July 3, 2012

Charlene Hicks, Senior Attorney, National Legal Research Group

Environmentally friendly, "green" products have become embedded in our culture, and the "green" concept now extends to the building construction industry.  Indeed, many localities now mandate that building construction projects conform with specified standards of green construction.  Although virtually no reported court cases on green issues in the building construction context have arisen to date, it seems only a matter of time before a new body of law develops around such issues.

Because the engineering and technology behind green construction is so new, the lack of any documented product history poses thorny problems of risk allocation.  If the green building product does not perform at the desired or expected level, should the ensuing cost be borne by the architect/engineer, the contractor, or the owner?  This dilemma has been explained by one commentator as follows:

With the hyper-growth of [Leadership in Energy and Environmental Design ("LEED")] certifications and laws encouraging green building, the construction industry is flush with new products aimed at cashing in on the sustainable movement.  Manufacturers are putting new products on the market, with limited time for research and virtually no product history of performance.  Go to the Energy Star website, and you will find a link to new products, with this note, "products in more than 50 categories are eligible for the ENERGY STAR.  They use less energy, save money, and help protect the environment."  Architects and engineers who specify such products rely on the manufacturer's data but have no actual experience with the product performance.  So who bears the risk of specifying experimental products?  The client or the design professional?  While permeable paving allows more water to return to the earth, how does it hold up under freeze/thaw cycles?  Who pays to tear up a two-foot thick "green" roof to get access to a leaking roof membrane?  What happens when a "grey water" system does not produce enough water to fixtures, or, worse yet, spreads some virus to those who come in contact with "dirty" water?

G. William Quatman & Paula Vaughan, Legally Green: What Lawyers Need to Know About Sustainable Design (47th Annual Meeting of Invited Attorneys) 163, 170 (2008).

In instances where a green component or building fails to fulfill preconstruction expectations, property owners are likely to pursue negligence or breach-of-contract claims against the architect, engineer, or general contractor.  In anticipation of such claims, all parties involved in the green construction project should carefully negotiate the allocation of future liability during the contract negotiation process.

The Lawletter Vol 36 No 12

Tim Snider, Senior Attorney, National Legal Research Group

[For a different perspective on the Auriga case, infra, see the article by Charlene Hicks in the March Lawletter, entitled A Manager's Fiduciary Duty Under the Delaware LLC Act, 36 Lawletter No. 9.

Although all States have enacted statutes authorizing the creation of limited liability companies ("LLCs") (and in fact a number of States have enacted the Revised Uniform Limited Liability Company Act (2006) or its predecessor, see Larry E. Ribstein, An Analysis of the Revised Uniform Limited Liability Company Act, 3 Va. L. & Bus. Rev. 35 (2008)), there still has not yet been an abundance of reported cases involving the organization, structure, and operation of LLCs.  For example, there is a substantial body of litigation defining the obligation owed by corporate officers and directors to the corporation and to the shareholders.  But there is little reported litigation discussing the correlative duties owed by the manager of an LLC to the other members.

In Auriga Capital Corp. v. Gatz Properties, LLC, No. C.A. 4390-CS, 2012 WL 361677 (Del. Ch. Jan. 27, 2012), an LLC owned the rights to sublease a valuable golf course property to a golf management company.  The controlling interest in the LLC was acquired by the managing member and members of his family.  There came a time when it became apparent that the sublease would not be renewed since the sublessee management company was not operating the property as profitably as it could have done.  The LLC had invested heavily in the property, and it occurred to the managing member that if he could get rid of the unaffiliated members of the LLC, the property could be sold and developed in a lucrative transaction.  The managing member brought some deliberately low-ball bids for the property to the minority members, who rejected them and insisted that the manager attempt to secure better offers for the property.

Frustrated by the refusal of the minority members to play along with his scheme, the managing member orchestrated a sham auction for the property at which he was the only bidder at a distress sale price.  The minority members brought suit for damages, alleging that the managing member had breached the fiduciary duty he owed to the minority members.  The managing member initially denied that he owed any fiduciary duty to the minority, but later he modified his position.  He argued that even if he had breached his fiduciary duty, his actions were taken in good faith and with due care, thus insulating him from liability.  The court was not persuaded by his arguments.

