IN THE COURT OF APPEALS OF TENNESSEE

AT NASHVILLE

January 5, 2005 Session

ARC LIFEMED, INC., ET AL. v. AMC-TENNESSEE, INC.

 Appeal from the Chancery Court for Davidson County

No. 01-3163-II Carol McCoy, Chancellor

No. M2003-02640-COA-R3-CV - Filed August 2, 2005

This is an action for breach of contract by a limited liability company against its managing member.

The other members of the LLC joined as plaintiffs seeking recovery for breach of fiduciary duty and

negligent misrepresentation. The managing member counterclaimed against the LLC for breach of

contract and, in the alternative, sought recovery in quantum meruit for unjust enrichment. The trial

court held the managing member to be liable to all plaintiffs on all issues and dismissed the

counterclaim. The action of the trial court is reversed as to breach of fiduciary duty and negligent

misrepresentation. The judgment of the trial court is affirmed as to breach of contract and as to

dismissal of the counterclaim. The findings of the trial court as to damages payable to the LLC is

affirmed as is the distribution of the assets ofthe LLC. Prejudgment interest is disallowed, and costs

are assessed to the managing member.

Tenn. R. App. P. 3 Appeal as of Right; Judgment of the Chancery Court Affirmed in part, 

Reversed in part and Remanded

WILLIAM B.CAIN, J., delivered the opinion of the court, in which WILLIAM C.KOCH,JR., P.J., M.S.,

and FRANK G. CLEMENT, JR., J., joined.

Barbara Hawley Smith, Nashville, Tennessee, Robert P. Johnson, Pro Hac Vice, Cincinnati, Ohio,

for the appellant, AMC-Tennessee, Inc.

Charles W. Cook, III, James E. Gaylord, Nashville, Tennessee, for the appellees, ARC LifeMed, Inc.,

LifeTrust America. Inc. and LifeMed, LLC.

OPINION

This case involves the supply of pharmaceutical products to persons residing in assisted

living facilities and the collection of payments for such products. ARC Lifemed, Inc. (“ARC”) is

a large corporation with many years of experience in the nursing home business. LifeTrust America,

Inc. is a corporation formed in 1996 during the infancy of assisted living facilities (“ALF”)

constructed to house residents who are in need of assistance but are not physically or mentally
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disabled to the point that they require nursing home care. AMC-Tennessee, Inc. (“AMC-TN”) is a

sizeable retail pharmacy.

I. HISTORY OF LIFEMED, LLC.

ARC was a long-standing leader in the construction and operation of nursing home facilities,

principally in the eastern and southeastern United States, prior to the advent of ALF in the mid

1990s. Desiring to enter the ALF field, ARC, in 1997, embarked upon a plan to develop 40 assisted

living facilities. By the fall of 1998, ARC had 20 such facilities in operation. LifeTrust, Inc.,

organized in 1996, had no prior experience in the ALF market but, by the end of 1998, was operating

30 such facilities. LifeTrust began exploring ways to develop revenue from sources other than the

typical provision of room and board. It recognized that the pharmacy business might provide

additional income. LifeTrust began discussing the formation of a joint venture with “The

Pharmacy,” an institutional pharmacy serving skilled nursing facilities and assisted living facilities

primarily in Tennessee. “The Pharmacy,” owned and managed by Buddy Stephens, had a good

reputation and had profitably concentrated its business in the long-term care market. LifeTrust

learned that “The Pharmacy” would soon be acquired by American Medserve Corporation.

Following this acquisition, “The Pharmacy” was named AMC-TN. Later, American Medserve

would itself be acquired by Omnicare, Inc., the leading institutional pharmacy in the nation, but

AMC-TN would retain its separate identity.

During negotiations between LifeTrust and AMC-TN, the concept of “the pharmacy within

a pharmacy” (“PIP”) was discussed under which a joint venture would operate on AMC-TN’s

physical premises to supply pharmaceutical service and products to LifeTrust and its ALFs. The PIP

arrangement would allow the joint venture to share the overhead of an established provider and

utilize those services without having to overcapitalize the project. LifeTrust and AMC-TN

formalized their joint venture with the creation of LifeMed, LLC in 1997. LifeTrust contributed

$200,000 in exchange for a 40% ownership in the joint venture. AMC-TN contributed $300,000 for

the remaining 60% ownership interest. A Limited Liability Company Agreement established a board

of managers for LifeMed, LLC.

In 1997, ARC learned of the LifeMed, LLC joint venture while searching for ways to increase

its revenues. Unlike LifeTrust, ARC had some prior experience with the pharmacy business, having

operated an institutional pharmacy in Richmond, Virginia. ARC learned that the LifeMed joint

venture had been operating at a breakeven point financially. In 1998, ARC contributed $300,000

to the venture with AMC-TN receiving a $150,000 distribution of capital from the joint venture at

such time. An Amended and Restated LLC Agreement executed by the three parties allocated

ownership equally among the members.

Two agreements governed the joint venture following the admission of ARC as a joint

venturer. These were the Amended and Restated Limited Liability Company Agreement (the

Operating Agreement) dated October 29, 1998, and the Management Agreement previously executed
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on June 11, 1997,between LifeTrust, Inc. and AMC-TN under which AMC-TN was to manage the

joint venture. This agreement remained effective after the Amended and Restated LLC Agreement.

By the Amended and Restated LLC Agreement, a one-third ownership interest was assigned

to each member with each member appointing two representatives to the Board of Directors of

LifeMed. This Agreement provided that no portion of the capital funds of LifeMed could be

withdrawn at any time without the approval of all members and that upon termination, dissolution,

and liquidation of LifeMed, each member’s capital account was to be distributed. Each member

could withdraw from LifeMed at any time and receive a return of its positive capital account balance.

According to the Management Agreement, AMC-TN was engaged to manage LifeMed’s

business. In return, AMC-TN was entitled to a management fee which it would earn by performing

certain duties for the Owner, LifeMed. Among these duties, the Agreement prescribed the following:

1. Retention of Manager. Owner hereby retains Manager to provide

management services in connection with the Pharmacy under the terms and

conditions set forth herein. The Operating Agreement describes various additional

duties for which Manager is also responsible including, without limitation, Budgets

(Operating Agreement, Section 4.4) and various responsibilities for books, records

and accounting matters (Operating Agreement, Article 5). The Owner and Manager

intend that the management fee described in this Agreement shall be full and

complete compensation for the Manager for the provision of its services described

in this Agreement as well as the provision ofthose additional services required of the

Manager pursuant to the Operating Agreement.

2. Responsibilities of Manager. During the Term, as defined below,

Manager shall provide the following management, consulting and advisory services

to Owner in connection with the operation of the Pharmacy, and shall devote such

time, expertise, and resources as may be appropriate to properly manage the

Pharmacy as provided herein:

. . . 

B. Bank Accounts; Payment of Business Expenses. Manager

shall direct the opening and closing of bank accounts in the name of Owner for the

benefit and account of Owner in a bank of Manager’s selection, which shall be

approved by the Board of Managers, and shall direct the deposit therein of all money

received in the course of the operation of the Pharmacy. Manager shall cause all

expenses incurred in the operation of the Pharmacy, including, but not limited to,

payment of Manager’s fees and expenses hereunder, debt services, payroll, benefits

and related employee expenses, to be paid, at the Owner’s expense, by check drawn

on such accounts and signed by such party or parties as may be designated by

Manager and approved by the Board of Managers.
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. . . 

H. Bookkeeping and Accounting; Taxes. Manager shall direct

the bookkeeping and accounting procedures necessary for the operation of the

Pharmacy and the preparation of proper financial statements and records.

