In the case of Coughlin v. South Canaan Cellular Investments, LLC, C.A. No. 7202-VCL (Del. Ch. July 6, 2012), Respondents made a request for fee shifting under the bad-faith exception to the American Rule. In reviewing this fee shifting request, the Court found that Respondents’ request itself was unfounded, and coupled with Respondents’ own conduct in the case, instead awarded Petitioner his fees in costs in the amount of $17,906.
Petitioner Frank M. Coughlin, a member of respondents South Canaan Cellular Investments, LLC and South Canaan Cellular Equity, LLC (together, the “South Canaan LLCs”), filed a petition seeking dissolution of the LLCs. Under Section 5.1 of both operating agreements, filing a voluntary bankruptcy petition constitutes an event of dissolution. On January 25, 2009, each LLC filed a voluntary bankruptcy petition. Coughlin sought a declaration that the South Canaan LLCs had dissolved in accordance with the terms of their operating agreements.
The South Canaan LLCs opposed the petition, and moved for judgment on the pleadings. In their briefs, they accepted that they were in the winding up process, but continued to dispute that they had dissolved, despite the clear language of the operating agreements of these entities providing that a voluntary bankruptcy petition constitutes an event of dissolution. In their reply brief, the South Canaan LLCs requested fee shifting under the bad faith exception to the American Rule, arguing that Coughlin lacked a good faith basis for pursuing the petition for dissolution.
The Court provided that Delaware follows the American Rule, which generally requires that, regardless of the outcome of litigation, each party is responsible for paying his or her own attorneys’ fees. The bad faith exception to the American Rule applies in cases where the court finds litigation to have been brought in bad faith or finds that a party conducted the litigation process itself in bad faith, thereby unjustifiably increasing the costs of litigation.” Beck v. Atl. Coast PLC, 868 A.2d 840, 850-51 (Del. Ch. 2005). A trial court may grant a bad faith fee award during the pendency of ongoing litigation “as a sanction for making frivolous legal arguments or engaging in bad-faith litigation tactics.”
The Court further provided that:
‘[L]awyers should think twice, three times, four times, perhaps more before seeking Rule 11 sanctions or moving for fees under the bad faith exception. . . . These types of motions are inflammatory.’ An unwarranted motion for fee shifting under the bad faith exception can itself justify a finding of bad faith and fee shifting.
The Court found that the refusal of the South Canaan LLCs to acknowledge the fact of their dissolution forced Coughlin and the Court to expend resources on unnecessary litigation. The South Canaan LLCs exacerbated the situation by seeking a bad faith fee award in their reply brief, and held that such unfounded and ill-timed request was itself made in bad faith. Coughlin not only had a good faith basis for seeking a determination that the South Canaan LLCs were dissolved, but was entitled to such a determination as a matter of law under the plain terms of the operating agreements.
This decision is notable in that it demonstrates the potential for a party, which needlessly creates excess litigation by failing to stipulate to obvious facts, and then makes an unfounded request for a fee shifting award, to be held in bad faith for such conduct and subject to fees and costs. Here, the Respondents’ decision to stipulate to an obvious fact—the acknowledgment of their dissolution—coupled with an unfounded fee request, ultimately backfired and proved costly.