The court initially observed that Delaware's LLC statute authorizes the LLC to disclaim any fiduciary duties owed by the members to each other.  The statute provides that "[i]n any case not provided for in this chapter, the rules of law and equity, including the law merchant, shall govern."  Del. Code Ann. tit. 6, § 18‑1104.  If those duties are not disclaimed by contract, the duties subsist and are applied by default.  The court reasoned that

the statute allows the parties to an LLC agreement to entirely supplant those default principles or to modify them in part. Where the parties have clearly supplanted default principles in full, we give effect to the parties' contract choice.  Where the parties have clearly supplanted default principles in part, we give effect to their contract choice. But, where the core default fiduciary duties have not been supplanted by contract, they exist as the LLC statute itself contemplates.

The Lawletter Vol 36 No 9

Suzanne Bailey, Senior Attorney, National Legal Research Group

The antiretaliation provision of the Fair Labor Standards Act ("FLSA") makes it unlawful

to discharge or in any other manner discriminate against any employee because such employee has filed any complaint or instituted or caused to be instituted any proceeding under or related to this chapter, or has testified or is about to testify in any such proceeding, or has served or is about to serve on an industry committee[.]

29 U.S.C. § 215(a)(3) (emphasis added).  Whether "filed any complaint" includes complaints made to an employer or whether it is limited to complaints brought before an administrative agency or a court has been the subject of much litigation.  In Minor v. Bostwick Laboratories, Inc., No. 10-1258, 2012 WL 251926 (4th Cir. Jan. 27, 2012), the Fourth Circuit Court of Appeals recently joined the majority of circuits that have addressed the issue in holding that intracompany complaints may constitute protected activity within the meaning of § 215(a)(3).  See, e.g.,  Hagan v. Echostar Satellite, LLC, 529 F.3d 617, 626 (5th Cir. 2008); Lambert v. Ackerley, 180 F.3d 997, 1004 (9th Cir. 1999) (en banc); Valerio v. Putnam Assocs., 173 F.3d 35, 43 (1st Cir. 1999); EEOC v. Romeo Cmty. Sch., 976 F.2d 985, 989 (6th Cir. 1992); EEOC v. White & Son Enters., 881 F.2d 1006, 1011 (11th Cir. 1989); Brock v. Richardson, 812 F.2d 121, 124-25 (3d Cir. 1987); Love v. RE/MAX of Am., Inc., 738 F.2d 383, 387 (10th Cir. 1984); Brennan v. Maxey's Yamaha, Inc., 513 F.2d 179, 181 (8th Cir. 1975).

In reaching its conclusion, the Fourth Circuit rejected the employee's argument that the U.S. Supreme Court's decision in Kasten v. Saint‑Gobain Performance Plastics Corp., 131 S. Ct. 1325 (2011), compelled a holding that her intracompany complaint was protected under the FLSA.  The court observed that the sole issue resolved by the Supreme Court in Kasten was whether an oral complaint could be protected activity under the antiretaliation provision of the FLSA; the Court expressly declined to address whether an intracompany complaint could be protected activity.  Likewise, the Fourth Circuit rejected the employer's argument that the court's prior decision in Ball v. Memphis Bar‑B‑Q Co., 228 F.3d 360 (4th Cir. 2000), required a finding that intracompany complaints are not protected activity.  Ball was distinguishable on its own terms because it addressed only the "has testified or is about to testify in any such proceeding" clause of § 215(a)(3), not the "filed any complaint" clause under consideration in Minor.

The Lawletter Vol 36 No 9

Charlene Hicks, Senior Attorney, National Legal Research Group

On January 27, 2012, the Delaware Chancery Court issued a 75-page slip opinion in Auriga Capital Corp. v. Gatz Properties, LLC, No. C.A. 4390-CS, 2012 WL 361677 (Del. Ch. Jan. 27, 2012) (slip op.), which holds that managers of Delaware limited liability companies ("LLCs") owe fiduciary duties of loyalty and care to their investors unless an express contractual provision exists that waives or modifies those duties.  The opinion is notable for the broad and comprehensive scope of the court's analysis of the Delaware LLC Act and its application to common-law principles of fiduciary duty.

