Posted In: Business Restructuring, Bankruptcy & Commercial Law, Business Transactions & Corporate Counseling & Litigation
Business Blog: 4 Lessons for Small Businesses from the Litigation Battlefield
By Matthew G. Vansuch on April 25, 2022
“We need to talk to one of my partners; he’s a litigator.” Perhaps these are the some of the most feared words business owners hear from their company attorney, and for good reason: litigation is an expensive activity where very few participants leave completely satisfied. But litigation, albeit scary, may often be the tool necessary to protect the business’ or owner’s interests.
For many small businesses, this conversation occurs when business partners are fighting, the business is struggling, or both. Perhaps when one partner is threatening to leave and to take employees, customers, or both with them.
The question for us then becomes, “what can you do about it?” The answer generally lies in what happened back at Square One when the business was organized, the partnership was created or the contract was signed. The purpose of this article is to provide a few thoughts from the litigation battlefield for you to consider before starting a business venture or entering into an agreement. Sorry for being a Debbie Downer, but the best time to assess the situation is not when you are in a bad spot and forced to make suboptimal decisions. Rather, asking legal counsel to review an agreement or talk through the specifics of a potential business venture before signing on the dotted line can avoid the potential of litigation later.
A recent case from Carroll County highlighted many issues that litigators see when peoples’ best-laid business plans do not pan out. The outcome in Concrete Creations & Landscape Design LLC v. Wilkinson, 7th Dist. Carroll No. 20 CA 0946, 2021-Ohio-2508, also serves as a reminder for future and current business owners that preparation and proper planning can go a long way in setting oneself up for success, even in the face of adversity. All the usual claims appear to have been raised in that case (breaches of contract, fraud, conversion, and intentional interference with business relations), plus defamation thrown in for good measure.
Let’s start at the beginning. Like many small-business ventures, Concrete Creations & Landscape Design LLC began with three individuals who presumably wanted to make money in the outdoor landscaping business. One would provide the money, and another would supply the customers, labor, and equipment. The parties documented their respective roles in an operating agreement to that effect and aptly named a third individual serve as their chief financial officer. It appeared they were off to a good start.
Lesson one: you can pull an operating agreement off the internet by yourself, but a good operating agreement is one that is tailored to the parties’ specific needs and issues. Yes, it may cost more upfront in legal fees, but it could save you even more later if the business or the owners run into problems or cannot come to an agreement on vital business decisions down the road.
Operating agreements for limited liability companies, partnership agreements for partnerships, and other similar agreements for other corporate structures are contracts, and courts will treat them no differently. Who is contributing what? How are owners going to be paid? Will owners be employees? Who is running the company on a daily basis? What happens when there is a disagreement? Is there a tiebreaker? How, and under what conditions, can an owner leave the company? Are there restrictions on what an owner is allowed to do after leaving the company? Do the parties want to agree that they can recover their attorney fees from the other party if they have to go to court to enforce the agreement?
There is no such thing as a cookie cutter organizational document. All those issues and more should be considered and addressed before the business gets started.
We don’t know all the terms in their operating agreement. We do know, however, that there was a disagreement over whether one of the parties was going to contribute his truck to the company for the company’s use. Of course, that alleged promise was made orally, and the operating agreement didn’t expressly address this contribution. So, unsurprisingly, the court held that the truck was not company property.
Lesson two: it’s easy to say that you’ve been damaged by someone else’s actions, but it’s much more difficult to prove. When Wilkinson left the company, he acknowledged that he didn’t do so in the way that was dictated by out the operating agreement. Not surprisingly, the company and the remaining member alleged that they lost all their contracts because of Wilkinson’s wrongful disassociating and his subsequent violation of the non-competition clause in the operating agreement. Again, these are common allegations that litigators hear from business owners. Similar issues arise when employees leave, or certain independent contractors end their relationships.
However, despite Wilkinson’s admissions regarding his breach, the company had the problem of proving how his departure hurt or damaged the company. With apologies to Lin Manuel Miranda, liability’s easy, damages are harder. (And collecting on a judgment is even harder!) No matter how unjust the situation or how wrong the action, as the Court of Appeals bluntly put it, “[a] plaintiff in a breach of contract action cannot just demand amounts because they seem fair to that party.”
How do you prove that you lost the customer’s business? That can involve talking to the customer about why they went somewhere else - a difficult, if not eye-opening conversation for the client. Then you must prove these facts to a court, which proved to be an obstacle for the company in the Concrete Creations case, especially when the company “asked the court to assume all lost customers were a result of Wilkinson’s dissociation.” And to the dismay of the company, the court refused to make such a broad assumption.
Quantifying dollar amounts attributed to such lost business may also involve an expert witness to analyze the financial impact on the business. That’s another – sometimes necessary – expense. The reason is simple: lost revenues are not the same as lost profit. As the court noted, “lost profits must be based on net profit; reasonably anticipated costs of operations must be deducted from anticipated revenue.” In other words, gross revenue is not profit!
Lesson three: I suspect that the parties spent a considerable amount on their lawyers to fight each other in court and that the lawyers were likely paid more than any of the parties were awarded. Again, this is not surprising. In the heat of the moment, people want to run in to court yesterday to have a judge throw the proverbial book at whomever they believe has done them wrong.
The first lesson I learned as a young lawyer was to ask right at the beginning, “How much is this case worth?” In other words, “Client, assuming you are right, and the other side immediately agrees with you, how much is that check or what do you get?” Then we ask what it will take to get to that best-case scenario. And then the most-asked question, “Can we get your attorneys’ fees paid?” The answer depends on whether the contract allows the prevailing party to claim their attorneys’ fees or the other party’s actions were so egregious that they could give rise to punitive damages. One is much more difficult to prove than the other.
Lesson four: Everything takes time. The wheels of justice move slowly, especially in the civil system. That doesn’t mean that courts can’t move quickly if a genuine emergency exists that warrants dropping everything to hear your matter. But understand that oftentimes you and the courts may have vastly different definitions of “emergency.” If the party that has been harmed can be compensated by money, then the general rule is that the party has not been irreparably harmed and emergency actions aren’t warranted. Again, there are always exceptions to any rule.
The Ohio state courts consider two years a normal time to complete a civil action. If you want to run into court, you must be prepared for a lot of hurry-up-and-wait. Criminal actions and older civil actions take precedent.
These are real questions that litigators get asked all the time. There is no right answer, and every situation is different, but you can help improve your chances of avoiding a dispute later by consulting with a professional and talking through potential pitfalls and problematic scenarios before you begin a business venture.
This blog is intended to provide information generally and to identify general legal requirements. It is not intended as a form of, or as a substitute for legal advice. Such advice should always come from in-house or retained counsel. Moreover, if this Blog in any way seems to contradict advice of counsel, counsel's opinion should control over anything written herein. No attorney client relationship is created or implied by this Blog. © 2023 Brouse McDowell. All rights reserved.