Failure to Challenge Damages Expert Via Post-trial Motion Dooms Lawyer’s Attack on Legal Malpractice Jury Verdict

Midwest Mailing & Shipping Systems, Inc. v. Schoenberg, Finkel, Newman & Rosenberg, 2023 IL App (1st) 220562-U illustrates in sharp relief the consequences flowing from a failure to file a post-trial motion in a jury case and the latitude afforded a jury when it fashions a money damages award/

Plaintiff, a Wisconsin corporation licensed to do business in Illinois was the exclusive dealer for Neopost, a Wisconsin company that made and sold postage meters.

The plaintiff-Neopost agreement allowed the latter to terminate the exclusive arrangement if plaintiff assigned its dealership rights or abandoned its business.

After a dispute arose between plaintiff and Neopost, defendants advised plaintiff to terminate its Wisconsin incorporation, incorporate a new Illinois business, and assign the Wisconsin company’s business to the new Illinois entity. As a result, plaintiff alleged Neopost terminated the dealership agreement and financially gutted plaintiff’s business.

Plaintiff and Neopost then filed separate lawsuits in Illinois state court and New York Federal, respectively. The parties eventually settled and dismissed their competing lawsuits with Plaintiff receiving a payment of $300,000 to give up its “territorial exclusivity right” to sell and service Neopost’s postage meters.

Plaintiff then sued defendant law firm and two of its attorneys, Gambino and Goldberg for legal malpractice. Plaintiff’s damages expert opined that but for defendant’s legal malpractice, Neopost would have paid Plaintiff $2.73 million – some $2.4 million north of the settlement amount – for Plaintiff to give up its exclusive right to sell Neopost products.

After a jury trial, the jury sided with the law firm and attorney Gambino but entered a judgment against attorney Goldberg for $700,000.

On appeal, Goldberg argued that the Court improperly considered speculative damages testimony from Plaintiff’s expert. The Court found that Goldberg forfeited this argument on appeal. It cited Code Section 2-1202 states that if a party in a jury case fails to file a posttrial motion seeking a new trial, it waives the right to apply for a new trial. 735 ILCS 5/2-1202(e)(2020). (By contrast, Code Section 2-1203, governing bench trials, provides that a party may (but doesn’t have to) file a posttrial motion within 30 days after judgment.)

Since Goldberg did not file a posttrial motion challenging the jury verdict, he forfeited his arguments against the damages expert.

The Court rejected Goldberg’s argument that he preserved for appeal the issue of plaintiff’s damages expert’s testimony by raising a challenge to the testimony in an earlier summary judgment motion. This is because when a summary judgment motion is denied and a case proceeds to trial, the denial of summary judgment is not appealable since any error in denying summary judgment merges into the judgment entered at trial. [¶ 20]

The Court then rejected Goldberg’s argument that the jury verdict was too imprecise. The Court cited well-settled Illinois law that a jury verdict amount is generally at the jury’s discretion and is only required to be based on a fair degree of probability and is not subject to “precise determination.” [¶ 25]

Here, the plaintiff’s expert opined that but-for Goldberg’s legal malpractice, plaintiff lost out on an approximate $2.4 million payout to release its territorial exclusivity right. The jury, by only allowing a fraction of the claimed damages, clearly did not fully credit the expert’s testimony.

Lastly, the Court found that the evidence introduced at trial supported the jury’s $700,000 verdict. It credited the testimony that the sale of Neopost’s postal machine products accounted for the majority of plaintiff’s business, that plaintiff planned to ask for a $5 million payment in exchange for release of territorial exclusivity rights several years before trial, and that a Neopost witness testified that it likely would have paid $600,000 for plaintiff to cede its exclusivity rights. In the aggregate, according to the Court, the plaintiff introduced sufficient evidence to support the jury’s verdict.

Case Lessons:

A failure to raise an issue in a post-trial motion can result in forfeiture of the issue on appeal;

A jury is given wide berth in terms of damages it can award. A damages verdict does not require mathematical precision; all that’s required is there be a reasonable basis for the verdict; and

Jury damage award will not easily be overturned. All that is required is that the money verdict establish, with a fair degree of probability, a basis for computation of damages.

 

Business Broker Wins Contract Suit Against Accountant: Special Concurrence Chides Overuse of Adverbs in Briefs

APS v. Sorkin, 2023 IL App (1st) 211668-U considers some important issues that recur in breach of contract litigation and features an appellate judge urging lawyers to excise superfluous adverbs from their legal briefs.

The business broker plaintiff sued an accountant for damages after he sold his practice to a buyer introduced by the plaintiff during the term of a written agreement between the parties.

The plaintiff sought 10% of the sale fee plus attorneys’ fees. The trial court granted summary judgment for the plaintiff and the defendant appealed.

Affirming the judgment, the First District first noted that a party seeking to enforce a contract must prove it substantially complied with the material terms of an agreement. Conversely, a party who materially breaches a contract cannot recover damages from the non-breaching party.

The defendant argued that plaintiff breached the contract by refusing to request updated letters of intent (LOIs) from prospective buyers of the practice and by unilaterally terminating the contract.

The court rejected both arguments. It first noted that the subject contract gave plaintiff the exclusive right to market defendant’s accounting practice for a 90-day period with 15-day automatic renewal terms.

The contract did not require plaintiff to employ specific marketing techniques such as soliciting additional LOIs from prospects. It only obligated the plaintiff to facilitate the sale of the accounting business by marketing it and locating potential buyers. As a result, the Court found that plaintiff did not breach the agreement by refusing defendant’s request to obtain new LOIs from prospects. [¶ 25]

The Court also rejected the defendant’s claim that plaintiff breached by terminating the contract. Defendant cited language in the contract that apparently provided him with sole right to terminate. The Court noted that perpetual contracts or ones of indefinite duration are disfavored and terminable at the will of either party. Since the Court found that the contract did not give defendant an exclusive termination right, it held that the plaintiff did not breach by unilaterally ending the contract once the initial 90-day term expired. [¶ 27]

Defendant also claimed the contract was unenforceable under Section 10-30 of the Business Broker Act, 815 ILCS 307/10-30(a)(the “BBA”). The BBA, among other things, requires a business broker (like plaintiff) to provide a written disclosure document to a client at the time or before a client signs a contract for services.

Plaintiff’s agent signed an affidavit stating that he supplied defendant with the required disclosure document more than three months before the contract was signed. Since defendant did not oppose this affidavit, plaintiff’s testimony was taken as true by the Court when ruling on plaintiff’s summary judgment motion.

Next, the Court affirmed the trial court’s denial of the defendant’s motion for leave to amend his affirmative defenses.

Defendant sought to file amended affirmative defenses of Plaintiff’s material breach and failure to comply with the BBA. However, since the record evidence demonstrated that Plaintiff did not materially breach the contract by terminating it and Defendant did not challenge Plaintiff’s affidavit testimony that it provided the required BBA disclosure document, Defendant’s proposed defenses would not cure any pleading defects. [¶ 37]

Judge Hyman’s special concurrence (¶¶ 41-47) takes the litigants’ attorneys to task for peppering their briefs with intensifiers (adverbs or adjectives used to lend force or emphasis to a word’s meaning). He takes special aim at counsels’ overuse of the words “clearly”, “merely”, “woefully” and “certainly” (think “Plaintiffs have clearly failed to meet their burden of proof here”) and notes a Supreme Court Justice’s (Roberts), a celebrated novelist’s (Stephen King) and a prolific legal writing scholar’s (Brian Garner) mutual disdain for adverbs.

In Hyman’s view, the singled-out adverbs hamper rather than help an author’s prose and detract from her message.

Afterwords:

Sorkin’s case lessons include the contract law principle that a party’s termination of an indefinite contract is not a material breach unless the contract specifies that it can be terminated only for a specific reason or upon the happening of a described event.

The case also makes clear that unchallenged affidavit testimony in support of a summary judgment will be taken as true. A party opposing summary judgment must file counter-affidavits to contradict the movant’s version of events.

Lastly, Sorkin solidifies the proposition that the denial of an amendment to a pleading is proper where it’s clear that a proposed, amended pleading will not cure a defect in an earlier pleading.

 

Non-Member of LLC Lacks Standing to Pursue Statutory and Common Law Claims against LLC Manager – IL First District

Doherty v. Country Faire Conversion, LLC, 2020 IL App (1st) 192385, a dispute concerning a limited liability company (LLC) provides a useful summary of the difference between a company (a) member and (b) transferee of a member’s economic company interest and the financial impact flowing from that distinction.

The plaintiff purchased what she believed was a 25% interest in the LLC at a foreclosure sale for $20,000. Plaintiff claimed that her quarter-interest in the LLC was worth nearly $2M based on the capital contribution made by the entity whose interest Plaintiff purchased.

Plaintiff sued when the LLC sold its lone asset for approximately $5M and refused to distribute any of the sale proceeds to the Plaintiff.

Plaintiff filed suit for declaratory relief, equitable accounting, and breach of fiduciary duty against the LLC’s manager. Her declaratory judgment count sought a court order that she was a 25% member of the LLC, that she was entitled to 25% of the sale proceeds of the LLC’s asset, and that as a member she had a statutory right to inspect the LLC’s books and records.

The trial court entered partial summary judgment that the plaintiff did not own a membership interest in LLC but instead owned only an economic interest in the business. Because of this, the trial court later ruled that plaintiff lacked standing to pursue her accounting and breach of fiduciary duty claims and had no right to inspect the LLC’s books and records.

After a bench trial, the court ruled that the plaintiff held a 13.75% interest (as opposed to the claimed 25% interest) in the proceeds of the LLC’s asset sale and further reduced plaintiff’s share by the defendant LLC manager’s attorneys’ fees incurred in litigating the plaintiff’s claims.

Standing: The Member v. Transferee Difference

The First District affirmed the trial court’s finding that Plaintiff was not a member but had only a 13.75% interest in the sale proceeds and therefore lacked standing to sue for breach of fiduciary duty or to obtain an accounting of the LLC’s business records.

Rejecting the plaintiff’s breach of fiduciary duty claim, the Court noted that  Section 15-20 of the Illinois LLC Act, 805 ILCS 180/1-1 et seq. (the Act), permits an LLC member to sue the company, a manager, or another member for legal or equitable relief to enforce the member’s rights under (i) the operating agreement, (ii) the Act, and (iii) rights arising independently of the member’s relationship to the company.

The Act also provides that a transferee of a distributional interest in an LLC is not entitled to become or exercise rights of a member and has no related right to participate in the management or conduct of the LLC or to demand access to company information.  805 ILCS 180/15-20, 30-5, 30-10.

The Court found that under both the Act and the LLC’s amended operating agreement, plaintiff was only an Economic Interest Holder and not a member. As a result, plaintiff lacked standing to assert its breach of fiduciary duty and accounting claims against the manager and also could not demand production of company records or contest the trial court’s awarding attorneys’ fees to the manager based on indemnification language in the operating agreement.

Distribution of Plaintiff’s Share of LLC Asset Sale Proceeds

The First District also affirmed the trial court’s ruling that plaintiff had a 13.75% interest in the LLC’s profits and losses, as opposed to the 25% membership interest pressed by the plaintiff.

The Court looked to the plain language of the LLC’s amended operating agreement which specifically delineated the Plaintiff’s 13.75% interest in the LLC’s profits and losses.

The First District also affirmed the trial court’s ruling that the LLC manager’s expert witness was more believable than the plaintiff’s. The court ruled that the trial judge was in superior position to rule on the credibility of the parties’ warring expert witnesses and noted that the plaintiff’s expert’s opinions were based on the faulty premise that plaintiff was a 25% member of the LLC (as opposed to a 13.75% interest holder).

Afterwords:

Doherty cements Illinois courts’ continued recognition of the key distinction between a limited liability company’s member and economic interest holder. Only the former has standing to pursue statutory and common law claims against an LLC’s manager. The latter’s interest, by contrast, is relatively passive and consists only of a right to receive monetary disbursements.

Another case lesson is that business litigators should carefully parse the controlling operating agreement and the LLC Act when litigating claims involving LLC members or manager.

Other important take-aways include that a trial court’s finding on credibility of dueling expert witnesses is entitled to deference by an appeals court and attorneys’ fees are only awarded where a contract or statute so provides.

 

R. Kelly’s Royalty Account Nabbed by Sex Assault Judgment Creditor

Midwest Commercial Funding, LLC v. Kelly, 2022 IL App (1st) 210644 shows the harsh results that can flow from the failure to follow a statute’s service requirements to the letter.

There, dueling creditors fought over song royalties paid to disgraced R&B singer R. Kelly. Heather Williams sued the singer for sexual abuse and obtained a $4M default judgment against him in March 2020. About four months later, Midwest Commercial Funding, LLC (“MCF”), a commercial landlord, was awarded a $3.5M judgment for unpaid rent under a commercial lease against the singer.

Both creditors issued supplementary proceedings to enforce their respective judgments.

The Chronology

On August 17, 2020, Williams mailed a citation to discover assets to Sony – the music company that held a royalty account for the singer. Two days later, MCF sent its own citation by both regular mail and e-mail. MCF e-mailed the citation to one of Sony’s in-house lawyers with whom MCF had prior dealings.

On August 24, 2020, Sony’s in-house lawyer acknowledged receipt of MCF’s citation. (The record is unclear whether Sony’s counsel meant the August 19, 2020 e-mailed or regularly mailed citation.) August 24, 2020 is also the date that Williams mailed citation was delivered to Sony.

When MCF and Williams learned they had served simultaneous citations, they each filed adverse claims in their respective cases: Williams’s personal injury case and MCF’s lease breach action.

Trial Court Ruling

The trial court found that based on Supreme Court Rule 12(c), MCF’s electronic service was complete on day of transmission (August 19, 2020) while William’s “snail-mail” service was complete August 21, 2020 – four days after mailing. Because of this, the supplementary proceedings court found that MCF’s citation lien took precedence over Williams’s and ordered Sony to pay MCF (to the exclusion of Williams) until the judgment was satisfied.

The First District’s Reversal

Williams’s key argument on appeal was that she had a superior lien to Kelly’s royalty account as plaintiff’s e-mail citation did not perfect service under the law.

Reversing the trial court, the First District noted that once a citation is served on a judgment debtor, a judgment lien is perfected on all assets of the debtor that are not otherwise exempt under the law. The Court then wrote that when a citation is served on a third party, the judgment liens all assets of the debtor in the third party’s possession or control. A perfected lien is superior to any later-attaching lien. [Para 7]

The Court rejected MCF’s argument that Williams lacked standing to challenge service of MCF’s citation on Sony. It found Williams was not trying to vicariously assert Sony’s right to proper notice of the citations. Instead, Williams was asserting her prior interest in Kelly’s royalty account because Plaintiff’s e-mailed citation did not perfect service of its citation under Illinois law. The Court added that a contrary ruling would deprive any creditor of a chance to assert a paramount lien upon assets in a third-party respondent’s possession and allow a citation respondent to arbitrarily decide priority among competing creditors. [¶ 14]

The Court then analyzed Supreme Court Rule 11’s text to determine if e-mail service can perfect a citation lien. Under a plain reading of the Rule – titled “Manner of Serving Documents Other Than Process and Complaint on Parties Not in Default in the Trial and Reviewing Courts” – the Court found it contemplates e-mail service of documents only after a party has appeared. As a result, Rule 11 does not provide for e-mail service of documents on a party who has not appeared in the case before the court. Here, Sony had not appeared in either underlying case. [¶ 19]

Looking to Black’s Law Dictionary for guidance, the Court defined the “process” referenced in Rule 11’s title as an initiating case document, like a summons or writ, which triggers a party’s duty to respond.

The Court likened a third-party citation to discover assets to a summons. It held that “absent service of the citation, such party has no duty to appear, nor could the court subject such party to the sanctions provided in Section 2-1402 for noncompliance.”

Since the failure to respond to a third-party citation subjects a respondent to the threat of contempt and sanctions, the Court found that supplementary proceedings against a third party like Sony must be accompanied by service of process and statutory special notices. [¶ 20] As a result, MCF’s e-mailed citation was not proper service under Illinois law and did not lien the royalty account. Since Williams mailed her citation to Sony two days before MCF mailed its citation, Williams’s lien on the account trumped MCF’s.

Conclusion

This case illustrates in sharp relief how a judgment creditor plays with proverbial fire by not personally serving a citation (or at least serving it by certified mail – return receipt requested)

Since a citation to discover assets is the opening, operative document that first activates a recipient’s duty to respond, the citation is tantamount to a summons or writ and beyond the scope of Rule 11’s e-mail service provisions.

 

 

Missing Contingent-Fee Term Doesn’t Doom Law Firm’s Quantum Meruit Claim

Reversing a trial court’s dismissal of a law firm’s quasi-contract claims against a former client, the First District recently considered the enforceability of a contingency fee contract that was missing a material term.

The plaintiff law firm in Seiden Law Group, P.C. v. Segal, 2021 IL App (1st) 200877 sued the defendant, an ex-client, for quantum meruit and unjust enrichment to recover the value of its fees and costs incurred in a prior lawsuit.

Key Facts

In 2013, the client defendant hired the plaintiff law firm to petition the U.S. government in Federal court for the return of personal property the government confiscated after her ex-husband’s 2004 criminal racketeering conviction.

The contingent fee contract, drafted by the plaintiff firm, was silent on the percentage of recovery that would go to the firm if the suit was successful. It read: “_____% of recovered funds…. pursuant to a forfeiture resulting from a matter concerning [defendant’s ex-husband].” The contract also provided that in the event of discharge, the firm could recover pre-firing accrued fees and expenses advanced in the lawsuit.

In 2016, the client fired the law firm. At the time of its firing, the law firm had not recovered any property on the defendant’s (then, the plaintiff’s) behalf.

The law firm then sent defendant a bill for nearly $100,000 based on its assessed value of the legal services provided to the plaintiff in the case against the government. Plaintiff sued when defendant refused to pay under quantum meruit and unjust enrichment theories of recovery.

The basis for plaintiff’s claims was that since the underlying fee agreement was unenforceable since it was missing an essential price term, it could sue alternatively for quantum meruit and unjust enrichment.

The trial court dismissed the suit. It found that the existence of an express contract – the contingency agreement – precluded the law firm’s quantum meruit and unjust enrichment claims. That the contingent-fee contract was missing a recovery percentage, did not render the contract unenforceable. The trial court noted that courts routinely supplied missing price terms in a variety of contexts. And since the contract was enforceable, it defeated plaintiff’s claims.

Reversing, the First District first noted that under Illinois law, a contract’s material terms must be definite enough so that its terms are reasonably certain and able to be determined.

Where a contract lacks a term, a court can supply one where there is a reasonable basis for it. But where the absent term is essential or so uncertain that there is no basis for deciding whether an agreement has been kept or broken, there is no contract.

Illinois courts routinely scrutinize the reasonableness of attorney fees and contingent-fee contracts to ensure that collected fees are not excessive. Illinois courts have found contingency fees ranging from 25% – 40% to be reasonable. There are even statutory benchmarks for certain fee agreements. Code Section 2-1114 (735 ILCS 5/2-1114), for example, caps contingent agreements at 33.3% of total recovery in a medical malpractice case.

However, the Court held that in an arcane case involving recovery of assets seized by the government, there is no industry standard contingent fee amount. Because of this, the Court held that the trial court could not supply a missing percentage recovery term. [19-20]

The First District also noted the contingent-fee contract ran afoul of Illinois Rule of Professional Conduct 1.5(c) which requires that contingent-fee agreements specify the method by which the fee is to be determined, and the percentage accruing to the lawyer after trial or settlement. RPC 1.5(c) [21]

The Court ultimately found that the trial court should not have dismissed the plaintiff’s quantum meruit and unjust enrichment claims.

Quantum Meruit

In Illinois, a plaintiff can sue for quantum meruit where there is no enforceable contract between the parties. But quantum meruit is not available where the underlying contract is unenforceable as a matter of public policy; such as where a contract is illegal or violates a statute. The rationale is that a party to a contract that violates public policy should not be able to circumvent the offending contract by relying on quantum meruit.

But where a contract is unenforceable for violating an ethical rule that does not involve public policy, it will not bar quantum meruit recovery.

A contract only violates public policy where it “has a tendency to injure the public welfare.”  Here, the court found the omission of the percentage recovery an “innocuous omission” that was the product of “carelessness and sloppy contract formation.”  In the Court’s view, this did not rise to the level of a public policy violation. [28]

Because the contract’s missing percentage recovery term did not implicate public policy concerns, the First District held that the law firm could assert a successful quantum meruit claim. [24]

Unjust Enrichment

The Court then considered the Plaintiff’s unjust enrichment complaint count. To state a valid unjust enrichment claim in Illinois, a plaintiff must allege (1) an enrichment, (2) an impoverishment, (3) a relation between the enrichment and impoverishment, (4) absence of justification and (5) the absence of a remedy provided by law. [31]

While similar in that they both aim to provide a plaintiff with restitution where no contract exists, quantum meruit and unjust enrichment differ in their respective recoverable damages. The former measures recovery by the reasonable value of work and material provided while the latter considers the benefit received and retained because of the improvement provided.

The Court sustained plaintiff’s unjust enrichment claim for the same reason it found plaintiff’s quantum meruit cause was prematurely dismissed.

Afterwords:

Seiden Law’s lessons are many for commercial litigators. For one, a missing contractual term cannot always be supplied by a court; especially if contract involves specialized subject matter.

The case also makes clear that a breach of RPC 1.5’s contingency fee strictures will not automatically void a contract. It is only when an ethical violation rises to the level of a public policy breach, that a court will nullify a contract.

This case also solidifies the proposition that, when faced with an unenforceable contract that does not implicate public policy concerns, a plaintiff can still bring alternative and equitable claims for quantum meruit and unjust enrichment.

 

 

When The Unconscionability Doctrine Can Void A Contractual Provision – Illinois Law

I recently litigated the enforceability of a contractual arbitration provision contained in an electrical subcontract for work on a high-end residential project in the Chicago suburbs.  The subcontractor fighting arbitration argued that the clause, drafted by the general contractor, was so one-sided against it, that it was unconscionable under Illinois law. [Among other things, the arbitration provision shifted all costs exclusively to the subcontractor.]. The Court disagreed and found that the challenged clause was neither procedurally nor substantively unconscionable.

Two cases – one in Illinois, the other in Arizona [and discussed at length in the Illinois case] – figured prominently in the Court’s granting our motion to enforce the arbitration provision and compel arbitration.  Together, the cases (Kinkel v. Cingular Wireless, LLC, 223 Ill.2d 1 (2006), Maxwell v. Fidelity Financial Services, 907 P.2d 51, 58 (Ariz. 1995) provide a useful gloss on what constitutes procedural and substantive unconscionability in the context of a business-to-business contract.

How many Factors: One, Two or ‘Sliding Scale?’

Earlier case law on unconscionability found that a party had to show both procedural and unconscionability in order to void a contract term.  Other cases apply a “sliding scale” approach – where if a contract term is heavy on substantive unconscionability, it can be light on procedural unconscionability and vice versa.  Kinkel makes clear that either procedural or substantive unconscionability can defeat a given clause.  [The case is silent on whether the sliding scale test is still viable.]

Procedural Unconscionability

The procedural unconscionability question turns on whether the challenged term is so difficult to find or read that the party is essentially unaware of it.  To determine procedural unconscionability, the Court considers, among other things, the disparity in bargaining power between the drafter of the contract and the party contesting a given term, the circumstances surrounding the formation of the contract and whether a clause is “hidden in a maze of fine print.” [Kinkel at 23 citing to Frank’s Maintenance & Engineering, Inc. v. C.A. Roberts Co., 86 Ill.App.3d 980, 989-90 (1stDist. 1980)]

A court’s procedural unconscionability calculus also looks at the conspicuousness of the challenged clause, the negotiations relating to the contract, and whether the parties had an opportunity to understand the terms of the contract.

In our case, the Court found that the Subcontract’s arbitration clause was not hard to find, read or understand and appeared prominently in the contract’s text.  As a result, the Court found ruled that the arbitration clause was not procedurally infirm.

Substantive Unconscionability

Substantive unconscionability occurs where the cost of vindicating a claim is so steep that a plaintiff’s only reasonable cost-effective means of obtaining legal relief is as a member of a class action.  The Court’s substantive unconscionability analysis considers [a] the relative fairness of the obligations assumed, [b] whether terms are so one-sided “as to oppress or unfairly surprise an innocent party,” [c] whether there is “an overall imbalance in the obligations and rights imposed by the bargain, and [d] a significant cost-price disparity.” [Kinkel at 24]

When determining substantive unconscionability, Illinois courts also looks to the secrecy of a contractual arbitration term – that is,  can parties disclose the existence or result of an arbitration proceeding?  Where a party is contractually obligated to keep arbitration results private, it tips the scale towards substantive unconscionability since this ensures that the pro-arbitration litigant can deny its opponents access to precedent.

In addition, courts are more likely to find unconscionability where a consumer is involved, there is a disparity in bargaining power, and the clause is on a pre-printed form.  Moreover, where a party seeks to invalidate an arbitration provision on the ground that the arbitration would be prohibitively expensive, that party has the burden to show the likelihood of incurring those costs.

According to the Seventh Circuit, to meet her burden, the party contesting arbitration must provide some individualized evidence to show she will face prohibitive costs in the arbitration and is financially incapable of meeting those costs. [Livingston v. Associates Finance, Inc., 339 F.3d 553, 557 (7th Cir.2003)]

In our case, the Court did find that the arbitration provision in question was one-sided in our favor and against the opponent. [I disagreed; there were multiple pro-subcontractor provisions in the contract as it was exhaustively negotiated prior to its consummation.]  The Court even said that it would never advise a client to agree to it or even itself assent to it. However, the Court quickly [and rightly] noted that its subjective opinion that a contractual clause is perhaps unwise or risky was not the test for substantive unconscionability.

Instead, the crucial question was whether the provision was oppressive, unfairly surprising to the party contesting the term, portrayed an imbalance in obligations and rights or was cost-prohibitive to enforce.  The Court did not find that any of these substantive unconscionability hallmarks applied and granted our motion to compel arbitration. [The subcontractor’s Motion to Reconsider is pending.]

Still another factor leading the court to reject our adversary’s substantive unconscionability argument was the freely bargained-for nature of the arbitration clause.  This was illustrated by the Subcontract’s multiple line-outs and handwritten notes.  The presence of multiple, manual changes revealed that the parties heavily negotiated the terms of the contract.

Take-aways:

Kinkel and the cases it relies on – including Maxwell’s substantive unconscionability formulation, collectively stand for the proposition that a party claiming a contract provision is procedurally or substantively unconscionable bears the burden of establishing the existence of either or both.

Where the parties stand on an equal bargaining footing and there is no consumer nexus to the underlying contract, it is all the more difficult for the party challenging a contract term on the basis of unconscionability.

In the business-to-business setting, assuming the contract at issue isn’t hard to find or understand [and therefore not procedurally unconscionable], the best chance a litigant has of vitiating a contractual arbitration provision is to argue substantive unconscionability: that the term is so one-sided in that it portrays a stark imbalance in rights and obligations and is cost-prohibitive for the party challenging to term to enforce it.  An additional plus-factor is where the arbitration clause is subject to non-disclosure such that neither party can reveal the results of arbitration –  depriving future litigants from accessing precedent.

 

Statement Assailing Lawyer’s Appearance and Competence Not Factual Enough to Sustain Defamation Claim – Ind. Appeals Court

In Sasser v. State Farm Insurance Co., the Indiana appeals court addressed the contours of defamation law in the context of two statements that variously impugned an attorney’s physical appearance and professional abilities.

The plaintiff, an in-house lawyer for the insurance giant defendant, had a years’ long personality clash with a non-attorney claims adjuster.  The plaintiff alleged the adjuster made many disrespectful comments about the plaintiff including the two statements that drove plaintiff’s defamation suit.

The challenged statements consisted of one concerning the plaintiff’s appearance; the other, her competence as a lawyer.  The Court focused mainly on the latter claims agent’s assertion that “any competent attorney could get a defense verdict” after the plaintiff advised against taking a case to trial to company brass.  The plaintiff argued that the adjuster’s statement was per se defamation since it imputed the plaintiff’s ability to perform as a lawyer.

The trial court disagreed and entered summary judgment for the defendants.  Plaintiff appealed.

Affirming, the court first set forth the general principles of Indiana defamation law.

Defamation requires proof of a factually false statement about the plaintiff, published to a third party that tends to lower one’s reputation in the community or that deters others from associating with the person.

Defamation includes written (libel) and oral (slander) statements.  Two species of defamation law include per se defamation and per quod defamation.  The former applies to statements that are naturally harmful on their face and don’t require a plaintiff to prove special damages.

The four categories of per se defamation are statements that a plaintiff (1) committed a crime, (2) has a communicable disease, (3) is incompetent in trade or profession, and (4) exhibits a lack of integrity in performing employment duties.

Defamation per quod involves a statement that isn’t obviously defamatory but requires extrinsic evidence to establish its defamatory meaning.  To succeed on a defamation per quod claim, the plaintiff must prove actual monetary harm attributable to the challenged statement.

For a statement to be actionable as defamation, it must contain objectively verifiable facts about the plaintiff.  But where the speaker is merely expressing his/her subjective view, interpretation, or theory, the statement is not actionable.  In addition, “[j]ust because words may be insulting, vulgar or abusive words does not make them defamatory.” [22]

Here, the appeals court agreed with the trial court that the two statements under attack did not directly convey a per se defamatory statement about the plaintiff.  While allowing that individual defendant’s comment concerning the plaintiff’s appearance may be offensive, it wasn’t verifiably true or false and so didn’t rise to suable slander.

And while the adjuster defendant’s “any competent attorney” statement arguably implicated per se category (3) – by attributing an inability to perform employment duties – the court found the statement too nebulous to be verified as either true or false.  The Court viewed this statement as the claims agent’s subjective opinion that a competent attorney could secure a certain result after a hypothetical trial.

Rhetorically, the Court asked how would one demonstrate the truth or falsity of such a statement?  It then cited to a late-90s Seventh Circuit decision (Sullivan v. Conway, 157 F.3d 1092 (7th Cir. 1998)) where the Court opined that “to say [plaintiff] is a very poor lawyer is to express an opinion that is so difficult to verify or refute that it cannot feasibly be made a subject of inquiry by a jury.”

The Sullivan case relied on by the Indiana appeals court noted that the caliber of legal representation is inherently uncertain: it noted that excellent lawyers may lose most cases because they take on only challenging ones.  Conversely, according to Sullivan, poor lawyers could win all their cases by only taking easy cases. [25].

What’s more: lawyers have strengths and weaknesses: some are good at some things, while poor at others.   There simply isn’t a way to factually test an opinion concerning a lawyer’s aptitude.  Here, since there was no way to corroborate the statement’s truth or falsity, it wasn’t factual enough to support a defamation claim.

The court also rejected plaintiff’s attempt to bootstrap the “any competent attorney’ statement into a claim that the plaintiff violated Indiana Rule of Professional Conduct 1.1 which specifically speaks to lawyer competence in representation.  The Court found that since the plaintiff didn’t allege either the individual or corporate defendant didn’t say the plaintiff acted unprofessionally or improperly with respect to a specific, discrete legal matter, the plaintiff’s reliance on Indiana’s professional conduct rules fell short.

The court also rejected plaintiff’s per quod argument: that the statement’s defamatory content was established when the  court considered extrinsic evidence.  Because the statement did not impute anything false about the plaintiff that would tend to harm the plaintiff’s reputation, the statement was not defamatory per quod.

Afterwords:

This case illustrates in sharp relief the challenges a defamation plaintiff faces in a culture that vaunts freedom of expression and gives latitude for citizens to “blow off steam” in the private, employment setting.

Sasser also demonstrates that while a statement may be mean, offensive, and vulgar, it still will not rise to the level of actionable defamation if it cannot be objectively tested as true or false.

Qualitative, subjective statements about a lawyer’s abilities do not lend themselves to objective testing.  As a result, in Indiana at least, such statements generally cannot support a defamation claim.

 

 

 

 

Doctor’s Oral Promise to Retire in Future Not Enough To Sustain Healthcare Plaintiff’s Fraud Claims

In Heartland Women’s Healthcare, Ltd. v. Simonton-Smith, 2021 IL App (5th) 200135-U, the appeals court affirmed summary judgment for an obstetrician sued for fraud based on her alleged verbal promise to retire from her practice at the end of a three-year employment term.

The plaintiff claimed the defendant tricked it into buying her practice by promising to retire. The written agreement resulting from the parties’ negotiations contained neither a non-compete term nor a recital that defendant intended to retire at the agreement’s conclusion.

The trial court granted summary judgment for the defendant on plaintiff’s fraud and negligent misrepresentation claims.  Plaintiff appealed.

Affirming, the Fifth District found that the plaintiff failed to produce evidence to support its misrepresentation claims and specifically, to show defendant hatched a “scheme to defraud” the plaintiff.

In Illinois, to state a colorable fraudulent misrepresentation claim, a plaintiff must allege: (1) a false statement of material facts, (2) known or believed to be false by the person making it, (3) an intent to induce a plaintiff to act, (4) action by the plaintiff in justifiable reliance on the truth of the statement, and (5) damage to the plaintiff resulting from the reliance.

A negligent misrepresentation plaintiff must also establish these elements but instead of showing a knowingly false statement, must prove the defendant (i) was careless or negligent in ascertaining the truth of the statement and (ii) owed a duty to the plaintiff to impart accurate information.

In both a fraudulent and negligent misrepresentation claim, the statement must be of an existing or past fact and not merely a promise to do something in the future.  The alleged fraud must also be complete at the time of the challenged statement as opposed to an intention to commit a future fraud.

The ‘Scheme to Defraud’ Exception

Where the false representation of future conduct is the scheme or device employed to accomplish the fraud, a court can restore the parties to the positions they occupied before the fraud was committed.  And while courts make clear that something beyond a lone broken promise is usually required to trigger the scheme exception, that “plus-factor” is still elusive.

Some courts require a plaintiff to allege a sustained pattern of repeated false representations [see HPI Health Care Services, Inc. v. Mt. Vernon Hospital, Inc., 131 Ill.2d 145 (1989)] while others [Roda v. Berko (401 Ill.335 (1948), Vance Pearson, Inc. v. Alexander, 86 Ill.App.3d 1105 (1980)] have held that a single promise can trigger the scheme exception.

In cases that have recognized the exception in the single broken promise setting, the plaintiff must generally produce evidence of a  defendant’s contemporaneous intention not to follow through on the promise.   The cases also make clear that whether a plaintiff is proceeding on a course of conduct scheme theory or one that involves only one promise, it must show the defendant’s fraudulent intent existed at or before the time of the promise. [25]

Here, the plaintiff could not prove the defendant promised to retire while, at the same time, never intending to fulfill that promise at the outset.  For support, the Court quoted both plaintiff’s agent’s and defendant’s deposition testimony.  Both testified that while the defendant’s future retirement was discussed prior to inking the three-year pact, it was never reduced to writing.  The plaintiff also could not pinpoint a definite promise by the defendant to retire when the employment contract lapsed.

As further proof that the defendant never unequivocally promised to retire, the plaintiff’s agent testified he even asked the defendant not to retire and that defendant stay beyondthe employment contract’s end date.  In the end, Plaintiff’s evidence did not go far enough to establish either an oral promise to retire at the agreement’s conclusion or the defendant’s intention not to fulfill that promise.

Afterwords:

In finding for the doctor defendant, the Heartland Women’s Healthcare Court was careful to respect the boundary between contract and tort law damages – a delineation that, in theory at least, prevents every broken promise from undergirding a fraud claim.

And while the content and outer reaches of the scheme to defraud exception [to the rule that a false promise is not actionable fraud] is still murky, it seems that something beyond a one-off broken promise is generally required.  A plaintiff invoking the scheme exception has a better chance of surviving a pleadings motion or summary judgment where it can show a defendant’s pattern of repeated broken promises.

Here, the plaintiff alleged only a single misstatement – defendant’s supposed oral promise to retire at the conclusion of the employment contract.  Without evidence of defendant’s contemporaneous intent not to uphold her promise, there wasn’t enough evidence of a scheme to defraud to survive summary judgment.

In hindsight, the Plaintiff should have negotiated and codified both a non-compete provision and defendant’s imminent retirement as material terms of the contract.

 

 

Lumber Exec’s Diversion of Profits to Company Owned by Son Supports Minority Shareholders’ Breach of Fiduciary Duty and Shareholder Oppression Claims – IL 2nd Dist.

Roberts v. Zimmerman, et al., 2021 IL App (2d) 191088-U provides a useful primer on the pleadings and evidence required to sustain a breach of fiduciary duty and shareholder oppression claim against a corporate officer and the contours of the business judgment rule defense to those claims.

The case involved three separate but related lumber buying companies:  Outstanding, Our Wood Loft, Inc. (“OWL”), and Lake City Hardwood (“Lake City”).  OWL is owned 1/3 by the two plaintiffs and 2/3 by the defendant majority shareholder.  Lake City is owned by the majority shareholder’s son.

Plaintiffs’ salient claim was that OWL’s majority shareholder breached his fiduciary duties to the company and minority shareholders by buying lumber from Lake City at a higher price than he could have paid other vendors.  According to the plaintiffs, the net result of the majority shareholder’s actions was a depletion in OWL profits over a multi-year span.  The fact that the director was paying the increased lumber prices to his son’s company created additional bad optics and provided more ammunition for the plaintiffs’ lawsuit.

Plaintiffs’ alleged breach of fiduciary duty and shareholder oppression under Sections 12.56(a)(3)(oppressive conduct) and 12.56(a)(4)(misapplication of corporate funds and/or waste) of the BCA.  Plaintiffs also joined an aiding-and – abetting claims against the majority shareholder’s son and wife.  Plaintiffs alleged these latter defendants were complicit in the majority shareholder’s scheme to enrich his son’s Lake City business to the detriment of OWL.

The trial court dismissed all claims except for the breach of duty claim premised on diversion of profits. After a bench trial, the trial court found in favor of the majority shareholder on this surviving claim on the basis that Plaintiffs failed to prove compensable damages.  Plaintiffs appealed.

Reversing, the appeals court first examined Illinois breach of fiduciary principles in the context of a close corporation shareholder dispute.

Breach of Fiduciary Duty

Corporate officers owe a fiduciary duty of loyalty to the corporation and are precluded from actively exploiting their positions within the corporation for their own personal benefit or impeding the corporation’s ability to conduct the business for which it was formed.

Here, the Court found the majority shareholder owed a fiduciary duty of loyalty to act in OWL’s best interest, to deal on behalf of OWL fairly and honestly, and seek to maximize OWL’s profits.  This duty included ensuring that OWL got the best price for lumber it bought from third parties.

The Court held that the majority shareholder breached his fiduciary duty by paying inflated lumber prices to his son’s company – Lake City.

The Court rejected Defendant’s business judgment rule (BJR) defense.  Under the BJR, courts will not interfere with business decisions of a corporate officer even if it seems that a more prudent decision could have been made.  However, a corporate officer cannot use the rule as a shield for conduct that does not rise to the level of due care.

Here, the court gave the BJR a cramped construction: it found that the rule only applies to honest mistakes in judgment and activities over which a corporate officer has discretion – such as whether an officer spent too much or too little on advertising, salaries, and the like.  The Rule does not apply to situations where challenged conduct subverts the rights of a corporation.  A corporate officer does not have discretion to divert profits from a corporation.

According to the Court, with minimal investigation, the majority shareholder would have discovered that Lake City was profiting at the expense of OWL by selling lumber at inflated prices to OWL.  [¶ 71]

Shareholder Oppression and Aiding-and-Abetting Claims

Reversing the Section 2-615 dismissal of the Plaintiffs’ shareholder oppression and aiding-and-abetting claims, the Court noted that shareholder oppression is not limited to acts that are illegal, fraudulent, or that involve mismanaged funds.  Instead, shareholder oppression applies to a wide gamut of conduct including a course of heavy-handed and exclusionary conduct and self-dealing.

To state a colorable aiding-and-abetting claim in Illinois, a plaintiff must allege (1) the party whom the defendant aids performed a wrongful act that caused an injury, (2) the defendant is generally aware in his or her role as part of the overall or tortious activity at the time or she provides assistance; and (3) defendant must knowingly and substantially assist the principal violation.

Here, Plaintiffs sufficiently alleged enough facts to sustain both claims. The allegations that the majority shareholder overpaid for lumber at OWL’s expense and to his son’s/Lake City’s benefit sufficiently pled an actionable oppression claim.

The Court similarly held that the Plaintiffs adequately pled Lake City’s active participation in the underlying lumber purchasing scheme in the aiding-and-abetting Complaint count.

Afterwords:

Roberts cements the proposition that a majority shareholder’s diversion of corporate profits to another entity can support both a breach of fiduciary duty claim and a statutory shareholder oppression action.

The case also makes clear that shareholder oppression is not limited to acts that are illegal, fraudulent, or that involve mismanaged funds.  Here, Plaintiffs allegation that the majority shareholder used an unnecessary middleman – Lake City – to which the company overpaid for lumber and lost resultant profits – was enough to make out a colorable oppression claim.

Finally, Roberts clarifies that a successful aiding-and-abetting a breach of fiduciary duty claim requires allegations of a defendant’s active participation and knowledge in/of  underlying wrongful conduct.  Constructive knowledge is not enough.

 

 

 

Transferee Corporation Is Judgment Debtor’s Alter Ego – Illinois Court (Deep Cut Case)

Dated but relevant for its discussion of some signature commercial litigation issues , Dougherty v. Tsai, 2017 IL App (1st) 161949, addresses, among other things, corporate alter ego liability, fraudulent transfers, and the admissibility of expert witness testimony.

In 2011, the plaintiff lessor obtained a default judgment against a corporate tenant (Tenant) in a 2009 commercial lease dispute case.

Through post-judgment discovery, the landlord learned that the Tenant and its owner (the Owner) secretly transferred money and assets from the Tenant to a related company (Transferee) that had the same employees and general line of business.  The landlord filed a new action in 2013 to hold the Transferee and Owner jointly responsible for the underlying judgment against the Tenant.

After a bench trial, the circuit court found that  the Transferee was the Tenant’s alter ego and entered judgment against the Transferee and Owner.  They appealed.

Defendants argued that the trial judge improperly entered judgment on a nonexistent cause of action – alter ego.  In Illinois, a corporation is a legal entity separate and distinct from its shareholders, directors and officers.  Corporate shareholders, officers and directors are generally not responsible for corporate debts.  But a court will disregard a corporate form and pierce its veil of limited liability where the corporation is merely an alter ego or business conduit of another person or entity.

The alter ego doctrine imputes liability to an individual or entity that uses the corporation as a vehicle to conduct the person’s or entity’s business.  However, neither piercing the corporate veil nor alter ego are separate, “stand-alone” causes of action.  Instead, they are means of imposing liability in an underlying claim.

To pierce the corporate veil, a plaintiff must demonstrate (1) unity of interest and ownership between the corporation and the person to be held liable such that separate personalities of the corporation and parties who compose it no longer exist and (2) circumstances are such that adherence to the fiction of a separate corporate existence would promote injustice or inequitable circumstances.

Here, the Court found that the trial court properly pierced the Tenant’s corporate veil of limited liability.  The similarities between the Tenant and Transferee (same business, ownership and employees, transfer of accounts from one company to the other, etc.) were so glaring that the Transferee was the Tenant’s alter ego.  Since the Tenant and Transferee were essentially one-and-the-same, the Court held that recognizing a separation between them reeked of unfairness to the plaintiff lessor.

The Court also rejected Defendants’ argument that piercing was improper since the underlying case sounded in breach of contract. In a breach of contract case, it’s more difficult to pierce the corporate veil than in tort causes of action.  This is because parties are presumed to enter into contracts voluntarily and assume the risks of the breaching party’s insolvency or protection from liability.

Here, however, the Court noted the 2013 case was not a breach of contract suit; it instead was an attempt to enforce the earlier judgment entered against the tenant.  Because the 2013 case wasn’t viewed as a breach of contract suit, the high hurdle to establish piercing in contract cases didn’t apply. [¶29]

The Court then addressed defendants’ argument that the trial court improperly allowed plaintiffs’ accounting expert to offer undisclosed damages opinions at trial.

The purpose of pretrial discovery in Illinois is to encourage timely disclosure of witnesses and opinions and discourage gamesmanship and surprise testimony.

Rule 213(g) limits expert testimony at trial to matters disclosed in answer to a Rule 213(f) interrogatory or in a discovery deposition.  An expert witness can elaborate on a disclosed opinion so long as the augmented testimony states “logical corollaries” to an opinion instead of new reasons for it.

