Federal Court Pierces Veil of Delaware LLC on Alter Ego Theory

The Federal District Court in New York granted summary judgment to pierce the veil of a Delaware limited liability company in Soroof Trading Development Co. Ltd. v. GE Fuel Cell Systems LLC, No. 10 Civ. 1391(LTS)(JCF), 2012 WL 209110 (S.D.N.Y. Jan. 24, 2012). The court found the LLC to be the alter ego of its members, but did not explain how Delaware’s requirement of unfairness or injustice was met.

Background. This case was a dispute over a distribution agreement made in 2000. The agreement gave Soroof Trading Development Co. Ltd. the exclusive right to distribute fuel cells in Saudi Arabia that were to be manufactured by GE Fuel Cell Systems LLC. Soroof paid the LLC a $1 million, non-refundable distributor fee, and the LLC was obligated to use its reasonable efforts to supply the fuel cells to Soroof. The LLC was unable to complete development of the fuel cells, though, and never delivered any. In 2005 the LLC informed Soroof that it was unable to manufacture the fuel cells, and in 2006 the LLC was dissolved and a certificate of cancellation was filed with the Delaware Secretary of State.

Soroof eventually sued the LLC and its two members for breach of the distribution agreement, misrepresentation, conversion, imposition of a constructive trust, unjust enrichment, and an accounting. The LLC moved for judgment on the pleadings, with the result that the court dismissed all of Soroof’s causes of action but allowed Soroof to replead its claims for breach of contract and misrepresentation.

Soroof desired to pierce the LLC’s veil in order to assert its claims against the LLC’s members, which were not parties to the distribution agreement. (The LLC had been formed as a Delaware LLC with two members, GE Microgen, Inc. and Plug Power, Inc.) Soroof therefore made a two-part motion for partial summary judgment, (a) to nullify the LLC’s certificate of cancellation, and (b) to pierce the LLC’s veil. The defendants made a motion for dismissal of all claims against the LLC.

Dismissal of Claims Against the LLC. When the LLC was dissolved in 2006, a certificate of cancellation was filed, cancelling the LLC’s certificate of formation. See DLLCA § 18-203. Once a certificate of cancellation is filed, a Delaware LLC cannot be sued, unless the certificate is nullified on the ground that the LLC was not properly wound up in compliance with Delaware law. Soroof, 2012 WL 209110, at *13. Soroof alleged that the LLC had not been properly wound up because no provision had been made for Soroof’s claims, but the court pointed out that a dissolved LLC is only required to pay or make provision for claims to the extent of its assets, which in this case were nominal. Id. at *14. Soroof argued that the certificate of cancellation should be nullified because the LLC was the alter ego of the members, but it cited no legal authority to support that argument. The court dismissed all of Soroof’s claims against the LLC.

Piercing the Veil. The court then turned to Soroof’s claim that the LLC’s veil should be pierced, which would enable Soroof to pursue its claims against the LLC’s two members. The court stated the rule as follows:

Delaware law permits a court to pierce the corporate veil where there is fraud or where [the corporation] is in fact a mere instrumentality or alter ego of its owner…. To prevail under the alter-ego theory of piercing the veil, a plaintiff need not prove that there was actual fraud but must show a mingling of the operations of the entity and its owner plus an overall element of injustice or unfairness.

Id. (brackets in original)(quoting NetJets Aviation, Inc. v. LHC Commc’ns LLC, 537 F.3d 168, 177 (2d Cir. 2008)). Interestingly, the court cited no Delaware cases, instead referring only to the NetJets case from the Second Circuit.

The court recited the alter ego factors to be considered (capitalization, solvency, payment of dividends, adequate records, functioning officers and directors, other corporate formalities, siphoning funds off, and the entity functioning as a “façade” for the owner), and pointed out that less emphasis should be placed on LLC formalities than on corporate formalities.

The court then described the undisputed facts relevant to piercing GE Fuel Cell Systems LLC’s veil:

  • The LLC had no cash assets at the time of dissolution.
  • The LLC had no employees, and the individuals working at the LLC were actually employees of the members.
  • The LLC did not lease its office space but used the premises of its members.
  • There was no sign on the LLC’s premises indicating its presence.

After describing these factors, the court simply stated that “Plaintiff's uncontroverted proffers demonstrate an extensive ‘mingling of the operations’ of [the LLC] and its owners, such that [the LLC] was a mere instrumentality or alter ego of GE Microgen and Plug Power, as well as an overall element of unfairness to Soroof,” and granted Soroof’s motion for summary judgment piercing the LLC’s veil. Id. at *15. The court was silent as to how the facts showed “unfairness to Soroof,” other than implicitly recognizing that without piercing the veil Soroof’s claim would be unsatisfied. Of course, that is usually why plaintiffs seek to pierce a corporate defendant’s veil.

Comment. The court’s refusal to nullify the LLC’s certificate of cancellation seems unexceptional under the circumstances, even though the result is that all of Soroof’s claims against the LLC were dismissed. That dismissal, though, arguably should have led to dismissal of the veil piercing claims against the LLC’s members as well. That is because piercing the veil is not an independent cause of action, but merely a method of imposing liability on an underlying claim. Cambridge Elecs. Corp. v. MGA Elecs., Inc., No. CV02-8636MMM(PJWX), 2005 WL 927179, at *1 (C.D. Cal. 2005). Piercing the veil is an equitable remedy, not a cause of action unto itself. MidAmerican Distribution, Inc. v. Clarification Tech., Inc., 807 F. Supp. 2d 646, 683 (E.D. Ky. 2011).

In short, the claims against the LLC were dismissed, and therefore there was no underlying LLC liability for which the members should be made liable by piercing the LLC’s veil.

Even ignoring that issue, it appears unlikely that a Delaware court would have pierced the veil of the LLC on the facts recited by the Soroof court. The threshold in Delaware to pierce the veil of a corporation or LLC is high. Generally fraud, illegality, or other egregious facts must be present, and the Delaware courts “have only been persuaded to ‘pierce the corporate veil’ after substantial consideration of the shareholder-owner’s disregard of the separate corporate fiction and the degree of injustice impressed on the litigants by recognition of the corporate entity.” Midland Interiors, Inc. v. Burleigh, No. CIV.A. 18544, 2006 WL 3783476, at *3 (Del. Ch. 2006). See Francis Pileggi’s discussion of Midland Interiors, here.

The Soroof opinion is not an isolated instance of a court straining to pierce the veil of an LLC. Last month I posted here about Colorado’s Martin v. Freeman case, where the veil of a single member LLC was pierced without any showing of wrongdoing. Both cases support Professor Stephen Bainbridge’s thesis that “veil piercing achieves neither fairness nor efficiency, but rather only uncertainty and lack of predictability.” Stephen M. Bainbridge, Abolishing LLC Veil Piercing, 2005 U. Ill. L. Rev. 77, 78.

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