Good Faith and Fiduciary Duties to Third Parties

Good Faith and Fiduciary Duties to Third Parties, Principals and Partners By Dean Donald J. Weidner Florida State University College of Law For the College of Advanced Judicial Studies Naples, Florida, June 8, 2012

• The primary fiduciary duties are (a) care and (b) loyalty, with loyalty being very powerful. • Good faith is also sometimes discussed as a fiduciary duty. • There has never been a bright line between these duties. • Stone v. Ritter, 911 A. 2 d 362 (Del. 2006) discusses the ebb and flow among the duties of care, loyalty and good faith. • There are colliding judicial philosophies on fiduciary duties. • The statutes governing various business organizations intervene significantly in this area. Donald J. Weidner Fiduciary Duties In General 2

• Quinn v. Phipps, 113 So. 419 (1927). • Justice Terrell: “The Term ‘fiduciary or confidential relation’ is a very broad one. It has been said that it exists, and that relief is granted, in all cases in which influence has been acquired and abused-in which confidence has been reposed and betrayed. The origin of the confidence is immaterial. The rule embraces both technical fiduciary relations and those informal relations which exist whenever one man trusts in and relies upon another. ” Donald J. Weidner The Grand Old Florida Case on Fiduciary Duties 3

• More from Justice Terrell: “Stripped of all embellishing verbiage, it may be confidently asserted that every instance in which a confidential or fiduciary relation in fact is shown to exist will be interpreted as such. The relation and duties need not be legal; they may be moral, social, domestic or personal. If a relation of trust and confidence exists between the parties (that is to say, where confidence is reposed by one party and a trust accepted by the other, or where confidence has been acquired and abused), that is sufficient as a predicate for relief. The origin of the confidence is immaterial. ” (emphasis added) Donald J. Weidner The Grand Old Florida Case (cont’d) 4

Others Reject Special Treatment of Fiduciary Duties “Fiduciary duties are not special duties; they have no moral footing; they are the same sort of obligations, derived and enforced in the same way, as other contractual undertakings. ” (emphasis added) Frank H. Easterbrook and Daniel R. Fischel, Contract and Fiduciary Duty, 31(1) J. L. & ECON. 425, 427 (1993). Donald J. Weidner Contractarians Reject the Special Treatment of Fiduciary Duties. 5

Fiduciary Duties Not Special (cont’d) “Scholars of non- or antieconomic bent have had trouble coming up with a unifying approach to fiduciary duties because they are looking for the wrong things. They are looking for something special about fiduciary relations. There is nothing special to find. There are only distinctive and independently interesting questions about particular consensual (and thus contractual) relations. . Searching for the right definition of a fiduciary duty is not a special puzzle. In short, there is no subject here, and efforts to unify it on a ground that presumes its distinctiveness are doomed. ” Id. at 438. (emphasis added) Donald J. Weidner More from Easterbrook and Fischel: 6

“But fiduciary relationships also have important features which differ from those of loan transactions and agreements for the purchase and sale of goods. Though fiduciary relationships may, like marriage relationships, be part of the same genus, they are, like marriage relationships, members of a different species. They differ in doctrinal structure. They differ in ethical basis. Some contractualist writing, going beyond suggestions as to lexical definition, denies one or the other of these two propositions. This Article aims to establish that both are true. ” Scott Fitz. Gibbon, Fiduciary Relationships Are Not Contracts, 82 MARQ. L. REV. 303, 305 (1999). Donald J. Weidner Others Insist that Fiduciary Duties Are Special 7

Historical Treatment by Courts “Traditionally, a contract embracing a fiduciary relationship is treated specially. The law of agency states that agency ‘is both a consensual and a fiduciary relation. ’ Although the agency relation normally involves a contract, ‘it is a special kind of contract, since an agent is not merely a promisor or a promisee but is also a fiduciary. ’ This means that the agent's ‘duties are similar to those of a testamentary trustee to the beneficiaries. ’ Any ‘gaps’ in the contract are filled with this in mind, and specific provisions are interpreted with this is mind. Doubts are resolved against the fiduciary. ” Donald J. Weidner, Cadwalader, RUPA and Fiduciary Duty, 54 WASH. & LEE L. REV. 877, 901 (1997). Donald J. Weidner Contracts Embracing Fiduciary Relationships Have Been Treated Specially. 8

• It is often easier to establish a breach of a fiduciary duty than of a contractual duty • Burdens are often shifted against those who are classified as fiduciaries. • There may be greater remedies for breach of a fiduciary duty than of a contractual duty • Tort remedies, and not merely contract remedies, are often available for breach of fiduciary duties • Including punitive damages. Rest. 2 d Torts § 874, Comment b (1979). Donald J. Weidner Historical Treatment by Courts (cont’d) 9

Historical Treatment by Courts (cont’d) Fiduciaries Have Greater Burdens of Proof transaction with the beneficiary, or affecting the beneficiary’s rights, courts usually impose the burden of proof on fiduciaries to prove they acted in good faith and fairly, with all that implies. This burden frequently cannot be satisfied by a preponderance of the evidence. Instead, the fiduciary may satisfy his burden only if he produces clear and convincing evidence of his probity and fair dealing. Fiduciaries may also be burdened with other procedural disadvantages in trials with their beneficiaries. Fiduciary status may also affect the statute of limitations. ” Dan B. Dobbs, THE LAW OF TORTS § 696, at 747 (2000). (emphasis added) Donald J. Weidner “Once the beneficiary shows that the fiduciary engaged in a 10

Florida’s Leading “Bad Faith” Insurance Case • Plaintiff had his car insured. He let a friend drive it. The friend drove drunk, crossed a center line and killed a mother and seriously injured her daughter. Plaintiff’s insurance policy limits were $10, 000 bodily injury person and $20, 000 per accident. • The deceased’s husband, though not appointed a personal representative, made a time-limited offer to the Insurance Company to settle within policy limits. • Defendant Insurance Company did not pay the claim within the time limit, the offer to settle was withdrawn and a $1. 4 million judgment was awarded against Plaintiff. • Insurance Company had notified Plaintiff until one month after the expiration of the offer to settle “about the possibility of an excess judgment and his right to retain independent counsel. ” • Plaintiff sued the Insurance Company for a bad faith refusal to settle and for failing to advise Plaintiff of the settlement offer. Donald J. Weidner Berges v. Infinity Ins. Co. , 896 So. 2 d 665 (Fla. 2004). 11

