Buzz

Piercing the Corporate Veil (Part I)

Kurt A. Strasser


Piercing the veil is corporate law’s most widely used doctrine to decide when a shareholder or shareholders will be held liable for obligations of the corporation. It continues to be one of the most litigated and most discussed doctrines in all of corporate law. The cases accumulate, as do the academic commentaries and criticisms.1 Although there is near unanimity among the commentators that the present rules neither guide good decision- making nor produce consistent or defensible results, and there are many proposals for reform or abolition of the present law, one sees little discernable movement in the case law toward a better approach.

Piercing the veil law exists as a check on the principle that, in general, investor shareholders should not be held liable for the debts of their corporation beyond the value of their investment. The modern rationale for giving individual investors limited liability emphasizes eliminating three types of transaction costs. First are the costs of individual shareholders or creditors monitoring the wealth position of other shareholders, and, second, the costs and other complexities of each shareholder or creditor monitoring the riskiness of management actions.2 Third, limited shareholder liability makes it less costly and easier for shareholders to diversify their investments. The result of limiting these transactions costs, it is argued, is that limited liability both encourages investment and facilitates the operation of equities markets. In addition, Hansman and Kraakman have persuasively argued that limited liability is part of a broader phenomenon of asset partitioning which serves important social interests by guaranteeing creditors that business assets will also be protected from investors’ creditors.3 However, a new consensus is emerging in the commentary that limited liability may well not be justified in tort cases and, although with less unanimity, also when the claim is based on statutory duties rather than common law obligations.4

This Article is concerned with only one aspect of the problem, veil piercing within corporate groups. Thus, I am not considering limited liability for individual investors, but only for a parent company which is the shareholder of controlled subsidiaries that are part of the parent’s larger business enterprise. While traditional corporate law has not articulated different rules for a parent company in its role as a shareholder than for individual investor shareholders, parent companies in fact present different policy issues and their limited liability should be determined by a different analysis.5 The core idea is that a parent company as a shareholder in its subsidiary companies is in quite a different economic role and performs quite a different management function than individual investor shareholders, including public shareholders in the parent company itself. A parent company creates, operates and dissolves subsidiaries primarily as part of a business strategy in pursuit of the business goals of the larger enterprise, which the parent and all the subsidiaries are pursuing together. The parent is not an independent investor. Whatever the corporate formalities chosen, the parent typically has very real control over the operations and decisions of the subsidiary and the extent to which the parent exercises that control is based on business strategy for the enterprise rather than meaningful separation of the legally independent corporate entities. The various companies in the corporate group are really fragments that collectively conduct the integrated enterprise under the coordination of the parent. Within corporate groups, many of the contemporary economic efficiency justifications for limited liability do not apply, and neither should the rules for applying that liability or determining its outer boundary.6

A decision by corporate law to allow shareholders limited liability is a decision to allow them, as investors, to allocate some of the risks of doing business to third parties.7Piercing the veil rules are one of the traditional ways that courts have supervised that risk allocation decision. Part I of this paper will briefly survey the law of piercing the veil and its contemporary criticisms. This survey will also review the theory of single factor piercing recently offered by the author and his collaborators in Blumberg on Corporate Groups.8However, the traditional veil piercing rules are not the only doctrinal path to parent company liability, and this part will also note the alternative doctrines that courts sometimes apply to shift contract or tort liability among the entities of a corporate group. Part II will then argue that, in the context of corporate groups, the veil piercing rules have been sufficiently abstract, malleable, and vague to allow some courts to reach good results in some specific corporate groups cases. Despite the current criticisms of the traditional doctrine, it is possible to find examples of veil piercing cases that reach quite acceptable results on their facts.

However, as Part III will discuss, while the imprecision and generality in all the traditional rules have allowed courts to reach good results in some cases, these rules have not succeeded in guiding the courts toward good or consistent results in the typical corporate groups cases. This is because the traditional rules ask the wrong questions. Part IV will conclude by arguing that piercing the veil decisions in corporate groups cases should look to enterprise law to ask the right question: Does parent company liability serve the purposes of the body of law at issue?

I. TRADITIONAL VEIL PIERCING AND OTHER DOCTRINES FOR SHIFTING COMMON LAW LIABILITY WITHIN CORPORATE GROUPS

A. Limited Shareholder Liability and Traditional Veil Piercing

Traditional veil piercing and its extensive criticisms are well known and they require only a brief summary here. The related ideas that each corporation is a separate legal entity, and that the shareholders are not generally liable for its obligations beyond the extent of their investments, are well established and deeply entrenched in our law and our legal culture. As Professor Blumberg discusses in another paper in this symposium, these two ideas—each corporation as a separate entity and shareholders having limited liability—were extended to corporate parent shareholders when corporations were given the power to own shares in other corporations around the turn of the twentieth century.9The result was successive limitations of liability for each corporate tier of the modern large business enterprise, although this extension of limited liability did not consider that the whole enterprise was often conducting one business through many separate corporate entities.

Yet these rigid legal rules of limited liability needed a safety valve to escape unacceptable results and supervise limited liability. In corporate law, the familiar doctrine of “piercing the corporate veil” is the traditional safety valve and the one most commonly used; it is known to every law student. While there are two alternate rules formulated, “alter ego” and “instrumentality,” they are interchangeable.10 Whatever the difference in their formulation, the core inquiry in each case emphasizes the same two substantive factors, plus causation of the complained of injury. First, does the subsidiary have a separate existence, either formally or as a matter of business reality?11 In evaluating this factor, courts often look to excessive control over the subsidiary’s day-to-day operations and decision-making, as well as the extent to which the parent disregards the subsidiary’s separateness. Long lists of specific items to be considered have frequently been compiled by courts and commentators, although their very length shows clearly that the lists of factors will offer little specific guidance to how future cases will be decided.