Bookkeeping and accounting procedures and systems shall be in accordance with the

operating capital and cash programs developed by Manager, which programs shall

conform to generally accepted accounting principles. Managers shall maintain the

general ledger for the Pharmacy, cause payment of the accounts payable pursuant to

Section 2.B. and prepare periodic financial statements as required byArticle V of the

Operating Agreement. Under Manager’s direction, Owner shall maintain the

accounts receivable for the Pharmacy, and receive, deposit and report on cash

receipts on forms provided by Manager. Subject to the provisions of Section 5.7 of

the Operating Agreement, Manager shall prepare and file all tax returns with respect

to the Pharmacy.

3. Responsibilities of Owner. During the Term, as defined below,

Owner’s responsibilities shall include, but not be limited to, the following:

A. Operational Policies. The Board of Managers of the Owner

shall develop and implement all operational policies and procedures necessary to

establish and maintain the standard of pharmacy services appropriate for the nature

of the Pharmacy.

B. Charges. The Board of Managers of the Owner shall establish

the schedules of recommended charges for pharmaceutical products and services

provided by the Pharmacy.

. . . 

5. Management Fees. For services performed hereunder, Owner shall

pay to Manager a management fee equal to Manager’s actual costs incurred in

providing the services to be performed by Manager hereunder, plus ten percent

(10%). As such costs of Manager will only be determined semi-annually (as

hereinafter provided), until such costs have been determined, Owner shall pay

Manager on an interim basis an interim fee of Four Dollars ($4.00) for each

prescription processed and filled by Owner. Owner shall pay such interim fees

monthly, in arrears, no later than the last day of the month following the month

during which such management fees were earned. Manager shall be entitled to cause

all such amounts to be disbursed to itself out of the accounts provided for in Section

2.B. hereof. Within forty-five (45) days after the completion of each six-month

period of July 1-December 31 and January 1-June 30 hereunder (provided, that the

first period shall be June 11-December 31), Manager shall deliver to Owner and
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LifeTrust an itemized statement of Manager’s direct and indirect costs of providing

the services to be performed by Manager hereunder. Manager shall cooperate with

LifeTrust and Owner in answering any questions and addressing any objections

relative to Manager’s costs as set forth on such itemized statement, and shall permit

Owner and LifeTrust to audit the books and records of Manager relating to such

costs. Owner and LifeTrust hereby agree not to disclose any information provided

by Manager which constitutes confidential business information of Manager, and not

to use such information other than for purposes of determining the fees to be paid to

Manager hereunder, in each case except as otherwise required by applicable law or

court process. Based upon Manager’s actual costs of providing the services to be

performed by Manager hereunder (costs plus 10%) against the interim fees previously

paid to Manager on an interim basis (initially, $4.00 per prescription), and Manager

or Owner, as the case may be, shall pay any overpayment or deficiency of the interim

payments as compared to the cost-based management fee to be paid hereunder, as

applicable. Based upon such itemized costs, Owner and Manager (with the consent

ofLifeTrust, which shall not be unreasonablywithheld, delayed or conditioned) shall

establish a new interim fee to be paid hereunder for the next semi-annual period,

which shall approximate as closely as practicable the projected costs of Manager for

the next semi-annual period, plus ten percent (10%). Such reconciliation of costs to

interim fees and re-setting of the interim fees to be paid shall be made after each

semi-annual period.

. . .

7. No Guaranty of Profitability. Owner acknowledges that Manager

does not guarantee that the Pharmacy will be profitable.

II. LIFEMED, LLC IN OPERATION

Prior to the beginning of the LifeMed, LLC joint venture, Buddy Stephens, The Pharmacy,

American MedServiceCorporation, and AMC-TN had extensive experience in the nursing home

pharmacy supply business. ARC had some experience having, for some period of time, owned an

institutional pharmacy serving its nursing home facilities. Newly-formed LifeTrust, Inc. had no

experience in supplying pharmaceuticals to nursing homes. Assisted living facilities did not come

into being until the mid-1990s, and none of the parties had any experience in supplying the pharmacy

needs of assisted living facilities. While one might think that the transition from nursing home

supply to assisted living facility supply would involve a simple conversion, the parties learned that

such an assumption was far from the truth. The operations manager for AMC-TN, Ms. Julie Frazier,

explained the differences between the underlying problems of serving the pharmacy needs of nursing

homes as compared to supplying the same needs in assisted living facilities.

Q. Could you give us a little more detail and background on the mix of

the customer base of The Pharmacy prior to the formation of the joint venture?
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A Sure. Prior to the joint venture, our customer base was primarily

nursing home. It’s a different population than assisted living, in that probably 80

percent of that business is TennCare related, another, you know 10 to 15 percent of

it is Medicare related, in which either the payor of the bill is TennCare or Medicare.

You have about a 5 percent population that’s private payor, private insurance.

The assisted living side is practically just the opposite. You don’t

have any Medicare because Medicare still doesn’t have drug benefit program. You

don’t have a lot of TennCare because that population in an ALF typically has a son

or daughter that’s paying the tab for them.

So the majority of that population was private pay, private insurance,

had the ability to, you know, do the things that they wanted to do and was a little bit

freer population than what we were used to seeing in a nursing home setting.

Q. Did the different mix, the TennCare and Medicare on the nursing

home side versus more of a private pay insurance mix on the assisted living facility

side, have any effect on collections?

A Absolutely, for multiple reasons. One of them which I’ve already

talked about is that if you don’t get the correct information on a timely basis, then

there are limits as to when you can file insurance claims. And the other thing is you

have a more – – a population of people that have a bill that they’ve got to pay, and

lots of times the last payor (sic) that they think about is the pharmacy or a vendor.

You know, they’re going to pay their room and board first, and from that point they’ll

pay whoever’s left over.

You’ve got a sicker population of people. You wouldn’t think that,

but what happens in the nursing home setting is where we have such regulations that

we have to comply by, we have a tendency to do things a little bit different. We have

consultants in their building once a month who go through a drug regimen review

process where we try to make recommendations to the doctor to reduce their

medications, whereas in an assisted living populations, you have don’t have that.

You know, they complain about their foot hurting and they give them something for

it, and that’s the easiest way to keep them from complaining.

The average prescription rate – – and I know in our business that – –

and during the LifeMed joint venture – – was right around ten prescriptions per

resident, whereas in our nursing home setting it’s more like seven or eight. So their

drug bills were higher. They may have had private insurance that sometimes would

pay for it, but they still had co-pays. And so their drug bills typically ran higher than

what you’d see in a nursing home population.
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Q. When the joint venture started in 1997, operationally what was

involved in getting that set up?

A. We had to go out in the homes – – or the communities, I should say,

and you had to gather information. You gathered information, as much as you could,

about their drug therapy, about insurance information. You had to set up

responsibility documents, in other words, who was going to be responsible for the

bill.

Internally we had to go through the process of getting prescriptions,

because it is considered a retail environment. So we had to contact the doctors and

get prescriptions. We had to verify all that insurance and make sure that we were a

provider for that insurance, and if we weren’t, start the process for getting on their

list of preferred providers. We had to set them up in the machine. You know, we

had a brand-new piece of equipment that we’d been trained on that we hadn’t used

a lot of.

Q. Is that the Baxter machine?

A. That’s the Baxter machine. It was a learning curve for anybody. And

we used that machine, we tried it, and it worked pretty well. But as we added more

business and it started having to produce more, that’s when we starred (sic) seeing

our problems.

At the time the joint venture was launched under the Management Agreement June 11, 1997,

the “pharmacy-within-a-pharmacy” concept was implemented. Joint venturer and managing

venturer, AMC-TN, was in fact a pharmacy, and only a pharmacy (though a very large pharmacy)

and was supplying its own clientele separate and apart from the assisted living facilities it was

supplying in its capacity as manager of LifeMed, LLC.

LifeMed, LLC operated only for the limited period between the inception of the Management

Contract in June of 1997 and August 2000, when the decision was made to dissolve the joint venture.