Berges v. Infinity Ins. Co. (cont’d) Justice Pariente: Case Concerns Fiduciary Obligation “This case concerns an insurer’s fiduciary obligation to protect its insured from a judgment exceeding the limits of the insurance policy. ” Mostly Discussed in Terms of Good Faith That At Least Requires Due Care “An insurer, in handling the defense of claims against its insured, has a duty to use the same degree of care and diligence as a person of ordinary care and prudence should exercise in the management of his own business. ” Donald J. Weidner Most of Justice Pariente’s opinion discussed “the duty of good faith” and the duty to act “fairly and honestly” toward the insured. Imposed Because of Control over Another’s Affairs “For when the insured has surrendered to the insurer all control over the handling of the claim, including all decisions with regard to litigation and settlement, then the insurer must assume a duty to exercise such control and make such decisions in good faith and with due regard for the interests of the insured. ” 12

Berges v. Infinity Ins. Co. (cont’d) An insurer’s duty of good faith specifically obligates it to: • advise the insured of settlement opportunities, • advise on the probable outcome of the litigation, • warn of the possibility of an excess judgment, and • advise the insured of any steps he might take to avoid same. “The duty to inform the insured of the settlement opportunities is one of the duties subsumed within the duty of good faith owed by an insurer to an insured. ” “The failure to inform the insured of the settlement offer does not automatically establish bad faith; it is simply one factor for the jury to consider in determining whether the insurer acted in bad faith. ” Donald J. Weidner Specific Aspects of the Duty of Good Faith: 13

• Justice Anstead, Concurring: “Where the insurance company knows that the liability is clear and the damages clearly in excess of the policy limits, that obligation usually requires an insurance company to seize upon any opportunity to settle within the policy limits. ” 896 So. 2 d at 685 (emphasis added) Donald J. Weidner Berges v. Infinity Ins. Co. (cont’d) 14

Berges v. Infinity Ins. Co. (cont’d) “[T]here are strategies which have developed in the pursuit of insurance claims which are employed to create bad faith claims against insurers when, after an objective, advised view of the insurer’s claims, bad faith did not occur. This is a strategy which consists of setting artificial deadlines for claims payments and the withdrawal of settlement offers when the artificial deadline is not met. The goal of this strategy is to convert a policy purchased by the insured which has low limits of insurance into unlimited insurance coverage. ” (emphasis added) “Bad faith judgments against insurers drive up the premium costs for all insured's, particularly for insured's who purchase low-limits liability insurance policies. Liability insurance is a pool of money. The pool is filled by premiums and drained by claims. ” “The decision in this case will have future impact on Florida citizens who need to have this insurance at affordable rates. ” Donald J. Weidner Justice Wells, Dissenting: 15

Berges v. Infinity Ins. Co. (cont’d) “I do not believe that it is acceptable for the Court to merely say that bad faith is a jury question. It is the Court’s responsibility to have logical, objective standards for bad faith and not to avoid setting definitive standards by declaring bad faith to be a jury question. ” “The Court should recognize that it has the responsibility to reserve bad faith damages, which is limitless, court-created insurance, to egregious circumstances of delay and bad faith acts. The Court likewise has a responsibility to not allow contrived bad faith claims that are the product of sophisticated legal strategies and not the product of actual bad faith. ” Id. (emphasis added) Donald J. Weidner Justice Wells, Dissenting (cont'd): 16

Berges v. Infinity Ins. Co. (cont’d) “Presenting all bad faith cases to a jury does not provide for the objective analysis required. What the jury knows in these cases is that there is a tragically and grievously injured victim, that the insured had very low limits of insurance, and that if the jury finds against the insurer, then all of the victim’s damages will be paid by the insurer. It is these very facts which are not allowed to be known by a jury in liability cases because of the known prejudicial influence these facts are known to have on jury verdicts. ” (emphasis added) “I conclude that what is needed are express guidelines which include set time periods in which all insurers must presumptively make decisions on claims and issue payments. The guidelines should set out the conditions for payments such as for the appointment of guardians. There is also a need for defined penalties for failure to meet these time requirements rather than limitless insurance. ” (emphasis added) Donald J. Weidner Justice Wells, Dissenting (cont'd): 17

Berges v. Infinity Ins. Co. (cont’d) Justice Cantero referred to the “fiduciary duty” of the insurer. 896 So. 2 d at 687. However, he would have held, as a matter of law, no breach of duty here. First set out the duty, citing Guiterrez: An “insurer must investigate the facts, give fair consideration to a settlement offer that is not unreasonable under the facts, and settle, if possible, where a reasonably prudent person, faced with the prospect of paying the total recovery, would do so. ” Boston Old Colony Insurance Co. v. Gutierrez, 386 So. 2 d 783, 785 (Fl. 1980)(emphasis by Justice Cantero). “To establish a breach of this duty, claimants must demonstrate more than mere negligence; they must prove the insurer acted in bad faith. . that the insurer breached its fiduciary duty to the insured by ‘wrongfully refusing to settle the case within the policy limits, and exposing its insured to a judgment which exceeds the coverage provided by the policy. ” Donald J. Weidner Justice Cantero, Dissenting: 18

Berges v. Infinity Ins. Co. (cont’d) “An insurance company acts in bad faith in failing to settle the claim against its insured within its policy limits when under all the circumstances it could and should have done so had it acted fairly and honestly towards its insured and with due regard for his or her interest. ” Donald J. Weidner Justice Cantero, Dissenting (cont’d): “Clearly mistakes and miscues do not meet this standard. ” 19

