Corporate Law, Veil Piercing, and Single Economic Parcel - - PowerPoint PPT Presentation

University of California, Berkeley U ve s ty o Cal o a, e eley

Corporate Law, Veil Piercing, and Single Economic Parcel

Presentation to the California Coastal Commission; May 11, 2011

• Prof. Eric L. Talley, PhD; JD

Rosalinde & Arthur Gilbert Chair Co-Director, UC Berkeley Center in Law, Business and the Economy

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and the Economy, University of California at Berkeley

Background and Motivation

• Takings override, and the question of what

constitutes a Single Economic Parcel constitutes a Single Economic Parcel

– Coastal Act § 30010; “Denominator problem”

• Common Ownership (or Unity of Ownership)

– Judicial factor in determining relevant econ. parcel

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• Emerging Practice:

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– Parcels formally owned by distinct “corporate” entities (e.g., corporations, LLCs, LLPs, LLLPs, etc*). Not expressly addressed in Cal Coastal Act

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– Not expressly addressed in Cal. Coastal Act.

* I will use “corporation” to refer collectively to all of these business entity forms, since they are treated similarly under alter ego law. (E.g., Cal Corp Code § 17101)

Basic Question

• Under principles of corporate law, when do courts

find it appropriate to “pierce” the formal legal boundaries separating corporations from one another and/or from their respective owners? another and/or from their respective owners? Whil th i littl d t i th tit ti l

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• While there is little precedent in the constitutional

takings context, elsewhere this question has been labeled the most litigated issue in corporate law

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labeled the most litigated issue in corporate law

– See, e.g., Thompson (1991)

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My Central Points

• 1. What is the purpose and effect of corporate law?

p p p

• 2. In what situations do veil-piercing considerations

usually come into play?

• 3. What is the basic legal test for piercing the veil,

and how is it decided?

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• 4. How frequently do courts pierce the veil in

practice?

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(1) What is the purpose and (1) What is the purpose and ff t f t l ? ff t f t l ? effect of corporate law? effect of corporate law?

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Purpose & effect of corporate law I:

A statutory “Carve Out” from common law statuto y Ca e Out

• co
• a

Traditional / Common Law A d P t hi L Agency and Partnership Law (Informal)

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• Cal. Corporations Code

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c.1931 (Formalities)

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“An association formed under a statute other than [California’s Uniform Partnership Act] … or a comparable statute of another jurisdiction is not a partnership under this chapter.” Cal. Corp. Code § 16202(b)

Purpose & effect of corporate law II:

Legal Significance

• Distinct from common law agency / partnership

– “[C]onsiderable doubt exists that the obligations that flow from a

ega S g ca ce

– [C]onsiderable doubt exists that the obligations that flow from a partnership…may be imposed on the shareholders of a corporation duly formed and operated under California statutes.” Persson v. Smart Inventions, Inc. (2005)

• Independent “Personhood”

– Property/Contract Rights (Dartmouth College v. Woodward (1819)); Potentially other rights (Citizens United v. FEC (2010);

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FCC v. AT&T (2011))

• Limited Liability

– Owners are generally liable only up to the amount they have

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g y y p y invested in the corporation (absent other contractual obligations)

• Asset Partitioning: Boundaries between ownership rights /

legal obligations of owners and companies:

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g g p

– Hansmann & Kraakman (2000); Palazzolo v. Rhode Island (2001)

Dole Food Co. v. Patrickson (2003)

“A basic tenet of American corporate law is th t th ti d it h h ld “A basic tenet of American corporate law is th t th ti d it h h ld that the corporation and its shareholders are distinct entities. An individual shareholder by virtue of his ownership of that the corporation and its shareholders are distinct entities. An individual shareholder by virtue of his ownership of shareholder, by virtue of his ownership of shares, does not own the corporation's assets and, as a result, does not own shareholder, by virtue of his ownership of shares, does not own the corporation's assets and, as a result, does not own

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, , subsidiary corporations in which the corporation holds an interest.” , , subsidiary corporations in which the corporation holds an interest.”

