Jon E. Shell v. D. Scott King ( 2004 )

IN THE COURT OF APPEALS OF TENNESSEE
AT KNOXVILLE
May 14, 2004 Session
JON E. SHELL, ET AL. v. D. SCOTT KING
Appeal from the Chancery Court for Sevier County
No. 02-5-221 Telford E. Forgety, Jr., Chancellor
No. E2003-02124-COA-R3-CV Filed August 5, 2004
Jon and Rebecca Shell (“Plaintiffs”) sued D. Scott King (“King”) after a limited liability company
formed by the three of them went out of business. Plaintiffs sought dissolution of the company
known as The Big Red Barn, LLC (“the Company” or “the LLC”). Plaintiffs also claimed King had
breached his fiduciary obligations to both them and the LLC. The Trial Court referred this case to
a Special Master and after a trial, the Special Master issued a Report concluding King was negligent
and had breached his fiduciary obligations and recommending that Plaintiffs be awarded a judgment
which included some, but not all, of Plaintiffs’ attorney fees and expert witness fees. The Trial
Court confirmed the Report of the Special Master in all respects. We modify the judgment of the
Trial Court and affirm as modified.
Tenn. R. App. P. 3 Appeal as of Right; Judgment of the
Chancery Court Affirmed as Modified; Case Remanded
D. MICHAEL SWINEY, J., delivered the opinion of the court, in which CHARLES D. SUSANO, JR., J.,
and WILLIAM H. INMAN , SR. J., joined.
Charles W. Kite, Sevierville, Tennessee, for the Appellant D. Scott King.
James H. Ripley, Sevierville, Tennessee, for the Appellees Jon E. Shell and Rebecca Shell.
OPINION
Background
King has been in the landscaping field for several years and operated Elite Landscape
Management (“Elite”), a landscaping business which, among other things, installed and maintained
landscaping designed by Ms. Shell. In April of 2000, the parties formed the Company, which was
a limited liability company formed under the laws of the State of Tennessee. The Company was a
plant nursery and garden supply outlet located in Sevierville selling plants and other materials to
customers of Elite and the general public. Jon and Rebecca Shell each owned a 25% interest in the
Company, with King owning the remaining 50%.
The Company closed after approximately one year. This litigation began when
Plaintiffs sued King alleging the Company was unsuccessful because King breached his obligations
to the LLC and Plaintiffs, breached his fiduciary obligation to Plaintiffs, and intentionally misused
Company funds. More specifically, Plaintiffs claimed King: 1) neglected the Company; 2) illegally
issued checks by forging the name of Ms. Shell; 3) neglected customers; 4) failed to make payments
on Company indebtedness in a timely manner; and 5) falsely claimed a Company capital account was
far in excess of that account’s actual value. Plaintiffs sought immediate dissolution of the Company,
at least $75,000 in damages, a declaration of the rights and obligations of the parties, as well as
reasonable attorney fees, costs and expenses pursuant to Tenn. Code Ann. § 48-245-903. King
answered the complaint generally denying any wrongdoing or liability to Plaintiffs, although he
agreed dissolution of the Company was appropriate.
In June of 2002, the Trial Court entered an Agreed Order dissolving the LLC and
reserving the remaining issues “pending winding up of the affairs of this limited liability company.”
An Agreed Order of Reference was entered by the Trial Court referring this matter to a Special
Master, and a two day trial before the Special Master took place in April of 2003. The Special
Master later issued a detailed Report resolving the numerous issues presented by the parties, most
of which are not at issue on appeal. The issues on appeal center around whether King should be held
responsible for missing Company funds and whether Plaintiffs are entitled to their full attorney fees,
expert witness fees, and costs. We will limit our discussion of the facts as they pertain to these
issues.
