Daniel Marx v. Richard L. Morris ( 2019 )

2019 WI 34SUPREME COURT OF WISCONSIN
CASE NO.: 2017AP146
COMPLETE TITLE: Daniel Marx, Fracsand, LLC, Michael Murray and
R&R Management Funds, LLC,
Plaintiffs-Respondents,
v.
Richard L. Morris and R.L. Co., LLC,
Defendants-Appellants.
ON CERTIFICATION FROM THE COURT OF APPEALS
OPINION FILED: April 2, 2019
SUBMITTED ON BRIEFS:
ORAL ARGUMENT: November 7, 2018
SOURCE OF APPEAL:
COURT: Circuit
COUNTY: Eau Claire
JUDGE: William M. Gabler, Sr.
JUSTICES:
CONCURRED:
DISSENTED: KELLY, J. concurs and dissents, joined by
ABRAHAMSON, J. and R.G. BRADLEY, J. (opinion
filed).
NOT PARTICIPATING:
ATTORNEYS:
For the defendants-appellants, there were briefs filed by
Eric J. Magnuson and Robins Kaplan, LLP, Minneapolis, Minnesota,
with whom on the briefs were J. Drew Ryberg and Ryberg Law Firm,
Eau Claire, and Scott A. Johnson and Johnson & Johnson Law, LLP,
Minnetonka, Minnesota. There was an oral argument by Eric J.
Magnuson.
For the plaintiffs-respondents, there was a brief filed by
Patrick G. Heaney, James A. Pelish, and Thrasher, Pelish &
Heaney, Ltd., Rice Lake. There was an oral argument by Patrick
G. Heaney.
2019 WI 34NOTICE
This opinion is subject to further
editing and modification. The final
version will appear in the bound
volume of the official reports.
No. 2017AP146
(L.C. No. 2015CV213)
STATE OF WISCONSIN : IN SUPREME COURT
Daniel Marx, Fracsand, LLC, Michael Murray
and R&R
Management Funds, LLC, FILED
Plaintiffs-Respondents,
APR 2, 2019
v.
Sheila T. Reiff
Clerk of Supreme Court
Richard L. Morris and R.L. Co., LLC,
Defendants-Appellants.
APPEAL from an order of the Circuit Court for Eau Claire
County. Affirmed and cause remanded.
¶1 PATIENCE DRAKE ROGGENSACK, C.J. This appeal comes
before us on certification from the court of appeals1 pursuant to
Wis. Stat. § (Rule) 809.61 (2015-16).2 Two members of a limited
liability company (LLC), Fracsand, LLC by Daniel Marx (Marx) and
1Marx v. Morris, No. 2017AP146, unpublished certification
(Wis. Ct. App. Mar. 6, 2018).
2All subsequent references to the Wisconsin Statutes are to
the 2015-16 version unless otherwise indicated.
No. 2017AP146
Management Funds, LLC by Michael Murray (Murray), brought an
action against another member, Richard Morris (Morris) and his
LLC, R.L. Co., LLC, after North Star Sand, LLC (North Star) sold
valuable assets to a company owned by Morris. At the time of
the sale, Morris was a manager of North Star.
¶2 Marx and Murray alleged that Morris willfully failed
to deal fairly with them while having a material conflict of
interest in the transaction, in violation of Wis. Stat.
§ 183.0402(1). They also alleged a number of common-law claims
involving improper self-dealing. Marx and Murray brought all
their claims in their individual LLC and personal capacities
rather than in the name of North Star.
¶3 Morris moved for summary judgment. The circuit court
denied Morris's motion,3 and the court of appeals certified the
appeal to this court to answer two questions:
1. Does a member of a limited liability company
(LLC) have standing to assert a claim against another
member of the same LLC based on an injury suffered
primarily by the LLC, rather than the individual
member asserting the claim?
2. Does the Wisconsin Limited Liability Company
Law, Wis. Stat. ch. 183, preempt common law claims by
one member of an LLC against another member based on
the second member's alleged self-dealing?
Marx v. Morris, No. 2017AP146, unpublished certification (Wis.
Ct. App. Mar. 6, 2018).
3 The Honorable William M. Gabler, Sr. of Eau Claire County
presided.
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No. 2017AP146
¶4 We accepted certification of the appeal and now
conclude the following: first, the members of an LLC have
standing to assert individual claims against other members and
managers of the LLC based on harm to the members or harm to the
LLC. Corporate principles of derivative standing do not apply
to the distinct business form of an LLC.
¶5 Second, Marx and Murray's common law claims survive
because they have not been displaced at this point in the
litigation by particular provisions of North Star's Operating
Agreement or by Wis. Stat. ch. 183. Third, there are genuine
issues of material fact as to whether Morris violated Wis. Stat.
§ 183.0402(1) by dealing unfairly with Marx and Murray, and
potentially with regard to the common law claims. For these
reasons, we affirm the decision of the circuit court and remand
for further proceedings consistent with this opinion.
I. BACKGROUND
¶6 North Star is a limited liability company formed under
Wisconsin law in November 2011. The company's goal was to own
and mine land containing silica sand, a type of sand used in
fracking operations.
¶7 North Star's membership consisted of six limited
liability companies, which in turn were owned by six
individuals. Fracsand, LLC was owned by Marx; R&R Management
Funds, LLC owned by Murray; R.L. Co., LLC owned by Morris; Hub
Investments, LLC owned by Brian Johnson (Johnson); Glorvigen
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No. 2017AP146
Investment Group, LLC owned by Rick Glorvigen (Glorvigen); and
C&T Sand, LLC owned by R. Thomas Toy (Toy).4 Morris, an
attorney, had previously represented both Murray and Johnson.
Glorvigen, an accountant, had prepared Morris's personal taxes
for at least 20 years.
¶8 Morris assisted in drafting North Star's Operating
Agreement, and drafted two of the Amendments to the Operating
Agreement. According to Marx and Murray, Morris was North
Star's attorney. They allege that he was paid by North Star for
his legal work on behalf of the company, and some of his equity
in North Star was received in compensation for his legal work.
Morris disputes this. However, it is undisputed that he was a
manager of North Star in his capacity as a North Star director.5
¶9 North Star's Operating Agreement reflected an
understanding that the members would be free to pursue outside
business opportunities. Transacting business with companies who
had business relationships with North Star was permitted:
The individuals serving as Directors, as well as the
Members and their respective officers, board of
directors, directors, shareholders, partners, and
affiliates, may engage independently or with others in
other business ventures of every nature and
description. Nothing in this Agreement shall be
deemed to prohibit any Director, or the Members or
4While the members of North Star are actually LLC's owned
by the six individuals involved with North Star, the parties and
the court of appeals referred to the six individuals by name for
the sake of simplicity. This opinion will do so as well.
5 Operating Agmt., Sections 5.1, 5.2.
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No. 2017AP146
their respective officers, board of directors,
directors, shareholders, partners, and affiliates,
from dealing or otherwise engaging in business with
Persons transacting business with the Company.
Neither the Company, any Director, or any Member shall
have any right by virtue of this Agreement, or the
relationship created by this Agreement, in or to such
other ventures or activities, or to the income or
proceeds derived from such other ventures or
activities, and the pursuit of such ventures shall not
be deemed wrongful or improper.[6]
¶10 The Operating Agreement also required that members
have prior notice of any vote that may occur during a meeting of
members:
No matter shall be voted upon at a meeting of Members
unless at least 5 days' notice of the matter to be
voted on is given or such notice is waived by any
Member who is entitled to vote and who has not
received notice.[7]
Further, it required that prior notice be given of any matter to
be voted upon at a directors' meeting:
No matter shall be voted upon at a meeting of the
Directors unless at least 24 hours' notice of the
matter to be voted on is given or such notice is
waived by any Director not receiving it.[8]
However, directors did not have the authority to: "Possess
Company property, or assign rights in specific Company property,
for other than a purpose of the Company."9
6 Operating Agmt., Section 5.8(b).
7 Operating Agmt., Section 5.7 d.
8 Operating Agmt., Section 5.3 d.
9 Operating Agmt., Section 5.5 a. ii.
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No. 2017AP146
¶11 North Star eventually hired an engineering firm to
help it identify potential silica sand reserves, and entered
into a number of option agreements for the purchase of land in
Jackson County, Wisconsin. North Star also entered into a lease
for a property that could be used as a railhead to transport
silica sand from the Jackson County properties. The members
decided to create a separate entity to control the purchase
agreements for certain properties, called the Pine Creek
Reserves, that contained substantial silica sand reserves. This
entity became Westar Proppants, LLC (Westar), a wholly owned
subsidiary of North Star. North Star assigned its Pine Creek
purchase options to Westar on the same day Westar was formed.
¶12 Many of Westar's purchase options were set to expire
on December 31, 2013. Concern was expressed that North Star and
Westar had too much land under option contracts. The members
began to discuss the possible cancellation of some of their
options. On December 31, 2013, the same day Westar's purchase
options were set to expire, the members of North Star met by
telephone to discuss Westar's future.
¶13 During this meeting, Morris informed the other members
that he and two other people, Gerald Green (Green) and Scott
Wesch (Wesch), had formed an entity called DSJ Holdings, LLC
(DSJ). Morris also informed the group that he had an ownership
interest in DSJ. He stated that DSJ was interested in
purchasing Westar and was willing to pay $70,000. At this time,
Glorvigen made a motion for North Star to keep Westar. Marx
seconded the motion, and it passed by vote of 4-2. Marx,
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No. 2017AP146
Murray, Glorvigen, and Toy all voted in favor of the motion to
keep Westar, while Morris and Johnson voted against it.
¶14 Immediately after the vote, Morris indicated that he
may withdraw from North Star. Marx and Murray allege that
Morris became "very aggressive" and told Toy that "you're going
to lose your million bucks." After a brief discussion, Morris
made a motion for North Star to sell Westar to DSJ for $70,000.
Murray immediately objected to Morris's motion, arguing that
there had been insufficient notice, that a vote had already
occurred, and that Morris was conflicted. Despite these
objections, a second vote occurred, and Morris's motion passed
4-2. Morris, Johnson, Glorvigen, and Toy voted for North Star
to sell Westar to DSJ, while Marx and Murray voted against the
sale.
¶15 DSJ subsequently assigned Westar's membership units to
R.L. Co., LLC (Morris's LLC) and to Wesch. Morris and Green
then formed Hixton Trans-load Facility, LLC (Hixton Trans-load)
for the purpose of securing purchase agreements for a new rail
head site specifically for the Pine Creek Reserves property.
Westar, along with Hixton Trans-load, was sold to Unimin
Corporation in early 2015 for what has been alleged to be a
substantial sum.10
¶16 In August 2014, North Star unanimously voted to sell
its remaining silica sand land assets to Badger Silica. The
10
The details of the Westar sale to Unimin are subject to a
confidentiality order.
