Required Standards of Conduct for Managers of Limited Liability Companies

Oregon Revised Statues provide that “[a] manager shall discharge the duties of a manager, including the duties as a member of a committee, in good faith, with the care an ordinarily prudent person in the like position would exercise under similar circumstances and in a manner the manager reasonably believes to be in the best interests of the limited liability company.” ORS 63.166(1).

A manager of a limited liability company (LLC) may rely on information, opinions, reports, or statements prepared or presented by one or more employees or other agents of the LLC whom the manager reasonably believes to be reliable and competent in the matter or matters present; legal counsel, public accountants, or other persons as to matters which the manager reasonably believes are within such person’s professional or expert competence; or a committee of managers upon which the manager does not serve, if the manager reasonably believes the committee merits confidence. ORS 63.155(2).

Oregon first authorized the use of LLCs in 1993. Case law on these entities is, therefore, not yet well-developed. However, because the statutory standards of care for the persons in control of corporations and LLCs are so similar, the analysis used in corporate cases dealing with these issues will likely apply to similar situations facing managers of LLCs.

Corporate law charges Boards of Directors with the job of managing and supervising the affairs of their corporations, together with specific functions, like proposing amendments and mergers, declaring dividends, and conducting annual board elections. How well directors perform their functions is measured largely by fiduciary law; specifically by what is commonly known of as a director’s “duty of care.” In performing their functions, directors may be subjected to personal liability for a breach of the duty of care. A director may be found to have breached the duty of care if the director fails to act: (i) in good faith; (ii) in honest belief that an action taken was in the best interest of the company; or (iii) in an informed basis.

The “good faith” standard has been generally understood to require that the directors: (i) not have a conflict of interest; (ii) act honestly; and (iii) not approve (or condone) illegal activity. The “best interest” requirement specifies a standard for the substantive review of the merits of a director’s actions. Under this standard, a board decision or an action by a director must be related to the furthering of the corporation’s interests. Finally, the “informed basis” requirement imposes on directors a duty of oversight, inquiry, and diligence. This is a procedural standard that requires directors to have at least a minimum of skill and expertise to be informed in making decisions. Generally, this means that directors must exercise the care that prudent persons would exercise in the management of their own affairs.

Practically speaking, in the 150 years or so during which courts have articulated a duty of care for directors, there have only been a handful of cases in which directors have been held liable for mere mismanagement (uncomplicated by illegality, fraud, or conflict of interest). Legally, a rebuttable presumption exists that directors, in performing their function, are honest and well-meaning, and their decision are informed and rationally undertaken. This operates as an assumption, absent sufficient evidence to the contrary, that directors do not breach their duty of care. However, a director may lose the benefit of this presumption if an individual challenging his or her actions shows conduct of fraud, illegality, or a conflict of interest on the part of a director. If an action undertaken by a board of directors (operating in concert) constitutes a breach of the duty of care, courts have held that each director who voted for the action, acquiesced in it, or failed to object to it becomes liable for all damage that the decision caused the corporation.

The practical requirements imposed by these statutory duties is that managers of an LLC must exercise their discretion actively, paying attention to the affairs of the company and the activities of its agents, employees, and members. Generally, managers will not incur personal liability for making a wrong judgment; they may incur liability for making a careless wrong judgment. Passivity and ignorance will not support any defense. Regular involvement of legal counsel and/or the company’s accountants will provide additional protection from personal liability fro managers of an LLC.

Regardless of the legal shields directors enjoy which protect them from liability, becoming a manager of an LLC or a corporate director in our litigious society is a risky proposition. To encourage people to accept such positions and then to take good-faith risks for the good of their companies without fear of personal liability, statutes allow entities to indemnify their managers, directors, and officers against liability. In addition, liability insurance is available to supplement this protection. Indemnification and insurance are in addition to the liability insulation discussed above.

Indemnification is simply the company’s promise to reimburse a manager for litigation expenses and personal liability if the manager is sued because he or she was the manager. In general, indemnification applies when the manager is or becomes threatened with being made) a defendant in any civil, criminal, administrative, or investigative proceeding. A manager’s indemnification rights may continue even after he or she has left the company. Because of a company’s indemnification’s potential to frustrate other policies (such as the desire for its manager to act in the company’s best interest), a manager’s right to indemnification and the power of the court and the power of the company to indemnification may depend on: (i) whether the manager was successful in defending the action; and (ii) whether an unsuccessful manager can justify his or her actions.

LLCs are permitted to purchase insurance to fund their own indemnification obligations. You should contact you insurance carrier for further information regarding insurance.