In his factual findings, the Special Master noted that pursuant to the LLC’s Operating
Agreement, King was the Company’s Chief Manager, and it was stipulated at trial that King was the
Chief Manager throughout the Company’s existence. The Special Master observed that King had
operated Elite for many years prior to the formation of the Company and had been involved in the
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landscaping business for over a decade. Ms. Shell was a certified arborist with a horticulturist degree
who had many horticultural or nursery certifications.1
The Special Master found the testimony at trial “conflicting and irreconcilable” as
to whether King and Ms. Shell were to devote an equal amount of time to the operation of the
Company, but concluded that both of them were involved extensively in setting up the Company and
preparing it for retail operation. According to the Special Master, Ms. Shell was more involved in
the daily operation of the Company once it was “up and running.” The Special Master also discussed
an agreement by the parties whereby employees of Elite would work for the Company on an as-
needed basis. More specifically, the Special Master stated:
When the parties organized the LLC 2, they agreed to use their
own labor and laborers from Elite on an as-needed basis. By using
this arrangement, the LLC avoided the necessity of obtaining a
separate workers compensation insurance policy and avoided the
difficulty of separate payroll accounting.
When Mr. King paid his employees, a portion of their time
based upon time card records was allocated to BRB. For each hour
that an Elite employee indicated he/she had worked for BRB, BRB
was then billed $15.00 per hour plus approximately 20% of this
amount for “overhead”, for a billed total of $18.00 per hour for labor.
This per-hour billing rate was applied across the board regardless of
the actual per-hour employee cost, which was substantially lower than
$15.00 per hour. Mr. King stated this charge was agreed upon by the
parties and disclosed to Mr. and Mrs. Shell. Mr. and Mrs. Shell deny
that any such markup was ever disclosed or agreed upon, and that
they had only discovered the mark-up in trial preparation.
****
When BRB was organized, it shared office space with Elite and Mr.
King employed a bookkeeper named Leslie Gibbs who worked out of
this combined Elite/BRB office. Ms. Gibbs prepared daily sales
reports, made BRB deposits and prepared payroll summaries stating
the amount of hours and funds which the nursery was charged for
Elite employee time.
1
The Special Master also found that M r. Shell, a p racticing dentist, had no practical or formal experience in
landscaping.
2
Throughout the Special Master’s Report, the Company was referred to interchangeably as “the LL C,” “B RB ,”
or “the nursery.”
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There is no dispute between the parties that Elite employees frequently worked for
the Company and, in turn, the Company was billed on a per hour basis for these services. There also
is no dispute that Leslie Gibbs (“Gibbs”) was an Elite employee who provided bookkeeping services
to the Company and the Company was charged for each hour of services so provided. While the
parties disputed whether Plaintiffs were aware of the markup for each hour an Elite employee
worked for the Company, this dispute was resolved against King and is not challenged on appeal.
Ms. Shell testified that at the end of each business day, she and King would count the
cash and receipts and reconcile any discrepancies. The cash and receipts were then placed into a
bank bag and given to King, who took it across the street to his house and office. Then, according
to King’s brief on appeal, either he “or one of his employees at Elite Landscaping would pick up the
receipts and make the deposit on behalf of the LLC.… The person who normally picked up the
receipts and deposited them was the bookkeeper for Elite Landscaping, namely, Leslie Gibbs.”
Plaintiffs’ called as an expert witness Van T. Elkins (“Elkins”), a certified public
accountant. Elkins testified that his analysis and audit of the Company’s records revealed $26,209
in cash taken in by the Company but never deposited into the Company’s bank account or otherwise
accounted for. The Special Master credited Elkins’ testimony and concluded there was $26,209 in
missing funds, a finding which likewise is not challenged on appeal.
King testified he fired Gibbs in June of 2002 and brought criminal charges against
her for embezzling $38,800 in funds from Elite. King discovered this alleged embezzlement at Elite
approximately one year after the Company closed. King testified that he had no direct knowledge
of Gibbs’ embezzling from the Company. The Special Master noted that King did not state whether
any charges had been brought against Gibbs relative to the missing funds belonging to the Company.
The Special Master concluded that because King was the Chief Manager of the LLC,
he held fiduciary duties to the LLC and Plaintiffs. The Special Master then stated:
The Special Master notes that Mr. King was not only the chief
manager of this business but was also the member entrusted with the
maintenance of the company books and accounts, a responsibility
which he then delegated to Leslie Gibbs. Apparently, Mr. King did
not discover any embezzlement from BRB and nowhere in his
testimony has he indicated any attempts to identify any embezzlement
or to recover any funds. The Special Master finds and holds that Mr.