From the beginning, troubles developed relative to separation of inventories between The Pharmacy

and the PIP. Said Julie Frazier:

A There were two things that we needed computer-system-wise. No. 1

was we needed to upgrade our hardware and we needed to upgrade our software. In

order to upgrade our software, we had to upgrade our hardware. The purpose of it

was to hopefully be able to separate, without having to do a lot of extra work, the

A/R [Accounts Receivable] and the billing between the LifeMed joint venture and

AMC-Tennessee.

Q. Was there a problem separating the billing of the two entities?
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A Because we were running off of one inventory and we were running

off the same computer system, it was all being processed under one company. We

did come up with methodology in order to separate the LifeMed A/R from The

Pharmacy’s A/R, and we put that into place.

Q. According to your deposition, you testified that the upgrade was

never – – that you never got the upgrade.

A. We did get the upgrade but not before the joint venture was dissolved.

We had to do a work-around, which we were able to do.

Q. So until after the JV was dissolved, all the A/R was on the same

computer system?

A. That is correct.

Q. And it was not easily separated?

A. Once we did the work-around, the only part of it that we weren’t able

to resolve – – separate, I guess I should say, easily was the third party. As far as the

private, private insurance guarantor type A/r, we separated that. The third party was

a little bit more difficult.

Q. But before the joint venture was dissolved, it was hard to separate the

accounts receivable?

A No, we separated before the – – we separated the guarantor or the

private pay side prior to the joint venture dissolving. We were not able to separate

the third party.

Q. What’s the breakdown between third party and private pay for the

joint venture

A. The private insurance side was probably 65, 70 percent. But you’ve

still got a private pay portion to that. I mean, even if you bill the insurance company,

you’ve still got the co-pays and stuff that fall into the private pay side.

Q. Now, with respect to inventory, there were problems with the cost of

goods generator and so the inventory was separated sometime in late 1999; is that

correct?

A. We separated the inventory in early 2000.
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Q. And physical inventories were done every two to three months?

A. That’s correct.

Q. Now, there was borrowing between – – once you separated the

inventory – – well, can you explain how the inventory was separated for the Court?

A. We physically tried to separate the two pharmacies from the

downstairs of our building. We had a two-story building. And in the downstairs of

our building – – we put our nursing home or The Pharmacy or AMC’s operation in

the downstairs. The upstairs, we put the LifeMed joint venture. So we separated

their inventory upstairs, AMC’s inventory downstairs.

While overestimation of the ALF market and shortcomings in projected participation by ALF

residents played a significant role in the failure and demise of LifeMed, LLC, it was a combination

of difficulties in inventory control and inflated value of collectible accounts receivable that brought

about this litigation among the parties.

The inventory problem from the beginning of LifeMed, LLC, according to AMC-TN’s expert

John Gould, emanated from a combination of the “pharmacy-within-a-pharmacy” concept and the

use of an inaccurate cost generator in the calculation of inventories. Said Mr. Gould:

THE WITNESS: The cost generator is a very educated estimate.

THE COURT: Like an actuary, tell me what it is.

THE WITNESS: I’m sorry?

THE COURT: Like actuaries do, tell me, what is a cost generator.

THE WITNESS: A cost generator is another term used to identify

what your cost of product sold was. In most businesses that move inventory, they are

able to identify, as it goes out the door, the cost of that product to them on an

individual basis. You know, a widget company can tell you that Widget A cost them

$5.

In the pharmacy business, because of the volume of products that we

have, we don’t have the system capability to help us track every individual product

leaving the door. We have in upwards of 15,000 different products that could leave

our doors. So we can’t, as those drugs are leaving the door, identify at that particular

point in time what that cost was to us in our systems.
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So from a financial standpoint, very general basic accounting is, if

you’re going to make a sale of inventory, you have to have a cost associated with

that. And in the pharmacy world the way we do that is through this cost generator.

And this generator is simply a percent of sales that has been developed over time

through experience, through reconciliations with your physical inventories and

through just general industry knowledge of certain margins on drugs.

On a monthly basis, that generator or that percent is applied to net

sales to identify what the estimated cost of product sold was as it relates to the

product that was sold in that particular time period.

BY MR. COOK:

Q: So at some point you do physical inventories to sort of readjust your cost

generator?

A: Yes, we do.

Q: And so it’s a moving number, in effect?

A: It can fluctuate. I mean, for the most part it’s static unless you have a lot of

changes going on in your business.

Mr. Gould further testified that a “cost generator” was at best an educated guess and that if

the cost generator used was markedly inadequate, it would result in great discrepancy between the

on-paper inventory used in accounting and the substantive inventory that was actually on hand. As

relates to accounts receivable in pharmacy billing practices, to get from gross to net, two qualifiers

must be considered.

As explained by John Gould:

Q. And in terms of preparing the financial statements, if I look at a typical

financial statement, I’m going to see accounts receivable, correct?

A. Yes.

Q. And I’m talking about a balance sheet.

A. Right.

Q. And I’m going to see – – under that I’m going to see, I guess, two qualifiers,

one is allowance for bad debt, is that correct, and the other one would be

contractual disallowances?
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A. Yes.

Q. And can you explain what those two terms are?

A. Sure. Going back to two of our payor types, which were Medicaid and thirdparty insurance, we typically bill – – there’s an allowable amount that they’re

going to pay, and it’s pretty standard. I mean, the state has an allowable

reimbursement rate, insurance companies have allowable reimbursement

rates. It is a practice of ours, and actually in the industry, to bill more than

what they say they’re going to pay for.

And the reason is, if you bill less than what they say they’re

going to pay for. They’re going to pay that. So in order to maximize

– – to make sure you’re maximizing the benefit of what they’re going

to pay for, you typically bill above what you know they will pay for.

The difference between what you bill and what they pay is called a

contractual disallowance. And, again, that’s only for Medicaid and

third-party insurance.

Q. Okay. And how about allowance for bad debt?

A. Allowance for bad debt is a reserve on uncollectible acounts.

Q. And is it a generally accepted accounting principle to reserve against accounts

receivable?

A. Yes.

In order to understand the problem with accounts receivable, which was the subject of

extensive expert testimony, it is necessary to excerpt from the balance sheets prepared under the

management contract by AMC-TN and submitted to LifeMed, LLC. Beginning in July of 1999,

these balance sheets disclose:

Date Acct Rec. (Trade)

Contractual

Disallowance

Reserve

Doubtful Acct.

Reserve

Net Accounts

Receivable

7-31-99 663,121 (116,379) (25,000) 521,742

8-31-99 742,821 (145,072) (26,000) 571,749

9-30-99 794,862 (164,004) (27,000) 603,858

10-31-99 773,225 (169,374) (28,000) 575,851
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11-30-99 880,579 (180,849) (29,000) 670,730

12-31-99 671,943 (45,663) (30,000) 596,280

1-31-00 836,213 (68,074) (33,500) 734,639

2-28-00 904,980 (101,471) (37,780) 765,729

3-31-00 965,986 (160,159) (43,012) 762,815

4-30-00 997,201 (165,139) (47,681) 784,381

5-31-00 1,037,491 (172,823) (52,374) 812,294

6-30-00 980,947 (158,201) (55,916) 766,830

7-31-00 1,117,839 (208,133) (62,250) 847,456

8-31-00 1,084,112 (198,081) (67,107) 818,924

9-30-00 1,103,525 (185,175) (70,772) 847,578

10-31-00 887,529 (177,028) (70,772) 639,729

11-30-00 829,936 (169,602) (70,772) 589,562

12-31-00 731,886 (139,730) (70,772) 521,384

1-31-01 682,425 (101,099) (89,964) 491,362

As described by both experts, the contractual disallowance and doubtful accounts are crucial

qualifiers of the net accountsreceivable and of pivotal importance in the subsequent litigation. Ms.

Frazier’s testimony shows how the new ALF market affected these qualifiers.

