization, Operating Agreement and the consents and resolutions of the
members; any “stand-alone” Indemnification Agreements; and any applicable “D&O”
insurance policies, in each case with the goal of understanding the scope of
potential liability for such managers and the circumstances under which such managers
may have a right of indemnification and/or expense advancement. If necessary,
additional “D&O” insurance coverage should be arranged, provisions of
applicable documents pertaining to indemnification and/or expense advancement
should be revised and “stand-alone” Indemnification Agreements should be
entered into.
Although
the precise course of conduct recommended to be taken by the managers of a
“financially distressed” Virginia limited liability company will depend upon
the specific circumstances of each such limited liability company, as a general
matter, such managers should:
·
Rely Upon “Statutorily Sanctioned” Experts. Rely upon “opinions, reports and statements”
of employees of the limited liability company, legal counsel, public
accountants and other persons specified by the VLLCA.
·
Thoroughly Scrutinize “Self-Dealing” Transactions. Exercise extreme care with, and thoroughly
scrutinize, all “self-dealing” transactions with the limited liability
company. Consult with employees of the limited
liability company and retain public accountants and/or appraisers to ensure
that no distributions from the limited liability company to the managers render
the limited liability company “insolvent.”
·
Maintain Detailed Records. Maintain copies of all “opinions, reports and
statements” of employees, legal counsel, public accountants, appraisers and
other experts relied upon and, where the limited liability company has more
than one manager, maintain detailed consents and minutes of all meetings of the
managers including complete and accurate summaries of all matters considered.
Faithful
adherence to the foregoing should significantly enhance the position of the managers
of “financially distressed” Virginia limited liability companies in arguing
that such managers have fulfilled their fiduciary Duty of Care owed to
the limited liability company and have fulfilled any fiduciary
duty that might be owed to creditors.
* *
*
Should
you have any questions regarding the contents of this Client Note, please
contact Steven G. Thompson by e-mail at sthompson@sgthompsonlaw.com or by telephone
at (757) 253-5711 (Office) or (917) 817-2720 (Mobile).
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