In the
United States Court of Appeals
For the Seventh Circuit
No. 09-3723
F USION C APITAL F UND II, LLC,
Plaintiff-Appellee,
v.
R ICHARD H AM and C ARLA A UFDENKAMP,
Defendants-Appellants.
Appeal from the United States District Court
for the Northern District of Illinois, Eastern Division.
No. 07 C 4543—Milton I. Shadur, Judge.
A RGUED JUNE 2, 2010—D ECIDED A UGUST 2, 2010
Before E ASTERBROOK, Chief Judge, and P OSNER and
K ANNE, Circuit Judges.
E ASTERBROOK, Chief Judge. Millenium Holding Group,
Inc., has shares that were registered under the Securities
Act of 1933 and are traded over the counter. It also has
few assets and is insolvent. In 2004 its assets came to
$60,000 and its liabilities to $1.5 million; things have not
improved since. Millenium does not have any ongoing
business, though it does have a professionally designed
web site (http://www.mnhginc.com/millenium.html).
2 No. 09-3723
In July 2004 Millenium and Sutura, Inc., a firm that
does have a business (it makes and sells medical devices),
signed a merger agreement. What Sutura, a privately
held firm, saw in Millenium was its tradable stock. Sutura
wanted to go public without all the fuss and bother (and
expense) of a registration statement and the release of
audited financials. The proposed transaction—a reverse
merger in which an operating company (Sutura)
merges into a shell (Millenium), which then changes its
name to match the operating company’s—is known to
securities lawyers as “going public by the back door.”
The SEC treats these transactions with disdain, but they
are not illegal. (We need not get into the complex
issues that may arise when a shell goes public as part of
a plan to facilitate the later distribution of another com-
pany’s stock. No one contends that there was any
legal problem with the transaction between Sutura and
Millenium, whose stock had traded for more than five
years before the merger was arranged.)
Sutura wanted new equity capital, and Millenium
promised to sell enough stock to raise at least $15 million.
Fusion Capital Fund II agreed to be the financial an-
gel. Fusion and Millenium signed a contract by which
Fusion promised to invest $15 million, subject to certain
conditions—including consummation of the merger.
When the merger had not closed by October 31, 2004,
Fusion wrote to Millenium that the money would not be
forthcoming. Millenium could not find a replacement
source of capital, and Sutura then terminated the merger
agreement. (Sutura eventually went public by merging
No. 09-3723 3
with Technology Visions Group, Inc., another shell
with tradable shares.)
Millenium sued Fusion in Nevada, contending that
Fusion had tortiously interfered with the merger agree-
ment. (Millenium is incorporated in Nevada and has
its principal place of “business” there, which accounts
for the choice of venue.) After two years of litigation, the
court ruled in Fusion’s favor. The contract between
Fusion and Millenium requires it to pay Fusion’s legal
fees, and Fusion filed suit in a federal court in Illinois
seeking a judgment under that clause. The parties have
agreed that Fusion did not need to raise that issue in the
Nevada proceedings. The litigation comes within the
diversity jurisdiction. (Fusion is a limited liability com-
pany; all of its members are citizens of Illinois.)
A claim against Millenium isn’t worth the cost of
mailing it to the courthouse, however, because Millenium
is so far under water. Fusion needs a solvent obligor. It
chose Richard Ham and Carla Aufdenkamp, who own
a majority of Millenium’s stock and are its sole board
members and managers. (Ham and Aufdenkamp, citizens
of Nevada who are married, call themselves “the Hams”;
we do likewise.) Fusion sued the Hams as well as
Millenium. The district court held that Millenium
owes Fusion about $1.2 million for legal outlays, 590
F. Supp. 2d 1055 (N.D. Ill. 2008), and added that the
Hams are personally responsible for Millenium’s debt to
Fusion. 2009 U.S. Dist. L EXIS 65002 (N.D. Ill. July 28, 2009).
The Hams appeal; Millenium does not.
Because Millenium is incorporated in Nevada, that
state’s law determines whether its investors are liable
4 No. 09-3723
for its debts. (This is an aspect of the internal-affairs
doctrine, a choice-of-law rule to which Illinois adheres.
See Libco Corp. v. Roland, 99 Ill. App. 3d 1140, 1144,
426 N.E.2d 309, 312 (1981).) The contract also contains
a choice-of-law clause specifying Nevada law for issues
concerning Millenium and its stockholders. Nevada has
a law for this subject:
1. Except as otherwise provided by specific
statute, no stockholder, director or officer of a
corporation is individually liable for a debt or
liability of the corporation, unless the stock-
holder, director or officer acts as the alter ego of
the corporation.