In the traditional rule, the second factor required for veil piercing is wrongful conduct; labels such as “fraudulent” or “inequitable” are frequently applied.12 Must the wrongful conduct rise to the level of common law fraud? While New Mexico and a few other jurisdictions appear to say yes,13 the prevailing view is that common law fraud is not required to support piercing. Beyond this, the standards articulated in the cases are quite diverse, giving little general guidance for future cases, and the results are heavily influenced by the specific facts in particular cases. Examples of wrongful conduct are as varied as human experience itself. When necessary to reach what the court views as the correct result, some courts are willing to treat simple commission of a tort, breach of a contract, or insolvency as sufficiently wrongful conduct.14 In effect, these decisions make the requirement of finding wrongful conduct a formality. However, in many other cases, courts treat this requirement as an insuperable barrier to relief.

Third, traditional veil piercing requires that the wrongful conduct have caused the plaintiff’s loss. While only the “instrumentality” rule articulates proof of causation as a separate factor, courts applying the “alter ego” rule routinely require such a showing as part of the plaintiff’s case when the question is in issue.15 Whichever variation of the veil piercing rule is applied, the question of causation is frequently not discussed, presumably because it was not contested in the particular case. In one doctrinal wrinkle, where the subsidiary has the resources to satisfy a judgment, some courts have held that the causation requirement is not met for this reason alone, even though there was substantial proof of causation in fact.16

Traditional veil piercing has been extensively criticized for at least the last fifty years and the criticism continues unabated. The core charge is that the doctrine is expressed at such a high level of abstraction that decisions in individual cases are in fact highly discretionary with the courts. Thus, results in the cases are determined primarily by unmediated judicial reactions to specific facts in individual cases, with courts applying no real principles and offering little guidance in future cases. As a result, the doctrine is unlikely to result consistently in good decisions. In 1946, Professor Ballentine observed that “[t]he formulae invoked usually give no guidance or basis for understanding the results reached.”17Perhaps the most quoted criticism is from Easterbrook and Fischel: “‘Piercing’ seems to happen freakishly. Like lightning it is rare, severe, and unprincipled.”18 There seems to be no sign of improvement. In a recent commentary, Bainbridge summarizes:

The standards by which veil piercing is effected are vague, leaving judges great discretion. The result has been uncertainty and lack of predictability, increasing transaction costs for small businesses. At the same time, however, there is no evidence that veil piercing has been rigorously applied to effect socially beneficial policy outcomes. Judges typically seem to be concerned more with the facts and equities of the specific case at bar than with the implications of personal shareholder liability for society at large. Veil piercing thus has costs, but no social payoff.19

When a defense of veil piercing is offered, it emphasizes results in individual cases based on “judicial hunch”20 or underlying economic efficiencies revealed through economic analysis.21

Despite the controversy and the continuing unhappiness with the doctrine, courts continue to apply it; while there is a continuing stream of proposals for reform or abolition, there are no real signs that veil piercing is going away.22 Cardozo’s 1926 description of the area as “enveloped in the mists of metaphor” continues to be accurate today.23 Yet the metaphor is so well entrenched in our law and our legal culture today that proposals for doctrinal change must work within it, rather than abandon it, to have a realistic prospect of success.

B. Piercing Based on a Single Factor

Despite the received conventional wisdom of veil piercing doctrine, courts do not always require proof of the three factors discussed above to pierce the veil. In a number of cases courts are willing to pierce the veil based on a finding of either of the first two factors.24 Some of these courts say directly that they are piercing the veil based on a single factor, while others achieve this result under the traditional rule by making a purely formal finding of one of the factors. As with traditional veil piercing, the emphasis in the cases is on the particular facts presented, and the theory receives little direct attention. Extreme facts are typical of these cases.

In the first group of single factor cases, courts will sometimes pierce the veil based only on a determination that the subsidiary has no separate existence.25 Common fact patterns include cases in which the subsidiary has no assets or personnel of its own and has no independent business objective, or no independent decision-making authority.26In addition, some cases will emphasize the fact that the formal existence of the subsidiary was not properly maintained and that proper corporate formalities were not observed. While these are also prominent facts in the traditional veil piercing cases, the significant point here is that these courts will pierce the veil based on this factor alone.

The second group of single factor cases based their decisions to pierce on the fact of wrongful conduct alone. For example, where a subsidiary is incorporated to evade pre-existing contract27 or tort responsibilities, the courts have had little trouble piercing even when formal corporate structures have been maintained and formalities have been meticulously observed. 28 Here again, the potential list of kinds of wrongful conduct is limitless, but common fact patterns include evading pre-existing duties, misrepresenting the entity or assets available to perform contractual duties, as well as draining or commingling the available assets. In these cases, the court does not require a finding of lack of separate existence.

Single factor piercing also occurs in practice when courts stretch traditional piercing to accomplish it. In these cases, the court will emphasize one of the traditional substantive factors and discuss it at length, and then make a largely formal finding that the other substantive factor is also satisfied. While these courts are nominally following the traditional rule, in reality they are basing veil piercing on a single factor. Two examples will illustrate.

In McKinney v. Gannett Co.29 the court considered a contract by the subsidiary to purchase McKinney’s newspaper. The contract provided that McKinney was to remain in charge of the editorial policies of the paper for ten years and this provision was breached.30 In this action, McKinney successfully sought to hold the buyer’s parent company liable by piercing the veil. The opinion ostensibly applied the traditional three-factor piercing test. However, the court was primarily concerned with the separateness factor, emphasizing that the parent treated the subsidiary as a division with little operating control, that all revenues were paid to the parent, all expenditures were approved by the parent, and that the parent had in fact directly negotiated, drafted, and breached the employment contract at issue although it was signed by the subsidiary.31 While the court also relied on the fact that the subsidiary was 100% owned by the parent and the parent controlled the subsidiary’s board of directors, such ownership and control are so common in corporate groups cases that they are generally not taken to be of much probative value in piercing the veil.32

The case gets interesting primarily for what the court does with the “wrongful conduct” requirement in the traditional test. In contrast to the careful evaluation of the lack of separate existence discussed above, here the court was content to find an “improper purpose” to “frustrate the contract rights of the plaintiff” in the parent’s conduct.33 The defendant’s conduct here, while less than commendable, does not establish the use of the corporate form of the subsidiary for an “improper purpose.” In a contracts setting, such an improper purpose could reasonably be shown by, for example, using the subsidiary to give McKinney a different deal than the one he thought he was getting, as will be discussed more fully in Part III below. With no specific misuse of the subsidiary and no conduct implicating contract policies, the finding here is no more than simple contract breach. If this satisfies the test of improper purpose, then the test has little to do with piercing the veil and is, in this respect, purely formal.