King was entrusted with cash funds from the operation of the LLC’s
business and was responsible for their safekeeping. The Special
Master further finds that Mr. King was negligent in entrusting these
funds to another party and then failing to properly review records to
verify the entrusted funds were actually deposited. Mr. King was the
recipient of the daily sales totals showing the amount of cash sales as
well as the bank accounts and was the sole member of the LLC with
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any ability to control the safekeeping of cash and to verify its proper
deposit when the bank statements were received or through deposit
receipts.
The Special Master finds that the sum of $26,209.00 in
company cash is missing and that such funds are missing as a direct
result of Mr. King’s negligence or breach of fiduciary duties to the
LLC.
After concluding there was a total of $26,209 in missing funds resulting from King’s
negligence and negligent entrustment of these funds to Gibbs, the Special Master set about to
determine how these funds would have been distributed during dissolution if they had not been
missing. The Special Master concluded that these funds would have been divided on a pro-rata basis
in accordance with the LLC members’ capital contributions. According to the Special Master,
Plaintiffs’ capital contributions totaled 80.06% of the total capital contributions to the LLC.
Therefore, Plaintiffs were entitled to 80.06% of $26,209, or $20,982.92.
As noted previously, Plaintiffs sought an award of attorney fees, expert witness fees,
and costs. The Special Master noted that he had the equitable power to award these expenses and
fees pursuant to Tenn. Code Ann. § 48-230-105. The Special Master then reviewed the proof, such
as King’s arbitrarily billing the Company $15.00 per hour for work performed by Elite employees,
regardless of what the Elite employee actually was paid. The Special Master also took into
consideration other factors, such as King’s refusal to turn over some of Plaintiffs’ personal property
which, in effect, left Plaintiffs “little choice but to bring this action for dissolution and liquidation.”
In addition, the Special Master stated that King’s control over the accounting and financial records,
self-dealing, and failure to keep proper records contributed substantially to the cost of the litigation.
The Special Master concluded that King should be held responsible for one-half of Elkins’ total
expert witness fees of $14,810. The Special Master also concluded King should be responsible for
one-half of Plaintiffs’ attorney fees incurred while assisting Elkins. The total amount of attorney
fees incurred by Plaintiffs was $11,426. Of this amount, the Special Master attributed $6,000 to trial
and other assistance provided to Elkins, thereby resulting in King being responsible for one-half of
the $6,000, or $3,000. Thus, of the total $26,236 in expert witness fees and attorney fees incurred
by Plaintiffs, the Special Master held King liable only for $10,405. The Special Master’s Report
ended with the recommendation that the costs, including the fee of the Special Master, be assessed
one-half to Plaintiffs and one-half to King.
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Although Plaintiffs and King filed objections to the Special Master’s Report, on
August 7, 2003, the Trial Court confirmed the Special Master’s Report in all respects.3 Plaintiffs and
King appeal raising several issues. King argues the Trial Court erred when it held him liable under
the doctrine of respondeat superior for embezzlement committed by Gibbs. King also argues the
Trial Court erred when it held him liable “as a result of negligence for embezzlement committed by”
Gibbs. Plaintiffs claim they should be awarded their entire attorney fees and expert witness fees.
They further argue that King should be responsible for all the costs, including the Special Master’s
fee. Plaintiffs also request their attorney fees incurred on this appeal.
Discussion
With respect to legal issues, our review is conducted “under a pure de novo standard
of review, according no deference to the conclusions of law made by the lower courts.” Southern
Constructors, Inc. v. Loudon County Bd. Of Educ., 58 S.W.3d 706, 710 (Tenn. 2001). As to factual
issues, concurrent findings of fact by the Special Master and Trial Court are "conclusive on appeal,
except where the finding is on an issue not appropriate for referral, where it is based on an error of
law or a mixed question of fact and law, or where the factual finding is not based on material
evidence." Pendola v. Butler, No. M2002-00131-COA-R3-CV, 2003 Tenn. App. LEXIS 535, at
**11-12 (Tenn. Ct. App. July 31, 2003), no appl. perm. appeal filed (quoting Aussenberg v. Kramer,
944 S.W.2d 367, 370 (Tenn. Ct. App. 1996)). See also Tenn. Code Ann. § 27-1-113 (2000). If the
record contains any material evidence to support the concurrent findings of fact by the Special
Master and the Trial Court, these findings of fact must be affirmed. Pendola, 2003 Tenn. App.