Doe v. Evans, 814 So. 2 d 370 (Fl. 2002). Justice Pariente, for the majority, writes: “[W]e hold that when a church, through its clergy, holds itself out as qualified to engage in marital counseling and a counseling relationship arises, that relationship between the church and the counselee is one that may be characterized as fiduciary in nature. ” 814 So. 2 d at 375. “[I]t is a question for the jury to determine whether a fiduciary relationship arose; the nature of that relationship; and whether as a result of the Church Defendants’ conduct, there was a breach of the Church Defendants’ duty as fiduciaries to Doe. ” Id. Donald J. Weidner Florida Case Holding Church and Clergy Fiduciaries 20

Justice Wells, Dissenting: “To accept the present allegations as stating a cause of action results in there being an entirely unknown tort cause of action. This presents many questions. For example, what is the standard for the fiduciary duty? How is the standard to be evaluated? If this were pled as a malpractice action, the standard would be what a reasonably prudent counselor would not do under the circumstances. Of course, likely what is here being avoided is that a malpractice standard could inject church doctrine into the case which would result in the First Amendment bar. ” 814 So. 2 d at 381. Donald J. Weidner Doe v. Evans (cont’d) 21

Agents as Fiduciaries “Agency is the fiduciary relationship that arises: [a] when one person (a “principal”) manifests assent to another person (an “agent”); [b] that the agent shall act on the principal’s behalf and [c] subject to the principal’s control, and [d] the agent manifests assent or otherwise consents so to act. ” Donald J. Weidner Restatement of the Law (Third) of Agency § 1. 01 (2006): Comment (e) to 1. 01 states: Fiduciary signifies that an agent must act loyally in the principal’s interest, as well as on the principal’s behalf. 22

Agents as Fiduciaries • “It is a legal conclusion whether a particular relationship is one of agency. ” Comment (a) to 1. 01. • “Whether a relationship is characterized as agency in an agreement. . . is not controlling. ” Rest. 3 d Sec. 1. 02. • Returning to our basic question, why does it matter whether you classify a duty as fiduciary: • “Three types of consequences result from an agent’s fiduciary duties to the principal. First, if an agent breaches a fiduciary duty of loyalty, distinctive remedies are available to the principal. Moreover, burdens of proof are often allocated differently in cases alleging breach of fiduciary obligation than in civil litigation generally. A different limitation period may apply, and it may not begin to run until the principal discovers the breach of the fiduciary duty. ” Comment (e) to Section 1. 01. 23

Agents as Fiduciaries (cont’d) Catchall: One party to the relationship reposed trust and confidence in the other consistently with the other’s invitation. Most Agent Fiduciary Duty Questions Involve the Agent’s • Relationship to property owned by the principal • Confidential information concerning the principal • Undisclosed relationship with third parties who compete or deal with the principal • Undisclosed interest in transactions with the principal or competitive activity. Restatement of the Law (Third) of Agency § 1. 01 (2006). Donald J. Weidner Restatement of the Law (Third) of Agency § 8 (2006). 24

Agents as Fiduciaries (cont’d) • Act loyally for the principal’s benefit in all matters connected with the agency relationship. • Use care in acting on the principal’s behalf. • Use reasonable efforts to provide material information to the principal. • Explain all transactions that the agent has undertaken on the principal’s behalf to the principal. • Refrain from acting as or on behalf of a competitor of the principal during the agency relationship. Donald J. Weidner Agent has the duty to the principal to: Restatement of the Law (Third) of Agency § 8 (2006). 25

Agents as Fiduciaries (cont’d) • Refrain from competing with the principal. • Refrain from misleading the principal about the agent’s intentions. • Refrain from using the principal’s property for the agent’s own purposes or those of a third party. • Refrain from communicating confidential information of the principal for the agent’s own purposes or those of a third party. • Manage the principal’s property. • Only use the property in his/her possession on the principal’s behalf, unless the principal consents to such use. Donald J. Weidner Agent has a duty to the principal to (cont'd): Restatement of the Law (Third) of Agency § 8 (2006). 26

Agents as Fiduciaries (cont'd) • Not to deal with the principal’s property, so that it appears to be the agent’s property. • Not to mingle the principal’s property with someone else’s. • Keep and render accounts to the principal of money or other property received or paid out on the principal’s account. • Act in accordance with the express and implied terms of any contract between the agent and principal. • Act reasonably and refrain from conduct that is likely to damage the principal’s enterprise. Donald J. Weidner Agent has a duty to the principal to (cont'd): Restatement of the Law (Third) of Agency § 8 (2006). 27

Agents as Fiduciaries (cont'd) • Act with care, competence, and diligence normally exercised by agents in similar circumstances. • If the agent claims to possess special skills or knowledge, there is a duty to act with care, competence, and diligence normally exercised by agents with such skills or knowledge. • Not to acquire a material benefit from a third party in connection with transactions conducted or other actions taken on behalf of the principal or otherwise through the agent’s use of the agent’s position. Duties can vary depending on the parties agreement, scope of the parties relationship, and the duration of the relationship. Restatement of the Law (Third) of Agency § 8 (2006). Donald J. Weidner Agent has a duty to the principal to (cont'd): 28

Agents as Fiduciaries (cont'd) During the agency relationship, an agent may take action, not wrongful, to prepare for competition following the termination of the relationship. Restatement of the Law (Third) of Agency § 8 (2006). Donald J. Weidner Agent does not have a duty to the principal to disclose to the principal that the agent plans to engage in competition once the agency relationship has ended. 29

Agents as Fiduciaries (cont'd) • Obtain the principal’s consent • Act in good faith • Disclose all material facts that the agent knows or has reason to know or should know that would affect the principal’s judgment • Deal fairly with the principal Restatement of the Law (Third) of Agency § 8 (2006). Donald J. Weidner Avoiding a breach of fiduciary duty requires the agent to: 30

Rice v. First Federal Sav. & Loan Ass’n of Lake County Donald J. Weidner Florida Case: No Agency and No Duty