Similarly, Chatterley v. Omnico34 emphasized the absence of separate existence and added a largely formal finding of wrongful conduct. In holding the parent company liable for back wages owed to employees of its wholly owned subsidiary, the court emphasized that the subsidiary had no separate board meetings, never elected separate officers, and was directly operated by the parent.35 The court held that there was enough wrongful conduct, reasoning:

[A] controlling corporation, such as Omnico, should not be permitted to manage and operate a business from which it stands to gain whatever profit may be made, have the advantage of the efforts of those who serve it, and then use the nomenclature of another corporation as a facade to insulate it from responsibility for paying for such services.36

Again, this equates contract breach with wrongful conduct by the parent, obviating the need to find more than the questionable separate existence of the subsidiary. While the result is nominally an application of traditional veil piercing, in reality it illustrates the flexibility of the doctrine to base veil piercing on the single factor of lack of a separate existence, alone, when the court finds any other result simply unacceptable.

These examples serve the modest purpose of illustrating that courts in fact do apply a single factor version of veil piercing on occasion.37 However, they do not prove that these or any courts always will do so, nor do these cases give any guidance about when courts will do so. In the whole area of veil piercing, facts count more than theories, and the law’s specific tests are stated at such a level of abstraction to allow much discretion to the courts. This theory of piercing based on a single factor is newly articulated; unsurprisingly it is not well developed by the courts, nor is it well integrated with traditional multi-factor theories. Indeed, numerous jurisdictions appear to use both approaches at different times, without acknowledging that they are using different approaches.38 They are parallel lines of authority, each avoiding the other without recognition, like ships passing in the night. The most that can be said is that there exists substantial authority for single factor piercing in a number of jurisdictions and that this is another tool in the kit of judges struggling to reach good results. As such, it shares the virtues and vices of the other veil piercing tools in the kit, as Parts III and IV will discuss below. However, we must first consider other doctrines that courts have used to find that a parent company shareholder can be responsible for the conduct of its subsidiaries, beyond the more familiar veil piercing approach. These will be briefly surveyed in the next subsection.

C. Alternative Doctrines

Piercing the veil is the most familiar and most frequently used tool to limit parent company shareholder liability, but it is not the only one. There exist a group of additional legal doctrines that are sometimes used for the purpose, each of which has attracted some scattered support in the case law. With the exception of products liability, these are a diverse and limited collection of doctrines whose adoption and embrace is more episodic than systematic. In general, and with a few exceptions, they appear to be used primarily to justify a result in a particular factual setting where veil piercing was either not available or not sought by the parties, rather than to articulate a general doctrinal competitor to veil piercing. Most share with veil piercing its unpredictability and fact sensitivity. However, taken together they do make up a sufficiently large miscellaneous category to offer courts an additional group of tools that can provide a rationale and doctrinal support needed to justify good results. As such, they require mention; the purpose here is to alert the reader to their existence rather than to comprehensively discuss them.

1. “Enterprise” Theories

When a multi-corporate enterprise operates as a single business, as the modern large business most frequently does, a number of cases have held this to be a sufficient basis for imposing common law liability.39 The best developed examples are the Texas and Louisiana versions of the “single business enterprise” doctrine.40 As stated in Texas: “when corporations are not operated as separate entities but rather integrate their resources to achieve a common business purpose, each constituent corporation may be held liable for debts incurred in pursuit of that business purpose.”41

The Texas courts have given long lists of relevant factors, reminiscent of the lists in some veil piercing cases, but with one most important difference. The “single business enterprise” determination looks solely to internal organization and management structure of the enterprise and not to moral culpability or wrongful conduct involved in the case. In this respect, the application of this doctrine is similar to one branch of the single factor piercing doctrinal tree, although at least in Texas and Louisiana, the courts have been clear to express it as a theory separate from piercing the veil. There is scattered authority for such a “single business enterprise” liability in other jurisdictions as well.42

This “single business enterprise” liability coexists as a minor but apparently durable tributary to the main stream of veil piercing liability. By looking to the whole business, rather than its constituent separate corporate entities, “single business enterprise” avoids completely a direct discussion of the policies of limited liability as it focuses on the business enterprise rather than separate liability rules for the individual corporate entity and its corporate parent shareholder. The doctrine could theoretically serve as a vehicle to supplant all veil piercing law for corporate groups, but this has not been its history and is not its current prospect. “Single business enterprise” doctrinal merits are appealing, for the doctrine’s view of the structure of the modern large business corporate group is generally an accurate one. However, there appears to be no widespread movement to embrace this vision beyond its adoption in Texas and Louisiana and the limited application in a few other states it has seen thus far.

In contrast, products liability is a second enterprise doctrine that is quite well established, even though it is not normally considered as an alternative to veil piercing. The coverage of products liability is broader than just the entities making up the corporate group, extending liability to all the enterprises involved in manufacturing, distributing and selling hazardous products. Its basic policies are insuring compensation for victims and distributing losses to the economic activity causing them.43 It is now sufficiently well established and conventional that the application of products liability to upstream entities within the same corporate group does not even provoke a discussion of limited liability policy. Within the corporate group, the cases are clear in holding that a parent which distributes a defective product manufactured by its subsidiary will be liable in products liability. 44 The rationale of these cases is products liability policy, without any inquiry into limited shareholder liability for parent companies and traditional veil piercing analysis. There are also a number of cases that hold a parent company liable for defective products made by a subsidiary, even when the parent company was not involved in distribution, although the results here are more mixed with some cases using veil piercing law, including some finding no liability.45 This is not surprising, for the public policy justifications of modern products liability law do not fit nearly so easily when the parent company is not involved in product manufacture or distribution.