7
No. 2017AP146
members signed a "Member Distribution Receipt and
Acknowledgement" as part of this transaction, which memorialized
the amount each member would receive from the transaction. The
receipt also contained the following language:
As of the date hereof, none of the undersigned members
have a claim against North Star or against any of the
other members of the Company other than for the amount
of the distribution set forth on Exhibit A. or for
their pro rata share of any retained amounts.
Morris later asked Marx and Murray to sign a different, all-
encompassing release, which they refused to do.
¶17 Marx and Murray alleged five causes of action against
Morris and his LLC: violation of Wis. Stat. § 183.0402, breach
of fiduciary duty, breach of fiduciary duty as corporate
counsel, unjust enrichment, and breach of implied covenant of
good faith and fair dealing. They also requested punitive
damages. Morris moved for summary judgment on all claims. He
argued, among other things, that Marx and Morris's claims
belonged only to North Star, and that Wis. Stat. ch. 183
supersedes and replaces any common law duties of LLC members.
¶18 The circuit court denied the motion for summary
judgment. It held that there were disputed issues of material
fact on the Wis. Stat. § 183.0402 claim, and decided to "wait
until the conclusion of the evidence to determine if there are
sufficient facts to enable a jury to make findings of fact with
respect to [Marx and Murray's other claims]."
¶19 The court of appeals certified the appeal to us.
Marx, No. 2017AP146, unpublished certification. We accepted the
8
No. 2017AP146
certification, and now affirm the circuit court's order denying
the Defendants-Appellants' motion for summary judgment.
II. DISCUSSION
A. Standard of Review
¶20 This case requires us to interpret an LLC's operating
agreement, interpret a statute, determine whether a party has
standing, and review a denial of summary judgment. An LLC's
operating agreement is a contract. See, e.g., Gottsacker v.
Monnier, 2005 WI 69, ¶22, 281 Wis. 2d 361, 697 N.W.2d 436.
"Contract interpretation presents a question of law that we
review independently of previous decisions of the circuit
court . . . but benefitting from [its] discussions." Estate of
Kriefall v. Sizzler USA, 2012 WI 70, ¶14, 342 Wis. 2d 29, 816
N.W.2d 853.
¶21 "Statutory interpretation and the application of a
statute to a given set of facts are questions of law that we
review independently, but benefiting from" the analysis of the
circuit court. Marder v. Bd. of Regents of Univ. of Wis. Sys.,
2005 WI 159, ¶19, 286 Wis. 2d 252, 706 N.W.2d 110. Whether a
party has standing is similarly a question of law for our
independent review. McConkey v. Van Hollen, 2010 WI 57, ¶12,
326 Wis. 2d 1, 783 N.W.2d 855. Finally, we review decisions on
summary judgment motions independently, applying the same
methodology as the circuit court while once again benefitting
from its analysis. Dufour v. Progressive Classic Ins. Co., 2016
WI 59, ¶12, 370 Wis. 2d 313, 881 N.W.2d 678. "The standards set
forth in Wis. Stat. § 802.08 are our guides." Id.9
No. 2017AP146
B. Overview of Limited Liability Companies
¶22 We begin with a brief overview of the history and
general principles of limited liability companies. An LLC is
"an unincorporated association of investors, members in LLC
parlance, whose personal liability for obligations of the
venture is limited to the amount the member has invested."
Joseph W. Boucher et al., LLCs and LLPs: A Wisconsin Handbook
§ 1.4 (6th ed. 2018). LLCs combine desirable features of two
other business forms, partnerships and corporations.
¶23 Similar to a partnership, an LLC allows for
"informality and flexibility of organization and operation,
internal governance by contract, direct participation by members
in the business, and no taxation at the entity level." Id.
Similar to a corporation, however, an LLC grants its investors
limited liability such that a member "is not personally liable
for any debt, obligation or liability of the limited liability
company, except that a member or manager may become personally
liable by his or her acts or conduct other than as a member."
Wis. Stat. § 183.0304(1). Therefore, as with a shareholder in a
corporation, each LLC member's potential liability to third
parties is limited to the amount the member chose to invest in
the LLC.
¶24 The first LLC act was passed by Wyoming in 197711 upon
a request from an oil company. Larry E. Ribstein & Robert R.
11 Wyo. Stat. Ann. § 17-15-101 to 136 (1977).
10
No. 2017AP146
Keatinge, Ribstein & Keatinge on Limited Liability Companies
§ 1.2 (June 2018 ed., West 2018). The oil company wanted a
business form that could offer it limited liability without
subjecting it to the "double taxation" applicable to
corporations.12 Id. Florida similarly enacted its own LLC act
in 1982.13 These acts did not immediately lead to a surge in the
creation of LLCs, nor did other states soon enact their own LLC
statutes, perhaps due to uncertainty regarding how LLCs would be
taxed. Id.
¶25 In 1988, however, the Internal Revenue Service issued
Rev. Rul. 88-76, 1988-2 C.B. 360, which made clear that properly
organized LLCs would be treated as partnerships for tax
purposes. See id. The Revenue Ruling examined the tax
treatment of a Wyoming LLC. According to the Revenue Ruling,
the LLC's tax treatment depended on whether it possessed
corporate characteristics such as "continuity of life,
centralization of management, limited liability, and free
transferability of interests." Rev. Rul. 88-76, 1988-2 C.B.
360. The IRS determined that because the LLC "lack[ed] a
12
Unless their form permits a subchapter S election,
corporations, unlike most LLCs, are taxed at the entity level on
their income. When dividends are distributed to shareholders,
the dividends are then also taxed on the shareholders'
individual tax returns. See 26 U.S.C. §§ 11, 61(a)(7); J.
William Callison & Maureen A. Sullivan, Partnership Law and
Practice: General and Limited Partnerships, § 3.1 (2018-19 ed.,
West 2018).
13
Florida Limited Liability Company Act, Fla. Stat. ch. 608
(Supp. 1982).
11
No. 2017AP146
preponderance" of the major corporate characteristics, it would
be classified as a partnership for tax purposes. Id. This
decision has been facilitated by the "check-the-box"
regulations, under which even single member LLCs may now choose
to be taxed as a partnership. Treas. Reg. § 301.7701-3(a).
After that Revenue Ruling, all 50 states and the District of
Columbia enacted their own LLC statutes,14 including Wisconsin in
1994.15
¶26 In Wisconsin, one or more persons may form an LLC by
filing articles of organization (essentially a notice document)
with the Department of Financial Institutions. Wis. Stat.
§ 183.0201; LLCs and LLPs: A Wisconsin Handbook, supra, at
§ 1.6. Members generally draft a contract known as an operating
agreement, which becomes the LLC's principle governing document
and its main source of "law" regarding the company's ownership
and management. LLCs and LLPs: A Wisconsin Handbook, supra, at
§§ 1.6, 3.60; Wis. Stat. ch. 183.
¶27 Wisconsin's LLC statute reflects the importance of
flexibility and freedom of contract in organizing an LLC. LLCs
and LLPs: A Wisconsin Handbook, supra, at §§ 1.6, 1.10. For
this reason, many of the provisions of ch. 183 furnish default
rather than mandatory rules. Id. at § 4.31. The default rules
14
See Larry E. Ribstein & Robert R. Keatinge, Ribstein &
Keatinge on Limited Liability Companies § 1.2 (June 2018 ed.,
West 2018) and accompanying footnotes for a compilation of state
legislation permitting the formation of LLCs.
15 Wis. Stat. ch. 183 (1993-94).
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No. 2017AP146
are designed to structure LLCs in a way that average
businesspeople would view as reasonable; the members of an LLC
are free to alter these rules in their operating agreement if
they prefer a different arrangement. Id. at §§ 1.6, 3.63.
However, all the default rules apply unless an operating
agreement unambiguously states otherwise: "if an operating
agreement is ambiguous as to whether the members intended to
override a particular statutory default term, the statutory
default term governs." Lenticular Europe, LLC v. Cunnally, 2005
WI App 33, ¶18, 279 Wis. 2d 385, 693 N.W.2d 302.
¶28 The members of an LLC make contributions to the LLC in
exchange for their interest in the company. LLCs and LLPs: A
Wisconsin Handbook, supra, at § 4.8. The value of each member's
contribution determines that member's percentage ownership
interest. Under the default rules, each member's economic
rights are proportional to his or her percentage of the members'
total contributions to the LLC.16 Wis. Stat. § 183.0503. A
member whose contributions represent 40 percent of the total
contributions is therefore entitled to 40 percent of any
distributions.
¶29 The relationship among members of an LLC in terms of
governance depends, to some extent, on whether the LLC is
16
Contributions may consist of cash, property or services
rendered, or promissory notes or other written obligations to
provide cash or property or to perform services. The operating
agreement generally determines the value of each member's
contribution. Wis. Stat. § 183.0501.
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No. 2017AP146
member-managed or manager-managed. In a member-managed LLC, the
default rule is that voting rights regarding company business
are allocated according to each member's percentage ownership
interest, and a vote representing over 50 percent of the total
value of contributions is required to authorize an action. Wis.
Stat. § 183.0404(1)(a). A member whose contributions represent
40 percent of the total contributions would thus hold 40 percent
of the voting power. Generally, each member of a member-managed
LLC is considered an agent of the LLC, and each such member has
apparent authority to bind the LLC in the ordinary course of
business.17 Wis. Stat. § 183.0301(1)(a) & (b). An LLC is
considered member-managed unless its articles of organization
specifically designate it as manager-managed. Wis. Stat.
§ 183.0401(1); LLCs and LLPs: A Wisconsin Handbook, supra, at
§ 4.33.
¶30 If an LLC is manager-managed, each manager gets one
vote on matters relating to the LLC's business, with a majority
vote required to take an action.18 Wis. Stat. § 183.0404(1)(b).
Unlike a member-managed LLC, the members of a manager-managed
LLC are not agents of the LLC simply by virtue of being members.
17Section 5.6 of the North Star Operating Agreement states
that except when "powers are exclusively reserved to the
Members . . . or as expressly provided in this Agreement, the
Members shall not have the power . . . to bind or obligate the
Company in any manner."
18North Star was manager-managed by its Directors, all of
whom owned members. Operating Agmt., Section 5.1, 5.2.
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No. 2017AP146
Wis. Stat. § 183.0301(2)(a). Members of a manager-managed LLC
therefore do not have apparent authority to bind the LLC in the
ordinary course of business simply by being members. See
§ 183.0301(2)(a) & (b). Regardless of whether an LLC is member-
managed or manager-managed, however, there are certain actions
such as amending the operating agreement or issuing an ownership
interest that require the consent of all the members.
§ 183.0404(2).
¶31 A member's ownership interest in the LLC is personal
property. Wis. Stat. § 183.0703. Wisconsin's LLC act applies
the entity theory19 of property rights, so a member has no
interest in any specific property of the LLC. See LLCs and
LLPs: A Wisconsin Handbook, supra, at § 4.4. For example, if a
member of an LLC transfers real estate to the LLC in exchange
for an ownership interest in the LLC, that member no longer has
any ownership interest in the real estate. Instead, the LLC
owns the real estate, and the member owns personal property in
the form of an ownership interest in the LLC. Wis. Stat.
