Page 33

Birmingham Bar Association Bulletin - Fall 2014

tain activities that would not be deemed a breach of the duty of loyalty.11 Considering the amount of LLC litigation that has been based on the alleged breach of fiduciary duties, permitting the elimination of those duties may also eliminate a large area of litigation. New Standard of “Good Faith and Fair Dealing” While fiduciary duties may be eliminated, the “implied contractual covenant of good faith and fair dealing may not be eliminated.”12 The company agreement “may not limit or eliminate liability for any act or omission that constitutes a bad faith violation of the implied contractual covenant of good faith and fair dealing.”13 Historically, Alabama law has not recognized a claim for “bad faith” outside of the insured/insurer context. In other contexts, the Alabama Supreme Court has rejected claims of “bad faith” based on a statutory duty of good faith.14 It should be clear that the 2014 Act intends to provide an LLC member with a cause of action for breach of the duty of good faith and fair dealing. The extent to which this will be recognized and given effect by the Alabama courts remains to be seen, however. It should be noted that this section of the 2014 Act is derived from Delaware law. In contrast to Alabama, Delaware’s common law has long recognized a cause of action for breach of the implied duty of good faith.15  The general rule in Delaware is that “The implied covenant of good faith and fair dealing inheres in every contract governed by Delaware law and requires a party in a contractual relationship to refrain from arbitrary or unreasonable conduct which has the effect of preventing the other party to the contract from receiving the fruits of the bargain.”16 As one would expect, there is a great deal of Delaware case law further defining the law, but that is the general rule.  Some additional rules:17 The implied covenant of good faith and fair dealing applies even where the contract allows a party to exercise discretion. A party may breach the implied covenant of good faith and fair dealing without violating an express term of the contract. The implied covenant of good faith and fair dealing is designed to protect the spirit of an agreement when, without violating an express term of the agreement, one side uses oppressive or underhanded tactics to deny the other side the fruits of the parties’ bargain. Thus, if the Alabama courts will look to Delaware for guidance (as is the ALI Committee’s intent), then the 2014 Act will provide these general protections for the LLC member. Penalties Against Non-Performing Members Elimination of “Breach of Contract” Liability Under the 2014 Act, the company agreement may eliminate “any and all liabilities for breach of contract” of a member to the company or to another member.18 If the LLC is intended to be a creature of contract, and if the company agreement is to be the contract, then this change may mean that the company agreement can essentially be rendered meaningless. A member may breach the company agreement—and any other internal contract—without liability. Presumably, this would include not only the company agreement but also other contracts between members (e.g., loan agreements, buy-sell agreements), and even employment contracts between the LLC and a member or manager. There are many situations where the LLC may need to contract with a member or members with each other, and this change Alabama LLC Act could have the effect of nullifying them. The only liability that cannot be eliminated is “a bad faith violation of the implied contractual covenant of good faith and fair dealing.” There are times that the company agreement may require a member to perform. For example, a member may be expected to make an additional capital contribution in response to a capital call. Under the 2014 Act, the company agreement may provide certain penalties for a member who fails to perform in accordance with, or fails to comply with, the terms and conditions of the company agreement.19 The penalties may include—without limitation—reducing, eliminating, subordinating, selling, and/or forfeiting the defaulting member’s ownership interest.20 Historically, a “squeeze out” from a business entity has been cause for complaint.21 Now it may be permitted by the company agreement. Liability for Member’s Wrongful Dissociation Borrowing terminology from partnership law, an LLC member now has the power to “dissociate,” or cease to be a member.22 The member’s dissociation may be “wrongful” if is in breach of the company agreement and under certain other circumstances.23 If the dissociation is wrongful, then the dissociated member may be liable for damages to the LLC and possibly also to the other members.24 Member’s Power to Bind the Company A member may bind the LLC in three circumstances: (1) when authorized by the company agreement; (2) by consent Birmingham Bar Bulletin/ Fall 2014 33


Birmingham Bar Association Bulletin - Fall 2014
To see the actual publication please follow the link above