III. THE LITIGATION

Following the decision of August 15, 2000, to dissolve LifeMed, LLC, the relationship

between the member entities of the LLC deteriorated to the point that on October 12, 2001, ARC

LifeMed, Inc., LifeTrust America, Inc. and LifeMed, LLC brought suit against AMC-TN, Inc.

alleging breach of contract, breach offiduciary relationship, negligent representation and fraudulent

misrepresentation. It is alleged in the Complaint:

B. Management

12. ARC-LifeMed and LifeTrust entered into the LifeMed venture with

AMC-TN because AMC-TN and its parent Omnicare claimed to have significant

expertise in the pharmaceutical business, including pricing, packaging, inventory
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management, budgeting and accounting. ARC-LifeMed and LifeTrust did not have

the specialized knowledge regarding the pharmacy business that AMC-TN and

Omnicare claimed to have, and they reasonably relied on AMC-TN’s advice as to

these matters in connection with AMC-TN’s role as a member of LifeMed. AMCTN owed LifeTrust, ARC-LifeMed and LifeMed a fiduciary duty as a result of its

membership interest and specialized knowledge.

13. Pursuant to the LLC Agreement, ARC-LifeMed, LifeTrust and AMCTN ratified the existing management agreement, dated June 11, 1997 (the

“Management Agreement”) between LifeMed and AMC-TN. Pursuant to the

Management Agreement, AMC-TN was to manage the day-to-day affairs of LifeMed

and provide other services as required therein such as: (a) management of bank

accounts, (b) marketing efforts, (c) preparation of budgets, and (d) bookkeeping and

accounting. The Management Agreement states that it is to be governed by and

construed in accordance with Tennessee law. A copy of the Management Agreement

is attached as Exhibit B. 

14. Pursuant to the LLC Agreement, AMC-TN was directly and primarily

responsible for the preparation of budgets, maintaining books and records, and

performing other accounting functions.

C. AMC-TN’s Mismanagement And Its Discovery

15. In August 2000, the LifeMed board voted to cease operations and

dissolve LifeMed. However, as of this date, LifeTrust and ARC-LifeMed have not

received any distributions of their contributions to the Capital Account or an

accounting.

16. At all times between October 29, 1998 to January 30, 2001, AMC-TN

assured LifeTrust and ARC-LifeMed that LifeTrust that their Initial Capital

Contributions were safe.

17. On January 30, 2001, the LifeMed board members met. At that

meeting AMC-TN and/or Omnicare representatives presented updated financials for

LifeMed through January 2001, and ARC-LifeMed’s and LifeTrust’s representatives

questioned why LifeMed was still trying to wind down the accounting five months

after the LifeMed board voted to cease operations.

18. At the January 30, 2001, Meeting ARC-LifeMed and LifeTrust learned

the following information:
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A. AMC-TN never reserved against accounts receivable balances

since inception of the business, while failing to timely,

properly manage receivables.

B. AMC-TN never properly charged cost of goods sold to

LifeMed since its inception. AMC-TN never performed

physical inventories. It appears that inventory was stolen or

misused by the parent pharmacy, not billed for or expired or

was discarded. AMC-TN never alerted LifeTrust or ARCLifeMed until January 30, 2001 that the inventory had been

overvalued by $400,000. Incidentally, the manager of the

parent pharmacy also told LifeTrust and ARC-LifeMed at that

January 30 meeting that she experienced an inventory

shrinkage of close to $500,000 separate and apart from the

PIP (pharmacy in pharmacy) shrinkage. Evidently, AMC-TN

staffed the parent pharmacy and the PIP with a grossly

inadequate manager and failed to provide proper accounting

and financial controls to the extreme detriment of the PIP and

LifeMed.

C. AMC-TN regularly produced misleading financial statements

for LifeTrust and ARC-LifeMed. For example, on January

30, 2001, Omnicare’s regional controller provided to ARC

income statements and balance sheets for each month of 2000

and for January 2001, which presents accounts receivable and

inventory figures unadjusted and incorrect.

19. As a result of the above-reference misrepresentations and wrongful

actions and omissions: (a) LifeTrust and ARC-LifeMed received materially

inaccurate financial statements from AMC-TN; (b) LifeMed was unable to properly

price the goods and services provided, resulting in cumulative losses; (c) the PIP was

permitted to own its own inventory, which was detrimental to LifeTrust, ARCLifemed and LifeMed and ultimately hid the poor financial results of LifeMed; and

(d) LifeTrust and ARC-LifeMed were unable to understand the cumulative poor

financial condition which caused ARC-LifeMed and LifeTrust to continue their

participation in the losing business longer than would otherwise have been the case.

. . .

23. AMC-TN and LifeTrust have asked for (a) a dissolution of LifeMed,

(b) an accounting, and (c) and a return of their funds held in the Capital Account, but

AMC-TN has failed to wind up the affairs of LifeMed, provide an adequate an (sic)

accurate accounting and pay the amounts requested.
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Plaintiffs then sought inter alia, the following:

A. Require AMC-TN to provide a thorough accounting of the assets and

liabilities of LifeMed, including (1) a complete explanation of the current assets and

liabilities of LifeMed, (2) a complete history of the receipt of funds and other

property and the disposition of funds and other property, and (3) an explanation as

to the status and whereabouts of the Capital Account and LifeTrust’s and ARCLifeMed’s Initial Capital Contributions.

B. Order a dissolution, winding up and distribution of the assets of

LifeMed in accordance with the LLC Agreement and applicable law;

C. Order that AMC-TN shall not be allowed to (1) receive any money from

the distribution of the assets of LifeMed until ARC-LifeMed and LifeTrust are

compensated for their contributions to LifeMed, including interest; or (2) otherwise

receive any distribution from the assets of LifeMed as the result of its wrongful acts

and omissions.

D. To the extent that LifeTrust and ARC-LifeMed are not made whole

from the distribution from LifeMed, award a judgment in favor of LifeTrust and

ARC-LifeMed against AMC-TN for such amounts together with interest to make

them whole from their investments;

E. In addition, award LifeTrust, ARC-LifeMed and/or LifeMed judgments

against AMC-TN for all direct, consequential and punitive damages arising from

AMC-TN’s fraudulent and/or negligent misrepresentations, wrongful conduct, breach

of fiduciary duty and breach of contract, lack of good faith and gross negligence.

F. Award Plaintiffs their attorneys fees and expenses incurred in this action.

G. Grant such additional relief as is appropriate under equity or is

otherwise appropriate.

AMC-TN answered the Complaint with general denials and with a counter claim for payment

by LifeMed, LLC of unpaid management fees allegedly due under the Management Agreement.

It is first necessary to consider the standing and status of LifeMed, LLC as a party to the

litigation. In the Complaint of October 12, 2001, LifeMed, LLC is averred to be a party plaintiff,

and the body of the Complaint contains the following allegations with regard to the status of the

LLC:

3. Plaintiff LifeMed, LLC (“LifeMed”) is a limited liability corporation

organized under the laws of Delaware. At all times relevant to this lawsuit,
-16-

LifeMed’s principal offices were located in Hermitage, Davidson County, Tennessee.

Upon information and belief, LifeMed is no longer transacting business in this state,

and its certificate of authority has been revoked by the Tennessee Secretary of State.

As is more fully-set forth below, LifeMed was formed to provide pharmacy services

in assisted living facilities.

. . . 

6. ARC-LifeMed, LifeTrust and AMC-TN are the members of LifeMed.

ARC-LifeMed and LifeTrust have assented to LifeMed’s filing the claims contained

herein in its own name. In the event that LifeMed cannot bring this action because

of some refusal of AMC-TN to consent or take some other action, LifeTrust and

ARC-TN assert claims on behalf of LifeMed because it is unlikely that AMC-TN

would consent to being sued by LifeMed. Moreover, to the extent that LifeMed’s

corporate existence has ceased or it is otherwise unable to bring this action in its own

name, LifeTrust and ARC-LifeMed assert claims which would otherwise be brought

by LifeMed based on the harm to their membership interests in LifeMed.

