Our litigation team has experience representing both plaintiffs and defendants in the cannabis industry, and one issue we commonly see is whether an individual is rightfully sued along with his/her business. For example, in a breach of contract action, do you sue the company AND its owners, managers, members? What do you do if you’re the owner/manager/member and you’re sued individually?
As a very general rule of thumb, most business entities provide protection for their principals as a matter of law. Therefore, individuals should not be personally named in lawsuits unless there are specific facts to support their individual liability. A potential plaintiff may desire naming anyone and everyone involved with a company to exert additional pressure, but this strategy is very likely to result in early motion practice that can cost tens of thousands of dollars in the first two months of litigation. If there truly is a basis for claiming an individual is personally liable, that plaintiff should be ready for a battle on whether the Court should allow “piercing of the corporate veil.” An individual defendant who is wrongfully personally named in a lawsuit should be ready for the same.
According to the Legal Information Institute, “‘Piercing the corporate veil’ refers to a situation in which courts put aside limited liability and hold a corporation’s shareholders or directors personally liable for the corporation’s actions or debts.” (Note, this is not limited to corporations). “While the law varies by state, generally courts have a strong presumption against piercing the corporate veil, and will only do so if there has been serious misconduct.”
In California, a common basis for arguing the corporate veil should be pierced is the “alter ego” doctrine or theory. “The alter ego doctrine arises when a plaintiff comes into court claiming that an opposing party is using the corporate form unjustly and in derogation of the plaintiff’s interests. In certain circumstances the court will disregard the corporate entity and will hold the individual shareholders liable for the actions of the corporation.” Two elements must be established:
- There be such unity of interest and ownership that the separate personalities of the corporation and the individual no longer exist, and
- If the acts are treated as those of the corporation alone, an inequitable result will follow.
Commonly cited, relevant factors in this analysis include commingling of funds and other assets, the holding out by one entity that it is liable for the debts of the individual and vice versa, use of the same offices and employees, and use of the entity as a mere shell or conduit for the affairs of the individual.
As a plaintiff, you should know this is an insanely fact-intensive inquiry and as mentioned above, you should be prepared to spend significant money to make the proper investigation and have the factual basis to pursue this kind of claim. Otherwise, the cost-benefit analysis usually does not weigh in favor of naming the individual.
As an individual defendant, you should be prepared to take a hard look at whether you’ve been falling short in any of the above ways. If you haven’t, the usual course is to file a motion to dismiss, even though the standard on a motion to dismiss is tough to win because the Court must accept everything the plaintiff claims in his/her complaint as true. If you have fallen short though, you may unfortunately be along for the ride.