The Court held that the trial court properly allowed the accountant’s testimony that the Tenant did not receive equivalent value in exchange for nearly $100,000 in rental payments it made to a company controlled by the Owner after the Tenant had supposedly gone out of business and decamped the leased premises.

The Court noted that the accountant had authored a pre-trial report that covered his damage opinions at trial, the report was disclosed to the Defendants and the Defendants deposed the accountant twice before trial. [¶ 43]

Afterwords

The case illustrates how important it is for judgment creditors to be tenacious in their collection efforts.  The Tenant’s Owner operated a complicated web of related business entities and freely transacted business among them.  This made it challenging for the plaintiff to unspool the various layers of corporate liability protection.  However, through its determined efforts and aggressive use of Illinois’ post-judgment enforcement rules, the plaintiff won a substantial money judgment against both individual and corporate defendants.

The case also reaffirms that alter ego and piercing the corporate veil are not  standalone causes of action but are instead a means of attaching liability on an underlying cause of action

Dougherty also makes clear that under Illinois pre-trial discovery rules, an expert witness at trial can amplify previously disclosed opinions as long as the expanded trial testimony has a factual nexus to earlier opinion.

 

 

‘Lack of Money’ Exclusion From Restaurant Lease Force Majeure Clause Not Enough to Get Eatery [Fully] Off the Hook – IL ND

Topical and timely, In re Hitz, 2020 WL 2924523 [Bankr. N.D. Ill. 2020] presents as a useful quarantine-era case that interprets the scope of a force majeure clause in a restaurant lease.

The debtor filed for bankruptcy protection in mid-March 2020 after failing to pay rent for that month.  The creditor moved to modify the automatic stay and sought post-petition rent under 11 U.S.C. 362 and 365, respectively.  In response, the restaurant debtor argued that it was excused from paying post-petition rent based on the lease’s force majeure clause [the “FM Clause”].

The FM Clause excused, the restaurant’s lease performance where its obligations were delayed or hindered by “governmental action or inaction, and “orders of government.”  Notably, the FM Clause specifically carved out an exception for lack of funds.  It stated: [l]ack of money shall not be grounds for Force Majeure.”

The debtor argued that the FM Clause was triggered by Illinois Governor Pritzker’s Executive Order 2020-7 [the “EO”] which banned Illinois restaurants from offering food and drink for on-premises consumption for the two-week period ending March 30, 2020. The EO did, however, encourage restaurants to provide off-premises consumption via delivery and curbside pick-up.

The Court first held that because rent was due March 1, 2020 – fifteen days before the debtor’s petition, the FM Clause did not excuse debtor’s March 2020 rent payment.

To decide whether the FM Clause applied to the following months [e.g. did it excuse rental payments occurring after the March 16, 2020 petition date?], the Court framed the issue as one of basic contract interpretation

In Illinois, a force majeure clause will only excuse contractual performance where the triggering event is the proximate cause of the party’s nonperformance.

The Court found the EO plainly activated the FM Clause.  The EO constituted governmental action and an “order of government” that “hindered” the debtor’s performance of its lease obligations by lopping off its on-premises food and drink revenue.

The Court rejected the creditor’s first argument that the FM Clause didn’t control because the banking and postal systems were still open.  According to the creditor, despite Covid-19, the tenant could have still written rental checks and mailed them to the landlord.  The Court deemed this argument specious; it did not address the debtor’s force majeure argument – that the inability to sell food and drink on-site made it impossible to generate enough revenue to pay rent.

Next, the creditor focused on the lease provision that a “lack of money” didn’t equate to a force majeure event.  The Court nixed this argument, too.  It found that the debtor tenant was not claiming a lack of funds as the proximate cause of its failure to pay rent.  Instead, the EO was: it shut down all Illinois restaurants’ on-premises consumption of food and beverages for a two-week period.

For textual support, the Court applied the contract interpretation maxim that a more specific provision controls over a general one.  While the lease did except a general lack of funds from the FM Clause’s reach, it also counted “governmental action” and “orders of government” as specific force majeure events.  And since the EO plainly qualified as governmental action, the Court held the tenant could properly invoke the FM Clause to reduce its post-petition rent payments.

The creditor’s argument that the tenant could have applied for an SBA loan also fell flat.  The Court noted that nothing in the lease, the FM Clause or any cited legal precedent required a defaulting tenant to try to borrow money to ameliorate any adverse governmental action that hampered a tenant’s ability to pay rent.

The Court didn’t excuse the tenant completely, though. The Court noted the EO expressly urged restaurants to offer food and beverage for off-premises via delivery and curbside pick-up.  Because of this, the Court reduced the tenant’s rental duties in proportion to its diminished ability to generate funds to pay rent.  In its response brief, the debtor estimated the EO rendered 75% of the tenant’s indoor space unusable.  But it also allowed the remaining 25% of the space, including the kitchen, was still working.

Applying this simple math, the Court found the tenant was responsible for 25% of its normal monthly rent payment [including proportionate common area maintenance expenses] for the post-petition months of April – June 2020.

Take-aways:

This case likely augurs [or is at least representative of] a future glut of Covid-19 commercial lease default cases.

Where a general provision conflicts with a more specific one, the latter will control.  Here, while the lease specifically excluded a tenant’s lack of money from the force majeure’s reach, the more specific, “order of government” and “governmental action or inaction” language controlled and served to partially excuse the tenant’s rent liabilities.

The Court’s analysis also tacitly recognized a tenant’s duty to mitigate damages.  Since the tenant acknowledged that it still had a working kitchen and 25% of usable restaurant space, the Court proportionately reduced the tenant’s lease payments instead of completely excusing them.

 

 

Federal Court Examines Illinois’ Savings Clause, Job-Related Per Se Defamation in Warring Yelp.com Posts

Shortly after their business relationship imploded, the parties in Levin v. Abramson, 2020 WL 249649, brought dueling defamation claims in Federal court premised on March 2017 Yelp posts by the parties.

The former client defendant (the “Client”) skewered the plaintiffs lawyer and her law firm (“Lawyer”) on Yelp.com in which he braded the Lawyer, among other things, an incompetent predator who defrauded Client.

The Lawyer responded with a post of her own the same day.  She added some factual context to Client’s screed and portrayed the reason behind Client’s vitriol as a simple billing dispute.  Lawyer also added in her retort that Client had a pattern of suing all of his lawyers.

Lawyer’s Complaint alleged claims for defamation and false light invasion of privacy.  Client counter-sued for defamation, too, and added legal malpractice and breach of fiduciary duty claims based on Lawyer’s Yelp response.

The Lawyer moved to dismiss Client’s counterclaims and both parties filed cross-motions for summary judgment.

Lawyer’s Motion to Dismiss

Rejecting the Lawyer’s argument that the Client’s defamation suit was untimely, the Court examined the interplay between Code Sections 13-201 [735 ILCS 5/13-201], the one-year statute of limitations for defamation suits and 13-207 [735 ILCS 5/13-207], the Illinois “savings” statute that permits otherwise time-barred counterclaims in certain circumstances.

The Court noted that each side’s alleged defamatory Yelp posts were published on March 22, 2017.  So the defamation one-year limitation period would normally expire March 22, 2018.  The Lawyer filed her defamation suit on March 8, 2018 – two weeks before the defamation statute lapsed while Client filed his counter-claim in January 2019 – almost 10 months after the limitations ran.

However, since the Lawyer’s defamation claim accrued before the defendant’s defamation counter-suit lapsed – March 22, 2018 – Section 13-207 preserved or “saved” the defendant’s countersuit even though it wasn’t filed until 10 months later.

The court then focused on whether the Client sufficiently alleged per se defamation against the Lawyer’s Rule 12(b)(6) attack.

Two salient stripes of per se defamation include statements (1) that impute a plaintiff’s inability to perform or want of integrity in the discharge of his duties of office or employment and (2) that prejudice a plaintiff or impute a lack of ability in his or her trade.  These particular per se claims must directly involve a plaintiff’s job performance;  generalized personal attacks on a plaintiff’s integrity and character are non-actionable.

The Court rejected Lawyer’s truth defense argument – that her Yelp retort was substantially true.  The Court found that whether, as Lawyer said in her post, that Client had in fact sued all of his other lawyers, lost his bid to reverse his credit card payment to Lawyer, and that his complaints to ARDC and CBA were rejected, were questions more appropriate for a summary judgment motion and not a dismissal motion.

Next, the Court addressed Lawyer’s argument that Client failed to properly allege in his Counterclaim what his job was and therefore couldn’t make out a claim that Lawyer’s Yelp response prejudiced Client in his work.  The Court held that when considering Client’s Counterclaim exhibits and supporting affidavit [both of which established that client owned a record label] Client plausibly pled Lawyer’s Yelp statements could prejudice him in his role as business owner.  On this point, the Court also credited Client’s argument that plaintiff’s Yelp response could cause the record company to lose current and future clients.

Cross-Motions for Summary Judgment

Both sides moved for summary judgment on plaintiff’s defamation and false light claims.  The Court considered Lawyer’s argument that Client’s Yelp post contained actionable facts as opposed to non-actionable opinions.

Black-letter defamation law cautions that opinions that do not misstate facts are not actionable. Whether a given statement consists of a factual (and therefore actionable) assertion, the court considers (1) whether the statement has a precise and readily understood meaning, (2) whether the statement is verifiable, and (3) whether the statement’s literary or social context signals it has factual content.

The Court found that Client’s Yelp review contained both opinion and factual elements.  The Client’s statements that Lawyer illegally charged Client’s credit card, exceeded a $4,000 ghost-writing budget by nearly $10,000, and that Client’s credit card sided with him in his dispute with Lawyer were all verifiable enough to be factual.  The Court also found that defendant’s branding plaintiff a “con artist” – normally non-actionable name-calling or opinion – rose to the level of actionable fact when viewed in context with other aspects of the Yelp review.

According to the Court, for the Lawyer to win summary judgment on her defamation claim, she must show that no reasonable jury fact could decide that Client’s Yelp statements were substantially true. Conversely, on the Client’s cross-motion, the Court noted that he must establish that a jury could only conclude that his Yelp review statements were substantially true for him to prevail on his cross-motion.

The Court found the record revealed genuine disputed fact questions as to (1) who severed the Lawyer-Client relationship and when, (2) whether the Lawyer agreed to cap her fees at $4,000 [which Lawyer disputed], (3) whether there was in fact a $4,000 budget for Lawyer’s ghost-writing work and (4) whether Lawyer had authority to charge Client’s credit card once the $4,000 retainer was exhausted.  These factual discrepancies led the Court to deny the warring summary judgment motions.

Afterwords:

Levin meticulously dissects the governing legal standards that control pleadings and dispositive motion practice in Federal courts.

The case also provides a trenchant analysis of Illinois per se defamation law, particularly the contours of job performance-related per se defamation, the truth defense, and the importance of the fact-versus-opinion analysis inherent in such a claim.

 

 

Discovery Screw-Up Not Enough To Sustain Negligence Claim – 7th Cir.

Nixing an $8M Federal jury verdict, the Seventh Circuit recently held, among other things, that a discovery rule violation cannot undergird a negligent misrepresentation claim.

The plaintiffs in Turubchuk v. Southern Illinois Asphalt Company, 958 F.3d 541 (7thCir. 2020), twice sued a joint venture consisting of two paving contractors for personal injuries sustained in a 2005 traffic accident.  The first lawsuit, sounding in negligence, settled for $1MM, the amount plaintiff believed was the maximum available insurance coverage based on the defendant’s for the JV defendant’s attorneys’ pretrial discovery disclosures.

When the plaintiffs learned that the $1MM coverage cap only applied to the joint venture entity and not to the venture’s component companies, they sued again.  This second suit alleged fraud and negligent misrepresentation – that the defendant’s counsel misrepresented its insurance coverage limits.  Plaintiffs eventually went to trial only on their negligent misrepresentation claim.

This second suit culminated in the jury’s $8MM-plus verdict.  Defendant appealed citing a slew of trial court errors.

Reversing, the Court first considered the effect of Defendant’s erroneous Rule 26 disclosure.   Under Illinois law, an actionable negligent misrepresentation claim requires proof of a legal duty on the person making the challenged statement to convey accurate information.

The Plaintiffs alleged the Defendant’s duty was found in the disclosure requirements of Rule 26 – the Federal rule governing pre-trial witness and document disclosures.  The Court found no case authority that grounded a negligence duty in a federal procedural rule.  Instead, the Court noted, cases from the 9thCircuit and 7thCircuit held just the opposite and further opined that discovery rules are “self-policing:” a discovery violation subjects the violator to sanctions under Rules 26 and 37.

The 7thCircuit also ruled that the District Court erred in finding as a matter of law (on pretrial summary judgment and in-limine orders) that defendant breached its duty to plaintiffs and that plaintiffs justifiably relied on the representations.

Whether a defendant breaches a legal duty and whether a plaintiff reasonably relies on a representation are natural fact questions. Here, on the existence of a legal duty prong, there were a plethora of unanswered questions – i.e. what information did the attorney have at his disposal when plaintiff made a $1MM policy limits (or so he thought) demand before discovery even started? – that raised possible disputed fact questions that are normally jury questions.  The District Court’s pre-trial ruling on these issues hamstrung the defendant’s efforts to challenge whether defendant’s counsel acted negligently. [15]

Another trial court error stemmed from the non-reliance clause contained in the written release that settled the Plaintiffs’ first negligence lawsuit.  A non-reliance clause will normally foreclose a future fraud suit since reliance is one of the salient fraud elements.

That said, Illinois case law is in flux as to whether a non-reliance clause precludes a later fraud action.

In addition, whether reliance is justified in a given fact setting is quintessentially a triable fact question involving what a statement recipient knew or could have learned through the exercise of ordinary prudence.  This case authority uncertainty coupled with the multiple fact issues endemic to the justifiable reliance inquiry made it improper for the District judge to make a per se, pre-trial finding that plaintiffs justifiably relied on the defendant’s counsel’s insurance coverage disclosure.

The evidence was also conflicting on whether the defendant entities even had a joint venture.  Whether or not defendants were a joint venture was integral to the amount of insurance available to settle Plaintiffs’ claims and so it impacted the causation and damages elements of plaintiffs’ negligent misrepresentation case.

A hallmark of a joint venture is joint ownership or control of a business enterprise. See http://paulporvaznik.com/joint-ventures-in-illinois-features-and-effects/6699. This created disputed fact questions that should have been decided by the jury.

Next, the Court overturned the jury’s finding that Plaintiffs’ established that Defendant’s attorney intended to induce Plaintiffs’ reliance on the amount of available insurance coverage. [The intent to induce reliance element was the only negligent misrepresentation element that went to the jury.]

Federal Rule of Evidence 602 requires a witness to testify based on personal knowledge.

However, there was no such testimony adduced at trial. Instead, the only trial evidence on this negligent misrepresentation element was  Plaintiffs’ counsel’s self-serving speculative testimony that defendant’s counsel misrepresented the available insurance coverage to induce Plaintiffs’ to accept a relatively paltry $1MM to settle the case. [21, n. 11]. Moreover, the District Court improperly excluded evidence of Plaintiff’s counsel’s credibility since he had previously surrendered his law license in lieu of disbarment for alleged acts of dishonesty, fraud or misrepresentation. See FRE 608.

In the end, the Court found there was insufficient evidence at trial for the jury to find that Defendant’s counsel intended to induce Plaintiffs’ reliance on the Rule 26 discovery disclosures of insurance coverage.

Afterwords:

A negligent misrepresentation claim cannot be premised on violation of a Federal discovery rule;

The court invades province of the jury when it rules on elements that are inherently fact-driven;

Evidence Rules 602 and 608 respectively limit a trial witness to testifying to matters of personal knowledge and allow an opponent to probe that witness’s credibility by delving into his/her reputation for truthfulness.

 

 

 

Business Expectancy Not A Transferrable ‘Asset’ Under IL Fraudulent Transfer Statute [Deconstructing Andersen Law LLC v. 3 Build Construction LLC]

Andersen Law LLC v. 3 Build Construction, LLC, 2019 IL App (1st) 181575-U, the subject of my most recent post, here , examines the nature and reach of Illinois’s Fraudulent Transfer Act, 740 ILCS 160/1 et seq. [“IFTA”] and the ‘continuation’ exception to the successor liability rule.

The Plaintiffs’ IFTA claims were based on allegations that former members of the LLC debtors’ systematically raided company bank accounts and formed a new business entity to evade a money judgment.

A colorable IFTA claim – whether it sounds in actual or constructive fraud – requires a creditor-debtor relationship.  It also requires the plaintiff to allege a transfer of an identifiable asset.

Here, the Court found the Plaintiffs failed to allege either a debtor-creditor relationship between the judgment creditor and the individual LLC members or a transfer of debtor assets.  The Plaintiffs’ failure to allege that the debtor made transfers without receiving a reasonably equivalent value in exchange for the transfer also doomed their constructive fraud complaint count.

Next, the Court jettisoned the Plaintiffs’ actual fraud claims under IFTA Section 5(a)(1).  In an actual fraud claim, the plaintiff must show a specific intent to defraud a creditor. This Section goes on to list some eleven (11) “badges” of fraud ranging from whether the transfer was concealed, to whether the transferee was a corporate insider to whether a transfer encompassed the bulk of a debtor’s assets.  740 ILCS 160/5(b)

The Plaintiffs’ allegation that the transfers were fraudulent because they occurred within a year of the judgment or went to pay members’ personal expenses were deemed too conclusory to satisfy the pleading requirements for an IFTA actual fraud claim.

The Court then rejected the Plaintiffs’ IFTA Section 6(a) [which governs claims arising before a transfer] claim based on the debtors forming a new corporation and diverting debtors’ business opportunities to that new entity.

An IFTA claim requires a transfer.  “Transfer” is defined as “every mode….of disposing of or parting with an asset or an interest in an asset…” 740 ILCS 160/2(l).

“Asset” is defined as “property of a debtor” while “property,” in turn, means anything that may be the subject of ownership.  740 ILCS 160/2(b), (j) [¶ 84]

But a transfer is not made until the debtor acquires rights in the asset transferred.

The Court held the plaintiffs did not allege an asset or a transfer under the IFTA.  Following Illinois case precedent, the Court found that unfulfilled business opportunities were not transferrable assets under the statute.  [¶¶ 84-85]

Finally, the Court rejected the Plaintiffs’ successor liability claim.  The Plaintiffs alleged the debtors’ members formed a new business entity for the purpose of avoiding the judgment.

The general rule is that a corporation that purchases the assets of another business is not liable for the debts or liabilities of the purchased corporation.  An exception to this rule applies where the purchaser is a mere continuation of the seller. [¶ 95]

To invoke the continuation exception, the plaintiff must show the purchasing corporation maintains the same or similar management and ownership as the purchased entity.

The test is whether there is a continuation of the selling business’s entity; not merely a continuation of the seller’s business.  A commonality among the seller and buyer businesses’ officers, directors, and stock are the key ingredients of a continuation. [¶ 97]

The Court found the plaintiffs’ continuation exception arguments lacking.  The plaintiffs failed to allege a purchase or transfer of the corporate debtors’ assets or stock by/to the new entity.  And while the plaintiffs did allege some common management between the corporate debtors and the new entity, the plaintiffs failed to allege a commonality of stock between the companies.

Afterwords:

A conjectural business expectancy is not tangible enough to constitute a transferable asset under IFTA;

A creditor’s attempt to impute a corporate judgment to individual shareholders is improper in a post-judgment fraudulent transfer case.  Instead, the creditor should file separate action against the individual shareholder(s) for breach of fiduciary duty, usurpation of corporate opportunities, piercing the corporate veil or similar theories;

An identify of ownership between former and successor corporation is key element to invoke continuation exception to rule of no successor liability.

 

 

 

 

Plaintiffs’ Are ‘SOL’ Based on IFTA’s SOLs

The First District recently considered when the discovery rule can mitigate the harshness of a statute of limitations [the SOL] in a fraudulent transfer case.

The plaintiffs in Andersen Law LLC v. 3 Build Construction, LLC, 2019 IL App (1st) 181575-U, a judgment creditor’s former counsel and her new law firm who secured a $200K judgment against two limited liability companies, sued under the Illinois Fraudulent Transfer Act, 740 ILCS 160/1 et seq. [the “IFTA”] alleging two members of the debtor LLCs pilfered corporate bank accounts and formed a corporation to avoid the judgment.

The judgment debtors and third party defendants moved to dismiss the IFTA claims on statute of limitation grounds and for failure to state a cause of action. The trial court granted the motion to dismiss and the plaintiff appealed.

Affirming the lower court’s dismissal, the First District noted that while an SOL motion to dismiss is normally brought under Code Section 2-619 [which involves affirmative matter], the SOL issue can be disposed of on a Code Section 2-615 [which looks at the four-corners of a pleading] motion where the complaint’s allegations make clear that claim(s) is time-barred.

An IFTA actual fraud [a/k/a fraud-in-fact] claim is subject to a four year limitations period, measured from the date of transfer. [740 ILCS 160/10(a)]. This section has a built-in discovery rule:  where the fraud could not have reasonably been discovered within the 4-year post-transfer period, the fraud-in-fact claim must be brought within one year after the transfer was or could have reasonably been discovered. [¶42]

To determine whether the discovery rule preserves a too-late claim, the court considers whether an injured party has (1) sufficient knowledge that its injury was caused by actions of another, and (2) sufficient information to ‘spark inquiry in a reasonable person’ as to whether the conduct of the party causing an injury is actionable. [¶51]

Constructive fraud [a/k/a fraud-in-law] claims, by contrast, must be brought within 4 years of the transfer.  There is no discovery rule that extends the limitations term.

Looking to the plain text of IFTA Section 10, the First District affirmed the trial court’s dismissal of the plaintiffs’ constructive fraud claims.  It held that the IFTA statute of limitations runs from the date of transfer, not, as plaintiffs argued, from the judgment. [¶48]

The Court then rejected plaintiffs’ assertion that IFTA’s discovery rule saved the otherwise time-barred actual fraud claims.  It found the plaintiffs failed to allege specific facts or a chronology as to when they reasonably learned the defendants’ diverting funds from the corporate debtors’ accounts.  As a result, the Court affirmed trial court’s dismissal of plaintiffs’ actual fraud claim.

The Court also nixed the plaintiffs’ related argument that the discovery rule applied based on the obstructionist actions of their former client [from whom the IFTA claim was assigned].  It made clear that the fraudulent concealment of a cause of action must be based on the conduct of thedefendant, not a third-party. The lone exception is where the person concealing a claim is in privity with or an agent of the defendant.  In such a case, the statute of limitations period can be tolled. [¶59]

Here, the plaintiffs failed to plead facts that the former client/underlying creditor acted in concert with the judgment debtor or the transferees.

Take-aways:

Some key take-aways from the Anderson Law LLCcase include that in a fraudulent transfer case, the four-year limitations period runs from the date of transfer, not from the date of the underlying judgment.

The case also makes clear that it is the plaintiff’s burden to successfully invoke the discovery rule to breathe life into a stale IFTA fraud-in-fact claim. [The one-year discovery extension period doesn’t apply to fraud-in-law claims.]  If a plaintiff fails to plead specific facts to carry its burden of demonstrating that its time-barred claim should be saved by the discovery rule, its claim is subject to Code Section 2-615 dismissal.

 

 

E-Mails, Phone Calls, and Web Activity Aimed at Extracting $ From IL Resident Passes Specific Jurisdiction Test – IL First Dist.

In Dixon v. GAA Classic Cars, LLC, 2019 IL App (1st) 182416, the trial court dismissed the Illinois plaintiff’s suit against a North Carolina car seller on the basis that Illinois lacked jurisdiction over the defendant.

Reversing, the First District answered some important questions concerning the nature and reach of specific jurisdiction under the Illinois long-arm statute as informed by constitutional due process factors.

Since the defendant had no physical presence or office in Illinois, the question was whether the Illinois court had specific jurisdiction [as opposed to general jurisdiction] over the defendant.

Specific jurisdiction requires a plaintiff to allege a defendant purposefully directed its activities at the forum state and that the cause of action arose out of or relates to those contacts.  Even a single act can give rise to specific jurisdiction but the lawsuit must relate specifically to that act. [¶ 12]

In the context of web-based companies, the Court noted that a site that only imparts information [as opposed to selling products or services] does not create sufficient minimum contacts necessary to establish personal jurisdiction over a foreign defendant.  Here, though, the defendant’s site contained a “call to action” that encouraged visitors like the plaintiff to pay the defendant.  [¶ 14]

The court found that plaintiff’s allegations that defendant falsely stated that the Bronco’s frame was restored, had new brakes and was frequently driven over the past 12 months [when it hadn’t] were sufficient to allege a material misstatement of fact under Illinois fraud law.  It further held that fraudulent statements in telephone calls are just as actionable as in-person statements and can give an Illinois court jurisdiction over a foreign defendant.  [¶ 17]

Viewed in the aggregate, the plaintiff’s allegations of the defendant’s Illinois contacts were enough to confer Illinois long-arm jurisdiction over the defendant.

The plaintiff alleged the defendant (i) advertised the Bronco on a national website, and (ii)  e-mailed and telephoned plaintiff several times at his Illinois residence.

Next, the court considered whetherspecific jurisdiction over the defendant was  consistent with constitutional due process considerations.

The due process prong of the personal jurisdiction inquiry focuses on the nature and quality of a foreign litigant’s acts such that it is reasonable and fair to require him to conduct his defense in Illinois.

Factors the court considers are (1) the burden on the defendant to defend in the forum state, (2) the forum’s interest in adjudicating the dispute, (3) the plaintiff’s interest in obtaining effective relief, (4) the interstate judicial system’s interest in obtaining the most efficient resolution of the case, and (5) the shared interests of the several states in advancing fundamental social policies.

Once a plaintiff shows that a defendant purposely directed its activities at the forum state, the burden shifts to the out-of-state defendant to show that litigating in the forum is unreasonable.

The Dixon court held the defendant failed to satisfy this burden and that specific jurisdiction over it was proper.

Next, the Court declined to credit defendant’s Terms & Conditions (“T&C”) – referenced in the Defendant’s on-line registration form and that fixed North Carolina as the site for any litigation.

Generally, one written instrument may incorporate another by reference such that both documents are considered as part of a single contract.  However, parties must clearly show an intent to incorporate a second document.

Here, the court found such a clear intent lacking. Defendant did not argue that it sent the T&C to Plaintiff or referenced them in its multiple e-mail and telephone communications with Plaintiff.

The court also pointed out that defendant’s registration form highlighted several of the T&C’s terms.  However, none of the featured [T&C] terms on the registration form mentioned the North Carolina venue clause.  As a result, the bidder registration form didn’t evince a clear intent to incorporate the T&C into the contract.

Afterwords:

A foreign actor’s phone, e-mail and on-line advertisements directed to Illinois residents can meet the specific jurisdiction test;

Where a Terms and Conditions document contains favorable language to a foreign defendant, it should make it plain that the T&C is a separate document and is to be incorporated into the parties’ contract by using distinctive type-face [or a similar method];

If the defendant fails to sufficiently alert the plaintiff to a separate T&C document, especially if the plaintiff is a consumer, the defendant runs the risk of a court refusing to enforce favorable (to defendant) venue or jurisdiction provisions.

 

 

Former LLC Member’s Claim for Distributions Not Tangible Enough to Undergird Conversion Claim – IL ND

The Northern District of Illinois considers a plethora of signature complex litigation issues in FW Associates, LLC v. WM Associates, LLC, 2019 WL 354953 (N.D.Ill. 2019), the culmination of a years’ long dispute between LLC members over ownership and management of Smart Bar –  a company that made an automatic cocktail dispenser [the Smartender].

After a flurry of lawsuits and an arbitration hearing that resulted in a nearly half-million dollar money judgment, the judgment creditor plaintiff brought fraudulent transfer claims against a former LLC member and his family-owned entity to whom the ex-member transferred his Smart Bar ownership interest.

The former member and his family enterprise swiftly countersued to dissolve Smart Bar, to force plaintiff to buy-out the member’s Smart Bar interest, and for conversion of the counter-plaintiff’s distributional interest in Smart Bar.

Granting the plaintiff/counter-defendant’s motion to dismiss all counts of the Counterclaim, the Court first rejected the Counter-Plaintiffs LLC Act claims under Sections 15-20 and 35-1.  It held that the individual Counter-Plaintiff lacked standing to sue under the former section as he was no longer a Smart Bar member.  The court nixed the counter-plaintiff’s Section 35-1 buy-out claim because he failed to sue the Smart Bar entity as a necessary party defendant. According to the Court, Section 35-1 does not provide an independent basis for a member to sue another member for a buyout.

In rejecting the conversion claim [premised on the claim that Plaintiffs pilfered the individual Counter-Plaintiff’s distributional interest in Smart Bar], the Court focused on the intangible nature of LLC distributions. Illinois courts do not recognize claim for conversion of intangible rights.  A conversion action to recover funds based on bare obligation to pay money is not actionable.

Citing another Federal case as precedent, the Court found that a member’s right to LLC distributions was too nebulous to anchor a conversion suit. Conversion requires theft of tangible property or property readily reduceable to cash.  Since the expectancy interest in future distributions couldn’t quickly be monetized, the Court found that the claim to future LLC distributions would not support a conversion claim.

The Court then considered Plaintiff’s res judicata and collateral estoppel defenses.

Claim preclusion, or res judicata, applies where (1) there is a final judgment on the merits rendered by a court of competent jurisdiction; (2) an identity of cause of action exists; and (3) the parties or their privies are identical in both actions.

Whether the causes of action are identical turns on whether “they arise from a single group of operative facts, regardless of whether they assert different theories of relief.”

The Court found res judicata did not bar the Counter-claim because there was no identity of causes of action between the earlier arbitration hearing and the instant case.  The Court noted that the counterclaim related to facts arising after the arbitration hearing – including the wrongful removal of two Smart Bar board members and plaintiffs’ clandestine purchase of member interests without notice to the counter-plaintiffs.  Since the predicate counterclaim allegations involved actions that post-dated the arbitration hearing, the claims were not barred by claim preclusion.

Issue preclusion, a/k/a collateral estoppel, applies where (1) the issue decided in the prior adjudication is identical with the one presented in the suit in question, (2) there was a final judgment on the merits in the prior adjudication, and (3) the party against whom estoppel is asserted was a party or in privity with a party to the prior adjudication.

Here, the court found that there was clearly a final judgment on the merits and the same parties involved.

The Court also found element (1) was satisfied.  It ruled that the arbitrator’s ruling on whether the individual defendant/counter-plaintiff breached the Smart Bar Operating Agreement was an identical issue raised in the Federal case.  This was so because three counts of the Counterclaim sought to enforce the terms of the Operating Agreement.

Since the counterclaim turned on whether the counter-plaintiff satisfactorily performed his Operating Agreement duties, and the arbitrator ruled definitively that he did not, the counterclaim counts alleging [Smart Bar] Operating Agreement infractions were barred by collateral estoppel/issue preclusion.

Afterwords:

To sue for a forced buy-out under Section 180/35-1(b) of the LLC Act, the claimant must name the LLC entity as party defendant.  The statute provides no independent basis for an aggrieved LLC member to sue another member.

A conversion suit won’t lie for a member suing to recover a judgment debtor’s LLC distribution.  Future and unknown LLC distributions are too ephemeral to support a conversion action.  If a distribution isn’t readily reduceable to cash money, the conversion claim will fail.

An arbitrator’s ruling can satisfy the final judgment on merits component of both claim preclusion [res judicata] and issue preclusion [collateral estoppel]

 

 

 

‘Half a Mil’ Conditional Judgment Too Harsh for Anemic Citation Response – IL First Dist.

Hayward v. Scorte, 2020 IL App (1st) 190476, reads like a creditors’ rights practice manual for its detailed discussion of the nature and scope of various creditor remedies under the Illinois supplementary proceedings and garnishment statutes.  (735 ILCS 5/2-1402 and 735 ILCS 5/12-701 et seq., respectively.)

The plaintiffs confirmed a half-million dollar arbitration award against a corporate defendant in a construction dispute and sought to collect. In post-judgment discovery, the post-judgment court (the Law Division’s Tax and Misc. Remedies Div.) found that the corporate debtor’s two owners failed to properly respond to citations served upon them by plaintiffs’ counsel.

The trial court entered a conditional judgment (later converted to a final one) against each corporate officer for the full amount of the underlying judgment.  The officers appealed.

Reversing, the First District first noted that supplementary proceedings in Illinois allow a judgment creditor to pursue any assets in the judgment debtor’s possession or that are being held by third parties and apply those assets to satisfy the judgment. See 735 ILCS 5/2-1402.

In the garnishment context, 735 ILCS 5/12-701 et seq., where a third party fails to respond to a garnishment summons, the creditor garnisher can request a conditional judgment against the garnishee. 735 ILCS 5/12-706.

Once the conditional judgment is entered, the creditor issues a summons to the respondent.  If the respondent still fails to answer the garnishment summons, the conditional judgment is confirmed or finalized. Once the garnishee responds to the conditional judgment summons, it isn’t bound by the earlier default and can litigate afresh. [21]

Section 12-706’s twin goals is to provide an incentive for respondents to answer a properly served garnishment summons and to protect a respondent from Draconian consequences of a single oversight. 735 ILCS 5/12-706. [21]

Code Section 2-1402 permits a court to enter any order or judgment that could be entered in a garnishment proceeding. 735 ILCS 5/2-1402(k-3).

But while Section 2-1402(k-3) incorporates the garnishment act’s full range of remedies, the section does not give a creditor broader rights than exist under garnishment law.  [23]

Conditional judgments are only allowed where a garnishee fails to appear and answer.  Here, the third-party respondents (the two corporate officers) did appear and answer the citation; the trial judge just deemed the answer incomplete.

The Court then noted that garnishment act Section 12-711(a) speaks to the precise situation here: it allows a judgment creditor to challenge the sufficiency of a garnishee’s answer and request a trial on those issues.  735 ILCS 5/12-711(a).

The garnishment statute is silent on the consequences of incomplete or insufficient answers.  Since the corporate officers did answer the underlying citations, the Court held that the trial court lacked statutory authority to enter a full money judgment against the individual defendants under Code Section 2-1402(k-3). [26]

Next, the Court examined the interplay between Section 2-1402(c)(3) and (c)(6).  The former section speaks to situations where a third party has embezzled or converted a judgment debtor’s assets.  The latter permits a  judgment creditor to sue a third party (i.e. to bring a separate cause of action) where that third party is indebted to a judgment debtor.

The Court pointed out that neither section allowed a court to assess the entire underlying judgment against a third party without a specific finding that party converted or embezzled a debtor’s assets. [27]

In fact, the lone statutory basis for a court to enter a full judgment against a third-party is where it violates the citation’s restraining provision – Section 2-1402(f)(1).

This section allows a court to punish a third party that transfers, disposes of or interferes with a judgment debtor’s non-exempt property – after a citation is served – by entering a money judgment for the lesser of (a) the unpaid amount of a judgment or (b) the value of the asset transferred. [27, 28]

The Court then stressed that a citation lien applies only to property transfers occurring after a citation is served.  Pre-citation transfers, by contrast, cannot form the basis of a money judgment against a third party.  Since the plaintiffs’ conditional judgment motion was predicated in part on property transfers occurring some two years before the citations were issued, they fell beyond the scope of sanctions considered by the trial court.

An additional ground for the First District’s reversal lay in the absence of proof that the corporate officers held any corporate assets.  Illinois law is clear that before a court can enter a judgment against a third party, there must be some record evidence that the third party possesses assets belonging to the debtor.

Since there was no statutory bases to assess the full money judgment against the two erstwhile corporate principals and since there was no evidence either principal had any corporate debtor assets in their possession, the trial court overstepped by entering a money judgment against the individual corporate officer defendants.

Take-aways:

A third party must be in possession of a debtor’s assets before a money judgment can issue against that third party;

While the garnishment act allows for a conditional judgment where a respondent fails to appear and answer a garnishment summons, and Illinois’s supplementary proceedings statute incorporates garnishment remedies, the garnishment act does not permit a conditional judgment against a garnishee who does in fact answer a garnishment summons;

A judgment creditor should file a separate veil-piercing suit against a defunct corporation’s principals if the creditor believes they are holding erstwhile corporate assets.

Collateral Attack on Order Nixing Attempt to Enforce $700K Settlement Offer Fails – IL 1st Dist.

The First District appeals court recently examined the collateral attack doctrine – which immunizes a court’s judgment from challenge in a separate judicial proceeding – in a case flowing from failed settlement talks.

The defendants in Tielke v. Auto Owners Insurance Company, 2019 IL App(1st) 181756, four years after a 2013 personal injury suit was filed, made an eve-of-trial verbal offer to settle for $700,000.

The plaintiff’s counsel verbally accepted the offer the next day before trial started.  Defendants’ counsel responded by saying “offer withdrawn.”

After plaintiff’s motion to enforce the settlement offer was denied by the personal injury case trial judge, the case proceeded to trial. Plaintiff was awarded less than half of the withdrawn $700,000 offer.  The trial judge told the plaintiff’s counsel he should file a breach of contract action at a later date.

A few weeks later, plaintiff did just that: it filed a separate breach of contract action to recover the difference between the withdrawn offer and the personal injury case judgment (about $400,000). The theory was that defendant breached an enforceable agreement to settle the personal injury suit.

The trial court dismissed the breach of contract action on defendant’s Section 2-619 motion.  The basis for the motion was that the breach of contract suit was an improper collateral attack on an order (the one denying the motion to enforce settlement) entered in the 2013 personal injury suit.

Affirming, the First District held that under the collateral attack doctrine, a court’s final judgment can only be attacked through direct appeal or a post-judgment motion to reconsider or to vacate the judgment.  735 ILCS 5/2-1203, 2-1301, 2-1401, etc.

The collateral attack rule bars later lawsuits that would effectively modify a former adjudication in another lawsuit. Both final and interlocutory (non-final) orders are immune from collateral attack. [¶31]

The appeals court found that by filing a separate breach of contract action, the plaintiff was trying to end-run the order denying her motion to enforce the settlement agreement in the 2013 personal injury suit.  Plaintiff failed to either move to reconsider the denial of her motion to enforce the settlement (which she could have done under Code Section 2-1203) or file a notice of appeal (pursuant to Rule 303).

By failing to file a motion to vacate the personal injury case court’s order denying the settlement motion or to appeal from the order, plaintiff failed to preserve the issue (whether the motion to enforce was properly denied) for review.  This precluded a later challenge to the order in subsequent litigation.

The court also rejected plaintiff’s argument premised on the personal injury case judge’s erroneous advice: that the plaintiff should proceed with the trial and later file a breach of contract action. The appeals court cited Illinois Supreme Court precedent that held “a party should not be excused from following rules intended to preserve issues for review by relying on a trial court’s erroneous belief.” [¶ 43], citing to Bonhomme v. St. James, 2012 IL 112393, 26 (2012).

Afterwords:

Tielke illustrates in sharp relief how crucial it is for litigants to properly preserve issues for review and to exhaust all avenues to challenge a trial court’s order.  Here, the plaintiff should have either moved to reconsider the personal injury judge’s denial of the motion to enforce the oral settlement agreement or directly appealed the order. In the same case.

Instead, by following the trial court’s flawed advice and filing a subsequent lawsuit, the plaintiff’s claim was barred by the collateral attack doctrine.

 

 

LLC’s Attempt to Void Foreclosure Judgment Rejected; ‘BFP’ Protected – IL First Dist.

A New Mexico LLC’s attempt to collaterally attack a mortgage foreclosure judgment five years after its entry fell flat in US Bank v. Laskowski, 2019 IL App (1st) 181627.  The case discusses the elevated level of proof required to successfully contest service of process when the property rights of a bona fide purchaser for value (a “BFP”) are at stake.

In 2009, the lender plaintiff filed a mortgage foreclosure suitagainst an individual borrower.  That borrower defaulted and in 2010 the trial court entered a foreclosure judgment.  The lender eventually sold the subject property to the BFP in 2011.

In 2016, the LLC, a non-party affiliated with the borrower that recorded an equitable interest in the property several years prior, sought to vacate the foreclosure judgment and the pertinent orders leading up to it.

The LLC moved under Code Section 2-1401(f) – the statute that allows a litigant to challenge a judgment as void for lack of jurisdiction.  The movant arguedthat since it was only served by publication – a method disallowed by the Illinois LLC Act – the trial court lacked personal jurisdiction over the LLC.

The property owner successfully moved to dismiss the LLC’s petition and the LLC appealed.

Affirming dismissal, the First District first considered whether the petitioning LLC was a necessary party to the foreclosure case.

The necessary parties to a mortgage foreclosure suit include the mortgagor and other persons (not guarantors) “who owe payment of indebtedness or the performance of other obligations secured by the mortgage and against whom personal liability is asserted.” 735 ILCS 5/15-1501(a).

Other persons, such as mortgagees or claimants, may be joined, but they don’t have to be.  A failure to include a permissive party to a foreclosure suitwill not impact a trial court’s jurisdiction.  [¶18]

Here, the operative foreclosure complaint named only the individual borrower as a defendant.  Since the LLC was neither the mortgagor nor someone against whom personal liability was asserted, the LLC was not a necessary party to the foreclosure suit. (and not the LLC).

The court further held that the LLC’s equitable interest in the property did not transform its interest into that of a mortgagor (who would have been a necessary party).  The Court defined a beneficial interest as an expectancy interest only: it does not rise to the level of legal title. [¶ 20]

Next the Court considered whether the BFP property’s current owner was immunized from the LLC’s attempt to vacate the judgment.

Section 2-1401(e) protects BFPs from void judgments affecting real estate title.  A BFP is protected so long as the defect in service is not apparent from the face of the record and the BFP was not a party to the original action. Where there is no defect on the face of the record, the BFP is insulated from a challenge to an otherwise faulty judgment. [¶ 25]

Here, the record reflected the LLC was properly served.  While the LLC claimed the wrong entity was served (a similarly named Illinois business was served according to the return of service on file), a third party would not have known this (i.e, it would not have been readily apparent) from the four corners of the record.

Instead, discovering the service infirmity would have required a BFP to go “beyond the face of the record”: it would have to cross-reference New Mexico’s Secretary of State records with Illinois’s to learn that the wrong entity was served.

Since it would have been such a time-consuming and laborious task to unmask whether the proper LLC was served, the Court protected the BFP and denied the LLC’s petition.

Afterwords:

This case reiterates that only a mortgagor and non-guarantors subject to personal liability under a mortgage are necessary parties to a foreclosure suit.  Laskowski also reaffirms that a BFP is a favorite of the law.  For while a void judgment can be attacked at any time, courts will side with a BFP who could be harmed by a nullified foreclosure judgment.

 

Don’t Confuse Joint Tenancy with Tenancy-By-Entirety Ownership – Indiana Court Cautions

Title to real estate is typically held in one of three ways: tenancy in common, joint tenancy and tenancy by the entirety.

The salient characteristic of tenancy in common is that each owner holds a ½ interest in the property and that upon an owner’s death, his/her share passes to his/her heir.

Joint tenancy’s hallmark is its survivorship feature: when a joint tenant dies, his/her share passes to the surviving joint tenant. The deceased’s interest will not pass to an heir.

With tenancy by entirety (“TBE”) ownership, sometimes described as “joint tenancy with marriage,” the property is immune from one spouse’s creditor’s judgment lien. This means the creditor of one spouse cannot foreclose on the TBE property. However, to qualify for TBE protection, the parties must be married and live in the property as a primary residence. If the property owners are married but do not use the home as the marital homestead, TBE won’t shield the property from creditor collection efforts.

In Flatrock River Lodge v. Stout, 130 N.E.2d 96 (Ind. Ct. App. 2019), an Indiana appeals court delved into the joint tenancy vs. TBE dichotomy and how the difference between the two realty title vehicles dramatically impacts a judgment lien’s enforceability.  The trial court denied the creditor’s motion to foreclose a judgment lien because the subject real estate was held in joint tenancy. On appeal, the Court considered whether a judgment creditor could foreclose on joint tenancy property, force its sale, and apply the proceeds against the judgment.

The judgment debtor owned real estate in joint tenancy with his daughter. The debtor died during pendency of the lawsuit and by operation of law, the title to the property vested in the daughter. Before the debtor died, however, the plaintiff/creditor recorded its judgment lien against the property.

The creditor moved to foreclose its judgment lien against the property. The debtor’s daughter argued the property was exempt from execution by Indiana’s tenancy-by-entirety statute (the TBE statute). Indiana Code Section 34-55-10-2(c)(5).  The trial court agreed with debtor’s daughter and denied the creditor’s motion.