2. A stockholder, director or officer acts as the
alter ego of a corporation if:
(a) The corporation is influenced and governed
by the stockholder, director or officer;
(b) There is such unity of interest and owner-
ship that the corporation and the stockholder,
director or officer are inseparable from each
other; and
(c) Adherence to the corporate fiction of a
separate entity would sanction fraud or pro-
mote a manifest injustice.
Nev. Rev. Stat. §78.747. Earlier decisions had devised a
similar approach as a matter of common law. See, e.g.,
Ecklund v. Nevada Wholesale Lumber Co., 93 Nev. 196, 197,
562 P.2d 479, 479–80 (1977). These decisions all speak of
“fraud or injustice” as the third element; the statute,
enacted in 2001, refers to “manifest injustice” rather than
No. 09-3723 5
simple injustice. Nevada’s judiciary has not decided
whether there is a difference; we needn’t do so either.
The district court concluded that the Hams influence
and govern Millenium; they concede this point on ap-
peal. The district court also found that there is a unity
of interest between the Hams and Millenium, making
them inseparable as a practical matter, and that finding
is amply supported. Millenium has scant existence
apart from the Hams. It does not have significant assets,
does not observe corporate formalities (its bylaws
require at least three directors, but the Hams are the
only members of its board); does not have audited
financial statements; and does not file tax returns.
Millenium’s corporate headquarters is the Hams’
residence (which they “rent” from Millenium, in
exchange for forgiveness of “salaries” that they have not
earned, after advancing the funds that Millenium uses
to lease the house from a third party).
As for the third element: there isn’t any fraud, because
Fusion knew that Millenium is a husk without any corn
inside. See Sea-Land Services, Inc. v. Pepper Source, 941
F.2d 519 (7th Cir. 1991) (Illinois law). And this knowl-
edge also makes it hard to see how limiting the Hams’
liability would produce an “injustice,” manifest or other-
wise. Fusion was not deceived, hornswoggled, misled,
duped, hoodwinked, bamboozled, or snookered. The
“injustice” component comes to the fore when a
creditor’s claim is based on tort law, because victims
rarely understand in advance that they are dealing
with shell corporations (if indeed they understand
6 No. 09-3723
before the injury that they are dealing with anyone at all).
It may be important for some contract claims too, if the
corporation leads the other party to think that it is nor-
mally capitalized and will be able to satisfy its obliga-
tions. See, e.g., Carson Meadows, Inc. v. Pease, 91 Nev. 187,
533 P.2d 458 (1975). But Fusion not only understood
that Millenium was a shell but also knew that its shell
status was exactly why it was attractive to Sutura, and
why Millenium couldn’t put up any of the $15 million.
Millenium’s thin capitalization was both the reason
why this deal had been proposed and the dominant
feature in the deal’s structure. Fusion went in with eyes
open.
When Millenium signed a contract promising to reim-
burse Fusion’s legal expenses if litigation ensued, Fusion
knew beyond doubt that Millenium would be unable to
keep that promise—unless the merger closed. Someone
who wants to protect himself against the possibility that
a thinly capitalized corporation will be unable to pay its
debts asks the investors for a guaranty. It is feckless to
do business with a corporation such as Millenium
without one. Yet Fusion not only did not get a guaranty
but also did not even ask for one. Its brief says that it
didn’t ask because it was sure the merger would close,
so no additional source of funds would be required. Yet
the point of a guaranty is to provide for payment if a
deal goes sour. A business such as Fusion that neglects
to arrange for payment if the worst comes to pass is not
well positioned to seek judicial aid. What Fusion wants
is an approach that gives a corporation’s contracting
partners the legal equivalent of a guaranty whether
No. 09-3723 7
the investors agree to that arrangement or not. This
would reduce the options available for business transac-
tions and make everyone worse off.
A rule such as Nev. Rev. Stat. §78.747 makes investors
personally liable only in the sort of situations in
which private negotiations fail—when fraud spoils the
voluntariness of the choice, when the investors make net
withdrawals from the corporation after the contract has
been formed and thus frustrate its ability to keep its
promises (a fraudulent conveyance if the corporation is
insolvent, or the transfer makes it so), or when there
were no negotiations (as with tort creditors) and
permitting investors to insulate themselves from those
claims would be unjust.
We do not know of any statute or decision, in any
American jurisdiction, holding that investors in a
thinly capitalized corporation are personally liable for
its debts to a contracting partner when that partner,
with knowledge of the corporation’s insolvency, signs
without getting a guaranty from the investors. The
closest Nevada has come is Mosa v. Wilson-Bates Furniture
Co., 94 Nev. 521, 583 P.2d 453 (1978), which held that
an investor who had “assured” the creditor that the
investor would pay, if the corporation could not, must
keep that promise. It is unclear whether the state court
treated the “assurance” as a contract equivalent to a
guaranty, or concluded that the investor committed
fraud by inducing unwarranted reliance on an empty
assurance. (Making a promise that one plans to
ignore is fraud. See The Wharf (Holdings) Ltd. v. United
8 No. 09-3723
International Holdings, Inc., 532 U.S. 588 (2001).) But
whichever way Mosa is understood, it is some distance
from a situation such as ours, in which the investors did
not vow in advance to make good the corporation’s debts.