A third group of “enterprise” cases finds parent company liability in tort claims also brought against the subsidiary. On the surface these are not derivative liability cases, for here the parent is held directly liable for its own torts which pertained to the subsidiary’s affairs. However, the tort doctrines, such as “assumption of duty” and “non-delegable duty,” have been widely expanded to provide relief in cases involving corporate groups.

A typical case involves a parent’s assumption of a duty toward the subsidiary’s employees by involving itself in workplace safety issues. For example, in the leading case of Johnson v. Abbe Engineering Co.,46 the parent inspected the subsidiary’s plant for conformity to the parent’s recommended safety requirements. This was deemed sufficient to support a finding that the parent was directly liable to the employee injured by a violation of those requirements. There are a few cases finding parent companies directly liable in tort to third parties.47 Doctrinally, these cases do not purport to impose enterprise liability, but rather find direct parent company liability for its own conduct. However, the conduct at issue is typical conduct of parent companies within corporate groups and, as such, is functionally, if not doctrinally, a type of enterprise liability.

2. Agency and “Quasi-Agency”

In addition to enterprise liability, there are a number of cases using the language of agency to find parent company liability for subsidiary conduct. 48 The analysis in these cases is quite different from those applying the enterprise doctrines discussed above. In the enterprise cases, the courts emphasize the functional unity of the entire enterprise even though it is conducted through separate legal entities. In these agency cases, in contrast, the courts emphasize that there are separate corporate entity actors and then purport to use traditional theories of agency to attribute liability of one to another.

There is a deep conceptual problem, however, in this attempt to use traditional common law agency. The core of common law agency is a consensual agreement for one party to act in the interest of another and, in the right circumstances, to have the legal capacity to take legal actions and incur liability for the other.49 While this is of course theoretically possible, it is not in fact common in parent-subsidiary corporate relationships.50 When courts speak of “agency” in attributing subsidiary liability to a parent corporation, they are usually not applying common law agency doctrine, but rather a variant of veil piercing that is perhaps better called “quasi-agency.”51

This difference from common law agency is clearly noted in the Delaware “agency” doctrine that determines parent company liability when it exercises excessive control over the subsidiary.52 Such an agency doctrine is, however, different from traditional veil piercing in that it does not require a showing of wrongful conduct; in this respect it functionally resembles single factor piercing although it does not use the same doctrinal foundation. There are a group of cases finding parent company liability using a similar “agency” doctrine, although most have not noted that this doctrine is in fact quite distinct from common law agency.53

For example, Solar International Shipping Agency v. Eastern Proteins Export, Inc. found that a corporation was liable for its commonly owned sibling’s shipping contracts because it had acted as the sibling’s undisclosed principal.54 Yet the facts show clearly that this was not really an agency case, but one concerned with piercing the veil to prevent an abuse of limited liability. Both corporations were owned by the same family, and both had identical boards of directors. They operated out of the same address, used the same telex and telephone numbers, the same stationery and sales forms, and the same sales agents. The corporation that had entered the contract had never issued its own checks or had its own employees. In this situation, the court concluded that this was “not just a shell corporation, but a shell game.”55 Yet these fairly typical veil piercing facts were here held to justify a finding of agency, with liability based on it, and no discussion of veil piercing. Such a “quasi-agency” doctrine is, of course, not true common law agency at all, but rather another doctrinal tool to fashion specific results when an exception to limited liability is appropriate.

Considering these alternative doctrines, Blumberg on Corporate Groups concludes:

These [enterprise and quasi-agency] doctrines share two common elements. First, none invokes any aspect of piercing jurisprudence to support its result. Second, each of the alternate enterprise or agency or quasi-agency routes to legal attribution rests on such factors as the domination and control by the parent corporation; the economic integration and financial and administrative interdependence of the group; and the symbiotic allocation among different members of the group of the interrelated economic functions being conducted under the common plan and direction of the parent corporation. 56

Taken together, this diverse array of veil piercing and alternative theories offer the courts a group of tools that can be used to fashion results in individual cases. The next section will consider an example of how these tools have been used to reach justifiable results in a specific group of cases.

II. VEIL PIERCING CAN PERMIT COURTS TO REACH GOOD RESULTS— EXAMPLES FROM CONTRACTS

Veil piercing is so universally criticized and so weakly defended that, at first blush, one wonders why the courts have not long ago abandoned it. Can this simply be the weight of the dead hand of stare decisis uninformed by reason or principle? Is there really so little substantive justification for the way we do things now? This Part will argue that these views are slightly overstated. While veil piercing remains a defective and dysfunctional legal doctrine in corporate groups cases, as Part III will argue next, some of its doctrinal deficiencies serve as an improvised asset. Thus, piercing’s abstraction and imprecision, its most notable doctrinal characteristics, leave courts the flexibility to reach satisfactory results in specific cases, as several contracts cases will illustrate here. Of course, as argued above, these gains come at high cost to the legal system, for traditional veil piercing encourages litigation and offers only deeply problematic uncertainty in predicting the outcome of specific cases.

This argument requires an idea of what good results are. Part IV will develop a more comprehensive answer to this question, arguing that good results are those which serve the policies and purposes of the body of law under consideration in the case. For our purposes here, the answer will be more narrowly confined to the example of contracts cases. Thus, in these cases, good veil piercing results in the cases are results that serve the underlying policies and purposes of contract law. Most fundamentally, contract law is concerned to give parties the deal they in fact made, with the party they in fact thought they had agreed with. Thus, in these cases, courts should pierce the veil when doing so preserves the deal that the plaintiff originally negotiated and agreed to, including the contracting parties they thought they were dealing with, and courts should refuse to pierce the veil when not required to do so to preserve the deal.57

Before briefly developing this point and illustrating it with a few examples, it is important to note as an aside that, while the imprecision of traditional veil piercing analysis allows courts to reach such results in corporate groups cases, it does not direct attention to the questions that need to be considered to reach them. On the contrary, its rigid formulation directs attention away from what should be the governing considerations. Traditional veil piercing focuses first on whether the subsidiary is a separate entity, looking variously to form or business reality, and second on whether the subsidiary is being used to accomplish wrongful results. In the contracts cases, this first question appears to be largely irrelevant to contract policy, and the second only obliquely overlaps them. As I will argue further in Part III, veil piercing asks the wrong questions and it is, then, not surprising that it can lead to the wrong answers. What we see in the contracts examples here is that, even when asking the wrong questions, veil piercing allows room to reach the right results on occasion.