Reversing, the Indiana appeals court first rejected the defendants’ argument that since the debtor died, the property escaped plaintiff’s lien. The court noted that the plaintiff’s judgment lien attached from the moment it recorded its judgment against the property – some two years before debtor’s death. As a result, the debtor’s daughter took the property subject to the plaintiff’s lien.

Next, the appeals court rejected the trial court’s finding that the property was immune from the plaintiff’s judgment lien.

In a joint tenancy, each tenant acquires an equal right to share in the enjoyment of the land during their lives. A joint tenant is severed where one joint tenant conveys his/her interest to another and destroys the right to survivorship in the other joint tenant(s). Once a joint tenancy conveys his/her share to another, he/she becomes a tenant in common with the other co-tenant.

Each joint tenant can sell or mortgage his/her interest in property to a third party and most importantly (for this case at least), each joint tenant is subject to a judgment creditor’s execution. [8]

TBE ownership only exists between spouses and is grounded in legal fiction that husband and wife a single unit. A TBE cannot be severed by the unilateral action of one tenant. An attempted transfer of a TBE ownership interest by only one spouse is a legal nullity. The key difference between joint tenancy and TBE is that with the latter, a creditor of only one spouse cannot execute on the jointly owned property

The Court noted that under Indiana Code 34-55-10-2(c)(5), property held in TBE is exempt from execution of a judgment lien. However, this statute applies uniquely to TBE ownership; not to joint tenancy. According to the court, “[h]ad the Indiana legislature intended to exempt from execution real estate owned as joint tenants, it would have done so.” [14]

Take-away:

This case shows in stark relief the perils of conflating joint tenancy and tenants-by-entirety ownership. If a property deed does not specifically state tenancy by the entirety, the property will not be exempt from attachment by only one spouse’s creditor.

Hotel Registration Data Considered Computer-Stored and Computer-Generated Business Records – IL Appeals Court

Super 8 and Motel 6 registration records take center stage in an Illinois appeals court’s discussion of the razor-thin difference between computer-stored and computer-generated business records.

In People v. Schwab, 2019 IL App (4th), a sexual assault defendant argued the trial court erroneously admitted his hotel check-in records during a jury trial that culminated in a guilty verdict and long prison sentence.

The prosecution offered hotel records into evidence at trial to place the defendant at a certain location and at a fixed date and time. Over the defendant’s hearsay objection, the trial court allowed the records into evidence. Defendant appealed his conviction and 25-year sentence.

Affirming, the appeals court first provided a useful gloss on hearsay rules generally and then drilled down to the specific rules governing business records.

Hearsay is an out of court statement offered to prove the truth of the matter asserted and is typically excluded for its inherent lack of reliability.  The business-records exception allows for the admission of a writing or record where (1) the writing or record was made as a memorandum or record of the event, (2) it was made in the regular course of business, and (3) it was the regular course of business to make the record at the time of the transaction or within a reasonable time thereafter.

Anyone familiar with a business can testify as to business records, and the original entrant (i.e. the person inputting the data) doesn’t have to be a witness for the records to get into evidence. [⁋ 37]

Additional foundation is required when a business record is contained on a computer.  Illinois courts recognize the distinction between (a) computer-stored records and (b) computer-generated records.

The foundation for admitting computer-generated records is less stringent than that governing computer-stored ones. Computer-generated records are deemed intrinsically more reliable than their computer-stored counterparts.

Print-outs of computer-stored records are admissible as a hearsay exception where (1) the computer equipment is recognized as standard, (2) the input is entered in the regular course of business reasonably close in time to the happening of the event recorded, and (3) the foundation testimony establishes that the source of information, method and time of preparation indicate its trustworthiness and justifies its admission. [⁋ 38]

For computer-generated records, the admissibility threshold is more relaxed: the proponent only needs to show the recording device was accurate and operating properly when the data was generated.

The Court found that the Super 8 reservation records were computer-generated (and therefore subject to less stringent admissibility rules). The hotel’s front desk clerk’s trial testimony established that the hotel’s reservation record was automatically generated by a hotel computer at the time someone books a reservation.

According to the Court, that data may have originally been input into a third-party website (like Priceline or Expedia) didn’t cast doubt on the records’ reliability.  All that mattered was that the registration record was created automatically and contemporaneously (with the on-line reservation) to qualify as computer-generated records.

The Court agreed with the defendant that two Motel 6 records offered as prosecution trial exhibits were computer-stored. The court found that the computer records created when a guest checked in required the hotel clerk to scan the guest’s identification card and to manually input the guest’s check-in and check-out times and payment information. Since this information was the end result of human data entry, the records were deemed computer-stored.

Even so, the Court found that the State sufficiently laid the foundation for the computer-stored data. The Court credited the Motel 6 hotel clerk’s testimony that the franchise’s check-in procedures were uniform and the hotel’s computer booking system was standard in the hospitality industry.  Taken together, the testimony concerning Motel 6’s integrated check-in processes and its use of industry-standard reservation software was enough to meet the computer-stored evidence admissibility threshold.

Afterwords: Despite Schwab’s disturbing fact-pattern, the case has value for civil and criminal trial practitioners alike for its trenchant discussion of business records exception to the hearsay rule and the admissibility standards for computer-generated and computer-stored records.

Utah Default Judgment Not Subject to Full Faith and Credit in IL: No Long-Arm Jurisdiction Over Illinois Defendant Equals Void Judgment

Snap Advances, LLC v. Macomb Office Supply, Inc., 2019 IL App(1st) 180773-U examines the enforceability of a Utah judgment against an Illinois-based college bookstore operator.

There, a Utah business lender sued a defunct bookstore, its owner and corporate successor in Utah state court for breach of contract. The underlying contract (signed by the plaintiff and dissolved corporate predecessor) had Utah choice-of-law and venue terms. No defendant appeared in the Utah case and the plaintiff won a default judgment.

After the plaintiff registered the Utah default judgment in Illinois, the Illinois  court granted the successor company’s motion to vacate the Utah default judgment and dismissed the post-judgment proceedings. The plaintiff appealed.

Affirming, the appeals court first held that under the full faith and credit clause of the U.S. Constitution, every court must validate a foreign court’s judicial proceedings. The Uniform Enforcement of Judgments Act, 735 ILCS 5/12-650 et seq. also prevents an enforcing court from considering the merits of a foreign judgment.

But two instances where an enforcing court will look into the merits of a foreign judgment are where (1) the rendering court lacked jurisdiction over the defendant/judgment debtor, or (2) there is fraud in the procurement of the judgment.

This is so because a foreign judgment is not entitled to full faith and credit where an underlying defect (such as lack of jurisdiction) voids the judgment.  However, where the rendering court (here, Utah) specifically finds that it does have jurisdiction over a defendant, its ruling is conclusive and cannot be challenged by the enforcing court (Illinois).

But where the rendering court does not specifically rule on the jurisdiction question, the enforcing court can examine the rendering court’s jurisdiction. [⁋⁋ 22-23]

Since the Utah judgment was silent as to whether the Illinois-based successor company was subject to Utah jurisdiction, the Illinois court could look into whether the Utah court had jurisdiction over the successor defendant.  To do this, the Illinois court looked to Utah’s long-arm jurisdiction and Federal due process principles.

A Utah court has long-arm jurisdiction over a foreign defendant where a defendant does business in Utah, contracts to supply goods or services there, causes injury in Utah or owns Utah real estate. Utah Code Ann. s. 78B-3-205 (West 2016). Federal due process requires an out-of-state defendant to have minimum contacts with a foreign jurisdiction such that it should reasonably anticipate being sued there.

Since the record was silent as to any acts the Illinois successor did in Utah that could support either long-arm jurisdiction or Federal due process concerns, there was no basis for Utah jurisdiction over the Illinois successor entity.

The court rejected the plaintiff’s argument that the successor consented to Utah jurisdiction based on the predecessor’s assent to Utah law and venue provisions. Since the successor was not a party to the contract, there was nothing tying it to the contractual Utah choice-of-law and venue terms.

The court also nixed the plaintiff’s claim that since the Illinois defendants were served in Utah, they were subject to Utah jurisdiction. But, as the court astutely remarked, “service does not confer jurisdiction.”

Even if the Illinois defendant was property served in Utah, the Court continued, a defendant did not have to appear in Utah or respond to the Utah lawsuit. Instead, it could wait until the Utah judgment was registered in Illinois and then seek to vacate the Utah judgment.

But the defendant’s conduct didn’t go unnoticed by one of the appellate judges.  In a special concurrence, Judge Pucinski decried the business owner’s “slick” grifter-like financial “shell trick” where the owner plainly engineered the transfer of the defunct book store’s assets to a new buyer – the Illinois successor –  that operated from the same location, with the same inventory and identical personnel as the prior company.

Judge Pucinski worried about the possible chilling effect the majority’s ruling could have on out-of-state companies doing business with Illinois companies: a foreign company could be dissuaded from commerce with Illinois entities if Illinois courts would not hold their companies accountable for successor liability.

In the end though, the concurring judge sided with the majority. She cited a lack of record evidence that the Illinois successor was subject to Utah jurisdiction and a lack of Utah case law that stood for proposition that a corporate successor was bound by a predecessor’s contractual consent to jurisdiction in a sales contract. [⁋ 51]

Afterwords:

The case illustrates the limits of the Full Faith and Credit in the context of interstate jurisdictional disputes.

Snap Advances also demonstrates that where there is no evidence of a corporate successor’s consent to foreign state jurisdiction, a default judgment entered there could have no effect here.

The case also cements proposition that contractual choice-of-law and venue terms consented to by a corporate predecessor won’t bind its successor.

IL ND Considers Conflicts of Laws and Inevitable Disclosure Doctrine in Employee Non-Solicitation and Trade Secrets Spat

When some  high-level General Electric employees defected to a Chicago rival, GE sued for trade secrets theft and for violations of employee non-solicitation and confidentiality agreements.

Partially granting and partially denying the employee defendants’ motions, the District Court in General Electric Company v. Uptake Technologies, Inc., 2019 WL 2601351 (N.D.Ill. 2019) provides a thorough choice-of-law analysis and discusses the trade secrets case inevitable disclosure doctrine.

Non-Solicitation Agreement: What State’s Law Applies – New York or California?

The first choice-of-law question involved GE’s non-solicitation agreement (the NSA). GE argued that New York law applied since that was what the NSA specified. For their part, the defendants argued that California law controlled the NSA since that is where they were based when they worked for GE and because California law voids employment restrictive covenants.

In Illinois (a federal court exercising supplemental jurisdiction over state-law claims applies the choice-of-law rules of the forum state – here, Illinois), a choice-of-law provision governs unless (1) the chosen forum has no substantial relationship to the parties or the transaction, or (2) application of the chosen law is contrary to a fundamental public policy of a state with a materially greater interest in the issue in dispute.

A party challenging a contractual choice-of-law provision bears the burden of demonstrating a difference in two states’ laws – a conflict – and that the conflict will make a different in the outcome of the lawsuit.

Under New York law, a restrictive covenant in an employment agreement is reasonable if it is no greater than required to protect a legitimate interest of an employer, does not impose an undue hardship on the employee and is not injurious to the public. New York court also consider the temporal and geographic reach of restrictions.

The court found that the NSA’s were enforceable under New York law. It noted that GE was a global company, the one-year term was reasonable and the restriction was narrowly-tailored to high-level employees.

By contrast, California Code Section 16600 voids any contract “by which anyone is restrained from engaging in a lawful profession, trade or business of any kind.” The Court found the NSA was likely void under California law, but it wasn’t a cut-and-dried issue since there is a clear split in California case authorities: some courts enforce non-solicitation agreements; others don’t.

This schism in the California courts signaled an unclear California policy which led the Court to ultimately conclude that applying New York law did not clearly impinge on a fundamental California public policy. [*6]

The Court then found that GE sufficiently alleged the required elements of a breach of contract claim against the defendants and denied the defendants’ motion. (The court did grant the motion filed by the lone employee whose NSA specified California law would govern.)

GE’s Trade Secrets Claim – What Law Governs?

Illinois’s choice-of-law rule for trade secret misappropriation focuses on where the misappropriation occurred or where the defendant benefitted from the misappropriation.

Since Uptake’s (the individual defendants’ corporate employer) principal place of business is in Illinois and the defendants allegedly pilfered GE’s trade secrets there, Illinois law governed GE’s trade secrets claim.

Illinois recognizes the “inevitable disclosure doctrine” which allows a trade secrets plaintiff to show misappropriation by showing a defendant’s new employment “will inevitably lead him to rely on the plaintiff’s trade secrets.”

The plaintiff must allege more than that an erstwhile employee’s general skills and knowledge will be used to benefit a new employer. Instead, the plaintiff must focus on protecting “particularized plans or processes” a defendant was privy to which are unknown to industry competitors and could give the new employer an unfair advantage over the plaintiff. [*9][citing to PepsiCo v. Redmond, 54 F.3d 1262 (7th Cir. 1995).

In evaluating whether disclosure is inevitable, the Court considers (1) the level of competition between former and current employer, (2) whether employee’s new position is similar to former position, and (3) actions new employer has taken to protect against the new employee’s use or disclosure of former employer’s trade secrets.

Since GE alleged that Uptake is a competitor in the data analytics market for industrial machinery and the defendants’ Uptake positions are similar to their former GE ones, the Court found GE sufficiently pled an ITSA claim under the inevitable disclosure doctrine.

Afterwords:

This case illustrates in sharp relief how convoluted and important choice-of-law questions are when different employment agreement sections apply different states’ laws.

The case also provides a useful summary of the key considerations litigators should hone in on when alleging (or defending) trade secrets misappropriation claims based on the inevitable disclosure doctrine.

Subcontractor’s Failure to Get Certified Mail ‘Green Cards’ into Evidence = Draconian Trial Loss in Lien Spat

The Second District appeals court recently affirmed a harsh result against a subcontractor who failed to properly serve a Section 24 notice in accordance with the strictures of the Illinois Mechanics Lien Act.

The earth-moving subcontractor recorded a lien against a nascent Starbucks in Chicago’s western suburbs seeking payment for various change orders. It sent its lien notice to the property’s lender by certified mail but not to the property owner.

After a bench trial, the trial judge reluctantly found for the property owner defendants and held that the subcontractor’s lien notice failed to follow the Act.  The subcontractor appealed.

Affirming judgment for the property owner, the Court first emphasized the oft-cited rule that since rights created by the Act are statutory, the statutory technical and procedural requirements are strictly construed. The burden of proving that each requirement of the Act has been satisfied is on the party seeking to enforce its lien – here, the subcontractor.  But where there is no dispute that an owner actually received notice, courts will overlook technical defects.

Section 24 of the Act requires a subcontractor to serve notice of its intent to lien by certified mail or personal delivery to the record owner and lender (if known)within 90 days after completing the work on the property. 770 ILCS 60/24(a).

An exception to this notice requirement is where a general contractor’s sworn statement provides the owner notice of the subcontractor’s work and unpaid amount.

While courts will uphold a lien notice sent only to an owner (and not to the lender) since there is no concern of the owner being prejudiced or having to pay twice, the reverse isn’t true. Citing to half-century-old case law, the Court held that since notice to an owner is the ‘very substance of the basis on which a mechanic’s lien may be predicated,’, the Court refused to excuse the subcontractor’s failure to serve the owner with its lien notice even though the lender was given proper statutory notice.

And while the plaintiff attached some certified mail green (return) card copies to its written response to Defendant’s directed verdict motion at trial, the plaintiff never authenticated the cards or offered them in evidence at trial. As a result, the appeals court refused to consider the green cards as part of the appellate record. (An appeals court cannot consider documents that were not admitted into evidence at trial.)

In addition, the plaintiff’s trial testimony was conflicting. The Plaintiff’s owner’s testimony conflicted with a 2014 affidavit of mailing prepared by one of Plaintiff’s employees.  This evidentiary dissonance failed to show the owner’s actual notice of the plaintiff’s lien notice.  As a result, the trial court found that the plaintiff failed to carry its burden of proving that it complied with its Act lien notice rules.

The court then rejected the subcontractor’s argument that the owner had actual notice of its work since it saw the plaintiff performing grading work on the property and the plaintiff sent regular invoices to the owner’s agent.  However, under Illinois law, the mere presence of or owner’s knowledge that a contractor on a job is not a valid substitute for the required statutory notice.

The court also nixed the subcontractor’s claim that the owner had actual notice of the subcontractor’s work based on the sworn statements submitted to the owner from the general contractor. While courts have upheld an otherwise deficient subcontractor lien notice where sworn statements in the record plainly show the subcontractor’s identity and amounts owed.  Here, there were no sworn statements in the record. A trial witness may only testify to matters on which he/she has personal knowledge. Ill. R. Evid. 602. Since the plaintiff didn’t call to testify the owner’s construction manager – the only one who supposedly received the GC’s sworn statements (that identified plaintiff) –  there was no competent evidence that the owner received and reviewed any sworn statements that referenced the plaintiff’s work and amounts owed.

Afterwords:

This case shows how unforgiving statutory notice requirements can be in the mechanics lien context.

In hindsight, the subcontractor plaintiff should have introduced certified mail receipts into evidence.

Failing that, it should have called the owner’s construction manager as an adverse agent to lock in testimony that the general contractor furnished the owner with sworn statements and those statements sufficiently identified the subcontractor plaintiff.

Cal. Court Validates Reverse-Piercing; Creditor Can Add LLC to Prior Judgment Against Member

I previously featured (here) a 2018 4th Circuit decision that discussed reverse veil-piercing under Delaware law.  In 2017, a California court provided its own trenchant analysis of reverse veil-piercing and how that remedy relates to a charging order against an LLC member’s distributional interest.

The judgment creditor plaintiff in Curci Investments, LLC v. Baldwin, 14 Cal.App.5th 214 (2017) won a $7.2M judgment against a prominent real estate developer. In post-judgment discovery, the creditor learned the developer was sheltering his assets in an LLC; an entity through which he also loaned over $40M to family members and partnerships in the years leading up to the judgment.

The trial court denied the creditor’s motion to “reverse pierce” and hold the LLC responsible for the judgment.  The court reasoned that reverse-piercing was not a recognized remedy in California. The creditor appealed.

First, the court noted, under California law, a judgment creditor can move to modify a judgment to add additional judgment debtors. See Cal. CCP 187.

The court then stressed that an LLC’s legal separation from its members may be disregarded where the LLC is utilized to “perpetrate a fraud, circumvent a statute, or accomplish some other wrongful or inequitable purpose.”

In such circumstances, the acts of the LLC will be imputed to the individual members or managers who dominate the LLC. Under this alter-ego doctrine, individuals or other entities cannot abuse the corporate form to commit a fraud or elude creditors.

The appeals court broke with the trial judge and held that California recognizes “outside reverse veil piercing.” This applies where a third-party creditor tries to satisfy an individual’s debt by attaching assets of an entity controlled by that individual.

The reasons typically given by courts that decline to reverse pierce are discouraging creditor’s from bypassing standard judgment collection protocols, the protection of innocent shareholders and preventing the use of equitable remedies where legal theories or remedies are available.

Here, however, those policy concerns weren’t present.

First, the court noted that unlike in the corporate debtor context – where a creditor can step into a shareholder’s shoes and obtain shares, the right to vote and to dividends – a creditor’s rights against an LLC member are limited.

With an LLC, a plaintiff can only get a charging order against the LLC member’s distributional interest. The member remains an LLC member and keeps all of his/her rights to manage and control the LLC.

And since the individual defendant in Curci retained complete control to decide if and when LLC distributions would be made, the charging order was an illusory remedy.

This last point was blinding in light of the evidence that the defendant caused the LLC to distribute nearly $180M in the six years leading up to the judgment and no distributions had been made in the five years after the judgment.

The Court further distinguished the charging order remedy from reverse piercing in that the former only affixes to an LLC member’s distributional interest while the latter remedy reaches the LLC’s assets; not the individual member’s. [7]

Second, there was no possibility that an innocent shareholder would be harmed. This was because the judgment debtor owned a 99% interest in the LLC. (The 1% holder was the debtor’s wife who, under California community property laws, was also liable for the debt owed to the plaintiff.)

Lastly, there was no concern of the plaintiff using reverse-piercing to circumvent legal remedies like conversion or a fraudulent transfer suit. The court found that burdening the creditor with showing the absence of a legal remedy would sufficiently protect against indiscriminate reverse piercing.

Afterwords:

While Curci presents an extreme example of an individual using the corporate form to elude a money judgment, the case illustrates the clear proposition that if an individual judgment debtor is using a business entity to shield him/herself from a judgment, the court will reverse pierce and hold the sheltering business jointly responsible with the individual for a money judgment.

The case should be required reading for any creditor’s rights practitioners; especially on the West Coast.

Court Weighs In On Constructive Fraud in Contractor Lien Dispute, Summary Judgment Burdens – IL First Dist.

The First District affirmed partial summary judgment for a restaurant tenant in a contractor’s mechanics lien claim in MEP Construction, LLC v. Truco MP, LLC, 2019 IL App (1st) 180539.

The contractor sued to foreclose its $250,000-plus mechanics lien for unpaid construction management services furnished under a written contract between the contractor and restaurant lessee.

The lessee moved for summary judgment arguing the contractor completed only about $120,000 worth of work and so the lien was doubly inflated.  The lessee further contended that the majority of the liened work was done by plaintiff’s sub-contractors; not the plaintiff. The trial court sided with the lessee and found the plaintiff’s lien constructively fraudulent.

Affirming, the appeals court first restated the familiar, governing summary judgment standards and the contours of constructive fraud in the mechanics’ lien context.

The “put up or shut up” litigation moment – summary judgment requires the opposing party to come forward with evidence that supports its skeletal pleadings allegations.

Statements in an affidavit opposing summary judgment based on information and belief or that are unsupported conclusions, opinions or speculation are insufficient to raise a genuine issue of material fact.

Section 7 of the Illinois mechanics lien act (770 ILCS 60/7) provides that no lien shall be defeated due to an error or overcharging unless the overcharge (or error) is “made with intent to defraud.” Section 7 aims to protect the honest lien claimant who makes a mistake rather than the dishonest claimant who makes a knowingly false statement. Benign mistakes are OK; purposeful lien inflation is not.
An intent to defraud can be inferred from “documents containing overstated lien amounts combined with additional evidence.” The additional evidence or “plus factor” requires more than a bare overcharge on a document: there must be additional evidence at play before a court invalidates a lien as constructively fraudulent.

Affirming the trial court’s constructive fraud ruling, the First District pointed to plaintiff’s president’s sworn statement which indicated plaintiff only performed a fraction of the liened work and that the majority of the lien was from subcontractors who dealt directly with the lessee. Critical to the court’s conclusion was that the plaintiff did not have contractual relationships with its supposed sub-contractors.

Looking to Illinois lien law case precedent, the Court noted that lien overstatements of 38%, 82% and 79% – all substantially less than the more than 100% overstatement here – were all deemed constructively fraudulent by other courts. [⁋ 17]

The Court also affirmed the lower court’s denial of the contractor’s motion for more discovery. (The contractor argued summary judgment was premature absent additional discovery.) Illinois Supreme Court Rule 191(b) allows a party opposing summary judgment to file an affidavit stating that material facts are known only to persons whose affidavits can’t be obtained due to hostility or otherwise. The failure to file a 191(b) motion precludes that party from trying to reverse a summary judgment after-the-fact on the basis of denied discovery. [⁋ 20]

Here, the contractor’s failure to seek additional time to take discovery before responding to the lessee’s summary judgment motion doomed its argument that the court entered judgment for the lessee too soon.

Take-aways:

Constructive fraud requires more than a simple math error. Instead, there must be a substantial overcharge coupled with other evidence. Here, that consisted of the fact the contractor neither performed much of the underlying services nor had contractual relationships with the various subcontractors supposedly working under it.

The case also solidifies the proposition that while there is no magic lien inflation percentage that is per se fraudulent, an overstatement of more than 100% meets the threshold.

Procedurally, the case lesson is for a summary judgment respondent to timely move for more discovery under Rule 191(b) and to specifically identify the material evidence the summary judgment respondent needs to unearth in the requested discovery.

Contingent, ‘PI’ Firm’s Dearth of Time Records Dooms Attorneys’ Fee Award in Real Estate Spat

A personal injury firm’s (Goldberg, Weisman and Cairo) failure to properly document its attorney time records resulted in an almost 88% fee reduction after the defendants appealed from a real estate dispute bench trial verdict.

The plaintiffs – one of whom is a GWC attorney – in Kroot v. Chan, 2019 IL App (1st) 181392 sued the former property owners for violating Illinois Residential Real Property Disclosure Act, 765 ILCS 77/1 et. seq. (the Act) after they failed to disclose known property defects to the plaintiffs.

The trial court found for the plaintiffs on their Act claims and common law fraud claims and assessed nearly $70,000 in attorneys’ fees and costs against defendants. The defendants appealed citing the plaintiffs’ dearth of competent fee support.

Reversing, the First District emphasized how crucial it is for even a “contingent fee law firm” like GWC to sedulously document its attorney time and services.

Under Illinois law, a plaintiff seeking an attorney fee award had the burden of proving entitlement to fees. Additionally, an attorneys’ fee award must be based on facts admissible in evidence and cannot rest on speculation, conjecture or guess-work as to time spent on a given task.

Unless there is a contractual fee-shifting provision or a statute that provides for fees, an unsuccessful litigant is not responsible for the winner’s fees. And while the Act does provide a “hook” for attorneys’ fees, the common law fraud claim did not. As a result, the First District held that the fraud verdict against one defendant wasn’t properly subject to a fee petition.

“Reasonable attorneys’ fees” in the context of a fee-shifting statute (like the Act) denotes fees utilizing the prevailing market rate. The Act’s fee language differs from other statutes in that it provides that fees can be awarded to a winning party only where fees are incurred by that party. “Incurred,” in turn, means “to render liable or subject to” [⁋⁋ 11-12 citing Webster’s Third New International Dictionary 1146 (1981)]. As a consequence, unless attorneys’ fees have actually been incurred by a prevailing party, the trial court has no authority to award fees under the Act.

At the evidentiary hearing on plaintiff’s fee petition, three GWC attorneys admitted they didn’t enter contemporaneous timesheets during the litigation and that a document purportedly summarizing GWC’s attorney time was only an estimate. The lawyers also conceded that plaintiffs didn’t actually pay any legal fees to GWC. Still another attorney witness acknowledged she tried to reconstruct her time nearly 8 months after the underlying work was performed. [⁋ 19]

The appeals court noted the record was devoid of any evidence that (1) plaintiffs ever agreed to pay for legal services, (2) plaintiffs were ever billed for GWC’s legal services, (3) plaintiff ever paid for those services, or (4) that GWC expected plaintiffs’ to pay for its services. The court also found that the supporting affidavits submitted in support of the fee petition were inadmissible hearsay documents. (It’s not clear from my reading of the opinion why the affidavits and billing record did not get into evidence under the business records hearsay exception.)

In the end, the Court found the absence of either simultaneous time records or testimony that the attorney working on the matter had an independent recollection of the time and tasks incurred/performed rendered the fee petition too speculative.

Kroot provides a useful gloss on the governing standards that control when a plaintiff can recover attorneys’ fees. Aside from stressing the importance of making contemporaneous time records and offering proper supporting fee evidence, the case’s lesson is that in the context of a statute like the Act that only provides for fees actually incurred, the plaintiff must actually pay attorneys’ fees to merit a fee award. Since the evidence was that the prevailing plaintiffs never actually were billed or paid any fees to their attorneys, the plaintiffs’ lawyers failed to carry their burden of proof on the fees issue.

Actuarial Firm Owes No Independent Legal Duty to Health Plan; Lost Profits Claim Lopped Off – 2nd Cir.

The Second Circuit appeals court recently examined the contours of New York’s economic loss rule in a dispute involving faulty actuarial services.

The plaintiff health care plan provider in MVP Health Plan, Inc. v. Optuminsight, Inc., 2019 WL 1504346 (2nd Cir. 2019) sued an actuary contractor for breach of contract and negligence when the actuary fell short of professional practice standards resulting in the health plan losing Medicare revenue.

The plaintiff appealed the district court’s bench trial verdict that limited plaintiff’s damages to the amounts it paid the actuary in 2013 (the year of the breach) and denied the plaintiff’s request for lost revenue.

The plaintiff also appealed the district court’s dismissal of its negligence count on the basis that it was duplicative of the breach of contract claim and the actuary owed the plaintiff no legal duty outside the scope of the contract.

Affirming, the Second Circuit first addressed the dismissal of plaintiff’s negligence claim. In New York, a breach of contract claim is not an independent tort (like negligence) unless the breaching party owes a legal duty to the non-breaching party independent of the contract. However, merely alleging a defendant’s breach of duty of care isn’t enough to bootstrap a garden variety contract claim into a tort.

Under New York law, an actuary is not deemed a “professional” for purposes of a malpractice cause of action and no case authorities saddle an actuary with a legal duty to its client extraneous to a contract. In addition, the court found the alleged breach did not involve “catastrophic consequences,” a “cataclysmic occurrence” or a “significant public interest” – all established bases for a finding of an extra-contractual duty.

Next, and while tacitly invoking Hadley v. Baxendale, [1854] EWHC Exch J70, the seminal 19th Century British court case involving consequential damages, the appeals court jettisoned the plaintiff’s lost revenues claim.

Breach of contract damages aim to put the plaintiff in the same financial position he would have occupied had the breaching party performed. “General” contract damages are those that are the “natural and probable consequence of” a breach of contract. Lost profits are unrecoverable consequential damages where the losses stem from collateral business arrangements.

To recover lost revenues as consequential damages, the plaintiff must establish (1) that damages were caused by the breach, (2) the extent of those damages with reasonable certainty, and (3) the damages were within the contemplation of the parties during contract formation.

To determine whether consequential damages were within the parties’ reasonable contemplation, the court looks to the nature, purpose and peculiar circumstances of the contract known by the parties and what liability the defendant may be supposed to have assumed consciously.

The court found that plaintiffs lost revenues were not damages naturally arising from defects in actuarial performance. Instead, it held those claimed damages were twice removed from the breach: they stemmed from plaintiff’s contracts with its member insureds. And since there was no evidence the parties contemplated the defendant would be responsible for the plaintiff’s lost revenues if the defendant breached the actuarial services agreement, the plaintiff’s lost profits damage claim was properly dismissed.

Afterwords:

MVP provides a useful primer on breach of contract damages, when lost profits are recoverable as general damages and the economic loss rule.
The case cements the proposition that where there is nothing inherent in the contract terms or the parties’ relationship that gives rise to a legal duty, the non-breaching party likely cannot augment its breach of contract action with additional tort claims.

Class Plaintiffs’ Consumer Fraud Claim Against Headphone Maker Survives Motion to Dismiss

The class action plaintiffs in Zak v. Bose Corp., 2019 WL 1437909 (N.D.Ill. 2019) sued the Massachusetts-based headphone behemoth claiming its mobile application (“App”) secretly intercepted plaintiffs’ music selections and sold the information to a third party.

Plaintiffs sued under the Federal wiretap act, and lodged state law claims under Illinois’s eavesdropping and consumer fraud statutes. Bose moved to dismiss the entire Complaint.

Partially granting and partially denying Bose’s motion, the Northern District provides a useful summary of the overlap between Federal wiretap and State law eavesdropping claims and engages in a creative and decidedly post-modern application of the Illinois Consumer Fraud Act, 815 ILCS 505/2 et seq. (the “CFA”).

Plaintiffs alleged that when they selected music to be streamed to their smartphones, Bose’s App “recorded” the selected song, artist and album while in transit to Spotify (or similar music streamers) and sold that data to a data miner.  According to plaintiffs, Bose used the recorded information to create detailed user profiles without his/her consent.

Federal Wiretap and State Eavesdropping Claims

The Federal Wiretap Act (18 U.S.C. s. 2511(a) and Illinois’s Eavesdropping statute, 720 ILCS 5/14-2(a) outlaw the interception (or attempts to intercept) of any electronic communication.

Liability under each statute only attaches to intercepted electronic communications by someone who is not party to the communication.

There is no wiretap or eavesdropping liability for a person who is party to a communication or where a party gives prior consent to the interception of the communication.

The Court rejected plaintiffs’ wiretap and eavesdropping claims as Bose was a party to the communication. The Court found that Bose “participated” in the user-to-streamer communication by first conveying the user’s song selection to the streamer and then processing the streamer’s song information back to the user.

Since the main purpose of the App was to facilitate communication between a headphone consumer and Spotify, the plaintiff failed to sufficiently allege that Bose was not a participant in the underlying communications.

Illinois Consumer Fraud Act

The plaintiffs’ consumer fraud claim survived.  The CFA prohibits “unfair or deceptive acts or practices” including the misrepresentation, omission or concealment of a material fact. 815 ILCS 505/2.

To state a CFA claim, the plaintiff must allege: (1) a deceptive act or practice by defendant, (2) defendant’s intent that plaintiff rely on the deception, (3) the deception occurred in the course of conduct involving trade or commerce, and (4) actual damage to the plaintiff as a result of the deception.

A colorable CFA claim also requires that the plaintiff actually be deceived by a defendant’s statement or omission – a plaintiff must actually receive a communication from the defendant.

For an omission to be actionable, it must involve a “material fact.”  A fact is material where it is information a reasonable buyer would be expected to rely on in deciding whether to purchase a product or one that would have led a buyer to act differently had it known of the omitted fact.

The Court found the plaintiffs sufficiently stated a CFA claim.  Plaintiffs pled a deceptive act by alleging that Bose advertised the headphones and App on its packaging and website, and omitted that the App secretly collected user data which was then sold to a third party.

The plaintiffs also adequately pled that the deceptive act was material as plaintiffs would not have purchased Bose products and installed the App had they known defendants were going to secretly collect and transmit plaintiffs’ streamed music choices.

Finally, according to the Court, plaintiffs adequately alleged both Bose’s intention that Plaintiffs rely on the omission “because it knew that consumers would not otherwise purchase their products” and actual damages – that Bose charged a higher price for its products and plaintiffs wouldn’t have bought the products had they known the App would collect and disclose their information. [*6]

The Court rejected Bose’s arguments that the alleged deceptive act didn’t relate to a material fact and the plaintiffs’ failed to plead actual damages since they did not ascribe a value to the “free and optional” App. The Court held that whether an alleged statement or omission is material is not properly decided on a motion to dismiss.

On the damages question, the Court credited class plaintiffs’ allegations that they paid $350 for the headphones in part because of the App and would not have done so had they known about the App’s information tracking.

Take-aways:

Zak and cases like it lie at the confluence of consumer law, tort law and cyber security. Aside from presenting a useful summary of the Illinois consumer fraud act as well as the Federal wiretap law, the case showcases the liberal pleading plausibility standard that governs Rule 12(b)(6) motions.

While it is unclear whether plaintiffs will ultimately win, Zak demonstrates that so long as a consumer fraud plaintiff pleads at least some facts in support of its omission claim, it can likely survive a motion to dismiss.

Fourth Circuit Considers Reverse Piercing, Charging Orders, and Jurisdictional Challenges in Pilfered Cable Case

Sky Cable v. Coley (http://www.ca4.uscourts.gov/opinions/161920.P.pdf) examines the interplay between reverse piercing the corporate veil, the exclusivity of the charging order remedy, and jurisdiction over an unserved (with process) LLC based on its member’s acts.

In 2011, the plaintiff cable distributor sued two LLCs affiliated with an individual defendant (“Individual Defendant”) who was secretly supplying cable TV to over 2,000 rooms and pocketing the revenue.

After unsuccessfully trying to collect on a $2.3M judgment, plaintiff later moved to amend the judgment to include three LLCs connected to the Individual Defendant under a reverse veil-piercing theory. The Individual Defendant and one of the LLCs appealed the District Court order that broadened the scope of the judgment.

Affirming, the Fourth Circuit, applying Delaware law, found that the District Court properly reverse-pierced the Individual Defendant to reach LLC assets.

‘Reverse’ Veil Piercing

Unlike traditional veil piercing, which permits a court to hold an individual  shareholder personally liable for a corporate judgment, reverse piercing attaches liability to the entity for a judgment against a controlling individual. [10, 11]

Reverse piercing is especially apt in the one-member LLC context as there is no concern about prejudicing the rights of others LLC members if the LLC veil is pierced.

In predicting that a Delaware court would recognize reverse piercing, the Court held that if Delaware courts immunized an LLC from liability for a member’s debts, LLC members could hide assets with impunity to shirk creditors. [18, 19]

Charging Order Exclusivity?

The Court also rejected the Individual Defendant’s argument that Delaware’s charging statute, 6 Del. Code s. 18-703 was the judgment creditor’s exclusive remedy against an LLC member.

Delaware’s charging statute specifies that attachment, garnishment and foreclosure “or other legal or equitable remedies” are not available to the judgment creditor of an LLC member.

However, the Court found that piercing “is not the type of remedy that the [charging statute] was designed to prohibit” since the piercing remedy differs substantively from the creditor remedies mentioned in the charging statute.  The Court found that unlike common law creditor actions aimed at seizing a debtor’s property – piercing (or reverse-piercing) challenges the legitimacy of the LLC entity itself. As a result, the Court found that the plaintiff wasn’t confined to a charging order against the Individual Defendant’s LLC distributions.

The Court further held that applying Delaware’s charging law in a manner that precludes reverse piercing would impede Delaware’s interest in preventing its state-chartered corporate entities from being used as “vehicles for fraud”
by debtors trying to escape its debts. [20-22]

Alter Ego Finding

The Court also agreed with the lower court’s finding that the LLC judgment debtor was the Individual Defendant’s alter ego.  In Delaware, a creditor can establish does not have to show actual fraud. Instead, it (the creditor) can establish alter ego liability by demonstrating a “mingling of the operations of the entity and its owner plus an ‘overall element of injustice or unfairness.” [24-25]

Here, the evidence in the record established that the Individual Defendant and his three LLCs operated as a single economic unit.  The Court also noted the Individual Defendant’s failure to observe basic corporate formalities, lack of accounting records and obvious commingling of funds as alter ego signposts.

The most egregious commingling examples cited by the court included one LLC paying another entity’s taxes, insurance and mortgage obligations. The Court found it suspicious (to say the least) that the individual Defendant took mortgage interest deductions on his personal tax returns when an LLC was ostensibly paying a separate LLC’s mortgage.

Still more alter ego evidence lay in Defendant’s reporting an LLC’s profit and loss on his individual return. Defendant also could not explain at his deposition what amounts he received as income from the various LLCs.

Can LLC Member’s Post-Judgment Acts Subject LLC to Jurisdiction?

The Court also affirmed the District Court’s exercise of jurisdiction over the LLC judgment debtor based on the Individual Defendant’s acts even though the LLC was never served with process in the underlying suit.

Normally, service of summons and the operative pleading on a defendant is a precondition to a court’s exercise of personal jurisdiction over him. However, a court has “vicarious jurisdiction” over an individual where his corporate alter ego is properly before the court.  In such a case, an individual’s jurisdictional contacts are imputed to the alter ego entity.

The reverse can be true, too: where an LLC’s lone member is already before the Court, there is no concern that the LLC receive independent notice (through service of summons, e.g.) of the litigation. (This is because there are no other members to give due process protections to.)

Applying these rules, the Fourth Circuit found jurisdiction over the LLC was proper since the Individual Defendant appeared and participated in post-judgment proceedings. [30-36]

Afterwords:

Sky Cable presents a thorough discussion of the genesis and evolution of reverse veil-piercing and a creditor’s dogged and creative efforts to reach assets of a single-member LLC.

Among other things, the case makes clear that where an LLC is so dominated and controlled by one of its members at both the financial and business policy levels, the LLC and member will be considered alter egos of each other.

Another case lesson is that a judgment creditor of an LLC member won’t be limited to a charging order where the creditor seeks to challenge the LLC’s legitimacy; through either a traditional piercing or non-traditional reverse-piercing remedy.

Limitation of Damages Clause Doesn’t Bar Trade Secrets, Copyright Claims – IL ND

A Federal district court in Illinois recently addressed the scope of a limitation of damages provision in a dispute over automotive marketing software. The  developer plaintiff in Aculocity, LLC v. Force Marketing Holdings, LLC, 2019 WL 764040 (N.D. Ill. 2019), sued the marketing company defendant for breach of contract – based on the defendant’s failure to pay for plaintiff’s software – and joined statutory copyright and trade secrets claims – based on the allegation that the defendant disclosed plaintiff’s software source code to third parties.

The defendant moved for partial summary judgment that plaintiff’s claimed damages were foreclosed by the contract’s damage limitation provision. The court denied as premature since no discovery had been taken on plaintiff’s claimed damages.

The agreement limited plaintiff’s damages to the total amount the software developer plaintiff was to be paid under the contract and broadly excluded recovery of any “consequential, incidental, indirect, punitive or special damages (including loss of profits, data, business or goodwill).”  The contractual damage limitation broadly applied to all contract, tort, strict liability, breach of warranty and failure of essential purpose claims.

In Illinois, parties can limit remedies and damages for a contractual breach if the agreement provision is unambiguous and doesn’t violate public policy.

Illinois law recognizes a distinction between direct damages and consequential damages. The former, also known as “general damages” are damages that the law presumes flow from the type of wrong complained of.

Consequential damages, by contrast, are losses that do not flow directly and immediately from a defendant’s wrongful act but result indirectly from the act. Whether lost profits are considered direct damages depends on their (the lost profits) degree of foreseeability. In one oft-cited case, Midland Hotel Corp. v. Reuben H. Donnelley Corp., 515 N.E.2d 61, 67 (Ill.1987), the Illinois Supreme Court held that a plaintiff’s lost profits were direct damages where the publisher defendant failed to include plaintiff’s advertisement in a newly published directory.

The District Court in Aculocity found that whether the plaintiff’s lost profits claims were direct damages (and therefore outside the scope of the consequential damages disclaimer) couldn’t be answered at the case’s pleading stage.  And while the contract specifically listed lost profits as an example of barred consequential damages, this disclaimer did not apply to direct lost profits. As a result, the Court denied the defendant’s motion for partial summary judgment on this point. [*3]

The Court also held that the plaintiff’s statutory trade secrets and copyright claims survived summary judgment. The Court noted that the contract’s damage limitation clause spoke only to tort claims and contractual duties. It was silent on whether the limitation applied to statutory claims – claims the court recognized as independent of the contract. [*4] Since the clause didn’t specifically mention statutory causes of action, the Court refused to expand the limitation’s reach to plaintiff’s copyright and trade secrets Complaint counts.

Take-aways:

Aculocity and cases like it provide an interesting discussion of the scope of consequential damage limitations in the context of a lost profits damages claim. While lost profits are often quintessential consequential damages (and therefore defeated by a damage limitation provision), where a plaintiff’s lost profits are foreseeable and arise naturally from a breach of contract, the damages will be considered general, direct damages that can survive a limitation of damages provision.

‘Zestimates’ Are Estimates; Not Fraud – 7th Circuit

The Seventh Circuit recently affirmed the Illinois Northern District’s Rule 12(b)(6) dismissal of class action plaintiffs’ fraudand deceptive practices claims against the owners of the Zillow.com online real estate valuation site.

The lower court in Patel v. Zillow, Inc. found the plaintiffs failed to sufficiently allege colorable consumer fraud and deceptive trade practices claims based mainly on the site’s “Zestimate” feature – an algorithm-based property estimator program.

The plaintiffs alleged Zillow scared off would-be buyers by undervaluing properties.  When Zillow refused plaintiffs request to remove the low-ball estimates, plaintiffs sued under various Illinois consumer statutes.  

Plaintiffs first alleged Zillow violated the Illinois Real Estate Appraiser Licensing Act, 225 ILCS 458/1 et. seq. (the “Licensing Act”) by performing appraisals without a license.  In their fraud and deceptive practices complaint counts, plaintiffs alleged Zillow used distorted property value estimates to tamp down true property values and engaged in false advertising by giving preferential listing treatment to sponsoring real estate brokers and lenders.

The Seventh Circuit affirmed dismissal of the plaintiffs’ Licensing Act claim on the ground that the Licensing Act doesn’t provide for a private cause of action.  Instead, the statute is replete with administrative enforcement provisions (fines of up to $25K) and criminal penalties (Class A misdemeanor for first offense; Class 4 felony for subsequent ones) for violations.  Since there was no express or implied private right of action for the Licensing Act violation, that claim failed. [3]

Jettisoning the plaintiffs’ statutory Deceptive Trade PracticesAct and Consumer Fraud Act claims (815 ILCS 510/1 et seq.; 815 ILCS 505/1 et seq., respectively), the Seventh Circuit agreed with the lower court that Zestimates were not actionable statements of fact likely to confuse consumers.