The facts of Auriga Capital Corp. involved various egregious acts committed by Gatz, the majority owner and manager of a Delaware LLC, against the minority members of the company.  Gatz had entered into a long-term lease with a management company to manage the golf course owned by the LLC.  The management company managed the golf course poorly, and Gatz soon saw that an opportunity would present itself for him to both buy back the property at a bargain price and simultaneously squeeze out the minority investors.  Gatz then exercised his management powers within the LLC in a manner that ultimately resulted in an auction in which he was the only bidder and in which the same counsel represented him in his dual capacities as both manager of the LLC and auction bidder.

In its analysis, the court first noted that the Delaware LLC Act, like the Delaware General Corporations Law ("DGCL"), does not plainly state that traditional fiduciary duties of loyalty and care apply by default to LLC managers or members.  Id. at *8.  However, section 18-1104 of the LLC Act does state that "[i]n any case not provided for in this chapter, the rules of law and equity . . . shall govern."  Del. Code Ann. tit. 6, ' 18-1104.  Under traditional principles of equity, an LLC manager "would qualify as a fiduciary of that LLC and its members."  2012 WL 361677, at *8.  As a result, the court ruled that "the LLC Act starts with the default that managers of the LLCs owe enforceable fiduciary duties."  Id.  The court then conducted an extensive review of the history and statutory construction of the LLC Act and determined that the interpretation of the Act as imposing fiduciary duties on LLC managers by default "is confirmed by the Act's own history."  Id. at *9.

Although the LLC Act incorporates by default equitable principles, including fiduciary duty, the court emphasized that the statute also permits the parties to an LLC agreement "to entirely supplant those default principles or to modify them in part."  Id. at *9 & n.50.  If the LLC Agreement "clearly supplant[s] default principles in full," Delaware courts will give effect to the express contractual language.  Id. at *9 & n.52.

The court then cautioned that the implied covenant of good faith and fair dealing should not be confused with, or used as a replacement for, the principle of fiduciary duty.  "If, rather than well thought out fiduciary duty principles, the implied covenant is to be used as the sole default principle of equity, then the risk is that the certainty of contract law will itself be undermined."  Id. at *10.  This, in turn, would provide "room for subjective judicial oversight" and would therefore "inject unpredictability into both equity and contract law."  Id.  Moreover, "a judicial eradication of the explicit equity overlay in the LLC Act could tend to erode [Delaware's] credibility with investors in Delaware entities."  Id.

Under the LLC Agreement at issue in the case, Gatz had a fiduciary duty to manage the business loyally for the benefit of the company's members.  An affirmative aspect of the fiduciary duty of loyalty requires the fiduciary to take affirmative steps to protect the interests of the company committed to his charge.  A reasonable fiduciary in Gatz's position would have immediately searched for a replacement management company, assessed whether the LLC could operate the golf course profitably itself, or looked for a buyer to acquire the golf course or its assets.  Under the circumstances, Gatz's inaction amounted to a breach of fiduciary duty.

March 27, 2012

Charlene Hicks, Senior Attorney, National Legal Research Group

The always thorny topic of mandatory arbitration provisions in consumer sales contracts has recently developed a new layer of legal complexity.  Prior to July 2009, many businesses routinely inserted into their consumer sales contracts arbitration clauses that required consumers' complaints to be resolved through binding arbitration administered exclusively by the National Arbitration Forum ("NAF").  At that time, the NAF was the largest administrator of consumer arbitrations in the United States.  A 2009 investigation of the NAF conducted by the Minnesota Attorney General, however, revealed that the supposedly neutral body of the NAF actually held a strong anticonsumer bias.  See Arbitration or "Arbitrary":  The Misuse of Mandatory Arbitration to Collect Consumer Debts:  Hearing Before the H. Domestic Policy Subcomm. of Comm. on Oversight & Gov't Reform, 111th Cong. 3-5 (July 22, 2009).  The NAF routinely "represented to corporations that it would appoint anti-consumer arbitrators and discontinue referrals to arbitrators who decided cases in favor of consumers."  Khan v. Dell, Inc., No. 10-3655, 2012 WL 163899, at *8 (3d Cir. filed Jan. 20, 2012) (Sloviter, J., dissenting).  The NAF's "various deceptive practices" had the effect of unfairly disadvantaging consumers in the arbitral forum.  Id. at *2 (majority opinion).  As a result of the Minnesota Attorney General's investigation, the NAF entered into a consent judgment wherein it agreed to cease administering and participating in all consumer arbitrations.

