Do Your LLC Business Partners Owe You Any Fiduciary Duties?
Conversely, do you owe your partners any duties of care, loyalty, confidentiality, etc?
If you can’t point to something in your governing documents that says “yes,” the answer is more than likely no.
Lately we’ve had too many calls with potential clients whose business partners are…
- Bleeding the company dry of funds
- Sharing confidential information about the company to the company’s detriment
- Diverting opportunities away from the company
- Accepting kickbacks from customers
Our first question is, “do you have an operating agreement?” When the answer is no, and especially when the ownership is the dreaded 50/50, there isn’t a whole lot you can do.
But it wasn’t always that way. Up until about 2019, Nevada law imposed certain fiduciary duties on members and managers of LLCs. However, legislation passed during the 2019 session turned this language on its head, instead saying unequivocally that no fiduciary duties are owed unless outlined in the articles of organization or the company’s operating agreement. The language is below:
NRS 86.298 Duties of manager or managing member. The duties of a manager or managing member of a limited-liability company to the limited-liability company, to any series of the limited-liability company, to any member or to another person that is a party to or otherwise bound by the operating agreement are only:
1. The implied contractual covenant of good faith and fair dealing; and
2. Such other duties, including, without limitation, fiduciary duties, if any, as are expressly prescribed by the articles of organization or the operating agreement.
(Added to NRS by 2019, 104)
So why the about-face on something that comes up so frequently?
We delved into the legislative history and read the minutes of the hearing on the bill. If you want to do the same, head over here for a tutorial. Here’s what we found:
Robert Kim, Ballard Spahr, is the current chair of the Business Law section of the Nevada bar association. Albert Kovacs, from another national firm, Brownstein, is the Vice Chair. Apparently, during a state bar conference, they moderated a panel of judges regarding fiduciary duties and every judge had a different view on whether and how they should be imposed. So, Robert and Albert introduced AB 207 during the 2019 session to clarify the statute on that point, among others.
Their next decision was whether to double down and impose detailed fiduciary duties by statute or to unequivocally state that no fiduciary duties are owed. The decision in favor of the latter was based on the still-subjective interpretation of certain duties.
One example is the corporate opportunity scenario noted above. What if a company isn’t currently involved in a particular line of business but the owners have had very preliminary discussions about establishing a new division to cater to that customer base. One owner learns of an opportunity in the new line of business but doesn’t believe the current company is yet capable of exploiting the opportunity, so he refers it to someone else. The other owner is mad because he believes they could have taken advantage of it, given enough time. Whether the first owner violated his fiduciary duties to the company and his partner is in the eye of the beholder.
Another example that we’ve seen recently is one owner who believes she is the one carrying the business while her life/work/business partner is no more than an anchor around her neck. She starts making withdrawals from the company account that far exceed what they’ve historically paid themselves, justifying it by thinking “well, I work harder than he does.” He, on the other hand, might not be the customer-facing partner but believes he works his tail off in the office, making sure all the tax filings are completed on time and that the licenses are kept current. He thinks she’s bleeding the company dry and she thinks she’s being fairly compensated. Who’s right?
Yet another example is one concerning company confidentiality. Years ago we had a client who provided IT services to a highly politicized client base that included organizations on both sides of the aisle. As such, it was very important to the continued success of the company that the right-leaning organizations didn’t know they were helping out their left-leaning mortal enemies. Well, the minority business partner didn’t get his way on one vote and blasted their customer list to everyone, causing a mass exodus of clients. Did he owe the company a duty of confidentiality if he never signed anything to that effect?
This article would eclipse the Library of Congress if we shared all the horror stories we’ve heard first hand, so we’ll stop here. Suffice it to say that it’s very important to put these fiduciary duties in writing so you can point to a written document and cry “breach of contract” instead of just complaining that your partner isn’t operating the way you prefer, when you a) didn’t agree on those “preferences” and b) you can’t rely on anything in the law that fills that gap.
Also keep in mind if you are 50/50 owners, can’t reach a resolution, and you file a lawsuit, the judge isn’t going to make a determination that yes, you did in fact work harder than your partner and should be awarded majority ownership in the company. No, the judge will dissolve the company, order the assets to be liquidated for pennies on the dollar, and split what’s left. Judicial dissolution (which is a mouthful to say) is the worst outcome for any business and can so easily be avoided with some documentation.
Now that we’ve established the subjective nature of these so-called “breaches,” it sheds light on why AB 207 chose the path of eliminating the statutory imposition of fiduciary duties altogether. As a bonus, the proponents of the legislation believed that doing so makes Nevada more attractive, even moreso than Delaware, because of the variations in interpretation of breaches of fiduciary duties. If you do business in Nevada, you don’t owe your partners or the company any duties unless you agree to them in writing, which gives you an opportunity to negotiate the parameters of those duties.
If you don’t have an operating agreement, or your operating agreement doesn’t address fiduciary duties, now’s the time to explore whether to put something in writing. Don’t wait for a dispute to arise because then it’s too late.