§ 183.0701(1); LLCs and LLPs: A Wisconsin Handbook, supra, at
19The entity theory is often contrasted with the aggregate
theory. Under the entity theory, the LLC is a distinct legal
person that is separate from its members, owns its property, and
is liable on its obligations. The members have an ownership
interest only in the LLC itself. Under the aggregate theory, in
contrast, the LLC would be considered merely an aggregation of
its individual members, and each member would own an undivided
interest in the specific property and obligations of the LLC.
See, e.g., Partnership Law and Practice, supra, at § 3.1; LLCs
and LLPs: A Wisconsin Handbook, supra, at § 5.31.
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No. 2017AP146
§ 4.4. As it is personal property, a member's economic interest
in an LLC is generally freely transferable. In contrast to the
corporate model, however, the transfer of a member's economic
interest does not make the transferee a member of the LLC, nor
does it give the transferee any management or voting rights.
J. William Callison & Maureen A. Sullivan, Partnership Law and
Practice: General and Limited Partnerships, § 4.1 (2018-19 ed.,
West 2018); Wis. Stat. § 183.0704.
¶32 Unlike corporations, LLCs generally are not taxed at
the entity level.20 26 U.S.C. § 701 (2016).21 "Instead, the
LLC's gains, losses, income, deductions, and credits will pass
through to the members and be allocated among the members in
proportion to their interests in the LLC." LLCs and LLPs: A
Wisconsin Handbook, supra, at § 5.33. Each member's share of
the LLC's gains, losses, income, deductions, and credits will
then appear on the member's individual tax return as if the
member had realized them directly. Ribstein & Keatinge on LLCs,
supra, at § 17.2; 26 U.S.C. § 702(b). For example, if a member
owns a 30 percent interest in an LLC, that member will realize
30 percent of the LLC's gains, losses, income, deductions, and
credits on the member's individual tax return.
20While LLCs are generally treated as partnerships for tax
purposes, they have the option of being taxed as a corporation
if they so choose. Treas. Reg. § 301.7701-3(b)(1)(ii).
21All subsequent references to the United States Code are
to the 2016 version unless otherwise indicated.
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No. 2017AP146
¶33 Although we could describe many interesting
hypotheticals about the financial choices that LLCs may elect,
we choose not to do so because such hypotheticals have
absolutely no relevance to the case before us. Blasing v.
Zurich Am. Ins. Co., 2014 WI 73, ¶73, 356 Wis. 2d 63, 850 N.W.2d
138 (concluding that "[t]his court does not issue advisory
opinions based on non-existent facts."). As we explained
earlier, North Star is governed by its Operating Agreement.
That Agreement unambiguously elected that North Star is to be
treated as a partnership where all the losses and gains of the
LLC flow through to its individual members.
¶34 For example, Article 3.1(b)(3) of the Operating
Agreement states that its "foregoing provisions relating to the
maintenance of Capital Accounts are intended to comply with
Regulations § 1.704-1(b), and shall be interpreted and applied
in a manner consistent with such Regulations." Regulations
§ 1.704-1(b) assures a partner's distributive share is affected
within that partner's capital account.22 Stated otherwise,
compliance with Regulation § 1.704-1(b) was chosen for North
Star so that its income, gain, loss and deductions would pass
through to its individual members, just as they would if North
Star were a partnership. Therefore, as we explain more fully
below, an injury to North Star is not the same as an injury to a
corporation, and concluding that it is, demonstrates a lack of
22 Regulations § 1.704-1(b)'s full citation is 26 CFR 1.704-
1(b).
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No. 2017AP146
understanding of basic principles that control North Star, LLC.
Accordingly, we analyze the issues presented with principles
that are relevant to the case now before us.
C. Standing
¶35 We first consider whether Marx and Murray have
standing to assert individual claims against Morris for injuries
that are alleged to have occurred here.23 In order to have
standing to sue, a party must have a personal stake in the
outcome of the controversy. City of Madison v. Town of
Fitchburg, 112 Wis. 2d 224, 228, 332 N.W.2d 782 (1983). "Being
damaged, however, without more, does not automatically confer
standing." Krier v. Vilione, 2009 WI 45, ¶20, 317 Wis. 2d 288,
766 N.W.2d 517. Instead, "plaintiffs must show that they
suffered or were threatened with an injury to an interest that
is legally protectable." Id.¶36 Wisconsin Stat. ch. 180, which governs corporations,
sets forth a detailed list of procedures and requirements for
corporate shareholders seeking to bring claims on behalf of the
corporation, i.e., as derivative actions. The provisions of
23
The court of appeals formulated the question as: "[d]oes
a member of a limited liability company (LLC) have standing to
assert a claim against another member of the same LLC based on
an injury suffered primarily by the LLC, rather than the
individual member asserting the claim?" Marx, No. 2017AP146,
unpublished certification. This formulation could be read to
involve an assumption that an injury to the LLC and an injury to
a member are mutually exclusive. Due in part to the pass-
through nature of North Star, LLC, as more fully explained
herein, we reject such an assumption.
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No. 2017AP146
Wis. Stat. §§ 180.0740 through 180.0747 set out details such as
when a shareholder has standing to maintain a derivative action,
procedures the shareholder must follow, and when a court must
dismiss a derivative action. See Wis. Stat. §§ 180.0741,
180.0742, 180.0744. These procedures evince a recognition of
the long history of derivative action principles in Wisconsin
corporate law. See, e.g., Cook v. Berlin Woolen Mill Co.,
43 Wis. 433, 447-48 (1877).
¶37 In the corporate context, we have long held that
individual shareholders cannot directly sue a corporation's
directors or officers when the "primary injury" resulting from
the actor's wrong is to the corporation itself. See, e.g., Rose
v. Schantz, 56 Wis. 2d 222, 229-30, 201 N.W.2d 593 (1972).
Instead, a shareholder who wishes to seek redress for an injury
"primarily" to the corporation must bring a derivative action on
behalf of the corporation. See id.; Notz v. Everett Smith Grp.,
Ltd., 2009 WI 30, ¶20, 316 Wis. 2d 640, 764 N.W.2d 904.
¶38 Morris encourages us to read corporate principles of
derivative standing into ch. 183 and hold that Marx and Murray's
claims belong exclusively to North Star. We decline to do so.
An LLC is a "creature of statute," Lenticular, 279 Wis. 2d 385,
¶17; therefore, the absence of statutory procedures that limit
actions against others for injuries to the LLC is significant.
Additionally, as we have explained earlier, North Star, LLC is a
distinct business form that differs significantly from a
corporation. Accordingly, we decline to import corporate
principles of derivative standing into ch. 183 to preempt claims
19
No. 2017AP146
by individual North Star members. This conclusion is not driven
by who "owns" the claim, but rather, by Wis. Stat. § 183.0402and the partnership-like mode of operation North Star, LLC
selected in its Operating Agreement.
¶39 In contrast to the statutes that limit standing to
bring derivative actions in ch. 180, the only provision of
ch. 183 relating to suits in the name of an LLC is Wis. Stat.
§ 183.1101. That section states in relevant part:
(1) Unless otherwise provided in an operating
agreement, an action on behalf of a limited liability
company may be brought in the name of the limited
liability company by one or more members of the
limited liability company, whether or not the
management of the limited liability company is vested
in one or more managers, if the members are authorized
to sue by the affirmative vote as described in
s. 183.0404(1)(a).
¶40 Wisconsin Stat. § 183.1101 does not require that
claims against LLC members be brought in the name of the LLC,
nor does it otherwise limit a member's ability to sue other
members or managers in their individual capacities. It merely
requires that if an action of any kind is to be brought in the
name of the LLC, against anyone, it must be authorized by a
majority vote of disinterested members. Section 183.1101, which
is silent on a member's right to sue on his own behalf, does not
abrogate the plain language of Wis. Stat. § 183.0402(1)(a),
which prohibits the "willful failure to deal fairly with the
limited liability company or its members" by a member or
manager.
20
No. 2017AP146
¶41 As we have explained, an LLC is a business form
created by statute. Other states have written standing rules
that apply to corporations into their LLC statutes, including
who may maintain an action for an injury to an LLC, demand
requirements, and the role of the court. See, e.g., Mich. Comp.
Laws § 450.4510; Conn. Gen. Stat. § 34-271e. Wisconsin's
legislature has not chosen to enact such statutes. We will not
judicially import ch. 180's corporate derivative standing
provisions into the LLC context where the legislature has not
done so.
¶42 Morris argues that Wis. Stat. § 183.0402(2) denies the
members of an LLC standing to assert individual claims under
§ 183.0402(1). Section 183.0402(2) states in relevant part:
Every member and manager shall account to the limited
liability company and hold as trustee for it any
improper personal profit derived by that member or
manager without the consent of a majority of the
disinterested members or managers, or other persons
participating in the management of the limited
liability company, from any of the following:
(a) A transaction connected with the
organization, conduct or winding up of the limited
liability company.
Morris argues that because this section requires improper
personal profits to be held in trust for the LLC, but not for
the individual members, it modifies § 183.0402(1) by clarifying
that a § 183.0402 injury is to the LLC rather than to individual
members.
¶43 Morris's argument assumes that injuries to North Star,
LLC and injuries to individual members are mutually exclusive.
21
No. 2017AP146
As discussed above, however, corporate principles of standing do
not apply to LLCs. Specifically, in the matter before us,
injuries to North Star and to its members are not mutually
exclusive because financial injury to North Star flows through
to its members just as an injury would if North Star were a
partnership rather than an LLC. Therefore, the question is not
whether the alleged injury is to the LLC or to its individual
members. Rather, the question is simply whether the individual
member bringing the action has suffered an injury to a legally
protected interest.
¶44 Furthermore, in addition to the lack of statutory
support for applying statutory corporate principles of
derivative standing to an LLC, in a corporation, gains and
losses do not flow through to the individual shareholders.
Instead, the corporation's income is first taxed at the entity
level. 26 U.S.C. § 11. Shareholders do not claim a
corporation's gains and losses on their individual tax returns.
Ribstein and Keatinge on LLCs, supra, at § 16.2. They pay taxes
only on the dividends, if any, they receive from the
corporation, and are not taxed on capital gains and losses
unless and until they choose to sell their corporate shares.24
24
While this is true of a "regular" corporation, or
C corporation, William Meade Fletcher, Fletcher Cyclopedia of
the Law of Corporations § 7025.50 (West 2018), we note that some
eligible corporations can choose to be taxed as subchapter
S corporations. Id. Corporations must meet certain criteria to
be eligible for S corporation election, such as having fewer
than 100 shareholders and having only one class of stock. Id.
at § 7026; 26 U.S.C. § 1361.
