Fiduciary duty claims between closely-held business owners are commonplace in litigation before the Commercial Division. A decision last fall from Suffolk County Commercial Division Justice James C. Hudson in Matter of Lehan v Montgomery serves as a professorial primer on the meaning and importance of fiduciary obligations between business partners.

The Dispute

Dix Hills Car Wash (“DHCW”) was a closely-held corporation operated by Petitioner and Respondent as minority and majority shareholders respectively. While the purpose of the entity was simple – to operate as a retail car wash – the parties soon found themselves in irreconcilable dispute. In short, Petitioner alleged that Respondent engaged in “illegal, oppressive, and fraudulent conduct” that led to DHCW incurring significant financial loss; while Respondent claimed that DHCW’s failure was due to Petitioner’s inexperience.

Litigation ensued with Petitioner asserting claims for dissolution based on shareholder oppression, breach of the parties’ shareholder agreement, unjust enrichment, and breach of fiduciary duty. Respondent countered with his own claim for breach of shareholder agreement. The case ultimately proceeded to a bench trial before the Court.  

The Court’s Emphasis of the Importance of Fiduciary Duty

In analyzing the parties’ dispute, the Court opened its post-trial decision by placing significant emphasis on the importance of fiduciary duties within the context of closely-held business relationships:

Centuries ago, before the merchants of the Hanseatic League (in the 12th Century) braved the seas in search of riches, it was understood that those who sought their fortunes in the realm of commerce stood the risk of loss, even ruin, in their quest for profit. Over the years, the perils that aspiring captains of industry have faced are many – the vagaries of weather, the avarice of princes and other possibilities.

Amid all of the uncertainties of engaging in venture capitalism, however, there is an absolute which gives comfort. The Court speaks of the solemn and unquestioned devotion that the entrepreneur has a right to expect from the partner of their labors. We dare to say that along with the inviolability of contract and the sacred right of property, fiduciary duty is one of the pillars of commercial law, indeed of society itself. We laud its application and condemn those who disregard its principles for immediate gain.

With this scholarly reminder of the importance of fiduciary obligations, the Court emphasized that breaches of fiduciary duty should not, and would not, be taken lightly.

Condemnation of Respondent’s Conduct

The Court’s opening salvo set the backdrop for the Court’s ruling, specifically with respect to Petitioner’s dissolution and fiduciary-duty claims. With respect to Petitioner’s dissolution claim, the Court was quick to denounce Respondent’s conduct, finding that Respondent’s conduct – such as treating the company’s funds as his own, refusing Petitioner access to the company’s books and records, and failing to follow corporate formalities – was oppressive enough in nature to warrant dissolution. The Court rejected Respondent’s argument that Petitioner’s claims were those of mere dissatisfaction with the management of the business, finding that Respondent’s conduct was egregious and self-serving even to an objective reasonable observer.

With respect to Petitioner’s breach of fiduciary claim, the Court again admonished Respondent for his conduct, finding that Respondent took no effort to honor his obligation to “protect [Petitioner’s] ownership interests and act in good faith,” but instead acted solely in his own self-interest when he “alienated the business itself, acquired profit for himself and treated his business partner as a non-entity.” The Court pointed to evidence adduced at trial that “overwhelmingly” proved that Respondent essentially used DHWC’s funds as his own personal piggy bank to pay his personal expenses and support his affluent lifestyle. In doing so, the Court rejected Respondent’s argument that any business failure was due to the inherent peril of investing in a closely-held business, reiterating that any such peril “should not be found in the person of a co-venturer,” especially when that person is held to “the punctilio of an honor the most sensitive as the standard of their behavior” (citing the learned Justice Cardozo in Meinhard v Salmon, 249 NY 458 [1928]).

After assessing the other claims in the action, the Court ruled in Petitioner’s favor regarding his dissolution and fiduciary duty claims.

Upshot

The case of In the Matter of Lehan serves as a stark reminder that New York courts, particularly the Commercial Division, treat allegations of fiduciary breach among business partners with the utmost seriousness. Business partners must know that attending to their fiduciary duties to each other and to their company is not a choice, it is an obligation.