LEXIS 535, at * 12.
We first will address King’s argument that the Trial Court erred when it held him
liable under the doctrine of respondeat superior for the embezzlement committed by Gibbs. In
Johnson v. LeBonheur Children’s Medical Center, 74 S.W.3d 338 (Tenn. 2002), our Supreme Court
discussed the doctrine of respondeat superior as follows:
When an agency relationship exists, the principal may be bound by
the acts of the agent performed on the principal's behalf and within
the actual or apparent scope of the agency. White, 33 S.W.3d at 724.
In Tennessee, the doctrine of respondeat superior permits the
master/principal to be held liable for the negligent actions of his
servant/agent. Smith v. Henson, 214 Tenn. 541, 551, 381 S.W.2d
892, 897 (1964). To hold the master/principal vicariously liable, "it
is enough that the servant or agent was acting in the business of his
3
King filed a motion for summary judgment and statement of undisputed material facts approximately one
mon th after the trial was completed. The Special Master’s Repo rt was issue d approximately five weeks later. P laintiffs
responded to the motion for summary judgment relying heavily on the Special Master’s Report. When the T rial Court
confirmed the Sp ecial M aster’s Report, it also denied King’s motion for summary judgment. King does not appeal the
denial of this mo tion.
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superior." White, 33 S.W.3d at 725 (quoting Kinnard v. Rock City
Const. Co., 39 Tenn. App. 547, 551, 286 S.W.2d 352, 354 (1955)).
Johnson, 74 S.W.3d at 343.
King argues that Gibbs was acting outside the scope of her employment when she
embezzled the money and, therefore, respondeat superior does not apply. Plaintiffs disagree for
several reasons. First, relying on King’s testimony that he had no direct knowledge that Gibbs had
embezzled from the Company, Plaintiffs claim the proof does not support a conclusion that Gibbs
actually stole the money or was acting outside the scope of her employment. Plaintiffs further argue
that even if Gibbs did steal the money, King still is responsible under respondeat superior because
King gave Gibbs express authority to handle the cash deposits.
Gibbs is not a party to this lawsuit and was not called as a witness at trial and,
therefore, we do not have the benefit of her version of what happened to the missing funds, assuming
she has an explanation. Furthermore, while King testified that he brought criminal charges against
Gibbs for embezzling from Elite, we do not know the outcome of those proceedings. Gibbs may
have been found not-guilty, assuming the matter went to trial. Even if Gibbs was found guilty of
embezzling from Elite, that would not ipso facto mean she embezzled from the Company. With all
these unanswered questions, we do not believe the present litigation is the proper forum for a judicial
determination of whether Gibbs stole the missing funds. Having said that, it seems clear to us that
the Trial Court never found that Gibbs embezzled the missing funds or that King was vicariously
liable for her conduct. Instead, the Trial Court found that “$26,209.00 in company cash [was]
missing and that such funds [were] missing as a direct result of Mr. King’s negligence or breach of
fiduciary duties to the LLC.” This is not a finding that King is vicariously liable for Gibbs’ conduct,
but rather a finding of liability based on King’s own independent negligence. As found by the
Special Master and confirmed by the Trial Court, “King was the recipient of the daily sales totals
showing the amount of cash sales as well as the bank accounts and was the sole member of the LLC
with any ability to control the safekeeping of cash and to verify its proper deposit when the bank
statements were received or through deposit receipts.” The record certainly contains material
evidence to support these concurrent findings of fact. Accordingly, we conclude King’s first issue
on appeal is without merit because the Trial Court found King liable not under the doctrine of
respondeat superior for Gibbs’ alleged embezzlement, but rather because of his own independent
negligence and breach of fiduciary duty.
