When a Connecticut LLC filed suit to collect rent from its tenant, the tenant defended on grounds that the LLC members who approved the lawsuit owned only 50% of the LLC and therefore lacked the requisite majority vote. The LLC riposted that under the Connecticut LLC Act, the vote of its member who voted against the lawsuit had to be disregarded because her husband owned 20% of the tenant, and the Connecticut Supreme Court agreed. 418 Meadow St. Assocs., LLC v. Clean Air Partners, LLC, 43 A.3d 607 (Conn. 2012).
Background. State LLC statutes differ on how and to what extent members may bring lawsuits on behalf of LLCs. Some states allow derivative suits, in which one member can bring a suit on behalf of the LLC, subject to a number of restrictions. E.g. Delaware, Washington, and Illinois. The restrictions on LLC derivative suits are similar to those imposed on corporations. For example, the member must have been a member at the time of the alleged wrongdoing and at the time of filing the derivative suit, the member must make a prior demand of the LLC’s management (unless excused because it would be futile), and disinterested members or management may later terminate the suit.
Connecticut takes a different tack. Members holding a majority interest in an LLC may authorize a lawsuit on behalf of the LLC, whether or not the LLC is manager managed, unless the LLC’s operating agreement provides otherwise. Conn. Gen. Stat. § 34-187. Other states with similar provisions include Massachusetts and Wisconsin.
Connecticut’s section 34-187 and the other similar state LLC acts appear to have been based on Section 1102 of the Prototype Limited Liability Company Act (the “Prototype”), which was published in 1992 by the American Bar Association’s Committee on LLCs, Partnerships and Unincorporated Entities. The Prototype is reproduced at 3 Larry E. Ribstein & Robert R. Keatinge, Ribstein and Keatinge on Limited Liability Companies, App. C (2d ed. 2012). The Prototype’s comment to Section 1102 discusses the differences between the derivative suit approach and Section 1102’s approach, and makes clear that Section 1102 replaces the derivative action.
Section 34-187 addresses conflicts of interest among the members when voting to approve a lawsuit. In determining the member vote on a lawsuit, the vote of any member “who has an interest in the outcome of the suit that is adverse to the interest of the limited liability company” is excluded. The Prototype’s comment to Section 1102 makes clear that interested members are excluded both as votes and in determining the number of votes necessary for a majority. Without the exclusion, a member that is or has an interest in the prospective defendant could vote against and block the LLC’s lawsuit.
An article published earlier this year examines (i) how the states that have adopted the Prototype’s Section 1102 have resolved member disputes, (ii) the differences between derivative suits and the direct suit approach of Section 1102, and (iii) the recommendations for member suits in the ABA’s Revised Prototype Limited Liability Company Act. James R. Burkhard, Resolving LLC Member Disputes in Connecticut, Massachusetts, Pennsylvania, Wisconsin, and the Other States that Enacted the Prototype LLC Act, 67 Bus. Law. 405 (2012). I wrote about the ABA’s publication last year of the Revised Prototype LLC Act, here.
The Lawsuit. Barbara Levine owned 50% of 418 Meadow Associates, LLC (Meadow), and Michael Weinshel and Mark Wynnick owned the other 50%. Meadow leased office space to Clean Air Partners, LLC (Clean Air).
A dispute arose between Meadow and Clean Air over the lease, and Weinshel and Wynnick brought suit in Meadow’s name to enforce the lease and collect rent from Clean Air. Barbara Levine’s husband, Steven Levine, owned 20% of Clean Air, however, and Barbara Levine objected to the lawsuit and did not vote to bring the action.
Clean Air defended the suit by claiming that Meadow lacked standing because member approval of the suit by majority vote was necessary, and Weinshel and Wynnick held only 50% of the member interest in Meadow and therefore lacked a majority. Meadow countered that Barbara Levine had an interest in the outcome of the lawsuit that was adverse to the LLC’s interest, because of her husband’s part ownership of Clean Air.
The trial court found that Barbara Levine’s indirect interest in Clean Air, through her husband’s part ownership of Clean Air, was insufficient to disqualify her as a voting member. With Barbara Levine voting against the lawsuit, the votes of Weinshel and Wynnick did not form a majority. The trial court therefore found that Meadow lacked standing and gave judgment for Clean Air. The Appellate Court affirmed and the Supreme Court accepted review.
The court began with the language of the statute, pointing out that “adverse interest” is not defined in Section 34-187 or elsewhere in the Connecticut LLC Act, and that therefore it should be construed according to its common usage. After reviewing a number of definitions, the court concluded that adverse interest should be construed broadly:
Simply put, the term “adverse” in § 34-187(b) encompasses any interest of a member that is contrary or opposed to the limited liability company’s interest in the outcome of the litigation. We therefore conclude, contrary to the trial court, that the statute’s application is not limited to circumstances in which a member’s adverse interest is a proprietary one.
43 A.3d. at 616.
The court therefore ruled that when LLC members desire to approve a lawsuit by the LLC and a spouse of one of the members is part owner of or maintains a position of control in a defendant company, then that member is considered to have an interest in the outcome of the suit that is adverse to the LLC’s interest and that member’s vote will be excluded. Id. The court viewed its broad interpretation of “adverse interest” as consistent with the overall approach of the LLC Act, which provides default rules for LLC governance but allows the members to depart from those rules in their operating agreement. Members desiring a different rule for initiating a lawsuit can specify that in the LLC’s operating agreement.
The decisions of the trial court and the Appellate Court were reversed and the case was remanded for further proceedings.
Comment. The members’ resort to Section 34-187 in 418 Meadow Street is unusual because the dispute did not involve a claim by one member against another member or manager. Most LLC lawsuits that are brought as derivative suits or as member-initiated direct actions (e.g., under Connecticut’s Section 34-187) involve disputes between members over breaches of fiduciary duty or breaches of the LLC’s operating agreement. Here the dispute was between the LLC and its tenant, and had it not been for one member’s spouse being part owner of the tenant it presumably would have been a routine business decision for the LLC to file suit to recover unpaid rent.