Product Liability Adiós Alter Ego Corporate Veil Piercing in

By Christopher T. Sheean the Product and Edward J. Keating Liability Suit

Properly establishing Product manufacturers in today’s market face many and maintaining a obstacles to remain profitable, viable entities. Competition multilevel corporate from abroad, regulation from state and federal agencies, structure will hinder and attacks from the plaintiffs’ bar have severely damaged manufacturers’ and resellers’ ability to Dating back to English common law, plaintiff attempts to remain in business. One way that com- courts have recognized that a legally panies have responded to these ongoing formed corporation constitutes a separate pierce the corporate veil. threats is through consolidation and acqui- entity from its founders or owners. Courts sition, resulting in the formation of corpo- have done this to encourage business rate families. Adopting a tiered, corporate investment. However, abuses by corporate structure has allowed product sellers and owners who fail to operate the corpora- manufacturers to economize many cor- tion in good faith by undercapitalizing it, porate functions such as shipping, human or by draining its resources for their own resources, legal, accounting, and market- gain, have eroded public faith in the corpo- ing. A multilevel corporate system has rate structure, and courts have responded many benefits, but it also comes with risk. by allowing creditors to pursue actions If not properly established and maintained, directly against the officers or sharehold- adopting a corporate family approach may ers in extreme cases. Courts have devel- create unintended exposure for the share- oped a series of factors to recognize when holders and parent companies of product that legal separation should be maintained, manufacturers and sellers. and when it should be pierced.

■ Christopher T. Sheean is a partner at Swanson Martin and Bell LLP in the Chicago office and is chair of the firm’s class action practice group. He is national trial counsel of products liability claims for a sporting goods manufacturer and represents national and international corporations in various types of commercial, product liability, and intellectual property litigation throughout the United States. His intellectual property practice in- volves issues of trademark and trade secret misappropriation, copyright infringement, unfair competition, and advertising injury claims. Mr. Sheean is also an adjunct faculty member, teaching trial advocacy at the North- western University Pritzker School of Law. Edward J. Keating is an associate at Swanson Martin and Bell’s Chi- cago office and concentrates his practice in commercial litigation and business disputes, as well as product liability. He also has experience in the areas of construction litigation, real estate litigation, and insurance. In law school, Mr. Keating worked as a judicial extern for the Honorable Christoper E. Lawler and John P. Kirby, Circuit Court Judges of Cook County, Illinois. He earned a CALI Excellence for the Future Award in Property.