King’s second issue is whether the Trial Court erred when it held him liable “as a
result of negligence for embezzlement committed by” Gibbs. We again emphasize there was no
finding by the Trial Court that Gibbs actually embezzled the money. What the Trial Court did
conclude was that King had fiduciary duties to the LLC and Plaintiffs because he was the Company’s
Chief Manager. King also was the member entrusted with maintenance of the company books and
accounts, as well as the daily cash funds from the operation of the business. King delegated all of
these responsibilities to Gibbs. The finding of liability on the part of King resulted from the Trial
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Court’s conclusion that he “was negligent in entrusting these funds to another party and then failing
to properly review records to verify the entrusted funds were actually deposited.”
Under certain circumstances, a manager of an LLC is permitted to delegate his or her
duties. Tenn. Code Ann. § 48-241-110 provides as follows:
Delegation. – Unless prohibited by the articles, the operating
agreement, or by a resolution:
(1) Adopted by the affirmative vote of the governors present at a
duly held meeting of a board-managed liability company; or
(2) Approved by the affirmative vote of a majority of the
membership interest entitled to vote at a duly held meeting of the
members of a member-managed LLC;
a manager elected or appointed may, without further approval,
delegate some or all of the duties and powers of an office to other
persons. A manager who delegates the duties or powers of an office
remains subject to the standard of conduct for a manager with
respect to the discharge of all duties and powers so delegated.
(emphasis added).
The standards governing the conduct of a manager of an LLC are addressed in the
next statutory section, Tenn. Code Ann. § 48-241-111, which provides in relevant part as follows:
Standard of conduct. – (a) GENERAL. A manager shall discharge
the duties of an office in good faith, in a manner the manager
reasonably believes to be in the best interests of the LLC, and with
the care an ordinarily prudent person in a like position would exercise
under similar circumstances.…
(b) RELIANCE PERMITTED. In discharging such duties, a
manager is entitled to rely on information, opinions, reports, or
statements, including financial statements and other financial data, if
prepared or presented by:
***
(2) Legal counsel, public accountants, or other persons as to
matters the officer reasonably believes are within the person's
professional or expert competence.
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(c) WHERE RELIANCE NOT PERMITTED. A manager is not
acting in good faith who has knowledge concerning the matter in
question that makes reliance otherwise permitted by subsection (b)
unwarranted.
(d) LIMITATION ON LIABILITY. A manager is not liable for any
action taken as a manager, or any failure to take any action, if the
manager performed the duties of the office in compliance with this
section.
(e) EFFECT OF DELEGATION. A person exercising the principal
functions of an office or to whom some or all of the duties and
powers of an office are delegated pursuant to § 48-241-110 is
considered a manager for purposes of this section.
King argues that his delegation of responsibilities to Gibbs, including the
responsibilities for handling cash and maintaining the Company books and accounts, was done in
good faith. King further argues that pursuant to Tenn. Code Ann. § 48-241-111(b)(2), he was
entitled to rely on the financial accounts maintained by Gibbs, and, therefore, he cannot be held
liable under Tenn. Code Ann. § 48-241-111(d).
For present purposes only, we will assume that King was entitled to rely on financial
data prepared by Gibbs and § 48-241-111(b)(2) applies.4 The issue then becomes whether an LLC’s
Chief Manager can delegate in a wholesale manner all responsibility for handling cash and preparing
financial reports, etc., and never have any duty to inspect the reports or otherwise take any action to
verify their accuracy. In his brief on appeal, King asserts that he has had no training as a bookkeeper
or accountant and “[t]o expect [him] to discern the existence of a problem is unreasonable and not
supported by any evidence.” We disagree for two reasons. First, whether King had the expertise to
discern a problem cannot be answered because he never tried. Second, it is undisputed that at the
end of each day, King knew exactly how much cash had been taken in and should have been
deposited. All he had to do was, from time to time, check the deposit receipts to verify that the
money had been deposited. This is as basic as it gets with a bank account and hardly requires any
specialized training or expertise.
