Counsel Disqualified from Representing LLC and its Members

On November 21, 2019, Justice Scarpulla of the New York County Commercial Division issued a decision in 1186 Broadway Tenant LLC v. Friedman, 2019 NY Slip Op. 33463(U), disqualifying counsel from representing both an LLC and its members, explaining:

It is well settled that a party has the right to representation by the attorney of its choice and any restrictions on that right must be carefully scrutinized. On a motion seeking to disqualify an adversary's attorney, the court must consider the totality of the circumstances and carefully balance the right of a party to be represented by counsel of his or her choosing against the other party's right to be free from possible prejudice due to the questioned representation. As such, the use of a motion to disqualify as an offensive measure to gain a tactical advantage or to delay active litigation is discouraged.

At issue is a perceived conflict of interest between plaintiffs and Friedfield based upon Rules of Professional Conduct, 22 NYCRR 1200.0 Rules 1.7, "Conflict of interest: current clients," and 1.13, "Organization as client." Rule l.7(a)(l) provides that, except as provided in paragraph (b), a lawyer shall not represent a client if a reasonable lawyer would conclude that the representation will involve the lawyer in representing differing interests. The term differing interests is defined as every interest that will adversely affect either the judgment or the loyalty of a lawyer to a client, whether it be a conflicting, inconsistent, diverse, or other interest.

Pursuant to Rule 1.7(b)(3), notwithstanding the existence of a concurrent conflict of interest under paragraph (a), a lawyer may represent a client if the representation does not involve the assertion of a claim by one client against another client represented by the lawyer in the same litigation or other proceeding before a tribunal. Comment 17 to Rule 1.7 (b)(3) reads, in pertinent part:

Paragraph (b) (3) describes conflicts that are nonconsentable because of the institutional interest in vigorous development of each client's position when the clients are aligned directly against each other in the same litigation or other proceeding before a tribunal. Whether clients are aligned directly against each other within the meaning of this paragraph requires examination of the context of the proceeding.

Additionally, Rule 1.13( d) states that:

A lawyer representing an organization may also represent any of its directors, officers, employees, members, shareholders or other constituents, subject to the provisions of Rule 1.7. If the organization's consent to the concurrent representation is required by Rule 1.7, the consent shall be given by an appropriate official of the organization other than the individual who is to be represented, or by the shareholders.

A corporation, or in this instance, a limited liability company, is customarily a passive litigant in a derivative action. A corporate defendant does not require separate, independent counsel because its appearance is nominal, and the appearance of the same attorney for the nominal corporate defendant does not prejudice a shareholder from pursuing the derivative claims.

Nevertheless, a corporate litigant should appear by independent counsel in certain instances. For instance, counsel may be disqualified from concurrently representing defendants sued in a derivative action where their interests conflict. Any doubts as to the existence of a conflict of interest must be resolved in favor of disqualification.

Here, defendants have met their burden on the disqualification motion with respect to representing third-party defendant Friedfield LLC. Despite plaintiffs' characterization of Friedfield as a passive litigant, the fact that defendants have brought a third-party action against Friedfield for indemnification has required Friedfield to formally appear in this dispute. Indeed, as noted at oral argument, defendants have separately moved for an advancement of their fees, which is a motion that merits a response from Friedfield. Moreover, the potential for conflict is apparent. Significantly, LLC Agreement LLC Agreement§ 10.2 (a), reads in part:

To the fullest extent permitted by applicable law, each Member and each Covered Person of such Member shall be entitled to indemnification from the Company ... for any loss, damage or claim incurred by such Member and each Covered Person of such Member by reason of any act or omission performed or omitted by such Member or Covered person in good faith on behalf of the Company . . . except that no Member or Covered Person shall be entitled to be indemnified in respect of any loss, damage or claim incurred by such Member or Covered Person by reason of gross negligence or willful misconduct with respect to such acts or omissions ....

Plaintiffs and defendants each allege that the other breached their fiduciary obligations owed to Friedfield, and a necessary element to prevail on that cause of action is misconduct. If it were ultimately established that defendants engaged in misconduct, sufficient to support the breach of fiduciary duty claim, then Friedfield would presumably object to defendants' invocation of the contractual indemnification provision in the LLC Agreement because Friedfield may not be obligated to indemnify them. In that regard, Friedfield's and plaintiffs' interests are aligned and do not conflict.

Nevertheless, the potential for conflict exists where, in view of the derivative claims, the Firm may be placed in a situation where it may protect plaintiffs' interests over those of Friedfield. At a minimum, if Broadway Restaurant were to prevail, it would be entitled to contractual indemnification from Friedfield. But, if it is subsequently determined that Broadway Restaurant engaged in misconduct related to Friedfield, then the Firm may be placed in an untenable situation where its clients' interests would conflict, as discussed under Rule l.7(b)(3).

Plaintiffs' contention that the present motion is a strategic delay tactic is unpersuasive. The motion was filed one month after the Firm's appearance for Friedfield at a preliminary conference. Thus, there was no unnecessary delay. Therefore, the portion of the motion seeking to disqualify the Firm from representing Friedfield is granted.

(Internal quotations and citations omitted).

We both bring and defend motions relating to attorney conflicts and do appeals of the decisions on those motions. Contact Schlam Stone & Dolan partner John Lundin at jlundin@schlamstone.com if you face a situation where counsel may be--or is accused of being--conflicted.