56 ■ For The Defense ■ November 2019 © 2019 DRI. All rights reserved. The Doctrine of Piercing the corporation and the individual no lon- In Simeone ex rel. Estate of Albert Fran- the Corporate Veil ger exist, and (2) an inequitable result will cis Simeone, Jr. v. Bombardier-­Rotax GmbH, A corporation is a legal entity that exists follow if the acts are treated as those of only 360 F. Supp. 2d 665, 675–676 (E.D. Pa. separate and distinct from its sharehold- the corporation. Yoder v. Honeywell Inc., 104 2005), a product liability action based ers, officers, and directors, who are not F.3d 1215, 1221 (10th Cir. 1997). The first -el on an allegedly defective aircraft engine, generally liable for the corporation’s obli- ement is sometimes referred to as the “al- the court held the following factors were gations, debts, or liabilities. In re Wolf, 595 ter ego” situation and may be established a “non-­exclusive guide” to determine B.R. 735, 765 (Bankr. N.D. Ill. 2018); Curci by showing domination over and control of whether a subsidiary will be considered Investments, LLC v. Baldwin, 14 Cal. App. the corporation, which usually occurs in the the alter ego of its parent: 5th 214, 220 (Cal. Ct. App. 2017); Helton v. context of a parent–subsidiary relationship (1) ownership of all or most of the stock of U.S. Restoration & Remodeling, Inc., 2016- or a closely held corporation. Here, the court the subsidiary; (2) common officers and Ohio-1232, ¶ 88, 61 N.E.3d 808, 828, appeal must essentially determine that the subsid- directors; (3) a common marketing im- not allowed, 2016-Ohio-5585, ¶ 88; State v. iary is being used as a mere instrumental- age; (4) common use of a trademark or Chase, 407 P.3d 1178, 1182 (Wash. Ct. App. ity of the parent corporation or individual logo; (5) common use of employees; (6) an 2017), review denied, 190 Wash. 2d 1024, charged. The second element is often satis- integrated sales system; (7) interchange of 418 P.3d 802 (2018); Stevenson v. Delaware fied when the corporate form is misused, managerial and supervisory personnel; Dep’t of Nat. Res. & Envtl. Control, 2016 WL when a corporation is undercapitalized so (8) performance of business functions by 4473145, at *4 (Del. Super. Ct. Aug. 19, 2016). that it cannot meet debts that are reason- the subsidiary which the principal corpo- In fact, it is perfectly legal to incorporate ably expected to arise in the normal course ration would normally conduct through for the express purpose of limiting the lia- of business, or when a plaintiff is misled by its own agents or departments; (9) mar- bility of the corporation’s owners. Stephen the corporate structure of an enterprise. keting by the subsidiary on behalf of the B. Presser, Limited Liability and the Doctrine Whether these elements are satisfied principal corporation, or as the princi- of Piercing the Veil, Piercing the Corp. Veil is a question of fact that depends on the pal’s exclusive distributor; and (10) re- §1:1 (July 2018 update). However, under both circumstances of each case. In Yoder, the ceipt by the officers of the subsidiary state and federal common law, abuse of the court applied Colorado law in a product lia- corporation of instruction from the prin- corporate form allows courts to employ the bility action based on an allegedly defective cipal corporation. equitable tool known as veil piercing, which computer keyboard, and held: In Patterson v. Home Depot, USA, Inc., refers to a court’s disregard of an entity’s cor- whether a subsidiary is an instrumental- 684 F. Supp. 2d 1170, 1178 (D. Ariz. 2010), porate structure. Thomas v. Khrawesh, 272 F. ity of the parent is based on evaluating the court, applying Arizona law in a prod- Supp. 3d 995, 1000 (E.D. Mich. 2017); Portfo- these elements: (1) The parent corporation uct liability action where a ladder allegedly lio Fin. Servicing Co. ex rel. Jacom Computer owns all or majority of the capital stock of malfunctioned and collapsed, analyzed the Servs. v. Sharemax.com, Inc., 334 F. Supp. 2d the subsidiary. (2) The parent and subsid- following factors in determining whether a 620, 626 (D. N.J. 2004); Cohen v. Meyers, 175 iary corporations have common directors parent and subsidiary demonstrate a “unity Conn. App. 519, 540 (Conn. App. Ct. 2017). or officers. (3) The parent corporation- fi of control” necessary to pierce the corporate Piercing the corporate veil occurs regu- nances the subsidiary. (4) The parent cor- veil: stock ownership by the parent; com- larly and is one of the most litigated issues poration subscribes to all the capital stock mon officers or directors; financing of the in corporate law. Robert B. Thompson, of the subsidiary or otherwise causes its subsidiary by the parent; payment of sala- Piercing the Corporate Veil: An Empiri- incorporation. (5) The subsidiary has ries and other expenses of the subsidiary cal Study, 76 Cornell L. Rev. 1036 (1991). grossly inadequate capital. (6) The parent by the parent; failure of the subsidiary to This doctrine, in certain circumstances, corporation pays the salaries or expenses maintain formalities of separate corporate imposes personal liability on otherwise or losses of the subsidiary. (7) The subsid- existence; similarity of logo; and the plain- protected corporate officers, directors, and iary has substantially no business except tiff’s lack of knowledge of the subsidiary’s shareholders for a company’s wrongful with the parent corporation or no assets separate corporate existence. acts. Wandering Trails, LLC v. Big Bite except those conveyed to it by the parent In Seasword v. Hilti, Inc., 449 Mich. Excavation, Inc., 156 Idaho 586, 594, 329 corporation. (8) In the papers of the par- 542, 548 n.10 (Mich. 1995), the Michi- P.3d 368, 376 (Idaho 2014). The underlying ent corporation, and in the statements of gan Supreme Court rejected the plain- rationale holds that if the parent, share- its officers, “the subsidiary” is referred to tiff’s argument that the parent corporation holder, officer, or director disregards the as such or as a department or division. could be liable in a product liability action corporate structure, then courts will also (9) The directors or executives of the sub- alleging the negligent design of a power disregard it as far as necessary to protect sidiary do not act independently in the in- drill, absent a showing that the individual and corporate creditors. terest of the subsidiary but take direction subsidiary is a “mere instrumentality” of Although the precise parameters of the from the parent corporation. (10) The for- its parent [by proof that] the parent and doctrine vary by jurisdiction, piercing the mal legal requirements of the subsidiary subsidiary shared principal offices, or had veil usually requires the proponent to show as a separate and independent corpora- interlocking boards of directors or fre- that (1) there is such unity of interest and tion are not observed. quent interchanges of employees, that the ownership that the separate personalities of 104 F.3d at 1221. subsidiary is the parent’s exclusive distrib-