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Purpose & effect of corporate law III:

Policy Significance

• Increases clarity / certainty of inv. expectations
• cy S g

ca ce Increases clarity / certainty of inv. expectations

• Permits tradability/marketability of ownership
• Enables efficient risk-spreading / diversification

Enables efficient risk spreading / diversification

• Facilitates continuity of purpose
• Encourages coordination among parties

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• Encourages coordination among parties
• Catalyzes entrepreneurship & economic growth

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(2) In what situations do veil (2) In what situations do veil- (2) In what situations do veil (2) In what situations do veil piercing considerations piercing considerations ll i t l ? ll i t l ? usually come into play? usually come into play?

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Domain of Veil-Piercing I:

Conceptually: A “Carve Out of the Carve Out” p y

Traditional / Common Law Agency and Partnership Law ge cy a d a e s p a (Informal)

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• Cal. Corporations Code

c 1931

Alter Ego

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c.1931 (Formalities)

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Basic Idea: In specific situations, courts retain limited “equitable” discretion to disallow the statutory benefits of corporate form, when such status is used improperly or abusively.

Domain of Veil-Piercing II:

Typical contexts where piercing sometimes comes up yp p g p

Ci il Li bilit

• Civil Liability

– Contract claims (voluntary creditors) Tort claims (involuntary creditors) – Tort claims (involuntary creditors)

• Legal Process

Personal Jurisdiction & Venue

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– Personal Jurisdiction & Venue – Choice of Law/Forum

• Criminal Liability Attribution

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Criminal Liability Attribution

• Statutory/Regulatory Issues

– E g the Cal Coastal Act

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E.g., the Cal. Coastal Act

Statutory/regulatory examples where alter ego analysis has been employed alter ego analysis has been employed

• Vexatious litigant laws

Vexatious litigant laws

– Say & Say, Inc. v. Ebershoff (1993)

• Tax Law

Tax Law

– H.A.S. Loan Service, Inc. v. McColgan (1943)

• Environmental Law

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– US v. Bestfoods (1998) (CERCLA ‘operator’ liability)

• Wage & Hours Law

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g

– Brennan v. Arnheim & Neely, Inc. (1973) (FLSA ‘enterprise’ definition).

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Domain of Veil-Piercing III:

Piercing “from” what and “to” what? g

Has been used (subject to certain Piercing analysis is usually applied to each d d t l d D d b “d i h i d” ( j caveats) to pierce from corporation to

• wner, from

corporation to sister dyad separately; and not “holistically” to an entire group (i.e., a general “entity theory” Dyads can be “daisy chained” SH/ Owner corporation to sister corporation, and (possibly) from owner back down to ge e a e y eo y hasn’t been embraced by U.S. courts). Zoran v. Chen (2010)

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corporation.

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Corp1 Corp2

Pierce

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(3) What is the basic legal test (3) What is the basic legal test (3) What is the basic legal test (3) What is the basic legal test for piercing the veil, and for piercing the veil, and h i i d id d? h i i d id d? how is it decided? how is it decided?

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Basic Legal Test I:

A Conservative Approach Overall A Conservative Approach Overall

• Piercing = A judge deciding to set aside statutory

g j g g y protections articulated in the Cal. Corp. Code

– Statutes: usually “Compelling” authority (e.g., § 16202(b))

• Consequently courts are reluctant to pierce absent
• Consequently, courts are reluctant to pierce absent

sufficient evidence in favor:

– “Only in narrowly defined circumstances and only when the ends

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• f justice so require’ ” (Mesler v. Bragg (1985)).

– Burden rests on the party alleging alter ego (Mid-Century Ins. Co.

• v. Gardner (1992); Zoran v. Chen (2010))

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– Frequently, party alleging alter ego must demonstrate case by clear and convincing evidence. Fashion Valley Mall, LLC v. Cty. of San Diego (2009) (Cal. Evidence Code § 662).