22
No. 2017AP146
William Meade Fletcher, Fletcher Cyclopedia of the Law of
Corporations § 6972.50 (West 2018).
¶45 In contrast, North Star has elected to be taxed as a
partnership.25 This is the usual form of operation for an LLC.
See Rev. Rul. 88-76, 1988-2 C.B. 360; 26 U.S.C. § 701. When
treated as a partnership, the company's gains and losses flow
through to individual members and are realized directly by each
member, each year, on that member's individual tax return.26 See
id.; Gottsacker, 281 Wis. 2d 361, ¶19. North Star operates such
that its gains and losses are directly credited to or deducted
from each member's capital account, flowing through to each
member's individual tax return.27 This is a concept used in
partnership law that is not present in the corporate context.
Each member's interest in North Star, LLC is that member's
personal property, and includes the right to a share of the
profits and losses of the LLC.28 Wis. Stat. §§ 183.0703,
25
See e.g., Operating Agmt., §§ 3.1(b)(3), 3.1(d), 3.1(g),
4.3, 4.4.
26 Id.
27
As a general principle, and specifically in the matter
now before us, a member's capital account measures that member's
equity in the LLC. Each member's capital account is credited
with his initial contribution and any subsequent contributions
to the LLC. It is then increased by the member's share of any
income and gain and decreased by the member's share of losses,
as well as any distributions to that member. See, e.g.,
Ribstein and Keatinge on LLCs, supra, at § 17.10; 26 U.S.C.
§ 701.
28 See e.g., Operating Agmt., §§ 4.5, 4.6, 4.7.
23
No. 2017AP146
183.0102(11); see also Gottsacker, 281 Wis. 2d 361, ¶50
(Roggensack, J., concurring). For these reasons, there is
generally a much closer financial connection between harm to an
LLC and harm to its members than between harm to a corporation
and harm to its shareholders. North Star's Operating Agreement
has chosen this usual form of operation. Furthermore, no
Wisconsin court has applied ch. 180's derivative standing rules
in the context of a ch. 183 LLC, and in the absence of statutory
support, we decline to do so.
¶46 Here, Marx and Murray assert claims against Morris,
who was a member and a manager of North Star. They claim
Morris, individually and through Fracsand, LLC, willfully failed
to deal fairly with them in connection with a matter in which he
had a material conflict of interest, contrary to his statutory
duty as a member and manager under Wis. Stat. § 183.0402. They
allege that they, in their individual member capacities, have
been injured as a result. Therefore, they have alleged "an
injury to an interest that is legally protectable." See Krier,
317 Wis. 2d 288, ¶20. The potential that North Star also may
have been injured does not affect Marx and Murray's standing.
Accordingly, we conclude that Marx and Murray have standing to
assert individual member claims against Morris, in his capacity
as a member and as a manager of North Star, whether based on
injury independent of or secondary to North Star.
D. Common Law Claims
¶47 We next address whether Marx and Murray's common law
claims are eliminated by the Wisconsin LLC Act. As mentioned
24
No. 2017AP146
earlier, the second question certified by the court of appeals
is: "[d]oes the Wisconsin Limited Liability Company Law, Wis.
Stat. ch. 183, preempt common law claims by one member of an LLC
against another member based on the second member's alleged
self-dealing?" The answer to this question depends on the
specific common law claims a member brings and the facts
attendant to those claims.29 In this case, the claims asserted
by Marx and Murray, breach of fiduciary duty, unjust enrichment
and breach of the covenant of good faith and fair dealing, are
not displaced by ch. 183 based on the record before us.
¶48 Wisconsin Stat. § 183.1302(2) provides that "[u]nless
displaced by particular provisions of this chapter, the
principles of law and equity supplement this chapter." Section
183.1302(2) has not been interpreted previously. "The purpose
of statutory interpretation is to determine what the statute
means so that it may be properly applied." Westmas v. Creekside
Tree Serv., Inc., 2018 WI 12, ¶18, 379 Wis. 2d 471, 907 N.W.2d
68.
¶49 We begin with the plain meaning of the words chosen by
the legislature. State ex rel. Kalal v. Circuit Court for Dane
Cty., 2004 WI 58, ¶45, 271 Wis. 2d 633, 681 N.W.2d 110. If they
29
The common law fiduciary obligation of a corporate
majority shareholder to a corporate minority shareholder does
not transfer to an LLC context because of the differing forms of
business entities. Wisconsin Stat. § 183.0402 also may bear on
a claim of breach of fiduciary duty, depending on the nature of
the allegations. Gottsacker v. Monnier, 2005 WI 69, 281 Wis. 2d
361, ¶45, 697 N.W. 436 (Roggensack, J. concurring).
25
No. 2017AP146
evidence a plain, clear statutory meaning without ambiguity, we
generally go no further. State v. Grunke, 2008 WI 82, ¶22, 311
Wis. 2d 439, 752 N.W.2d 769. However, if the statute is subject
to more than one reasonable interpretation by well-informed
people, it is ambiguous, and we may consult legislative history.
Westmas, 379 Wis. 2d 471, ¶20.
¶50 Here, Marx and Murray raise equitable claims against
Morris as a member and as a manager: breach of fiduciary duty,
unjust enrichment and breach of the covenant of good faith and
fair dealing.30 The only "particular provision" that has been
raised by Morris is Wis. Stat. § 183.0402. However, he does not
develop an argument in regard to how each of these common law
claims has been displaced. Furthermore, from the record before
us, we cannot determine the full scope of these claims. That
is, we cannot determine if they include only allegations that
come within the ambit of § 183.0402 or something more.
¶51 In addition, Wis. Stat. § 183.1302(2) comes from the
Revised Uniform Partnership Act, Unif. P'ship Act § 104(a)
(Unif. Law Comm'n 1994). The drafters of the act described the
provision as a "broad statement" that incorporates "not only the
law of agency and estoppel and the law merchant mentioned in the
UPA, but all of the other principles listed in UCC Section 1-
103: the law relative to capacity to contract, fraud,
30
They allege that Marx breached his fiduciary duty as an
attorney as well as in his capacity as member and manager of
North Star.
26
No. 2017AP146
misrepresentation, duress, coercion, mistake, bankruptcy, and
other common law validating or invalidating causes." Id., § 104
cmt.
¶52 Other states that have included this provision in
their LLC acts have interpreted it broadly as permitting common
law claims and defenses that have not been specifically
abrogated. See, e.g., Bushi v. Sage Health Care, PLLC, 203 P.3d
694, 699 (Idaho 2009) (interpreting the same provision as
codified in Idaho's LLC statute and concluding that members of
an LLC owe one another fiduciary duties); Pannell v. Shannon,
425 S.W.3d 58, 82 n.22 (Ky. 2014) (interpreting the same
provision as codified in Kentucky's LLC statute as permitting a
common law laches defense). Further, other states that have
statutorily eliminated common law duties such as fiduciary
duties in LLCs have done so clearly and explicitly. See, e.g.,
Ohio Rev. Code Ann. § 1705.281 (West 2017) ("[t]he only
fiduciary duties a member owes to a limited liability company
and the other members are the duty of loyalty and the duty of
care set forth in divisions (B) and (C) of this section."); see
also Haw. Rev. Stat. § 428-409 (2017); Or. Rev. Stat.
§ 63.155(1) (2017); Vt. Stat. Ann. tit. 11, § 4059(a) (2018);
Wash. Rev. Code § 25.15.038 (2018).
¶53 Furthermore, we could identify no provision of
Wisconsin's LLC Act that specifically displaces all of the
common law claims asserted by Marx and Murray. The Act does not
state or imply that Wis. Stat. § 183.0402 constitutes the
entirety of an LLC member's or manager's obligations to other
27
No. 2017AP146
members and to the LLC. Therefore, Marx and Murray's common law
claims survive at this stage of the proceedings.
E. Summary Judgment
¶54 Having determined that Marx and Murray have standing
to assert individual claims against Morris and his LLC, and that
Marx and Murray's common law claims are not preempted by the LLC
Act, we next review whether Morris is entitled to summary
judgment, which the circuit court denied. Summary judgment is
not appropriate unless "the pleadings, depositions, answers to
interrogatories, and admissions on file, together with the
affidavits, if any, show that there is no genuine issue as to
any material fact and that the moving party is entitled to a
judgment as a matter of law." Dufour, 370 Wis. 2d 313, ¶12;
Wis. Stat. § 802.08(2).
¶55 In this case, there is a genuine issue of material
fact as to whether Morris violated Wis. Stat. § 183.0402(1) by a
willful failure to deal fairly with Marx, Murray and/or North
Star in connection with a matter in which he had a material
conflict of interest. Marx and Murray's § 183.0402(1) claim is
partly based on the Notice provision in North Star's Operating
Agreement. Section 5.7 of the Operating Agreement states:
d. Notice. No matter shall be voted upon at a
meeting of Members unless at least 5 days' notice of
the matter to be voted on is given or such notice is
waived by any Member who is entitled to vote and who
has not received notice. A Member shall be deemed to
have waived notice of any matter acted upon at any
meeting that the Member attends or in which the Member
participates unless at the beginning of the meeting or
promptly upon commencement of the Member's
28
No. 2017AP146
participation in the meeting the Member objects to the
consideration of the matter because of lack of proper
notice. No prior notice shall be required for any
action taken by written consent of the Members.
¶56 Marx and Murray assert that at the December 31, 2013
meeting,31 Morris forced members to vote on selling Westar to DSJ
without providing the notice required by section 5.7(d) of the
North Star Operating Agreement. Among other things, they allege
that Morris unfairly influenced the vote by failing to give the
required notice and by falsely telling all the members of North
Star that they would be able to become members of DSJ, and that
his wrongful actions significantly increased his profit from the
sale to Unimin to the detriment of Marx and Murray. Marx and
Murray have raised a genuine issue of material fact as to
whether Morris willfully failed to deal fairly with them in
violation of Wis. Stat. § 183.0402(1).
¶57 With regard to the common law claims, the case has not
been sufficiently developed for this court to determine whether
there exist genuine disputes as to material facts for these
claims. In its order denying Morris's motion for summary
judgment, the circuit court addressed only the Wis. Stat.
§ 183.0402(1) claim, choosing to "wait until the conclusion of
the evidence to determine if there are sufficient facts to
enable a jury to make findings of fact with respect to [the
31
It is not entirely clear from the record whether this was
actually a members' meeting, at which all six members would be
entitled to vote, or a Directors' meeting, at which only the
Directors (the members minus Marx) would be entitled to vote.
29
No. 2017AP146
common law claims]." On remand, the circuit court will decide
whether a genuine dispute exists as to any material facts
regarding Marx and Murray's common law claims, with the
clarification that § 183.0402 does not eliminate them at this
time.