. . .

26. Based on the foregoing, AMC-TN has breached its duties under the

LLC Agreement and/or Management Agreement, including its duty of good faith and

fair dealing. LifeMed, ARC-TN, and LifeTrust were harmed as the proximate result

of such breach.

When the defendant, AMC-TN, Inc., answered the Complaint, it asserted:

3. AMC-TN denies that LifeMed is a limited liability “corporation.”

AMC-TN admits the remaining allegations of paragraph 3 of the Complaint except

that the Tennessee Secretary of State has reinstated the certificate of authority for

LifeMed, LLC.

As an affirmative defense, AMC-TN asserted:

29. AMC-TN states that LifeMed, LLC is not a proper plaintiff in this

action and that Plaintiffs ARC LifeMed, Inc. and LifeTrust America, Inc. are not

authorized to bring this action on behalf of LifeMed, LLC without the consent of all

members and/or an affirmative vote of all Board of Managers of LifeMed, LLC.

In its counterclaim, AMC-TN, Inc. joins ARC-MedLife, Inc., LifeTrust America, Inc. and

LifeMed, LLC as counter defendants. AMC-TN, Inc. then alleges:
Right to sue or defend after termination period – – after an LLC has been terminated, any of its former

1

managers, governors, or members may assert or defend, in the name of the LLC any claims by or against the LLC. Tenn.

Code Ann. § 48-245-1201.

-17-

4. Counter-Defendant LifeMed, LLC (“LifeMed”) is a limited liability

company organized and existing pursuant to the laws of the State of Delaware.

LifeMed is qualified to do business in Tennessee and, at all times material to the

allegations in this Counter-Claim, maintained a business office in Davidson County,

Tennessee.

The Counter Complaint then alleges breach of contract by LifeMed, LLC in its failure to pay

management fees allegedly due and owing to AMC-TN. Byway of relief, the counter plaintiff seeks:

A. The award of judgments in favor of Counter-Plaintiff AMC-Tennessee,

Inc. against Counter-Defendants ARC LifeMed, Inc., LifeTrust America, Inc. and/or

LifeMed, LLC, for all damages arising from LifeMed’s breach of contract and the

Counter-Defendants’ unjust enrichment and/or quantum meruit;

When the counter-defendants answered the counterclaim, they answered all the paragraphs

in the combined answer and Counterclaim of AMC-TN, Inc. which were set forth numerically first

in the answer and then in the affirmative defenses and the Counterclaim itself. Pertinent to the

standing and status problem in the answer to the Counterclaim, it is asserted:

. . . 3. Counter-defendants Admit the Allegations in Paragraph 3 of the

Counterclaim.

All other relevant allegations of the Counter-complaint are met with a general denial.

Taking the pleadings as a whole, it appears that in the Complaint, the plaintiffs did not know

the status of LifeMed, LLC and asserted in effect a possible termination of the LLC under Tennessee

Code Annotated section 48-245-701 and alternatively sought to pursue the action under Tennessee

Code Annotated section 48-245-1201.1

When the defendants asserted their answer to the Complaint, they affirmatively asserted that

“. . . the Tennessee Secretary of State has reinstated the certificate of authority for LifeMed, LLC.”

In its Counter-complaint, AMC-TN affirmatively asserted that LifeMed, LLC was a limited liability

company organized and existing under the laws of Delaware and qualified to do business in the state

of Tennessee. In the answer of the plaintiffs/counter-defendants to the Counterclaim, they admitted

the allegation of the continued existence of LifeMed, LLC. The pleadings themselves establish the

continued existence of LifeMed, LLC, and both the Complaint and the Counter-complaint draw

issues between LifeMed, LLC and AMC-TN. Even if a termination of LifeMed, LLC had actually

occurred, both the Complaint and Counter-complaint are properly before the Court under Tennessee

Code Annotated section 48-245-1201.
-18-

This is essentially a breach of contract case. LifeMed, LLC seeks recovery from AMC-TN

for the member manager’s failure to perform its contractual duties with particular emphasis on

AMC-TN’s failure to provide financial reports consistent with generally accepted accounting

principles. In this respect, the case involved a dual of expert witnesses. Both Brian Richardson,

chief financial officer of ARC, and John Gould, chief financial officer for AMC-TN, were “inhouse” experts rather than independent accountants. This dual ended when the trial court accepted

the testimony of Mr. Richardson in preference to that of Mr. Gould. In this kind of a credibility call,

the judgment of the trial court carries with it great weight in the appellate courts. Mitchell v.

Archibald, 971 S.W.2d 25, 29-30 (Tenn.Ct.App.1998). It is well to observe that the position of Mr.

Gould was seriously compromised by the fact that he did not take over the financial affairs of AMCTN under the Management Contract until the time that the decision was made in August of 2000 to

dissolve LifeMed, LLC. Most of the management problems had already occurred before he was in

a position of responsibility. John Gould assumed command of this Titanic only after it struck the

iceberg.

Three major areas are involved in the breach of contract: (1) the “cost generator” used in

measuring inventory was grossly in error; (2) AMC-TN did not collect its fee and expenses

contemporaneously with earning such fees and incurring such expenses as required by the

management contract; (3) AMC-TN grossly understated reserves for bad accounts. The trial judge

accepted Mr. Richardson’s testimony, holding that AMC-TN had breached its Management Contract

with respect to deficient control of inventories, failure to timely collect its fees and expenses and

maintaining grossly inadequate reserves for bad debts, and the evidence supports these findings.

After realizing the bookkeeping and accounting problems of LifeMed, Gould commiserated

with Pat Keefe of Omnicare by memo of January 11, 2001. In considering this memo, certain

observations are necessary.

1. What is referred to as “Stephen’s J.V.” is in fact LifeMed, LLC. What is referred to as

“Stephens” is AMC-TN (The Pharmacy) in its status independent of the LifeMed, LLC venture.

2. The criticisms by Gould, deal primarily with matters predating his arrival on the scene.

3. AMC-TN is, and has been since the joint venture began, a single entity. It cannot divide

itself into component parts and disavow the pre-Gould era.

4. The memo is dated five months after the decision to dissolve the joint venture, four

months after the projected date of the dissolution and 19 days prior to the January 30, 2001, meeting

of the joint venture board.

At the outset, the memo provides:

The following represents key financial accounts and balances as of November 30,

2000:
-19-

Cash $553,107

Net A/r 596,864

Inventory 557,149

Net P, p&c 72,080

Net Goodwill 238,492

A/p 1,138,847

Member Equity 897,249

The balances above were as of November 30. I am currently in the process of

reconciling several accounts including cash, inventory, accounts payable and

member’s equity. With the exception of inventory, due to the lack of paper trail, I

am having trouble reconciling these accounts. The following is being taken into

consideration before the final balance sheet is calculated.

. . . 

Accounts Payable

Of the $1,138,000 balance, $1,110,000 is owed to Stephens pharmacy for service

performed and inventory purchased. The problem is Stephens has an account

receivable balance for the J.V. of $1,231,904 for a difference of $117,788. As

mentioned above the lack of paper trail for 1997-1999 is making it difficult to

reconcile this balance.

Thus, it appears that as of November 30, 2000, joint venture carried $1,110,000 in accounts

payable to AMC-TN, not only for inventory purchased but for “service performed.” Nothing in the

periodic accountings and balance sheets supplied to LifeMed, LLC discloses that AMC-TN had not

been collecting for its “service performed” as it is required to do under paragraph B of the

Management Agreement. It is also difficult to see how AMC-TN, in its capacity as manager of

LifeMed, LLC, can carry accounts payables to AMC-TN of $1,110,000 while simultaneously

carrying on its own books accounts receivable from the joint venture of $1,231,904.