Instead, like its name suggests (‘estimate’ is “built in”), a Zestimate is simply estimates of a property’s value.    This point is confirmed by Zillow’s disclaimer-laden site that makes clear it is only a “starting point” for determining property values.  

Expanding on the deceptive practices and consumer fraud claim deficits, the Court disagreed with plaintiffs’ thesis that removing faulty valuations would improve the algorithm’s overall accuracy.  The Court noted that if Zillow was forced to remove estimates each time someone disagreed with a published value, it would “skew distribution,” dilute the site’s utility and either unfairly benefit or penalize buyers or sellers; depending on whether the retracted data was accurate. [4]

Turning to plaintiffs’ false advertising component of its claims, the Seventh Circuit held that all web and print publications rely on ad revenue to finance operations.  The mere fact that Zillow sold ad space didn’t transmute property estimates into verifiable (therefore, actionable) factual assertions.  Zestimates are estimates: “Zillow is outside the scope of the trade practices act.” [5]

Afterwords

The Seventh Circuit’s Zillow opinion cements the proposition that an actionable deceptive trade practices and consumer fraud claim requires a defendant’s assertion of a verifiable fact to be actionable.  

The case also confirms where a statute – like the Licensing Act – sets out a diffuse administrative and criminal enforcement scheme, a court will not imply a private right of action based on a statutory violation.

 

Possible Problematic Lien Notice Starts Limitations Clock in Lawyer ‘Mal’ Case

In Construction Systems, Inc. v. FagelHaber LLC, 2019 IL App (1st) 172430, the First District affirmed the time-barring of a legal malpractice suit stemming from a flubbed contractor’s lien filing.

Several months after a lender recorded its mortgage on a commercial project, the law firm defendant, then representing the plaintiff contractor, served a Section 24 notice – the Illinois mechanics’ lien act provision that governs subcontractor liens. 770 ILCS 60/24.  While the notice was served on the project owner and general contractor, it didn’t name the lender.  In Illinois, where a subcontractor fails to serve its lien notice on a lender, the lien loses priority against the lender.

After the contractor settled its lien claim with the lender’s successor, it sued the defendant law firm for malpractice. The contractor plaintiff alleged that had the law firm properly perfected the lien, the plaintiff would have recovered an additional $1.3M.

Affirming summary judgment for the defendant law firm, the First District agreed with the trial court and held that plaintiff’s legal malpractice suit accrued in early 2005. And since plaintiff didn’t sue until 2009, it was a couple years too late.

The Court based its ruling mainly on a foreboding February 2005 letter from plaintiff’s second counsel describing a “problematic situation” – the lender wasn’t notified of plaintiff’s subcontractor lien. The court also pointed out that plaintiff’s second attorney testified in her deposition that she learned of possible lien defects in February 2005; some four years before plaintiff filed suit.

Code Section 13-214.3(b) provides for a two-year limitations period for legal malpractice claims starting from when a plaintiff “knew or reasonably should have known of the injury for which damages are sought.” [⁋ 20]

A plaintiff’s legal malpractice case normally doesn’t accrue until he/she sustains an adverse judgment, settlement or dismissal. An exception to this rule is where it’s “plainly obvious” a plaintiff has been injured as a result of professional negligence.

The court rejected plaintiff’s argument that it never discovered the lien defect until 2007 when the lender’s successor filed its summary judgment motion (which argued that the lien was defective as to the lender). According to the court “the relevant inquiry is not when [Plaintiff] knew or should have known about the lack of notice as an actual defense, but when [Plaintiff] should have discovered [Defendant’s] failure to serve statutory notice of the mechanic’s lien on [the prior lender] prompting it to further investigate [Defendant’s] performance.” [⁋ 24]

The court again cited the above “problematic situation” letter as proof that February 2005 (when the letter was sent) was the triggering date for plaintiff’s claim. Another key chronological factor was the plaintiff’s 2005 payment of attorneys’ fees.

In Illinois, a malpractice plaintiff must plead and prove damages and the payment of attorneys’ fees can equate to damages when the fees are tied to a former counsel’s neglect. Since plaintiff paid its second counsel’s fees in 2005 for work she performed in efforts to resuscitate the lien’s priority, 2005 was the limitation period’s triggering date. [⁋ 25]

Construction Systems cites Nelson v. Padgitt, 2016 IL App (1st) 160571, for the proposition that a plaintiff does not have to suffer an adverse judgment to sustain legal malpractice injury. In Nelson, an employment contract dispute, the Court held that the plaintiff should have discovered deficiencies in his employment contract (it provided for the loss of salary and commissions in the event of for-cause termination) in 2012 when he sued his former employer, not in 2014 when the employer won summary judgment.

The Court also rejected plaintiff’s argument that its damages were unknown until the lien litigation was finally settled and that it couldn’t sue until the lien dispute was resolved. The court held that the extent and existence of damages are different things and that it’s the date a plaintiff learns he/she was damaged, not the amount, that matters.

Lastly, the court nixed plaintiff’s judicial estoppel concern – that plaintiff couldn’t argue the lien was valid in the underlying case while arguing the opposite in the malpractice suit. According to the court, the plaintiff could have entered into a tolling agreement that would suspend the statute of limitations pending the outcome of the underlying case.

Conclusion

Construction Systems reaffirms that a legal malpractice claim can accrue before an adverse judgment is entered or an opponent files a formal pleading that points out claim defects.  Moreover, the payment of attorneys’ fees directly attributable to a former counsel’s neglect is sufficient to meet the damages prong of a legal malpractice case.

This case and others like it also make clear that the limitations period runs from the date a plaintiff learns she has been injured; not when financial harm is specifically quantified.

To preserve a possible malpractice claim while a plaintiff challenges an underlying adverse ruling, practitioners should consider tolling agreements to suspend any statutes of limitation and guard against possible judicial estoppel concerns (taking inconsistent positions in separate lawsuits).

‘Mandatory’ Forum Selection Clause Given Cramped Construction By IL Court (applying Ohio Law) in Hand Lotion Contract Spat

In my experience, when final contracts refer to earlier agreements between the parties, it can present fertile ground for textual conflicts.  Example: I once litigated a severance dispute where the operative employment agreement provided Delaware law (and fixed venue there, too) and incorporated two prior non-compete agreements.  One agreement contained a Nebraska forum clause while the other non-compete said New York law governed.  Much ink was spilled fleshing out the proper place to sue.

Sloan Biotechnology Laboratories, LLC v. Advanced Biomedical Inc., 2018 IL App (3d) 170020 examines the factors a court considers when deciding which of two paradoxical forum clauses apply.

The plaintiff there agreed to supply hand sanitizer product to the defendant pursuant to a 2015 Manufacturing Agreement (“2015 Agreement”). The 2015 Agreement incorporated a 2014 non-disclosure agreement (the “2014 NDA”)

The 2015 Agreement provided that Illinois law applied and identified Peoria, Illinois as the site of the contract. The incorporated 2014 NDA, in turn, contained both permissive and mandatory forum selection clauses, both of which fixed venue in Cuyahoga County, Ohio. The permissive forum clause simply stated Ohio law would govern and that it (the 2014 NDA) “may be enforced” in Ohio state court. The mandatory clause, found in the 2014 NDA’s “equitable remedies” section, provided that the scope and extent of any injunctive relief “shall be determined” by Cuyahoga County, Ohio state court. The trial court granted the Ohio defendant’s motion to dismiss the complaint and found that Ohio was the proper forum for the lawsuit. The plaintiff appealed.

Applying Ohio law, the Illinois appeals court reversed.  It first recognized the existence of both permissive and mandatory forum selection clauses. The former allows parties to submit their disputes to a designated forum but doesn’t prohibit litigation elsewhere. The latter, mandatory provision, provides the exclusive forum for litigation. Use of the word “may” denotes a permissive forum clause while “shall” signifies a mandatory one. [⁋ 26]

In Ohio, a forum selection clause brokered between two sophisticated commercial entities is prima facie valid, so long as it was bargained for freely. To set aside a commercial forum selection clause, the challenger must make a “strong showing.”

A court will reject a commercial forum selection clause where (1) it results from fraud or overreaching or (2) its enforcement is unreasonable and essentially deprive a party of its day in court.

However, a challenger’s bare allegation that it’s inconvenient to litigate in another state isn’t enough to nullify a freely bargained for forum selection clause.

Like Illinois, Ohio utilizes the four-corners rule to contract interpretation. That is, contractual terms are to be ascribed their common, ordinary meanings and a court will not go beyond the plain language (or “four corners”) of the document to divine its meaning.

Applying these principles, the Court noted that the mandatory forum clause was narrowly drafted and only applied to questions of injunctive relief for NDA violations.  And since plaintiff’s lawsuit was not premised on a violation of the 2014 NDA (it was a declaratory judgment suit), the mandatory forum selection clause didn’t apply. As a consequence, the appeals court held there was nothing preventing the plaintiff from suing in Peoria County Illinois.

Afterwords:

Sloan represents a court rigidly enforcing a forum selection clause where the contracting parties are commercially sophisticated entities and there is no fraud or defect in contract formation.

The party challenging a forum clause must make a strong showing and offer more than inconvenience as the reason to reject the clause.

This case and others like it starkly illustrate the confusion that can result when multiple contracts (with diffuse forum clauses) reference and adopt each other.

If the different agreements involved here contained some forum consistency, a lot of time and money on a satellite issue (where to file suit) likely could have been saved.

High-Tech Sports Equipment Plaintiff Alleges Viable Fraud Claim Against Electronic Sensor Supplier (Newspin v. Arrow – Part II)

In Newspin Sports, LLC v. Arrow Electronics, Inc., 2018 WL 6295272, the Seventh Circuit affirmed the dismissal of plaintiff’s negligent misrepresentation claims but upheld its fraud claims.

Under New York law (the contract had a NY choice-of-law provision), a plaintiff alleging negligent misrepresentation must establish (1) a special, privity-like relationship that imposes a duty on the defendant to impart accurate information to the plaintiff, (2) information that was factually inaccurate, and (3) plaintiff’s reasonable reliance on the information.

New York’s economic loss rule softens the negligent misrepresentation theory, however. This rule prevents a plaintiff from recovering economic losses under a tort theory. Since the plaintiff’s alleged negligence damages – money it lost from the flawed electronic components – mirrored its breach of contract damages, the negligent misrepresentation claim was barred by the economic loss rule. [*10]

Plaintiff’s fraud claims fared better.  In New York, a fraud claim will not lie for a simple breach of contract.  That is, where the only “fraud” alleged is a defendant’s broken promise or lack of sincerity in making a promise, the fraud claim merely duplicates the breach of contract one.

To allege a fraud claim separate from a breach of contract, a plaintiff must establish (1) a legal duty separate from the duty to perform under a contract, or (2) demonstrate a misrepresentation collateral or extraneous to the contract, or (3) special damages caused by the misrepresentation that are not recoverable as contract damages. [*11] [32]-[33].

Applying these principles, the Court noted that the plaintiff alleged the defendant made present-tense factual representations concerning its experience, skill set and that its components met plaintiff’s specifications.  Taken together, these statements – if true – sufficiently pled a legal duty separate from the parties’ contractual relationship to state a colorable fraud claim.

The Court also rejected the defendant’s argument that the plaintiff’s fraud claims were subject to the UCC’s four-year limitations period governing sales of goods contracts.  Since the plaintiff’s fraud count differed from its breach of contract claim, Illinois’s five-year statute of limitations for common law fraud governed.  See 735 ILCS 5/13-205,  As a result, plaintiff’s 2017 filing date occurred within the five-year time limit and the fraud claim was timely. [*12] [35].

Afterwords:

The economic loss rule will bar a negligent misrepresentation claim where a plaintiff’s pleaded damages simply restate its breach of contract damages;

A fraud claim can survive a pleadings motion to dismiss so long as the predicate allegations go beyond the subject matter of the contract governing the parties’ relationship.

High-Tech Sports Co.’s Warranty Claims Too Late Says Seventh Circuit (Newspin v. Arrow Electronics – Part I of II)

Newspin Sports, LLC v. Arrow Electronics, Inc., 2018 WL 6295272 (7th Cir. 2018), analyzes the goods-versus-services dichotomy under the Uniform Commercial Code (UCC) and how that difference informs the applicable statute of limitations.

The defendant supplied electronic sensor components for plaintiff’s use in its high-tech sports performance products.  Plaintiff sued when most of the parts were faulty and didn’t meet Plaintiff’s verbal and written requirements.  Plaintiff brought both contract- and tort-based claims against the Plaintiff.

The Breach of Contract Claims

The Seventh Circuit affirmed the dismissal of the contract claims on the basis they were time-barred under the UCC’s four-year limitations period for the sale of goods.

In Illinois, a breach of written contract claimant has ten years to sue measured from when its claim accrues. 735 ILCS 5/13-206.  A claim accrues when the breach occurs, regardless of the non-breaching party’s lack of knowledge of the breach.  For a contract involving the sale of “goods,” a shortened 4-year limitations period applies. 810 ILCS 5/2-102 (goods df.), 810 ILCS 5/2-725(2)(4-year limitations period).

With a mixed contract (an agreement involving the supply of goods and services), Illinois looks at the contract’s “predominant purpose” to determine whether the 10-year or the compressed 4-year limitations period governs.

To apply the predominant purpose test, the court looks at the contract terms and the proportion of goods to services provided for under the contract.  The court then decides whether the contract is mainly for goods with services being incidental or if its principally for services with goods being incidental.

Here, the Court noted the Agreement was a mixed bag: the defendant promised to provide both goods and services.  But various parts of the contract made it clear that the defendant was hired to first provide a prototype product and later, to furnish components pursuant to plaintiff’s purchase orders.  The court found that any services referenced in the agreement were purely tangential to the main thrust of the contract – defendant’s furnishing electronic sensors for plaintiff to attach to its client’s golf clubs.  Support for this finding lay in the fact that the Agreement set out specific quantity and price terms for the goods (the components) but did not so specify for the referenced assembly, manufacturing and procurement services.

Other Agreement features that led to the court ruling the Agreement was one for goods included its warranty, sales tax, “F.O.B. and title passing provisions. The court noted that the warranty only applied to the manufactured products and not to any services and the contract’s sales tax provision – making Plaintiff responsible for sales taxes –  typically applied in goods contracts, not services ones.

Additionally, the Agreement’s F.O.B. (“free on board”) and title passage terms both signaled this was a goods (not a services) deal. See 810 ILCS 5/2-106(1)(sale consists in passing title from seller to buyer for a price). [*5]

Since the plaintiff didn’t sue until more than five years elapsed from the breach date, the Court affirmed the dismissal of plaintiff’s breach of contract, breach of implied covenant of good faith and fair dealing and breach of warranty claims.

The Negligent Misrepresentation Claim

The Seventh Circuit also affirmed dismissal of plaintiff’s negligent misrepresentation claim. Under New York law (the contract had a NY choice-of-law provision), a plaintiff alleging negligent misrepresentation must establish (1) a special, privity-like relationship that imposes a duty on the defendant to impart accurate information to the plaintiff, (2) information that was in fact incorrect, and (3) plaintiff’s reasonable reliance on the information.

Like Illinois, New York applies the economic loss rule. This precludes a plaintiff from recovering economic losses under a tort theory. And since the plaintiff’s claimed negligent misrepresentation damages – money it lost based on the component defects – mirrored its breach of contract damages, the economic loss rule defeated plaintiff’s negligent misrepresentation count. [*10]

Afterwords:

The case presents a useful summary of the dispositive factors a court looks at when deciding whether a contract’s primary purpose is for goods or services.  Besides looking at an agreement’s end product (or service), certain terms like F.O.B., title-shifting and sales tax provisions are strong indicators of contracts for the sale of goods.

The case also demonstrates the continuing viability of the economic loss rule.  Where a plaintiff’s breach of contract damages are identical to its tort damages, the economic loss rule will likely foreclose a plaintiff’s tort claim.

 

Photo Album Inventor’s Trade Secrets Case Survives Summary Judgment – IL ND

The Northern District recently discussed the reach of the apparent agency doctrine along with trade secret abandonment in a spat over a photo album device.

The plaintiff in Puroon, Inc. v. Midwest Photographic Resource Center, Inc., 2018 WL 5776334 (N.D.Ill. 2018), invented the Memory Book, a “convertible photo frame, album and scrapbook” whose key features included embedded magnet technology (to keep pictures in place) and an interchangeable outside view.

The plaintiff sued the defendant photo-album seller when plaintiff learned the defendant was selling a product similar to the Memory Book. Defendant opposed the suit, claiming it independently created the analogous album product.  Both sides moved for summary judgment motion on multiple claims.

Apparent Agency

The salient agency issue on plaintiff’s breach of contract claim was whether a third-party who performed manufacturing services for the defendant and to whom the plaintiff sent some photo book samples was the defendant’s apparent agent If so, defendant was potentially liable on plaintiff’s breach of contract claim which asserted defendant went back on its promise to build Memory Book prototypes.

In Illinois, a statement by a purported agent alone cannot create apparent authority. Instead, for apparent authority to apply, the court looks to statements or actions of the alleged principal, not the agent. Once a litigant establishes that an agent has authority to bind a principal, the agents’ statements are admissible as an agent’s statement made within the scope of the agency. See Fed. R. Evid. 801(d)(2)(D)(a statement is not hearsay if offered against opposing party and made by party’s agent or employee on a matter within the scope of that relationship while it existed.) [*5]

Here, there was record evidence that a high-ranking employee of defendant referred to both defendant and the manufacturer as “we” in emails. The court viewed this as creating the impression in a reasonable juror that the manufacturer was an agent of defendant.

Because of this fact question – was the manufacturer the defendant’s agent? – both parties’ summary judgment motions were denied on plaintiff’s breach of contract claim.

Trade Secret Misappropriation

The bulk of the opinion focuses on whether the plaintiff sufficiently established that its Memory Book device qualified for trade secret protection and whether there was enough misappropriation evidence to survive summary judgment. The Court answered (a muted) “yes” on both counts.

The court refused to attach trade secret protection to the Memory Book’s embedded magnets feature; the Court noted that magnets had been used extensively in other photo container products.

The Court did, however, afford trade secret protection to plaintiff’s manufacturing specifications.  It found the ‘specs’ secret enough to give plaintiff a competitive advantage.  The Court also noted that plaintiff supplied the specs to defendant only after it signed an NDA.  This was enough for the plaintiff to take its trade secrets claim to a jury and survive summary judgment.

Trade Secret Abandonment

The Court rejected defendant’s argument that plaintiff abandoned its trade secrets by sending samples to retailers and presenting Memory Book at trade shows.

It stated that the trade show attendees could not have identified the Memory Book’s manufacturing specifications merely by looking at the device or handling a sample. The court also credited plaintiff’s evidence that the album retailers weren’t provided with the Memory Book’s specs. The court opined that “reasonable steps for a two or three person shop may be different from reasonable steps for a larger company” and concluded that “[g]iven the fact that [Plaintiff] is a small, one-person company, a reasonable jury could find that [its]  efforts . . . were adequate to protect the Memory Book’s secrets.”

Afterwords:

Corporate entities should not too closely align themselves with third party independent contractors if they wish to avoid contractual liability on an agency theory;

Inventors should make liberal use of NDAs when sending prototypes to vendors, partners or retailers;

A smaller company can likely get away with less strenuous efforts to protect trade secrets than its bigger company counterparts.  The larger and more sophisticated the company, the more sedulous its efforts must be to protect its confidential data.

The ‘Procuring Cause’ Rule – Ill. Appeals Court Weighs In

The First District recently applied the ‘procuring cause’ doctrine to award the plaintiff real estate broker a money judgment based on a reasonable brokerage commission in Jameson Real Estate, LLC v. Ahmed, 2018 IL App (1st) 171534.

The broker provided the defendant with specifics concerning an “off market” car wash business and the land it sat on. The plaintiff later gave defendant a written brokerage contract for the sale of the car wash business and property that provided for a 5% sales commission.  The defendant never signed the contract.

After many months of negotiations, defendant orally informed plaintiff he no longer wished to buy the property and stopped communicating with plaintiff.

When plaintiff later learned that defendant bought the property behind plaintiff’s back, plaintiff sued to recover his 5% commission. The trial court directed a verdict for defendant on plaintiff’s express contract claims but entered judgment for plaintiff on his quantum meruit complaint count.  The money judgment was for an amount that was congruent with what a typical buyer’s broker – splitting a commission with a selling broker – would earn in a comparable commercial sale.

Quantum meruit, which means “as much as he deserves” provides a broker plaintiff with a cause of action to recover the reasonable value of services rendered but where no express contract exists between the parties.

A quantum meruit plaintiff must plead and prove (1) it performed a service to the benefit of a defendant, (2) that it did not perform the service gratuitously, (3) the defendant accepted the plaintiff’s service, and (4) no written contract exists to prescribe payment for the service.

The fine-line distinction between quantum meruit and unjust enrichment is that in the former, the measure of recovery is the reasonable value of work and material furnished, while in the unjust enrichment setting, the focus is on the benefit received and retained as a result of the improvement provided.  [¶ 61]

In the real estate setting, a quantum meruit commission recovery can be based on either a percentage of the sales price or the amount a buyer saved by excising a broker’s fee from a given transaction. [¶ 64]

Where a real estate broker brings parties together who ultimately consummate a real estate sale, the broker is treated as the procuring cause of the completed deal. In such a case, the broker is entitled to a reasonable commission shown by the evidence. A broker can be deemed a procuring cause where he demonstrates he was involved in negotiations and in disseminating property information which leads to a completed sale. [¶ 69]

The appeals court found the trial court’s quantum meruit award of $50,000, which equaled the seller’s broker commission and which two witnesses testified was a reasonable purchaser’s broker commission, was supported by the evidence. (Note – this judgment amount was less than half of what the broker sought in his breach of express contract claim – based on the unsigned 5% commission agreement.)

The Court rejected defendant’s ‘unclean hands’ defense premised on plaintiff’s failure to publicly list the property (so he could purchase it himself) and his lag time in asserting his commission rights.

The unclean hands doctrine prevents a party from taking advantage of its own wrong.  It prevents a plaintiff from obtaining legal relief where he is guilty of misconduct in connection with the subject matter of the litigation.  For misconduct to preclude recovery, it must rise to the level of fraud or bad faith. In addition, the misconduct must be directly aimed at the party against whom relief is sought.  Conduct geared towards a third party, no matter how egregious, generally won’t support an unclean hands defense.

Here, the defendant’s allegation that the plaintiff failed to publicly list the property, even if true, wasn’t directed at the defendant.  If anything, the failure to list negatively impacted the non-party property owner, not the defendant.

Afterwords:

In the real estate broker setting, procuring cause doctrine provides a viable fall-back theory of recovery in the absence of a definite, enforceable contract.

Where a broker offers witness testimony of a customary broker commission for a similar property sale, this can serve as a sufficient evidentiary basis for a procuring cause/quantum meruit recovery.

 

Faulty Service on LLC Defendant Dooms Administrative Agency’s Unpaid Wages Claim Versus Security Company

The Illinois Department of Labor’s (DOL) decision to send a notice of hearing to a limited liability company and its sole member to the member’s personal post office (p.o.) box (and not to the LLC’s registered agent) came back to haunt the agency in People of the State of Illinois v. Wilson, 2018 IL App (1st) 171614-U.

Reversing summary judgment for the DOL in its lawsuit to enforce an unpaid wages default judgment, the First District austerely applies the Illinois LLC Act’s (805 ILCS 180/1-1 et seq.) service of process requirements and voided the judgment for improper service.

Key Chronology:

February 2013: the DOL filed a complaint for violation of the Illinois Wage Payment and Collection Act (the Wage Act) against the LLC security firm and its member (the “LLC Member”);

January 2015: the DOL sends a notice of hearing by regular mail to both defendants to the LLC Member’s personal p.o. box;

March 2015: Defendants fail to appear at the hearing (the “2015 Hearing”) and DOC defaults the defendants;

June 2015: Defendants fail to pay the default amount and DOL enters judgment that tacks on additional fees and penalties;

February 2016: DOL files suit in Illinois Chancery Court to enforce the June 2015 administrative judgment;

March 2016, May 2016: Defendants respectively appear through counsel and move to dismiss the case for improper service of the 2015 Hearing notice;

June – July 2016: DOL concedes that service was deficient on the LLC defendant (the security company) and voluntarily dismisses the LLC as party defendant;

May 2017: DOL’s motion for summary judgment granted;

June 2017: LLC Member appeals.

The Analysis

The main issue on appeal was whether the DOL gave proper notice of the 2015 Hearing. It did not.

Under the law, lack of jurisdiction may be raised at any time; even past the 35-day window to challenge an agency’s decision under the Illinois Administrative Review Law, 735 ILCS 5/3-103.

Section 50 of the LLC Act provides that an LLC must be served (1) via its registered agent or (2) the Secretary of State under limited circumstances.

Secretary of State service on an LLC is proper where (1) the LLC fails to appoint or maintain a registered agent in Illinois; (2) the LLC’s registered agent cannot be found with reasonable diligence at either the LLC’s registered office or its principal place of business; OR (3) when the LLC has been dissolved, the conditions of (1) and (2) above exist, and suit is brought within 5 years after issuance of a certificate of dissolution or filing of a judgment of dissolution. 805 ILCS 180/1-50(a), (b)(1-3).

Here, the DOL mailed notice of the 2015 Hearing to the wrong party: it only notified the LLC Member. It did not serve the notice on the LLC’s registered agent or through the Secretary of State. As a result, the LLC was not properly served in the underlying wage proceeding.

The DOL argued that since the LLC Member was also sued as an individual “employer” under Sections 2 and 13 of the Act, service of the 2015 Hearing on the LLC Member was valid.

The Court disagreed. Under Sections 2 and 13 of the Act, an employer can be liable for its own violations and acts committed by its agents and corporate officers or agents can be liable where they “knowingly permit” an employer to violate the Act.

Corporate officers who have “operational control” of a business are deemed employers under the Act. However, an individual’s status as a lone member of an entity – like the LLC Member – is not enough to subject the member to personal liability.

Instead, there must be evidence the member permitted the corporate employer to violate the Act by not paying the compensation due the employee. Otherwise, the Court held, every company decision-maker would be liable for a company’s failure to pay an employee’s wages. [⁋⁋ 49-50]

And since the DOL hearing officer never made any specific findings that the LLC Member knowingly permitted the security company to violate the Act, there wasn’t enough evidence to sustain the trial court’s summary judgment for the DOL. [⁋ 51]

Afterwords:

Wilson starkly illustrates that the LLC Act’s service of process strictures have teeth. If a litigant fails to serve an LLC’s registered agent or the Secretary of State, any judgment stemming from the invalid service is a nullity.

In hindsight, the DOL probably should have produced evidence at the 2015 Hearing that the LLC Member (a) had operational control over the security firm; and (b) personally participated in the firm’s decision not to pay the underlying claimant’s wages. Had it done so, it may have been able to salvage its case and show that p.o. box service on the LLC Member was sufficient to subject her to the DOL’s jurisdiction.

15-Year ‘Course of Dealing’ Clarifies Oral Agreement for Tax Sale Notices – IL First Dist.

The would-be tax deed buyer in Wheeler Financial, Inc. v. Law Publishing Co., 2018 IL App (1st) 171495 claimed the publisher defendant’s erroneous sale date in a required tax sale notice thwarted its purchase of a pricey Chicago property.

A jury found for the publisher defendant on the buyer’s breach of oral contract claim since the plaintiff failed to properly vet the draft “Take Notice” (the statutory notice provided by a tax deed applicant that gives notice to the owner) supplied by the defendant before publication. The plaintiff appealed.

Affirming the jury verdict, the First District discusses the nature of express versus implied contracts, the use of non-pattern jury instructions and when course of dealing evidence is admissible to explain the terms of an oral agreement.

Course of dealing – Generally

There was no formal written contract between the parties. But there was a 15-year business relationship where the plaintiff would send draft tax deed petition notices to the defendant who would in turn, publish the notices as required by the Illinois tax code. This decade-and-a-half course of dealing was the basis for jury verdict for the publisher defendant.

Section 223 of the Restatement (Second) of Contracts defines a course of dealing as a sequence of previous conduct between parties to an agreement “which is fairly regarded as establishing a common basis of understanding for interpreting their expressions and other conduct.”

A course of dealing “gives meaning to or supplements or qualifies their agreement” and can be considered when determining the terms of an oral contract. Where contract terms are uncertain or doubtful and the parties have – by their conduct – placed a construction on the agreement that is reasonable, such a construction will be adopted by the court. [¶ ¶ 77-78]

Course of Dealing – The Evidence

Here, the course of dealing proof was found in both trial testimony and documents admitted in evidence.

At trial, current and former employees of the publisher defendant and plaintiff’s agent all testified it was the parties’ common practice for defendant to first provide draft Take Notices to plaintiff for its review and approval prior to publication. E-mails introduced in evidence at trial corroborated this practice.

In addition, plaintiff’s affiliated tax lien company’s own handbook contained a published policy of plaintiff reviewing all Take Notices for accuracy before the notices were published. [¶¶ 35, 83-85]

The appeals court agreed with the jury that the defendant sufficiently proved the parties course of dealing was that defendant would give plaintiff a chance to review the Take Notices before publication. And since the plaintiff failed to adhere to its contractual obligation to review and apprise the defendant of any notice errors, plaintiff could not win on its breach of contract claim. (This is because a breach of contract plaintiff’s prior material breach precludes it from recovering on a breach of contract claim.)

Jury Instructions and A Tacit Exculpatory Clause?

Since no Illinois pattern jury instruction defines “course of dealing,” the trial court instructed the jury based on Wald v. Chicago Shippers Ass’n’s (175 Ill.App.3d 607 (1988) statement that a prior course of dealing can define or qualify an uncertain oral agreement. [¶ 96] Since Wald accurately stated Illinois law on the essence and reach of course of dealing evidence, it was proper for the jury to consider the non-pattern jury instruction.

The court then rejected plaintiff’s argument that allowing the legal publisher to avoid liability was tantamount to creating an implied exculpatory clause. The plaintiff claimed that if the publisher could avoid liability for its erroneous notice date, the parties’ agreement was illusory since it allowed the defendant to breach with impunity.

The court disagreed. It held that the parties’ course of dealing created mutual obligations on the parties: plaintiff was obligated to review defendant’s Take Notices and advise of any errors while defendant was required to republish any corrected notices for free. These reciprocal duties placed enforceable obligations on the parties.

Afterwords:

Where specifics of an oral agreement are lacking, but the parties’ actions over time plainly recognize and validate a business relationship, a court will consider course of dealing evidence to give content to the arrangement.
Where course of dealing evidence establishes that a breach of contract plaintiff has assumed certain obligations, the plaintiff’s failure to perform those requirements will doom its breach of contract claim.

 

 

Nevada LLC Members’ Privilege to Tortiously Interfere with Business Relationships Has Limits – IL ND

When the former President of a lighting company started a competing venture, his former employer sued for damages under the Illinois Deceptive Trade Practices Act (IDTPA) and for breach of contract. The ex-President then countersued for unpaid commissions under the Illinois Wage Payment and Collection Act (IWPCA) and sued the individual members of the LLC plaintiff for tortious interference with advantageous business relationship. All parties moved to dismiss.

Green Light National, LLC v. Kent, 2018 WL 4384298, examines, among other things, the extra-territorial reach of the IWPCA and the scope of a corporate officer’s privilege to interfere with a rival’s business relationships.

An IDTPA plaintiff can only bring a claim where the wrongful conduct occurred “primarily and substantially in Illinois.” Factors include: (1) the place of plaintiff’s residence, (2) where the misrepresentation was made, (3) where the damage occurred, and (4) whether the plaintiff communicated with the defendant in Illinois.

Here, the court found factors (1) and (3) pointed toward Illinois as the locus of the challenged conduct. Plaintiff alleged the defendants used plaintiff’s lighting installations on the competitor’s website. And since plaintiff was an Illinois corporate entity, it was likely that plaintiff sustained damage in Illinois.  This made the case different from others where the lone connection to Illinois was a nationwide website. On the current record, the court wasn’t able to determine whether factors (2) and (4) weighed towards a finding that defendants’ misconduct happened in Illinois. As a result, the Court held that the plaintiff alleged a sufficient IDTPA claim to survive defendants’ motion to dismiss.

Next, the court sustained plaintiff’s breach of employment contract claim. The defendants moved to dismiss this claim on the basis that a 2013 Employment Agreement was superseded by a 2015 Operating Agreement which documented plaintiffs’ corporate restructuring. Under Illinois law, an earlier contract is superseded by a later contract where (1) both contracts deal with the same subject matter, (2) two contracts contain inconsistencies which evince the conclusion that the parties intended for the second contract to control their agreement and vitiate the former contract, and (3) the later contract reveal no intention of the parties to incorporate the terms of the earlier contract.

There were too many facial dissimilarities between the 2013 and 2015 documents for the court to definitively find that the former agreement merged into the latter one.

Turning to the defendant’s counterclaims, the Court sustained the tortious interference claim against two of the LLC members. In Illinois, corporate officers are protected from personal liability for acts committed on behalf of the corporation. Corporate officers and directors are privileged to use their business judgment in carrying out corporate business. So long as a corporate officer is acting in furtherance of a corporation’s legitimate business interest, the officer is shielded from individual liability. The same rule that protects corporate officers for decisions made on behalf of their company applies with equal force to LLC member decisions made for the LLC.

This LLC member privilege to interfere isn’t inviolable though.  Where the member acts maliciously – meaning intentionally and without justification – he abuses his qualified privilege. Here, the defendant alleged two LLC members made knowingly false statements about the defendant. These allegations, if true, were enough to make out a tortious interference with business relationships claim. The

The Court then denied the plaintiff’s motion to dismiss defendant’s IWPCA claim. The plaintiff argued that since defendant was not an Illinois resident, he couldn’t sue under the IWPCA since that statute lacks extraterritorial reach. The Court rejected this argument as Illinois law allows non-residents to sue under the IWPCA where they perform work in Illinois for an Illinois-based employer. The counter-plaintiff’s allegations that he made approximately 15 trips to Chicago over several months to perform work for the defendant was enough – at the motion to dismiss stage – to provide a hook for an IWPCA claim.

Afterwords:

1/ Where a later contract involves the same subject matter as an earlier contract and there are facial inconsistencies between them, a Court will likely find the later agreement supersedes the earlier one;

2/ Corporate officers (and LLC members) are immune from suit when taking action to pursue a legitimate business interest of the corporate entity. The privilege is lost though where a corporate officer engages in intentional and unjustified conduct;

3/ A non-resident can sue under the IWPCA where he/she alleges work was performed in Illinois for an Illinois employer.

Debtor’s Use of LLC As ‘Personal Piggy Bank’ Leads to Turnover and Charging Orders

Golfwood Square, LLC v. O’Malley, 2018 IL App(1st) 172220-U, examines the interplay between a charging order and a third party citation to discover assets turnover order against an LLC member debtor.  The plaintiff in Golfwood engaged in a years’ long effort to unspool a judgment debtor’s multi-tiered business entity arrangement in the hopes of collecting a sizeable (about $1M) money judgment.

Through post-judgment proceedings, the plaintiff learned that the debtor owned a 90% interest in an LLC (Subsidiary or Sub-LLC) that was itself the sole member of another LLC (Parent LLC) that received about $225K from the sale of a Chicago condominium.

Plaintiff also discovered the defendant had unfettered access to Parent LLC’s bank account and had siphoned over $80K from it since the judgment date.

In 2013 and 2017, plaintiff respectively obtained a charging order against Sub-LLC and a turnover order against Parent LLC in which the plaintiff sought to attach the remaining condominium sale proceeds.  The issue confronting the court was whether a judgment creditor could get a turnover order against a parent company to enforce a prior charging order against a subsidiary entity.  In deciding for the creditor, the Court examined the content and purpose of citations to discover assets turnover orders and LLC charging orders.

Code Section 2-1402 empowers a judgment creditor can issue supplementary proceedings to discover whether a debtor is in possession of assets or whether a third party is holding assets of a debtor that can be applied to satisfy a judgment.

Section 30-20 of the Limited Liability Company Act allows that same judgment creditor to apply for a charging order against an LLC member’s distributional interest in a limited liability company. Once a charging order issues from the court, it becomes a lien (or “hold”) on the debtor’s distributional interest and requires the LLC to pay over to the charging order recipient all distributions that would otherwise be paid to the judgment debtor. 735 ILCS 5/2-1402; 805 ILCS 180/30-20. Importantly, a charging order applicant does not have to name the LLC(s) as a party defendant(s) since the holder of the charging order doesn’t gain membership or management rights  in the LLC. [⁋⁋ 22, 35]

Under Parent LLC’s operating agreement, once the condominium was sold, Parent LLC was to dissolve and distribute all assets directly to Sub-LLC – Parent’s lone member.  From there, any distributions from Sub-LLC should have gone to defendant (who held a 90% ownership interest in Sub-LLC) and then turned over to the plaintiff.

However, defendant circumvented the charging order by accessing the sale proceeds (held in Parent LLC’s account) and distributing them to himself. The Court noted that documents produced during post-judgment discovery showed that the defendant spent nearly $80,000 of the sale proceeds on his personal debts and to pay off his other business obligations.

Based on the debtor’s conduct in accessing and dissipating Parent LLC’s bank account with impunity, and preventing Parent LLC from distributing the assets to Sub-LLC, where they could be reached by plaintiff, the trial court ordered the debtor to turn all Parent LLC’s remaining account funds over to the plaintiff to enforce the earlier charging order against Sub-LLC.

The court rejected the defendant’s argument that Parent LLC was in serious debt and that the condo sale proceeds were needed to pay off its debts. The Court found this argument clashed with defendant’s deposition testimony where he stated under oath that Parent LLC “had no direct liabilities.” This judicial admission – a clear, unequivocal statement concerning a fact within a litigant’s knowledge – was binding on the defendant and prevented him from trying to contradict this testimony. The argument also fell short in light of defendant’s repeatedly raiding Parent LLC’s account to pay his personal debts and those of his other business ventures all to the exclusion of plaintiff.

The court then summarily dispensed with defendant’s claim that the plaintiff improperly pierced the corporate veils of Parent LLC and Sub-LLC in post-judgment proceedings. In Illinois, a judgment creditor typically cannot pierce a corporate veil in supplementary proceedings. Instead, it must file a new action in which it seeks piercing as a remedy for an underlying cause of action.

The Court found that the trial court’s turnover order did not hold defendant personally liable for either LLC’s debt. Instead, the turnover order required Parent LLC to turnover assets belonging to the judgment debtor – the remaining condominium sale proceeds – to the plaintiff creditor.

Afterwords:

This case presents in sharp relief the difficulty of collecting a judgment from a debtor who operates under a protective shield of several layers of corporate entities.

Where a debtor uses an LLC’s assets as his “personal piggy bank,” Golfwood and cases like it show that a court won’t hesitate to vindicate a creditor’s recovery right through use of a turnover and charging order.

The case is also noteworthy as it illustrates a court looking to an LLC operating agreement for textual support for its turnover order.

7th Cir. Addresses Guarantor Liability, Ratification Doctrine in Futures Trading Snafu

Straits Financial v. Ten Sleep Cattle, 2018 WL 328767 (N.D.Ill. 2018) examines some signature business litigation issues against the backdrop of a commodities futures and trading account dispute. Among them are the nature and scope of a guarantor’s liability, the ratification doctrine as applied to covert conduct and the reach of the Illinois consumer fraud statute.

The plaintiff brokerage firm sued a Wyoming cattle rancher and his company to recover an approximate $170K deficit in the defendants’ trading account. (The defendants previously opened a non-discretionary account with plaintiff for the purpose of locking in future livestock prices.)

The ranch owner counter-sued, alleging a rogue trader of plaintiff made unauthorized trades with defendants’ money over a three-month period.  Defendants counter-sued for consumer fraud, breach of fiduciary duty and conversion. After a seven-day bench trial, the court entered a money judgment for the defendants and the plaintiff appealed.

In substantially affirming the trial court, the Seventh Circuit first tackled the plaintiff’s breach of guaranty claim.  In Illinois, guarantees are strictly construed and a guarantor’s liability cannot extend beyond that which he has agreed to accept.  A proverbial favorite of the law, a guarantor is given the benefit of any doubts concerning a contract’s enforceability.  A guarantor’s liability is discharged if there is a “material change” in the business dealings between the parties and an increase in risk undertaken by a guarantor.

Here, the speculative trading account (the one where the broker made multiple unauthorized trades) differed vastly in form and substance from the non-discretionary account.

Since the two trading accounts differed in purpose and practice, the Court held that it would materially alter the guarantor’s risk if he was penalized for the plaintiff’s broker’s fraudulent trading spree.  As a result, the Seventh Circuit affirmed the trial judge’s ruling for the defendant on the guarantee claim.

The Court then rejected plaintiff’s ratification argument: that defendants’ authorized the illegal churned trades by not timely objecting to them
An Illinois agency axiom posits that a person does not have an obligation to repudiate an illegal transaction until he has actual knowledge of all material facts involved in the transaction. Restatement (Third) of Agency, s. 4.06.

Illinois law also allows a fraud victim to seek relief as long as he renounces the fraud promptly after discovering it. A party attempting to undo a fraudulent transaction is excused from strict formalism, too.

Here, the ranch owner defendant immediately contacted the plaintiff’s broker when he learned of the improper trades and demanded the return of all money in the non-discretionary trading account. This, according to the Court, was a timely and sufficient attempt to soften the impact of the fraudulent trading.

The Court affirmed the trial court’s attorneys’ fees award to the defendants on its consumer fraud counterclaim. The Illinois Consumer Fraud Act, 815 ILCS 505/10a(c)(the “CFA”) allows a court to assess attorneys’ fees against the losing party.

The plaintiff argued that the trial judge errored by awarding attorneys’ fees expended by defendants in both CFA and non-CFA claims. Plaintiff contended  the trial judge should have limited his fee award strictly to the CFA claim.

Rejecting this argument, the Seventh Circuit noted that under Illinois law, where statutory fraud (which allow for fees) and common law (which don’t) claims arise from the same operative facts and involve the same evidence at trial, a court can award all fees; even ones involved in prosecuting or defending non-fee claims. And since facts tending to prove fraudulent trading “were woven throughout [the] case and the work done to develop those facts [could] not be neatly separated by claim,” the District court had discretion to allow defendants’ attorneys’ fees claim incurred in all of its counterclaims and defenses.

The Court then reversed the trial judge’s holding that the defendants failed to mitigate their damages by not reading plaintiff’s trading statements or asking about his accounts.  A breach of contract or tort plaintiff normally cannot stand idly by and allow an injury to fester without making reasonable efforts to avoid further loss.

But here, since the plaintiff’s broker committed fraud – an intentional tort – any “contributory negligence” resulting from defendant not reading the mailed statements wasn’t a valid defense to the rogue broker’s fraudulent conduct.

Afterwords:

This case shows the length a court will go to make sure a fraud perpetrator doesn’t benefit from his improper conduct.  Even if a fraud victim is arguably negligent in allowing the fraud to happen or in responding to it, the court will excuse the negligence in order to affix liability to the fraudster.

This case also illustrates how guarantors are favorites of the law and an increase in a guarantor’s risk or a marked change in business dealings between a creditor and a guarantor’s principal will absolve a guarantor from liability.

Finally, Ten Sleep shows that a prevailing party can get attorneys’ fees on mixed fee and non-fee claims where the same core of operative facts underlie them.

Earned Bonus Is Proper Subject of Employee’s Wage Payment Claim; Reliance on Employer Pre-Hiring Statements Is Reasonable – IL ND

After leaving a lucrative banking position in Florida for a Chicago consulting gig, Simpson v. Saggezza’s (2018 WL 3753431 (N.D.Ill. 2018) plaintiff soon learned the Illinois job markedly differed from what was advertised.

Among other things, the plaintiff discovered that the company’s pre-hiring revenue projections were off as were the plaintiff’s promised job duties, performance goals and bonus structure.

When plaintiff complained, the Illinois employer responded by firing him. Plaintiff sued the defendants – the employer and a company decision maker – for unpaid bonus money under the Illinois Wage Payment and Collection Act, 820 ILCS 115/1, et. seq. (IWPCA) and for other common law claims. Defendants moved to dismiss all claims.

In denying the bulk of the defendants’ motion, the Court discussed the nature and reach of earned bonus liability under the IWPCA in the context of a motion to dismiss.

The IWPCA defines payments as including wages, salaries, earned commissions and earned bonuses pursuant to an employment contract.  820 ILCS 115/12. An earned bonus is defined as “compensation given in addition to the required compensation for services performed.”  Il. Admin. Code, Title 56, s. 300.500.