At the core of each contracts veil piercing case is a basic contracts policy question: Did the contracting party get the deal it made, including the performance it reasonably should have expected? If it did, then we should not pierce the veil to gain for the contracting party more than it bargained for in the contract. However, if it did not get the deal and the performance potential for which it bargained, then contracts policy calls for relief. In the corporate groups cases concerned with contracts, two fact patterns are typical. First is misrepresentation; did the corporate group mislead the contracting party, either by the corporate structure or the entities’ actions, into thinking that it was contracting with the parent or another affiliate, rather than the subsidiary with which it signed the deal? Part of what it bargained for was the identity of the other party, particularly that party’s ability to perform or to respond in damages. In the second kind of case, there may be no problem with misrepresenting the identity of the subsidiary with which it contracted, but the parent company may have so manipulated or depleted the subsidiary’s assets that it is no longer able to perform in the way that the reasonable expectations under the contract would require. These cases include the situation discussed above where the defendant has resorted to manipulation of the corporate structure to deprive the plaintiff of its expected gain from a pre-existing contract. Here again, fundamental contracts policy of good faith in performance and enforcement calls for a remedy, and veil piercing can be one way to achieve it.

A. Problems with the Identity of the Contracting Party

The core concern in these veil piercing cases is that the plaintiff did not get the contractual obligation of the corporate party it thought it was dealing with.58 In a typical fact pattern, the contract may have been made with a subsidiary, although the plaintiff thought it was dealing with the parent and getting its promise, presumably secured by both more resources available for performance as well as more assets available to respond in damages if this became necessary. Where the parent has an active role in the plaintiff’s misunderstanding, the case becomes even easier. Conversely, where the plaintiff knew it was dealing only with the subsidiary, and was denied the parent’s guarantee or even its financial information, then basic contracts policy supports the refusal to pierce the veil.

Giving the plaintiff the deal it made, with the corporate party it reasonably thought it was dealing with, is fundamental to contract law. Thus, the idea is well developed in contract law that enforcement of the contract should be denied when the corporate group has misrepresented the identity of the corporate group party, and conversely, that enforcement should be granted when the plaintiff got the deal and the corporate party it agreed to.

Veil piercing law has reached results in a number of corporate groups cases that are fully consistent with these contract principles.59 FMC Finance Corp. v. Murphree, a leading case, involved a corporate group made up of a parent corporation and two subsidiaries, one a leasing subsidiary and the other a financing subsidiary which brought suit against the lessor when payments were not made.60 The parent was a bus manufacturer which leased them to the defendant through the manufacturer’s leasing subsidiary; the parent’s warranty on the buses was assigned to its leasing subsidiary which then re-assigned the warranty to the defendant lessor. The lease transaction was financed by the parent manufacturer’s finance subsidiary. When the defendant defaulted on the lease payments, the finance subsidiary sought recovery, and the defendant counterclaimed on a breach of warranty on the buses.

The critical question was whether the financing subsidiary was liable for the parent company’s warranty; if so, this would be a defense to the finance subsidiary’s claim. The trial court held that the finance subsidiary had no liability under the parent company’s warranty because they were separate legal entities. In this opinion the appellate court reversed and remanded for further findings of fact. The question was whether the separate corporate entities of the parent and the finance subsidiary should be disregarded:

When the shareholder or affiliate, however, engages in conduct likely to create in the creditor the reasonable expectation that he is extending credit to an economic entity larger than the corporation he actually contracted with, and the creditor reasonably relies to his detriment on his reasonable belief concerning who or what he was dealing with, then the corporate veil can be pierced.61

The case was remanded to determine who the defendant reasonably thought it was dealing with, parent manufacturer or finance subsidiary. The court noted that the parent manufacturer and both the leasing and finance subsidiaries shared offices in the same building, which was owned by the parent, that both the leasing and finance subsidiaries were involved in negotiating the transaction, and that the leasing subsidiary was largely captive with the finance subsidiary providing sixty percent of the financing needed for its transactions.62

This is a veil piercing case that reaches results consistent with contract law and policy. As noted above, a number of similar cases do likewise when the operations are confusingly intermixed or the subsidiary is operated with such intergroup dealings that it is not intended to make a profit.63 Where the parent has agreed to stand behind the subsidiary’s contract, the cases also find liability, again consistent with the demands of contracts policy, although most use a veil piercing rationale rather than basing the results on contract doctrine.64 By contrast, where no misrepresentation has been shown, veil piercing is denied, as in the case of creditors who choose to deal with only the subsidiary in the face of either a parent company refusal to guarantee the obligation, or a refusal to supply financial information. 65 These contracts veil piercing cases that deny liability are consistent in reaching results that support contract law policy. The rationale here is that the creditor got the deal it made, with the party it chose to deal with, and veil piercing should not be used to substitute a better deal.