The memo next addresses inventory and reveals in stark fashion the shortcomings of AMCTN’s management of inventory.

Inventory

The J.V. started carrying inventory effective January 1, 2000. Prior to that, an

inventory amount equal to the cost generator percent was transferred from Stephens’

books to the J.V. The J.V. recorded this as cost of goods sold. Under this scenario,

whenever an inventory was taken any gain or loss was recorded on Stephens’ books.

In the last 6 months of 1999, Stephens recorded an inventory loss of $450,000, none

of which was recorded by the J.V.
-20-

Even though inventory was purchased separately by Stephens and the J.V. starting

in 2000, all physical counts were combined and compared to the combined book total

for both companies. The reason for this was there was still a significant amount of

inventory that was shared by both companies that was not properly being tracked.

By combining the two inventories a total gain or loss could be calculated with the

difference usually being shared.

On September 15, a physical inventory was taken and a combined loss of $133,000

was noted. Depending on how the reconciliation of the accounts payable/account

receivable balances are resolved (as noted above)this loss could reach $260,000. As

it stands on the books for each company, Stephens has a gain of $260,000

(or$133,000 gain if the reconciliation of a/r is unfavorable to Stephens) on a physical

count of $784,588 and the J.V. had a loss of $393,000 on a count of $226,270.

The kicker to the September 15 physical is that throughout the month, Stephens

would borrow inventory from the J.V. This inventory was supposed to be tracked so

that an entry could be made to record the transfer. The last transfer recorded was

May 2000. The amount of the unrecorded transfer is approximently [sic] $400,000.

If this transfer were to be recorded, Stephens would have a loss at September 15, of

$140,000 (or $267,000 depending on how the a/r reconciliation is resolved) and the

J.V. would have a gain of approx. $10K.

Another thing to note, the November 30 inventory for Stephens yielded a gain of

$260,000. However, this is before the $400,000 transfer and Stephens purchase of

J.V. inventory (the amount has yet to be determined). If the transfer were to be

recorded the $260,000 gain would become a $140,000 loss. If the transfer were to

be made, the J.V. would have an inventory balance of $220,000 that Stephens would

have to purchase. Therefore the loss at 11/30 on Stephens books would be $360,000.

Mr. Gould next addresses accounts receivable and makes his candid appraisal of the situation

facing the joint venture as of the end of December 2000.

An additional $80,000 was collected in December. Therefore the net a/r balance is

approximently (sic) $517,000. My conservative estimate is that we will be lucky to

see $200,000 more in collections. Because of how the books were kept early on in

the J.V., I am not convinced that there is even $517,000 to collect. Of the $517,000

left to collect, $200,000 is unbilled third party insurance. This is the amount we are

trying to collect.

In testimony at trial, Bryan Richardson discussed the requirements of generally accepted

accounting principles as to reserves against bad accounts:
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[T]here’s two tests as far as when you would set up a reserve: When something is

probable that it will be a loss contingency; and when you can estimate it. And then

there’s some specific guidance on accounts receivable that talks very specifically

about the fact that this is – – you’re literally looking at the receivables as a whole.

In other words, the fact that at any point in time you can’t say, well,

I’m not sure that this persons’ going to pay me or this person’s going to pay me but

that you would look at the whole pool of receivables that you have, you would look

at the historical trends in your business and the fact that, on average, X percentage

of people don’t pay you, that you would be needing to use that kind of guidance as

far as setting up reserves.

So the fact at any point in time you may not be able to point

specifically at which receivable are going to go bad, the guidance is very clear that

that is not a defense, that you need to look at historical trends and look at your

estimates and set up reserves accordingly.

As a matter of fact, one of the things that I – – that’s what I’ve

mentioned in my write-up as far as, you know, the need to continually assess that

based on the trends. One of the items that I received as a response to my report was

some information from John Gould entitled Response to Bryan Richardson’s

Analysis of LifeMed’s Accounts Receivable and Collection Records. And in that

he’s talking about in most cases a receivable balance will not be reserved until it is

positively determined that no other course of action can be taken or that it is highly

probable it will not be collected. Again, in our business this could take up to a year

of more to make that determination.

That’s directly in contradiction to what GAAP [Generally Accepted

Accounting Principles] tells you you need to do. GAAP is saying you can’t wait until

you positively know something is going to be not collectible that you need to make

a reasonable estimate, and it allows you to update that estimate from time to time as

you have more facts and circumstances. But the response that John made to my

memorandum is directly in contradiction to what GAAP tells you you need to do.

And then it further goes on to say – – and, again, this is John’s

response to my memo. It says, “It’s easy to conclude today that two and a half years

ago LifeMed’s reserves were understated, hindsight is 20/20. However, I disagree

that two and a half years ago this conclusion was that evident.” This is, again,

admitting that as you look back, certainly those reserves were understated but not, I

guess, recognizing the responsibility to have set aside an appropriate reserve at that

time.

Mr. Richardson’s report provided:
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6) The total amounts recorded on the LifeMed financial statements as of 9/30/00

were:

Accounts Receivable $1,110,777

Allowance for doubtful accounts (70,772)

Contractual Allowances (185,175)

Net Accounts Receivable $854,830

7) Based on the information provided, it appears that the Allowance for Doubtful

Accounts reserve balance as of 9/30/00 should have been at least $380,000.

Overall Conclusions

In my opinion, based on the information reviewed, the Allowance for Doubtful

Accounts as of 9/30/00, should have been at least $380,000. The significant balances

beyond terms, lack of effective collection activity, billing difficulties, and other

information and trends should have indicated a need for a larger reserve balance than

was shown on the financial statements.

Based on the $380,000, the reserve balance at 9/30/00 of $70,772 was understated

by $309,228. Based on my review, I believe the reserve balance as recorded on the

LifeMed financial statements was materially understated throughout 1999 and 2000.

One cannot help but note the parallel between Mr. Richardson’s analysis of accounts

receivable reserves and the candid observations of John Gould in his memo of January 11, 2001.

Under both analyses, the collectibility of the net accounts receivable reflected on the AMC-TN

prepared balance sheets for the joint venture are clearly and strictly limited.

The trial court held:

As a result of the improper financial statements, the joint venture

probably continued longerthan it would have by AMC-Tennessee advancing monies

for expenses and not properly taking them out of the checking account set up for the

joint venture. The members of the joint venture were deprived of how serious the

joint venture was running into the red.

If this process that had been set up in the management agreement had

been followed rather than AMC-Tennessee financing some of the expenses through

their accounts rather than the checking accounts set up and approved by the board of

managers, it would have become very evident earlier on as to what problems were

being incurred in the operation of the joint venture.

I cannot precisely point to what financial problems started when,

whether the billing of the communities’ residents and nonpayment caused a lack of
-23-

cash flow. I don’t know if the purchase of pharmaceuticals by AMC-Tennessee as

the PIP, pharmacy in a pharmacy, operator caused them to have expenses that they

carried which were not reimbursed, but it is apparent from all the testimony that the

$400,000 write-off occurred over a period of time that would have been evident if all

of the bookkeeping and accounting procedures that were set out in the management

agreement had been followed.

It was incumbent upon AMC-Tennessee, Inc., to keep the books and

to prepare proper financial statements and records. That included preparing proper

financial statements in August of 2000 and in January 2001. Those financial

statements were not properly prepared, and AMC-Tennessee, Inc., breached its duties

under the management agreement both with regards to the payment of expenses to

be paid at the joint venture’s expense by checks drawn on the joint venture’s

accounts and by failing to maintain proper bookkeeping and accounting procedures

and proper preparation of financial statements and records.