¶58 Morris advances a number of arguments asserting that
there is no genuine dispute as to any material fact. He argues
that the North Star Operating Agreement permits the self-dealing
alleged by Marx and Murray, that Marx and Murray released their
claims by signing a "Member Distribution Receipt and
Acknowledgements" as part of the Badger Silica transaction, and
that the majority of North Star's disinterested members approved
the Westar sale. For the reasons discussed below, Morris's
arguments fail.
1. Business Opportunities Clause
¶59 Morris asserts that as a matter of law, the "Business
Opportunities" clause in North Star's Operating Agreement
abrogates Marx and Murray's Wis. Stat. § 183.0402(1) claims
against him. The Operating Agreement states in relevant part:
Section 5.8. Wis. 2d Business Opportunities
. . . .
Nothing in this Agreement shall be deemed to prohibit
any Director, or the Members or their respective
officers, board of directors, directors, shareholders,
partners, and affiliates, from dealing or otherwise
engaging in business with Persons transacting business
with the Company. Neither the Company, any Director,
or any Member shall have any right by virtue of this
Agreement, or the relationship created by this
Agreement, in or to such other ventures or activities,
30
No. 2017AP146
or to the income or proceeds derived from such other
ventures or activities, and the pursuit of such
ventures shall not be deemed wrongful or improper.
¶60 Wisconsin Stat. § 183.0402, on the other hand, states
that unless otherwise provided in the LLC's operating agreement:
(1) No member or manager shall act or fail to act
in a manner that constitutes any of the following:
(a) A willful failure to deal fairly with the
limited liability company or its members in connection
with a matter in which the member or manager has a
material conflict of interest.
. . . .
(c) A transaction from which the member or
manager derived an improper personal profit.
These are default statutory terms that can be altered by an
operating agreement if an LLC's members so choose. As mentioned
earlier, however, the default statutory terms govern unless the
operating agreement unambiguously states otherwise. Lenticular,
279 Wis. 2d 385, ¶18.
¶61 North Star's Operating Agreement does not
unambiguously supplant Wis. Stat. § 183.0402(1). The "Business
Opportunities" provision in the Operating Agreement merely
allows North Star's members and managers to engage in business
with persons transacting business with North Star. It does not
allow them to do so "unfairly" in contravention of
§ 183.0402(1)(a). Furthermore, Section 5.10(c) of the Operating
Agreement expresses the members' expectation that other members
or managers (Directors) of North Star will not willfully fail to
deal fairly with the LLC in a matter in which the member or
manager has a material conflict of interest, violate criminal
31
No. 2017AP146
law, derive improper personal benefits, or engage in willful
misconduct.32
¶62 The "Business Opportunities" clause is therefore
entirely consistent with Wis. Stat. § 183.0402. North Star's
members are free to engage in business with persons transacting
business with North Star, LLC, provided that they do so fairly.
The claim in this case is that Morris did so unfairly. We
therefore conclude that the North Star Operating Agreement does
not prevent Marx and Murray from asserting their claims against
Morris.
2. Release
¶63 Morris next asserts that as a matter of law, the
"Member Distribution Receipt and Acknowledgements" signed by
Marx and Murray after the Badger Silica transaction constitutes
a release of all their claims against Morris. "A release is to
be treated as a contract." Gielow v. Napiorkowski, 2003 WI App
249, ¶14, 268 Wis. 2d 673, 673 N.W.2d 351. "Releases should be
construed to give effect to the intention of the parties."
Brandner v. Allstate Ins. Co., 181 Wis. 2d 1058, 1078, 512
N.W.2d 753 (1994). However, "subjective intent is not the be-
all and end-all" of contract interpretation. Tufail v. Midwest
Hosp., LLC, 2013 WI 62, ¶25, 348 Wis. 2d 631, 833 N.W.2d 586.
32Section 5.10(c) of the Operating Agreement tracks the
duties of LLC members laid out in Wis. Stat. § 183.0402(1)(a)—
(d), and provides that North Star has no obligation to indemnify
a member or manager for liability incurred by a member or
manager as a result of a violation of these duties.
32
No. 2017AP146
Rather, we interpret the plain language of a contract
"consistent with what a reasonable person would understand the
words to mean under the circumstances." Maryland Arms Ltd.
P'ship v. Connell, 2010 WI 64, ¶22, 326 Wis. 2d 300, 786 N.W.2d
15.
¶64 Under the circumstances of this case, a reasonable
person would understand the scope of the "Member Distribution
Acknowledgement and Release" to be limited to the Badger Silica
transaction. The document memorializes the amount of money each
member received as a result of the transaction, and accordingly
is titled "Member Distribution Receipt and Acknowledgement"
rather than "Release." It does not state that any member
releases or waives any identified claims against any other
member, nor does it memorialize any consideration for such a
release. It was executed as part of the Badger Silica
transaction in August 2014, a separate transaction that occurred
months after the Westar/Pine Creek transaction, and makes no
mention of Pine Creek or Westar. We conclude that the scope of
the "Member Distribution Acknowledgement and Release" is limited
to the North Star/Badger Silica transaction.
3. Majority Vote of Disinterested Members
¶65 Finally, Morris argues that he is entitled to judgment
as a matter of law because a majority of disinterested North
Star members voted to authorize the sale of Westar to DSJ. He
argues that Wis. Stat. § 183.0402(2) requires him to hold as
trustee for the LLC only those improper personal profits derived
without the consent of a majority of disinterested members, and
33
No. 2017AP146
that the Westar sale to DSJ was authorized by a majority of
disinterested members.
¶66 Morris's argument is unpersuasive. As mentioned
earlier, Wis. Stat. § 183.0402(2) does not limit the scope of
Morris's duties to his fellow North Star members under
§ 183.0402(1). Section 183.0402(2) merely tells Morris what he
must do if he derives an improper personal profit without the
consent of a majority of disinterested members. It does not
state that a violation of § 183.0402(1)(a) is excused so long as
a majority of disinterested members consent to the unfair
treatment of another member. Therefore, even if a majority of
disinterested members were to have voted to approve the sale of
Westar to DSJ, this would not affect Marx and Murray's
§ 183.0402(1)(a) claim against Morris. For the foregoing
reasons, there are genuine issues of material fact regarding
Marx and Murray's § 183.0402(1) claims against Morris. We
affirm the circuit court's denial of Morris's motion for summary
judgment.
III. CONCLUSION
¶67 We conclude the following. First, the members of an
LLC have standing to assert individual claims against other
members and managers of the LLC based on harm to the members or
harm to the LLC. Corporate principles of derivative standing do
not apply to the distinct business form of an LLC.
¶68 Second, Marx and Murray's common law claims survive
because they have not been displaced by particular provisions of
ch. 183 or by North Star's Operating Agreement. Third, there
34
No. 2017AP146
are genuine issues of material fact with regard to Marx and
Murray's claim that Morris violated Wis. Stat. § 183.0402(1),
and potentially with regard to the common law claims. For these
reasons, we affirm the order of the circuit court and remand for
further proceedings not inconsistent with this opinion.
By the Court.—Order of the circuit court is affirmed, and
the cause is remanded.
35
No. 2017AP146.dk
¶69 DANIEL KELLY, J. (concurring in part, dissenting in
part). Our decision today is incompatible with the structure of
limited liability companies and the laws that govern them.
Because the court's opinion establishes the following six
erroneous propositions, I cannot join it:
1. A non-member may sue an LLC's members based on the
LLC's management decisions.
2. A non-member may sue another non-member based on
an LLC's management decisions.
3. A member of an LLC may sue a non-member for the
LLC's management decisions.
4. One LLC member may pursue a claim against another
LLC member (or a member of the member) without regard
to whether the plaintiff actually owns the claim.
5. Members of an LLC owe each other fiduciary duties.
6. An attorney owes fiduciary duties not just to the
organization it represents, but also to the
constituent members of that organization.
I. BUSINESS FORMS MATTER
¶70 The first four errors share a common feature: A
failure to recognize that the distinction between an LLC and its
members necessarily affects who may bring what types of actions
against which defendants. The court's opinion properly
identified the legal nature of North Star Sand, LLC ("North
Star"), and accurately identified its membership (at least at
one point), but it thereafter ignored the distinction between an
LLC and its members in considering the rights and obligations of
the parties to this action.
1
No. 2017AP146.dk
A. LLCs and Members are Legally Distinct From Each Other
¶71 The distinction between LLCs and their members, of
course, is why this case is here, so that's where I'll start.
North Star is an LLC. It has six members, each one of which is
itself an LLC. Majority op., ¶7. Each of the six LLC members
has a single member, and in each case that member is a natural
person. Two of the LLC members are plaintiffs in this case——
Fracsand, LLC ("Fracsand"), and R&R Management Funds, LLC
("Management Funds"); one of the LLC members is a defendant——
R.L. Co., LLC ("R.L."). There are also three individuals who
are parties to this case, none of whom are members of North
Star. Daniel Marx (Fracsand's sole member) and Michael Murray
(Management Funds' sole member) are both plaintiffs. Richard
Morris (R.L.'s sole member) is a defendant.
¶72 The plaintiffs——all four of them——asserted five
substantive causes of action in this case.1 That is to say, the
plaintiffs are not just the North Star members. The members'
members are also plaintiffs. And the plaintiffs sued not just a
North Star member, but also that member's member. In four of
the five causes of action, Messrs. Marx and Murray claimed that
one of North Star's members (R.L.) owed them legally enforceable
duties by virtue of R.L.'s membership in North Star. And in all
1 The plaintiffs alleged the following against Mr. Morris
and R.L. Co., LLC in their amended complaint: (1) violation of
Wis. Stat. § 183.0402; (2) breach of fiduciary duties between
LLC members; (3) breach of fiduciary duties as corporate
counsel; (4) unjust enrichment; and (5) breach of implied
covenant of good faith and fair dealing.
2
No. 2017AP146.dk
five causes of action they claimed that North Star's member's
member (Mr. Morris) owed them legally enforceable duties. But
neither Mr. Marx, nor Mr. Murray, nor Mr. Morris, are North Star
members. The court failed to account for this foundational
fact, and that sent its analysis on an unrecoverable trajectory.
¶73 The court's error started in the very first paragraph,
in which it misapprehended the identity of the parties to this
case:
Two members of a limited liability company (LLC),
Fracsand, LLC by Daniel Marx (Marx) and Management
Funds, LLC by Michael Murray (Murray), brought an
action against another member, Richard Morris (Morris)
and his LLC, R.L. Co., LLC, after North Star Sand, LLC
(North Star) sold valuable assets to a company owned
by Morris.
Id., ¶1. No, Fracsand did not bring its claim "by Daniel Marx,"
nor did Management Funds bring its claim "by Michael Murray."
Fracsand and Management Funds brought their claims under their
own steam, because each one is a juridical entity with the
ability to sue and be sued:
(2) Unless otherwise provided in an operating
agreement, a limited liability company organized and
existing under this chapter has the same powers as an
individual to do all things necessary and convenient
to carry out its business, including but not limited
to all of the following:
(a) Sue and be sued, complain and defend in its name.