Rice v. First Federal Sav. & Loan Ass’n of Lake County, 207 So. 2 d 22 (Fla. 2 d DCA 1968) Borrowers appealed from a judgment of foreclosure on a mortgage they gave on a building. B Note for $12, 000 Mortgage on bldg. to be constructed partly with loan proceeds CL charges B a fee for “inspection and supervision” [1% of loan proceeds] Construction Lender CL Building began to crumble (shortly after completion) B Defaulted on note CL B Sued to foreclose CL B Counterclaimed for damages for negligent inspection CL [the building began to crumble because of construction defects] Donald J. Weidner B 32

Rice v. First Federal (cont’d) • If a Lender has a duty to its own shareholders to behave a certain way, should that duty extend to others who may suffer from its breach? • Such as Borrowers Donald J. Weidner • Did Lender, “by undertaking the inspection of the construction site and requiring [borrowers] to pay a fee therefor, impliedly [contract] with [borrowers] to make such inspection for their benefit? ” 33

• Court: A construction lender “has an interest in the progress and quality of the construction of its security proportional to the amount of the money invested and would reasonably be expected to inspect the construction and be entitled to additional compensation for its additional costs in making such inspection. ” • Does this cut for or against imposing a duty on the lender in favor of the borrower? Donald J. Weidner Rice v. First Federal (cont’d) • Court’s apparent rationale • It is not necessary to impose liability to induce the lender to prevent losses because the lender is already under an economic incentive to engage in loss-avoiding behavior. • Here, the Lender’s agent did inspect the project. 34

• Court assumed that the Lender was not acting as an agent of the Borrower. Recall that under the Restatement Definition: Agency is the fiduciary relationship that arises when: • Principal manifests assent to another • That the other shall act on the principal’s behalf • And subject to the principal’s control • And the other manifests assent or consents so to act. Donald J. Weidner Rice v. First Federal (cont’d) 35

Restatement (Second) of Torts § 874 (1979) Lake Placid Holding, Co. v. Paparone Donald J. Weidner Tort Remedies and the Fiduciary Relationship

Restatement (Second) of Torts § 874 (1979) “One standing in a fiduciary relation with another is subject to liability to the other for harm resulting from a breach of duty imposed by the relation. ” Comment b: “A fiduciary who commits a breach of his duty as a fiduciary is guilty of tortious conduct to the person for whom he should act. ” (emphasis added) “The liability is not dependent solely upon an agreement of contractual relation between the fiduciary and the beneficiary but results from the relation. ” (emphasis added) “The remedy of a principal against an agent is ordinarily at law. ” Donald J. Weidner Violation of Fiduciary Duty Is Tortious Conduct 37

Florida Case on Punitive Damages Lake Placid Holding, Co. v. Paparone, 508 So. 2 d 372 (Fla. 2 d DCA 1987). • Purchaser’s assignee appeared as if he was not going to fulfill his obligation to develop and sell real estate. • Vendor filed an action seeking damages, specific performance, and foreclosure of vendor’s lien. • Vendor reacquired the property pursuant to settlement in lieu of foreclosure. • Real estate broker intervened to request portion of damages from the suit to cover her commission equal to a 50% undivided interest in the property. • Broker also claimed Vendor breached fiduciary duties and should pay punitive damages. Donald J. Weidner Facts: 38

Lake Placid Holding, Co. v. Paparone (cont'd) “We will not sustain an award of punitive damages for the breach of a contract save in the circumstance where the conduct producing the breach is itself endowed with the characteristics of an independent, actionable tort. ” Donald J. Weidner Judge Frank vacated findings of fraud and breach of fiduciary duty and reversed an award of punitive damages, stating: “Even a flagrant breach of contract will not support punitive damages. ” “The proof which must be developed in order to warrant the award of punitive damages in the context of a breach of contract must rise to a level revealing malice, moral turpitude, wantonness ‘conceived in the spirit of mischief or criminal indifference to civil obligations. ’” 39

Florida’s Enactment of the Revised Uniform Partnership Act Jewel v. Boxer Cadwalader, Wickersham & Taft v. Beasley Donald J. Weidner Fiduciary Duties In Partnerships

Revised Uniform Partnership Act § 404 Florida’s Version West F. S. A. § 620. 8404 (a) The only fiduciary duties a partner owes to the partnership and the other partners are the duty of loyalty and the duty of care set forth in subsections (b) and (c). (b) A partner’s duty of loyalty to the partnership and the other partners is limited to the following: (1) The only fiduciary duties a partner owes to the partnership and the other partners are the duty of loyalty and the duty of care, as set forth in subsections (2) and (3). (2) A partner’s duty of loyalty to the partnership and the other partners is limited to the following: Donald J. Weidner General Standards of Partner’s Conduct (exclusive list of fiduciary duties) 41

General Standards of Partner’s Conduct (cont'd) (1) To account to the partnership and hold as trustee for it any property, profit, or benefit derived by the partner in the conduct and winding up of the partnership business or derived from a use by the partner of partnership property, including the appropriation of a partnership opportunity; Florida’s Version West F. S. A. § 620. 8404 (a) To account to the partnership and hold as trustee for the partnership any property, profit, or benefit derived by the partner in the conduct and winding up of the partnership business or derived from a use by the partner of partnership property, including the appropriation of a partnership opportunity; Donald J. Weidner Revised Uniform Partnership Act § 404 42

General Standards of Partner’s Conduct (cont'd) (2) To refrain from dealing with the partnership in the conduct or winding up of the partnership business as or on behalf of a party having an interest adverse to the partnership; and (3) To refrain from competing with the partnership in the conduct of the partnership business before the dissolution of the partnership. Florida’s Version West F. S. A. § 620. 8404 (b) To refrain from dealing with the partnership in the conduct or winding up of the partnership business as or on behalf of a party having an interest adverse to the partnership; and (c) To refrain from competing with the partnership in the conduct of the partnership business before the dissolution of the partnership. Donald J. Weidner Revised Uniform Partnership Act § 404 43