The evidence sustains these findings of the trial court that AMC-TN materially breached the

Management Agreement to the detriment of LifeMed, LLC. As a result of the materially inaccurate

financial statements issued by AMC-TN to LifeMed, LLC, the joint venture asserts that it was unable

to properly price the goods and services provided, and that this inability resulted in cumulative

losses. By withholding the inventory shortages and failing to disclose that its fees and expenses were

accumulating rather than being contemporaneously paid in the manner required by the Management

Agreement and by overvaluing accounts receivable, AMC-TN provided a false picture of the true

financial condition of the joint venture and the degree to which losses were accumulating. It matters

not whether the motivations of AMC-TN were altruistic or self-servingly deceptive. If the true

financial picture would have caused LifeMed, LLC to price its products out of the market, such is

not a decision to be made by the manager under the Management Agreement. Among the

responsibilities of the owner, as provided by the Management Agreement, are:

A. Operational Policies. The board of managers of the owner shall develop and

implement all operational policies and procedures necessary to establish and maintain

the standard of pharmacy services appropriate for the nature of The Pharmacy.

B. Charges. The board of managers of the owner shall establish the scheduled or

recommended charges for pharmaceutical products and services provided by The

Pharmacy.

Instead of giving the board of managers of LifeMed, LLC the information upon which it

could make decisions as to the pricing of products, or for that matter, the continued existence of the

joint venture, the managing member withheld such information and appropriated to itself a right to

make unilateral decisions for the joint venture. This was clearly in breach of the Management

Agreement.
-24-

IV. FIDUCIARY DUTY AND NEGLIGENT MISREPRESENTATION

Both breach of fiduciary duty and negligent misrepresentation fail as causes of action under

the facts of this case for reasons set forth in McGee v. Best, 106 S.W.3d 48 (Tenn.Ct.App.2002).

In McGee, a terminated member of the LLC filed suit against the LLC and its other members

charging inter alia, breach of contract, breach of fiduciary duty and misrepresentation. In affirming

the trial court’s rejection of the breach of fiduciary duty claim, this Court held:

The plaintiff argues that the trial court erroneously held that the plaintiff’s

claims based upon an alleged breach of fiduciary duty owed to him individually by

the other members must fail as a matter of law because there is no fiduciary duty

between, or among, individual members of a Limited Liability Corporation. We

disagree. Tenn.Code Ann. § 48-240-102(a)(2002) provides:

(a) FIDUCIARY DUTY OF MEMBERS OF MEMBER

MANAGED LLC. Except as provided in the articles or operating

agreement, every member of a member-managed LLC must account

to the LLC for any benefit, and hold as trustee for it any profits

derived by the member without the consent of the other members

from any transaction connected with the formation, conduct, or

liquidation of the LLC or from any use by the member of its property

including, but not limited to, confidential or proprietary information

of the LLC or other matters entrusted to the member as a result of

such person’s status as a member.

(b) STANDARD OF CONDUCT. A member of a membermanaged LLC shall discharge such member’s duties as a member,

including all duties as a member of a committee:

(1) In good faith;

(2) With the care an ordinarily prudent person in a like

position would exercise under similar circumstances; and

(3) In a manner the member reasonably believes to be in the

best interest of the LLC.

Id.

The rule of statutory construction to which all others must yield is that the

intention of the legislature must prevail. Mangrum v. Owens, 917 S.W.2d 244, 246

(Tenn.Ct.App.1995)(citing Plough, Inc. v. Premier Pneumatics, Inc., 660 S.W.2d

495, 498 (Tenn.Ct.App.1983); City of Humboldt v. Morris, 579 S.W.2d 860, 863

(Tenn.Ct.App.1978)). “[L]egislative intent or purpose is to be ascertained primarily

from the natural and ordinarymeaning of the language used, when read in the context
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of the entire statute, without any forced or subtle construction to limit or extend the

import of the language.” Mangrum v. Owens, 917 S.W.2d at 246; (quoting Worrall

v. Kroger Co., 545 S.W.2d 736, 738 (Tenn.1977)). The Court has a duty to construe

a statute so that no part will be inoperative, superfluous, void or insignificant. The

Court must give effect to every word, phrase, clause, and sentence of the Act in order

to achieve the Legislature’s intent, and it must construe a statute so that no section

will destroy another. Id. (citing City of Caryville v. Campbell County, 660 S.W.2d

510, 512 (Tenn.Ct.App.1983); Tidwell v. Collins, 522 S.W.2d 674, 676

(Tenn.1975)).

The statute in question defines the fiduciary duty of members of a membermanaged LLC as one owing to the LLC, not to individual members. We cannot

contravene the intent of the Legislature. Therefore, we find that the trial court

correctly dismissed the plaintiff’s cause of action for breach of fiduciary duty.

McGee v. Best, 106 S.W.3d at 63-64.

In Anderson, et al. v. Wilder, et al., E2003-00460-COA-R3-CV, 2003 WL 22768666

(Tenn.Ct.App.), this Court distinguished the rule in McGee and, adapting partnership and closelyheld corporation principles, imposed a fiduciary relationship upon a majority shareholder of an LLC

in his relationship to a minority shareholder. McGeewas distinguished bytheCourt because the case

involved “. . . ‘a rather uncomplicated dispute controlled by the Employment Contract and the

Operating Agreement . . . . The only issue involved is whether termination of the employment was

for cause.’ McGee, 106 S.W.3d at 67.” Anderson, 2003 WL 22768666 at *6. The case at bar

likewise involves uncomplicated contractual duties under an operating agreement and a management

agreement and not a factual situation involving oppression by a majority shareholder of minority

shareholders.

The parties do not dispute the existence of a fiduciary duty owed by the managing member

of the LLC to the LLC. In addition, all of the factual allegations of the Complaint constitute repeated

breaches of the Management Contract between the managing member and the LLC resulting in

damages to the LLC. Thus, the question whether or not a fiduciary duty is owed by the managing

member to the other members is of little consequence under the facts of this case. Plaintiffs have

asserted no damages to themselves personally, but only such damages as necessarily flow from

breach of the Management Contract with LifeMed, LLC.

As to alleged negligent misrepresentation, it is noted that the only misrepresentations asserted

are the same misrepresentations as constitute the breach of contract asserted by LifeMed, LLC. No

assertions of individual damages accruing to ARC or LifeTrust are made independent of damages

recoverable by the LLC other than general allegations asserting compensatory and punitive damages

to the members, which are supported by no proof. Once again, McGee is instructive.
-26-

As the trial court pointed out, “the plaintiff alleges that certain information

was withheld from him-either intentionally or negligently – and that this information

was material in the manner by which he conducted the affairs of the LLC. Plaintiff

does not allege that he conducted his own personal affairs in reliance upon any such

material information or that he obligated himself personally in reliance thereon.”

Plaintiff’s amended complaint provides in pertinent part:

94. The Plaintiff was relying on statements of employees of IEI

to conduct the affairs of MBF & I and these material omissions

caused Plaintiff to act in manner that he otherwise would if he had

known the true state of affairs thereby damaging him and the LLC.

The plaintiff has, in essence, alleged a derivative claim, but at this point has no

standing to bring such a claim. In Bourne v. Williams, 633 S.W.2d 469

(Tenn.Ct.App.1981), Judge Tomlin of this Court said:

It has long been recognized that where a wrong to the

corporation was claimed by a stockholder, if the board of directors of

the corporation did not take steps to rectify the wrong, then a

stockholder could bring the action in the name of the corporation, for

the benefit of the corporation. This is the gravamen of a “derivative”

suit. 13 Fletcher, Cyc. Corp. sec. 5908 (perm. ed.1980). See also

Opportunity Christian Church v. Washington Water Power Co., 136

Wash. 116, 238 P. 641 (1925).

Bourne v. Williams, 633 S.W.2d at 471. However, the plaintiff has not proceeded in

this manner. Furthermore, the plaintiff’s amended complaint also alleges a personal

injury as a result of certain information being withheld from him. The plaintiff’s

personal injury is, in essence, the plaintiff’stermination from employment with MBF

& I. However, as the trial court noted, “that claim arises out of the employment

relationship and does not create a cause of action for fraud or misrepresentation.”

