Last month, the First Department in Madison Sullivan Partners LLC v. PMG Sullivan St., LLC, 2019 N.Y. Slip Op. 04460 (June 6, 2019), affirmed the decision of former Commercial Division Justice Shirley Werner Kornreich that the Plaintiff in a LLC dispute failed to sufficiently allege a breach of fiduciary duty claim.[1]  The case concerned the parties’ relationship in a joint venture to develop Manhattan real estate as a mixed use project that was formed using several LLCs.  In a detailed amended complaint, the Plaintiff alleged that Defendants collected monthly sums for work on a construction project for the venture, when Defendants were not actually working on the construction project but instead pursuing their own ventures.  The Plaintiff further alleged that Defendants failed to adhere to the budget for the project, failed to staff the project, reassigned staff away from the project, and in general, impeded the effective marketing of the project.[2]  Plaintiff also alleged that Defendants engaged in various construction projects without the appropriate permits, causing at least 350 days of delays in progressing the project.[3]  Defendants’ alleged conduct caused millions of dollars in losses for the LLC.[4]  Despite these allegations, the First Department ruled, as had the Commercial Division, that the assertions were not sufficient to allege breach of fiduciary duty.

In the Commercial Division, Justice Kornreich granted a motion to dismiss the Plaintiff’s amended complaint with prejudice and severed the defendants’ claim for attorney’s fees, which was referred to a Special Referee.[5]  According to the Court, the operative agreements contained exculpatory clauses that would have left the Plaintiff with mere negligence claims for the construction that had been waived in the parties’ agreements.  The Court noted that Plaintiff’s claims were really derivative in nature as any harm suffered was sustained by the LLC for the diminished profit from the project, not an independent loss to the Plaintiff.  Justice Kornreich further reasoned that it is settled law in Delaware (as in New York) that contractual waivers of negligence by LLC members are enforceable.  The Court emphasized that the remaining allegations and the assertion of standing by the Plaintiff was subject to a heightened pleading standard.  In reviewing the amended complaint, the Commercial Division determined that the complaint allegations were really mere negligence assertions—that had been waived by contract—and did not meet the higher threshold required for particularized pleading.

On appeal, the First Department in Madison Sullivan Partners relied on Giuliano v. Gawrylewski, 122 A.D.3d 477 (1st Dep’t 2014), in affirming the dismissal of the breach of fiduciary duty claim.  That case held that “plaintiffs failed to allege facts that support a finding of interest or lack of independence by a majority of the board members” sufficient to defeat the business judgment rule.[6]  The First Department determined that the alleged conflict of interest amounted to assertions that Defendants were affiliated with potential investors.

Madison Sullivan Partners also relied on the First Department’s 2018 decision in Deason v. Fujifilm Holding Corp., 165 A.D.3d 501, 502 (1st Dep’t 2018), in dismissing the Plaintiff’s aiding and abetting a breach of fiduciary duty claim.  The Deason decision reversed a Commercial Division decision that had granted a preliminary injunction and had failed to dismiss a breach of fiduciary duty and aiding and abetting breach of fiduciary duty claim despite a similarly detailed complaint.  In Deason, the First Department held that “[t]he court should have also dismissed the claims alleging aiding and abetting a breach of fiduciary duty as against Fuji” where “[p]laintiffs failed to plead these causes of action with the requisite particularity.”[7]  In Deason, the Plaintiffs alleged that Defendants had breached their fiduciary duties to shareholders due to Board members’ alleged conflicts of interest in the Xerox-Fuji negotiations.   As discussed in a previous post in this blog addressing the Deason decision,[8] the First Department ruled that the Board members were not conflicted, and that to the extent that the Chief Executive Officer was conflicted, the Board appropriately engaged outside advisors to evaluate the proposed deal.[9]  The First Department in Madison Sullivan applied the business judgment rule and concluded that Plaintiff failed to allege a breach of fiduciary duty. As a result, the aiding and abetting claims failed too.

This case should serve as a reminder to litigants to plead with particularity allegations that are necessary to support a fiduciary duty claim. The Plaintiffs in Madison Sullivan Partners, Giuliano, and Deason all alleged conduct by the Defendants that harmed the operative business.  Nonetheless, as the First Department held, they failed to allege conduct that would support a conflict of interest, breach of the duty of loyalty, or breach of the duty of care.  These cases make clear that alleging bad faith or economic harm is not enough to make out such a claim.