General Standards of Partner’s Conduct (cont'd) (c) A partner’s duty of care to the partnership and the other partners in the conduct and winding up of the partnership business is limited to refraining from engaging in grossly negligent or reckless conduct, intentional misconduct, or a knowing violation of law. (d) A partner shall discharge the duties to the partnership and the other partners under this [Act] or under the partnership agreement and exercise and rights consistently with the obligation of good faith and fair dealing. Florida’s Version West F. S. A. § 620. 8404 (3) A partner’s duty of care to the partnership and the other partners in the conduct and winding up of the partnership business is limited to refraining from engaging in grossly negligent or reckless conduct, intentional misconduct, or a knowing violation of law. (4) A partner shall discharge the duties to the partnership and the other partners under this act or under the partnership agreement and exercise any rights consistently with the obligation of good faith and fair dealing. Donald J. Weidner Revised Uniform Partnership Act § 404 44

General Standards of Partner’s Conduct (cont'd) (e) A partner does not violate a duty or obligation under this [Act] or under the partnership agreement merely because the partner’s conduct furthers the partner’s own interest. (f)A partner may lend money to and transact other business with the partnership, and as to each loan or transaction the rights and obligations of the partner are the same as those of a person who is not a partner, subject to other applicable law. Florida’s Version West F. S. A. § 620. 8404 (5) A partner does not violate a duty or obligation under this act or under a partnership agreement merely because the partner’s conduct furthers the partner’s own interest. (6) A partner may lend money to and transact other business with the partnership, and as to each loan or transaction, the rights and obligations of the partner are the same as those of a person who is not a partner, subject to other applicable law. Donald J. Weidner Revised Uniform Partnership Act § 404 45

Revised Uniform Partnership Act § 404 Florida’s Version West F. S. A. § 620. 8404 (g) This section applies to a person winding up the partnership business as the person or legal representative of the last surviving partner as if the person were a partner. (7) This section applies to a person winding up the partnership business as the person or legal representative of the last surviving partner as if the person were a partner. Donald J. Weidner General Standards of Partner’s Conduct (cont'd) See Donald J. Weidner, Cadwalader, RUPA and Fiduciary, 54 WASH. & LEE L. REV. 877 (1997). See also generally, Robert W. Hillman, Allan W. Vestal and Donald J. Weidner, THE REVISED UNIFORM PARTNERSHIP ACT (2011). 46

Partner’s Rights and Duties With Respect to Information FRUPA § 620. 8403 sets out the partnership and partners’ rights and duties with respect to information. It is striking that these (3) Each partner and the partnership shall furnish to a partner, and to the legal representative of a deceased partner or partner under legal disability: (a) Without demand, any information concerning the partnership’s business and affairs reasonably required for the proper exercise of the partner’s rights and duties under the partnership agreement or this act; and (b) Upon demand, any other information concerning the partnership’s business and affairs, except to the extent the demand or the information demanded is unreasonable or otherwise improper under the circumstances. Donald J. Weidner information duties are NOT fiduciary duties under the RUPA or FRUPA. See § 620. 8403 (3)(a), (b) (1995). 47

• Except for the mandatory rules listed in 620. 8103(2), the partnership agreement controls the relations among partners and between the partnership and partner. 620. 8103(1). • 620. 8103(2) says the partnership agreement may not: • “unreasonably restrict the right of access to books and records under s. 620. 8403(2) or to information under s. 620. 8403(3). ” • “unreasonably reduce the duty of care under s. 620. 8404(3) or s. 620. 8603(2)(c)” MANDATORY RULES CONTINUED ON NEXT SLIDE Donald J. Weidner Mandatory Fiduciary (and related) Duties (information and care) 48

Mandatory Fiduciary (and related) Duties (cont’d)(loyalty) • However, the partnership agreement “may identify specific types or categories of activities that do not violate the duty of loyalty, if not manifestly unreasonable. ” Also, ratification is authorized if full disclosure. 620. 8103(d)(1) and (2). Donald J. Weidner • 620. 8103(2)(d) says the partnership agreement may not: “Eliminate the duty of loyalty under s. 620. 8404(2) or s. 620. 8603(2), ” • MANDATORY RULES CONTINUED ON NEXT SLIDE 49

Mandatory Fiduciary (and related) Duties (cont’d)(good faith and fair dealing) • but the partnership agreement “may prescribe the standards by which the performance of the obligation is to be measured if the standards are not manifestly unreasonable. ” • The prohibitions against unreasonable reduction and elimination are softer than the do not “vary” limitation on certain other rules. The hierarchy: • May not vary • May not unreasonably restrict or reduce • May not eliminate Donald J. Weidner • 620. 8103(2)(f) says the partnership agreement may not: “Eliminate the obligation of good faith and fair dealing under s. 620. 8404(4), ” 50

Supplemental Principles of Law • FRUPA Section 620. 8104(1): “Unless displaced by particular provisions of this act, the principles of law and equity supplement this act. ” • These supplemental principles “encompass not only the law of agency and estoppel and the law merchant mentioned in the UPA, but all of the other principles listed in UCC Section 1 -103: the law relative to capacity to contract, fraud, misrepresentation, duress, coercion, mistake, bankruptcy, and other common law validating or invalidating causes, such as unconscionability. Official Comments to RUPA Section 104. 51

Effect of Partner’s Dissociation on Fiduciary Duties (b) Upon a partner’s dissociation: (1) The partner’s right to participate in the management and conduct of the partnership business terminates, except as otherwise provided in Section 803; (2) The partner’s duty of loyalty under Section 404(b)(3) terminates; and (3) The partner’s duty of loyalty under Section 404(b)(1) and (2) and duty of care under Florida’s Version West F. S. A § 620. 8603 (2) Upon a partner’s dissociation: (a) The partner’s right to participate in the management and conduct of the partnership business terminates, except as otherwise provided in Section 620. 8803; (b) The partner’s duty of loyalty under Section 620. 8404(2)(c) terminates; and (c) The partner’s duty of loyalty under Section 620. 8404(2)(a) and (b) and duty of care under Section 620. 8404(3) Donald J. Weidner Revised Uniform Partnership Act § 603 52

