IE TEST, LLC v. KENNETH CARROLLAnnotate this Case
NOT FOR PUBLICATION WITHOUT THE
APPROVAL OF THE APPELLATE DIVISION
SUPERIOR COURT OF NEW JERSEY
DOCKET NO. A-0
IE TEST, LLC,
March 17, 2015
Argued October 15, 2014 Decided
Before Judges Messano and Ostrer.
On appeal from the Superior Court of New Jersey, Chancery Division, Essex County, Docket No. C-0029-10.
Paul A. Sandars, III, argued the cause for appellant (Lum, Drasco & Positan, L.L.C., attorneys; Mr. Sandars, of counsel; Scott E. Reiser, on the brief).
Eric J. Szoke argued the cause for respondent (Steven Robert Lehr, P.C., attorneys; Mr. Szoke, on the brief).
This appeal requires us to construe a provision of the Limited Liability Company Act, N.J.S.A. 42:2B-1 to -70 (the LLCA), in particular, N.J.S.A. 42:2B-24(b)(3), which permits under certain circumstances the expulsion of a member of a limited liability company (LLC) "by judicial determination."1 A member may be expelled by "judicial determination" if he "engaged in wrongful conduct that adversely and materially affected the [LLC's] business." N.J.S.A. 42:2B-24(b)(3)(a). Additionally, and specifically at issue here, the LLCA permits expulsion of a member "by judicial determination" if "the member engaged in conduct . . . which makes it not reasonably practicable to carry on the business with the member as a member of the [LLC]." N.J.S.A. 42:2B-24(b)(3)(c).
Defendant Kenneth Carroll (Carroll) appeals from 1) the Chancery Division's October 27, 2010 interlocutory order that granted partial summary judgment to plaintiff, IE Test LLC, and expelled Carroll from membership in the LLC pursuant to subsection 3(c) of the LLCA; and 2) the July 11, 2013 final judgment that followed trial and awarded Carroll thirty-three percent of the value of plaintiff, $227,497, plus interest.2
We discern the following facts from the motion record in this case. Carroll and Patrick Cupo were co-owners of Instrumentation Engineering, LLC (IE), with Carroll owning a fifty-one percent interest. The two had worked together since the mid-1990s. IE offered consulting, engineering, and manufacturing services for various industries. Byron James served as IE's business development manager, and eventually its vice president.
Carroll testified in his deposition that, by early 2009, IE was in "steep financial difficulties." In February 2009, Cupo wrote to Carroll expressing concern over the company's future and recommended that IE reduce its staff and relocate to a smaller facility. Cupo suggested that "only a complete restructuring" could "save the company from failure."
In late spring 2009, IE retained Strategic Leadership LLC (SL), a consulting firm, to evaluate the company. SL's June report estimated IE's total assets were $636,704, and projected its total liabilities to be $3,786,670, which included $2,543,318 in debt owed to Carroll personally, or to entities he wholly owned.3 SL recommended that IE file for bankruptcy. Cupo filed a Chapter 7 bankruptcy petition on behalf of IE on July 27, 2009, although he testified in his deposition that Carroll actually made the decision.
According to Carroll
[W]e realized that [IE] as it was currently [structured] would . . . never be able to repay me. So the belief was that we would start a new business and through the profits of that new business, through the successes of the new business, we would be made whole from our losses from [IE].
On July 1, 2009, Cupo formed plaintiff-LLC; the certificate of formation indicated Cupo was its sole member. Cupo certified that on September 10, he agreed to sell James a 50% interest in plaintiff. However, on September 28, 2009, Carroll, Cupo and James signed an agreement that read
While we intend to agree upon and sign a formal Operating Agreement with respect to [plaintiff] (the "Company")[,] this is to acknowledge that from the inception of the Company and continuing to the date hereof, the Members of the Company and their LLC Percentage Interests have been and are
Kenneth Carroll 33%
Pat Cupo 34%
Byron James 33%
In his answers to interrogatories, Carroll claimed he purchased the assets and intellectual property of IE from the bankruptcy trustee and transferred them to plaintiff. The motion record included a bill of sale from the bankruptcy trustee to Carroll transferring certain property of IE for the sum of $5000. In his deposition testimony, however, Carroll acknowledged that he possessed no documentary evidence indicating his transfer of that property to plaintiff, and Cupo disputed the transfer ever occurred.