For The Defense ■ November 2019 ■ 57 Product Liability

uting arm, or the parent’s revenues are en- ery and prepare corporate witnesses to of Health & Rehab. Servs., 488 So. 2d 886, tirely derived from sales by the subsidiary. explain fully and completely the separation 888 (Fla. Dist. Ct. App. 1986) (holding the Similarly, in McConkey v. McGhan Med. between parent and subsidiary to avoid any financial documents of the subsidiary’s Corp., 144 F. Supp. 2d 958, 962–63 (E.D. adverse finding. parent corporation were subject to discov- Tenn. 2000), the court applied Tennessee ery where the subsidiary and its parent law in a product liability action based on The Punitive Damages Threat corporation acted “as one”); Cap Gemini allegedly defective silicone breast implants, The single greatest threat the parent of a Am., Inc. v. Judd, 597 N.E.2d 1272, 1286 and it held that former parent company 3M product manufacturer or reseller faces when (Ind. Ct. App. 1992) (holding the financial was not liable under a veil-­piercing claim dealing with a veil-piercing claim is the po- documents regarding the wealth of a par- where the sole evidence supporting the tential for punitive damages. Most jurisdic- ent corporation are admissible if the sub- claim was a $5.5 million loan made to fi- tions structure compensatory damages as sidiary was merely an instrumentality of nance the establishment of McGhan four economic, i.e., those damages intended to the parent corporation). Grosek v. Panther years before the subject products were sold. compensate a plaintiff for his or her actual Transp., Inc., 251 F.R.D. 162, 166 (M.D. Courts throughout the country apply expenses, and noneconomic, such as pain Pa. 2008) (holding the subsidiary had a these factors, but often the countervailing and suffering, loss of enjoyment, etc. Assum- duty to produce discovery regarding the consideration is whether the alleged fail- ing the subsidiary product manufacturer or financial condition of its parent corpora- ure to maintain separate entities resulted reseller is properly capitalized, including a tion because the two entities had a “busi- in an unfair advantage or otherwise in- parent or affiliate company would not add ness relationship”). equitably deprived the plaintiff of an ade- to the amount of money available to sat- Where the subsidiary/product manufac- quate recourse. isfy a judgment, rendering a claim for lia- turer is one of several subsidiaries of a par- bility against the parent company largely ent company’s corporate family, the parent Plaintiffs’ Strategies superfluous. However, punitive damages are company’s net worth is often substantially The issue of piercing the corporate veil intended to punish the defendant or defend- greater than that of the subsidiary. Unfor- arises most often when a plaintiff seeks to ants. Ex parte Vulcan Materials Co., 992 So. tunately, as a result, a jury will likely take hold shareholders liable for the obligations 2d 1252, 1260 (Ala. 2008) (holding the pur- the larger net worth figure as an indica- of an insolvent corporation, but the doc- pose of punitive damages is to punish the tion that a greater amount of punitive dam- trine may also be used to pursue a claim wrongdoer). See also Alain Ellis Living Tr. ages is needed to punish the defendants against the parent company of a product v. Harvey D. Ellis Living Tr., 308 Kan. 1040, thereby increasing the defendants’ expo- manufacturer or reseller for other reasons. 1051, 427 P.3d 9, 18 (Kan. 2018) (holding pu- sure. Accordingly, the parent company in Plaintiffs frequently bring disingenuous nitive damages are awarded to punish the a products liability lawsuit has a strong piercing-the-veil claims in an effort to wrongdoer); Trinity Evangelical Lutheran motivation to avoid even the threat of fac- harass or intimidate the defendants’ deci- Church & Sch.-­Freistadt v. Tower Ins. Co., ing punitive damages. sion makers during litigation, thereby gain- 2003 WI 46, ¶ 50 (holding “the purpose of ing leverage in settlement negotiations. punitive damages is to punish the wrong- Defense Strategies To substantiate their claims, plaintiffs doer, and to deter the wrongdoer and others The best defense to attempts to pierce the will seek extensive discovery of the de- from similar conduct…”); Owens-Corning corporate veil is to avoid the appearance fendants’ corporate structure or hierar- Fiberglas Corp. v. Malone, 972 S.W.2d 35, of an alter ego between the subsidiary and chy. Plaintiffs may also attempt to depose 40 (Tex. 1998) (holding, “the purpose of pu- parent companies. As noted above in the high-level executives in the corporation as nitive damages is to punish a party for its section discussing the factors that courts well as lower-level employees. Forcing the outrageous, malicious, or otherwise mor- consider in analyzing a claim of piercing defendant company to prepare and pres- ally culpable conduct”) (internal quotations the veil, the parent and subsidiary must ent a C-suite executive is an added aggra- omitted); Whetstone v. Binner, 2014-Ohio- maintain the corporate formalities. For vation and expense for the defendant. The 3018, ¶ 16, aff’d, 2016-Ohio-1006, ¶ 16, 146 instance, the parent and subsidiary should goal of these depositions is to paint a pic- Ohio St. 3d 395 (holding the purpose of pu- have separate boards and hold separate ture that portrays the corporate structure nitive damages is to punish and deter cer- board meetings, and the parent should as improperly benefiting an owner, direc- tain conduct). hold stock in the subsidiary. The companies tor, officer, or parent company, and harm- The plaintiff is generally permitted to must maintain separate financial records ing the public by shielding documents, introduce evidence of corporate net worth and accounts, and conduct their affairs at hiding assets, and preventing the plain- to educate the jury on the amount neces- arms’ length. If the parent company pro- tiff’s counsel from obtaining a full and fair sary to punish the defendants. In a case vides accounting, legal, human resources, understanding of the defendant parent cor- where a corporate parent is a co-­defendant or other services, an agreement memorial- poration’s conduct and assets. Accordingly, with the product manufacturer or reseller, izing the arrangement should be executed, it is imperative that the parent and sub- the plaintiff’s counsel will typically seek with documentation of the consideration sidiary take the necessary steps to avoid discovery on the net worth of the sub- paid annually for such services. How the the potential for a veil-piercing claim, and sidiary as well as the parent corporation. subsidiary and its products are marketed for defense counsel to respond to discov- Medivision of E. Broward Cty., Inc. v. Dep’t to the public is also important. The public