Effect of Partner’s Dissociation on Fiduciary Duties (cont'd) (3) Section 404 (c) continue only with regard to matters arising and events occurring before the partner’s dissociation, unless the partner participates in winding up the partnership’s business pursuant to Section 803. Florida’s Version West F. S. A. § 620. 8603 (c) Continue only with regard to matters arising and events occurring before the partner’s dissociation, unless the partner participates in winding up the partnership’s business pursuant to Section 620. 8803. Donald J. Weidner Revised Uniform Partnership Act § 603 53

Effect of Partner’s Dissociation on Fiduciary Duties (cont'd) Subsections (b)(2) and (3) clarify a partner’s fiduciary duties upon dissociation. No change from current law is intended. With respect to the duty of loyalty, the Section 404(b)(3) duty not to compete terminates upon dissociation, and the dissociated partner is free immediately to engage in a competitive business, without any further consent. With respect to the partner’s remaining loyalty duties under Section 404(b) and duty of care under Section 404(c), a withdrawing partner has a continuing duty after dissociation, but it is limited to matters that arose or events that occurred before the partner dissociated. ” Donald J. Weidner Official Comments, Comment 2 (R. U. P. A. § 603 (2011); and West F. S. A. § 620. 8603 (1995). ) 54

Effect of Partner’s Dissociation on Fiduciary Duties (cont'd) “For example, a partner who leaves a brokerage firm may immediately compete with the firm for new clients, but must exercise care in completing on-going client transactions and must account to the firm for any fees received from the old clients on account of those transactions. As the last clause makes clear, there is no contraction of a dissociated partner’s duties under subsection (b)(3) if the partner thereafter participates in the dissolution and winding up the partnership’s business. ” Donald J. Weidner Official Comment 2 (cont'd) 55

Actions to Enforce Duties and Obligations (cont’d) (a) A partnership may maintain an action against a partner for breach of the partnership agreement, or for the violation of a duty to the partnership, causing harm to the partnership. (b) A partner may maintain an action against the partnership or another partner for legal or equitable relief with or without an accounting as to partnership business, to: Florida’s Version West F. S. A § 620. 8405 (1) A partnership may maintain an action against a partner for a breach of the partnership agreement, or for the violation of a duty to the partnership, causing harm to the partnership. (2) A partner may maintain an action against the partnership or another partner for legal or equitable relief, with or without an accounting as to partnership business to: Donald J. Weidner Revised Uniform Partnership Act § 405 56

Actions to Enforce Duties and Obligations (cont'd) (1) Enforce the partner’s rights under the partnership agreement; (2) Enforce the partner’s rights under this [Act] (rest of this section omitted) (c) The accrual of, and any time limitation on, a right of action for a remedy under this section is governed by other law. A right to an accounting upon a dissolution and winding up does not revive a claim barred by law. Florida’s Version West F. S. A. § 620. 8405 (a) Enforce such partner’s rights under the partnership agreement; (b) Enforce such partner’s rights under this act (rest of this section omitted) (3) The accrual of, and any time limitation on, a right of action for a remedy under this section is governed by other law. A right to an accounting upon a dissolution and winding up does not revive a claim barred by law. Donald J. Weidner Revised Uniform Partnership Act § 405 57

Actions to Enforce Duties and Obligations (cont'd) “Section 405(c) replaces UPA Section 43 and provides that other (i. e. , non-partnership) law governs the accrual of a cause of action for which subsection (b) provides a remedy. The statute of limitations on such claims is also governed by other law, and claims barred by a statute of limitations are not revived by reason of the partner’s right to an accounting upon dissolution, as they were under the UPA. The effect of those rules is to compel partners to litigate their claims during the life of the partnership or risk losing them. Because an accounting is an equitable proceeding, it may also be barred by laches where there is an undue delay in bringing the action. Under general law, the limitations periods may be tolled by a partner’s fraud. ” Donald J. Weidner Official Comments, Comment 4 (R. U. P. A. § 405 (2011); and West F. S. A. § 620. 8405 (1995). ) 58

Partnership Hypothetical #1 • HYPO #1: Attorneys Moe, Larry and Curley worked in “Law Offices of Grand Old Man. ” Those offices primarily handled plaintiff’s personal injury litigation on a contingent fee basis. Although they were not called partners on firm stationery or accounts, Moe, Larry, Curley and Old Man shared profits, occasionally referred to one another as partners and filed partnership tax returns. While Moe Larry and Curley were still in those offices, an insurance company interfered with the firm’s relationship with a client. Moe Larry and Curley subsequently left the firm to serve on the bench. Grand Old Man continued to practice and sued the insurance company for the interference with the client relationship. Years later, Grand Old Man received a $15 million judgment against the insurance company. May Moe Larry and Curley claim a share of the award? 59

Partnership Hypothetical #2 • HYPO #2. Assume the same firm. Assume Moe had been handling a very promising contingent fee case for Client. Shortly before the case went to trial, Moe left the firm, taking Client with him. Moe subsequently won a huge judgment for Client, who paid Moe a 30% contingency fee. Do Larry, Curley and Grand Old Man have a claim against Moe for a share of a contingency fee? 60

Partnership Hypothetical #3 • HYPO #3. Assume again the Moe, Larry, Curley and Old man law firm except assume also that it registered as a limited liability partnership. Assume again that Moe left, took Client with him, won the same judgment for Client and received the same 30% contingency fee. Assume also that the firm is heavily in debt for the art collection and other firm assets it acquired over the years. Do the firm creditors have any claim against the contingency fee paid to Moe? 61

Currently Controversial California Breakup Case • Four attorneys created a law firm partnership. • There was neither a written partnership agreement nor a dissolution agreement. • The partners dissolved the law firm partnership and formed two new law firms. • Each partner contacted his own clients under the old partnership to alert them of the dissolution and offer them “substitution of attorney” forms. The old clients went with the new firms, which represented the clients under the fee agreements entered into with the old firm. • Plaintiffs, two of the partners, filed a complaint against the other two partners for an accounting of fees from clients retained during the former partnership. Donald J. Weidner Jewel v. Boxer, 156 Cal. App. 3 d. 171, 203 Cal. Rptr. 13 (1984). 62