Cupo and James expected that Carroll's day-to-day role in plaintiff's business would be quite limited. He did not maintain an office at plaintiff's facility, and Cupo and James stated that he participated in only one sales call, something Carroll acknowledged.
The parties' relationship began to deteriorate within weeks. Cupo and James attributed this to Carroll's "demand" during an October 13, 2009 meeting that plaintiff's operating agreement include a provision for repayment of IE's debt to Carroll. Cupo certified that Carroll demanded he and James "be personally responsible for paying or guaranteeing the payment of [IE] [d]ebts to [Carroll], and that a provision . . . be incorporated into the as-yet unwritten operating agreement" providing for such payments.
There apparently was a meeting between James and Carroll on October 28, and, in an email to Cupo the next day, James recounted Carroll's proposals regarding the IE debt: either plaintiff would give him equal distribution of profits, and some premium for the prior debts; or, Carroll would receive a salary and equal distribution of profits, but no premium on the IE debt. James testified that in an email the next day, Cupo told Carroll that he no longer wanted him in the business.4
Carroll testified, however, that plaintiffs were reluctant to recognize his ownership interest in plaintiff-LLC and simply refused to enter into an operating agreement. Carrol also testified that Cupo and James stopped "sharing data" with him and neglected to include him in the "sales pipelines."
Things remained unresolved when, on January 5, 2010, James and Cupo exchanged emails regarding an impending meeting with Carroll, the focus of which was to discuss an amicable resolution of the problem that would result in Carroll's disassociation as a member of plaintiff-LLC. According to James, the emails addressed "many concerns" regarding Carroll's membership, including the lack of an operating agreement and Carroll's demand for repayment of the IE debt. When asked to identify his "greatest concern," James testified at deposition that it was "[c]lear . . . the three of us can't work together and probably will never work together in the future."
Similarly, Cupo testified
We have three members of an LLC that have not been able to come to any kind of agreement, and at the initial outset of [the] disagreement lawyers were engaged by [Carroll's] side. We don't feel that there is anything left for us to go forward with. We tried many times to try and settle that part; and there was no desire to do that reasonably, so I don't see [how] there is any way to come to an agreement right now.
James testified that plaintiff was harmed by the members' inability to "come to an operating agreement . . . [and] therefore . . . govern the company."
Plaintiff filed its initial complaint on January 25, 2010, seeking, among other relief, Carroll's expulsion from the LLC. It is unclear what, if anything, happened between that date and June 2, 2010, when plaintiff filed its amended complaint. The record fails to disclose any further meetings or documents regarding the controversy. Carroll answered on June 14, and asserted a counterclaim and third-party complaint against Cupo and James, alleging a prior agreement that plaintiff and its members would compensate Carroll for $2.5 million dollars of IE's prior indebtedness.5
On August 24, 2010, plaintiff moved for partial summary judgment on count one of its amended complaint that sought Carroll's expulsion pursuant to N.J.S.A. 42:2B-24(b)(3). Carroll cross-moved for summary judgment on September 27, 2010, seeking dismissal of plaintiff's complaint and counsel fees pursuant to New Jersey's frivolous litigation statute, N.J.S.A. 2A:15-59.1.
In support of plaintiff's motion, Cupo additionally certified that "[t]he absence of an operating agreement ha[d] prevented [plaintiff] from securing a bank line of credit, as the potential lender advised . . . that a valid operating agreement would be required as part of the loan application process." Cupo claimed this inability to obtain bank financing led to "less desirable means of financing [plaintiff's] operations," including the extension of personal loans to the company. He also certified that "material issues" regarding the management of plaintiff remained unresolved without an operating agreement, including "issues of corporate governance, succession, buyouts, and compensation."
James filed a nearly-identical certification. We do note that during his deposition, James admitted that plaintiff had not sought financing during the litigation and only "had communications" with one bank in late 2009.