The IWPCA allows an earned bonus claim only where an employer makes an unequivocal promise; a discretionary or contingent promise isn’t enough.  So as long as the plaintiff alleges both an employer’s unambiguous promise to pay a bonus and the plaintiff’s satisfactory performance of the parties’ agreement, the plaintiff can make out a successful IWPCA claim for an unpaid earned bonus.

Here, the plaintiff sufficiently alleged a meeting of the minds on the bonus issue – the defendant-employer unequivocally promised a $25,000 bonus if plaintiff met a specific sales goal – and that the plaintiff met the goal.

The court then partially granted the employer’s motion to dismiss the plaintiff’s statutory and common law retaliation claims.

IWPCA Section 14(c) prevents an employer from firing an employee in retaliation for the employee lodging a complaint against the employer for unpaid compensation. 820 ILCS 115/14(c).  Since the plaintiff alleged both an agreement for earned bonus payments and that he was fired for requesting payment, this was enough to survive a motion to dismiss.

The court did, however, dismiss plaintiff’s common law retaliatory discharge claim.  To prevail on this claim, a plaintiff must allege (1) he was terminated, (2) in retaliation for plaintiff’s conduct, and (3) the discharge violates a clearly mandated public policy.

The Court rejected the plaintiff’s argument that an IWPCA violation was enough to trigger Illinois public policy concerns. The court held that to invoke the public policy prong of the retaliation tort, the dispute “must strike at the heart of a citizen’s social rights, duties and responsibilities.”  And since the Court viewed an IWPCA money dispute to a private, economic matter between employer and employee, the employer’s alleged IWPCA violation didn’t implicate public policy.

Lastly, the Court denied the defendant’s motion to dismiss plaintiff’s fraud in the inducement claim.  In this count, plaintiff alleged he quit his former Florida job in reliance on factual misstatements made by the defendant about its fiscal health, among other things.

To sufficiently plead fraudulent inducement, a plaintiff must allege (1) a false statement of material fact, (2) known or believed to be false by the person making it, (3) an intent to induce the other party to act, (4) action by the other party in reliance on the truth of the statement, and (5) damage to the plaintiff resulting from the reliance.  To be actionable, a factual statement must involve a past or present fact; expression of opinions, expectations or future contingencies cannot support a fraudulent inducement claim.

Where there is a disparity in knowledge or access to knowledge between  two parties, the fraudulent inducement plaintiff can justifiably rely on a representation of fact even if he could have discovered the information’s falsity upon further investigation.

While the defendant argued that the predicate fraud statements were non-actionable embellishments or puffery, the court disagreed.  It found that plaintiff’s allegations that defendant made factually false statements about the defendant’s financial state and the plaintiff’s job opportunities were specific enough to state a claim.

The court noted that plaintiff alleged the defendants supplied plaintiff with specific financial figures based on historical financial data as part of their pre-hiring pitch to the plaintiff. Taken in totality, the information was specific and current enough to support a fraud claim.

Afterwords:

Earned bonuses are covered by IWPCA; discretionary or conditional bonuses are not;

The common law retaliation tort has teeth. It’s not enough to assert a statutory violation to implicate the public policy element.  A private payment dispute between an employer and employee – even if it involves a statutory violation – won’t rise to the level of a public policy issue;

An employer’s false representations of a company’s financial status can underlie a plaintiff’s fraud claim since financial data supplied to a prospective hire is information an employer should readily have under its control and at its disposal.

Fed. Court ‘Blue Pencils’ Telecom Employer’s Overbroad Nonsolicitation Term – IL ND

In Call One, Inc. v. Anzine, 2018 WL 2735089 (N.D.Ill. 2018), the Northern District of Illinois provides a useful gloss on Illinois restrictive covenant law in the context of a trade secrets action filed by a call center employer against a long-time employee.

The defendant worked for the plaintiff as a sales representative for 15 years. About a decade into her employment tenure, the defendant signed a non-compete agreement which, among other things, prevented her from soliciting plaintiff’s “prospective customers” for a 12-month post-employment period.

After talks for defendant to become an independent distributor of the plaintiff broke down and defendant quit her job, plaintiff sued when it learned defendant altered a Customer Report and e-mailed it to her personal email account. The defendant countersued for a declaration that the non-solicitation clause was overbroad.

Granting summary judgment for the ex-employee on her counterclaim, the Northern District judge set forth applicable Illinois law on restrictive covenants.

  • Restrictive covenants are scrutinized carefully since they are restraints of trade. The key inquiry is whether a given restriction is reasonable and necessary to protect a legitimate business interest of the employer.
  • A post-employment restrictive covenant is reasonable only where (1) it is no greater than necessary for the protection of a legitimate business interest of an employer, (2) does not impose an undue hardship on the employee, and (3) is not injurious to the public.
  • When determining whether an employer has met the legitimate business interest test – prong (1) above – the court considers whether an employer enjoys near-permanent relationships with its customers, whether the employee acquired confidential information during her employment and time and place restrictions contained in the subject covenant.
  • Courts are reluctant to prohibit former employee’s from servicing customers they never had contact with while working for an employer.

Applying these factors, the court found that the non-solicitation term excessive. It specifically viewed the restriction broader than necessary to protect Plaintiff’s ongoing client relationships.

According to the court, to prevent defendant from soliciting anyone who was ever a customer of plaintiff over the past 15 years was facially overbroad and not necessary to protect plaintiff’s current customer relationships. Another reason the court found the non-solicitation provision too expansive was it prevented defendant from contacting plaintiff’s clients with whom she never had any direct contact and didn’t even know about.

The agreement also contained a severability or “blue pencil” provision. Such a provision allows a court to modify an overbroad restrictive covenant in some settings.

Here, because the 12-month non-solicitation provision was chronologically reasonable in scope, the Court reformed the covenant to only prevent defendant from contacting any entity (a) who was a current and prospective customer of plaintiff as of defendant’s January 2018 termination date and (b) for which defendant had responsibility at the time of her separation.

The Court also granted summary judgment for the defendant on plaintiff’s claim premised on the Defend Trade Secrets Act of 2016, the statute that gives a trade secrets plaintiff access to Federal courts. To prove a Federal trade secrets act claim, the plaintiff must establish (a) the existence of a trade secret, and (b) misappropriation.

Misappropriation includes unauthorized disclosure of a trade secret by a person who used improper means to acquire knowledge of the trade secret and unauthorized disclosure of a trade secret by a person who knew or had reason to know that knowledge of the trade secret was “acquired under circumstances giving rise to a duty to maintain the secrecy of the trade secret.” 18 U.S.C. ss. 1839(5)(B)(i)-(ii).

Plaintiff failed to adduce evidence that defendant owed a duty to protect the confidentiality of the Customer Report when it was never labelled as confidential.  As a result, no reasonable jury could find defendant acquired the Report through improper means by breaching a duty to maintain its secrecy.

Afterwords:

An employer suing a former employee for violating a restrictive covenant must demonstrate the existence of near-permanent customer relationships or confidential information. As long as the time and space limitation is objectively reasonable, a court can edit and contract the scope of a post-employment restriction.

Where an employer cannot demonstrate that an employee had a duty to maintain the secrecy of the information the employer is trying to protect, it likely can’t establish Federal trade secrets misappropriation.

The plaintiff’s elaborate information security policies worked against it here. By failing to label the subject Report as confidential (which was required per the employee handbook), the Court refused to find the Report sufficiently confidential to impose a duty on the defendant to keep it secret.

Vague Oral Agreement Dooms Mechanics Lien and Home Repair Act Claims – IL First Dist.

The First District recently examined the quantum of proof necessary to prevail on a breach of oral contract and mechanics lien claim and the factors governing a plaintiff’s request to amend its pleading.

In Link Company Group, LLC v. Cortes, 2018 IL App (1st) 171785-U, the Defendant hired the plaintiff – his former son-in-law – to rehab a residence in the Northern suburbs of Chicago. After a dispute over plaintiff’s construction work and billing issues, the plaintiff sued to foreclose a mechanics lien and for breach of contract. The defendant counter-sued and alleged plaintiff violated the Illinois Home Repair and Remodeling Act (IHRRA) requires, among other things, a contractor to provide certain disclosures in writing to a homeowner client. The trial court granted summary judgment for the defendant on plaintiff’s lien and contract claims and denied summary judgment on defendant’s IHRRA counterclaim. All parties appealed.

Affirming, the appeals court first took aim at the plaintiff’s breach of contract and mechanics lien claims.

While oral contracts are generally enforceable, they must contain definite and essential terms agreed to by the parties. For an oral contract to be enforceable, it must be so definite and certain in all respects that the court can determine what the parties agreed to.

Here, the substance of the oral contract was vague. When pressed at his deposition, the plaintiff was unable to articulate the basic terms of the parties’ oral construction contract. Since the court was unable to decipher the key contract terms or divine the parties’ intent, the plaintiff’s breach of contract failed.

The plaintiff’s inability to prove-up its oral contract claim also doomed its mechanics lien action. In Illinois, a valid mechanics lien foreclosure suit requires the contractor to prove an enforceable contract and the contractor’s substantial performance of that contract. Since the plaintiff failed to establish a binding oral contract, by definition, it couldn’t prevail on its mechanics lien claim.

The First District also affirmed the trial court’s denial of the plaintiff’s motion to amend its complaint. While amendments to pleadings are generally liberally allowed in Illinois, a court will not rubber stamp a request to amend. Instead, the court engages in a multi-factored analysis of (1) whether the proposed amendment would cure the defective pleading, (2) whether other parties would sustain prejudice by virtue of the proposed amendment, (3) whether the proposed amendment is timely, and (4) whether previous opportunities to amend the pleadings could be identified.

Here, the plaintiff’s proposed implied-in-fact contract was “nearly identical” to the stricken breach of oral contract claim. An implied-in-fact contract is one where contract terms are implicit from the parties’ conduct. Here, the parties conduct was too attenuated to establish definite contract terms. As a result, the proposed implied-in-law contract claim was facially deficient and didn’t cure the earlier, failed pleading.

Ironically, the plaintiff’s failure to allege an enforceable oral agreement also precluded summary judgment on the defendant’s IHRRA counterclaim. A valid IHRRA claim presupposes the existence of an enforceable contract. Since there was no written agreement and the parties’ oral agreement was unclear, there was no valid contract on which to hook an IHRRA violation.

Afterwords:

This case cements proposition that a valid oral contract claim requires proof of definite and certain terms. A plaintiff’s failure to allege a clear and definite oral agreement will prevent him from asserting either a mechanics lien or Home Repair Act claim based on the putative oral agreement.

Link Company also illustrates the four factors a litigant must satisfy in order to amend a pleading. If the proposed amended complaint fails to allege a colorable cause of action, a court can properly deny leave to amend despite Illinois’ liberal pleading amendments policy.

New Lessor’s Vie for Radio Station Tenant’s Past-Due Rent Squelched – IL First Dist.

Soon after buying the commercial premises, the new landlord in 1002 E. 87th Street, LLC v. Midway Broadcasting Corporation, 2018 IL App (1st) 171691 started giving the radio station static over past-due rent that was owed to the prior landlord.

The defendant’s silence in response spoke volumes and the dispute swelled to an irreconcilable impasse.

The plaintiff sued to recover about $70K in past-due rent. The tenant then turned the tables on the landlord, filing a wave of defenses and counterclaims and a motion to dismiss plaintiff’s suit. The trial court dismissed plaintiff’s suit for lack of standing and plaintiff appealed.

Affirming the trial court, the appeals court examined the doctrine of standing in the context of a Code Section 2-619 motion filed in a lease dispute. The Court amplified its lease law analysis with a recitation of the applicable rules governing attorneys’ fees provisions.

Lack of standing is an affirmative defense under Code Section 2-619(a)(9). Standing requires a plaintiff to have an interest in a given lawsuit and its potential outcome. The defendant claiming a lack of standing has the burden of proving the defense.

Where a landlord conveys property by warranty deed without reserving any rights, it also conveys the property’s leases and the right to receive unaccrued rent. However, the new landlord does not have a right to recover rent that came due before it owned the property. That right remains the original landlord’s. [⁋ 17]

The Court squelched plaintiff’s arguments it was entitled to recover past-due rent owed to the prior landlord.  The court distinguished this case’s underlying facts from a recent case – A.M. Realty Western v. MSMC Realty, LLC, 2012 IL App (1st) 121183 – where a landlord sold a building and was still able to sue for rent that accrued during its tenure as building owner.  Midway Broadcasting’s facts plainly differ since the plaintiff was suing to recover rents that came due before plaintiff became the premises landlord.

Another factor weighing against the plaintiff landlord was Illinois’ venerable body of case law that holds that rent in arrears is not assignable. This is because past-due rent is viewed as a chose in action and not an incident of the real estate that passes from a seller to a buyer. And since there was no evidence in the record establishing that the prior landlord intended to assign its right to collect unpaid rents, plaintiff’s argument that the previous landlord assigned to it the right to collect defendant’s delinquent rent, missed the mark.

In a sort of reverse “you can’t transmit what you haven’t got” maxim, the plaintiff here had no legal basis to assert a past-due rent claim against the tenant since all unpaid rent came due during the prior landlord’s tenure.  Since that former landlord never assigned its right to collect rents, the plaintiff’s claim fell on deaf ears.

Next, the Court affirmed the tenant’s prevailing-party attorneys’ fees award and signaled that to “prevail” in a case, a party must win on a significant issue in the case. Like most leases, the operative one here provided that the winning party could recover its attorneys’ fees.  Illinois follows the American Rule – each side pays its own fees unless there is a contractual fee-shifting provision or an operative statute that gives the prevailing party the right to recover its fees.  Contractual attorneys’ fees provisions are strictly construed and appeals courts rarely overturn fee awards unless the trial court abuses its discretion.

In the context of attorneys’ fees disputes, a litigant is a prevailing party where it is successful on any significant issue in the action and receives a judgment in his/her favor or obtains affirmative recovery.  A litigant can still be a prevailing party even where it does not succeed on all claims in a given lawsuit. Courts can declare that neither side is a prevailing party where each side wins and loses on different claims. However, a “small victory” on a peripheral issue in a case normally won’t confer prevailing party status for purposes of a fee award.  [¶ 36]

The Court rejected the lessor’s claim that it was the prevailing party since the court entered an agreed use and occupancy award.  Use and occupancy awards are usually granted in lease disputes since “a lessee’s obligation to pay rent continues as a matter of law, even though the lessee may ultimately establish a right to *** obtain relief.”  [¶ 32].  Because of the somewhat routine nature of use and occupancy orders, the court declined to find the landlord a prevailing party on this issue.

Afterwords:

I found this case post-worthy since it deals with an issue I see with increasing frequency: what are a successor landlord’s rights to prior accruing rents from a tenant?  In hindsight, precision in lease drafting would be a great equalizer.  However, clear lease language is often absent and it’s left to the litigants and court to try to divine the parties’ intent.

The case and others like it make clear that rents accruing before a landlord purchases a building normally belong the predecessor owner.  Absent an agreement between the former and current lessors or a clear lease provision that expressly provides that a new owner can sue for accrued rents, the new landlord won’t have standing to sue for accrued unpaid rent.

The case also makes it clear that small victories (here, an inconsequential dismissal of one of many counterclaims) in the context of larger lawsuit, won’t translate to prevailing party status for that “winner” and won’t give a hook for attorneys’ fees.

Business Records Evidence – Getting Them In: Reading List 2018

Today’s reading list highlights some recent civil and criminal cases from State and Federal jurisdictions across the country that address the admissibility of business records (with some public records and ‘residual’ rule cases sprinkled in) in diffuse fact settings.

The cases below examine evidentiary issues involving documents that range from the clandestine (top-secret State Department cables) to the pedestrian (credit card records, loan histories, Post-It ® notes) to the morbid (telephone records in a murder case).

The encapsulated rulings below illustrate that courts generally follows the same authenticity and hearsay rules but there is a marked difference in the in the intensity with which some courts put a plaintiff to its proofs. While some courts liberally allow business record evidence so long as there is a modicum of reliability, others more severely scrutinize the evidence admissibility process.

If nothing else, given the recency of these cases (they are all from this year), what follows will hopefully provide litigators a useful starting point for assessing what factors a court looks at when deciding whether business records evidence passes legal admissibility tests.

Records: Excel spreadsheets printed from a third-party’s servers

Type of Case: Fraud

Did They Get In? Yes

Case: U.S.A. v. Channon, 881 F.3d 806 (10th Cir. 2018)

Facts: Government sued defendants who operated a two-year scam where they cashed in OfficeMax rewards accounts to acquire over $100K in merchandise. Government offers OfficeMax spreadsheets authored and kept by an OM vendor into evidence.

Objections: hearsay, improper summaries

Applicable Rules and Holding:

FRE 1006 – a summary of documents are admissible where the underlying documents are voluminous and can’t be conveniently examined in court. Proponent must make original or duplicate available to the other party. Summary’s underlying documents don’t have to be admitted into evidence with the summary/ies but must still be admissible in evidence.

FRE 1001(d) – “original” electronic document means “any printout – or other output readable by sight – if it accurately reflects the information” housed in a host database.

Held: summary spreadsheet deemed an “original” where two witnesses testified the spreadsheets reflected same information in the database. Since government made the spreadsheets available to the defendants before trial, they were admissible.

FRE 801, 803(6): hearsay generally; business records exception

Hearsay presupposes a “statement” by a “declarant.” FRE 801. A declarant must be a human being. The Excel spreadsheets at issue here are computer data and not statements of a live person. The spreadsheets are not hearsay.

Even if the spreadsheets are considered hearsay, they are admissible under the business records exception since plaintiff testified that the records were prepared in normal course of business, made at or near the time of the events depicted, and were transmitted by someone who had a duty to accurately convey the information and where there are other badges of reliability.

Records: Credit card records

Type of Case: Breach of contract

Did They Get In? Yes.

Case: Lewis v. Absolute Resolutions VII, LLC, 2018 WL 3261197 (Tex. App. – SA 2018)

Facts: Plaintiff debt buyer of credit card account sues card holder defendant. After summary judgment for plaintiff, defendant appeals on basis that court credited a defective business records affidavit.

Objection: hearsay, plaintiff wasn’t originator of the records.

Applicable Rules and Holding:

Tex. R. Evid. 803(6) – a business record created by one entity that later becomes another entity’s primary record is admissible as a record of regularly conducted activity.

Personal knowledge by the third party of the procedures used in preparing the original documents is not required where the documents are incorporated into the business of a third party, relied on by that party, and there are other indicators of reliability.

Tex. R. Evid. 902(10) – business records are admissible if accompanied by affidavit that satisfies requirements of Rule 902(10).

To introduce business records created by a third party, the proponent must establish (1) the document is incorporated and kept in course of testifying witness’s business, (2) the business typically relies on accuracy of the contents of the document, and (3) the circumstances otherwise indicate the trustworthiness of the document. Summary judgment for successor card issuer affirmed.

Records: Medical Records, Police Reports

Type of Case: Manslaughter (criminal)

Case: People v. McVey, (2018) 24 Cal.App.5th 405

Did They Get In? No.

Facts: Defendant appeals conviction on manslaughter and vandalism charges based on trial court’s improper exclusion of victim’s medical records and police reports which Defendant believed had exculpatory information.

Objection: hearsay

Applicable Rules and Holding:

Cal. Code s. 1271 – business records hearsay rule.
Hospital records can be admitted as business records if custodian of records or other duly qualified witness provides proper authentication.

Cal. Code ss. 1560-1561 – compliance with subpoena for documents can dispense with need for live witness if records are attested to by custodian of records with a proper affidavit.

Records custodian affidavit must (1) describe mode of preparation of the records, (2) state that affiant is duly authorized custodian of the records and has authority to certify the records, and (3) state the records were prepared in the ordinary course of business at or near the time of the act, condition, or event recorded.

Police reports are generally not reliable enough for face-value admission at trial. While police reports can be kept in regular course of police “business,” they typically are not created to transact business. Instead, police reports are created primarily for later use at trial.

The hallmarks of reliability – contemporaneous creation, necessity of record’s accuracy for core purpose of business – are missing from police reports.

Records: Prior servicers’ mortgage loan records

Type of Case: Breach of contract, mortgage foreclosure

Did They Get In? Yes

Case: Deutsche Bank v. Sheward, 2018 WL 1832302 (Fla. 2018)

Facts: lender receives money judgment against borrower after bench trial. Borrower appeals on ground that loan payment history was inadmissible hearsay

Objection: hearsay – successor business incompetent to testify concerning predecessor’s records

Applicable Rules and Holding: where a business takes custody of and integrates another entity’s records and treats them as its (the integrating business) own, the acquired records are treated as “made” by acquiring business.

A witness can lay foundation for records of another company. There is no requirement that records custodian have personal knowledge of the manner in which prior servicer maintained and created records

A successor business can establish reliability of former business’s records by “independently confirming the accuracy of third-party’s business records.”

Plaintiff’s trial witness adequately described process that successor entity utilized to vet prior servicer documents.

Also, see Jackson v. Household Finance Corp., III, 236 So.3d 1170 (Fla. 2d DCA 2018)(foundation for prior mortgage loan servicer’s records can be laid by certification or affidavit under Rule 902(11))

Records: Third-Party’s vehicle inspection report containing vehicle ownership data

Did They Get In? No

Type of Case: Personal injury

Case: Larios v. Martinez, 239 So.3d 1041 (La. 2018)

Facts: plaintiff sues hit-and-run driver’s insurer under La. direct action statute. Insurer appeals bench trial verdict in favor of plaintiff.

Objection: hearsay

Applicable Rules and Holding:

A witness laying the foundation for admissibility of business records need not have been the preparer of records. Instead, the custodian or qualified witness need only be familiar with record-keeping system of the entity whose records are sought to be introduced.

Plaintiff failed to introduce the report through a qualified witness. Plaintiff had no knowledge of the inspection report company’s record-keeping practices or methods. The trial court errored by allowing the report into evidence.

Judgment for plaintiff affirmed on other grounds.

Records: Student loan records

Type of Case: Breach of contract

Did They Get In? Yes.

Case: National Collegiate Student Loan Trust v. Villalva, 2018 WL 2979358 (Az. 2018)

Facts: assignee of defaulted student loan sues borrower. Borrower defendant appeals bench trial judgment for plaintiff.

Objection: loan records are inadmissible hearsay and lack foundation

Applicable Rules and Holding: witness for an entity that did not create a loan record can still lay foundational predicate by testifying to creator’s transfer of the business record to custodial entity, and the transferee entity’s maintenance of the records and reliance on the record in the ordinary course of business.

Documents prepared solely for litigation are generally not business records. However, where the litigation documents are “mere reproductions” of regularly-kept records, they are admissible as business records to the same extent as the underlying records.

Plaintiff’s witness laid sufficient evidentiary foundation where witness testified that assignor/originator transferred loan documents to assignee/plaintiff, that the plaintiff integrated the records with its own and that plaintiff had historically purchased records from the assignor.

Documents created “with an eye toward litigation” were still admissible since they were culled from pre-existing loan records kept in the regular course of business. Judgment for plaintiff affirmed.

Records: Halfway house incident report

Type of Case: Criminal escape

Did They Get In? No

Case: Wassillie v. State of Alaska, 411 P.3d 595 (Alaska 2018)

Facts: Defendant charged and convicted of second degree escape for leaving halfway house in which he was sentenced to serve remaining prison term.

Objection: Jury considered inadmissible hearsay document – an incident report prepared by halfway house staff member

Applicable Rules and Holding:

Incident report is missing earmarks of trustworthiness and is inadmissible hearsay. An investigative report raises concerns about the report author’s “motivations to misrepresent.” There is potential for animosity between reporter and subject of report which could lead reporter to hide mistakes or “inflate evidence” in order to further the author’s agenda.

Whether a report is deemed to have been prepared in regular course of business involves a multi-factored analysis of (1) the purpose for which the record was prepared, (2) a possible motive to falsify the record, (3) whether the record is to be used in prospective litigation, (4) how routine or non-routine the challenged record is, and (5) how much reliance the business places on the record for business purposes.

Examples of documents found to be sufficiently routine under Alaska law to merit business records treatment include payroll records , bills of lading, account statements, and social security records are typically admissible as business records.

However, a more subjective document – like a police report or the incident report here – is too susceptible to author’s selective memory and subconscious bias. Conviction reversed.

Records: Cell phone records

Type of Case: Murder

Did They Get In? No.

Case: Baker v. Commonwealth of Kentucky, 545 S.W.3d 267 (Ky 2018)

Facts: Defendant convicted of murder. Prosecution relied in part on victim’s cell phone records to tie defendant to victim.

Objection: cell phone records were inadmissible hearsay

Applicable Rules and Holding: prosecution must establish that phone logs are (a) authentic and (b) non-hearsay (or subject to a hearsay exception). Kentucky Evidence Rule 901(b) provides that evidence can be authenticated via witness testimony from a qualified witness. Here, prosecution witness – a detective – established that phone records were authentic: they were what they purported to be.

Once the authenticity hurdle was cleared, prosecution had to defeat hearsay objection. While the call logs constituted regularly conducted activity under KRE 803(6), the prosecution didn’t offer the logs through a custodian or by way of a Rule 902(11) affidavit. As a result, the trial court erred by admitting the call logs.

Note: the admission of the hearsay call logs was “harmless” since there was copious other testimonial and documentary evidence of defendant’s guilt. Conviction affirmed.

Records: Home health nurse’s “sticky” note

Type of Case: Medical malpractice

Did It Get In? Yes.

Case: Arnold v. Grigsby, 417 P.3d 606 (Utah 2018)

Facts: Patient sues doctor and others for malpractice after colonoscopy goes bad. (Ouch.) Nurse and pharmacy employee’s handwritten note on post-it/sticky note on plaintiff’s medical chart introduced to show plaintiff’s knowledge of injury within two years of surgery. Post-it notes contents was basis for Defendant’s statute of limitations defense and jury’s ‘not guilty’ verdict.

Objection: sticky note has multiple levels of hearsay and is inadmissible.

Applicable Rules and Holding: hearsay within hearsay is not excluded where each part of combined statements meets exception to rule of exclusion.

Sticky note is classic hearsay: it is being offered to prove truth of matter asserted – that plaintiff had contacted an attorney within days of the surgery. Utah R. Evid. 801(c)(hearsay generally).

The court found the note admissible under Rule 803(6) business records exception as the note is a record of the pharmacy’s regularly conducted activity and was entered contemporaneously into plaintiff’s electronic medical records.

Note’s statement that “client has been told by her lawyer not to sign any papers indicating she’ll pay” is admissible under Rule 803(3) – the hearsay exception for out of court statements that show a declarant’s state of mind (i.e. his motive, intent, plan, etc.).

Jury verdict for doctor defendants affirmed.

Records: Government reports; state department cables

Type of Case: Statutory claim under Torture Victim Protection Act (TVPA) (filed by relatives of victims killed by Bolivian Gov”t)

Did They Get In? Yes and No.

Case: Mamani v. Berzain, 2018 WL 2013600 (S.D. Fla 2018)

Facts: relatives of victims killed during civil unrest in Bolivia sued country’s former president and minister of defense under TVPA which allows plaintiffs to sue foreign officials in U.S. courts for torture and killing of a plaintiff’s relatives. Defendants’ motion for summary judgment denied.

Objection: various governmental documents are inadmissible hearsay or unauthenticated.

Applicable Rules and Holding: Public records hearsay exception – FRE 803(8) – and “residual” hearsay exception. FRE 803(7).

The public records hearsay exception applies where (1) the record sets forth the office’s activities, (2) the record concerns a matter observed by someone with a legal duty to report it – but not including a matter observed by law enforcement personnel in a criminal case, or (3) in a civil case or against the government in a criminal case, the record consists of factual findings from a legally authorized investigation.

The party opposing admission of the public record must show the source of or circumstances generating the information lacks basic levels of reliability.

Here, an investigatory report prepared by three prosecutors fit the definition of a record of a public office prepared in conjunction with an authorized investigation.

Under the “residual” hearsay exception, a statement is not excluded if it (1) has equivalent circumstantial guarantees of trustworthiness, (2) is offered as evidence of a material fact, (3) is more probative on the point for which it is offered than any other evidence the proponent can obtain through reasonable efforts, and (4) admitting it (the statement) will serve the purposes of these rules and interests of justice. FRE 807(a).

The residual hearsay exception is sparingly used and applies only where exceptional guarantees of trustworthiness are present coupled with elevated levels of probativeness and necessity.

Here, military and police records lack indicia of trustworthiness in light of the volatile atmosphere in which the reports were made. And while challenged state department cables do have exceptional guaranties of trustworthiness as they were signed by the then-U.S. Ambassador to Bolivia, the defendants failed to establish that the cables were more probative on the point for which they were offered than any other evidence the defendants could have obtained through reasonable efforts.

Records: Accident report

Type of Case: Personal injury

Did It Get In? No.

Case: 76th and Broadway v. Consolidated Edison, 160 A.D.3d 447 (NY 2018)

Facts: plaintiff injured on construction site sues general contractor and owner for negligence. Appeals court reverses trial court and grants summary judgment for defendant.

Objection: accident report offered by plaintiff that stated platform “must have been moved during demolition or trench work by [defendant contractor] is inadmissible.

Applicable Rules and Holding: voluntary statements in accident report authored by someone who is not under a duty to prepare the report is inadmissible hearsay. The report was based on information supplied by unnamed third parties. Because of its speculative nature, the report is inadmissible to create genuine issue of material fact.

Records: Credit card records

Type of Case: Breach of contract

Did They Get In? Yes.

Case: Lewis v. Absolute Resolutions VII, LLC, 2018 WL 3261197 (Tx. App. – SA 2018)

Facts: plaintiff assignee of credit card debt sues to collect. Summary judgment for assignee plaintiff affirmed.

Objection: plaintiff failed to lay proper foundation for original credit card issuer’s (Citibank) business records.

Applicable Rules and Holding: Business records are admissible if accompanied by Rule 902(10) affidavit. A business record created by one entity that later becomes another entity’s primary record is admissible as record of regularly conducted activity. Rule 803(6).

A third party’s (e.g. an assignee, successor, account buyer, etc.) personal knowledge of the specific procedures used by the record creator is not required where the third party incorporates the documents into its own business and regularly relies on the records.

To introduce business records created by a third party predecessor or assignee, the proponent must establish (1) the document is incorporated and kept in the course of the offering party’s business, (2) the business typically relies on the accuracy of the contents of the document, and (3) the circumstances otherwise indicate trustworthiness of the document.

The plaintiff’s Rule 902(10) affidavit explained the manner and circumstances in which plaintiff acquired the defendant’s credit card account and further stated that the plaintiff regularly relies on and incorporates other debt sellers’ business records.

The court was especially swayed by the testimony that the assignor was under a duty to convey accurate information to the plaintiff and risked civil and criminal penalties for providing false information. According to the court, this last factor gave the records an extra layer of protection against falsification.

Contractor ‘Extras’ Claims Versus Quantum Meruit: A Fine-Line Distinction? (IL Case Summary)

Twin contract law axioms include (1) a quasi-contract claim (i.e. quantum meruit) cannot co-exist with one for breach of express contract, and (2) to recover for contract “extras” or out-of-scope work, a plaintiff must show the extra work was necessary through no fault of its own.  While easily parroted, the two principles can prove difficult in their application.

Archon v. U.S. Shelter, 2017 IL App (1st) 153409 tries to reconcile the difference between work that gives rise to quantum meruit recovery and work that falls within an express contract’s general subject matter and defeats a quantum meruit claim.

The subcontractor plaintiff installed a sewer system for a general contractor hired by a city.  The subcontract gave the City final approval of the finished sewer system.  City approval was a condition to payment to the plaintiff.  The subcontract also provided that extra work caused by the plaintiff’s deficiencies had to be done at plaintiff’s expense.

The subcontractor sued the general contractor to recover about $250K worth of repair work required by the City.  The trial court granted summary judgment for the general contractor on both plaintiff’s quantum meruit and extras claim.  On remand from an earlier appeal, the plaintiff dropped its extras claim and went forward solely on its quantum meruit claim.  The trial court again found for the general and the sub appealed.

Result: Summary judgment for general contractor affirmed.  Plaintiff’s quantum meruit claim fails as a matter of law.

Reasons:

To recover for quantum meruit (sometimes referred to as quasi-contract or implied contract), the plaintiff must prove (1) it performed a service to benefit a defendant, (2) it did not perform the service gratuitously, (3) defendant accepted the benefits of plaintiff’s services, and (4) no contract existed to prescribe payment for the service.

A quantum meruit claim cannot co-exist with a breach of express contract one: they are mutually exclusive.

Parties to a contract assume certain risks.  Sometimes, when they realize their contractual expectations aren’t going to be realized, they resort to quantum meruit recovery as a desperation maneuver.  The law doesn’t allow this.  “Quasi-contract is not a means for shifting a risk one has assumed under the contract.” (¶ 34)(citing Industrial Lift Truck Service Corp. v. Mitsubishi International Corp., 104 Ill.App.3d 357).

A contractor’s claim for ‘extras’ requires the contractor to prove that (1) the work for which it seeks compensation was outside the scope of a contract, and (2) the extra work wasn’t caused by the contractor’s fault.  

In a prior appeal, the Court found that it wasn’t clear whether the extra work was the result of the plaintiff contractor’s mistake.  As a result, the contractor made a strategic decision to abandon its extras claim and instead proceeded on its quantum meruit suit.

At first blush, an extras claim mirrors quantum meruit’s requirement of work that’s not tied to any express contract term.

However, as the Court emphasized, there’s a definite legal difference between a claim for extra work and one for quantum meruit.  “A claim for quantum meruit lies when the work the plaintiff performed [is] wholly beyond the subject matter of the contract that existed between the parties.” [¶ 39]

The key question is whether an express contract covers the same general subject matter as the challenged work.  If it does, there can be no quantum meruit recovery as a matter of law.  [¶ 45]

Applying these principles, the Court found that the work for which plaintiff sought to recover in quantum meruit – sewer pipe repairs and replacement – involved the same sewer system involved in the underlying express contract.  As a result, plaintiff’s quantum meruit claim failed.

Take-aways:

This case provides an interesting illustration of the fine-line distinction between a contractor’s action to recover for extra, out-of-scope work and services that merit quantum meruit recovery.

Contractors should take pains to make it clear in the contract that if they do perform extra work, there is a mechanism in place (i.e. time and materials terms) that quantifies the extras.  Since the sewer repair work fell within the general subject matter of the underlying sewer installation contract, it was easy for the Court to find that the express contract encompassed the plaintiff’s work and reject the quantum meruit claim.

In hindsight, the plaintiff should have pressed forward with its breach of express contract claim premised on the extra work it claimed it performed.

Judgment Creditor and Debtor’s Lawyers Duke It Out Over Equity in Home – ND IL

A law firm’s failure to scrutinize its client’s transfer of property to a land trust backfired in Radiance v. Accurate Steel, 2018 WL 1394036.

The case presents a priority fight between the plaintiff judgment creditor and the law firm who defended the debtor in post-judgment proceedings.

The Relevant Chronology

August 2013 – Defendant debtor transferred the Property to an irrevocable trust;

March 2014 – Plaintiff’s predecessor recorded its money judgment against defendant;

June 2014 – The law firm agrees to represent defendant if she mortgaged the Property to secure payment of attorney fees.

June 2015 – The law firm records a mortgage against the Property;

March 2018 – The court voids the 2013 transfer of the Property into a land trust as a fraudulent transfer.

The Trial Court’s Decision

The court ruled that the Property reverted back to the debtor and was no longer protected from its creditors. The court also found the law firm lacked actual or constructive notice that the creditor’s prior judgment lien could wipe out the firm’s mortgage.

As a result, the Court found the law firm met the criteria for a bona fide purchaser – someone who gives value for something without notice of a competing claimant’s right to the same property.

Reversing itself on plaintiff’s motion to reconsider, the Court first noted that recording a judgment gives the creditor a lien on all real estate owned in a given county by a debtor. 735 ILCS 5/12-101.

Illinois follows the venerable “first-in-time, first-in-right” rule which confers priority status on the party who first records its lien.  An exception to the first-in-time priority rule is where a competing claimant is a bona fide purchaser (BFP). A BFP is someone who provides value for something without notice of a prior lien on it.

Here, the law firm unquestionably provided value – legal services – and lacked notice of the bank’s judgment lien since at the time the firm recorded its mortgage, the title to the real estate was held in trust. Where a creditor records a judgment against property held in a land trust, the judgment is not a lien on the real estate. Instead, it only liens the debtor’s beneficial interest in the trust. (See here  and here.) These factors led the Court originally to find that the Firm met the BFP test under the law.

Reversing itself, the Court found the law firm was on inquiry notice that it’s mortgage could be trumped by the plaintiff’s judgment lien.

Inquiry notice means “facts or circumstances are present that create doubt, raise suspicions, or engender uncertainty about the true state of title to real estate.” In re Thorpe, 546 B.R. 172, 185 (Bankr. C.D. Ill. 2016)(citing Illinois state court case authorities).

A mortgagee has a responsibility not only to check for prior liens and encumbrances in the chain-of-title, but also to consider “circumstances reasonably engendering suspicions as to title.” Id.

In its reconsideration order, the Court noted as badges of fraud the plaintiff’s recording its judgment lien more than a year before the law firm’s mortgage and the ample proof of the debtor’s pre-transfer financial struggles.

The Court found the law firm was apprised of facts – namely, debtor’s financial problems, aggressive creditors, and gratuitous transfer of the Property into a land trust – that obligated it to dig deeper into the circumstances surrounding the transfer.

Afterwords:

Radiance and the various briefing that culminated in the Court’s reconsideration order provide an interesting discussion of creditor priority rules, law firm retainer agreements, trust law fundamentals and fraudulent transfer basics, all in a complex fact pattern.

The case reaffirms the proposition that where property is held in trust, a judgment lien against a trust beneficiary will not trump a later recorded judgment against the trust property.

However, where real estate is fraudulently transferred – either intentionally or constructively (no value is received, transferor incurs debts beyond her ability to pay, e.g.) – a creditor of the transferee should think twice before it transacts business with a debtor and delve deeper into whether a given property transfer is legitimate.

 

 

IL Supreme Court Expands on Shareholder Derivative Suits and Standing Doctrine in Att”y Malpractice Suit

Some minority shareholders in an LLC sued their former counsel for legal malpractice alleging the firm failed to file “obvious” breach of fiduciary claims against the LLC’s corporate counsel.

Affirming summary judgment for the defendant law firm in Stevens v. McGuirreWoods, LLP, 2015 IL 118652, the Illinois Supreme Court gives content to the quantum of proof needed to sustain a legal malpractice claim and discusses the type of legal interest that will confer legal standing for a corporate shareholder to sue in its individual capacity.

The plaintiffs’ central claim was that McGuirreWoods (MW) botched the underlying case by not timely suing Sidley Austin, LLP (Sidley), the LLC’s erstwhile counsel, in the wake of the LLC’s majority shareholders looting the company.  Sidley got the underlying case tossed on statute of limitations grounds and because the plaintiffs lacked standing.

The trial court found that even if MW had timely sued Sidley, the shareholder plaintiffs still lacked standing as their claims belonged exclusively to the LLC. After the First District appeals court partially reversed on a procedural issue, MW appealed to the Illinois Supreme Court.

Affirming judgment for Sidley, the Illinois Supreme Court considered the interplay between legal malpractice cases and shareholder derivative suits.

Dubbed a “case-within-a-case,” the legal malpractice claim plaintiff alleges that if it wasn’t for an attorney’s negligence in an underlying case, the plaintiff would have won that case and been awarded money damages.

The legal malpractice plaintiff must prove (1) the defendant attorney owed the plaintiff a duty of care arising from the attorney-client relationship, (2) the defendant attorney (or law firm) breached that duty, and (3) as a direct and proximate result of the breach, the plaintiff suffered injury.

Injury in the legal malpractice setting means the plaintiff suffered a loss which entitles him to money damages.  Without proof the plaintiff sustained a monetary loss as a result of the lawyer’s negligence, the legal malpractice suit fails.

The plaintiff must establish it would have won the underlying lawsuit but for the lawyer’s negligence.  The plaintiff’s recoverable damages in the legal malpractice case are the damages it would have recovered in the underlying case. [¶ 12]

Here, the plaintiffs sued as individual shareholders.  The problem was that Sidley’s obligation ran to the LLC entity.  As a result, the plaintiffs lacked individual standing to sue Sidley.

Under the law, derivative claims belong solely to a corporation on whose behalf the derivative suit is brought.  A plaintiff must have been a shareholder at the time of the transaction of which he complains and must maintain his shareholder status throughout the entire lawsuit.  [¶ 23]

Illinois’ LLC Act codifies this rule by providing that any derivative action recovery goes to the LLC; not the individual shareholder.  The individual shareholder plaintiff can recover his attorneys’ fees and expenses.  805 ILCS 180/40-15.

While a successful derivative suit plaintiff can benefit indirectly from an increase in share value, the Court held that missing out on increased share value was not something the shareholders could sue for individually in a legal malpractice suit.

Had MW timely sued Sidley, any recovery would have gone to the LLC, not to the plaintiffs.  And since the plaintiffs could not have recovered money damages against Sidley in the earlier lawsuit, they could not recover them in a later malpractice case.

Afterwords:

This case provides a thorough explication of the standing doctrine in the context of shareholder derivative suits.

The case turned on the nature of the plaintiff’s claims.  Clearly, they were suing derivatively (as opposed to individually) to “champion” the LLC’s rights.  As a result, any recovery in the case against Sidley would flow to the LLC – the entity of which plaintiffs were no longer members.

And while the plaintiffs did maintain their shareholder status for the duration of the underlying Sidley case, their decision to terminate their LLC membership interests before suing MW proved fatal to their legal malpractice claims.

 

Zillow ‘Zestimates’ Not Actionable Value Statements; Homeowner Plaintiffs’ Not Consumers Under IL Consumer Fraud Act – IL ND 2018

Decrying the defendants’ use of “suspect marketing gimmicks” that generate “confusion in the marketplace,” the class action plaintiffs’ allegations in Patel v. Zillow, Inc. didn’t go far enough to survive a Rule 12(b)(6) motion.

The Northern District of Illinois recently dismissed the real estate owning plaintiffs’ claims against the defendants, whose Zillow.com website is a popular online destination for property buyers, sellers, lenders and brokers.

The plaintiffs alleged Zillow violated Illinois’s deceptive trade practices and consumer fraud statutes by luring prospects to the site based on fabricated property valuation data, employing “bait and switch” sales tactics and false advertising and giving preferential treatment to brokers and lenders who pay advertising dollars to Zillow.

Plaintiffs took special aim at Zillow’s “Seller Boost” program – through which Zillow provides choice broker leads in exchange for ad dollars – and “Zestimate,” Zillow’s property valuation tool that is based on computer algorithms.

The Court first dismissed Plaintiffs’ Illinois Deceptive Trade Practices Act (IDTPA) claim (815 ILCS 510/1 et seq.). Plaintiffs alleged Zestimate was a “suspect marketing gimmick” designed to lure visitors to Zillow in an effort to increase ad revenue from real estate brokers and lenders, and perpetuated marketplace confusion and disparaged properties by refusing to take down Zestimates that were proven inaccurate. Plaintiffs also alleged Defendants advertise properties for sale they have no intention of actually selling.

The Court found that Zestimates are not false or misleading representations of fact likely to confuse consumers. They are simply estimates of a property’s market value. As Zillow’s disclaimer-laden site says, Zestimates are but “starting points” of a property’s value and no proxy for a professional appraisal. As a result, the Court found Zestimates were nonactionable opinions of value.
Plaintiffs’ allegation that Zestimate creates consumer confusion also fell short. An actionable IDTPA claim premised on likelihood of confusion means a defendant’s use of a given trade name, trademark or other distinctive symbol is likely to mislead consumers as to the source of an advertised product or service. Here, the plaintiffs’ allegations that Zestimate was falsely vaunted as a legitimate valuation tool did not assert confusion between Zillow’s and another’s products or services.

Plaintiffs’ “bait and switch” and commercial disparagement claims fared no better. A bait and switch claim asserts that at a seller advertised one product or service only to “switch” a customer to another, costlier one. A commercial disparagement claim, based on IDPTA Section 510/2(a)(8) prevents a defendant from denigrating the quality of a business’s goods and services through false or misleading statements of fact.

Since plaintiffs did not allege Zillow was enticing consumers with one product or service while later trying to hawk a more expensive item, the bait and switch IDTPA claim failed. The court dismissed the commercial disparagement claim since Zestimates are only opinions of value and not factual statements.