Because the NAF is no longer available to serve as an arbitral forum in consumer disputes, consumers in recent cases have moved the courts for orders setting aside mandatory arbitration clauses that name the NAF as the exclusive arbitrator of the consumers' complaints.  Courts confronted with this issue have reached differing conclusions as to whether the unavailability of the NAF to serve as arbitrator of consumer-related disputes renders the entire arbitration clause unenforceable.

The current, unsettled status of the law in this regard was well documented by the Third Circuit Court of Appeals in Khan.  In that case, Khan, a consumer, filed a putative class action on behalf of himself and other similarly situated purchasers and lessees of a certain Dell computer model that he claimed had been defectively designed.  Khan purchased his computer for $1,200 directly from Dell's website.  To complete the purchase, Khan was required to click a box that stated:  "I AGREE to Dell's Terms and Conditions of Sale."  Id. at *1.  The Terms and Conditions of Sale contained an arbitration clause that provided that any claim or dispute between the parties relating to the computer purchase

SHALL BE RESOLVED EXCLUSIVELY AND FINALLY BY BINDING ARBITRATION ADMINISTERED BY THE NATIONAL ARBITRATION FORUM (NAF) under its Code of Procedure then in effect. . . . This transaction involves interstate commerce, and this provision shall be governed by the Federal Arbitration Act[,] 9 U.S.C. sec. 1B16 (FAA).

Id. (citation omitted).

At the time Khan filed his lawsuit, the consent judgment entered into by the NAF barred the NAF from arbitrating Khan's complaint.  Even so, Dell moved to compel arbitration on the ground that the arbitration provision in the sales contract was binding and covered all of Khan's claims.  Khan objected by arguing that the arbitration provision was unenforceable because the NAF was no longer permitted to conduct consumer arbitrations, and that the NAF's designation as the arbitral forum was integral to the arbitration provision.  Id.

Finding that the contract language indicated that the parties had intended to arbitrate exclusively before a particular arbitrator that was no longer available, the district court denied Dell's motion to compel.  Id.  In addition, the district court refused to appoint a substitute arbitrator, finding that it could not compel the parties to submit to an arbitral forum to which they had not agreed.  Id.

The Lawletter Vol 36 No 6

Brad Pettit, Senior Attorney, National Legal Research Group

A recent advisory issued by the Chief Counsel's Office of the Internal Revenue Service ("IRS") sets forth the IRS's position on the procedures that its agents must follow in order to obtain a taxpayer's e-mails from his or her Internet service provider ("ISP").  In I.R.S. Chief Counsel Advisory ("I.R.S. C.C.A.") 2011-41-017 (July 8, 2011), the IRS interpreted provisions of the Internal Revenue Code relating to examination of a taxpayer's records, the Stored Communications Act ("SCA"), and a decision by the U.S. Court of Appeals for the Sixth Circuit, and concluded that there are certain restrictions on the ability of an IRS agent to issue a summons to a taxpayer's ISP, seeking the contents of a taxpayer's electronic communications.

The Internal Revenue Code provides that

For the purpose of ascertaining the correctness of any return, making a return where none has  been made, [or] determining the liability of  any person for  any internal revenue tax . . . , the Secretary [of the Treasury] is authorized—

(1)        To examine any books, papers, records, or other data which may be relevant or material to such inquiry;

(2)        To summon the person liable for tax or required to perform the act, or any officer or employee of such person, or any person having possession, custody, or care of books of account containing entries relating to the business of the person liable for tax or required to perform the act, or any other person the Secretary may deem proper, to appear before the Secretary at a time and place named in the summons and to produce such books, papers, records, or other data, and to give such testimony, under oath, as may be relevant or material to such inquiry[.]

 I.R.C. § 7602(a)(1)–(2).  The federal SCA states that

[a] governmental entity may require the disclosure by a provider of electronic communication service of the contents of a wire or electronic communication, that is in electronic storage in an electronic communications system for one hundred and eighty [180] days or less, only pursuant to a warrant issued using the procedures described in the Federal Rules of Criminal Procedure (or, in the case of a State court, issued using State warrant procedures) by a court of competent jurisdiction.