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• When invoked, alter ego follows a 2-part conjunctive

test…

Basic Legal Test II:

A two-prong, conjunctive test p g, j

Unity of Ownership / Interest Failure to pierce will “sanction a fraud” or “promote

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p injustice”

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Basic Legal Test II:

A two-prong, conjunctive test

Unity of Ownership / Interest Failure to pierce will “sanction a fraud” or “promote

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p g, j

Relevant Factors* (Associated Vendors v. Oakland Meats (1962)):

1. Commingling of funds and other assets, 2. Failure to segregate funds of the separate entities, 3 U th i d di i f t f d t t th th t

p injustice”

3. Unauthorized diversion of corporate funds or assets to other than corporate uses 4. Treatment by an individual of the assets of the corporation as his own 5. Failure to obtain authority to issue stock or to subscribe to or issue the same 6. Holding out by an individual that he is personally liable for the debts of the corporation 7. Failure to maintain minutes or adequate corporate records, 8. Confusion of the records of the separate entities

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9. Identical equitable ownership in the two entities; 10. Identification of the equitable owners thereof with the domination and control of the two entities; 11. Identification of the directors and officers of the two entities in the responsible supervision and management; 12. Sole ownership of all of the stock in a corporation by one individual or the members of a family 13. Use of the same office or business location; 14. Employment of the same employees and/or attorney

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p y p y y 15. Failure to adequately capitalize a corporation; 16. Total absence of corporate assets, and undercapitalization 17. Use of corporation as mere shell, instrumentality conduit for single venture/business of an individual or another corporation 18. Concealment & misrepresentation of identity of responsible ownership, mgmt, financial interest, or personal business activities 19. Disregard of legal formalities and the failure to maintain arm's length relationships among related entities 20. Use of the corporate entity to procure labor, services or merchandise for another person or entity

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20. Use of the corporate entity to procure labor, services or merchandise for another person or entity 21. Diversion to stockholder to detriment of creditors, or manipulation of assets/liabilities between entities so as to concentrate the assets in one and the liabilities in another 22. Contracting with intent to avoid performance by corporate entity shield against liability, or as subterfuge of illegal transactions 23. Formation and use of a corporation to transfer to it the existing liability of another person or entity

* No single factor determinative; factors are neither mutually exclusive nor exhaustive

Basic Legal Test II:

A two-prong, conjunctive test

Unity of Ownership / Interest Failure to pierce will “sanction a fraud” or “promote

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Basic Question: Would piercing be “equitable”? A thorough-going policy question; no cookbook factors / conditions to guide outcome

p injustice”

policy question; no cookbook factors / conditions to guide outcome But, a few rules of thumb / framing inquiries:

• Mere inconvenience/inability in enforcing a judgment or asserting

regulatory dominion is insufficient

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regulatory dominion is insufficient.

• Mere ownership of majority interest (and consequent control) of

corporation is also insufficient.

• Involuntary creditors tend to be treated more generously than

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voluntary creditors (who can “price out” the risk)

• Horizontal Equity: Will piercing enhance or reduce from extent to

which similarly situated parties are treated similarly? Fidelity to Statutory Goals: Pierce to ensure fulfillment & harmony of

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• Fidelity to Statutory Goals: Pierce to ensure fulfillment & harmony of

statutory goals (e.g., balancing goals of Cal. Coastal Act against goals

• f Cal. Corp. Code against goals of Cal/US Takings Clause)

Basic Legal Test III:

Who gets to decide?

• Veil piercing is an equitable doctrine (Stark v. Coker (1942)).

Consequently, the judge is presumed most competent to

Who gets to decide?

q y, j g p p balance policy interests at stake & make the final holding.

• For the same reason, appellate courts may

revisit the piercing issue de novo (without deference to factual findings of trial court)

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deference to factual findings of trial court).

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(4) How frequently do courts (4) How frequently do courts i th il i ti ? i th il i ti ? pierce the veil in practice? pierce the veil in practice?

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How often do courts pierce?

Percent of published opinions where veil pierced, by area p p p , y

70.00% 50 00% 60.00% 40.00% 50.00% ithout r 20.00% 30.00% do not circulate wi rmission of author 10.00% 22 Please d per 0.00% Contract Tort Criminal Statute Thompson (1991) Oh (2010)

How often do courts pierce?

Percent of published opinions where veil pierced, by state

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p p p , y

40 50 30 40 ithout r 20 do not circulate wi rmission of author 10 CA DE NV NY TX All Other States 23 Please d per CA DE NV NY TX All Other States Thompson (1991) Oh (2010)

How often do courts pierce?