In support of his cross-motion, Carroll submitted a letter from his counsel to plaintiff's counsel, dated September 7, 2010, attaching a proposed operating agreement. It is apparent from the letter that no proposed operating agreement had ever been previously exchanged. Plaintiff's counsel rejected the proposed operating agreement on September 14, 2010, specifically pointing to various provisions that accorded Carroll significant veto power over decision making and compensation, and included waivers of any right to seek "partition" of the LLC or judicial intervention.
Oral arguments on the motion and cross-motion were heard by Judge Harriet Farber Klein on October 22, 2010. Plaintiff argued that Carroll's demand for repayment of IE's debt amounted to wrongful conduct, warranting expulsion under N.J.S.A. 42:2B-24(b)(3)(a). Alternatively, counsel argued that Carroll's conduct and the parties' inability to consummate an operating agreement made it not "reasonably practicable" for the relationship to continue. N.J.S.A. 42:2B-24(b)(3)(c).
Carroll argued there was no evidence supporting the contention that he had interfered with the business, noting that the company earned a profit.6 Carroll also argued that, since Cupo and James understood and agreed to his limited role in the day-to-day operations of plaintiff, Carroll's continued status as a member would not detrimentally affect the operations of the company. Additionally, Carroll argued that the inability to reach consensus on the operating agreement was not per se grounds for his expulsion, and plaintiff failed to demonstrate that the lack of an operating agreement prevented it from obtaining financing.
In rendering her oral opinion immediately following argument, Judge Klein found that plaintiff failed to establish Carroll engaged in wrongful conduct that adversely and materially harmed plaintiff. N.J.S.A. 42:2B-24(b)(3)(a). However, the judge concluded that, pursuant to N.J.S.A. 42:2B-24(b)(3)(c), it was not reasonably practicable to continue the business with Carroll as a member. Judge Klein noted that subsection (c) was "more liberal and much broader [than subsection (a)] and . . . does not require . . . that there ha[ve] been any adverse or material effect on the company's business." She stated
I think that in every sense of the word to allow this to go on the way [Carroll] would like it to is not in anyone's best interest . . . .
. . . [The parties] can't talk to each other. They can't agree on anything and we all know that there will be, it's not a possibility, it's a virtual certainty that there will be situations where they will be required to sign documents, and I'm not just talking about an operating agreement. You have a 33 percent shareholder. There will be those times when they have to concur and they have to agree and we know that's not going to happen when people really hate each other, where they dig in their heels, and it's perverse.
She entered an order expelling Carroll from the LLC. This appeal was timely-filed following the valuation trial and entry of final judgment.
Before us, in essence, Carroll argues that plaintiff's proofs were insufficient, because the LLCA does not permit expulsion of a member based upon speculative "future disagreements or disputes between members." Plaintiff counters by arguing that the judge's findings and conclusions were amply supported by the record, and the statute "does not prohibit consideration of the potential for future conflict . . . once a finding of existent conduct has been made."7
We have considered these arguments in light of the record and applicable legal standards. We affirm.
The standards governing our review are well-known. "An appellate court reviews an order granting summary judgment in accordance with the same standard as the motion judge." Bhagat v. Bhagat, 217 N.J. 22, 38 (2014) (citing W.J.A. v. D.A., 210 N.J. 229, 237-38 (2012); Henry v. N.J. Dep't of Human Servs., 204 N.J. 320, 330 (2010)). We "must review the competent evidential materials submitted by the parties to identify whether there are genuine issues of material fact and, if not, whether the moving party is entitled to summary judgment as a matter of law." Ibid. (citing Brill v. Guardian Life Ins. Co. of Am., 142 N.J. 520, 540 (1995); R. 4:46-2(c)).
[A] determination whether there exists a "genuine issue" of material fact that precludes summary judgment requires the motion judge to consider whether the competent evidential materials presented, when viewed in the light most favorable to the non-moving party, are sufficient to permit a rational factfinder to resolve the alleged disputed issue in favor of the non-moving party.
[Brill, supra, 142 N.J. at 540.]
See also Ji v. Palmer, 333 N.J. Super. 451, 463-64 (App. Div. 2000) (limiting our review to the record that existed before the motion judge).