58 ■ For The Defense ■ November 2019 should be aware that the subsidiary is dif- ferent from the parent. If faced with a claim against the parent based on an alter ego theory, defense coun- sel should pursue a motion to dismiss for failure to state a claim. A plaintiff alleging a piercing the veil claim is required to come forth with factual allegations for both ele- ments of the veil-piercing claim to avoid dismissal. Murray Eng’g P.C. v. Remke, 2018 WL 3773991, at *9 (S.D.N.Y. Aug. 9, 2018). Often, plaintiffs attempting to pierce the corporate veil cannot allege sufficient facts to support their claim. In particular, plaintiffs frequently struggle to plead facts showing that their injuries were caused by an improper corporate structure. In the event the plaintiff survives the motion to dismiss stage, defendants should move for summary judgment. Many times, even if sufficiently pled, the plaintiff -can not provide evidence supporting allega- tions that the corporate form was misused or that such misuse caused any harm. In anticipation of moving for summary judg- ment, defendants should carefully pre- pare fact witnesses for depositions. The goal in depositions of corporate employ- ees is to avoid providing vague or inaccu- rate information that the plaintiff can spin into a genuine issue of fact preventing judg- ment as a matter of law on their veil-pierc- ing claim.

Conclusion Courts recognize the value of maintain- ing a corporate shield to protect investors and officers from the corporation’s liabili- ties. However, where the corporation fails to maintain and demonstrate a distinc- tion between the assets of the company and those of its shareholders adequately, or when it has engaged in what amounts to fraudulent activity to strip the assets or capital of the company to hide it from creditors in favor of its officers or share- holders, courts will invoke the equitable doctrine of piercing the corporate shield. It is incumbent on counsel for the corpora- tion to provide sound advice to ensure that the company and its shareholders, parents, and affiliates maintain separate and dis- tinct accounts, and that they properly doc- ument all transfers. Failing to do so may increase the overall exposure of the com- pany, its affiliates, and its shareholders.

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