Norhawk Investments, Inc. v. Subway Sandwich Shops, Inc. is a clear if extreme example.66 Subway Sandwich Shops, the parent, set up and used a local subsidiary corporation to lease real estate from the plaintiff Norhawk; the property was then subleased to a franchisee. The franchisee sublessee was eventually unsuccessful and failed. The local Subway lessee subsidiary had no assets, employees, or bank balance and had been deliberately undercapitalized; on this basis, Norhawk sought relief from the parent Subway. In denying recovery, the court emphasized that the parent had been quite clear that Norhawk was dealing only with the local subsidiary, and further had insisted on its policy of not disclosing financial information about either the parent or the subsidiary. Indeed, Subway had made plain that it would insist on its nondisclosure policy and abandon the lease transaction rather than disclose the information. When Norhawk went ahead with this transaction, the court reasoned, it took the risk of dealing with a very thin subsidiary that was judgment-proof. When this risk eventually materialized, veil piercing could not be used to gain for Norhawk a better contract than the one it agreed to.

The result, while admittedly based on extreme facts, is good contract law policy and for this reason I will argue that it is good veil piercing policy. Veil piercing in corporate groups contract cases should be informed by contract policy, not by abstract doctrines of corporate separateness or wrongdoing that are at the heart of the traditional approach. Those traditional corporate doctrines, if applied here, could have justified a different result because the subsidiary was not in fact a separate entity, either operationally or formally.67However, such a result would be bad contracts policy and, thus, bad veil piercing policy. There are similar cases that reach good contracts policy results in the face of traditional veil piercing factors such as lack of separate existence, undercapitalization, failure to comply with corporate formalities, and extensive economic integration.68 While these cases are potentially at odds with mainstream veil piercing doctrine as conventionally articulated, they are able to use its imprecision to reach good results.

B. Asset Manipulation and Contract Performance

The other typical corporate groups contract case is concerned with parent company behavior during the performance of the subsidiary’s contract with the other party, rather than at the time of contract formation. In these cases, there is no question that the contract was made with the subsidiary. However, the parent has so depleted the subsidiary’s assets or other capabilities during the course of performance that it cannot satisfactorily perform its contract obligations. The misconduct may take the form of fraudulent transfers, asset stripping, or commingling or shuffling of assets. In this situation, veil piercing relief is consistent with the requirements of good contract law policy.69

Contract law is clear that, in every contract, each party has a duty of “good faith and fair dealing” in “its performance and its enforcement” of contracts.70 This obligation extends to action taken by a party that renders itself incapable of performing, as well as action that makes the other party’s performance either more difficult or less valuable. The risk of such action is not one of the risks that the contracting party impliedly assumed in contracting with the subsidiary.

Manipulating assets to move them from the contracting subsidiary to the parent or other subsidiaries can take many forms beyond outright transfers, including loans, pledges to secure third party loans, repayment of debts of the parent, as well as unfair intra-enterprise transactions or excessive dividends. Consider, for example, Eagle Air, Inc. v. Corroon & Black Dawson & Co., where a parent company took loans from first- and secondtier subsidiaries.71 The second-tier subsidiary loaned $1 million to the firsttier subsidiary, which then loaned $1.5 million to the parent.72 When the second-tier subsidiary was not able to make its contract payment to a third party as a result, both the parent and the first-tier subsidiary were held liable for it.73 This is good contracts policy; in choosing to make a contract with the second-tier subsidiary, the contracting party was not agreeing to run the risk that this subsidiary’s assets would be improperly depleted. In effect, it did not get the performance potential it had bargained for because the asset draining had depleted the subsidiary. Contract policy calls for a remedy and here piercing the veil can supply it.74

This section has considered some examples of contracts cases to show how veil piercing law can allow good results in corporate groups cases. The results of these cases are good contracts policy in that they give the parties the contract they reasonably thought they had made or find liability when the performance potential of the subsidiary has been improperly impaired. As good contracts policy, this is also good veil piercing policy. However, these cases taken together are less than a ringing endorsement of veil piercing law, for their good results required recasting the rules and, in some cases, ignoring part of the traditional veil piercing standard. Although the traditional doctrine is sufficiently imprecise that it allows good results, it does not guide the courts to good results because it asks the wrong questions in these corporate groups cases.

To Be Continued Next Week

* Phillip I. Blumberg Professor, University of Connecticut School of Law. Special thanks to Phillip Blumberg for all he has taught me about corporate groups. This Article has benefited from most helpful comments by Phillip Blumberg, Sean Griffith, and René Reich-Graefe, as well as the comments and questions by participants at the United Technologies Corporation Symposium, “The Changing Face of Parent and Subsidiary Corporations: Entity vs. Enterprise Liability,” held by the Connecticut Law Review on October 21, 2004. Remaining errors are my own.

1 For recent commentary, see, e.g., Stephen M. Bainbridge, Abolishing Veil Piercing, 26 J. CORP. L. 479 (2001); J. William Callison, Rationalizing Limited Liability and Veil Piercing, 58 BUS. LAW. 1063 (2003); Franklin A. Gevurtz, Piercing Piercing: An Attempt to Lift the Veil of Confusion Surrounding the Doctrine of Piercing the Corporate Veil, 76 OR. L. REV. 853 (1997); Nina A. Mendelson, A Control-Based Approach to Shareholder Liability for Corporate Torts, 102 COLUM. L. REV. 1203 (2002); Douglas C. Michael, To Know a Veil, 26 J. CORP. L. 41 (2000); Robert B. Thompson, Piercing the Veil Within Corporate Groups: Corporate Shareholders as Mere Investors, 13 CONN. J. INT’L L. 379 (1999). The basic doctrine is summarized in 1 PHILLIP I. BLUMBERG, KURT A. STRASSER, NICHOLAS L. GEORGAKOPOULOS, & ERIC J. GOUVIN, BLUMBERG ON CORPORATE GROUPS chs. 10–14 (2d ed. 2005) [hereinafter BLUMBERG ON CORPORATE GROUPS].

2 The classic modern statements are Frank H. Easterbrook & Daniel R. Fischel, Limited Liability and the Corporation, 52 U. CHI. L. REV. 89 (1985) and Larry E. Ribstein, Limited Liability and Theories of the Corporation, 50 MD. L. REV. 80 (1991). Excellent recent summaries are in Bainbridge, supra note 1, at 487–506, and Mendelson, supra note 1, at 1217–32.