The Court next nixed Plaintiffs’ self-dealing claim: that Zillow secretly tried to enrich itself by funneling For Sale By Owner (FSBO) sellers to premier brokers. While Illinois does recognize that a real estate broker owes a duty of good faith when dealing with buyers, the Court noted that Zillow is not a real estate broker. As a result, Defendants owed plaintiffs no legal duty to abstain from self-dealing.

The glaring absence of likely future harm also doomed the plaintiffs’ IDTPA claim. (The likelihood of future consumer harm is an element of liability under the IDTPA.) The Court found that even if Plaintiffs were confused or misled by Zillow in the past, there was no risk of future confusion. In IDTPA consumer cases, once a plaintiff is aware of potentially deceptive marketing, he can simply refrain from purchasing the offending product or service.

Next, the court jettisoned plaintiffs’ consumer fraud claims which alleged Zestimates impeded homeowners efforts to sell their properties. A business (or another non-consumer) can still sue under ICFA where alleges a nexus between a defendant’s conduct and consumer harm. To meet this consumer nexus test, a corporate plaintiff must plead conduct involving trade practices addressed to the market generally or that otherwise implicates consumer protection concerns. If a non-consumer plaintiff cannot allege how defendant’s actions impact consumers other than the plaintiff, the ICFA claim fails.

The plaintiffs’ consumer fraud allegations missed the mark because plaintiffs were real estate sellers, not buyers. Moreover, the Court found that plaintiffs’ requested relief would not serve the interests of consumers since the claimed actual damages were unique to plaintiffs. The plaintiffs attempt to recover costs incidental to their inability to sell their homes, including mortgage payments, taxes, home owner association costs, utilities, and the like were not shared by the wider consumer marketplace. (For example, the Court noted that plaintiffs did not allege prospective consumer buyers will have to pay incidental out-of-pocket expenses related to Zillow’s Zestimate published values.)

Lastly, the Court dismissed plaintiffs’ deceptive practices portion of their ICFA claim. To state such a claim, the plaintiff must allege he suffered actual damages proximately caused by a defendant’s deception. But where a plaintiff isn’t actually deceived, it can’t allege a deceptive practice.

Here, in addition to falling short on the consumer nexus test, plaintiffs could not allege Zillow’s site content deceived them. This is because under Illinois fraud principles, a plaintiff who “knows the truth” can’t make out a valid ICFA deceptive practice claim. In their complaint, the plaintiffs’ plainly alleged they were aware of Zillow’s challenged tactics. Because of this, plaintiffs were unable to establish Zillow as the proximate cause of plaintiffs’ injury.

Afterwords:

Zillow provides a good primer on Federal court pleading standards in the post-Twombly era and gives a nice gloss on the requisite pleading elements required to state a viable cause of action for injunctive and monetary relief under Illinois’s deceptive practices and consumer fraud statutes.

LLC Stopped From Selling Member’s Residence In Violation of Prior Charging Order – Utah Federal Court

Q: Can A Court Stop An LLC That Pays the Monthly Mortgage of One of Its Members From Selling that Member’s Home Where A Charging Order Has Issued Against the LLC to Enforce a Money Judgment Against the LLC Member?

A: Yes.

Q2: How So?

A2: By selling the member’s property and paying off the member’s mortgage with the sale proceeds, the LLC is effectively “paying the member” to the exclusion of the plaintiff judgment creditor.

Source: Earthgrains Baking Companies, Inc. v. Sycamore Family Bakery, Inc., et al, USDC Utah 2015 (https://casetext.com/case/earthgrains-baking-cos-v-sycamore-family-bakery-inc-3)

In this case, the plaintiff won a multi-million dollar money judgment against a corporate and individual defendant in a trademark dispute.  The plaintiff then secured a charging order against a LLC of which the individual defendant was a 48% member.  When the LLC failed to respond to the charging order, the plaintiff moved for an order of contempt against the LLC and sought to stop the LLC from selling the defendant’s home.

The court granted the contempt motion.  First, the court found that it had jurisdiction over the LLC.  The LLC argued that Utah lacked jurisdiction over it since the LLC was formed in Nevada.  The LLC claimed that under the “internal affairs” doctrine, the state of the LLC’s formation – Nevada – governs legal matters concerning the LLC.

Disagreeing, the court noted that a LLC’s internal affairs are limited only to “matters peculiar to the relationships among or between the corporation and its current officers, directors, and shareholders.”  The internal affairs doctrine does not apply to claims of third party creditors.  Here, since the plaintiff was a creditor of the LLC’s member, this was not a dispute between LLC and member.  As a result, the internal affairs rule didn’t apply and the Utah court had jurisdiction over the LLC since a LLC member lived in Utah.  (See Cosgrove v. Bartolotta, 150 F.3d 729, 731 (7th Cir. 1998)).

The Charging Order required the LLC to pay any distribution that would normally go to the member directly to the plaintiff until the money judgment was satisfied.  The Charging Order specifically mentions transfers characterized or designated as payment for defendant’s “loans,” among other things.

The LLC was making monthly mortgage payments on the member’s home and listed the home for sale in the amount of $4M.  Plaintiff wanted to prevent the sale since there was a prior $2M mortgage on the home.

In blocking the sale, the court found that if the LLC sold the member’s home and paid off the member’s mortgage lender with the proceeds, this would violate the Charging Order since it would constitute an indirect payment to the member.  The court deemed any payoff of the member’s mortgage a “distribution” (a direct or indirect transfer of money or property from LLC to member) under the Utah’s LLC Act. (Utah Code Ann. § 48-2c-102(5)(a)).

Since the Charging Order provided that any loan payments involving the member were to be paid to the plaintiff until the judgment is satisfied, the court found that to allow the LLC to sell the property and disburse the proceeds to a third party (the lender) would harm the plaintiff in its ability to satisfy the judgment.

Afterwords:

An interesting case that discusses the intricacies of charging orders and the thorny questions that arise when trying to figure out where to sue an LLC that has contacts in several states.  The case portrays a court willing to give an expansive interpretation of what constitutes an indirect distribution from an LLC to its member. 

Earthgrains also reflects a court endeavoring to protect a creditor’s judgment rights where an LLC and its member appear to be engaging in misdirection (if not outright deception) in order to elude the creditor.

[A special thanks to attorney and Forbes contributor Jay Adkisson for alerting me to this case (http://www.forbes.com/sites/jayadkisson/)]

 

Florida Series: Charging Order that Gives Receiver Management Control over LLC Finances Too Broad – Fla Appeals Court

A creditor’s exclusive remedy against a debtor who is a member or manager of a limited liability company (LLC) is a charging order on the debtor’s distributional interest.

McClandon v. Dakem & Associates, LLC, (see here), a recent Florida appellate case, illustrates that while the charging order remedy is flexible enough to allow for some creative lawyering, it still has limits.

McClandon’s facts are straightforward: the plaintiff obtained a money judgment against an individual who had an interest in several limited liability companies.   In post-judgment proceedings, the plaintiff sought a charging order against the debtor’s LLC interests.  The court granted the charging order and appointed a receiver to take control of the LLCs’ finances.

The debtor appealed.

Partially reversing the charging order’s terms, the appeals court found the trial court exceeded its authority and encroached on the legislature by giving the receiver managerial control over the LLCs.

Section 605.0503 of the Florida LLC statute permits a court to enter a charging order as a creditor’s exclusive remedy to attach a debtor’s interest in a multi-member LLC.  The statute further provides that a court can apply broad equitable principles (i.e., alter ego, equitable lien, constructive trust, etc.) when it fashions a charging order.  Florida’s LLC act is based on the Revised Uniform Limited Liability Company Act of 2006 which specifically provides that a court can appoint a receiver to assist in collection of a debtor’s LLC distributions.  See RULLCA Section 503(b)(1).

The court had discretion to appoint a receiver to help the creditor foreclose on the charging order against the debtor’s LLC interests.  But the court exceeded its boundaries by giving the Receiver expansive management authority over the LLC’s finances.

Since there was no statutory predicate for the court to allow the Receiver to exert managerial control over the LLCs, the trial court’s charging order was overly broad.

Afterwords:

The charging order remedy lends itself to flexibility and creative lawyering.  While a creditor can have a receiver appointed to assist in collecting LLC distributions, the receiver cannot – at least in Florida and other states following the Uniform LLC Act – exert control over the LLC’s financial inner workings.  When petitioning for a receiver, creditor’s counsel should make sure the receiver does not engage in the management of the LLC’s business operations.

 

Landlord’s Double-Rent Holdover Claim Barred by Res Judicata – A Deep Cut (IL 2012)

A commercial lease dispute sets the backdrop for an appeals court’s nuanced discussion of statutory holdover damages and when res judicata and claim-splitting defeat a second lawsuit involving similar facts to and subject matter of an earlier case.

For many years, the tenant in Degrazia v. Levato operated “Jimbo’s” – a sports bar set in the shadow of U.S. Cellular Field (nka Guaranteed Rate Field) and perennial favorite watering hole for Chicago White Sox fans.

Lawsuit 1 – the 2006 Eviction Case

In 2006, plaintiff filed an eviction lawsuit when the lease expired and defendants refused to leave.  In addition to possession of the premises, the plaintiffs also sought to recover use and occupancy damages equal to double the monthly rent due under the lease through the eviction date.

The trial court granted plaintiff’s summary judgment motion in the 2006 eviction suit and struck defendant’s affirmative defense that plaintiff went back on an oral promise to renew the lease.  Defendant appealed and the trial court’s eviction order was affirmed.

Lawsuit 2 – the 2007 Damages Case

Plaintiffs filed a second lawsuit in 2007; this time for breach of lease.  In this second action, plaintiffs sought to recover statutory holdover damages under Section 9-202 of the Forcible Entry and Detainer Act (the “FED Act”).  The court granted defendant’s summary judgment motion on the basis that plaintiff’s second lawsuit was barred by res judicata and the policy against claim-splitting.  The plaintiffs appealed.

Rules and Reasoning

For res judicata to foreclose a second lawsuit, three elements must be present:  (1) a final judgment on the merits rendered by a court of competent jurisdiction; (2) an identity of
causes of action; and (3) an identity of the parties or their privies.

Illinois courts also hew to the rule against splitting claims or causes of action. Under the claim-splitting rule, where a cause of action is entire and indivisible, a plaintiff cannot divide it by bringing separate lawsuits.  A plaintiff cannot sue for part of a claim in one action and then sue for the rest of the claim in a second suit.  Like res judicata, the claim-splitting rule aims to foster finality and protect litigants from multiple lawsuits.

The First District held that the trial court’s order in the 2006 lawsuit granting plaintiffs’ motion for summary judgment was a final order only on the issue of possession but not on plaintiff’s attorneys’ fees since the court expressly granted plaintiffs leave to file a fee petition.  And since there was no final order entered on plaintiff’s attorneys’ fees in the 2006 case, plaintiffs could seek the same fees in the 2007 lawsuit.

The Court did, however, affirm summary judgment for the tenants on plaintiffs’ statutory holdover claim.  FED Act Section 9-202 provides that a tenant who willfully holds over after a lease expires is liable for double rent. 735 ILCS 5/9-202.

The Plaintiffs sought the same double rent in both the 2006 (eviction) and 2007 (damages) lawsuit and requested these damages in their summary judgment motion filed in the 2006 case.  The eviction judge in that 2006 case only allowed plaintiffs to recover statutory use and occupancy instead of statutory holdover rent.  The First District held that the use and occupancy order was final.  And since plaintiffs never appealed or challenged the use and occupancy order in the 2006 case, plaintiff’s 2007 Lawsuit was defeated by res judicata.

The Court also rejected plaintiffs’ argument that the forcible court (in the 2006 Lawsuit) was limited to ordering possession and unable to award statutory holdover damages.  It found that FED Act Section 9-106 expressly allows a landlord to join a rent claim and FED Sections 9-201 and 9-202 respectively allow a plaintiff to recover use and occupancy and holdover damages.  As a result, the First District found there was nothing that prevented the 2006 eviction case judge from awarding holdover rent if plaintiffs were able to show that defendants willfully held over after the lease expired.

Afterwords:

There is scant case law on Illinois’ holdover statute.  While an action for possession under the FED Act is, in theory, a limited, summary proceeding directed solely to the question of possession, the FED Act sections that allow a plaintiff to join a rent claim, to recover use and occupancy payments in addition to double holdover rent give shrewd lessee lawyer’s enough of an opening to argue issue or claim preclusion.

This case demonstrates that the best pleadings practice is for the landlord to join its double-rent claims in the eviction case and put the burden on the tenant to argue the holdover damages claim is beyond the scope of a FED action.  Otherwise, there is a real risk that the failure to join a holdover claim in the possession action will prevent holdover damages in a later lawsuit.

ReMax Franchisor Defeats Tortious Interference Claim With Privilege Defense – IL 4th Dist.

The plaintiffs in Byram v. Danner, 2018 IL App (4th) 170058-U, sued after their planned purchase of a Remax real estate franchise imploded.  The plaintiffs missed an installment payment and the defendants responded by cancelling the agreement. Plaintiffs then filed a flurry of tort claims including fraud and tortious interference with contract.

Plaintiffs’ fraud count alleged the defendants lacked Remax authority to sell the franchise and hid this fact from the plaintiffs. The tortious interference claim asserted defendants bad-mouthed plaintiffs to certain agents, causing them to disassociate from plaintiffs.

The plaintiffs sought to recover their franchise fee, their first installment payment and unpaid commissions earned over a 16-month period. The trial court dismissed all of plaintiffs’ claims under Code Sections 2-615 and 2-619.  Plaintiffs appealed.

In finding the trial court properly jettisoned the fraud claim, the court noted that a valid cause of action for fraud requires (1) a false representation of material fact, (2) by a party who knows or believes it to be false, (3) with the intent to induce the plaintiff to act, (4) action by the plaintiff in reliance on the statement, and (5) injury to the plaintiff as a consequence of the reliance.

However, where a contractual provision negates one of the fraud elements, the fraud claim fails. Here, the underlying contract expressly conditioned defendants’ sale of the franchise on Remax accepting plaintiffs as a franchisee. This qualified language precluded plaintiffs from alleging that defendants misrepresented that they had authority from Remax to sell their franchise. (⁋ 43)

The appeals court also affirmed the trial court’s dismissal of plaintiffs’ tortious interference with prospective economic advantage claim.  To prevail on this theory, a plaintiff must plead and prove (1) his reasonable expectation of entering into a valid business relationship, (2) the defendant’s knowledge of the plaintiff’s expectancy, (3) purposeful interference by defendant that prevents plaintiff’s legitimate expectation from coming to fruition, and (4) damages to the plaintiff.

The ‘purposeful interference’ prong of the tort requires a showing of more than interference.  The plaintiff must also prove a defendant’s improper conduct done primarily to injure the plaintiff.  Where a defendant acts to protect or enhance his own business interests, he is privileged to act in a way that may collaterally harm another’s business expectancy.  Where a defendant invokes a privilege to interfere with a plaintiff’s business expectancy, the burden shifts to the plaintiff to show that the defendant’s conduct was unjustified or malicious.  (¶ 46)

The Court found defendants’ actions were done to protect the future success of their real estate franchise and listings.  Since plaintiffs failed to plead any specific facts showing defendants’ intent to financially harm the plaintiffs, dismissal of the tortious interference count was proper.

The Court reversed the dismissal of plaintiff’s breach of contract claims, however. This was because the affidavit filed in support of defendant’s Section 2-619 motion didn’t qualify as affirmative matter.  An affirmative matter is any defense other than a negation of the essential allegations of the plaintiff’s cause of action.  Affirmative matter is not evidence a defendant expects to contest an ultimate fact alleged in a complaint.

Here, defendants’ Section 2-619 affidavit effectively plaintiffs’ allegations were “not true:” that defendants didn’t owe plaintiffs any commissions.  The Court found that a motion affidavit that simply denies a complaint’s material facts does not constitute affirmative matter. (¶¶ 56-59)

Afterwords:

Byram provides a useful summary of the relevant guideposts and distinctions between section 2-615 and 2-619 motions to dismiss. Where a supporting affidavit merely disputes plaintiff’s factual allegations, it will equate to a denial of the plaintiff’s allegations. Such an affidavit will not constitute proper affirmative matter than wholly defeats a claim.

The case also provides value for its discussion of the Darwinian privilege defense to tortious interference. When a defendant acts to protect herself or her business, she can likely withstand a tortious interference claim by a competitor – even where that competitor is deprived of a remedy.

Texas Arbitration Provision Sounds Death Knell For Illinois Salesman’s Suit Against Former Employer – IL ND

(“Isn’t that remarkable…..”)

The Plaintiff in Brne v. Inspired eLearning, 2017 WL 4263995, worked in sales for the corporate publisher defendant.  His employment contract called for arbitration in San Antonio, Texas.

When defendant failed to pay plaintiff his earned commissions, plaintiff sued in Federal court in his home state of Illinois under the Illinois Wage Payment and Collection Act, 820 ILCS 115/1 (“IWPCA”). Defendant moved for venue-based dismissal under Rule 12(b)(3)

The Illinois Northern District granted defendant’s motion and required the plaintiff to arbitrate in Texas.  A Rule 12(b)(3) motion is the proper vehicle to dismiss a case filed in the wrong venue. Once a defendant challenges the plaintiff’s venue choice, the burden shifts to the plaintiff to establish it filed in the proper district.  When plaintiff’s chosen venue is improper, the Court “shall dismiss [the case], or if it be in the interest of justice, transfer such case to any district or division in which it could have been brought.” 28 U.S.C. § 1406(a).

Upholding the Texas arbitration clause, the Illinois Federal court noted the liberal federal policy favoring arbitration agreements except when to do so would violate general contract enforceability rules (e.g. when arbitration agreement is the product of fraud, coercion, duress, etc.)

The Court then turned to plaintiff’s argument that the arbitration agreement was substantively unconscionable.  An agreement is substantively unconscionable where it is so one-sided, it “shocks the conscience” for a court to enforce the terms.

The plaintiff claimed the arbitration agreement’s cost-sharing provision and absence of fee-shifting rendered it substantively unconscionable.

Cost Sharing Provision

Under Texas and Illinois law, a party seeking to invalidate an arbitration agreement on the ground that arbitration is prohibitively expensive must provide individualized evidence to show it will likely be saddled with excessive costs during the course of the arbitration and is financially incapable of meeting those costs.  The fact that sharing arbitration costs might cut in to a plaintiff’s recovery isn’t enough: without specific evidence that clearly demonstrates arbitration is cost-prohibitive, a court will not strike down an arbitration cost-sharing provision as substantively unconscionable.  Since plaintiff failed to offer competent evidence that he was unable to shoulder half of the arbitration costs, his substantive unconscionability argument failed

Fee-Shifting Waiver

The plaintiff’s fee-shifting waiver argument fared better.  Plaintiff asserted  then argued that the arbitration agreement’s provision that each side pays their own fees deprived Plaintiff of his rights under the IWPCA (see above) which, among other things, allows a successful plaintiff to recover her attorneys’ fees. 820 ILCS 115/14.

The Court noted that contractual provisions against fee-shifting are not per se unconscionable and that the party challenging such a term must demonstrate concrete economic harm if it has to pay its own lawyer fees.  The court also noted that both Illinois and Texas courts look favorably on arbitration and that arbitration fee-shifting waivers are unconscionable only when they contradict a statute’s mandatory fee-shifting rights and the statute is central to the arbitrated dispute.

The court analogized the IWPCA to other states’ fee-shifting statutes and found the IWPCA’s attorneys’ fees section integral to the statute’s aim of protecting workers from getting stiffed by their employers.  The court then observed that IWPCA’s attorney’s fees provision encouraged non-breaching employees to pursue their rights against employers.  In view of the importance of the IWPCA’s attorneys’ fees provision, the Court ruled that the arbitration clause’s fee-shifting waiver clashed materially with the IWPCA and was substantively unconscionable.

However, since the arbitration agreement contained a severability clause (i.e. any provisions that were void, could be excised from the arbitration contract), the Court severed the fee-shifting waiver term and enforced the balance of the arbitration agreement.  As a result, plaintiff must still arbitrate against his ex-employer in Texas (and cannot litigate in Illinois).

Afterwords:

This case lies at the confluence of freedom of contract, the strong judicial policy favoring arbitration and when an arbitration clause conflicts with statutory fee-shifting language.  The court nullified the arbitration provision requiring each side to pay its own fees since that term clashed directly with opposing language in the Illinois Wage Payment and Collection Act.  Still, the court enforced the parties’ arbitration agreement – minus the fee provision.

The case also provides a useful synopsis of venue-based motions to dismiss in Federal court.

 

 

 

 

‘Surviving Partner’ Statute Defeats Fraud Suit in Mobile Home Spat – IL Court

The plaintiff in Jett v. Zeman Homes sued a mobile home seller for fraud and negligence after it failed to disclose a home’s history of mold damage and location in a flood zone.  The plaintiff’s claims were premised mainly on an agent of the defendant mobile home owner who died during the course of the litigation.  Affirming summary judgment for the owner, the court considered and answered some important questions on the applicability of common law and consumer fraud actions to the real estate context and when the death of an agent will immunize a corporate principal for claims based on the deceased agent’s comments.

The plaintiff’s fraud claims alleged that defendant’s agent made material misrepresentations that there was not a mold problem in the mobile home park and that any mold the plaintiff noticed in her pre-purchase walk-through was an isolated occurrence.  Plaintiff also alleged the seller’s agent failed to disclose a history of flooding on the property the mobile home occupied and the home’s lack of concrete foundation which contributed to flooding in the home.

Plaintiff’s negligence count alleged defendant breached duties of disclosure delineated in Section 21 of the Mobile Home Landlord and Tenant Rights Act. 765 ILCS 745/21 (West 2016). Plaintiff alleged defendant breached its duty to her by failing to disclose the home’s history of mold infestation and failure to alleviate the mold problem after plaintiff notified defendant.

The appeals court rejected the plaintiff’s fraud claims based on Illinois Evidence Code Section 301 which provides that a party who contracts with a now-deceased agent of an adverse party is not competent to testify to any admission of the deceased agent unless the admission was made in the presence of other surviving agents of the adverse party. 735 ILCS 5/8-301 (West 2016).  This is an application of the “Dead Man’s Act” (see 735 ILCS 5/8-201) principles to the principal-agent setting.

Applying this surviving agent rule, the Court noted that plaintiff admitted in her deposition that the predicate statements giving rise to both her common law and statutory fraud counts were made solely by the deceased defendant’s agent.  Since plaintiff could not identify any other agents of the defendant who were present when the deceased agent made statements concerning prior mold damage on the home, she could not attribute a materially false statement (a common law fraud element) or a deceptive act or practice (a consumer fraud element) to the defendant.

The appeals court also affirmed summary judgment for the defendant on plaintiff’s negligence count.  An Illinois negligence plaintiff must plead and prove: (1) the existence of a duty of care owed to the plaintiff by the defendant; (2) a breach of that duty, and (3) an injury proximately caused by that breach.

Since the lease agreement attached to plaintiff’s complaint demonstrated that the owner/lessor was someone other than the defendant, the plaintiff could not establish that defendant owed plaintiff a legal duty.

Afterwords:

A fraud plaintiff relying on statements of a deceased agent to hold a principal (e.g. an employer) liable, will have to prove the statement in question was made in the presence of surviving agents.  Otherwise, as this case shows, Illinois’ surviving partner or joint contractor statute will defeat the claim by barring the plaintiff from presenting evidence of the deceased’s statements or conduct.

 

Non-Shareholder Can Be Liable On Alter-Ego and Veil Piercing Theory – IL Bankruptcy Court

Buckley v. Abuzir  will likely be viewed as a watershed in piercing the corporate veil litigation because of its exhaustive analysis of when a non-shareholder can be personally liable for corporate debts.  In that case, the court provides an extensive survey of how nearly every jurisdiction in the country has decided the non-shareholder piercing question.

In re Tolomeo, 2015 WL 5444129 (N.D.Ill. 2015) considers the related question of whether a creditor can pierce the corporate veil of entities controlled by a debtor non-shareholder so that those entities’ assets become part of the debtors’ bankruptcy estate.

The answer: “yes.”  In their complaint, the creditors sought a determination that three companies owned by the debtor’s wife but controlled by the debtor were the debtors’ alter-egos.  The creditors of the debtor also sought to pierce the companies’ corporate veils so that the companies’ assets would be considered part of the debtor’s bankruptcy estate.  This would have the salutary effect of providing more funds for distribution to the various creditors.  After striking the debtor’s defenses to the complaint, the court granted the creditors motion for judgment on the pleadings. In doing so, the bankruptcy court applied some fundamental piercing principles to the situation where an individual debtor controls several companies even though he is not a nominal shareholder of the companies.

In Illinois, a corporation is a legal entity separate and distinct from its shareholders. However, this separateness will be disregarded where limited liability would defeat a strong equitable claim of a corporate creditor.

A party who seeks to set aside corporate liability protection on an alter-ego basis must make the two-part showing that (1) the company was so controlled and manipulated that it was a mere instrumentality of another entity or individual; and (2) misuse of the corporate form would promote fraud or injustice.

The mere instrumentality factors include (a) inadequate capitalization, (b) a failure to issue stock, (c) failure to observe corporate formalities, (d) nonpayment of dividends, (e) insolvency of the debtor corporation, (f) nonfunctioning officers or directors, (g) lack of corporate records, (h) commingling of funds, (i) diversion of assets from the corporation by or to a shareholder, (j) failure to maintain arm’s length relationships among related entities; and (k) the corporation being a mere façade for the dominant shareholders.

Promotion of injustice (factor (2) above)), in the veil piercing context, requires less than a showing of fraud but something more than the prospect of an unsatisfied judgment.

The court echoed Buckley and found that the corporate veil can be pierced to reach the assets of an individual even where he is not a shareholder, officer, director or employee.

The key question is whether a person exercises “equitable ownership and control” over a corporation to such an extent that there’s no demarcation between the corporation and the individual.  According to the court, making shareholder status a prerequisite for piercing liability elevates form over substance.

Applying these standards, the court found the circumstances ripe for piercing. The debtor controlled the three entities as he handled the day-to-day operations of the companies. He also freely shifted money between the entities and regularly paid his personal bills from company bank accounts. Finally, the court noted an utter lack of corporate records and threadbare compliance with rudimentary formalities. Taken together, the court found that the factors weighed in favor of finding that the three companies were the debtor’s alter-egos and the three entities should be considered part of the debtor’s bankruptcy estate.

Take-aways:

1/ A defendant’s status as a corporate shareholder will not dictate whether or not his assets can be reached in an alter-ego or veil piercing setting.

2/ If non-shareholder sufficiently controls a corporate entity, he can be responsible for the corporate debts assuming other piercing factors are present.

3/ Veil piercing can occur absent actual fraud by a controlling shareholder.  The creditor plaintiff must show more than a mere unpaid debt or unsatisfied judgment, though.  Instead, there must be some element of unfairness present for a court to set aside corporate protection and fasten liability to the individual.

 

 

Lender’s Reliance on Predecessor Bank’s Loan Documents Satisfies Business Records Hearsay Rule – IL First Dist.

A commercial guaranty dispute provides the background for the First District’s recent discussion of some signature litigation issues including the voluntary (versus compulsory) payment rule and how that impacts an appeal, the business records hearsay exception, and governing standards for the recovery of attorneys fees.

The lender plaintiff in Northbrook Bank & Trust Co. v. Abbas, 2018 IL App (1st) 162972 sued commercial loan guarantors for about $2M after a loan default involving four properties.
On appeal, the lender argued that the guarantors’ appeal was moot since they paid the judgment. Under the mootness doctrine, courts will not review cases simply to establish precedent or guide future litigation. This rule ensures that an actual controversy exists and that a court can grant effective relief.

A debtor’s voluntary payment of a money judgment prevents the paying party from pursuing an appeal. Compulsory payment, however, will not moot an appeal.
The court found the guarantors’ payment compulsory in view of the lender’s aggressive post-judgment efforts including issuing multiple citations and a wage garnishment and moving to compel the guarantors’ production of documents in the citation proceeding. Faced with these post-judgment maneuvers, the Court found the payment compulsory and refused to void the appeal. (⁋⁋ 24-27)

The First District then affirmed the trial court’s admission of the lender’s business records into evidence over the defendant’s hearsay objection.  To admit business records into evidence, the proponent (here, the plaintiff) must lay a proper foundation by showing the records were made (1) in the regular course of business, and (2) at or near the time of the event or occurrence. Illinois Rule of Evidence 803(6) allows “records of regularly conducted activity” into evidence where (I) a record is made at or near the time, (ii) by or from information transmitted by a person with knowledge, (iii) if kept in the regular course of business and (iv) where it was the regular practice of that business activity to make the record as shown by the custodian’s or other qualified witness’s testimony.

The theory on which business records are generally admissible is that their purpose is to aid in the proper transaction of business and the records are useless unless accurate. Because the accuracy of business records is vital to any functioning commercial enterprise, “the motive for following a routine of accuracy is great and motive to falsify nonexistent.” [¶¶ 47-48]

With computer-generated business records, the evidence’s proponent must establish (i) the equipment used is industry standard, (ii) the entries were made in the regular course of business, (iii) at or near the time of the transaction, and (iv) the sources of information, method and time of preparation indicate the entries’ trustworthiness. Significantly, the person offering the business records into evidence (either at trial or via affidavit) isn’t required to have personally entered the data into the computer or even learn of the records before the litigation started. A witness’s lack of personal knowledge concerning the creation of business records affects the weight of the evidence; not its admissibility. [¶ 50]

Here, the plaintiff’s loan officer testified he oversaw defendants’ account, that he personally reviewed the entire loan history as part of his job duties and authenticated copies of the subject loan records. In its totality, the Court viewed the bank officer’s testimony as sufficient to admit the loan records into evidence.

Next, the Court affirmed the trial court’s award of attorneys’ fees to the lender plaintiff. Illinois follows the ‘American rule’: each party pays its own fees unless there is a contract or statutory provision providing for fee-shifting. If contractual fee language is unambiguous, the Court will enforce it as written.

A trial court’s attorneys’ fee award must be reasonable based on, among other things, (i) the nature and complexity of the case, (ii) an attorney’s skill and standing, (iii) degree of responsibility required, (iv) customary attorney charges in the locale of the petitioning party, and (v) nexus between litigation and fees charged. As long as the petitioner presents a detailed breakdown of fees and expenses, the opponent has a chance to present counter-evidence, and the court can make a reasonableness determination, an evidentiary hearing isn’t required.

Afterwords:

Abbas presents a useful, straightforward summary of the business records hearsay exception, attorneys’ fees standards and how payment of a judgment impacts a later right to appeal that judgment.

The case also illustrates how vital getting documents into evidence in breach of contract cases and the paramount importance of clear prevailing party fee provisions in written agreements.

 

Shortened ‘Arb Award’ Rejection Deadline Upheld Against Constitutional Attack – IL Appeals Court

The First District appeals court recently nixed a plaintiff’s constitutional challenge to a local rule’s arbitration rejection deadline.  The opinion’s upshot is clear: when a supreme court rule conflicts with a statute, the rule wins.

The plaintiff in McBreen v. Mercedes-Benz, USA, LLC  argued her equal protection and due process rights were violated when a trial court denied her attempt to tardily reject an arbitration award. The case was decided by a single arbitrator under the auspices of the Cook County Law Division Mandatory Arbitration Program (MAP), a two-year pilot program that sends commercial cases with damage claims between $50,000 and $75,00 to mandatory arbitration.

Among other things, the Law Division MAP provides for hearings before a single arbitrator and requires a losing party to reject the award within seven business days. Cook County Cir. Ct. R. 25.1, 25.5, 25.11.

After an arbitrator found for defendants, the plaintiff didn’t reject the award until 30 days later – 23 days too late. The trial court then granted defendant’s motion to dismiss plaintiff’s case and denied plaintiff’s motion to void the arbitration award or extend the rejection deadline.  The trial court entered judgment on the arbitration award for defendant.

Plaintiff argued on appeal that Rule 25’s compressed rejection period violated her constitutional rights since it conflicted with the  30-day rejection deadline for Municipal Department arbitrations. (The Cook County Municipal Department hears personal injury cases and breach of contract suits where the damage claim is $30,000 or less.)   The plaintiff also claimed the Law Division MAP was unconstitutional since it clashed with the “panel of three” arbitrators rule prevailing in Municipal Department arbitrations.

Affirming the trial court, the Court first considered whether the Illinois Supreme Court had power to establish the Law Division MAP program with its seven-day rejection rule.

The Law Division MAP rejection period conflicts with Cook County’s Municipal Department arbitration scheme – which has a 30-day rejection rule.  (The Municipal arbitration rules, codified in Supreme Court Rules 86-95, were legislatively implemented via Code Sections 2-1001A and 1003A which, respectively, authorize the establishment of an arbitration program where a panel of three arbitrators hears cases involving less than $50,000 in damages. Rule 93(a) contains the 30-day rejection cut-off.)

The First District noted that while the Law Division MAP’s seven-day rejection period clashes with the Municipal Department’s 30-day period, Illinois courts through the decades consistently recognize the Illinois Supreme Court’s constitutional authority to make rules governing practice and procedure in the lower courts and that where a supreme court rule conflicts with a statute on a judicial procedure matter, the rule wins.

The court also notes the Illinois legislature echoed this inherent power for the Supreme Court to establish court rules in Code Section 1-104(a).  In the end, the Court found that In view of the Illinois Supreme Court’s expansive power in the area of pleadings, practice and procedure, the Law Division MAP’s abbreviated rejection period trumped any conflicting, longer rejection period found in other statutes or rules.  (¶¶ 17-18, 22-23).

The Court also rejected plaintiff’s equal protection argument – that the Law Division MAP program infringed the rights of Municipal court participants by shortening the rejection time span from 30 to seven days.  While allowing that Law Division and Municipal litigants in the arbitration setting share the same objective of taking part in a less-costly alternative to litigation, the Court found the two Programs “qualitatively different:” the Law Division MAP is geared to those seeking damages of between $50,000 and $75,000 while the Municipal plaintiff’s damages are capped at $30,000.

According to the Court, the different damage ceilings involved in Law Division and Municipal cases meant that plaintiffs in the two court systems aren’t similarly situated under the Equal Protection clause. (¶¶ 34-35).

Plaintiff’s final argument, that the Law Division MAP’s seven-day rejection period violated her due process rights also failed.  Due process requires an opportunity to be heard at a meaningful time and in a meaningful matter.

The plaintiff argued that the Law Division MAP’s seven-day rejection cut-off failed to give her a meaningful opportunity to challenge the award.   The Court thought otherwise.  It noted that statutes are presumed constitutional and someone challenging a statute’s constitutionality bears a heavy burden.  It then cited to multiple cases across a wide strata of facts which have upheld time limits of less than 30 days.

Afterwords:

McBreen offers a thorough, triangulated analysis of what happens when a Supreme Court Rule, a county’s local court rule and legislative enactments all speak to the same issue and appear to contradict each other.  The case solidifies the proposition that the Supreme Court’s primacy in the realm of lower court procedure and pleading extends to mandatory arbitration regimes, too.  While the case is silent on what constitutes a sufficient basis to extend the Law Division MAP’s seven-day rejection deadline, McBreen makes clear that a constitutional challenge will likely ring hollow.

 

Massive Wind Turbine Tower A Trade Fixture, Not Lienable Property Improvement – IL Second Dist.

AUI Construction Group, LLC v. Vaessen, 2016 IL App (2d) 160009 wrestles with whether a massive wind turbine tower that can be removed only by detonating several bombs at a cost of over half a million dollars qualifies as a lienable property improvement or is a non-lienable trade fixture under Illinois law.

The property owner and turbine seller signed an easement agreement for the seller to install a turbine on defendant’s land for an annual fee.  The easement provided the turbine would remain the seller’s property and that the seller must remove the structure on 90 days’ notice.  The seller also had to remove the turbine when the easement ended.  The turbine seller then contracted with a general contractor to install the turbine who, in turn, subcontracted out various aspects of the installation.

The owner-general contractor agreement and the downstream subcontracts referenced the easement and stated the turbine system remained the seller’s property.

When the plaintiff sub-subcontractor didn’t get paid, he sued its subcontractor, ultimately getting an arbitration award of over $3M.  When that proved uncollectable after the subcontractor’s bankruptcy, the plaintiff sued the property owner to foreclose a mechanics lien it previously recorded to recover the unpaid judgment.  The trial court dismissed the suit on the basis that the turbine was a removable trade fixture that was non-lienable as a matter of law.

Affirming, the Second District first noted that Illinois’ Mechanics Lien Act (770 ILCS 60/0.01 et seq.)(MLA) protects those who furnish material or labor for the improvement of real property.  The MLA allows a claimant to record a lien where its labor, materials or services improves the property’s value. In Illinois, real estate improvements are lienable; trade fixtures are not.

The factors considered in determining whether equipment is lienable includes (1) the nature of attachment to the realty, (2) the equipment’s adaptation to and necessity for the purpose to which the premises are devoted, and (3) whether it was intended that the item in question should be considered part of the realty.  Crane Erectors & Riggers, Inc. v. LaSalle National Bank, 125 Ill.App.3d 658 (1984).

Intent (factor (3)) is paramount.  Even where an item can be removed from land without injuring it, doesn’t mean the item isn’t lienable. So long as the parties manifest an intent to improve the realty, a removable item can still be lienable.  Moreover, parties are free to specify in their contract that title to equipment furnished to property will not pass to the land owner until its fully paid for.

Applying the three-factored fixture test, the court found the  nature of attachment, and necessity of the item for production of wind energy weighed in favor of finding the turbine lienable.   However, the all-important intent factor (factor number 3 above) suggested the opposite.

The easement agreement specified the turbine seller retained its ownership interest in the turbine and could (and had to) remove it at the easement’s end.  The court wrote: “the easement agreement establishes that the tower was a trade fixture.”  (¶ 20)

The Court also found that plaintiff’s “third party” rights were not impacted since plaintiff’s sub-subcontract specifically referenced the easement and prime contract – both of which stated the turbine would remain seller’s property. (¶ 23)

The Court examined additional factors to decide whether the turbine was lienable.  From a patchwork of Illinois cases through the decades, the Court looked at (1) whether the turbine provided a benefit or enhancement to the property, (2) whether the turbine was removable without material damage to the property, (3) whether it was impractical to remove the item, (4) whether the item (turbine) was used to convert the premises from one use to another, and (5) the agreement and relationship between the parties.

The sole factor tilting (no pun intended) in favor of lienability was factor 4 – that the turbine was essential to converting the defendant’s land from farmland to harnessing of wind energy.  All other factors pointed to the turbine being a nonlienable trade fixture.

The Court noted the property owner didn’t derive a benefit from the turbine other than an annual rent payment it received and rent is typically not lienable under the law.  The Court also pointed out that the tower could be removed albeit it through a laborious and expensive process.  Lastly, and most importantly, the parties’ intent was that the turbine was to remain seller’s personal property and for it not to be a permanent property improvement. (¶¶ 38-39)

The Court also rejected the subcontractor’s remaining arguments that (1) the Illinois Property Tax Code evinced a legislative intent to view wind turbines as lienable improvements and (2) it is unfair to disallow the plaintiff’s lien claim since it could not have a security interest in the turbine under Article 9 of the Uniform Commercial Code (UCC).

On the tax issue, the Court held that Illinois taxes turbines to ensure that wind turbines do not escape taxation and is purely a revenue-generating device.  Taxation of a structure is not a proxy for lienability. (¶¶ 43-44)

The Court agreed with that the subcontractor plaintiff did not have a security interest in the turbine under UCC Section 9-334 since, under that section, security interests do not attach to “ordinary building materials incorporated into an improvement on land.”  Since the turbine was replete with building materials (e.g. concrete, rebar, electrical conduit), the UCC didn’t give the plaintiff a remedy.  The Court allowed that this was a harsh result but the parties’ clear intent that the turbine remain the seller’s personal property trumped the policy arguments.

Afterwords:

This case strikes a blow to contractors who install large structures on real estate. Even something as immense as a multi-piece turbine system, which seemingly has a “death grip”- level attachment to land, can be nonlienable if that’s what the parties intended.

Another case lesson is for contractors to be extra diligent and insist on copies of all agreements referenced in their contracts to ensure their rights are protected in other agreements to which they’re not a party.

The case also portrays some creative lawyering.  The court’s discussion of the taxability of wind turbines, UCC Article 9 and the difference between a lease (which can be lienable) and an easement (which cannot) and how it impacts the lienability question makes for interesting reading.

 

Set-off Is Counterclaim; Not Affirmative Defense – IL Court Rules in Partition Suit

Stadnyk v. Nedoshytko, 2017 IL App (1st) 152103-U views the counterclaim-versus-affirmative defense distinction through the prism of a statutory partition suit involving co-owners of a Chicago apartment building.

The plaintiff sued to declare the parties’ respective ownership rights in the subject property.  After the court issued a partition order finding the plaintiff and defendants had respective 7/8 and 1/8 ownership interests.  After the trial court ordered a partition of the property, the defendants filed affirmative defenses titled unjust enrichment, breach of fiduciary duty and equitable accounting.  Through all the “defenses” defendants sought to recoup property maintenance and repair expenses they made through the years.

The trial court struck defendants’ affirmative defenses on the basis that they were actually counterclaims and not defenses. The court also refused to award statutory attorneys’ fees to the plaintiff.  Each side appealed.

Affirming the trial court’s striking of the defendants’ affirmative defenses, the First District initially considered the difference between an affirmative defense and a counterclaim.

Code Section 2-608 provides that counterclaims in the nature of “setoff, recoupment, cross-claim or otherwise, and whether in tort or contract, for liquidated or unliquidated damages, or for other relief, may be pleaded as a cross claim in any action, and when so pleaded shall be called a counterclaim.” 735 ILCS 5/2-608

Code Section 2-613 governs affirmative defenses and requires the pleader to allege facts supporting a given defense and gives as examples, payment, release, satisfaction, discharge, license, fraud, duress, estoppel, laches, statute of frauds, illegality, contributory negligence, want or failure of consideration. 735 ILCS 5/2-613.

Counterclaims differ from affirmative defenses in that counterclaims seek affirmative relief while affirmative defenses simply seek to defeat a plaintiff’s cause of action.  In this case, the defendants’ did not seek to defeat plaintiff’s partition suit.  Instead, the defendants sought post-partition set-offs against sale proceeds going to plaintiff for defendants’ property maintenance and repair expenses.

A setoff is a counterclaim filed by a defendant on a transaction extrinsic to the subject of plaintiff’s suit.  Since the defendants styled their affirmative defenses as sounding in setoff and accounting – two causes of action (not defenses) – the Court affirmed the trial court’s striking the defenses.

The Court also reversed the trial court’s order refusing to apportion plaintiff’s attorneys fees.  Section 17-125 of the partition statute provides that a partition plaintiff’s attorney can recover his fees apportioned among the various parties since, in theory, the attorney acts for all interested parties.  However, where a party mounts a “good and substantial defense to the complaint,” the plaintiff’s attorneys’ fees should not be spread among the litigants. 735 ILCS 5/17-125.

Here, the defendants attempted to raise defenses (setoff and public sale, as opposed to private, was required) but only after the trial court entered the partition order.  Since the defendants didn’t challenge plaintiff’s partition request but instead sought a setoff for defendants’ contributions to the property and a public sale of the property, the trial court correctly concluded the defendants failed to raise good and substantial defenses under the partition statute.  As a consequence, the trial court should have apportioned plaintiff’s attorneys’ fees.

Afterwords:

Stadnyk cements the proposition that a counterclaim differs from an affirmative defense and that setoff fits into the former category.  The case also stresses that where a defendant seeks to recover damages from a plaintiff based on a collateral transaction (other than the one underlying the plaintiff’s lawsuit), defendant should file a counterclaim for a setoff rather than attempt to raise the setoff as a defense.

Other critical holdings from the case include that a court of equity lacks power to go against clear statutory language that require a public sale and partition plaintiff attorneys’ fees should only be apportioned where a defendant doesn’t raise a substantial defense to the partition suit.

 

 

Bank Escapes Liability Where It Accepts Two-Party Check With Only One Indorsement – IL ND

BBCN Bank v. Sterling Fire Restoration, Ltd., 2016 WL 691784 homes in on the required showing to win a motion for judgment on the pleadings in Federal court, the scope of a general release, and the UCC section governing joint payee or “two-party” checks.

The plaintiff, an assignee of a fire restorer’s claim who did some repair work on a commercial structure, sued two banks for paying out on a two-party check (the “Check”) where only one payee indorsed it. The Assignor was a payee on the Check but never indorsed it.