December 6, 2011

Charlene Hicks, Senior Attorney, National Legal Research Group

The Lawletter Vol 36 No 4

Tim Snider, Senior Attorney, National Legal Research Group

The Supreme Court recently rendered a decision that may rival the impact of Northern Pipeline Construction Co. v. Marathon Pipe Line Co., 458 U.S. 50 (1982), which had declared aspects of the then newly enacted Bankruptcy Code unconstitutional.  In Stern v. Marshall, 131 S. Ct. 2594 (2011), the notorious Anna Nicole Smith ("Vickie") had married tycoon J. Howard Marshall II, Pierce Marshall's father, approximately one year before the former's death.  Shortly before J. Howard died, Vickie had filed a suit against Pierce in Texas state court, asserting that J. Howard had meant to provide for Vickie through a trust and that Pierce had tortiously interfered with that gift.  After J. Howard died, Vickie filed for bankruptcy in federal court.  Pierce filed a proof of claim in that proceeding, asserting that he should be able to recover damages from Vickie's bankruptcy estate because Vickie had defamed him by inducing her lawyers to tell the press that he had engaged in fraud in controlling his father's assets.  Vickie responded by filing a counterclaim for tortious interference with the gift she had expected from J. Howard.

The bankruptcy court granted Vickie's motion for summary judgment on the defamation claim and eventually awarded her hundreds of millions of dollars in damages on her counterclaim.  Pierce objected that the bankruptcy court lacked jurisdiction to enter a final judgment on that counterclaim because it was not a "core proceeding" as defined by 28 U.S.C. § 157(b)(2)(C).  As set forth in § 157(a), Congress has divided bankruptcy proceedings into three categories:  those that "aris[e] under title 11"; those that "aris[e] in" a Title 11 case; and those that are "related to a case under title 11."  District courts may refer all such proceedings to the bankruptcy judges of their district, 28 U.S.C. § 157(a), and bankruptcy courts may enter final judgments in "all core proceedings arising under title 11, or arising in a case under title 11," id. § 157(b)(1).  In noncore proceedings, by contrast, a bankruptcy judge may only "submit proposed findings of fact and conclusions of law to the district court."  Id. § 157(c)(1).  Section 157(b)(2) lists 16 categories of core proceedings, including "counterclaims by the estate against persons filing claims against the estate."  Id. § 157(b)(2)(C).

The bankruptcy court held that the counterclaim was a core proceeding, but the district court reversed, concluding that to hold all counterclaims to be core proceedings would be unconstitutional under Northern Pipeline.  The court of appeals vacated the district court's judgment, concluding that because the subject matter of the counterclaim was not so closely related to the underlying core proceeding, the bankruptcy court should not have entertained it but instead should have given the Texas state court judgment preclusive effect.  The Supreme Court affirmed, but on different grounds.  The Chief Justice, writing for a 5-4 majority, concluded that while § 157(b)(2)(C) permitted the bankruptcy court to entertain the counterclaim, Article III of the Constitution does not.

May 25, 2010

Charlene Hicks, Senior Attorney, National Legal Research Group

Most ordinary citizens who enter into written contracts with the federal Government take for granted the fact that such agreements are valid and enforceable.  Horn v. United States, No. 07-655 C, 2011 WL 1663598 (Fed. Cl. May 3, 2011), however, sounds a resounding warning against such blithe assumptions.

Jullie Horn is a dental hygienist who entered into a written contract with the U.S. Federal Bureau of Prisons (the "BoP") in 2005 to provide dental hygiene services at an Illinois federal prison.  The contract stated that Horn would provide a maximum of 1,560 one-hour dental hygiene sessions over the term of the agreement, at the unit price of $32 per session.  Horn was awarded the contract for the fixed price of $49,920.

In accordance with Federal Acquisition Regulations ("FAR") 52.216-21, the contract specifically designated itself as a requirements contract and stated that the "quantities of supplies or services specified in the Schedule are estimates only."  2011 WL 1663598, at *1.  The agreement further provided that if the Government's requirements did not result in orders equivalent to the maximum number of sessions in the Schedule, "that fact shall not constitute the basis for an equitable price adjustment."  Id.