You can’t assign a right to sue for legal malpractice once you are no longer a shareholder.
In a recent Illinois appellate decision, Cafe Holdings, Inc. v. Burke, Warren, McKay, & Serritella, P.C, the court faced a situation where a large holding company’s attorneys and a minority shareholder allegedly colluded against the company’s then-majority shareholder. They allegedly stripped the majority shareholder of all managerial powers and forced the majority shareholder to sell all its shares back to the company at a significant loss.
After the majority shareholder lost its position in the company, it attempted to sue the company’s attorneys for legal malpractice. Illinois’s First District Appellate Court ruled that the former majority shareholder had no right to pursue a legal malpractice claim.
How Can a Shareholder Successfully Bring A Legal Malpractice Claim?
CAFÉ should have sued Dollop Coffee’s attorneys on behalf of its 51% ownership before selling its shares if it wanted compensation for its damages. If CAFÉ had initiated a derivative legal malpractice lawsuit when it still had the right to do so, its claims against Dollop Coffee likely would have proceeded. Although any money awarded would have gone to Dollop Coffee rather than to CAFÉ itself, this influx of funds would have increased the overall value of the company’s shares. Therefore, even if CAFÉ was still forced to sell its shares, Dollop Coffee would have been in a far better financial position at the time of sale.
Selling Your Shares Means Selling Your Rights
Café Holdings, Inc. (“CAFÉ”) invests in specialty coffee markets. In 2018, it paid a million dollars for a 51% stake in Dollop Coffee, owned and managed by Daniel Weiss. After acquiring the majority interest, CAFÉ appointed two new managers to run the company alongside Weiss. The new arrangement stated that a manager could only be removed for “cause.”
In early 2020, CAFÉ and Weiss had a managerial dispute. Allegedly, Weiss and Dollop Coffee’s attorneys, David Silver and Silver Law Firm, LLC, created a new operating agreement without CAFÉ’s managers’ knowledge or consent.
Weiss and the attorneys allegedly used the new agreement to strip CAFÉ of its managerial powers and, without notice, downgraded its role to an “economic interest holder.” Weiss then sued CAFÉ and Dollop Coffee. Initially, Weiss hired Silver and his firm to represent him but later had to hire new attorneys because Silver had a conflict of interest as Dollop’s former attorney.
Weiss and CAFÉ eventually settled the lawsuit, with Dollop buying out CAFÉ’s 51% stake at a deeply discounted price due to internal conflicts that devalued the company’s shares. The settlement indicated CAFÉ’s intention to pursue a legal malpractice claim against Silver and his firm for the reduction in share value. However, when CAFÉ filed its malpractice suit, Illinois’s First District Appellate Court ruled that CAFÉ had no right to sue the attorneys.
Why Did The Court Dismiss CAFÉ ’s Legal Malpractice Claim?
Silver and his firm argued that CAFÉ never shared an attorney-client relationship with them because Dollop Coffee did not assign CAFÉ the right to pursue a legal malpractice claim against Silver and his firm, and Illinois law would not allow such an assignment even if Dollop had attempted to do so.
The Court agreed with Silver on all the above-listed arguments. Accordingly, this ruling serves as a major lesson for shareholders about the importance of understanding their legal rights and limits when suing corporate attorneys.
Does A Majority Shareholder Have A Right To Sue Its Corporation’s Attorneys For Legal Malpractice?
The first issue was whether CAFÉ, as a former shareholder, had the right to sue Silver and his law firm for legal malpractice. Both the Appellate and Circuit Court recognized that “a limited liability company (LLC) is a separate legal entity from its members.” Therefore, “an attorney for an LLC does not have an attorney-client relationship with the LLC’s members.” As a result, a shareholder cannot typically bring a legal malpractice claim against a corporation’s attorney, even if they are the majority shareholder. However, any shareholder can file a derivative legal malpractice claim against the corporation’s attorney.
In a derivative legal malpractice claim, the shareholder sues on behalf of their ownership percentage in the corporation, not for themselves. Any awarded money goes to the corporation, not the shareholder who filed the claim. However, the shareholder benefits because the money often increases the overall value of the company’s shares. Additionally, the shareholder may recover attorneys’ fees under the common fund doctrine.
Since CAFÉ sold all its shares before filing the lawsuit, it could not bring a derivative legal malpractice claim as a Dollop Coffee shareholder. It also would not have benefited from any increase in Dollop Coffee’s share prices, even if the company had granted CAFÉ the right to bring the claim.
Can A Shareholder Assign a Right To Sue For Legal Malpractice?
Silver Law Firm argued that Dollop Coffee did not assign CAFÉ the right to sue him and his law firm for legal malpractice, and any such assignment would be invalid if it had occurred. The Court agreed with Silver for several reasons.
The New Purchase Agreement included a clause stating, “For the avoidance of doubt, nothing herein shall be construed as assigning to the CAFÉ Parties any right or interest to pursue claims against Company’s Counsel associated with any devaluation of the other 49%[.]” However, a question remained about whether Weiss and Dollop Coffee assigned CAFÉ the right to sue on behalf of the 51% ownership they bought from CAFÉ as part of the purchase.
The agreement did not mention the right to sue counsel as part of the consideration for CAFÉ’s shares. Instead, Dollop Coffee only agreed to pay monetary compensation for those shares. CAFÉ would not have benefited from a derivative legal malpractice claim, as any awarded money would go to a company it no longer owned. As a result, CAFÉ repeatedly stated that it was “preserving” its right to bring a personal, not derivative, legal malpractice claim. But a right that doesn’t exist cannot be assigned or preserved.
As discussed, shareholders generally cannot bring a personal legal malpractice lawsuit against their corporation’s attorneys. They can only bring a derivative claim. The Appellate Court determined that CAFÉ had no grounds to bring a personal legal malpractice claim and that even if Dollop Coffee attempted to assign CAFÉ this right, the assignment would have been invalid.
How Can An Attorney Assist With My Corporate Legal Malpractice Claim?
All corporate shareholders should regard this case as a cautionary tale.
When shareholders sell their interest in a company, they are selling their rights associated with that ownership. If you are a shareholder who has been harmed by your corporate attorney, you need to immediately take steps to rectify this harm while you still have the legal right to do so.
If you are a shareholder who has been financially harmed by your corporate attorney’s legal malpractice, we invite you to call us at (312) 779-1818 or to fill out our online contact form for further advice and guidance from a seasoned 1818 legal malpractice attorney.