The banks moved for summary judgment on the ground that the assignor previously released its claims to the Check proceeds in an earlier lawsuit and filed a third-party suit against the assignor for indemnification.  The assignor moved for judgment on the pleadings on the banks’ third-party action.

Result: Bank defendants’ motions for summary judgment granted; Assignor’s judgment on the pleadings motion (on the banks’ third-party indemnification claims) denied.

Rules/Reasons:

FRCP 12(c) governs motions for judgment on the pleadings.  A party can move for judgment on the pleadings after the complaint and answer have been filed.  When deciding a motion for judgment on the pleadings, the Court considers only the contents of the filed pleadings – including the complaint, answer, and complaint exhibits.  Like a summary judgment motion, a motion for judgment on the pleadings should be granted only if there are no genuine issues of material fact to be resolved at trial.

FRCP 56 governs summary judgment motions.  A party opposing a summary judgment must “pierce” (go beyond) the pleadings and point to evidence in the record (depositions, discovery responses, etc.) that creates a genuine factual dispute that must be decided after a trial on the merits.

UCC section 3-110 applies to checks with multiple payees.  It provides that if an instrument is jointly payable to 2 or more persons (not “alternatively”), it can only be negotiated, discharged or enforced by all of the payees.  810 ILCS 5/3-110(d).

Here, since both payees did not sign the Check, the banks plainly violated section 3-110 by accepting and paying it.  The Check was payable to two parties and only one signed it.

The banks still escaped liability though since the assigning restoration company previously released its claims to the Check proceeds.  In Illinois, a general release bars all claims a signing party (the releasor) has actual knowledge of or that he could have discovered upon reasonable inquiry.

Here, the assignor’s prior release of the bank defendants was binding on the plaintiff since an assignee cannot acquire greater rights to something than its assignor has.  And since the plaintiff’s claim against the banks was previously released by plaintiff’s assignor, plaintiff’s lawsuit against the banks were barred.

The Assignor’s motion for judgment on the pleadings on the banks’ third-party claims was denied due to factual disputes.  Since the court could not tell whether or not the assignor misrepresented to the plaintiff whether it had assigned its claim by looking only at the banks’ third-party complaint and the assignor’s answer, there were disputed facts that could only be decided after a trial.

Take-aways:

  • Motions for judgment on the pleadings and summary judgment motions will be denied if there is a genuine factual dispute for trial;
  • A summary judgment opponent (respondent) must produce evidence (not simply allegations in pleadings) to show that there are disputed facts that can only be decided on a full trial on the merits;
  • The right remedy for a UCC 3-110 violation is a conversion action under UCC section 3-420;
  • In sophisticated commercial transactions, a broadly-worded release will be enforced as written.

 

Turnover Order Against Debtor’s Wife’s Company Upheld – IL First District

While the amount of the turnover order – less than $6,000 – challenged in Xcel Supply, LLC v. Horowitz, 2018 IL App (1st) 162986 was but a fraction of the underlying judgment – over $600,000 – the case provides a useful discussion of the interplay between Section 2-1402 and Rule 277 – Illinois’s twin supplementary (post-judgment) proceedings authorities – and when a third-party citation respondent is entitled to an evidentiary hearing.

About a month after a trial court entered a money judgment against defendant, his wife – through her company – wrote six checks to the defendant/ judgment debtor over a three-month span totaling $5,220.

On the creditor’s turnover motion, the trial court ordered the debtor’s wife and third-party citation respondent (the Respondent) to turn over $5,220 to plaintiff’s counsel (defendant’s wife’s company). The Respondent appealed.

Affirming, the Court examined Code Section 2-1402 and Rule 277 to assess whether the turnover order was supported by competent proof.

Code Section 2-1402(a) permits a judgment creditor to prosecute supplementary proceedings to discover assets or income of the debtor and apply assets or income discovered toward the payment of the judgment.

The creditor can initiate post-judgment proceedings against the debtor or any other third party who may have information concerning income or assets belonging to the judgment debtor.

Code Section 2-1402 vests the Court with broad powers to compel any person to deliver assets to be applied towards satisfaction of the judgment in situations where the judgment debtor can recover those assets. An order compelling a third-party to deliver assets in full or partial satisfaction of the judgment is called a turnover order. A court can enter judgement against someone who violates a citation’s restraining provision in the amount of the property transferred or up to the judgment amount. 2-1402(f)(1); ⁋⁋ 40-41.

Rule 277 works in tandem with Section 2-1402 and specifies how supplementary proceedings are conducted. Among other things, the Rule allows “any interested party” to subpoena witnesses and adduce evidence in the same manner it could at a civil trial.

Where a judgment creditor and third-party citation respondent each claim superior rights to the same debtor assets, the trial court should conduct an evidentiary hearing. However, where only the judgment creditor is claiming rights in the debtor’s assets, the trial court can decide the post-judgment proceeding without an evidentiary hearing.

Here, because the Respondent was the debtor’s wife – the Court viewed her as an illusory citation respondent. That is, the debtor and Respondent acted as a united front. Because this was not the prototypical “tug-of-war” between a judgment creditor and third-party citation respondent, the trial court was able to rule on the respondent’s argument without an evidentiary hearing.

The Court also rejected the respondent’s argument that the turnover order lacked an evidentiary basis. The Court noted that the judgment debtor admitted in his affidavit to cashing all six checks from the Respondent’s company and that Respondent did nothing to stop him from cashing the checks.

Since the Respondent never challenged the debtor’s right to cash the checks, the Court viewed it as strong proof that the checks were the debtor’s property to spend as he pleased.

Finally, the Court rejected Respondent’s argument that the money sent to the debtor wasn’t really his money as the funds were earmarked for their children’s expenses. According to the court, since both the debtor and Respondent had equal parental obligations to pay their children’s expenses, whether or not the money was for child expenses didn’t negate the trial court’s finding that the checks were defendant’s property and Respondent violated the citation by transferring the checks to the defendant after the date of the money judgment.

Afterwords: This case shows that citation restraining provisions which bar a third-party citation respondent from transferring money or property belonging to or to become due a judgment debtor have teeth.

While an evidentiary hearing is normally required where there are competing claimants to the same pool of assets, this rule is relaxed where the citation respondent is aligned (here, through marriage) with the debtor. In such a case, the court will look beyond the legal nomenclature and assess the reality of the parties’ relationship. Where the third-party citation respondent doesn’t have a meaningful claim to transferred debtor assets, the Court can decide a turnover motion without hearing live witness testimony.

Lost Profits: Direct Or Indirect Damages? (And Why It Matters)

Two species of compensation in breach of contract lawsuits are (1) direct damages and (2) indirect damages.  The former allows a plaintiff to recover money damages that flow directly from a breach while the latter – sometimes labeled “consequential” damages – are more remote and separated from the breach.

Deciphering the difference between the two damage regimes is easy in theory but often difficult in practice.

At the intersection of the two damages types lies the lost profits remedy.  Lost profits damages allow the non-breaching party to recover profits he would have earned had the breaching party performed under the terms of the contract.  They (lost profits) divide into direct or indirect damages depending on the facts.

Westlake Financial Group, Inc. v. CDH-Delnor Health System, 2015 IL App(2d) 140589 spotlights the lost profits question in a dispute between two businesses over an insurance brokerage contract (the “Insurance Contract”) and a separate on-line claims tracking agreement (“the Tracking Contract”).

Both contracts spanned four years with 60-day termination clauses.  The plaintiff sued when the defendant prematurely cancelled both Contracts with more than two years left on them.  Plaintiff sought damages for lost Insurance Contract insurance commissions and for fees it would have earned under the Tracking Contract.

The trial court granted the defendant’s motion to dismiss and the plaintiff appealed.

Result: Reversed in part.

The trial court dismissed the bulk of plaintiff’s claims based on a limitation of damages clause in the Insurance Contract that immunized the defendant from consequential damages.

In Illinois, contract damages are measured by the amount of money needed to place the plaintiff in  the same position he would be if the contract was performed.  Damage limitation provisions in contracts are enforced so long as they don’t offend public policy.  These limitation clauses are strictly construed against the party benefitting from them.  (¶¶ 29-30).

Direct damages or “general damages” flow directly and without interruption from the type of wrong alleged in a complaint.  By contrast, indirect or consequential damages are losses that are removed from the breach and usually involve an intervening event that causes the damage.

Lost profits can constitute either direct damages or indirect damages depending on the facts.  Where a plaintiff’s lost profits damages result directly from a defendant’s breach, the lost profits are recoverable as direct damages.

A prototypical direct lost profits damages example cited by the court is where a phone directory publisher is liable for lost profits caused by its failure to include a business’s name in the directory.  In that scenario, any lost profits suffered by the business are directly attributable to the publisher’s failure to publish the business name in the directory – the very thing it was hired to do.  (¶¶ 32-35).

The Insurance Contract here contained a consequential damages exclusion and specifically mentioned lost profits as a type of consequential damages.  Still, the court found that the exclusion did not bar plaintiff’s direct lost profits claim.  The court noted that the Insurance Contract’s damage limitation provision only mentioned lost profits as an example of consequential damages.  It didn’t say that lost profits were categorically excluded.

The court also rejected defendant’s argument that plaintiff’s claimed damages were too speculative to merit recovery.

Under Illinois law, damages are speculative where their existence is uncertain; not when there amount is uncertain.

Since lost profits can’t be proven with mathematical certainty, the plaintiff only has to show a “reasonable basis” for their (lost profits) computation.  (¶ 51).

Since the plaintiff premised its Insurance Contract lost profits claim on a four-year track record of calculable insurance commissions, the court found the plaintiff sufficiently pled the existence of damages.  Any dispute in the amount of plaintiff’s damages was an issue later for trial.  At the motion to dismiss stage, plaintiff sufficiently pled a breach of contract claim.  (¶¶ 52-53).

Afterwords:

– Consequential damages exclusion that mentions lost profits – as a type or example of consequential damages – won’t preclude lost profits that are a direct result (as opposed to an indirect result) of the breach of contract;

– A business plaintiff’s past profits from prior years can serve as sufficient gauge of future lost profits in a breach of contract claim.

 

Creditor (Bank) -Debtor (Borrower) Relationship Not A Fiduciary One – IL First Dist. (I of II)

Kosowski v. Alberts, 2017 IL App (1st) 170622 – U, examines some signature commercial litigation remedies against the factual backdrop of a business loan default.

The plaintiffs, decades-long business partners in the printing and direct mail industry, borrowed money under a written loan agreement that gave the lender wide-ranging remedies upon the borrowers’ default. Plaintiffs quickly fell behind in payments and went out of business within two years. A casualty of the flagging print media business, the plaintiffs not only defaulted on the loan but lost their company collateral – the printing facility, inventory, equipment and accounts receivable -, too.

Plaintiffs sued the bank and one of its loan officers for multiple business torts bottomed on the claim that the bank prematurely declared a loan default and dealt with plaintiffs’ in a heavy-handed way.  Plaintiffs appealed the trial court’s entry of summary judgment for the defendants.

Affirming, the First District dove deep into the nature and reach of the breach of fiduciary duty, consumer fraud, and conversion torts under Illinois law.

The court first rejected the plaintiff’s position that it stood in a fiduciary position vis a vis the bank. A breach of fiduciary duty plaintiff must allege (1) the existence of a fiduciary duty on the part of the defendant, (2) defendant’s breach of that duty, and (3) damages proximately resulting from the breach.

A fiduciary relationship can arise as a matter of law (e.g. principal and agent; lawyer-client) or where there is a “special relationship” between the parties (one party exerts influence and superiority over another).  However, a basic debtor-creditor arrangement doesn’t rise to the fiduciary level.

Here, the loan agreement explicitly disclaimed a fiduciary arrangement between the loan parties.  It recited that the parties stood in an arms’ length posture and the bank owed no fiduciary duty to the borrowers.  While another loan section labelled the bank as the borrowers’ “attorney-in-fact,” (a quintessential fiduciary relationship) the Court construed this term narrowly and found it only applied upon the borrower’s default and spoke only to the bank’s duties concerning the disposition of the borrowers’ collateral.  On this point, the Court declined to follow a factually similar Arkansas case (Knox v. Regions Bank, 103 Ark.App. 99 (2008)) which found that a loan’s attorney-in-fact clause did signal a fiduciary relationship.  Knox had no precedential value since Illinois case authorities have consistently held that a debtor-creditor relationship isn’t a fiduciary one as a matter of law. (¶¶ 36-38)

Next, the Court found that there was no fiduciary relationship as a matter of fact.  A plaintiff who tries to establish a fiduciary relationship on this basis must produce evidence that he placed trust and confidence in another to the point that the other gained influence and superiority over the plaintiff.  Key factors pointing to a special relationship fiduciary duty include a disparity in age, business acumen and education, among other factors.

Here, the borrowers argued that the bank stood in a superior bargaining position to them.  The Court rejected this argument.  It noted the plaintiffs were experienced businessmen who had scaled a company from 3 employees to over 350 during a three-decade time span.  This lengthy business success undermined the plaintiffs’ disparity of bargaining power argument

Take-aways:

Kosowski is useful reading for anyone who litigates in the commercial finance arena. The case solidifies the proposition that a basic debtor-creditor (borrower-lender) relationship won’t rise to the level of a fiduciary one as a matter of law. The case also gives clues as to what constitutes a special relationship and what degree of disparity in bargaining power is required to establish a factual fiduciary duty.

Lastly, the case is also instructive on the evidentiary showing a conversion and consumer fraud plaintiff must make to survive summary judgment in the loan default context.

 

Binding LLC to Operating Agreement A Substantive Change in Illinois Law; No Retroactive Effect – IL Court

The summer of 2017 ushered in a slew of changes, to Illinois’ limited liability company statute, 805 ILCS 180/15-1 et seq. (the “Act”).  Some of the key Act amendments included clarifying LLC member rights to access company records, explaining if and when a member or manager’s fiduciary duties can be eliminated or reduced, tweaking the Act’s judgment creditor remedies section, and changing the Act’s conversion (e.g. partnership to LLC or vice versa) and domestication rules.

Q Restaurant Group Holdings, LLC v. Lapidus, 2017 IL App (2d) 170804-U, examines another statutory change – one that binds an LLC to an operating agreement (OA) even where the LLC doesn’t sign it. See 805 ILCS 180/15-5.

The OA is the LLC’s governing document that sets forth each member’s (or manager’s) respective rights and obligations concerning contribution, distribution, voting rights and the like. The OA’s signing parties are typically the LLC members/managers – not the LLC itself.  Legally, this is significant because under privity of contract principles – only a party to a written agreement can sue to enforce it.

2017’s LLC Act changes make it clear that the LLC entity has standing to sue and be sued under the OA regardless of whether or not the LLC signed it.

The plaintiff in Lapidus sued the defendant for various business torts including conversion and tortious interference with contract. The defendant moved to dismiss the suit based on mandatory arbitration language in the OA.  Denying defendant’s Section 2-619 motion, the Court held that since the amended Section 15-5 of the Act worked a substantive change to the former LLC Act section, it didn’t apply retroactively. (The OA in Lapidus preceded the 2017 amendments.)

Rules/reasoning:

Affirming the trial court, the First District examined the dichotomy between procedural and substantive changes to legislation.  Where a statutory amendment is enacted after a lawsuit is filed, the Court looks to whether the legislature specified the reach (i.e. does it apply retroactively?) of the amendment.  Where new legislation is silent on its scope, the Court determines whether a given amendment is procedural or substantive.  If procedural, the amendment has retroactive effect.  If the change is substantive, however, it will only apply prospectively.

A procedural change is one that “prescribes the method of enforcing rights or obtaining redress” such as pleadings, evidence and practice.  A substantive change, by contrast, is one that establishes, creates or defines legal rights.  (¶¶ 15-16; citing to Landgraf v. USI Film Products, 511 U.S. 244, 280 (1994); 5 ILCS 70/4 (Illinois’s Statute on Statutes))

In finding that amended Section 15-5 was a substantive change to Illinois’ LLC Act (and therefore couldn’t be applied retroactively) the court noted the amended statute “established a contractual right” by binding the LLC to an OA it never signed.

Since the plaintiff LLC in Lapidus never signed the OA, the Court couldn’t require the plaintiff to follow the OA’s arbitration clause without substantially altering the LLC’s contract rights.  As a result, the Court held that amended Section 15-5 did not apply to the pre-amendment OA and the plaintiff didn’t have to adhere to the arbitration clause.t have to adhere to the OA’s arbitration provisions. (¶¶ 18-19).

Afterwords:

I. To decide if a statutory amendment applies retroactively (as opposed to only being forward-looking), the court considers whether the change is procedural or substantive.

II. While the distinction between procedural and substantive isn’t always clear, Lapidus stands for proposition a change in the law that alters a parties basic contract rights (such as by making a non-party a party to an operating agreement) is substantive and will only apply in the future.

III.  And though the case is unpublished, Lapidus still makes for interesting reading in light of Illinois’ manifold LLC Act changes.  With so many recent statutory changes (see here_for example), this case likely augurs an uptick in cases interpreting the 2017 LLC Act amendments.

Appeals Court Gives Teeth to “Good Faith” Requirement of Accord and Satisfaction Defense

A common cautionary tale recounted in 1L contracts classes involves the crafty debtor who secretly short-pays a creditor by noting  “payment in full” on his check. According to the classic “gotcha” vignette, the debtor’s devious conduct forever bars the unwitting creditor from suing the debtor.

Whether apocryphal or not (like the one about the newly minted lawyer who accidentally brought weed into the courthouse and forever lost his license after less than 3 hours of practice) the fact pattern neatly illustrates the accord and satisfaction rule.

Accord and satisfaction applies where a creditor and debtor have a legitimate dispute over amounts owed on a note (or other payment document) and the parties agree on an amount (the “accord”) the debtor can pay (the “satisfaction”) to resolve the disputed claim.

Piney Ridge Associates v. Ellington, 2017 IL App (3d) 160764-U reads like a first year contracts “hypo” come to life as it reflects the perils of creditor’s accepting partial payments where the payor recites “payment in full” on a check.

Piney Ridge’s plaintiff note buyer sued the defendant for defaulting on a 1993 promissory note. The defendant moved to dismiss because he wrote “payment in full” under the check endorsement line. The trial court agreed with the defendant that plaintiff’s acceptance of the check was an accord and satisfaction that defeated plaintiff’s suit.

The 3rd District appeals court reversed; it stressed that a debtor’s duplicitous conduct won’t support an accord and satisfaction defense.

Under Illinois law, an accord and satisfaction is a contractual method of discharging a debt: the accord is the parties’ agreement; the satisfaction is the execution of the agreement.

In deciding whether a transaction amounts to an accord and satisfaction, the court focuses on the parties’ intent.

Article 3 of the Uniform Commercial Code (which applies to negotiable instruments) a debtor who relies on the accord and satisfaction defense must prove (1) he/she tendered payment in good faith as full satisfaction of a claim, (2) the amount of the claim was unliquidated or subject to a bona fide dispute; and (3) the claimant obtained payment from the debtor. 810 ILCS 5/3-311(a).

Good faith means honesty in fact and observing “reasonable commercial standards of fair dealing.” The debtor must also provide the creditor with a conspicuous statement that the debtor’s payment is tendered in full satisfaction of a claim. (⁋12)(810 ILCS 5/3-311(a), (b)). Without an honest dispute, there is no accord and satisfaction. (⁋ 14)

A debtor who fails to act in good faith cannot bind a creditor to an accord and satisfaction. Case examples of a court refusing to find an accord and satisfaction include defendants who, despite clearly marking their payment as “in full”, paid less than 10% of a workers’ compensation lien in one case, and in another, paid less than half the plaintiff’s total invoice amount and lied to the plaintiff’s agent about past payments. (⁋⁋ 13, 14)(citing to Fremarek v. John Hancock Mutual Life Ins. Co., 272 Ill.App.3d 1067 (1995); and McMahon Food Corp. v. Burger Dairy Co., 103 F.3d 1307 (7th Cir. 1996).

Applying this good faith requirement, the Court noted that the defendant paid $354 to the plaintiff at the time the defendant admittedly owed over $10,000 (defendant sent a pre-suit letter to the prior noteholder conceding he owed $10,000 on the note). The Court held that this approximately $7,600 shortfall clearly did not meet accord and satisfaction’s good faith component.

Bullet-points:

  • Accord and satisfaction requires good faith on the payor’s part and a court won’t validate debtor subterfuge.
  • Where the amount paid “in full” is dwarfed by the uncontested claim amount, the Court won’t find an accord and satisfaction.
  • Where there is no legitimate dispute concerning a debt’s existence and amount, there can be no accord and satisfaction.

 

 

No Automatic Finality Where Pleading Never Amended After ‘Without Prejudice’ Dismissal – IL Court

Richter v. Prairie Farms Dairy, Inc.’s, (2016 IL 119518) essential holding is that a prior dismissal without prejudice doesn’t convert to a final order for res judicata or appeal purposes where a plaintiff fails to amend the dismissed pleading within the time deadline set by the court and the movant defendant doesn’t seek a dismissal with prejudice.

Claiming their membership in an agriculture cooperative was unfairly terminated, the Richter plaintiffs sued the defendant co-op for statutory shareholder remedies under the Illinois Business Corporation Act, 805 ILCS 5/12.56 (BCA), and common law fraud. Plaintiffs’ key theory was that defendant prematurely and pretextually terminated a milk marketing agreement by invoking an obscure bylaws provision in the agreement.

The trial court dismissed plaintiffs’ fraud claims without prejudice and gave them 30 days to amend their complaint – a deadline ultimately increased to 120 days. Plaintiffs never amended their fraud claims though, instead choosing to pursue the BCA claim. After nearly five years of litigation, the plaintiff sought the voluntary dismissal of the BCA claim and later refiled another action within the one-year window allowed by 735 ILCS 5/2-1009.

The trial court granted the defendant’s 2-619 motion to dismiss the refiled suit under res judicata principles. It found the plaintiffs’ failure to amend the fraud claims “finalized” the prior dismissal without prejudice order and barred plaintiffs’ refiled suit.  The Fourth District reversed.  It held the trial court’s dismissal without prejudice was not final on its face and could never support a res judicata finding. Defendant appealed to the Illinois Supreme Court.

Affirming the appeals court, the Supreme Court dove deep into the earmarks of a final judgment for appeal and res judicata purposes and examined when an involuntary dismissal precludes the later refiling of a lawsuit.

Res judicata requires a final judgment on the merits for the doctrine to preclude a second lawsuit between two parties for the same cause of action. The doctrine bars not only what was actually decided in a prior action, but also matters that could have been litigated and decided in that action.

A “final” judgment or order denotes one that terminates the litigation and absolutely fixes the parties’ rights so that all that’s left is enforcing the judgment. (⁋24)
Illinois Supreme Court Rule 273 provides that an involuntary dismissal – other than one for lack of jurisdiction, improper venue, or failure to join an indispensable party – is considered an adjudication on the merits.

A dismissal “without prejudice” signals there was no final decision on the merits. A dismissal that grants a plaintiff leave to amend its pleading is not final because the dismissal does not terminate the litigation. (⁋25). In such a case, a plaintiff is not barred from refiling an action. s

The Illinois Supreme Court declined the defendant’s invitation to create an “automatic final judgment ” rule when a plaintiff fails to amend within court-imposed time limits. Instead, the Court placed the onus on the litigants to convert a non-final dismissal order into a final one by seeking a dismissal with prejudice once the time for amendments has lapsed. And since the defendant had the burden of showing that res judicata applied and failed to obtain a definite with prejudice dismissal of plaintiff’s claims, the plaintiff was not prevented from refiling their lawsuit.

But What About Rein and Hudson?

Rein v. David A. Noyes & Co., 172 Ill.2d 325, 334–35 (1996) and Hudson v. City of Chicago, 228 Ill.2d 462, 467 (2008) are oft-cited case law poster children for the perils of refiling previously (voluntarily) dismissed claims when other claims in the same suit were involuntarily dismissed. In such a case, a plaintiff’s refiled action can be barred by res judicata since the voluntarily dismissed claims could have been litigated in the earlier suit.  But here, unlike in Rein and Hudson, no part of plaintiff’s suit was dismissed with prejudice. And since a nonfinal order can never bar a subsequent action, res judicata didn’t apply.

Implication

When faced with a dismissal without prejudice, a plaintiff should quickly seek leave to amend or seek a dismissal with prejudice to start the notice of appeal clock. For its part, a defendant should seek with- prejudice dismissal language where a plaintiff fails to amend within time limits allowed by the court. Doing so will put the defendant in a good position to file a dismissal motion predicated on res judicata or claim-splitting if the plaintiff later refiles against the same defendant.

Commission Payment Terms in Employment Contract Trump Cable Rep’s ‘Procuring Cause’ Claim in Sales Contract Spat – IL Court

I once represented a client who sued his former employer – an energy company – for unpaid commission and bonuses.  Before he hired me, the client filed a pro se administrative claim with the Illinois Department of Labor (DOL) to recover the monies.  The DOL found in my client’s favor but could not decide on a specific dollar amount. Several months later, I sued to recover under the Illinois Wage Payment and Collection Act (Wage Act) and for breach of contract.  In that case, which settled favorably for us, the employer unsuccessfully argued my client’s prior DOL case precluded our civil Wage Act claim.  The trial court rejected this res judicata argument on the basis that the DOL proceeding was not equivalent to a prior adjudication on the merits.

Borum v. Wideopenwest Illinois, LLC, 2015 IL App (1st) 141482-U, a two-year old, unpublished decision, presents a similar fact pattern and considers whether an ex-employee’s earlier administrative claim prevents a later civil lawsuit against the same employer for the same claim.  The case also spotlights the interplay between an employment agreement’s payment terms and the procuring cause doctrine in a sales commissions dispute.

Defendant hired plaintiff to prospect for cable customers.  It agreed to pay plaintiff a commission based on customers he signed up.  The defendant’s standard employment contract documented the plaintiff’s commission payment rights: plaintiff earned his commission once a customer signed a right-of-entry agreement with the cable supplier.

After lodging an unsuccessful DOL, plaintiff sued the cable company in state court to recover unpaid sales commissions. The trial court granted defendant’s motion to dismiss all counts of the plaintiff’s complaint and plaintiff appealed.

Affirming the trial court’s dismissal, the Court first considered whether the plaintiff’s DOL proceeding barred his civil suit under res judicata or collateral estoppel principles.  Section 14 of the Wage Act authorizes an employee to file either a DOL claim or a civil action, but not both, to recover underpayment damages along with 2% per month of the underpaid amount.

The DOL ruled against the plaintiff.  It found the right-of-entry agreements were not consummated until signed by both a customer and the defendant employer.)

The Court found the DOL hearing was too informal and not “judicial” or “adjudicatory” enough to defeat plaintiff’s later civil suit under the res judicata rule.

Res judicata requires a final judgment on the merits by a court of competent jurisdiction.  Collateral estoppel precludes litigation of an issue previously decided in an earlier proceeding.  Res judicata and collateral estoppel can extend to administrative proceedings that are judicial, adjudicatory or quasi-judicial in nature.

So where administrative proceedings involve sworn testimony, are adversarial in nature and include cross-examination of witnesses, they can bar a subsequent civil suit.

Here, since the DOL conducted only an informal hearing with no cross-examination or sworn witnesses, the DOL had no adjudicatory power over the parties and so its finding for defendant had no preclusive effect against the plaintiff’s lawsuit.

The court also rejected plaintiff’s procuring cause argument.  Designed to soften the harsh impact of at-will contracts, the procuring cause doctrine allows a departed salesperson to recover commissions on sales he/she consummated before his/her employment ends even where the money isn’t paid to the employer until after the salesperson departs.  The procuring cause rule is only a gap filler though: it’s a default rule that only applies where a contract is silent on when commissions are paid.

Since plaintiff’s contract with defendant specifically provided plaintiff would be paid commissions earned during (but not after) the period of the employment, the court found this specific enough to vitiate the procuring cause rule.

Lastly, the Court considered whether defendant violated its handbook which stated compensation terms could only be changed on 30 days advance notice.  Plaintiff argued that the defendant made a unilateral change to its compensation policy without giving plaintiff the requisite notice.

The key question for the Court was whether the employee manual was an enforceable contract. For an employee handbook to vest an employee with binding contract rights, (1) the handbook promise must be clear enough that an employee reasonably believes and offer has been made, (2) the handbook offer must be distributed to the employee so that he/she actually receives it or is aware of its contents; the (3) the employee must accept the offer by commencing work after learning of the policy statement.

Since the plaintiff conceded he wasn’t aware of the employee manual until the day he was fired, the court found he couldn’t reasonably show the handbook provided him with enforceable contract rights. (¶¶ 83-85).

Bullet-points:

  • Administrative claims can support a res judicata defense but only where the administrative hearing is adversarial (judicial) in nature; such as where witnesses give sworn testimony that can be tested on cross-examination;
  • The procuring cause rule won’t trump specific contract payment terms;
  • A written employer policy on compensation adjustments isn’t binding against an employer where the aggrieved employee isn’t aware of the policy until on or after he/she’s fired.

 

 

 

 

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Commercial Borrowers’ Civil RICO Suit For Inflated Appraisals and Loans Bounced by IL Fed Court

 

Delaware Motel Associates v. Capital Crossing Servicing Company, LLC, 2017 WL 4224618 examines the pleading requisites for civil RICO claims and the razor-thin difference between unjust enrichment and quantum meruit claims in a hotel development loan dispute.

The plaintiff real estate investors sued a lender and its appraisal firm for civil RICO violations.  The plaintiffs alleged the appraiser and lender plotted to issue fraudulent loans based on inflated property values over a multi-year span.  The Northern District of Illinois granted Defendants’ motion to dismiss the claims under Rule 12(b)(6).

Reasons:

To state a cognizable RICO claim, a plaintiff must plead (1) conduct (2) of an enterprise (3) through a pattern (4) of racketeering activity. To satisfy the enterprise element – item (2) – the plaintiff has to allege “a group of persons acting together for a common purpose or course of conduct.” Here, the plaintiffs’ complaint was devoid of specific allegations that defendants worked together to advance a common objective and lacked any facts showing defendants’ common purpose.

The plaintiffs also failed to adequately allege defendants engaged in racketeering activity. Quintessential RICO conduct includes mail and wire fraud, bank fraud, extortion and money laundering. 18 U.S.C. § 1961(1). Because of their inherently fraudulent make-up, these predicate acts must be pled with acute specificity under Rule 9(b).

To satisfy Rule 9(b)’s heightened pleading standard, the civil RICO plaintiff must allege the time, place, and content of the alleged fraud.  While Federal pleading rules sometimes allow fraud to be pled “on information and belief,” the plaintiff still must supply “some firsthand information to provide grounds to corroborate their suspicions.”  The Court found the plaintiff’s mail, wire and bank fraud allegations sparse since they didn’t identify a specific fraudulent loan or inflated land appraisal.

The Court also dispatched with the plaintiffs’ intentional interference with prospective economic advantage claim.  This requires a plaintiff to allege: (1) he had a reasonable expectancy of a valid business relationship; (2) the defendant knew about the expectancy; (3) the defendant intentionally interfered with the expectancy and prevented it from ripening into a valid business relationship; and (4) the intentional interference injured the plaintiff.

In their Complaint, plaintiffs failed to allege any defendant who knew of plaintiff’s reasonable expectancy of a valid business relationship who purposefully tampered with the expectancy.

Rejecting plaintiffs’ unjust enrichment and quantum meruit claims, the court again focused on plaintiffs’ pleading deficits.  The plaintiffs failed to allege the critical unjust enrichment element that plaintiff conferred a benefit on defendants which they unfairly kept.  The plaintiffs similarly failed to plead quantum meruit as the Complaint was missing allegations that plaintiff performed a service that benefitted defendants.

Useful Bullet-Points

– This case provides a useful pleadings primer for civil RICO cases and emphasizes the paramount importance of factual specificity in fraud-based claims.  To allege a RICO enterprise, the plaintiff must allege concerted actions by a group of people to pursue a common goal.

– A viable racketeering claim sounding in mail or wire fraud requires specific factual allegations.  Otherwise, the RICO claim can be subject to Rule 12(b)(6) dismissal.

 

Marital Privilege Argument Premature in Insurance Broker’s Trade Secrets Case Against Former Agent – IL ND

The district court in Cornerstone Assurance Group v. Harrison discusses the Federal court plausibility standard for pleadings and considers whether Illinois’s marital privilege statute defeats an insurance broker’s trade secrets suit against a former employee.

The defendant signed an employment contract that contained a confidentiality provision covering plaintiff’s financial information, marketing plans, client leads, prospects, and lists along with fee schedules, and computer software.  Plaintiff paid defendant $1,000 not to disclose plaintiff’s confidential information.

The plaintiff alleged the defendant disclosed the information – including a protected client list and private medical data – to her husband, who worked for a competing broker.  The plaintiff alleged the competitor used that information to recruit plaintiff’s employees.  The defendant moved to dismiss the plaintiff’s claims under Rule 12(b)(6).

Trade Secrets Claim

Denying the motion, the court first looked to the pleading requirements of a claim under the Illinois Trade Secrets Act (ITSA), 765 ILCS 1065/1, et seq.To prevail on a claim for misappropriation of a trade secret under the [ITSA], the plaintiff must demonstrate (1) the information at issue was a trade secret, (2) that the information was misappropriated, and (3) that it was used in the defendant’s business.

ITSA defines a trade secret as information, data, a formula, pattern, compilation, program, device, method, technique, drawing, process, financial data, or list of actual or potential customers or suppliers, that is (1) sufficiently secret to derive economic value, actual or potential, from not being generally known to other persons who can obtain economic value from its disclosure or use; and (20 is the subject of efforts that are reasonable under the circumstances to maintain its secrecy or confidentiality. 765 ILCS 1065/2(d)

The law does not confer trade secret status for information “generally known or understood within an industry even if not to the public at large.”  A plaintiff also foregoes trade secret protection where it fails to take affirmative measures to keep others from using the proprietary information.  In addition to these statutory guideposts, Illinois case law considers several additional factors that inform the trade secrets analysis.  These include: (1) the extent to which the information is known outside of the plaintiff s business; (2) the extent to which the information is known by employees and others involved in the plaintiff s business; (3) the extent of measures taken by the plaintiff to guard the secrecy of the information; (4) the value of the information to the plaintiff s business and to its competitors; (5) the amount of time, effort and money expended by the plaintiff in developing the information; and (6) the ease or difficulty with which the information could be properly acquired or duplicated by others.  No one factor predominates but the more factors present increases plaintiff’s chances of establishing a trade secret.

The Court held the plaintiff alleged sufficient facts to show that some of the information allegedly misappropriated was a trade secret.  Under Illinois law, a list of actual or potential customers as well as insurance claims data can qualify as a trade secret under certain facts.  The plaintiff’s Complaint allegations that it spent several years developing the confidential data at issue and that it wasn’t accessible to others satisfied the pleading requirements for a valid trade secrets case.

Marital Communications Privilege

The Court held it was too soon to address Defendant’s argument that the marital privilege statute negated Plaintiff’s claims.  The marital privilege attaches to husband and wife communications.  But a spouse’s communication to a third party waives the privilege and a litigant is free to use that communication against its adversary.  The marital privilege also doesn’t extend to subsequent uses of protected communication.  See 735 ILCS 5/8-801 (husband and wife may not testify to communication or admission made by either of them to each other.)

While the court opted to table the privilege issue until after discovery, the Court noted the plaintiff alleged the defendant disclosed trade secrets not only to her husband but to a third party – the husband’s employer. Since the Complaint established it was possible the defendant shared information with someone other than her husband, the marital privilege didn’t bar plaintiff’s claims at the case’s pleading stage.

Afterwords

This case represents a court flexibly applying Rule 12’s plausibility standard in the trade secrets context.  Solidifying the proposition that a plaintiff doesn’t have to plead evidence or try its case at the pleading stage, the Court makes clear that disclosure of a trade secret to even a single competitor can satisfy the misappropriation prong of a trade secrets claim.  Harrison also shows the marital communications privilege won’t apply to information that escapes a husband-wife union.  A complaint’s plausible allegation that protected information went beyond the confines of the marital union nullifies the marital privilege.

Contractual Indemnity Clause May Apply to Direct Action in Bond Offering Snafu; No Joint-Work Copyright Protection for PPM – IL ND

The Plaintiff in UIRC-GSA Holdings, Inc. v. William Blair & Company, 2017 WL 3706625 (N.D.Ill. 2017), sued its investment banker for copyright infringement and professional negligence claiming the banker used the plaintiff’s protected intellectual property – private placement memoranda – to get business from other clients.  The parties previously executed an engagement agreement (“Agreement”) which required the banker to facilitate plaintiff’s purchase of real estate through bond issues.

The banker denied infringing plaintiff’s copyrights and counterclaimed for breach of contract, contractual indemnity and tortious interference with contract.  Plaintiff moved to dismiss all counterclaims.

In partially granting and denying the (12(b)(6)) motion to dismiss the counterclaims, the Northern District examined the pleading elements for joint-author copyright infringement and tortious interference claims and considered the reach of contractual indemnification provisions.

The counterclaiming banker first asserted that it was a joint owner of the private placement documents and sought an accounting of the plaintiff’s profits generated through use of the materials.  Rejecting this argument, the Court stated the Copyright’s definition of a ‘joint work’: “a work prepared by two or more authors with the intention that the authors’ work be merged into inseparable or interdependent parts of a unitary whole.” 17 U.S.C. 101.

To establish co-authorship, the copyright plaintiff must establish (1) an intent to create a joint work, and (2) independently copyrightable contributions to the material.  The intent prong simply means the two (or more) parties intended to work together to create a single product; not that they specifically agreed to be legal co-copyright holders.

To meet the independently copyrightable element (the test’s second prong), the Court noted that “ideas, refinements, and suggestions” are not copyrightable.  Instead, the contributed work must possess a modicum of creativity vital to a work’s end product and commercial viability.

Here, while the counter-plaintiff alleged an intent to create a joint work, it failed to allege any specific contributions to the subject private placement documents.  Without specifying any copyrightable contributions to the documents, the investment firm failed to satisfy the pleading standards for a joint ownership copyright claim.

The court next considered the banker’s indemnification claim – premised on indemnity (one party promises to compensate another for any loss) language in the Agreement. The provision broadly applied to all claims against the counter-plaintiff arising from or relating to the Agreement.  The plaintiff argued that by definition, the indemnity language didn’t apply to direct actions between the parties and only covered third-party claims (claims brought by someone other than plaintiff or defendant).

The Court rejected this argument and found the indemnity language ambiguous.  The discrepancy between the Agreement’s expansive indemnification language in one section and other Agreement sections that spoke to notice requirements and duties to defend made it equally plausible the indemnity clause covered both third-party and first-party/direct actions.  Because of this textual conflict, the Court held it was premature to dismiss the claim without discovery on the parties’ intent.

The court also sustained the banker’s tortious interference counterclaim against plaintiff’s motion to dismiss.  The counter-plaintiff alleged the plaintiff sued and threatened to continue suing one of the counter-plaintiff’s clients (and a competitor of the plaintiff’s) to stop the client from competing with the plaintiff in the bond market.  While the act of filing a lawsuit normally won’t support a tortious interference claim, where a defendant threatens litigation to dissuade someone from doing business with a plaintiff can state a tortious interference claim.

Take-aways:

Contractual indemnity provisions are construed like any other contract.  If the text is clear, it will be enforced as written.  In drafting indemnity clauses, the parties should take pains to clarify whether it applies only to third-party claims or if it also covers direct actions between the parties.  Otherwise, the parties risk having to pay the opposing litigant’s defense fees.

Filing a lawsuit alone, isn’t enough for a tortious interference claim.  However, the threat of litigation to dissuade someone from doing business with another can be sufficient business interference to support such a claim.

Joint ownership in copyrighted materials requires both an intent for joint authorship and copyrightable contributions from each author to merit legal protection.

 

Plaintiff Shows Actual and Constructive Fraud in Fraudulent Transfer Suit – IL Court

The plaintiff mortgage lender in Summitbridge Credit Investments II, LLC v. Ahn, 2017 IL App (1st) 162480-U sued the husband and wife borrower defendants for breach of a mortgage loan on two commercial properties in Chicago

Two days after the plaintiff obtained a $360K-plus default judgment, the defendants deeded a third commercial property they owned to their adult children.

The plaintiff caught wind of the post-judgment transfer during citation proceedings and in 2015 filed a fraudulent transfer suit to undo the property transfer.  The trial court granted summary judgment for the lender and voided the defendants’ transfer of property. The defendants appealed.

Affirming, the First District recited and applied the governing standards for actual fraud (“fraud in fact”) and constructive fraud (“fraud in law”) under Illinois’s fraudulent transfer act, 740 ILCS 160/1 et seq. (the “Act”)

The Act allows claims for two species of fraud under the Act – actual fraud and constructive fraud, premised on Act Sections 5(a)(1) and 5(a)(2) and 6(a), respectively.  (Also, see http://paulporvaznik.com/uniform-fraudulent-transfer-act-actual-fraud-constructive-fraud-transfers-insufficient-value-il-law-basics/5646)

Actual Fraud and ‘Badges’ of Fraud

Actual fraud that impels a court to unwind a transfer of property requires clear and convincing evidence that a debtor made a transfer with actual intent to hinder, delay or defraud creditors.

Eleven badges or indicators of fraud are set forth in Section 5(b) of the Act.  The factor the Summitbridge Court particularly homed in on was whether there was an exchange of reasonably equivalent value.  That is, whether the defendants’ children gave anything in exchange for the transferred commercial property.

In analyzing this factor, courts consider four sub-factors including (1) whether the value of what was transferred is equal to the value of what was received, (2) the fair market value of what was transferred and what was received, (3) whether it was an arm’s length transaction, and (4) good faith of the transferee/recipient.  Reasonably equivalent value is measured at the time of transfer.

In opposing the plaintiff’s summary judgment motion, the defendants made only conclusory assertions they lacked fraudulent intent.  Moreover, they failed to come forward with any evidence showing they received consideration for the transfer.

In summary, because there were so many badges of actual fraud present, and the debtors offered no proof of consideration flowing to them in exchange for quitclaiming the property, the appeals court affirmed the trial court’s actual fraud finding.

Constructive Fraud

Unlike actual fraud, constructive fraud (i.e., fraud in law) does not require proof of an intent to defraud.  A transfer made for less than reasonably equivalent value of the thing transferred that leaves a debtor unable to meet its obligations are presumed fraudulent.  A fraudulent transfer plaintiff alleging constructive fraud must prove it by a preponderance of evidence – a lesser burden that the clear and convincing one governing an actual fraud or fraud in fact claim.

Constructive fraud under Act Section 5(a)(2) is shown where a debtor did not receive a reasonably equivalent value for the transfer and the debtor (a) was engaged or was about to engage in a business or transactions for which the debtor’s remaining assets were unreasonably small in relation to the business or transaction, or (b) intended to incur, or believed or reasonably should have believed he would incur, debts beyond his ability to pay as they came due.

Section 6(a) constructive fraud applies specifically to claims arising before a transfer where a debtor doesn’t receive reasonably equivalent value and was insolvent at the time of or resulting from a transfer.

The First District agreed with the lower court that the plaintiff sufficiently proved defendants’ constructive fraud.  It noted that the plaintiff’s money judgment pre-dated the transfer of the property to defendant’s children and there was no record evidence of the debtors receiving anything in exchange for the transfer.

Take-aways:

Summitbridge provides a useful summary of fraud in fact and fraud in law fraudulent transfer factors in the context of a dispositive motion.

Once again, summary judgment is the ultimate put-up-or-shut-up litigation moment: a party opposing summary judgment must do more than make conclusory assertions in an affidavit.  Instead, he/she must produce specific evidence that reveals a genuine factual dispute.

The defendants’ affidavit testimony that they lacked fraudulent intent and transferred property to their family members for value rang hollow in the face of a lack of tangible evidence in the record to support those statements.

 

 

 

Pontiac GTO Buyer Gets Only Paltry Damage Award Where He Can’t Prove Lost Profits Against Repair Shop – IL Court

Spagnoli v. Collision Centers of America, Inc., 2017 IL App (2d) 160606-U portrays a plaintiff’s Pyrrhic victory in a valuation dispute involving a 1966 Pontiac GTO.  

The plaintiff car enthusiast brought a flurry of tort claims against the repair shop defendant when it allegedly lost the car’s guts after plaintiff bought it on-line.

The trial court directed a verdict for the defendant on the bulk of plaintiff’s claims and awarded the plaintiff only $10,000 on its breach of contract claim – a mere fraction of what the plaintiff sought.