Meanwhile, lots of decisions hold that people who
knowingly deal with a corporation without getting a
guaranty can’t turn to investors on an alter-ego or veil-
piercing theory. For a few of these decisions from
Nevada, see Paul Steelman, Ltd. v. Omni Realty Partners,
110 Nev. 1223, 1226, 885 P.2d 549, 551 (1994); Lipshie v.
Tracy Investment Co., 93 Nev. 370, 377–79, 566 P.2d 819,
823–24 (1977); O’Connell v. Cox, 78 Nev. 40, 44, 368 P.2d 761,
763 (1962). Ecklund, which we cited earlier, is another
decision in this line. See also Baer v. Amos J. Walker, Inc., 85
Nev. 219, 221, 452 P.2d 916, 917 (1969) (refusing to hold
corporation liable as alter ego of its manager because
“[t]here is no proof that the credit of the corporation
was relied upon by the [creditor]” when it lent money
to the manager). The leading decision is Hanson v.
Bradley, 298 Mass. 371, 10 N.E.2d 259 (1937), which as far
as we can see has been followed by every state court
that has addressed the subject.
The district court took umbrage at the Hams’ financial
maneuverings. They provide money to Millenium, which
uses the cash to lease a house for the Hams’ use. They
put large “salaries” for themselves on the corporate
books, then set off their rental obligations on the house
against part of those salaries. Their salaries vastly exceed
the value of the rent plus any services they provide to
Millenium, which therefore sinks ever further into debt.
No. 09-3723 9
Since the merger fell through, they have not supplied
Fusion with financial statements (leading Fusion to de-
scribe Millenium as a black box). They caused Millenium
to “agree” to pay substantial rates of interest on the
money they “loaned” to it (principally the unpaid “sala-
ries”); this means even more red ink. But Fusion, which
knew from the outset that Millenium was insolvent
and had debts to its insiders, was not injured by any of
these things. It is a matter of indifference to Fusion
whether Millenium’s paper losses are $1 million or
$1 billion; it knew from the get-go that Millenium
could not pay its debts, so the precise details of its
balance sheet can’t produce an “injustice” for the pur-
pose of Nevada law. See generally Stephen B. Presser,
Piercing the Corporate Veil §2:29 (2010 ed.) (discussing the
law of investor liability in Nevada).
The district court relied principally on Lorenz v. Beltio,
Ltd., 114 Nev. 795, 963 P.2d 488 (1998), and LFC Marketing
Group, Inc. v. Loomis, 116 Nev. 896, 8 P.3d 841 (2000).
Neither of these decisions supports Fusion’s position.
Lorenz arose from a long-term lease. By the time
27 years had passed, the lessee had transferred its
interest several times, and the latest assignee had formed
a corporation to occupy the premises. That thinly capital-
ized corporation refused to pay or vacate; the Supreme
Court of Nevada concluded that the corporation’s con-
trolling investors must pay the rent. It does not help
Fusion because the lessor never dealt with the newly
formed corporation. Similarly, if Millenium had been
solvent when Fusion signed its contract, and the Hams
had siphoned off Millenium’s assets before beginning
10 No. 09-3723
the Nevada litigation, Fusion would have a solid claim
to relief. But that’s not what happened; Millenium has
been insolvent from the start. As for LFC: Lange, a
debtor, transferred assets to LFC, a corporation in
which Lange’s brother held all the stock. Lange’s
creditor could not satisfy the debt by seizing his stock
in LFC, for Lange had none. The court held that LFC
could be ordered to transfer the assets to Lange’s credi-
tor. That’s a form of recovery for a fraudulent con-
veyance, and we’ve already explained why nothing of
the kind occurred here.
Fusion hints at a different kind of “injustice”: Millenium
took the offensive in the Nevada suit. If it had pre-
vailed, the Hams would have pocketed 100% of the
money; now that Millenium has lost, the Hams say
they owe nothing. But this asymmetry is common in
corporate transactions. Equity owners want the corpora-
tion to take risks, because if the gamble pays off they
reap the rewards, and if it doesn’t they just walk away, and
the losses will fall elsewhere (on debt investors or out-
siders such as Fusion). Fusion wants to be protected
from this asymmetry, but to get this protection Fusion
should have negotiated for a guaranty and refused to
deal if the Hams would not give one. Far better to en-
courage voluntary contracts than to warp the law of
investors’ liability, after the fact, to protect commercial
entities that failed to protect themselves.
R EVERSED
8-2-10