Woe unto the corporate counsel who gets caught in the crossfire of a nasty shareholder dispute.
Efforts to disqualify or even sue outside corporate counsel are not unusual when the opportunity presents itself in a corporate dissolution proceeding or other internal feud. (Read here my recent post on disqualification cases.) A critical, threshold question is whether the lawyer or law firm represents only the company or its principals as well. The answer determines to whom the lawyer owes a duty that might give rise to a conflict or an actionable breach.
In the realm of the closely held business entity, the general rule is that a lawyer’s representation of the company does not make him or her a lawyer for the company’s owners, managers or employees. The rule usually plays out in the setting of an application to disqualify company counsel based on alleged conflicting representation in a lawsuit amongst the company and a present or former owner, manager, etc., and it usually is found to prevail unless the lawyer expressly assumed an affirmative duty to represent the individual along with the company. A recent example of the rule’s application is Monroe County Commercial Division Justice Kenneth R. Fisher’s scholarly opinion denying a motion to disqualify company counsel in Bonn, Dioguardi & Ray, LLP v. ThomasYork, LLP, Dec. & Order, Index No. 2010/15130 (Sup. Ct. Monroe County Feb. 16, 2011).
The entity theory of representation, however, does not insulate corporate counsel against shareholder claims for alleged misconduct that lies outside the usual bounds of the attorney-client relationship. Take, for instance, the case of Aranki v. Goldman & Associates, LLP, 2011 NY Slip Op 30789(U) (Sup. Ct. Nassau County Mar. 22, 2011), a six-year litigation saga recently ended with a summary judgment of dismissal. Along the way, however, an appellate court reinstated claims against the law firm for “colluding” with the company’s majority members to squeeze out the minority member of a limited liability company and for aiding and abetting a breach of fiduciary duty by the majority members.
The subject company in Aranki, called Millenium Alliance Group, LLC (“MAG”), was formed in 1998 as a joint venture between two existing insurance agencies and their owners. Plaintiff Fahmi Aranki and his agency held a combined 45% membership interest in MAG. Within a few years Aranki’s relationship with the other members deteriorated as MAG’s business prospects worsened, with each side accusing the other of financial improprieties. In 2003, the majority caused MAG to bring suit against Aranki and his separate agency for conversion, breach of fiduciary duty and a number of other claims. Aranki asserted mirror counterclaims against MAG and its controlling members. (Read here a more detailed description of the underlying facts and claims set forth in an August 2003 decision by Justice Leonard B. Austin, who now serves as an Associate Justice of the Appellate Division, Second Department, in which he denied dueling preliminary injunction motions.)
In May 2004, the parties reached a settlement of the litigation involving a buyout of Aranki’s interest in MAG on undisclosed terms. The settlement, however, merely pulled down the curtain on Act One. Act Two began in March 2005, when Aranki filed a new lawsuit against MAG’s outside general counsel and his law firm essentially alleging that the law firm had taken an improper partisan role on behalf of the majority against the minority, and asserting claims for malpractice, fraud, breach of fiduciary duty and breach of contract. Aranki’s complaint alleged, among other things, that the law firm improperly advised MAG’s Board to bring a baseless lawsuit (the 2003 action) against Aranki for theft of company property, and engaged in other collusive conduct with the majority designed to weaken Aranki financially and, ultimately, to force him to surrender his interest in MAG at a below-market price.
In September 2005, the trial court granted the law firm’s pre-answer motion to dismiss Aranki’s complaint in its entirety (read here). The court held that, as the attorney for the entity MAG, the law firm breached no duty owed to Aranki as minority member.
Aranki appealed. In a November 2006 decision reported at 34 AD3d 510, the appellate court reinstated two of Aranki’s four claims, for malpractice and aiding and abetting breach of fiduciary duty, stating as follows (citations are omitted):
Although the complaint “fails to plead specific facts from which the existence of an attorney-client relationship, privity, or a relationship that otherwise closely resembles privity between the plaintiff [s] and [the defendants] may be inferred,” the complaint in this case sets forth in sufficient detail facts which, if proven, would show that the defendants colluded with the majority members of Millennium Alliance Group, LLC (hereinafter MAG), inter alia, to freeze the plaintiffs out of MAG’s management and profit sharing and force them to surrender, at a reduced price, their minority membership interest in MAG. Such allegations fall within the narrow exception of “fraud, collusion, malicious acts or other special circumstances” under which a cause of action alleging attorney malpractice may be asserted absent a showing of actual or near-privity.
Similarly, although the complaint fails to plead facts sufficient to establish that the defendants breached any fiduciary duty owed to the plaintiff, it does make out a cause of action against the defendants alleging aiding and abetting a breach of fiduciary duty by the majority members of MAG .
After a four-year lapse during which the parties engaged in pre-trial discovery, in December 2010 the law firm moved for summary judgment dismissing the remaining two claims. The decision last month granting the motion, by Nassau County Acting Supreme Court Justice Denise L. Sher, recounts key deposition testimony and evidence relied on by the parties, including Aranki’s admission that although the law firm “would, on occasion, advise a course of conduct, it was left to [MAG’s] Board of Managers to decide on whether to follow [its] advice.” Based on this and other evidence Justice Sher concludes that:
Plaintiffs have failed to provide any admissible evidence establishing any conduct on the part of the defendants that was atypical for a corporate counsel and have failed to offer any expert testimony to establish the standard practices of a corporate attorney or explain how Goldman’s giving of legal advice to MAG allegedly deviated from these norms.
Concerning the 2003 lawsuit against Aranki initiated by MAG allegedly upon the law firm’s advice, the Court observes:
Moreover, the fact that principals of MAG, including the plaintiffs, entered into a global settlement ending the litigation between themselves demonstrates that the lawsuit was commenced in good faith and not frivolous.
Justice Sher also cites the 2004 “global” settlement in rejecting Aranki’s claim against the law firm for aiding and abetting breach of fiduciary duty by the majority members. The settlement agreement contains a fairly standard provision in which all parties acknowledge that the agreement “is not to be construed as an admission of liability on the part of any of the parties, and each party in fact denies any wrongdoing or liability to the other.” Here’s what Justice Sher says about the provision:
Plaintiffs were represented by independent counsel of their own choosing when they voluntarily executed the stipulation acknowledging no admission of liability by any of the parties. Each party denied wrongdoing (such as breach of fiduciary duty) toward the others. If the plaintiffs did not want to execute the stipulation acknowledging that [the majority members] were not responsible or liable for any wrongdoing toward the plaintiffs, then plaintiff Aranki should have pursued the underlying litigation on its merits to establish as a matter of fact that there was a breach of fiduciary duty.
While there’s no mention of it in the court’s decision, presumably the 2004 settlement agreement included an exchange of general releases. Assuming that’s true, what’s unusual here is that the releases apparently did not define the releasees to include the parties’ attorneys and other agents which is a fairly standard practice. For example, in a case involving similar circumstances called Berkowitz v. Fischbein, Badillo, Wagner & Harding, 7 AD3d 385 (1st Dept 2004), on a pre-answer motion to dismiss the court threw out claims against the law firm based on the general release’s discharge of the principal and his “agents” — which the court construed to include attorneys — in any matter relating to the company that was the subject of a related buy-out agreement. Had the same thing been done in Aranki with the releases accompanying the 2004 agreement, the defendant law firm could have saved itself years of litigation trouble and expense.