We then decide "whether the motion judge's application of the law was correct." Atl. Mut. Ins. Co. v. Hillside Bottling Co., 387 N.J. Super. 224, 231 (App. Div.), certif. denied, 189 N.J. 104 (2006). In this regard, "[w]e review the law de novo and owe no deference to the trial court . . . if [it has] wrongly interpreted a statute." Zabilowicz v. Kelsey, 200 N.J. 507, 512 (2009). "The practical effect . . . is that neither the motion court nor an appellate court can ignore the elements of the cause of action or the evidential standard governing the cause of action." Bhagat, supra, 217 N.J. at 38.
The only terms that define the nature and quality of conduct by a member that justifies judicial expulsion under subsection (b)(3)(c) are found in the statutory language itself, i.e., the member's conduct must "relat[e] to the limited liability company business," and it must "make it not reasonably practicable to carry on the business with the member as a member." N.J.S.A. 42:2B-24(b)(3)(c). The distinctions between subsection (a) and (c) are obvious, and those differences provide as overarching framework that guides our interpretation.
As Judge Klein noted, the conduct that permits a judicial expulsion of a member under subsection (c) is "more liberal and much broader" than that required under subsection (a). A member could be expelled under subsection (a) only if his conduct was "wrongful" and actually harmed the LLC in a "adverse and material" manner. N.J.S.A. 42:2B-24(b)(3)(a).
Subsection (c) on the other hand does not require proof that the member committed any wrongful conduct whatsoever. Additionally, instead of requiring proof of a past event adverse and material harm to the LLC subsection (c) is forward-looking, requiring only proof that the member's conduct makes it "not reasonably practicable to carry on the business" if the member remains. N.J.S.A. 42:2B-24(b)(3)(c) (emphasis added). In order to reach a "judicial determination" under subsection (c), the judge must engage in predictive reasoning. The judge must decide if the current conduct of the member and the circumstances that resulted therefrom will make continued operation of the business reasonably impractical. In this regard, the statute does not require a finding of complete impracticality; it only requires that the continued operation of the LLC with the member as a member be "not reasonably practicable." Ibid.
The parties have directed us to some unpublished decisions, but there are no reported decisions in New Jersey interpreting subsection (b)(3)(c) of the LLCA, which incorporates verbatim the language of Section 601(6)(iii) of the Uniform Limited Liability Company Act (1996). As noted, the RULLCA adopted virtually identical language, providing that a member maybe expelled "by judicial order" "because the person . . . has engaged, or is engaging in conduct relating to the company's activities which make it not reasonably practicable to carry on the activities with the person as a member[.]" Our research was unable to locate a reported decision interpreting this provision from any of our sister states which adopted verbatim the language of the Uniform Acts.
The LLCA and the RULLCA, however, also permit the judicial dissolution of an LLC "whenever it is not reasonably practicable to carry on the business in conformity with an operating agreement." N.J.S.A. 42:2B-49. See also N.J.S.A. 42:2C-48(a)(4)(b) (permitting judicial dissolution if "it is not reasonably practicable to carry on the company's activities in conformity with one or both of the certificate of formation and the operating agreement").8 In the context of a judicial dissolution, it will no longer be "reasonably practicable to carry on the business of the LLC" when "the LLC's management has become so dysfunctional or its business purpose so thwarted that it is no longer practicable to operate the business, such as in the case of a voting deadlock of where the defined purpose of the entity has become impossible to fulfill." 51 Am. Jur. 2d Limited Liability Companies 35 (2011).
In Gagne v. Gagne, 338 P.3d 1152, 1159 (Colo. Ct. App. 2014), the court construed for the first time Colorado's LLC act, which permitted judicial dissolution "if it is established that it is not reasonably practicable to carry on the business of the limited liability company in conformity with the operating agreement of said company. (quoting Colo. Rev. Stat. 7-80-810(2)(2014)." The court construed the language as requiring the party seeking dissolution to "establish that the managers and members of the company are unable to pursue the purposes for which the company was formed in a reasonable, sensible, and feasible manner." Id. at 1160 (citation omitted).