We do not believe § 48-241-111(b)(2) authorizes a Chief Manager, who is responsible
for maintaining the company books, accounts, and handling cash to completely delegate all of this
responsibility and never take any steps to verify that the person to whom this significant authority
has been delegated is doing their job correctly. We also note, not surprisingly, that King failed to
produce any proof that either depositing funds into a bank account or looking at a deposit slip to see
4
King does not point us to any testimony or other proof in the record setting forth Gibbs’ professional or expert
competence. Because King hired her and gave her the title of “bookkeeper” hardly would seem sufficient. Without such
testimony or p roof, we cannot determine whe ther K ing’s reliance on Gibbs was reaso nable.
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if the amount given to be deposited equaled the amount actually deposited require any particular
“professional or expert competence” as required by § 48-241-111(b)(2). Therefore, we hold there
is material evidence to support the Trial Court’s conclusion that King was negligent and violated his
fiduciary obligations to the LLC and Plaintiffs. We affirm the judgment of the Trial Court on this
issue and need not decide the issue of whether the Trial Court properly found King had negligently
entrusted the cash to Gibbs.
Plaintiffs argue that the Trial Court erred by not holding King responsible for all of
their expert witness fees, attorney fees, and all of the costs, including the fee of the Special Master.
Tenn. Code Ann. § 48-245-903 discusses the procedure for dissolution of an LLC. Subsection (d)
of that statutory section provides as follows:
BOND AND EXPENSES. In a proceeding for dissolution by a
member, the petitioner shall execute and file in the proceeding a
bond, with sufficient surety, to cover the defendant's probable costs,
including reasonable attorney fees, in defending the petition. The
court shall determine the amount of the bond and may award to any
party its reasonable costs, including attorney fees, if it finds for such
party in the proceeding.
Tenn. Code Ann. § 48-245-903(d).
The Trial Court further noted that an award of attorney fees and other expenses also
was authorized by Tenn. Code Ann. § 48-230-105 which provides:
Equitable remedies. – If an LLC or a manager or governor of the
LLC violates a provision of chapters 201-248 of this title, a court in
this state may, in an action brought by a member of the LLC, grant
any equitable relief it considers just and reasonable in the
circumstances and award expenses, including counsel fees and
disbursements, to the member.
Because an award of attorney fees, etc., under these statutes is discretionary, we
review the Trial Court’s judgment on this issue under the abuse of discretion standard. As set forth
previously, the Trial Court found King had arbitrarily and improperly billed the Company $15.00
per hour for work performed by Elite employees. King also refused to turn over some of Plaintiffs’
personal property leaving Plaintiffs “little choice but to bring this action for dissolution and
liquidation.” The Trial Court further stated that King’s control over the accounting and financial
records, self-dealing, and failure to keep proper records contributed substantially to the cost of the
litigation. On top of all of this, we have affirmed the Trial Court’s finding that King was negligent
and breached his fiduciary obligations to the LLC and Plaintiffs. In light of these findings, we
believe the Trial Court erred when it concluded King should be responsible only for one-half of
Elkins’ expert witness fees and one-half of Plaintiffs’ attorney fees incurred while assisting Elkins.
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We modify the Judgment to hold King responsible for the entire $14,810 expert witness fee as well
as the entire $6,000 in attorney fees attributable to assistance provided to Elkins. We also modify
the Judgment to hold King responsible for all costs, including the fees of the Special Master. With
regard to Plaintiffs’ remaining attorney fees incurred prior to this appeal, since other issues were
presented at trial as to which King had some success, we do not believe the Trial Court erred in
holding Plaintiffs responsible for the remainder of their attorney fees. In all other respects, the
judgment of the Trial Court is affirmed. We also believe it appropriate under the statute to exercise
our discretion to award Plaintiffs their expenses, including counsel fees, incurred in this appeal with
this amount to be determined by the Trial Court on remand.
Conclusion
The judgment of the Trial Court is affirmed as modified, and this cause is remanded
to the Trial Court for further proceedings consistent with this Opinion and for collection of the costs
below. Costs on appeal are assessed against the Appellant D. Scott King and his surety.
___________________________________
D. MICHAEL SWINEY, JUDGE
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