Jewel v. Boxer (cont’d) “[I]n the absence of a partnership agreement, the Uniform Partnership Act requires that attorneys’ fees received on cases in progress upon dissolution of a law partnership are to be shared by the former partners according to their right to fees in the former partnership, regardless of which former partner provides legal services in the case after the dissolution. ” “The fact that the client substitutes one of the former partners as attorney of record in place of the former partnership does not affect this result. ” “Under the Uniform Partnership Act. . . , a dissolved partnership continues until the winding up of unfinished partnership business. ” Donald J. Weidner Key Rules: 63

Jewel v. Boxer (cont'd) The Right of a Client to Choose a New Attorney is Not in Conflict. “The right of a client to the attorney of one’s choice and the rights and duties as between partners with respect to income from unfinished business are distinct and do not offend one another. ” “Once the client’s fee is paid to an attorney, it is of no concern to the client how that fee is allocated among the attorney and his or her former partners. ” Donald J. Weidner Income from Unfinished Business is a Firm Asset, Even if the Departing Partner Finishes the Business. 64

Jewel v. Boxer (cont'd) A Partner’s Fiduciary Duties Prevent the Partner from Diverting the “The substitutions of attorneys here did not alter the character of the cases as unfinished business of the old firm. To hold otherwise, would permit a former partner of a dissolved partnership to breach the fiduciary duty not to take any action with respect to unfinished partnership business for personal gain. ” “A partner is entitled to the reasonable value of the services in completing the partnership business. He may not seize for his own account the business which was in existence during the terms of the partnership. ” Donald J. Weidner Partnership Business for Personal Gain. 65

Jewel v. Boxer (cont'd) “[U]ndue hardship should be prevented by two basic fiduciary duties owned between the former partners. ” “First, each former partner has a duty to wind up and complete the unfinished business of the dissolved partnership. This would prevent a partner from refusing to furnish any work and imposing this obligation totally on the other partners, thus unfairly benefitting from their efforts while putting forth none of his or her own. ” “Second, no former partner may take any action with respect to unfinished business which leads to purely personal gain. . Thus the former partners are obligated to ensure that a disproportionate burden of completing unfinished business does not fall on one former partner or one group of former partners, unless the former partners agree otherwise. ” Donald J. Weidner Partner Duties on Law Firm Breakup (cont'd) 66

Jewel v. Boxer (cont'd) “The right of partners upon dissolution to have partnership property applied to discharge its liabilities and the surplus applied to pay in cash the net amount owing to the respective partners. ” (See UPA § 38, FRUPA Section 620. 8807(1)). RUPA has enhanced protection for post-dissolution service provider: NOTE: Because of the extensive services often provided in law firm breakups, RUPA Section 401(h) changed the UPA’s “no compensation” rule and now provides: “A partner is not entitled to remuneration for services performed for the partnership, except for reasonable compensation for services rendered in winding up the business of the partnership. ” See also FRUPA Section 620. 8401(h). Donald J. Weidner Dissolved Partners Have the Right to Be Paid in Cash for Partnership Property (including unfinished business): 67

Florida Law Firm Breakup Case • Cadwalader, Wickersham & Taft v. Beasley, 728 So. 2 d 253 (Fla. 4 th DCA 1998). • Applied New York Law to a case involving a Palm Beach partner claiming “wrongful expulsion. ” • Punitive damages were appropriate even though there were no compensatory damages: “Under New York law, the nature of the conduct which justifies an award of punitive damages is conduct having a high degree of moral culpability, or, in other words, conduct which shows a “conscious disregard of the rights of others or conduct so reckless as to amount to such disregard. ’”(emphasis added) Donald J. Weidner (although applying New York law) 68

Kham & Nate’s Shoes No. 2, Inc. v. First Bank of Whiting Penthouse Intern. , Ltd. v. Dominion Federal Sav. & Loan Ass’n Donald J. Weidner The Implied Obligation of Good Faith and Its Limits

The Contractual Obligation of Good Faith • Stated somewhat differently, contractual provisions must be carried out “in good faith” • Which the U. C. C. § 1 -201(19) (2003), defines most generally as “honesty in fact” • Except that, for a merchant, good faith requires both: • [a] honesty in fact and • [b] the observance of reasonable commercial standards of fair dealing in the trade. Donald J. Weidner • The overarching mandatory obligation in contract is to act in “good faith. ” U. C. C. § 1 -201 (2003). RESTATEMENT (SECOND) of CONTRACTS § 205 (1981). 70

Kham & Nate’s Shoes No. 2, Inc. v. First Bank of Whiting, 908 F. 2 d 1351 (7 th Cir. 1990). • The parties signed a loan agreement on Jan. 23, 1984 stating, “nothing provided herein shall constitute a waiver of the right of the Bank to terminate financing at any time. ” • On Feb. 29, 1984, Defendant mailed the Plaintiff a letter stating that it would make no additional advances after March 7, 1984, although the Plaintiff’s customers and suppliers already drew on the credit. Donald J. Weidner Famous Statement by Judge Easterbrook on the limitations of judicial use of the rubric of “good faith” Facts Most Briefly Bankruptcy Court Found “Unfair Advantage” Was Taken • The Bankruptcy judge granted the Plaintiff’s reorganization plan and found the Defendant had behaved inequitably in terminating the line of credit and inducing Plaintiff’s suppliers to draw on the letters of credit. 71

Kham & Nates Shoes (cont’d) Judge Easterbrook’s Analysis: Judge Easterbrook emphasized the rights of parties to rely on their contracts: “contracts specify the duties of the parties to each other, and each may exercise the privileges it obtained. ” The parties are not required to “do more. ” He also stated that “parties to a contract are not each other’s fiduciaries; they are not bound to treat customers with the same consideration reserved for their families. ” Donald J. Weidner The parties dealt at arms length. 72