"[T]he test is whether it is reasonably practicable to carry on the business of the LLC, not whether it is impossible to do so." Ibid. (citations omitted).
The Colorado court set forth "a number of factors" to be considered, including but not limited to
(1) whether the management of the entity is unable or unwilling reasonably to permit or promote the purposes for which the company was formed; (2) whether a member or manager has engaged in misconduct; (3) whether the members have clearly reached an inability to work with one another to pursue the company's goals; (4) whether there is deadlock between the members; (5) whether the operating agreement provides a means of navigating around any such deadlock; (6) whether, due to the company's financial position, there is still a business to operate; and (7) whether continuing the company is financially feasible.
[Ibid. (citations omitted).]
We find the analysis in Gagne persuasive and, applied to the facts of this case, we conclude that Judge Klein correctly granted plaintiff partial summary judgment. The facts demonstrate that discord among the parties arose immediately after the LLC's formation. Within two weeks of executing a rudimentary agreement regarding shares of the LLC that contained no reference to payment of IE debt, Carroll admittedly insisted on repayment of the debt, justifying this posture as acceptable business negotiations among sophisticated businessmen. Although he at one time asserted Cupo and James agreed to the repayment and were legally bound to do so, Carroll subsequently admitted that he possessed "no legally enforceable right to seek repayment."
Even if the genesis of the disagreement arose from hard-edged negotiations, it is undisputed that the relationship between Cupo, James and Carroll never recovered from the initial exchange. Prior to the filing of plaintiff's summary judgment motion, no proposed operating agreement was every circulated, and there is no indication in the record that Carroll ever altered his position that he was due compensation for IE's debt, whether in the form of a salary draw or in some "premium" payment from the LLC's distributions. Under these circumstances, the motion record supported Judge Klein's decision that the continued operation of plaintiff with Carroll as a member was "not reasonably practicable" under N.J.S.A. 42:2B-24(b)(3)(c).
To the extent they are not otherwise specifically addressed, the arguments raised by Carroll lack sufficient merit to warrant discussion in a written opinion. R. 2:11-3(e)(1)(E).
1 The LLCA has since been repealed. See L. 2012, c. 50, (effective March 18, 2013) (enacting the Revised Uniform Limited Liability Company Act (the RULLCA), making the RULLCA applicable to all LLCs formed after the legislation's effective date, and replacing the LLCA with the RULLCA as to all existing LLCs as of March 1, 2014). The provisions at issue here remained essentially unchanged in the RULLCA. See N.J.S.A. 42:2C-46.
2 Carroll specifically does not challenge the valuation of plaintiff-LLC or his share. The appeal is limited, therefore, to only whether Carroll's expulsion was proper.
3 The debt consisted of: (1) a $525,000 loan obtained and guaranteed by Carroll from Mellon Bank; (2) $518,000 in accrued rent; and (3) a $1.5 million personal loan from Carroll to IE.
4 These emails are not in the record.
5 By a stipulation of dismissal with prejudice entered on August 23, 2010, the parties agreed to dismiss Carroll's counterclaim and third-party complaint.
6 The parties disputed the import of plaintiff's profit and loss statement showing revenue and expenses from the LLC's formation until June 2010. Plaintiff claimed the LLC lost money during that time.
7 Plaintiff's contention that Carroll failed to raise certain aspects of his appellate argument before Judge Klein lacks sufficient merit to warrant discussion. R. 2:11-3(e)(1)(E).
8 In Sebring Associates v. Coyle, 347 N.J. Super. 414, 428 (App. Div. 2002), we considered a provision of the Uniform Partnership Law, specifically N.J.S.A. 42:1-32(1)(d), which permitted judicial dissolution of a partnership when a partner "so conducts himself in matters relating to the partnership business that it is not reasonably practicable to carry on the business in partnership with him[.]" We found that the partner's "failure to respond to cash calls" violated provisions of the partnership agreement and also justified dissolution under this provision, as well as N.J.S.A. 42:32-(1)(c), which permits dissolution when a partner's conduct "affect[ed] prejudicially" the conduct of the business. Id. at 430.