The 'New' Fiduciary Standards under the Revised Uniform Limited Liability Company Act: More Bottom Bumping from NCCUSL

Abstract

Between 1995 and 2001, the influential National Conference of Commissioners on Uniform State Laws (NCCUSL) promulgated the Uniform Partnership Act (1997) (RUPA), the Uniform Limited Partnership Act (2001) (ULPA (2001)) and the Uniform Limited Liability Company Act (1996) (ULLCA). Those uniform acts, which have been adopted by numerous state legislatures, contain essentially identical fiduciary duty provisions, and those provisions are badly flawed.

Fiduciary duties in the three acts reflect a pro-management bias that facilitates managers' pecuniary interest in constructing inefficient transactions with the entity's investors. The default standards themselves, which are likely to govern most situations, are inefficiently lax and limited, and the opt out provisions, which permit the parties within broad limits to re-make the default standards of care and loyalty, fail to facilitate fully informed bargaining between managers and investors respecting the nature of fiduciary duties, making it likely that parties will misperceive and misprice the fiduciary duties. See Rutheford B Campbell, Bumping Along the Bottom: Abandoned Principles and Failed Fiduciary Standards in Uniform Partnership and LLC Statutes (Apr. 6, 2007), available at SSRN: http://ssrn.com/abstract=978935.

The recently promulgated Revised Uniform Limited Liability Company Act (RULLCA) offered NCCUSL the opportunity to begin to correct its past mistakes regarding the fiduciary duties applicable to managers of unincorporated business entities. Unfortunately, the Commissioners squandered this opportunity and, once again in RULLCA, enacted duties that are poorly designed and bound to lead to inefficient and unfair outcomes. Like the prior uniform acts, RULLCA's fiduciary provisions will facilitate managers' (or managing members') exploitation of information asymmetries and their desire and ability to construct and profit from inefficient, unfair management arrangements with the owners of LLCs.

RULLCA contains many of the same misdirected fiduciary duty notions that plague its predecessor uniform acts, although the Commissioners in RULLCA did make a sensible adjustment to the duty of loyalty standards. Any progress in that regard, however, is more than offset by the adoption of the business judgment rule as a part of an awkward, statutory framework for RULLCA's duty of care. Incorporating the business judgment rule into RULLCA's standard of care will be confusing to LLC parties and to courts, which in turn will increase transaction costs and the probability of unexpected and unintended outcomes. Even more importantly, the adoption of a business judgment standard will reduce managers' (or managing members') standard of care to a level that is even more lax and inefficient than the present gross negligence standard that one finds in RUPA, ULPA (2001) and ULLCA.

This situation will be made substantially worse if - as seems highly likely - courts interpreting RULLCA's business judgment standard turn for guidance to the common law of Delaware. Delaware jurisprudence on the matter of corporate fiduciary duties generally and the duty of care specifically is not only exceedingly confusing and unnecessarily complex but also overly lax, unduly pro-management and inefficient. In such an environment, managers (or managing members) of LLCs operating under the RULLCA may enjoy default rules that essentially free them from any duty of care and opt out privileges that will further enable them to extract an even more inefficient and unfair bargain with those investing in their LLC.

This is a matter of some economic importance. The history of prior uniform acts suggests that RULLCA will be considered for adoption by numerous state legislatures and will over time provide the statutory framework for literally thousands of unincorporated business entities that are a vital part of our national economy.

State legislatures considering RULLCA - hopefully, assisted and guided by lawyers and legal academics interested in law reform - should reject RULLCA's fiduciary duty standards in favor of a fiduciary duty regime that promotes fair and efficient outcomes. This, in turn, requires that states adopt duty of care and duty of loyalty provisions that fully informed parties - the LLC owners and their or managers or managing members - would agree upon in most cases. States should also adjust RULLCA's opt out provisions in a way that promotes full information at the time the parties agree to re-make the statutory fiduciary duties.