3 Henry Hansmann & Reinier Kraakman, The Essential Role of Organizational Law, 110 YALE L.J. 387 (2000).

4 See, e.g., Bainbridge, supra note 1, at 487–505 (discussing the different strengths of the rationale for limited liability in contract and tort cases); Michael, supra note 1, at 48–53 (same). Henry Hansmann & Reinier Kraakman, Toward Unlimited Shareholder Liability for Corporate Torts, 100 YALE L.J. 1879 (1991) argue that pro rata shareholder liability should be the rule for tort cases. See generally 2 BLUMBERG ON CORPORATE GROUPS, supra note 1, §§ 66.01, 66.06; Kyle D. Wuepper, Piercing the Corporate Veil: A Comparison of Contract Versus Tort Claimants Under Oregon Law, 78 OR. L. REV. 347 (1999).

5 Thompson, supra note 1. 1 BLUMBERG ON CORPORATE GROUPS, supra note 1, at ch. 6, discusses this point in the broader context of enterprise liability more generally. See also Phillip I. Blumberg, Limited Liability and Corporate Groups, 11 J. CORP. L. 573, 575 (1986) (discussing the evolution of limited liability and its application to corporate groups).

6 This discussion assumes that the corporate group is conducting one integrated business enterprise. Where this is not the case, the justifications for shareholder limited liability may also apply to parent companies that are operating as investors rather than managers. Determining when this case is presented is beyond the scope of this paper. While I assume that a parent company operating as an investor rather than a manager is rare, the case of a parent company operated as a vehicle for investors to diversify may present a more frequent example.

7 Robert B. Thompson, Piercing the Corporate Veil: Is the Common Law the Problem?, 37 CONN. L. REV. 619, 622 (2005).

8 1 BLUMBERG ON CORPORATE GROUPS, supra note 1.

9 Phillip I. Blumberg, The Transformation of Modern Corporation Law: The Law of Corporate Groups, 37 CONN. L. REV. 605, 607–08 (2005).

10 1 BLUMBERG ON CORPORATE GROUPS, supra note 1, § 11.01.

11 See, e.g., id. § 11.01[B].

12 See, e.g., id. § 11.01[C].

13 Scott v. AZL Res. Inc., 753 P.2d 897, 901 (N.M. 1988). See also the authorities cited in 1 BLUMBERG ON CORPORATE GROUPS, supra note 1, § 11.01[C], at 11-15 n.43.

14 1 BLUMBERG ON CORPORATE GROUPS, supra note 1, § 11.01[C], at 11 18 to 11-20. This is, in effect, a type of single factor piercing as will be discussed below.

15 Id. § 11.01[D].

16 Id. § 11.01[D], at 11-21 to 22.

17 HENRY WINTHROP BALLANTINE, BALLANTINE ON CORPORATIONS § 136, at 312 (rev. ed. 1946).

18 Easterbrook & Fischel, supra note 2, at 89.

19 Bainbridge, supra note 1, at 481.

20 Elvin R. Latty, The Corporate Entity as a Solvent of Legal Problems, 34 MICH. L. REV. 597, 630 (1936); see Adolf A. Berle, The Theory of Enterprise Liability, 47 COLUM. L. REV. 343, 345 (1947) (finding in the diverse and inconsistent court rationales a “scheme of these various exceptions [that is] none the less consistent and logical enough”).

21 Easterbrook & Fischel, supra note 2.

22 Robert B. Thompson, Piercing the Corporate Veil: An Empirical Study, 76 CORNELL L. REV. 1036, 1049 (1991).

23 Berkey v. Third Ave. Ry. Co., 155 N.E. 58, 61 (N.Y. 1926).

24 For a fuller treatment, see BLUMBERG ON CORPORATE GROUPS, supra note 1, chs. 12 (general), 26–27 (jurisdiction), 59–60 (torts), and 68–69 (contracts).

25 See 1 BLUMBERG ON CORPORATE GROUPS, supra note 1, § 12.02.

26 See Middendorf v. Fuqua Indus., Inc., 623 F.2d 13, 17 (6th Cir. 1980); Del Santo v. Bristol County Stadium, Inc., 273 F.2d 605, 608 (1st Cir. 1960) (describing the corporation as a “bookkeepingshell”).

27 Although these cases might alternatively reach the same result by invocation of the implied contract obligation of good faith and fair dealing, no court has apparently done so. However, G.E.J. Corp. v. Uranium Aire, Inc., 311 F.2d 749 (9th Cir. 1963) did use much of the policy of contract law to inform its application of traditional alter ego rules.

28 E.g., GMAC Commercial Mortgage Corp. v. Gleichman, 84 F. Supp. 2d 127 (D. Me. 1999); First Health, Inc. v. Blanton, 585 So. 2d 1331 (Ala. 1991); Flo Trends Sys., Inc. v. Allwaste, Inc., 948 S.W.2d 4 (Tex. Civ. App. 1997); see also 1 BLUMBERG ON CORPORATE GROUPS, supra note 1, § 12.03[B].

29 817 F.2d 659 (10th Cir. 1987).

30 Id. at 662.

31 Id. at 666.

32 1 BLUMBERG ON CORPORATE GROUPS, supra note 1, § 11.01[B], at 10 11.

33 McKinney, 817 F.2d at 666.

34 485 P.2d 667 (Utah 1971).

35 Id. at 668, 670.

36 Id. at 670.

37 For additional case authority, see supra note 26.

38 2 BLUMBERG ON CORPORATE GROUPS, supra note 1, §§ 59.02, 68.02, 68.03, and 69.02 give authorities using both theories in contract and torts in Alabama, Alaska, Florida, Illinois, Kansas, Louisiana, Michigan, New Mexico, New York, and Utah, as well as in the Second and Fourth Circuits. Texas requires a separate showing of “fraud or injustice” in contracts cases, but not in tort cases. Id. § 59.02[B], at 59-5.

39 The enterprise doctrines of “stream of commerce” and “market exploitation” are important as a basis for finding jurisdiction over a parent not resident in the forum, based on the presence of an affiliated subsidiary. See id. at chs. 30–31. However, general consideration of these is beyond the scope of this Article.

