Double vision: Analyzing alter ego liability


Abstract: Financial experts play a critical role in alter ego litigation, examining a wide range of factors to analyze whether a company is a shell or a legitimately separate entity. This article explains how the expert looks at what’s going on inside the companies to determine whether the ownership structure serves legitimate business purposes or is merely a device for avoiding corporate responsibility.

Double vision: Analyzing alter ego liability

With corporate litigation surging and many companies suffering financially, an increasing number of plaintiffs are lodging claims against corporate defendants’ “alter egos.” Financial experts play a critical role in alter ego litigation, helping both plaintiffs and defendants build their cases.

Picking deep pockets

Alter ego issues typically come up in cases where the original defendant lacks assets, net worth or a financial structure but is effectively owned by another entity — its alter ego. The parent company is usually solvent with substantial net worth, or has owners who are well compensated and possess substantial wealth.

Financial experts work with both plaintiffs and defendants in these cases, attempting to reach into or protect the alter ego’s deep pockets.

Looking for clues

Financial experts examine a wide range of factors to analyze whether the original defendant is merely a shell of the parent company or to prove that it is a legitimately separate entity. The existence of multiple entities by itself isn’t enough. The expert must look at what’s going on inside those companies to determine whether the ownership structure serves legitimate business purposes or is merely a device for avoiding corporate responsibility.

No single factor settles the alter ego issue, but one pivotal element is whether each company maintains its own corporate structure and follows proper corporate policies and procedures. An alter ego relationship may be indicated when the two companies:

  • • Operate out of the same location,
  • • Use the same letterhead,
  • • Have similar names,
  • • Have the same officers or directors,
  • • Use the same attorneys or accountants, or
  • • Conduct the same business activity.

Related companies can legitimately engage in the same business activity without establishing alter ego liability as long as they distinguish themselves from each other and maintain autonomy.

Other questions financial experts ask in evaluating alter ego issues include:

  • • Who incorporated the defendant company and when?
  • • Was the defendant company undercapitalized?
  • • Did the original defendant company act in a stand-alone capacity?
  • • Did the companies maintain separate corporate minutes?
  • • Was the parent company pulling all of the cash out of its subsidiaries and into a consolidated bank account?
  • • Did the parent dictate the subsidiary’s policies and procedures?
  • • Were there substantial related-party transactions?

With related-party transactions, the issue turns on whether a transaction represents legitimate business or merely offers the parent a mechanism for diverting money from the defendant company to render it insolvent and judgment-proof. Related-party transactions are generally characterized by special terms or conditions that indicate they weren’t conducted at arm’s length.

Business expertise a plus

The alter ego determination is ultimately based on the totality of the circumstances, and each case is different. Financial experts bring valuable ingredients to the table in these cases. Every day they examine businesses, transactions and corporate structures, giving them the ability to analyze and explain the relationships between businesses and their owners.