Derivative Action

June 13, 2023

NJ Court Rejects Choice of Delaware Law Under RULLCA

The Internal Affairs doctrine requires a court to apply the law of the state where a business was formed, or organized, to disputes between the owners regardless of the circumstances.
New Jersey courts have applied a more traditional analysis of conflict of laws issues and may refuse to apply the law of another state if the parties or the issues have no connection to the state of formation.
The Revised Uniform Limited Liability Company Act provides that the law of the state of organization governs the rights of members and their liability to third parties.

A New Jersey need not necessarily honor a Delaware choice of law provision in an operating agreement if the company has no substantial relationship to the state where it was organized, the Appellate Division holds in a case involving a Delaware limited liability company and an Israeli corporation.

courthouse-gf011b4688_1280-300x287 This holding in which the appellate court reversed and remanded a trial court’s decision rejected the per se application of the “internal affairs” doctrine in which courts apply the law of the state where a business was organized to internal disputes without regard to the other principles that often govern choices about which state’s law applies to a lawsuit.

The Importance of Choice of Law Decisions

This is a technical issue, but an important one that has some very practical decisions. Business entities are formed under the laws of individual states, but have the right to do business in any state. That means as a practical matter that corporations and limited liability companies often do business in states, or even countries, other than whether they were formed. When a dispute arises in one state among the owners of a business formed in another state, the choice of law and authority of the court to act can be a thorny issue. Continue reading

February 7, 2023

Hostility Among Owners Blocks LLC Derivative Lawsuit

by Jay R. McDaniel, Esq.

A plaintiff seeking to bring a derivative claim on behalf of a corporation, limited liability company or limited partnership must be “suitable” and represent the interests of the business.
A member of a limited liability company may sue individually to recover or protect the member’s individual right. New Jersey law does not, however, permit a member to bring a claim for involuntary dissociation, or expulsion, as a direct claim.
Courts have discretion to treat derivative claims as direct claims under New Jersey law, but may bar a derivate claim brought by a limited liability company that is antagonistic to the other owners.

Derivative claims in limited liability company lawsuit

Family in South Jersey Sand and Gravel Business Torn by Claims of Wrongdoing in Derivative Action

Hostility among the owners of a limited liability company is a staple in business divorce litigation, as are the derivative claims commonly asserted by the minority against the majority. But one New Jersey court has dismissed minority derivative claims because that hostility, the court said, made the member an unsuitable derivative plaintiff.

Is this case, Cave v. Cave, from the Superior Court in Burlington County, an outlier? Or does it merely reflect a more thorough analysis of the requirements for a derivative action. If this decision were to be widely followed, it could change the landscape of litigation among the owners of closely held businesses. Continue reading

April 9, 2019

Direct or Derivative Lawsuits: Who Owns the Recovery

by Jay R. McDaniel, Esq.

When a shareholder, LLC member or partner sues to recover for damages based on wrongs committed against the business entity, the claim is derivative and the recovery belongs to the business. Derivative claims have special procedural rules.
Courts have discretion to allow the owners of closely held businesses to sue individually on a derivative claim when the plaintiff can show “special injury” or when the direct action is not unfair to the business, its creditors or other equity holders. The right to bring derivative actions is available to corporate shareholders, LLC members and partners in general and limited partnerships.
A shareholder may bring a direct claim to enforce rights that are contractual in nature or which enforce some right as shareholder, such as the right to vote or elect the directors.

It is not always easy to determine whether the remedy for the injury suffered as a result of some wrong among the owners of a closely held business belongs to the entity – whether a corporation, limited liability company or partnership – or instead belongs to one or more of the owners.

The distinction is both procedural and substantive, and may be fatal to the plaintiff’s claim. Some claims can belong only to the company. In addition, there are specific procedures in place for bringing a derivative claim in which an owner seeks to assert a right owned by the company. These procedural and substantive requirements can be fatal to a plaintiff’s claim.

But the line is often blurred in the context of the closely held business, and courts can ignore the distinction in some circumstances. In this post, we look at some recent cases in New Jersey considering the distinction, one involving a limited liability company and the other involving a closely held corporation. Although most of the case law has developed in corporate derivative actions involving shareholders, derivative causes of action may also exist in claims brought by members of a limited liability company or partners in a partnership.

Derivative Lawsuits Assert Claims that Belong to the Business

The Internal Affairs doctrine requires a court to apply the law of the state where a business was formed, or organized, to disputes between the owners regardless of the circumstances.

New Jersey courts have applied a more traditional analysis of conflict of laws issues and may refuse to apply the law of another state if the parties or the issues have no connection to the state of formation.

The Revised Uniform Limited Liability Company Act provides that the law of the state of organization governs the rights of members and their liability to third parties.

The Importance of Choice of Law Decisions

A plaintiff seeking to bring a derivative claim on behalf of a corporation, limited liability company or limited partnership must be “suitable” and represent the interests of the business.

A member of a limited liability company may sue individually to recover or protect the member’s individual right. New Jersey law does not, however, permit a member to bring a claim for involuntary dissociation, or expulsion, as a direct claim.

Courts have discretion to treat derivative claims as direct claims under New Jersey law, but may bar a derivate claim brought by a limited liability company that is antagonistic to the other owners.

When a shareholder, LLC member or partner sues to recover for damages based on wrongs committed against the business entity, the claim is derivative and the recovery belongs to the business. Derivative claims have special procedural rules.

A shareholder may bring a direct claim to enforce rights that are contractual in nature or which enforce some right as shareholder, such as the right to vote or elect the directors.

Derivative Lawsuits Assert Claims that Belong to the Business