Wis. Stat. § 183.0106(2)(a). Nothing in the amended complaint
suggests that Messrs. Marx and Murray are participating in this
case simply as proxies for Fracsand and Management Funds. To
the contrary, Messrs. Marx and Murray asserted their own claims
against the defendants. The complaint explicitly states there
3
No. 2017AP146.dk
are four plaintiffs, not two: Mr. Marx, Fracsand, Mr. Murray,
and Management Funds. Nonetheless, the court reduced them by
half, referring to Mr. Marx and Fracsand as "Marx," and Mr.
Murray and Management Funds as "Murray" throughout the opinion
as though there is no legal difference between an LLC and its
members. The court didn't fare much better with the defendants.
It said the plaintiffs "brought an action against another
member, Richard Morris (Morris) and his LLC, R.L. Co., LLC."
Majority op., ¶1. That would certainly be news to the
plaintiffs (all four of them), because they all understand that
R.L. is the North Star member, not Mr. Morris. The apparent
assumption behind the court's conflation of the LLCs involved in
this case and their members is that our statutes make no
distinction between them. But that's simply not true. In fact,
the distinction between LLCs and their members is the very first
thing for which we must account in deciding who may bring what
types of claims against which defendants.
¶74 The first step in analyzing this case is determining
who owns the causes of action asserted in the amended complaint.
As a juridical entity, an LLC can buy, hold, and convey property
in its own name. Wis. Stat. § 183.0701(3) ("Property may be
acquired, held and conveyed in the name of a limited liability
company."). Causes of action are a type of property recognized
by Wisconsin law. Wis. Stat. § 990.01(27) (Personal property
"includes . . . things in action[.]"); Logan v. Zimmerman Brush
Co., 455 U.S. 422, 428 (1982) (citing Mullane v. Central Hanover
Bank & Trust Co., 339 U.S. 306 (1950) ("[A] cause of action is a
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species of property protected by the Fourteenth Amendment's Due
Process Clause.")). Therefore, because LLCs have "the same
powers as an individual to do all things necessary and
convenient to carry out its business,"2 and because they can own
property as well as sue and be sued, it necessarily follows that
they can own a cause of action just like an individual.
¶75 Ownership of a cause of action depends on the
principle of "standing." A person has standing, and therefore
owns a cause of action, only if he has been injured (or
threatened with injury): "For standing to exist two things must
be shown. First, there must be some direct injury or a threat
of direct injury. Second, the injury must be to a legally
protected interest." Fox v. Wisconsin DHSS., 112 Wis. 2d 514,
529, 334 N.W.2d 532 (1983); Liebovich v. Minnesota Ins. Co.,
2008 WI 75, ¶36, 310 Wis. 2d 751, 751 N.W.2d 764 ("[I]t is
through the demonstration of injury that standing is
conferred."); Krier v. Vilione, 2009 WI 45, ¶20, 317
Wis. 2d 288, 766 N.W.2d 517 ("'Standing' is a concept that
restricts access to judicial remedy to those who have suffered
some injury because of something that someone else has either
done or not done.") (quoted source omitted).
¶76 We are not unfamiliar with the challenge of
distinguishing between causes of action that belong to a
business entity and those that belong to the entities' owners.
We employ the "primary injury" rule to help us accurately
2 Wis. Stat. § 183.0106(2).
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determine ownership. Although the rule has its genesis in the
corporate context, it is not a product of Chapter 180. It is,
instead, a judicially-created analytical construct that exists
for the express purpose of accounting for the fact that a
corporation and its shareholders are legally distinct——a
distinction that necessarily affects who or what owns a
particular claim. And because LLCs and members are legally
distinct in the same way as corporations and their shareholders,
we will inevitably face the same question when encountering a
claim related in some way to the LLC or the business it
conducts: Does the claim belong to the LLC, or to its
individual members? Because both corporations and LLCs are
juridical entities, and both are statutorily-enabled to own
causes of action, and ownership of both types of business
entities is distinct from the company itself, the answer must
necessarily be the same in the LLC context as in the corporate
context. Consequently, the "primary injury" rule is as useful
here as when we determine the ownership of claims related to
corporations.
¶77 The "primary injury" rule is simple and intuitive. It
begins with this inquiry: "Whose right is sought to be enforced
by the [] cause of action?" Rose v. Schantz, 56 Wis. 2d 222,
229, 201 N.W.2d 593 (1972). The cause of action belongs to the
company's owner, as opposed to the company itself, if the injury
is "'primarily . . . to an individual shareholder [or
member] . . . .'" Notz v. Everett Smith Grp., Ltd., 2009 WI 30,
¶23, 316 Wis. 2d 640, 764 N.W.2d 904 (quoted source omitted).
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And the injury is primarily to the individual if it "'affects a
shareholder's [or member's] rights in a manner distinct from the
effect upon other shareholders [or members] . . . .'" Id. If
the individual's injury is not distinct from the other owners,
then the injury is to the company and the company owns the cause
of action.3
¶78 The court refuses to engage this analysis because it
believes our statutes allow LLCs and their members to pursue
causes of action without accounting for their ownership. The
court claims that "the only provision of ch. 183 relating to
suits in the name of an LLC is Wis. Stat. § 183.1101," an
unfortunately inaccurate statement——but more about that later.
Majority op., ¶39. It asserts that "§ 183.1101 does not require
that claims against LLC members be brought in the name of the
LLC," and that this provision "is silent on a member's right to
sue on his own behalf . . . ." Id., ¶40. Based on these
premises, the court said "[W]e will not judicially import
ch. 180's corporate derivative standing provisions into the LLC
context where the legislature has not done so." Id., ¶41.
¶79 There's no need to judicially import derivative
standing principles into Chapter 183, because the legislature
3This not to say, however, that one act could not
simultaneously give rise to one type of injury that falls
primarily on the company and another that falls primarily on the
member. See, e.g., Marshfield Clinic v. Doege, 269 Wis. 519,
527, 69 N.W.2d 558 (1955) ("If wrongful acts are not only wrongs
against a corporation, but also violations by the wrongdoer of a
duty arising from contract and owing directly by him to the
stockholders, then the stockholders may sue on their own
behalf.").
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has, in fact, already done so. The court's analysis is faulty
because it didn't start at the beginning. The first statutory
provision to consult on this subject is not Wis. Stat.
§ 183.1101 (which is where the court started), it is § 183.0305.
Here we learn that one's status as a member of an LLC does not,
by itself, provide the necessary authority to sue on behalf of
the LLC:
A member of a limited liability company is not a
proper party to a proceeding by or against a limited
liability company, solely by reason of being a member
of the limited liability company, except if any of the
following situations exists:
(1) The object of the proceeding is to enforce a
member's right against or liability to the limited
liability company.
(2) The action is brought by the member under s.
183.1101.
§ 183.0305. In the first enumerated situation (which is not at
issue here), one's status as a member is sufficient for the
member to bring an action against the LLC, or for the LLC to
bring an action against the member. The only other circumstance
in which membership in an LLC confers authority to sue
(according to § 183.0305) is through compliance with § 183.1101.
That provision says:
Unless otherwise provided in an operating agreement,
an action on behalf of a limited liability company may
be brought in the name of the limited liability
company by one or more members of the limited
liability company, whether or not the management of
the limited liability company is vested in one or more
managers, if the members are authorized to sue by the
affirmative vote as described in s. 183.0404 (1) (a),
except that the vote of any member who has an interest
in the outcome of the action that is adverse to the
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interest of the limited liability company shall be
excluded.
§ 183.1101(1). Consequently, § 183.0305 stands as a bar against
members suing on behalf of their LLC unless they satisfy the
terms of § 183.1101.
¶80 The primary reason the court's statutory analysis went
where it did is because it never mentioned, much less analyzed,
Wis. Stat. § 183.0305. Its narrow focus on the terms of
§ 183.1101, to the exclusion of all other statutory provisions,
caused it to conclude that its provisions were optional, and
that it "is silent on a member's right to sue on his own
behalf . . . ." Majority op., ¶40. Yes, § 183.1101 is silent
on that subject. The problem is, § 183.0305 is not. In fact,
§ 183.1101 simply operates as an exception to the rule in
§ 183.0305 that a member has no standing to sue on behalf of his
LLC.
B. Of Taxation, Profits, and Derivative Actions
¶81 The court rejected derivative standing, in part,
because of what it sees as differential treatment of LLCs and
corporations in matters of taxation and distribution of profits.
So, for example, the court said:
[I]n a corporation, gains and losses do not flow
through to the individual shareholders. Instead, the
corporation's income is first taxed at the entity
level. . . . In contrast, North Star has elected to be
taxed as a partnership. This is the usual form of
operation for an LLC. When treated as a partnership,
the company's gains and losses flow through to
individual members and are realized directly by each
member, each year, on that member's individual tax
return.
Majority op., ¶¶44-45 (citations omitted).
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¶82 That's all true . . . except for when it's not. An
LLC may choose to be taxed at either the entity or member level.
26 CFR § 301.7701-3. Similarly (and subject to some
limitations), a corporation may also choose to be taxed either
at the entity or shareholder level. 26 U.S.C. § 1361(describing the requirements by which a corporation can elect to
be taxed similarly to a partnership).4 The default rules, of
course, are different: By default, a corporation is taxed at
the entity level while an LLC is taxed at the individual level.
They have to elect to be treated differently. But the court
never explained how this seemingly trivial distinction could
affect the ownership of a cause of action.
¶83 The court also found it significant that "[a] member's
interest in [the LLC] is that member's personal property, and
includes the right to a share of the profits and losses of the
LLC." Majority op., ¶45. So? The same could be said of a
shareholder's interest in a corporation. And, in fact, we have:
"There is plenty of authority for the proposition that shares of
stock in a corporation are personal property[.]" Stone v. State
Tax Comm'n, 197 Wis. 71, 73-74, 221 N.W. 376 (1928); Shepard v.
State, 184 Wis. 88, 91, 197 N.W. 344 (1924) ("There is a
fundamental difference between the capital of a corporation and
its capital stock. The former belongs to the corporation; the
latter, when issued, to the stockholders. The former may be
either real or personal property; the latter, when issued, is
4 Even the court recognizes this. See Majority op., ¶31
n.20.
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always personal property." (Emphasis added.)). We have also
said so with respect to the right to share in profits: "[A]cting
shareholders have a right to dividends paid on a pro rata basis
equivalent to their ownership of corporate stock." Krier, 317
Wis. 2d 288, ¶31, n.13.; see also Franzen v. Fred Rueping
Leather Co., 255 Wis. 265, 273–74, 38 N.W.2d 517 (1949) ("It is
well established that as soon as a dividend is lawfully and
fully declared out of surplus profits the corporation becomes
indebted from that moment to each stockholder for the amount of
his share, and the stockholder may recover it in an action
against the corporation.").
