Representation of Closely Held Corporation in Action Against Corporate Shareholder
Applicable Rule
- Rule 1.13(a) (Organization as Client)
A and B were each 50% shareholders of C, a close corporation organized
under Maryland law which did business in the District of Columbia.
C had a banking relationship with U, which also
extended personal loans to A and B, individually. A and B have defaulted
on their loan payments to U. C has filed an action in the District of
Columbia against U, alleging a wrongful termination of the banking relationship.
Following the filing of C’s action against U,
U obtained a judgment against A and, as the result of a Sheriff’s execution
sale, U became the owner of A’s 50% interest in C. A, however, maintains
that he is still President of C, since C’s two shareholders, B and U are
deadlocked and a majority vote is needed to remove him. U has filed an
action in the Maryland courts to dissolve C because of shareholder deadlock.
This action is still pending.
B’s widow, who has succeeded to B’s interest
in C, wishes to maintain C’s action against U. U, of course, wishes to
discontinue the action. The question in this Inquiry is whether C’s corporate
lawyer, retained when C was controlled by A and B, may continue to represent
C in its action against U, now one of its 50% shareholders, and in U’s
action to dissolve C.
Discussion
The Inquiry is governed by Rule 1.13 of the District of Columbia Rules
of Professional Conduct. Under Rule 1.13(a), “[a] lawyer employed
or retained by an organization represents the organization acting through
its duly authorized constituents.” This rule embodies the well-established
principle that a lawyer retained by a corporation, or by any other organization
recognized as a separate legal entity, represents the entity. As stated
in EC 5-18 of the former Code of Professional Responsibility, “[a]
lawyer employed or retained by a corporation or similar entity owes his
allegiance to the entity and not to a shareholder, director, officer,
employee, representative, or other person connected with the entity.”
See Opinion 159 (1985); Opinion 186 (1987); Egan v. McNamara, 467 A.2d
733, 738 (D.C. Ct. of App. 1983).
The principle that a lawyer representing a corporation
represents the entity and not its individual shareholders or other constituents
applies even when the shareholders come into conflict with the entity.
Courts have generally held, therefore, that a corporation’s lawyer is
not disqualified from representing the corporation in litigation against
its constituents. See, e.g., Bobbitt v. Victorian House, Inc., 545
F. Supp. 1124 (N.D. Ill. 1982); Dalrymple v.
National Bank and Trust Co. of Traverse City, 615 F. Supp. 979 (W.D. Mich.
1985); U.S. Industries, Inc. v. Goldman, 421 F. Supp. 7 (S.D.N.Y. 1976);
Wayland v. Shore Lobster & Shrimp Corp., 537 F. Supp. 1220 (S.D.N.Y.
1982). A different result may sometimes be required where the shareholders
of a closely held corporation reasonably might have believed they had
a personal lawyer-client relationship with the corporation’s lawyer. See,
e.g., Rosman v. Shapiro, 653 F. Supp. 1441 (S.D.N.Y. 1987); In re Brownstein,
288 Or. 83, 602 P.2d 655 (1979); In re Banks, 283 Or. 459, 584 P.2d
284 (1978). This is not such a case, however, since under the circumstances
U, the bank, could not reasonably believe it has or had a personal lawyer-client
relationship with C’s lawyer.
Since C’s lawyer is not disqualified from continuing
to represent C in its litigation with one of its 50% shareholders, the
question arises how the lawyer is to carry out his ethical duties in this
representation. On the one hand, the corporate lawyer owes a duty of loyalty
to the corporation, as distinct from its owners and managers, and he or
she must act in the best interests of the corporation as an entity.
On the other hand, the lawyer must normally follow
the direction of those duly appointed or elected to act on behalf of the
corporation. See, e.g., Financial General Bankshares, Inc. v. Metzger,
523 F. Supp. 744, 764 ( D. D.C. 1981), vacated for lack of jurisdiction,
680 F.2d 768 (D.C. Cir. 1982) (“. . . both practically and theoretically,
the corporate attorney should consider himself as representing the entity
interests articulated by those in current control of the management”);
ABA Informal Opinion 1056 (1968); Comment, Conflicts of Law in the Legal
Profession, 94 Harv. L. Rev. 1244, 1336 (1981). Rule 1.13 expressly recognizes
that a lawyer represents an organization such as a corporation “through
its duly authorized constituents.” Comment [4] further states that
“[w]hen constituents of the organization make decisions for it, the
decisions ordinarily must be accepted by the lawyer even if their utility
or prudence is doubtful.”
The difficulty here is that the corporation’s
President, A, may continue to hold office only because of the shareholder
deadlock; moreover, because of his own dispute with U, A may have reason
to disregard the corporation’s interest in determining the corporation’s
course of action in its dispute with U. These difficulties notwithstanding,
the corporation’s lawyer may continue to take direction from A until the
dispute over control of the corporation is resolved by the courts or the
parties. If, however, the lawyer should become convinced that A’s decisions
are clearly in violation of A’s own fiduciary duties to the corporation,
the lawyer may be forced to seek guidance from the courts as to who is
in control of the corporation, there being no higher authority within
the corporation to whom the lawyer can turn. Throughout the representation,
the lawyer must continue to recognize that the interests of the corporation
must be paramount and that he must take care to remain neutral with respect
to the disputes between the present shareholders, B and U, and between
A and U. See ABA Opinion 86 (1932) (“In acting as the corporation’s
legal adviser [an attorney] must refrain from taking part in any controversies
or factual differences which may exist among stockholders as to its control”),
quoted with approval in Financial General Bankshares, Inc. v. Metzger,
523 F. Supp. at 765.
Inquiry No. 90-10-40
Adopted: January 15, 1991
