As Judge Stephen S. Mitchell of the U.S. Bankruptcy Court for the Eastern District of Virginia noted in Cummings v. Atlis Systems, Inc. on April 10, 2008, piercing the corporate veil is an extraordinary remedy designed to prevent investors from manipulating the privilege of limited liability to the knowing disadvantage of those who deal with the corporation.
In October 2003, Valerie Cummings sold the stock of her business, Unique Nurses, Inc., to Allegiance Staffing, Inc. Allegiance was wholly owned by Atlis Systems, Inc. which in turn was controlled by Keith Cunningham.
In December 2007, Cummings filed a voluntary petition for chapter 11 reorganization. Within that action, she brought suit against Cunningham, Atlis, Allegiance and Unique claiming damages resulting from the aftermath of the sale. The suit sought damages for breach of contract and breach of fiduciary duty, as well as a declaration that her salary repayment and non-competition obligations were unenforceable.
As part of the October 2003 sale terms, Allegiance was to assume Unique’s debts, some of which were guaranteed by Cummings. Additionally, Cummings was to be employed by Unique and was to receive stock in her old company and in Allegiance by way of a stock incentive grant.
According to the complaint, Cummings never got the promised stock and the liabilities of Unique were never paid. Although most of her claims appeared to run to Allegiance, she sought judgment against the deep pocket and the decision maker. Her claims against Cunningham were based upon the theory that he had actual and legal control over all three companies; that he had conducted his business to maximize the profits of Atlis at the expense of Unique and Allegiance by, for example, shifting expenses; and that Atlis, Allegiance and Unique were operated as alter egos of Cunningham. The defendants moved to dismiss, with Atlis and Cunningham taking the position that none of the four counts stated a claim as to them because any wrongful conduct was attributable to Allegiance or Unique.
In particular, Atlis and Cunningham contended that since they were not parties to either the October 2003 stock purchase agreement or the employment agreement, the claims against them were without basis. Cummings argued that because Cunningham “failed to treat the three corporations as independent entities,” she was entitled to seek damages against Cunningham as well as the parent company (Atlis).
Without deciding whether Maryland or Virginia law applied, Judge Mitchell reviewed the case law in both jurisdictions and favorably cited diverse rationales. Relying on a 2003 Virginia case, Mitchell denied most of the motion to dismiss, noting that the corporate veil may be pierced if the entity is used to evade personal debts, commit fraud, commit injustice, gain unfair advantage, or when the individual and the corporation are operated as one.
The presumption in favor of corporate liability protection is well established in Virginia law and courts always hesitate to breach that shield. However, Cummings reminds us that corporations must operate independently from the will of their shareholders and that the liability protection afforded by the corporate status is not absolute. It can be forfeited in the case of egregious circumstances or fraudulent conduct.