Fraud, Partnership Formation and Confidentiality Agreements in Illinois: A Case Illustration

The Northern District examines several recurring commercial litigation and employment law issues in nClosures Inc. v. Block and Company, Inc., 2013 WL 6498528. Chief among them are the facts giving rise to common law fraud liability, the fundamentals of a partnership relationship and the fiduciary duties that business partners owe one another.

Plaintiff designs and sells tablet computer accessories. In 2011, plaintiff and defendant entered a partnership agreement and a related Non–Disclosure Covenant (NDA) for the sale of the tablet items. The business relationship later imploded and plaintiff sued for damages.

Granting summary judgment for the defendant, the court examined the quantum of evidence needed to sustain fraud, breach of fiduciary duty and breach of partnership claims under Illinois law.

To establish common law fraud, a plaintiff must prove that: (1) defendant made a false statement; (2) of material fact; (3) which defendant knew or believed to be false; (4) with the intent to induce plaintiff to act; (5) the plaintiff justifiably relied on the statement; and (6) the plaintiff suffered damage from such reliance. But mere expressions of opinion or statements that relate to future or contingent events are not actionable.

Rejecting the plaintiff’s fraud claim, the court found that the plaintiff failed to establish reliance – that it took some action or refrained from action based on a false statement. The defendant’s alleged fraudulent statement – that a partnership existed – was made several months after plaintiff supplied tablet accessories. As a result, it was chronologically impossible for the plaintiff to have relied on the statement.

Next, the court found for the defendant on the plaintiff’s breach of fiduciary duty claim. To prevail on this claim, a plaintiff must show: (1) the existence of a fiduciary duty (basically, a relationship of business trust and loyalty); (2) a fiduciary duty was breached, and (3) that the breach damaged the plaintiff.

A partnership is a quintessential fiduciary relationship in Illinois. To establish a partnership under Illinois law, the plaintiff must show that two or more parties (1) joined together to carry on a trade or venture, (2) for their common benefit, (3) with each contributing property or services to the enterprise, and (4) sharing in the profits.

Here, the court rejected plaintiff’s fiduciary duty claim because there was no partnership between the parties as a matter of law. Since there was no joint sharing of profits and losses, there could be no partnership.

The plaintiff also lost its breach of contract claim based on the defendant’s alleged breach of the confidentiality agreement. In Illinois, a confidentiality agreement will be enforced only “when the information sought to be protected is actually confidential and reasonable efforts were made to keep it confidential.” How much effort is reasonable to keep information confidential is decided on case-by-case basis.

The record was devoid of any efforts the plaintiff made to safeguard its product design drawings. In fact, just the opposite was true: plaintiff freely provided copious design and product data to the defendant for sale to its ( defendant’s) customers. Since plaintiff didn’t expend any physical or fiscal resources to shield its data from disclosure, it couldn’t enforce the confidentiality agreement.

Afterwords:

A central partnership component is the sharing of profits. Without it, there can be no partnership or breach of fiduciary duty;

Fraud claims requires reliance on the false statement before the statement. If the false statement occurs after plaintiff takes action/non-action, the plaintiff will be unable to show he relied on the statement;

Valid nondisclosure agreement requires proof that the subject information is truly confidential and treated as such by the plaintiff.

‘Closely Intertwined’ Business Relationship Equals Possible Joint Venture – Says Illinois Court

Consider this: a multi-national plastics seller (“Seller”) has a written contract with a plastics manufacturer (the “Manufacturer”) that labels the Manufacturer as an independent contractor of the Seller.  Under the agreement, the Seller supplies material to the Manufacturer who then makes plastic products exclusively for the Seller and sells the products back to the Seller.  The Seller buys the finished products from the Manufacturer at a pre-set price and then sells them to its (Seller’s) own customers.  The Seller and Manufacturer do not share any profits on Seller’s product sales.

An employee of the Manufacturer then gets injured on the job and sues both the Seller and Manufacturer for damages claiming they are joint venturers and therefore equally responsible for his injuries.  This is a significant event given the size and financial resources of the Seller.

Question: does this claim possibly have legs?

Answer: “Maybe.”  The First District held that the question of whether there is a joint venture between Seller and Manufacturer was open enough to survive summary judgment.

The plaintiff in Hyatt v. Western Plastics, 2014 IL App (2d) 140178, suffered severe injuries when his arms got caught in an extruding machine. He sued his employer – the “Manufacturer” in the above snippet – along with the Seller on the theory that there was a joint venture between the Manufacturer and Seller.  The trial court entered summary judgment for the Seller.  The plaintiff appealed.

Reversing the trial court, the First District engaged in a detailed analysis of some Illinois business structure basics:

A joint venture is an association of two or more persons to carry on a single enterprise for profit;

– Joint venture members  owe fiduciary duties to one another and are vicariously liable for negligent acts of the other joint venturers carried out in the course of the enterprise;

– No formal agreement is necessary to form a joint venture and it can be inferred from the parties’ conduct and surrounding circumstances;

– Joint venture is a creature of contract law; not a statute and depends on the parties’ intent;

– Cardinal joint venture traits include (1) a community of interest – manifested by the joint contribution of money, property, effort, skill or knowledge; (2) an express or implied agreement to carry on an enterprise; (3) a sharing of profits; and (4) joint control and management of the enterprise;

(¶¶ 72-77)

Synthesizing the case’s thick discovery record, the court found there was a disputed question of fact on whether the parties formed a joint venture.