¶84 These tax and profit-distribution issues are
important, the court said, because they demonstrate "there is
generally a much closer financial connection between harm to an
LLC and harm to its members than between harm to a corporation
and harm to its shareholders." Majority op., ¶45. And it
concludes that failing to recognize this "demonstrates a lack of
understanding of basic principles that control North Star, LLC."
Id., ¶34. But that is not true at all. The tax treatment of
both corporations and LLCs is largely a matter of choice, not a
distinction based on the statutory chapter under which they were
organized. The minor differences related to profit distribution
when LLCs and corporations choose the same tax treatment have
precisely zero impact on the "financial connection between harm"
to the company and its owners. Contrary to the court's
assertion, therefore, the manner in which a member experiences
harm to his LLC is not cognizably different from the manner in
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which a shareholder experiences harm to his corporation, so long
as they make the same tax election. Any potential difference——
either with respect to a corporation or an LLC——is purely
elective. That is to say, the difference has nothing to do with
what the statutes say about the structural and juridical form of
an LLC, which is all that should interest us in determining
whether it owns its own causes of action.
¶85 To the extent the court suggests that North Star's tax
election is relevant to the ownership of a cause of action, what
will it say of LLCs that choose taxation at the entity level?
Will it say we recognize an LLC's ownership of a cause of action
when it chooses taxation at the entity level, but not when it
chooses taxation at the member level? Or will the court apply
today's rule to LLCs taxed at the entity level simply because
the question was first posed by an LLC taxed at the member
level? The court won't address these questions because it
thinks they are irrelevant: "Although we could describe many
interesting hypotheticals about the financial choices that LLCs
may elect, we choose not to do so because such hypotheticals
have absolutely no relevance to the case before us." Id., ¶33.
Actually, they do. The principles the court enunciates today
will not control North Star alone; they will control all
Wisconsin LLCs. The court created its claim-ownership rule
based on North Star's tax election, but its rule makes no
allowance for LLCs that choose taxation at the entity level.
The failure to account for that distinction reveals the logical
error lying at the heart of the court's analysis: If North Star
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does not own its cause of action because it chose taxation at
the member level, but LLCs choosing taxation at the entity level
don't own their causes of action either, then the tax election
cannot really be the controlling factor, can it?
¶86 It is apparent that these tax and profit-distribution
matters are supposed to suggest that the distinction between an
LLC and its members is so blurry that we should treat the
ownership of a claim as indifferently belonging to the LLC or
its members. That, however, creates immediate, real-life
problems. If the distinction between the LLC and its members
really is so permeable and amorphous, who owns the recovery if
plaintiffs are successful? The plaintiffs say they were injured
because DSJ didn't give full value for its purchase of Westar.
Presumably, the delta between fair value and the actual purchase
price would be the measure of recovery. But who gets it? If we
don't distinguish between claims belonging to LLCs and those
belonging to their members, then as a matter of logic the
plaintiffs would receive the whole recovery. That is to say,
just two of the six members would split amongst themselves 100%
of the diminution of North Star's value. That seems odd.
¶87 It also seems odd that we would allow the plaintiffs
to litigate the claims they asserted in this case without
joining North Star as a party, or North Star's other members.
What if North Star's management is interested in ratifying the
transaction with DSJ? And shouldn't it have a say in how the
lawsuit proceeds? Our statutes say they should. That's why a
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member cannot bring a derivative action without a majority vote
of disinterested members:
[A]n action on behalf of a limited liability company
may be brought in the name of the limited liability
company by one or more members of the limited
liability company . . . if the members are authorized
to sue by the affirmative vote as described in s.
183.0404 (1) (a), except that the vote of any member
who has an interest in the outcome of the action that
is adverse to the interest of the limited liability
company shall be excluded.
Wis. Stat. § 183.1101(1). But by blurring the distinction
between an LLC and its members as much as it has, the court has
eliminated the LLC's ability to control litigation brought to
remedy, ostensibly, injury to the LLC itself. Under the court's
new paradigm, a cause of action belongs to the first person to
grab it, without regard to whether the primary injury fell on
him as opposed to the LLC. All without input from any other
member or the LLC itself.
¶88 Neither taxation nor profit-distribution issues
distinguish LLCs from corporations in any sense relevant to this
case. Certainly not in a sense that would warrant line-blurring
between LLCs and their members to the extent we can ignore
traditional concepts of standing with respect to juridical
entities and their owners. I agree with the court's observation
that the LLC structure allows for "informality and flexibility
of organization and operation,"5 but what it has created here is
not that. It is the chaotic unruliness of the wild west.
*
5 Majority op., ¶23.
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¶89 So, notwithstanding the court's assertions, Chapter
183 does recognize a distinction between an LLC's and a member's
ownership of a claim. That's the whole point of controlling
whether a member, qua member, may sue on behalf of his LLC.
When a member may do so, we refer to that authority as
"derivative standing." Therefore, the court erred when it
refused to inquire into who owns which claims out of a fear it
would be judicially importing the derivative standing concept.
The concept is already there, and not by our hand.
II. OWNERSHIP OF THE CLAIMS
¶90 The failure to recognize that Chapter 183 necessarily
incorporates the concept of derivative standing caused the court
to assess the plaintiffs' claims without reference to which of
them, if any, had authority to prosecute them. And that led
directly to the first four erroneous propositions listed at the
beginning of this opinion. If our analysis had begun with the
proper starting point, it would have looked something like the
following.
A. Violation of Wis. Stat. § 183.0402(1)
¶91 Count I of the amended complaint claims that Mr.
Morris and R.L. violated the obligations imposed on them by Wis.
Stat. § 183.0402. That statute says, in relevant part:
Unless otherwise provided in an operating agreement:
(1) No member or manager shall act or fail to act in
a manner that constitutes any of the following:
(a) A willful failure to deal fairly with the limited
liability company or its members in connection with a
matter in which the member or manager has a material
conflict of interest.
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Id. The plaintiffs say the violation occurred when R.L. and Mr.
Morris influenced North Star to sell Westar Proppants, LLC
("Westar")——a wholly-owned subsidiary of North Star——to DSJ
Holdings, LLC ("DSJ"), an entity owned by Mr. Morris.
Specifically, they say Mr. Morris had a material conflict of
interest in the sale of Westar to DSJ, and that the decision to
sell was the consequence of a vote that was not preceded by the
notice requirements of North Star's Operating Agreement.
¶92 By its explicit terms, Wis. Stat. § 183.0402 describes
a potential injury to the LLC or its members. That
automatically disqualifies Messrs. Marx and Murray from bringing
this claim, because they are not members of North Star. So the
only potentially eligible plaintiffs are Fracsand and Management
Funds. A proper analysis would next apply the primary injury
rule to determine whether the claim belongs to North Star or,
instead, the plaintiff LLCs.
¶93 There are three potential violations described by
Count I. The first is diminution of North Star's value
following its sale of Westar to someone who had a material
conflict of interest in the transaction. The plaintiffs say
that, because of the conflict of interest, Northstar sold Westar
for inadequate consideration. If that is so, then Fracsand and
Management Funds certainly suffered injury from that
transaction, but not in a manner that affects their "rights in a
manner distinct from the effect upon other" members' rights.
Notz, 316 Wis. 2d 640, ¶23 (quoted source omitted). Diminution
of a company's value, and hence its value to the company's
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owner, describes a classic derivative injury: "That such
primary and direct injury to a corporation may have a subsequent
impact on the value of the stockholders' shares is clear, but
that is not enough to create a right to bring a direct, rather
than derivative, action." Rose, 56 Wis. 2d at 229.
¶94 Further, our statutes treat any recovery upon such a
claim in a way that unmistakably identifies this as a claim
belonging to North Star. If Fracsand and Management Funds were
to succeed in their claim, Wis. Stat. § 183.0402 requires the
defendant to "hold as trustee" for the "limited liability
company . . . any improper personal profit derived by that
member or manager . . . from any . . . transaction connected
with the organization[.]" § 183.0402(2)(a). So the improper
profits, if there are any, belong to North Star, not its
members. Therefore, when we ask "[w]hose right is sought to be
enforced by the [] cause of action[,]" Rose, 56 Wis. 2d at 229,
the answer must necessarily be North Star because the malefactor
must hold the improper profit in trust for the LLC.
Consequently, Fracsand and Management Funds must pursue North
Star's claim in accordance with the procedures described in Wis.
Stat. §§ 183.0305 and 183.1101, or not at all. Because they did
not, they may not seek recovery for this alleged injury.
¶95 The second potential violation described by Count I is
the failure to give proper notice prior to the vote to sell
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Westar to DSJ.6 We have recognized that improper management can
injure an entity's owner in a way that confers standing to bring
a direct action. Rose, 56 Wis. 2d at 228–29 ("Thus, where some
individual right of a stockholder is being impaired by the
improper acts of a director, the stockholder can bring a direct
suit [against the director] on his own behalf because it is his
individual right that is being violated."); see also Ewer v.
Lake Arrowhead Ass'n, Inc., 2012 WI APP 64, ¶37, 342
Wis. 2d 194, 817 N.W.2d 465 ("If the plaintiffs' voting rights
have been violated, the plaintiffs——not the corporation——have
suffered a harm.") (internal citation omitted). However,
although this violation could support a direct cause of action,
it does not necessarily follow that it supports the recovery
Fracsand and Management Funds want. The recoverable injury must
be one suffered by these plaintiffs in some manner not
experienced by all other members. The complaint describes no
such injury. In fact, the complaint describes no injury at all
consequent upon not receiving the pre-vote notice required by
the North Star Operating Agreement. The only deleterious
consequence described in the complaint was the sale of Westar to
DSJ. However, as the analysis above demonstrates, the North
Star members experienced that consequence all alike, and so that
6
The operating agreement provides: "No matter shall be
voted upon at a meeting of the Directors unless at least 24
hours' notice of the matter to be voted on is given or such
notice is waived by any Director not receiving it." Here, the
vote for the sale of Westar to DSJ occurred without the
directors having proper notice.
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injury can give rise to a cause of action belonging only to
North Star, not its members.
¶96 The final possible violation described by Count I is
Mr. Morris and R.L.'s refusal to allow the plaintiffs to join
DSJ. But the obligations described by Wis. Stat. § 183.0402obtain only between members and managers of the same LLC. It
has nothing to say about the conduct between members of
different LLCs. The decision on who to admit as a DSJ member
belongs to DSJ, and the plaintiffs are complete strangers to
that LLC. Therefore, there is only one possible claim described
in Count I that Fracsand and Management Funds could pursue as a
direct action under § 183.0402: The failure to receive the
required pre-vote notice. However, the complaint does not
disclose any injury from that violation recoverable by Fracsand
and Management Funds. That is not to say there cannot be any,
but it might be just a peppercorn. The recovery certainly
cannot be based on the allegedly inadequate consideration
received by North Star for the sale of Westar to DSJ. That is
an injury to North Star, not Fracsand and Management Funds, and
so any cause of action to remedy that injury would necessarily
belong to North Star.