40 Id. §§ 12.04, 66.04[A].

41 Paramount Petroleum Co. v. Taylor Rental Ctr., 712 S.W.2d 534, 536 (Tex. Ct. App. 1986); see also George Grubbs Enter., Inc. v. Bien, 900 S.W.2d 337, 339 (Tex. 1995). The seminal case in Louisiana is Green v. Champion Insurance Co., 577 So. 2d 249, 257–58 (La. Ct. App. 1991), an insurance regulation case in which the court lists eighteen separate factors for consideration. The doctrine has since been generally applied in contract and torts cases. See, e.g., Pine Tree Assoc. v. Doctors’ Assoc., Inc., 654 So. 2d 735, 736, 738 (La. Ct. App. 1995) (contract); Thibodeaux v. Ferrellgas, Inc., 741 So. 2d 34, 35, 42–43 (La. Ct. App. 1999) (tort).

42 See 2 BLUMBERG ON CORPORATE GROUPS, supra note 1, §§ 61.04 (torts), 66.04[A] (contracts). This was the original basis for finding parent company liability in railroad cases until approximately 1920, but it was supplanted by veil piercing. Id. § 61.02.

43 See RESTATEMENT (THIRD) OF TORTS: PRODUCTS LIABILITY § 1, at 8–9 (1998).

44 2 BLUMBERG ON CORPORATE GROUPS, supra note 1, § 62.03. This is also true of a subsidiary distributing a product manufactured by its parent.

45 Id. § 62.02.

46 749 F.2d 1131 (5th Cir. 1984); see, e.g., Boggs v. Blue Diamond Coal Co., 590 F.2d 655, 658 (6th Cir. 1979) (parent had “primary responsibility for ‘mine safety functions’”); Heinrich v. Goodyear Tire & Rubber Co., 532 F. Supp. 1348, 1351 (D. Md. 1982) (parent provided health and safety information on chemicals at the subsidiary’s plant). See generally 2 BLUMBERG ON CORPORATE GROUPS, supra note 1, § 63.05[C]. Cases finding no liability on their facts are discussed in id. § 63.05[D].

47 2 BLUMBERG ON CORPORATE GROUPS, supra note 1, § 63.06.

48 See id. § 16.03. In addition to finding substantive liability on this basis, a number of procedure cases purport to base jurisdiction over other entities in the enterprise on agency theories. See id. § 29.01.

49 See RESTATEMENT (THIRD) OF AGENCY § 1.01 (Tentative Draft No. 2, 2001).

50 This was pointed out early on by Judge Learned Hand in Kingston Dry Dock v. Lake Champlain Transportation, 31 F.2d 265, 267 (2d Cir. 1929).

51 This term is from 1 BLUMBERG ON CORPORATE GROUPS, supra note 1, § 16.03[A].

52 See, e.g., Mobil Oil Corp. v. Linear Films, Inc., 718 F. Supp. 260, 266 n.9 (D. Del. 1989).

53 See 1 BLUMBERG ON CORPORATE GROUPS, supra note 1, § 16.03 (explaining agency and quasi-agency theories of parent liability), §§ 63.03–63.04 (explaining tort theories of parent liability), and § 66.04[B] (explaining contract theories of parent liability).

54 778 F.2d 922, 925 (2d Cir. 1985).

55 Id. This case was concerned with sibling company liability, as well as the liability of shareholders, although the court neither noted this distinction nor gave it any analytical significance. For a general discussion of such lateral piercing to find liability for the obligations of sibling corporations, see 1 BLUMBERG ON CORPORATE GROUPS, supra note 1, § 14.08.

56 1 BLUMBERG ON CORPORATE GROUPS, supra note 1, § 16.05.

57 So stated, these corporate law veil piercing cases could be decided under basic contract law and policies. However, this is not the way courts have treated them; such an attempt to simply abandon veil piercing, while attractive in principle, is unlikely to prove effective in practice in the prevailing legal doctrine and culture which have so firmly embraced veil piercing.

58 For fuller discussion of the ideas in this section, see 2 BLUMBERG ON CORPORATE GROUPS, supra note 1, § 69.04.

59 See cases cited id. § 69.04[A].

60 632 F.2d 413, 416 (5th Cir. 1980). Defendant lessor was a controlled corporation whose principals had guaranteed the obligation; this action was against the defendant’s corporate principals.

61 Id. at 423.

62 Id. at 421, 423–24 & n.10.

63 See 2 BLUMBERG ON CORPORATE GROUPS, supra note 1, § 69.04 nn.17–24.

64 Id. § 69.04 nn.1–2.

65 For a collection of cases, see id. § 69.04[B].

66 811 P.2d 221 (Wash. Ct. App. 1991).

67 Traditional veil piercing law might have found no reason to pierce if it determined that there was no wrongful conduct, although the undercapitalization and commingling of assets would be sufficient wrongful conduct for many courts applying traditional law.

68 Cases are collected in 2 BLUMBERG ON CORPORATE GROUPS, supra note 1, §§ 69.04[B][1]–[4].

69 For a fuller discussion, see id. § 69.05, on which this section is based.

70 RESTATEMENT (SECOND) OF CONTRACTS § 205 (1981).

71 648 P.2d 1000 (Alaska 1982).

72 Id. at 1004 n.13.

73 Id. at 1005.

74 Veil piercing may not be the only remedy. Where the subsidiary is insolvent or is made insolvent or left with “unreasonably small capital” by the transfer, fraudulent transfer law may also provide a remedy. See generally 2 BLUMBERG ON CORPORATE GROUPS, supra note 1, ch. 85. In addition, a parent company may be liable for intentionally and improperly inducing a subsidiary to breach its contract. See, e.g., Phil Crowley Steel Corp. v. Sharon Steel Corp., 782 F.2d 781, 784 (8th Cir. 1986); RESTATEMENT (SECOND) OF TORTS §§ 766–67 (1979).