Some of the evidence pieces that was key to the court’s summary judgment reversal included:

(1) The Manufacturer-Seller contract was nearly thirty years’ old (automatically renewing every year) and required the Manufacturer to make some 800,000 pounds of plastic products annually and to sell them exclusively to the Seller at a pre-set formula.;

(2) Exclusivity: the contract prevented the Manufacturer from selling the plastic product to anyone other than Seller and gave Seller the final say over any product or process changes;

(3) A “Cost Improvement” section of the contract provided that Seller and Manufacturer would share the benefits of cost improvements on a 50/50 basis;

(4) Multiple emails revealed that Seller’s and Manufacturer’s personnel discussed a mutually beneficial business relationship and alluded to long-term collaboration and cost savings sharing.

(¶¶ 80-101)

In the end, the Court really didn’t know what to make of the parties’ plastics making arrangement.  The most it could say was that it was  a “long-term, closely intertwined relationship.” (¶ 101).

Taken together, the evidence of the parties’ unique business model raised a material fact question (as to whether it was a joint venture) that should have survived summary judgment.

Afterwords:

Definitely a pro-plaintiff case in the sense that a company that’s arguably twice removed from an injured plaintiff and who sells to a universe of consumers unrelated to those the plaintiff’s employer sells to can still be deemed a joint venturer of that employer.

The case could have huge liability ramifications.  If a deep-pocketed seller can be viewed as being in a joint venture with a separate manufacturer, that seller is potentially on the hook for a high dollar jury verdict or settlement for actions of the manufacturer alone.

The case lesson for business defendants is clear: If the intent is to be considered separate and independent, they should document that and take pains not to jointly control business property or share in its profits.

 

All About Illinois Land Trusts

The Seventh Circuit recently provided a good primer on Illinois land trust property ownership in Stable Investments Partnership v. Vilsack, 2015 WL 55466 (7th Cir. 2015).

There, the court agreed with the Northern District and found that an Illinois land trust beneficiary wasn’t an “owner” under a Federal farm subsidy program operated by the U.S. Department of Agriculture.

Land Trust Basics

Affirming summary judgment for the government defendant, the Seventh Circuit highlighted some key elements of an Illinois land trust:

In a land trust, the trustee holds both legal and equitable title to the land trust property;

– The land trust beneficiary holds a personal property interest in the trust proceeds and has the exclusive power to direct the trustee in its dealings with the property;

– Since the beneficiary’s land trust interest is personal property (e.g. like a car, bank account, anything moveable), that interest can be freely sold, assigned or transferred by the beneficiary;

– While the trustee is held out to the world as the property owner, it is the beneficiary who exercises the powers of ownership;

– Two main advantages of land trust ownership over competing methods include: (1) Anonymity: identity of trust beneficiaries are shielded from public knowledge – one must usually file suit to ID a land trust beneficiary; and (2) interests in the property can be pledged, assigned or sold easier than with other ownership methods;

A land trust beneficiary is the real party in interest concerning issues involving management and control of the land. By contrast, a land trust trustee is the dominant party for issues involving property title and public record filings a third party would likely consult when faced with a property dispute.

(**1, 4)

Citing Illinois case law and these principles, the Court found that the USDA properly exercised its discretion in ruling that the land trust beneficiary was not a statutory “owner” under the farm subsidies program.

Additional Land Trust Features

The Illinois Department of Professional Regulation (“IDPR”) echoes and amplifies some of the key land trust features on its Web page. Here are some land trust traits singled out for special mention by the site:

A land trust may be created by anyone capable of entering into a contract–an individual; a group of people, a joint venture or a business association;

– Since the beneficiary retains complete control of the real estate, he can end the trust or add more property to it anytime he wants;

– The trustee executes deeds and mortgages and deals with the property only if directed in writing by the beneficiary.

– When the property is held in a land trust, a judgment against one beneficiary doesn’t lien the real estate (see http://paulporvaznik.com/land-trust-beneficial-interest-personal-property-related-realty-cant-liened-creditor-il-law/6540);

– A land trust is uniquely suited to disposing of only a partial interest in realty. Since the beneficial interest can be transferred by assignment, no deed is required. This flexibility feature is important when real estate is held by multiple parties

– To create a land trust, you execute a trust agreement at the time the real estate is purchased or after it has been acquired. The agreement gives the beneficiary power to direct a corporate fiduciary (the trustee) to hold title to the real estate. The beneficiary can then dictate to the trustee who has authority to manage and control the property, whether and when the property can be sold and to whom and who becomes owner upon your death.

See http://www.idfpr.com/banks/consumer/tips/TRUSTS.ASP

Afterwords:

With land trust ownership seemingly gaining in popularity, Illinois real estate professionals – be they buyers, sellers, realtors or attorneys – should have a working knowledge of the basic attributes and effects of land trust ownership.