B. Unjust Enrichment
¶97 Count IV of the amended complaint alleges that R.L.
and DSJ were unjustly enriched when North Star sold Westar to
DSJ. As above, we must ask "[w]hose right is sought to be
enforced by the [] cause of action?" Rose, 56 Wis. 2d at 229.
If the enrichment was unjust, then it was an unjustness suffered
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in like kind by all of North Star's members. Any recovery from
the successful assertion of such a cause of action would
necessarily go to North Star, not Fracsand or Management Funds.
To do otherwise would unjustly enrich those two at the expense
of all other North Star members. So Fracsand and Management
Funds must bring this action according to the terms of Wis.
Stat. § 183.1101 or not at all. They did not do so, and so they
have no standing to pursue the claim.
C. Breach of Implied Covenant of Good Faith and Fair Dealing
¶98 In Count V, plaintiffs say the North Star operating
agreement implies, by operation of law, the covenant of good
faith and fair dealing. But once again, the injury they assert
is the sale of Westar to DSJ for inadequate consideration. This
is no different from the injury asserted in the causes of action
addressed above, so if it is a good claim, it belongs to North
Star, not Fracsand or Management Funds.
III. BREACH OF FIDUCIARY DUTIES
¶99 The court's fifth erroneous proposition (as listed at
the beginning of this opinion) is that fiduciary duties obtain
between members of an LLC. They don't. Nonetheless, that is
the premise of the plaintiffs' claim in Count II of their
complaint.
¶100 As a preliminary matter, we can easily conclude that
Messrs. Marx and Murray have no authority to pursue this claim.
Neither one is a North Star member, and so it is not possible
for intra-membership fiduciary duties (should there be any) to
have anything to say about how non-members are treated.
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Similarly, we can eliminate Mr. Morris as a proper defendant
with respect to this cause of action because he is not a member
of North Star either. If this cause of action exists,
therefore, it can obtain only between Fracsand, Management
Funds, and R.L.
¶101 The court reached the conclusion that LLC members owe
each other fiduciary duties in a distinctly sideways fashion.
Instead of asking whether there is anything about the
relationship between LLC members that would call a fiduciary
duty into existence, it asked whether the creation of Chapter
183 displaced pre-existing common-law claims. It concluded it
did not: "In this case, the claim[] asserted by Marx and
Murray, breach of fiduciary duty, . . . are not displaced by ch.
183 based on the record before us." Majority op., ¶47. That's
true, but tautological. Consequently, it has no explanatory or
instructive power at all.
¶102 If Chapter 183 has any "displacing" power, it can only
be because——at a minimum——there existed something capable of
being displaced. Here, that is not even conceptually possible.
Chapter 183 cannot displace any pre-existing fiduciary duties
between members of an LLC because, prior to adoption of that
chapter, there was no such thing as an LLC member. And because
there was no such thing as an LLC member, it is necessarily true
that no one was relating to anyone else as one LLC member
relates to another. Therefore, if LLC members relate to each
other as fiduciaries, it can only be because one of two
propositions is true. The first is that Chapter 183, by its own
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terms, created fiduciary duties between members. The second is
that the very nature of the relationship between LLC members
gives rise to fiduciary obligations. In neither event is
Chapter 183 capable of displacing anything because the
legislature was writing on a blank slate. We can rule out the
first proposition easily enough——nothing in Chapter 183 refers
to fiduciary duties between members. So the only question
before us was whether the nature of the relationship between LLC
members necessarily implies the existence of fiduciary
obligations.
¶103 Common-law fiduciary duties arise out of the nature of
the relationship between two or more parties.7 These duties
mitigate the risk of self-dealing by the other members within
the circle of fiduciary duties, and lower the monitoring costs
of their conduct. These principles extend back more than 3,000
years. Tamar Frankel, Fiduciary Duties 96-97 (2007). We have
recognized that "[a] fiduciary relationship arises from a formal
commitment to act for the benefit of another . . . or from
special circumstances from which the law will assume an
obligation to act for another's benefit. Merrill Lynch, Pierce,
Fenner & Smith, Inc. v. Boeck, 127 Wis. 2d 127, 136, 377
N.W.2d 605 (1985). Typically, the law will assume such an
7Unfortunately, Messrs. Marx and Murray's brief on the
existence of this duty was not fully developed. Out of fifty-
six pages they spent only two of them on this central question.
The substance of their argument is: Partners have fiduciary
duties to each other, so LLC members also have fiduciary duties
to each other.
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obligation where there is an "entrustment of power or property
in connection with the fiduciary's services . . . ." Tamar
Frankel, Fiduciary Duties as Default Rules, 74 Or. L. Rev. 1209,
1224 (1995). In "determining whether a fiduciary relationship
has arisen, courts consider a variety of factors, including
whether there is dependence and inequality . . . or other
conditions giving one side an advantage over the other." See
Hatleberg v. Norwest Bank Wisconsin, 2005 WI 109, ¶32, 283
Wis. 2d 234, 700 N.W.2d 15 (emphasis added).
¶104 These principles justify the imposition of fiduciary
duties between, for example, members of a partnership. A
partner can incur liabilities on behalf of other partners
because (1) any partner can bind the partnership and (2) every
partner is liable for all of the partnership's obligations.
Wis. Stat. § 178.0306(1). Thus, in a partnership between "A"
and "B," partner A depends on partner B to act in their combined
best interest because if partner B chooses, he can incur
liabilities for which partner A might ultimately be responsible.
The relationship creates a "dependence" between the partners;
the fiduciary duties between them ward against one partner
taking advantage of the others.
¶105 If the members of an LLC stood in a position of
"dependence and inequality" amongst themselves, that
relationship would call into existence fiduciary duties between
them. But LLC members do not relate to one another in the same
way that partners do. Instead, the nature of the relationship
between LLC members is much closer to that obtaining between
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shareholders of a corporation. An LLC member cannot bind
another member of the LLC any more than a shareholder can bind
fellow shareholders. Wis. Stat. § 183.0301(1)(a) ("Each member
is an agent of the limited liability company, but not of the
other members or any of them, for the purpose of its
business."). A shareholder cannot bind a fellow shareholder
because all corporate authority belongs to the corporation's
board of directors. Wis. Stat. §180.0801(2) ("All corporate
powers shall be exercised by or under the authority of, and the
business and affairs of the corporation managed under the
direction of, its board of directors, subject to any limitation
set forth in the articles of incorporation."). And because an
LLC is a liability-limiting business entity, the obligations to
which a member may bind an LLC do not reach the other members:
"The debts, obligations and liabilities of a limited liability
company, whether arising in contract, tort or otherwise, shall
be solely the debts, obligations and liabilities of the limited
liability company." § 183.0304(1) (emphasis added). The same
is true of corporations and their shareholders: "Unless
otherwise provided in the articles of incorporation, a
shareholder of a corporation is not personally liable for the
acts or debts of the corporation[.]" § 180.0622(2). So while
it is conceivable that an LLC member may owe a fiduciary duty to
the LLC, there is nothing about membership in an LLC that can
call fiduciary duties into existence between its members.
Chapter 183 does not create those duties, and because there is a
lack of "dependence and inequality," Hatleberg, 283 Wis. 2d 234,
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¶32, between LLC members, that relationship cannot make them
fiduciaries.
IV. FIDUCIARY DUTIES AS CORPORATE COUNSEL
¶106 The court's final erroneous proposition (as listed
above) relates to the identify of an attorney's client. In
Count III of the amended complaint, the plaintiffs claim that
Mr. Morris's service as North Star's counsel imposed on him
fiduciary obligations to North Star's members. Based on the
same principles discussed above, Messrs. Marx and Murray may not
pursue this claim because they are not members of North Star.
But more fundamentally, there is no basis for this claim because
an LLC's attorney has a fiduciary obligation to the LLC, not its
members. One of the most fundamental principles of the
attorney-client relationship is that it creates a fiduciary
relationship. Law Examination of 1926, 191 Wis. 359, 362, 210
N.W. 710 (1926) ("An attorney occupies a fiduciary relationship
towards his client.").8 When an attorney does work for a
corporation or an LLC, the attorney-client relationship is
between the attorney and the organization, not its members: "A
lawyer employed or retained by an organization represents the
organization acting through its duly authorized constituents."
SCR 20:1.13(a) (emphasis added). Mr. Morris, in his capacity as
an attorney, owes a fiduciary duty to North Star, not Fracsand
8"There is no field of human activity which requires a
fuller realization with respect to a fiduciary relationship than
that which exists between the lawyer and his client." Law
Examination of 1926, 191 Wis. 359, 362, 210 N.W. 710 (1926).
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or Management Funds. Therefore, any breach of that duty injures
North Star, which means the claim belongs to the LLC. Neither
Fracsand nor Management Funds may assert that claim unless they
comply with Wis. Stat. § 183.1101.
V. CONCLUSION
¶107 Messrs. Marx and Murray have no standing to pursue any
of the claims contained in their amended complaint. Fracsand
and Management Funds, on the other hand, have a potential direct
action against Mr. Morris (but not R.L.) based on the failure to
provide the pre-vote notice required by North Star's Operating
Agreement.9 But if they succeed on that claim, the recovery can
only be the injury they suffered distinctly from that of all
other North Star members. That does not include any diminution
in North Star's value because of the sale of Westar for
allegedly insufficient consideration. With respect to fiduciary
duties, we should have concluded that there is no fiduciary
relationship amongst LLC members, and that an attorney owes
fiduciary duties only to the LLC, not its members.
¶108 Because the court did not reach these conclusions, it
affirmed the following six propositions, all of which are
erroneous:
9 The court remands this case for further proceedings. I
concur with that conclusion, but only with respect to Management
Funds and Fracsand's action against Mr. Morris (in his capacity
as a North Star director) based on the failure to provide the
required pre-vote notice. I dissent with respect to everything
else.
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1. Messrs. Marx and Murray, who are not North Star
members, may nonetheless sue North Star's members for
North Star's management decisions.
2. Messrs. Marx and Murray (who are not North Star
members) may sue Mr. Morris (who is also not a North
Star member) based on North Star's management
decisions.
3. Fracsand and Management Funds may sue Mr. Morris
(who is not a North Star member), in his personal
capacity, for North Star's management decisions.
4. The plaintiffs may sue North Star's members based
on causes of action that belong to North Star, not the
plaintiffs.
5. North Star's members owe each other fiduciary
duties even though the membership relationship
contains none of the particulars that call fiduciary
obligations into existence in other contexts.
6. Mr. Morris (as North Star's attorney) owes
fiduciary duties not only to North Star, but its
members and its members' members.
¶109 For these reasons, I concur in part and dissent in
part.
¶110 I am authorized to state that Justices SHIRLEY S.
ABRAHAMSON and REBECCA GRASSL BRADLEY join this opinion.
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