Grounds for Suing a Business Partner

When formerly friendly business partners start having problems, stop talking to each other, can’t agree on anything, have secrets, and simply don’t cooperate anymore in bringing the business forward, you may wonder what grounds there are to sue your business partner or the business in order to stop the madness or come to some kind of resolution.  Here is an overview of the kinds of claims that are the usual suspects in this kind of litigation:

Breach of Contract

Limited Liability Companies may have an operating agreement and corporations may have a shareholder agreement.  These are contracts.  If any conduct or omission of the business partner or the LLC or corporation is in breach of these agreements, this would be a breach of contract with a claim for damages.  Thus, most business partnership disputes start with an investigation of the contracts between the parties.

Declaratory Judgment

A request for a declaratory judgment asks the court to make a statement about a right or situation.  In the business divorce context, this could be a statement about who owns what in a corporation or LLC or who has the right to vote, or if certain actions by the LLC or corporation were properly approved by members or shareholders.  For a judge to get involved, one has to show that there is a legitimate dispute, which means that you have to show why it matters and that there is actually a conflict over the issue.

Imke Ratschko Small Business Lawyer

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Access to Books and Records

As a member of a limited liability company and as a shareholder of a corporation you have an absolute right to review the records of the entity. For a corporation, it is §624(b) of the Business Corporation Law. For an LLC, it is §1102 of the LLC Law. Thus, a common lawsuit is a request for access to the books and records of the business. Often, one or more business partners exclude another partner from such access under dubious circumstances. Before bringing these lawsuits you have to formally ask the corporation or LLC for the records in writing. Then, when they refuse or just do nothing, the lawsuit for books and records can be started.

See also “Shareholders’ Rights to inspect the books and records of a Corporation” and “Access to LLC Books and Records

Breach of Fiduciary Duties

Another common scenario is that one or more partners violate their duties and obligations to the business and the other members. This is called a “breach of fiduciary duties.” Almost all lawsuits among business partners contain a claim of breach of fiduciary duties. Business partners owe each other and the business the utmost duty of loyalty and honesty. Section 409 of the LLC Law expressly states that LLC managers must act “in good faith and with that degree of care that an ordinarily prudent person in a like position would use under similar circumstances.” This means they cannot embezzle or waste the business assets; they cannot compete against the business; they cannot neglect their work responsibilities and so forth.

Bringing a breach of fiduciary duties claim requires that one carefully distinguishes between direct claims by the disgruntled business partner and claims brought derivatively on behalf of the business. Courts will dismiss causes of actions if a direct claim is brought as a derivative claim and vice versa or if the two are intermingled.

If a breach of fiduciary duty claim is directed at actions that harmed the business rather than the individual business partner, the action has to be a so-called “derivative lawsuit” where the complaining partner sues the misbehaving partners on behalf of the business.  If such a lawsuit is successful, the misbehaving partner would owe the damages caused to the business, not the individual partner.  An example would be a business partner stealing money from the business.  The other partner can bring a lawsuit on behalf of the business, derivatively, against the stealing partner.

Less frequently, the harm may not be to the business, but directly to the disgruntled member or shareholder. For example, if you are frozen out of your management position and are thus unable to manage the business, you would be personally harmed and the claim would be a direct claim by you against the owner committing the breach of fiduciary duties by freezing you out of your rightful position within the LLC or corporation.

Demand for an Accounting

When there are allegations of misconduct, i.e. breach of fiduciary duties, by fellow business partners, you may have a claim for an in-depth accounting of everything that happened to the business financially.  This goes beyond merely looking at the books and records. It requires the opponent to really explain what happened and provide all supporting documentation underlying all financial entries.  Like with the claim for access to books and records, this action requires that you first demand such an accounting from the people in control of the business prior to initiating the lawsuit.