The Massachusetts Appeals Court recently issued an interesting decision concerning the authority a group of LLC members needs to bring a derivative suit under Massachusetts law.
The case, Williams v. Charles, involved an LLC called Frowmica, which was organized for the purpose of negotiating and financing the purchase of a taxicab business. Within a year after entering into the operating agreement, relations between the LLC members began to deteriorate. Some members claimed that the managing member, Jean Bernard Charles (“Charles”), had taken various actions adverse to Frowmica, such as terminating the operations manager without cause, wrongly paying himself a salary without member authorization, hiring unqualified friends and family members, and denying the other members access to financial and operational information of the LLC.
Eventually, the disgruntled Frowmica members brought suit against Charles and Frowmica for various claims, including breach of fiduciary duty, misappropriation, conversion, and freeze-out. The District Court dismissed the plaintiffs’ derivative claims based on lack of standing. On appeal, the central issue involved whether the plaintiffs had sufficient authorization to being a derivative claim under G.L. c. 156C, § 56 because Frowmica’s operating agreement was silent as to the authority of members to institute litigation.
Section 56, the default rule where the operating agreement does not dictate otherwise, provides that a derivative suit must be authorized by the vote of members who made more than fifty percent of the unreturned “contributions” to the LLC. The plaintiffs argued that Brent Williams’s (“Williams”) “contributions” to the LLC, which were in the form of services to the LLC, not cash, should be included in calculating the votes in favor of a derivative suit. That position had some support; in Section 29 of the LLC law, contribution is defined as “any cash, or property, services rendered or a promissory note or other obligation to contribute cash, property or to perform services, which a person contributes to a limited liability company in his capacity as a member.”
Despite the reference to “services rendered” in § 29, the court rejected plaintiffs’ argument, holding that neither the operating agreement nor the LLC’s records specified an agreed monetary value of Williams’ services to the LLC, notwithstanding that the operating agreement gave him a 31.29% interest in the LLC.
The Appeals Court also rejected plaintiff’s attempts to disqualify the vote of Charles’ mother, another Frowmica member. The plaintiffs argued that Charles’ mother was “interested” in the derivative suit vote by virtue of the familial bond. The Court rejected that implication – and declined to infer “interest” based on the mother’s previous vote in alliance with Charles and failure to respond to the plaintiff’s concerns. The Court stated that “interest” had to be alleged with more particularity for the mother’s vote to be disqualified.