The Court first rejected plaintiff’s lost profits claim based on the amounts he expected to earn through the sale of car once it was repaired.

A plaintiff in a breach of contract action can recover lost profits where (1) it proves the loss with a reasonable degree of certainty; (2) the defendant’s wrongful act resulted in the loss, and (3) the profits were reasonably within the contemplation of the defendant at the time the contract was entered into.

Because lost profits are naturally prospective, they will always be uncertain to some extent and impossible to gauge with mathematical precision.  Still, a plaintiff’s damages evidence must afford a reasonable basis for the computation of damages and the defendant’s breach must be traceable to specific damages sustained by the plaintiff.  Where lost profits result from several causes, the plaintiff must show the defendant’s breach caused a specific (measurable) portion of the lost profits. [¶¶ 17-20]

Agreeing with the trial court, the appeals Court found the plaintiff failed to present sufficient proof of lost profits.  The court noted that the litigants’ competing experts both valued the GTO at $80,000 to $115,000 if fully restored to mint condition.  However, this required the VIN numbers on the vehicle motor and firewall to match and the engine to be intact.  Since the car in question lacked matching VIN numbers and its engine missing, the car could never be restored to a six-figures value range.

The Court also affirmed the directed verdict for defendant on plaintiff’s consumer fraud claim.  To make out  valid Consumer Fraud Act (CFA) claim under the Consumer Fraud Act a plaintiff must prove: (1) a deceptive act or unfair practice occurred, (2) the defendant intended for the plaintiff to rely on the deception, (3) the deception occurred in the course of conduct involving trade or commerce, (4) the plaintiff sustained actual damages, and (5) the damages were proximately cause by the defendant’s deceptive act or unfair conduct. A CFA violation can be based on an innocent or negligent misrepresentation.

Since the plaintiff presented no evidence that the repair shop made a misrepresentation or that defendant intended that plaintiff rely on any misrepresentation, plaintiff did not offer a viable CFA claim.

Bullet-points:

  • A plaintiff in a breach of contract case is the burdened party: it must show that it is more likely than not that the parties entered into an enforceable contract – one that contains an offer, acceptance and consideration – that plaintiff substantially performed its obligations, that defendant breached and that plaintiff suffered money damages flowing from the defendant’s breach.
  • In the context of lost profits damages, this case amply illustrates the evidentiary hurdles faced by a plaintiff.  Not only must the plaintiff prove that the lost profits were within the reasonable contemplation of the parties, he must also establish which profits he lost specifically attributable to the defendant’s conduct.
  • In consumer fraud litigation, the plaintiff typically must prove a defendant’s factual misstatement.  Without evidence of a defendant’s misrepresentation, the plaintiff likely won’t be able to meet its burden of proof on the CFA’s deceptive act or unfair practice element.

Truth Is Defense to Employee Intentional Interference With Contract Suit – IL Court

 

 

The Illinois First District recently discussed the contours of pre-suit discovery requests in cases that implicate fee speech concerns and whether truthful information can ever support an intentional interference with employment claim.

After relocating from another state to take a compliance role with a large bank, the plaintiff in Calabro v. Northern Trust Corporation, 2017 IL App (1st) 163079-U, was fired after only two weeks on the job for failing to disclose his forced removal from a prior compliance position.

When the employer wouldn’t spill the tea on the snitch’s identity, plaintiff sued.  The trial court dismissed plaintiff’s pre-suit discovery petition and plaintiff appealed.

Affirming, the Court construed pre-suit discovery requests under Supreme Court Rule 224 narrowly.  That rule allows a petitioner to discover the identity of someone who may be responsible in damages to petitioner.

To initiate a request for discovery under Rule 224, the petitioner files a verified petition that names as defendant the person(s) from whom discovery is sought and states why discovery (along with a description of the discovery sought) is necessary.  An order granting a Rule 224 petition is limited to allowing the plaintiff to learn the identity of the responsible party or to at least depose him/her.

To show that discovery is necessary, the petitioner must present sufficient allegations of actionable harm to survive a Section 2-615 motion to dismiss.  That is, the petition must state sufficient facts to state a recognized cause of action.

But Rule 224 limits discovery to the identity of someone who may be responsible to the petitioner.  A petitioner cannot use Rule 224 to engage in a “vague and speculative quest to determine whether a cause of action actually exists.”

Here, the petitioner didn’t know what was actually said by the third party respondent. The Court viewed this as a tacit admission the plaintiff didn’t know if he had a valid claim.

The Court then focused on the veracity of the third-party’s statement.  To be actionable, an intentional interference claim requires the supply of false data about a plaintiff.  Accurate and truthful information, no matter how harmful, cannot underlie an intentional interference action. This is because allowing someone to sue on truthful information violates the First Amendment (to the Constitution) and chills free speech.

Truthful statement immunity is also supported by Section 772 of the Restatement (Second) of Torts which immunizes truthful information from contract interference liability.  [(¶¶ 18-19].  And since the plaintiff’s claim was based on true information – that plaintiff was fired from his last job – the prospective interference claim was doomed to fail.

Afterwords:

This case portrays an interesting application of Rule 224 – a device often employed in the personal injury context.  While the rule provides a valuable tool for plaintiffs trying to identify possible defendants, it doesn’t allow a freewheeling “fishing expedition,”  The petitioner must still state a colorable claim.  In this case, the Court viewed the potential for stifling free speech more worrisome than the individual plaintiff’s private contract rights.

 

 

Sole Proprietor’s Mechanics Lien OK Where Lien Recorded in His Own Name (Instead of Business Name) – IL Court

 

While the money damages involved in Gerlick v. Powroznik (2017 IL App (1st) 153424-U) is low, the unpublished case provides some useful bullet points governing construction disputes.  Chief among them include what constitutes substantial performance, the recovery of contractual “extras,” and the standards governing attorney fee awards under Illinois’s mechanics lien statute.

The plaintiff swimming pool installer sued the homeowner defendants when they failed to fully pay for the finished pool.  The homeowners claimed they were justified in short-paying the plaintiff due to drainage and other mechanical problems.

After a bench trial, the court entered judgment for the pool installer for just over $20K and denied his claim for attorneys’ fees under the Act.  Both parties appealed; the plaintiff appealed the denial of attorneys’ fees while the defendants appealed the underlying judgment.

Held: Affirmed

Reasons:

A breach of contract plaintiff in the construction setting must prove it performed in a reasonably workmanlike manner.  In finding the plaintiff sufficiently performed, the Court rejected the homeowners’ argument that plaintiff failed to install two drains.  The Court viewed drain installation as both ancillary to the main thrust of the contract and not feasible with the specific pool model (the King Shallow) furnished by the plaintiff.

The Court also affirmed the trial court’s mechanic’s lien judgment for the contractor.  In Illinois, a mechanics lien claimant must establish (1) a valid contract between the lien claimant and property owner (or an agent of the owner), (2) to furnish labor, services or materials, and (3) the claimant performed or had a valid excuse of non-performance.  (¶ 37)

A contractor doesn’t have to perform flawlessly to avail itself of the mechanics’ lien remedy: all that’s required is he perform the main parts of a contract in a workmanlike manner.  Where a contractor substantially performs, he can enforce his lien up to the amount of work performed with a reduction for the cost of any corrections to his work.

The owners first challenged the plaintiff’s mechanics’ lien as facially defective.  The lien listed plaintiff (his first and last name) as the claimant while the underlying contract identified only the plaintiff’s business name (“Installation Services & Coolestpools.com”) as the contracting party.  The Court viewed this discrepancy as trivial since a sole proprietorship or d/b/a has no legal identity separate from its operating individual.  As a consequence, plaintiff’s use of a fictitious business name was not enough to invalidate the mechanic’s lien.

The Court also affirmed the trial court’s denial of plaintiff’s claim for extra work in the amount of $4,200.  A contractor can recover “extras” to the contract where (1) the extra work performed or materials furnished were outside the scope of the contract, (2) the extras were furnished at owner’s request, (3) the owner, by words or conduct, agreed to compensate the contractor for the extra work, (4) the contractor did not perform the extra work voluntarily, and (5) the extra work was not necessary through the fault of the contractor.

The Court found there was no evidence that the owners asked the plaintiff to perform extra work – including cleaning the pool, inspecting equipment and fixing the pool cover.  As a result, the plaintiff did not meet his burden of proving his entitlement to extras recovery. (¶¶ 39-41).

Lastly, the Court affirmed the trial court’s denial of attorneys’ fees to the plaintiff.  A mechanics’ lien claimant must prove that an owner’s failure to pay is “without just cause or right;” a phrase meaning not “well-grounded in fact and warranted by existing law or a good faith argument for the extension, modification, or reversal of existing law.” 770 ILCS 60/17(a).  Here, because there was evidence of a good faith dispute concerning the scope and quality of plaintiff’s pool installation, the Court upheld the trial court’s denial of plaintiff’s fee award attempt.

Afterwords:

1/ A contractor doesn’t have to perform perfectly in order to win a breach of contract or mechanics’ lien claim.  So long as he performs in a workmanlike manner and substantially completes the hired-for work, he can recover under both legal theories.

2/ A sole proprietor and his fictitious business entity are one and the same.  Because of this business owner – d/b/a identity, the sole proprietor can list himself as the contractor on a lien form even where the underlying contract lists only his business name.

 

 

Commercial Tenant Fails to Give Proper Notice of Intent to Extend Lease – IL Case Note

Although it’s an unpublished opinion, Sher-Jo, Inc. v. Town and Country Center, Inc., 2017 IL App (5th) 160095-U still serves as a cautionary tale for tenants that fail to hew to lease notice requirements.  The tenant plaintiff under the commercial lease was obligated to serve the defendant landlord with written notice by registered mail of the tenant’s exercise of its option to extend the lease for an additional five-year term.

Instead of mailing notice of its plans to extend the lease, the tenant faxed its notice and verbally told the landlord it was exercising its option to extend.  But the faxed notice didn’t specify the tenant was extending the lease.  It just said that the tenant’s sublessee – a restaurant – was going to extend its sublease for another five years.

The landlord rejected tenant’s attempt to renew the lease on the basis that it didn’t comport with the lease notice rules.  It (landlord) then entered into a lease directly with the restaurant subtenant.  The tenant filed suit for specific performance and a declaratory judgment that it properly and timely exercised the lease extension option.  After the trial court found the tenant successfully notified the landlord of its intention to extend the lease, the landlord appealed.

Held: Reversed.  Tenant’s failure to adhere to Lease notice requirement defeats its attempt to renew the lease.

Rules/Reasons:

A commercial lessee who seeks to exercise an option to extend a lease must strictly comply – not “substantially comply” – with the terms of the option.  And even though a failure to follow an option provision to the letter can have draconian results, rigid adherence to option requirements promotes commercial certainty.

Here, the tenant’s faxed notice only mentioned that it wished to extend the sublease with the restaurant.  The notice was silent about extending the master lease.

The Court rejected the tenant’s argument that a lease amendment modified the option notice provision in the main lease.  This was because while the amendment did reference the tenant’s option to extend the lease for an additional five-year term, it left untouched the master lease’s requirement that the tenant notify the landlord by certified mail of its intent to exercise the option.

Afterwords:

1/ In the commercial lease milieu, strict compliance with notice provisions is essential.  Although this case works a harsh result on the tenant/sub-lessor, the Court viewed fostering certainty in business transactions as more important than relieving a tenant who substantially, but not strictly, adhered to a lease notice requirement;

2/ Parties to a commercial lease should take pains to comply with notice provisions of a lease.  Otherwise, they run the risk of a court finding they failed to satisfy a precondition to extending a lease.

Fraudulent Transfer Action Can Be Brought In Post-Judgment Proceedings – No Separate Lawsuit Required – IL Court

Despite its vintage (over two decades), Kennedy v. Four Boys Labor Service, 664 N.E.2d 1088 (2nd Dist.  1996), is still relevant and instructional for its detailed discussion of Illinois’ fraudulent transfer statute and what post-judgment claims do and don’t fall within a supplementary proceeding to collect a judgment in Illinois.

The plaintiff won a $70K breach of contract judgment against his former employer and issued citations to discover assets to collect the judgment.

While plaintiff’s lawsuit was pending, the employer transferred its assets to another entity that had some of the same shareholders as the employer.  The “new” entity did business under the same name (Four Boys Labor Service) as the predecessor.

Plaintiff obtained an $82K judgment against the corporate officer who engineered the employer’s asset sale and the officer appealed.

Held: Judgment for plaintiff affirmed

Rules/reasons:

The Court applied several principles in rejecting the corporate officer’s main argument that a fraudulent transfer suit had to be filed in a separate action and couldn’t be brought within the context of the post-judgment proceeding.  Chief among them:

– Supplementary proceedings can only be initiated after a judgment has entered;

– The purpose of supplementary proceedings is to assist a creditor in discovering assets of the judgment debtor to apply to the judgment;

– Once a creditor discovers assets belonging to a judgment debtor in the hands of a third party, the court can order that third party to deliver up those assets to    satisfy the judgment;

– A court can authorize a creditor to maintain an action against any person or corporation that owes money to the judgment debtor, for recovery of the debt (See 735 ILCS 5/2-1402(c)(6);

– A corporate director who dissolves a company without providing proper notice to known creditors can be held personally liable for corporate debts (805 ILCS 5/8.65, 12.75);

– An action to impose personal liability on a corporate director who fails to give notice of dissolution must be filed as a separate lawsuit and cannot be brought in a post-judgment/supplementary proceeding;

– Where a third party transfers assets of a corporate debtor for consideration and with full knowledge of a creditor’s claim, the creditor may treat the proceeds from the sale of the assets as debtor’s property and recover them under Code Section 2-1402;

– A transfer of assets from one entity to another generally does not make the transferee liable for the transferor’s debts;

– But where the transferee company is a “mere continuation” of the selling entity, the transferee can be held responsible for the seller’s debt.  The key inquiry in determining successor liability under the mere continuation framework is whether there is continuity of shareholder or directors from the first entity to the second one;

– An action brought under the Uniform Fraudulent Transfer Act (FTA), 740 ILCS 160/1, is considered one that directly concerns the assets of the judgment debtor and imposes liability on the recipient/transferee based on the value of the transferred assets;

– A transfer is not voidable against one who takes in good faith and provides reasonably equivalent value.  740 ILCS 160/9;

– A court has discretion to sanction a party that disobeys a court order including by entering a money judgment against the offending party;

(664 N.E.2d at 1091-1093)

Applying these rules, the Court found that plaintiff could properly pursue its FTA claim within the supplementary proceeding and didn’t have to file a separate lawsuit.  This is because an FTA claim does not affix personal liability for a corporate debt (like in a corporate veil piercing or alter ego setting) but instead tries to avoid or undo a transfer and claw back the assets actually transferred.

FTA Section 160/5 sets forth eleven (11) factors that can point to a debtor’s actual intent to hinder, delay or defraud a creditor.   Some of the factors or “badges” of fraud that applied here included the transfer was made to corporate insiders, the failure to inform the plaintiff creditor of the transfer of the defendant’s assets, the transfer occurred after plaintiff filed suit, the transfer rendered defendant insolvent, and all of the defendant’s assets were transferred.  Taken together, this was enough evidence to support the trial court’s summary judgment for the plaintiff on his FTA count.

Take-away: Kennedy’s value lies in its stark lesson that commercial litigators should leave no financial stones unturned when trying to collect judgments.  Kennedy also clarifies that fraudulent transfer actions – where the creditor is trying to undo a transfer to a third party and not hold an individual liable for a corporate debt can be brought within the confines of a supplementary proceeding.

 

Lender Lambasted for Loaning Funds to Judgment Debtor’s Related Business – IL Court

The issue on appeal in National Life Real Estate Holdings, LLC v. Scarlato, 2017 IL App (1st) 161943 was whether a judgment creditor could reach loan proceeds flowing from a lender to a judgment debtor’s associated business entity where the debtor himself lacked access to the proceeds.

Answering “yes,” the Court considered some of Illinois post-judgment law’s philosophical foundations and the scope and mechanics of third-party judgment enforcement practice.

The plaintiff obtained a 2012 money judgment of over $3.4M against the debtor and two LLC’s managed by the debtor.   During supplementary proceedings, the plaintiff learned that International Bank of Chicago (“IBC”) loaned $3.5M to two other LLC’s associated with the debtor after plaintiff served a third-party citation on IBC.  The purpose of the loan was to pay for construction improvements on debtor’s industrial property.  And while the debtor wasn’t a payee of the loan, he did sign the relevant loan documents and loan disbursement request.

Plaintiff moved for judgment against IBC in the unpaid judgment amount for violating the third-party citation.  The trial court denied the motion and sided with IBC; it held that since the loan funds were paid to entities other than the debtor, the loan moneys did not belong to the debtor under Code Section 2-1402(f)(1) – the section that prevents a third party from disposing of debtor property in its possession until further order of court.  735 ILCS 5/2-1402(f)(1).

The Plaintiff appealed.  It argued that the debtor sufficiently controlled IBC’s construction loan and the proceeds were effectively, debtor’s property and subject to Plaintiff’s third-party citation.

Reversing, the First District rejected IBC’s two key arguments: first, that the loan proceeds did not belong to the debtor and so were beyond the reach of the third-party citation and second, IBC had set-off rights to the loan proceeds (assuming the funds did belong to debtor) and could set-off the $3.5M loan against debtor’ outstanding, other loan debt.

On the question of whether the post-citation loan was debtor’s property, the Court wrote:

  • Once a citation is served, it becomes a lien for the judgment or balance due on the judgment. Section 2-1402(m);
  • A judgment creditor can have judgment entered against a third party who violates the citation restraining provision by dissipating debtor property or disposing of any moneys belonging to the debtor Section 2-1402(f)(1);
  • Section 2-1402’s purpose is to enable a judgment debtor or third party from frustrating a creditor before that creditor has a chance to reach assets in the debtor’s or third party’s possession. Courts apply supplemental proceedings rules broadly to prevent artful debtors from drafting loan documents in such a way that they elude a citation’s grasp.
  • The only relevant inquiries in supplementary proceedings are (1) whether the judgment debtor is in possession of assets that should be applied to satisfy the judgment, or (2) whether a third party is holding assets of the judgment debtor that should be applied to satisfy the judgment.
  • Section 2-1402 is construed liberally and is the product of a legislative intent to broadly define “property” and whether property “belong[s] to a judgment debtor or to which he or she may be entitled” is an “open-ended” inquiry. (¶¶ 35-36)

The ‘Badges’ of Debtors Control Over the Post-Citation Loan and Case Precedent

In finding the debtor exercised enough control over the IBC loan to subject it to the third-party citation, the Court focused on: (i) the debtor signed the main loan documents including the note, an assignment, the disbursement request and authorization, (ii) the loan funds passed through the bank accounts of two LLC’s of which debtor was a managing member, and (iii) the debtor had sole authority to request advances from IBC.

While conceding the loan funds did end up going to pay for completed construction work and not to the debtor, the Court still believed IBC tried to “game” plaintiff’s citation by making a multi-million dollar loan to businesses allied with the debtor even though the loans never funneled directly to the debtor.

Noting a dearth of Illinois state court case law on the subject, the Court cited with approval the Seventh Circuit’s holding in U.S. v. Kristofic, 847 F.2d 1295 (7th Cir. 1988), a criminal embezzlement case.  There, the appeals court squarely held that loan proceeds do not remain the lender’s property and that a borrower is not a lender’s trustee vis a vis the funds.  Applying the same logic here, the First District found that the loan proceeds were not IBC’s property but were instead, the debtor’s.  Because of this, the loan was subject to the plaintiff’s citation lien.

The Court bolstered its holding with policy arguments.  It opined that if judgment debtors could enter into loan agreements with third parties (like IBC) that restrict a debtor’s access to the loan yet still give a debtor power to direct the loan’s disbursement, it would allow industrious debtors to avoid a judgment. (¶ 39)

The Court also rejected IBC’s set-off argument – that set-off language in other loan documents allowed it to apply the challenged $3.5 loan amount against other loan indebtedness.  Noting that IBC didn’t try to set-off debtor’s other loan obligations with the loan under attack until after it was served with the citation and after the plaintiff filed its motion for judgment, the Court found that IBC forfeited its set-off rights.

In dissent, Judge Mikva wrote that since IBC’s loan was earmarked for a specific purpose and to specific payees, the debtor didn’t have enough control over the loan for it to belong to the debtor within the meaning of Section 2-1402.

The dissent also applied Illinois’s collection law axiom that a judgment creditor has no greater rights in an asset than does the judgment debtor.  Since the debtor here could not access the IBC loan proceeds (again, they were earmarked for specific purpose and payable to business entities – not the debtor individually), the plaintiff creditor couldn’t either.  And since the debtor lacked legal access rights to the loan proceeds, they were not property belonging to him under Section 2-1402 and IBC’s loan distribution did not violate the citation. (¶¶ 55-56)

Afterwords

A big victory for creditor’s counsel.   The Court broadly construes “property under a debtor’s control” in the context of a third-party citation under Section 2-1402 and harshly scrutinized a lender’s artful attempts to dodge a citation.

The case reaffirms that loan proceeds don’t remain the lender’s property and that a borrower doesn’t hold loan proceeds in trust for the lender.

The case also makes clear that where loan proceeds are paid to someone other than the debtor, the Court may still find the debtor has enough dominion over funds to subject them to the citation restraining provisions if there are enough earmarks of debtor control over the funds

Finally, in the context of lender set-off rights, Scarlato cautions a lender to timely assert its set-off rights against a defaulting borrower or else it runs the risk of forfeiting its set-off rights against a competing judgment creditor.

 

Promissory Fraud: Sporting Goods Maker Pleads Seller’s Scheme to Defraud – IL ND

Maurice Sporting Goods, Inc. v. BB Holdings, Inc., 2017 WL 2692124, ponders the reach of the promissory fraud rule (a broken promise normally doesn’t equal fraud), how to plead around it, and the law of the case doctrine.

After a multi-year business relationship for the sale of sporting goods imploded, the plaintiff distributor sued the defendant manufacturer for breach of a 2015 buy-back agreement that required the manufacturer to “buy back” unsold inventory.

The manufacturer counterclaimed; it claimed the distributor defrauded it and tampered with the manufacturer’s relationship with a key customer.  Partially granting the plaintiff’s motion to dismiss the counterclaims, the Northern District discussed the factual specificity required of a plaintiff to circumvent the general rule that promissory fraud isn’t actionable.

The Court first addressed the distributor’s law of the case argument – the manufacturer was trying to relitigate its earlier failed estoppel defense (that the distributor’s fraud barred it from recovering damages from the manufacturer).  The court previously nixed the manufacturer’s estoppel defense because it failed to link the plaintiff’s fraud to the buy-back agreement.

The law of the case doctrine (LOC) prevents a court from reopening issues it previously decided in the same case.  LOC is a flexible doctrine, though.  A court will refuse to apply LOC if there is a change in the law, new evidence or compelling circumstances.

The court declined to apply the LOC doctrine here because the manufacturer’s stricken estoppel defense was premised on fraud by the plaintiff distributor related to a separate transaction – the original distributor agreement – that differed from the buy-back agreement that underlay plaintiff’s suit.

Next, the court examined whether defendant sufficiently alleged an exception to promissory fraud under Federal pleading rules.  Rule 9(b) of the Federal Rules of Civil Procedure requires heightened factual specificity in fraud claims as the Rule tries to discourage litigants from bootstrapping simple breach of contract claims into tort actions with wide-ranging damages.

Promissory fraud is a false representation of intent concerning future conduct where there is no actual intent to do so.  While promissory fraud is generally not actionable, a plaintiff can plead around it by alleging egregious conduct or a pattern of deception or enticements that reasonably induce reliance.  A fraudulent scheme exists where a party alleges a specific and objective pattern of deception including the who, what, where, and when of the misstatements.

Here, the manufacturer was able to point to three different agents of the distributor who made misstatements in three different phone calls in the same month to support the fraud counterclaim.  These allegations that three distributor employees made false promises in order to sabotage defendant’s relationship with a major retailer were definite enough to meet Rule 9’s pleading requirements for fraud.

Afterwords:

While there is some elemental overlap between an estoppel defense and a promissory fraud counterclaim, the defeat of one won’t always cancel out the other where they relate to different transactions and different underlying facts.

To allege actionable fraud based on a broken promise, a plaintiff must plead a scheme to defraud that equates to a measurable pattern of deception or factual misrepresentations.

LinkedIn Connection Requests Don’t Violate Insurance Salesman’s Noncompete – IL Court

The First District recently considered whether an insurance salesman’s generic LinkedIn invites to some former co-workers violated non-compete provisions in his employment contract.

The plaintiff in Bankers Life v. American Senior Benefits employed the defendant for over a decade as a sales manager.  During his employment, plaintiff signed an employment agreement that contained a 24-month noncompete term that covered a specific geographic area (Rhode Island).  Plaintiff sued when it learned the defendant sent some LinkedIn connection requests to some former colleagues.

The court granted the defendant’s summary judgment motion on the basis that the plaintiff failed to offer any evidence that the defendant breached the noncompete by trying to induce three of plaintiff’s employees to join defendant’s new agency.  Plaintiff appealed.

Plaintiff argued that the LinkedIn requests were veiled, if not blatant, attempts to circumvent the noncompete by inviting former co-workers to join a competitor.

The First District affirmed summary judgment for the defendant.  For support, it looked to cases in other jurisdictions that considered if social media overtures can violate employee restrictive covenants.  The Court noted that a majority of these cases hold that passive social media postings (LinkedIn and Facebook, mainly) don’t go far enough to violate a noncompete.

The cases that have found that social media breached noncompete obligations involve clear statements of solicitation by the departed employee where he directly tries to sign up a former client or colleague. Since all the defendant did in this case was send generic LinkedIn messages, they didn’t rise to the level of an actionable solicitation.

The Court also rejected the plaintiff’s argument that summary judgment was premature and that the plaintiff should have the opportunity to take more discovery on this issue.  Illinois Rule 191 allows a summary judgment opponent to stave off judgment while it takes written and oral discovery to assemble evidence to oppose the motion.  But the plaintiff must show a “minimum level of information” showing a defendant is possibly liable before initiating a lawsuit or making a defendant submit to discovery requests.

Since the plaintiff failed to produce any evidence the defendant solicited any of plaintiff’s employees in the prohibited Rhode Island area, summary judgment for the defendant was proper.

Afterwords:

LinkedIn generic invites that don’t specifically ask someone to sever his/her relationship with current employer don’t go far enough to constitute improper solicitation;

Summary judgment is “put up or shut up moment;” the party opposing summary judgment must offer evidence that raises a question of material fact that can only be decided after a trial on the merits.

 

Florida Series III: Parent Company’s Merger Doesn’t Impact Subsidiary’s Noncompete with M.D.

Collier HMA v. Menichello a medical noncompete dispute, considers whether a third party can enforce a noncompete after a merger.  Jettisoning the “changed corporate culture and mode of operation” test, the Florida appeals court applied basic principles of corporate law to determine whether a parent company’s merger necessarily meant its subsidiary merged too and couldn’t enforce a noncompete involving one of its staff doctors.

Halfway through a three-year employment contract between the plaintiff and doctor defendant, the plaintiff’s corporate parent was acquired by another entity.  The plaintiff-doctor employment contract contained a 12-month noncompete and specifically said it was not enforceable by third parties, successors or assignees of the parties.

After the acquisition, the doctor defendant quit and went to work for one of plaintiff’s competitors.  The plaintiff sued the doctor for violating the 12-month noncompete. The doctor defended by stating that the parent company’s merger with another entity made the plaintiff a successor under the law that could not enforce the restrictive covenant.  The trial court agreed and entered summary judgment for the doctor.  The employer appealed.

Held: Reversed.  Plaintiff employer can enforce the doctor’s noncompete.

Reasons:

Under Florida law, S. 542.335(1)(f), Florida Statutes (2012),  an employment contractual provision that authorizes a third-party beneficiary, assignee or successor to enforce a restrictive covenant is valid.

The statute is silent on the meaning of “successor” but case law defines it to mean “a corporation that, through amalgamation, consolidation or other assumption of interests, is vested with the rights and duties of an earlier corporation.”

Here, the plaintiff employer’s status did not change after its parent company’s merger.  Under the law, a parent corporation is a separate and distinct legal entity from its wholly-owned subsidiary.  As a corollary, a parent company cannot exercise rights of its subsidiary.

The subsidiary plaintiff here continued its existence after the merger as the same single member LLC and didn’t sell or transfer its assets to another entity.  Any change in company ownership several tiers up the corporate chain simply didn’t impact the doctor’s employment contract since plaintiff continued to operate and to employ the doctor.  As the lone signer of the employment contract that contained the noncompete, plaintiff could enforce it.

Afterwords:

The Court refused to apply the nebulous “culture and mode of operation” test which looks to the parties’ post-merger conduct (i.e., did the parties act as though the acquiring company was dictating the acquired company subsidiary’s actions?) to decide whether a third-party can enforce a noncompete.  Instead, the Court considered whether the plaintiff continued its operations (it did) in the wake of the parent company’s merger.

Under black-letter corporate law principles, the Court found that the plaintiff’s parent company’s merger had no impact on the plaintiff as “no other entity emerged from the transaction as a successor to [plaintiff].”  Summary judgment for the plaintiff reversed.

 

Florida Series II: RE Broker Can Assert Ownership Interest in Retained Deposits in Priority Dispute with Condo Developer’s Lenders

Plaza Tower v. 300 South Duval Associates, LLC considers whether a real estate broker or a lender has “first dibs” on earnest money deposits held by a property developer.  After nearly 80% of planned condominium units failed to close (no doubt a casualty of the 2008 crash), the developer was left holding $2.4M of nonrefundable earnest money deposits.  The exclusive listing agreement (“Listing Agreement”) between the developer and the broker plaintiff provided the broker was entitled to 1/3 of retained deposits in the event the units failed to close.

After the developer transferred the deposits to the lender, the broker sued the lender (but not the developer for some reason) asserting claims for conversion and unjust enrichment.

The trial court granted the lenders’ summary judgment motion.  It found that the lenders had a prior security interest in the retained deposits and the broker was at most, a general unsecured creditor of the developer.  The broker appealed.

The issue on appeal was whether the broker could assert an ownership interest in the retained deposits such that it could state a conversion claim against the lenders.

The Court’s key holding was that the developer’s retained deposits comprised an identifiable fund that could underlie a conversion claim.  Two contract sections combined to inform the Court’s ruling.

One contract section provided that the broker’s commission would be “equal to one-third of the amount of the retained deposits.”  The Court viewed this as too non-specific since it didn’t earmark a particular fund.

But another contract section did identify a particular fund; it stated that commission advances to the broker would be offset against commissions paid from the retained deposits.  As a result, the retained deposits were particular enough to sustain a conversion action.  Summary judgment for the developer reversed.

Afterwords: Where a contract provides that a nonbreaching party has rights in a specific, identifiable fund, that party can assert ownership rights to the fund.  Absent a particular fund and resulting ownership rights in them, a plaintiff’s conversion claim for theft or dissipation of the fund will fail.

 

Paul Versus the Rapper: How YouTube Tutorials and Creative Lawyering Played Key Roles in Recovering Judgment Against Elusive Defendant

In almost two decades of practicing in the post-judgment arena, My clients and I have run the emotional gamut from near-intoxicating highs (the “unicorn” fact patterns where the debtor pays up immediately or, even better, the debtor forgets to empty his bank account and when we freeze it, there’s more than enough funds to satisfy the judgment) to disappointment (when the debtor files bankruptcy and there is a long line of prior creditors) to abject frustration (the debtor appears to have no physical ties anywhere yet profusely broadcasts his life of luxury on all social media channels – think Instagram selfie in tropical locale) to the unnerving (a debtor or two have threatened bodily harm).

But occasionally, I’m faced with a fact pattern that requires both tenacity (they all do) and creative collection efforts. Here’s an example of a recent case that fell into this category. The facts are simple: the debtor – a well-known rapper – failed to show for a scheduled concert in another state and gave no notice. The club promoter filed suit in that state and ultimately got a money judgment for his deposit along with some incidental expenses and attorneys fees.

After I registered the judgment here in Illinois, I began hitting snags in rapid succession. I quickly realized this debtor didn’t fit the normal template: meaning, he didn’t have an official job from which he received regularly scheduled payments, had no bank account and owned no real estate. While the debtor’s social media pages were replete with concert videos and robust YouTube channel offerings, the debtor seemed a ghost.

Add to that, the debtor and his record company used UPS stores as its corporate registered office and the debtor’s entourage ran interference and covered for him at every turn.

Here’s what I did:

(1) Source of Funds: Concerts and Merchandise

I looked at the debtor’s website and social media pages to determine where he would be performing over the next several weeks. Then, I researched the business entities that owned the concert venues and prepared subpoenas to them. For the out-of-state venues, I lined up attorneys there to (1) register the Illinois registration of the foreign judgment, and (2) subpoena the venue owners for contracts with the debtor so I could see what percentage of the “gate” would flow to debtor. My plan was to eventually seek the turnover of funds funneling from venue – to management company – to debtor.

On another front, I tried to identify who was in charge of the debtor’s T-shirt and merchandise sales. Since the website was vague on this, I requested this information from the debtor’s management company through an omnibus citation Rider.

(2) Creating Buzz and a Discovery Dragnet: Getting Others Involved

I then served citations to discover assets on debtor’s management company and booking agent. (I was able to locate these companies through the debtor’s social media pages.) This allowed me to cast a wide net and involve third parties whom I surmised the debtor wasn’t keen on getting dragged into this.

From the management company and booking agent, I sought documents showing payments to the debtor including licensing and royalty fees, tax returns, pay stubs, bank records and any other documents reflecting company-to-debtor payments over the past 12 months.

(3) Licensing and Royalties: Zeroing In On Industry Behemoths

In reviewing the management company’s subpoena response, I noted the debtor was receiving regular royalty payments from ASCAP – the national clearinghouse that distributes public performance royalties to songwriters. Based in New York, ASCAP likely wasn’t going to respond to an Illinois subpoena. So I would have to register the judgment in New York. I lined up a New York attorney to do this and notified debtor’s counsel (by this time, debtor, management company and booking agent hired a lawyer) of my plans to register the judgment in NY and subpoena ASCAP for royalty data. They didn’t like that.

Sensing I may be onto something with the ASCAP angle, I dove deep into the byzantine (to me, at least) world of music licensing law. I learned that while ASCAP (BMI is another public performance royalty conduit) handles performance rights licensing, the pre-eminent agent for “mechanical” licenses (licenses that allow you to put music in CD, record, cassette and digital formats) is the Harry Fox Agency, Inc. or HFA – also based in New York. Maybe I shouldn’t admit this but I found YouTube a treasure trove of music licensing law building blocks.

Armed with my published and video licensing law research, I alerted debtor’s counsel of my plans to subpoena HFA for mechanical royalties in lockstep with my ASCAP subpoena once I registered the judgment in New York.

(4) Settlement: Persistence Pays Off

The combined threat of liening the debtor’s concert and merchandise monies and subpoenaing his public performance and mechanical license royalties was enough to motivate debtor to finally – after months of fighting – come to the table with an acceptable settlement offer. While another creditor beat me to the punch and got to the concert venue owners first, our aggressive actions planted enough of a psychological seed in the debtor that his royalties might be imperiled. This proved critical in getting the debtor’s management company (again, without their involvement, this never would settle) to pay almost the whole judgment amount.

Afterwords: My Younger Self May Have Given Up

This case cemented the lesson I’ve learned repeatedly through the years that as a judgment creditor, you have to be persistent, aggressive and creative – particularly with judgment debtors that don’t neatly fit the 9-to-5-salaried-employee paradigm.

Through persistence, out-of-the-box thinking, internet research and wide use of social media, my client got almost all of its judgment under circumstances where the “old me” (i.e. my less experienced self) may have folded.

 

 

British Firm’s Multi-Million Dollar Trade Secrets Verdict Upheld Against Illinois Construction Equipment Juggernaut – IL Fed Court

Refusing to set aside a $73-plus million jury verdict for a small British equipment manufacturer against construction giant Caterpillar, Inc., a Federal court recently examined the contours of the Illinois trade secrets statute and the scope of damages for trade secrets violations.

The plaintiff in Miller UK, Ltd. v. Caterpillar, Inc., 2017 WL 1196963 (N.D.Ill. 2017) manufactured a coupler device that streamlined the earthmoving and excavation process.  Plaintiff’s predecessor and Caterpillar entered into a 1999 supply contract where plaintiff furnished the coupler to Caterpillar who would, in turn, sell it under its own name through a network of dealers.

The plaintiff sued when Caterpillar terminated the agreement and began marketing its own coupler – the Center-Lock – which bore an uncanny resemblance to plaintiff’s coupler design.

After a multi-week trial, the jury found for the plaintiff on its trade secrets claim and for Caterpillar’s on its defamation counterclaim for $1 million – a paltry sum dwarfed by the plaintiff’s outsized damages verdict.

The Court first assessed whether the plaintiff’s three-dimensional computerized drawings deserved trade secrets protection.

The Illinois Trade Secrets Act (ITSA), 765 ILCS 1065/1, defines a trade secret as encompassing information, technical or non-technical data, a formula, pattern, compilation, program, device, method, technique, drawing, process, financial data, or list of actual or potential customers that (1) is sufficiently secret to derive economic value, actual or potential, from not being generally known to other persons who can obtain economic value from its disclosure or use; and (2) is the subject of efforts that are reasonable under the circumstances to maintain its secrecy or confidentiality.

Misappropriation means “disclosure” or “use” of a trade secret by someone who lacks express or implied consent to do so and where he/she knows or should know that knowledge of the trade secret was acquired under circumstances giving rise to a duty to maintain its secrecy or limit its use.  Intentional conduct, howver, isn’t required: misappropriation can result from a defendant’s negligent or unintentional conduct.

Recoverable trade secret damages include actual loss caused by the misappropriation and unjust enrichment enjoyed by the misappropriator.  Where willful and malicious conduct is shown, the plaintiff can also recover punitive damages.  765 ILCS 1065/4.

In agreeing that the plaintiff’s coupler drawings were trade secrets, the Court noted plaintiff’s expansive use of confidentiality agreements when they furnished the drawings to Caterpillar and credited plaintiff’s trial testimony that the parties’ expectation was for the drawings to be kept secret.

The Court also upheld its trial rulings excluding certain evidence offered by Caterpillar.  One item of evidence rejected by the court as hearsay was a slide presentation prepared by Caterpillar to show how its coupler differed from plaintiff’s and didn’t utilize plaintiff’s confidential data.

Hearsay prevents a litigant from using out-of-court statements to prove the truth of the matter asserted.  An exception to the hearsay rule applies where an out-of-court statement (1) is consistent with a declarant’s trial testimony, (2) the party offering the statement did so to rebut an express or implied charge of recent fabrication or improper motive against the declarant, (3) the statement was made before the declarant had a motive for fabrication, and (4) the declarant testifies at trial and is subject to cross-examination.

Since the slide show was made as a direct response to plaintiff’s claim that Caterpillar used plaintiff’s confidential information, the statement (the slide show) was made after Caterpillar had a motive to fabricate the slide show.

The Court then affirmed the jury’s $1M verdict on Caterpillar’s defamation counter-claim based on plaintiff’s falsely implying that Caterpillar’s coupler failed standard safety tests in written and video submissions sent to Caterpillar’s equipment dealers.  The plaintiff’s letter and enclosed DVD showed a Caterpillar coupler bucket breaking apart and decapitating a life-size dummy. (Ouch!)  The obvious implication being that Caterpillar’s coupler is unsafe.

The Court agreed with the jury that the plaintiff’s conduct was actionable as per se defamation.  A quintessential defamation per se action is one alleging a plaintiff’s lack of ability or integrity in one’s business.  With per se defamation, damages are presumed – meaning, the plaintiff doesn’t have to prove mathematical (actual) monetary loss.

Instead, all that’s required is the damages assessed “not be considered substantial.”  Looking to an earlier case where the court awarded $1M for defamatory statements in tobacco litigation, the Court found that the jury’s verdict against the plaintiff coupler maker here was proper.

Afterwords:

The wide use of confidentiality agreements and evidence of oral pledges of secrecy can serve as sufficient evidence of an item’s confidential nature for purposes of trade secrets liability.  Trade secrets damages can include actual profits lost by a plaintiff, the amount the defendant (the party misappropriating the trade secrets) was unjustly enriched through the use of plaintiff’s trade secrets and, in some egregious cases, punitive damages.

The case also shows that a jury has wide latitude to fashion general damage awards in per se defamation suits.  This is especially so in cases involving deep-pocketed defendants.

 

Random Florida-to-Illinois Texts, Emails and Phone Calls Not Enough to Subject Fla. LLC to IL Jurisdiction

In McGlasson v. BYB Extreme Fighting Series, LLC, 2017 WL 2193235 (C.D.Ill. 2017), the plaintiff sued a Florida LLC and two Florida residents for pilfering the plaintiff’s idea to host MMA fights on cruise ships off the coast of Florida.

Plaintiff claimed that after he sent a rough video of the concept to them, the defendants hijacked the concept and then formed their own MMA-at-sea event, causing the plaintiff monetary damages.

All defendants moved to dismiss the plaintiff’s claims on the basis that they weren’t subject to Illinois jurisdiction.

The Court granted defendants’ motion to dismiss and in doing so, discussed the requisite contacts for an Illinois court to exercise jurisdiction over an out-of-state defendant who commits an intentional tort.

In breach of contract actions, personal jurisdiction turns on whether a defendant purposefully avails itself or the privilege of doing business in the forum state. With an intentional tort defendant, by contrast, the court looks at whether a defendant “purposefully directed” his conduct at the forum state.

Purposely directing activity at a state requires a finding of (1) intentional conduct, (2) expressly aimed at the forum state, with (3) defendant’s knowledge the effects would be felt in the forum state.  If plaintiff makes all three showings, he establishes that a defendant purposefully directed its activity at the forum state.

A plaintiff in an intentional tort case cannot, however, rely on his own unilateral activity to support jurisdiction over a defendant.  Similarly, a defendant’s contact with a third party with no connection to a forum state isn’t relevant to the jurisdictional analysis.

Here, the lone Illinois contacts alleged of defendants were a handful of emails, phone calls and text messages sent to the Illinois resident plaintiff.  To strengthen his case for jurisdiction over the Florida defendants, plaintiff alleged he suffered an economic injury in Illinois.

Rejecting plaintiff’s argument, the court viewed e-mail as not existing “in any location at all:”  instead, it bounces from server to server and the connection between where an e-mail is opened and where a lawsuit is filed is too weak a link to subject an out-of-state sender to jurisdiction in a foreign state.

The Court also noted that (a plaintiff’s) suffering economic injury in Illinois isn’t enough, standing alone, to confer personal jurisdiction over a foreign resident.  The focus is instead whether the defendant’s conduct “connects him to [Illinois] in a meaningful way.”

Since plaintiff’s MMA-at-sea idea had no connection to Illinois and the defendant’s sporadic phone calls, emails and texts weren’t enough to tie him to Illinois, the Court lacked personal jurisdiction over the Florida defendants.

Take-aways:

1/ In intentional tort setting, a foreign defendant’s conduct must be purposefully directed at a forum state for that state to exercise personal jurisdiction over the defendant;

2/ plaintiff’s unilateral actions vis a vis an out-of-state defendant don’t factor into the jurisdictional calculus;

3/ A defendant’s episodic emails, texts and phone calls to an Illinois resident likely won’t be enough to subject the defendant to personal jurisdiction in Illinois.

 

Corporate Officer Can Owe Fiduciary Duty to Company Creditors – IL Court in ‘Deep Cut’* Case

Five years in, Workforce Solutions v. Urban Services of America, Inc., 2012 IL App (1st) 111410 is still a go-to authority for its penetrating analysis of the scope of post-judgment proceedings, the nature of fraudulent transfer claims and the legal relationship between corporate officers and creditors.

Here are some key questions and answers from the case:

Q1: Is a judgment creditor seeking a turnover order from a third party on theory of fraudulent transfer (from debtor to third party) entitled to an evidentiary hearing?

A1: YES

Q2: Does the denial of a turnover motion preclude that creditor from filing a direct action against the same turnover defendants?

A2: NO.

Q3: Can officer of a debtor corporation owe fiduciary duty to creditor of that corporation?

Q3: YES.

The plaintiff supplier of contract employees sued the defendant in 2006 for breach of contract.  After securing a $1M default judgment in 2008, the plaintiff instituted supplementary proceedings to collect on the judgment.  Through post-judgment discovery, plaintiff learned that the defendant and its officers were operating through a labyrinthine network of related business entitie