Litigation volume and piercing rate over time g p g

800 80.00% 500 600 700 50 00% 60.00% 70.00% 300 400 500 30 00% 40.00% 50.00% ithout r 100 200 300 10.00% 20.00% 30.00% do not circulate wi rmission of author 0.00% 24 Please d per

Source: Oh (2010)

# Plublished Cases Veil-Piercing Rate (%)

Warning: Do not over-interpret these data Huge Selection Bias Issues g

• Easy Cases Settle

– Outcomes are predictable; Outcomes are predictable; little reason to waste resources litigating them

• Hard Cases Litigate

– Thus, hard cases comprise all of the

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comprise all of the previous slides’ data. – In what fraction of these

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cases would we predict piercing by a court?

• Priest & Klein (1984): 50%

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• Priest & Klein (1984): 50%
• Shavell (1996): Anything!

Conclusions

• Cal. Corporate Law creates a statutory carve-out

from agency/partnership law which courts honor from agency/partnership law, which courts honor.

• Two-part alter ego test dictates the circumstances

Two part alter ego test dictates the circumstances where courts may be willing to look past the formal separateness of corporations and owners

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• In 2nd part of test, judge (not jury) may consider

f lfill f / b l b l

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fulfillment of / balance between statutory goals

• Doctrine applied conservatively: Burden on party

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• Doctrine applied conservatively: Burden on party

attempting to pierce

References

• Associated Vendors, Inc. v. Oakland Meat Co., 210 Cal.App.2d 825 (Cal. 1962)
• Brennan v. Arnheim & Neely, Inc. 410 U.S. 512 (1973).
• Citizens United v. FEC, 558 U.S. 50 (2010).
• Dartmouth College v. Woodward, 17 U.S. (4 Wheat.) 518 (1819)
• Dole Food Co. v. Patrickson 538 U.S. 468 (2003)
• Fashion Valley Mall, LLC v. County of San Diego, 176 Cal. App. 4th 871 (2009)
• FCC v. AT&T, 562 U. S. __ (2011) (No. 09-1279)
• Grotenhuis v. County of Santa Barbara, 182 Cal. App. 4th 1158 (2010)
• H.A.S. Loan Service, Inc. v. McColgan 21 Cal.2d 518 (1943)
• Lucas v. South Carolina Coastal Council, 505 U.S. 1003 (1992)
• Mesler v. Bragg Management Co. 39 Cal.3d 290 (Cal. 1985)

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• Persson v. Smart Inventions, Inc. 125 Cal.App.4th 1141 (2005).
• Priest, G & B. Klein, “The Selection of Disputes for Litigation,” 13 J. Leg. Stud 1 (1984).
• Hansmann, H. & R. Kraakman, “The Essential Role of Organizational Law,” 110 Yale L.J. 387 (2000).
• Mid-Century Ins. Co. v. Gardner, 9 Cal.App.4th 1205 (1992).

Oh P “V il Pi i ” 89 T L R 81 (2010)

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• Oh, P., “Veil-Piercing,” 89 Tex. L. Rev. 81 (2010).
• Palazzolo v. Rhode Island, 533 U.S. 606 (2001).
• Say & Say, Inc. v. Ebershoff 20 Cal.App.4th 1759 (1991).
• Shavell, S., “Any Frequency of Plaintiff Victory at Trial Is Possible,” 25 J. Leg. Stud. 493 (1996).
• Stark v Coker 20 Cal 2d 839 (1942)

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• Stark v. Coker, 20 Cal.2d 839 (1942)
• Thompson, R. “Piercing the Corporate Veil: An Empirical Study,” 76 Cornell L. Rev. 1036 (1991)
• United States v. Bestfoods, et al., 524 U.S. 51 (1998).
• Zoran Corp. v. Chen, 185 Cal.App.4th 799 (2010).

How often do courts pierce?

Percent of litigated cases where veil pierced, by state

90 Thompson (1991) Oh (2010)

g p , y

70 80 50 60 ithout r 30 40 do not circulate wi rmission of author 10 20 28 Please d per AL AK AR AZ CA CO CT DC DE FL GA HA IA ID IL IN KS KY LA MA MD ME MI MN MO MS MT NC ND NE NH NJ NM NV NY OH OK OR PA PR RI SC SD TN TX UT VA VT WA WI WV WY