• Judge Easterbrook stated: “Firms that have negotiated contracts are entitled to enforce them to the letter, even to the great discomfort of their trading partners, without being mulcted for lack of ‘good faith. ’ Although courts often refer to the obligation of good faith that exists in every contract. . . this is not an invitation to the court to decide whether one party ought to have exercised privileges expressly reserved in the document. ” (emphasis added) Donald J. Weidner Kham & Nates Shoes (cont’d) 73

• Judge Easterbrook (cont'd): “‘Good faith’ is a compact reference to an implied undertaking not to take opportunistic advantage in a way that could not have been contemplated at the time of drafting, and which therefore was not resolved explicitly by the parties. When the contract is silent, principles of good faith…fill the gap. They do not block use of terms that actually appear in the contract. ” Donald J. Weidner Kham & Nates Shoes (cont’d) (emphasis added) 74

Facts: • In short, Penthouse sued an S & L and its lawyer for failure to close a loan. • S & L relied on a provision in its contract that said its obligation would end if the loan was not closed by a certain date. • Negotiations went on past that date but ultimately ended without a closing. • Court below awarded $128, 000 to Penthouse against the S & L and its attorney and his law firm, who were held jointly and severally liable. • The judgment included 10 years of lost profits on a hotel and casino project. Donald J. Weidner Penthouse Intern. , Ltd. v. Dominion Federal Sav. & Loan Ass’n, 855 F. 2 d 963 (2 d Cir. 1988). 75

• On appeal, the Second Circuit reversed, taking a philosophically different approach than the lower court. Judge Altimari wrote: • In the guise of construing the terms of an agreement, “court[s] will not make a different or better contract than the parties themselves have seen fit to enter into[. ]” • March 1 was the final closing date and was the date on which the commitment expired. • even though “the parties’ conduct in continuing to negotiate after March 1 st may be consistent with an implied extension of the expiration date. ” Donald J. Weidner Penthouse (cont’d) 76

Penthouse (cont’d) • “The parties bargained for a loan commitment that remained open only for a stated duration and we are not at liberty to construe that agreement in a manner inconsistent with its clear language. ” Donald J. Weidner The Second Circuit’s Reversal 77

Gottsacker v. Monnier Executive Center III, LLC v. Meieran Donald J. Weidner Common Duties Among Organizations?

Gottsacker v. Monnier, 281 Wis. 2 d. 361, 697 N. W. 2 d. 436 (Wis. 2005). • Monnier formed New Jersey, LLC as a vehicle to own investment real estate. • Paul and Gregory Gottsacker became members of New Jersey, LLC, with a total of 50% interest and 50% voting rights. • After a strained relationship, Monnier and Paul started 2005 New Jersey, LLC; transferred the remaining asset from New Jersey, LLC to 2005 New Jersey LLC, and sent Gregory a check representing his interests in New Jersey, LLC. • The trial court found that the transfer served no legitimate business interest, and because Monnier and Paul both profited from it, the property had to be returned to the former LLC. • The court of appeals affirmed the trial court on different grounds, finding it was not an arm’s length transaction. Donald J. Weidner Represents a More Usual View of Fiduciary Duties as Modified by Statute Facts: 79

Gottsacker v. Monnier (cont’d) The court found a “material conflict of interest” in the conveyance of the property, and that Monnier and Paul engaged in self-dealing, because they increased their individual interests in the new LLC, which received the property. The court determined that “members with a material conflict of interest [are prohibited] from acting in a manner that constitutes a willful failure to deal fairly with the LLC or its other members. ” Donald J. Weidner Wisconsin Supreme Court Analysis: 80

Gottsacker v. Monnier (cont’d) “A limited liability company is a business entity created by statute where those who hold an interest in the entity are known as members. ” “The rights and obligations of a limited liability company to its members, of the members to the limited liability company and to each other are set by [Wisconsin’s limited liability company statute]. ” Donald J. Weidner Judge Patience Roggensack’s Concurring Opinion: “Common law concepts such as the fiduciary duty of a major shareholder of a corporation to a minority shareholder are replaced by statutory obligations. ” (emphasis added) “The rights and obligations may be adjusted through a contract. ” 81

Executive Center III, LLC v. Meieran, 2011 WL 4704274, E. D. Wis. 2011(Oct. 4, 2011). Represents an Expansive View of Fiduciary Duties Running to Third Parties and Apart from Statute • BRIC Executive, LLC sold an interest in the LLC to Defendants. • Plaintiffs bought an office building from BRIC and agreed to leaseback office space to BRIC for 3 years. • BRIC became insolvent and paid the Defendants their interest owed in the company, which was a transfer of assets in BRIC, and defaulted on the lease with Plaintiffs. • Plaintiffs filed suit claiming a breach of fiduciary duty owed to plaintiff amongst other claims. Donald J. Weidner Facts: 82

Executive Center III, LLC v. Meieran (cont’d) The court found that common law duties do apply to Wisconsin LLCs and distinguished the Gottsacker case. “Justice Roggensack mentioned only common law duties regarding the relations between interior members. . . she never definitively stated that common law fiduciary duties regarding third parties have been abrogated by statute. ” “Logic dictates that fiduciary duties exist to protect people who are affected by the actions of people who control businesses. ” “The existence of LLC statutes does not necessarily mean that common law fiduciary duties do not apply to LLCs. ” (emphasis added) “LLCs share much in common with corporations. Like LLCs, corporations are creatures of statutes. . . Nonetheless, corporations are considered to have common law fiduciary duties. Donald J. Weidner District Court’s Analysis: 83

Executive Center III, LLC v. Meieran (cont’d) “In fact, there is a growing consensus that common law fiduciary duties should apply to the operations of LLCs. . Logic dictates the same. Fiduciary duties exist to protect people who are affected by the actions of those who control businesses. Therefore, it would not make any sense if the expectation for a business to act fairly were to be different simply due to the business owners’ choice of form-an LLC in this case. If that were so, every dishonest owner could simply elect to operate its business as an LLC and claim that no fiduciary duties applied to its actions. . For these reasons, the Court finds that common law fiduciary duties apply to LLCs. ” (emphasis added) Donald J. Weidner District Court Analysis (cont’d): 84