McGee v. Best, 106 S.W.3d at 65.

Breach of fiduciary duty is an action sounding in tort. Mike v. Po Group, Inc., 937 S.W.2d

790, 795 (Tenn.1996). An action for negligent misrepresentation sounds in tort. Atkins v.

Kirkpatrick, 823 S.W.2d 547, 552 (Tenn.Ct.App.1991). In actions based on ordinary negligence

rather than willful conduct, proof of damages is an element of the plaintiff’s cause of action and,

without such proof offered by ARC and LifeTrust, Inc., their cause of action fails. Skoretz v.

Cowden, 707 S.W.2d 529, 532 (Tenn.Ct.App.1983); Morris v. State, 21 S.W.3d 196, 203

(Tenn.Ct.App.1999); see also 22 Am Jur 2d, “Damages” § 16.
-27-

The findings of the trial court as to fiduciary duty and negligent misrepresentation are

reversed.

V. COUNTER COMPLAINT

By its counterclaim, AMC-TN seeks recovery of unpaid management fees under the

Management Contract and, in the alternative, recovery from LifeMed, LLC because of unjust

enrichment or for the value of services in quantum meruit. 

In this context, as well, the significance of the trial court’s acceptance of the testimony of Mr.

Richardson over the testimony of Mr. Gould cannot be overemphasized. In addressing this

credibility call, we must give deference to the settled rule:

One of the most time-honored principles of appellate review is that trial

courts are best situated to determine the credibility of the witnesses and to resolve

factual disputes hinging on credibility determinations. See State v. Pruett, 788

S.W.2d 559, 561 (Tenn.1990); Tenn-Tex Properties v. Brownell-Electro, Inc., 778

S.W.2d 423, 425-26 (Tenn.1989). Accordingly, appellate courts routinely decline to

second-guess a trial court’s credibility determinations unless there is concrete, clear,

and convincing evidence to the contrary. See Bingham v. Dyersburg Fabrics Co.,

Inc., 567 S.W.2d 169, 170 (Tenn.1978); Thompson v. Creswell Indus. Supply, Inc.,

936 S.W.2d 955, 957 (Tenn.Ct.App.1996).

The most often cited reason for this principle can be traced to the fact that

trial judges, unlike appellate judges, have an opportunity to observe the manner and

demeanor of the witnesses while they are testifying. See Bowman v. Bowman, 836

S.W.2d 563, 566 (Tenn.Ct.App.1991). There are, however, other reasons for this

principle. As the United States Supreme Court has observed:

The trial judge’s major role is the determination of fact, and with

experience in fulfilling that role comes expertise. Duplication of the

trial judge’s efforts in the court of appeals would very likely

contribute only negligibly to the accuracy of fact determination at a

huge cost in diversion of judicial resources. In addition, the parties

to a case on appeal have already been forced to concentrate their

energies and resources on persuading the trial judge that their account

of the facts is the correct one; requiring them to persuade three more

judges at the appellate level is requiring too much.

Anderson v. City of Bessemer City, 470 U.S. 564, 574-75, 105 S.Ct. 1504, 1512, 84

L.Ed.2d 518 (1985).
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The advisory committee note to Fed.R.Civ.P. 52(a), which requires that

deference be given to the trial judge’s opportunity to judge the credibility of

witnesses, lists three important policy concerns behind the rule: (1) upholding the

legitimacy of the trial courts to litigants; (2) preventing an avalanche of appeals by

discouraging appellate retrial of factual issues, and (3) maintaining the allocation of

judicial authority. The policy underpinnings of Fed.R.Civ.P. 52(a) advance the

public’s interests in stability and judicial economy, and we view them as equally

important to Tennessee’s citizens and courts.

Mitchell v. Archibald, 971 S.W.2d 25, 29 (Tenn.Ct.App.1998).

The trial court accepted the expert testimony proffered by the plaintiffs. This testimony

established that AMC-TN failed to manage LLC accounts according to generally accepted

accounting principles. This failure constituted a material breach of the Management Agreement.

A party who has materially breached a contract cannot recover on the contract. Nevertheless, under

proper conditions and upon carrying the burden of proof as to the value of services rendered under

the contract, he may recover in quantum meruit. The rule is:

Even though a contract be entire, the party who breaches the same may

recover of the other party, as on a quantum merit, the value of benefits conferred on

such other party by partial performance — these benefits being accepted and retained.

Any damage, of course, which the party not in default suffered by the breach also to

be taken into account. The law is frequently so applied in cases which involve

building contracts and contracts for personal services. Stump v. Estill, 7 Tenn.

(Peck.) 175; Elliott v. Wilkinson, 16 Tenn. (8 Yerg.) 411; Porter v. Woods, 22 Tenn.

(3 Humph.) 56, 39 Am.Dec. 153; Barker v. Reagan, 51 Tenn. (4 Heisk.) 590, 596;

Bush v. Jones, 2 Tenn.Ch. 190; Jones v. Jones, 32 Tenn. (2 Swan) 605; Congregation

of Children of Israel v. Peres, 42 Tenn. (2 Cold.) 620; Massey v. Taylor, Wood &

Co., 45 Tenn. (5 Cold.) 447, 98 Am.Dec. 429; Hunter v. Litterer & Cabler, 60 Tenn.

(1 Baxt.) 168; Bruce v. Baxter, 75 Tenn. (7 Lea) 477.

National Life & Accident Ins. Co. v. Hamilton, 98 S.W.2d 107, 108 (Tenn.1936).

It is well to observe also that the failure of AMC-TN to timely collect its fees and expenses

was itself in material breach of the Management Contract. AMC-TN presents no material evidence

as to the value of its services so as to allow for a recovery in quantum meruit or any evidence of

unjust enrichment. As the trial court held, the counter complaint is without merit.

VI. DAMAGES

If the “pharmacy-within-a-pharmacy” concept was difficult to administer, the separate

remedies sought in this litigation are equally challenging and must be separated in order to be

compatible. When breach of fiduciary duty, negligent misrepresentation and the counterclaim
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asserting quantum meruit and unjust enrichment are removed from the case, we are left with a breach

of contract action by LifeMed, LLC against AMC-TN and a counterclaim for breach of contract by

AMC-TN against LifeMed, LLC. This Court, having affirmed both the trial court’s finding that

AMC-TN breached the Management Contract and its dismissal of the counterclaim, now must first

address the question of damages resulting to LifeMed, LLC because of the breach.

Equitable considerations cannot intervene in a pure breach of contract action. 

“Equity follows the law. Where there is no legal liability, equity can create none.”

Henderson v. Overton, 10 Tenn. 394, 397 (1830); Bedwell v. Bedwell, 774 S.W.2d 953, 956

(Tenn.Ct.App.1989); Metropolitan Life Insurance Company v. Owens, 246 S.W.2d 971, 972

(Tenn.1952). “When in doubt equity follows the law.” Tennessee-Carolina Mills v. Mauk, 14

Tenn.App. 517, 519 (1931). What appears to be fair as a matter of equity cannot prevail in the face

of constitutional, statutory or contractual provisions governing the rights of the parties. As the

Supreme Court of Nevada observed,

Our equitable powers do not extend so far as to permit us to disregard

fundamental principles of the law of contracts, or arbitrarily to force upon parties

contractual obligations, terms or conditions which they have not voluntarily assumed.

In this regard, equity respects and upholds the fundamental right of the individual to

complete freedom to contract or decline to do so, as he conceives to be for his best

interests, so long as his contract is not illegal or against public policy. In this respect,

and many others, equity follows the law. Much as we would like to relieve the

appellant from his unfortunate situation, we cannot rightfully do so, as we must

maintain the necessary certainty, stability and integrity of contractual rights and

obligations.

McCall v. Carlson, et al., 172 P2d 171, 187-88 (Nev.1946).

Consequently, where the remedies available to a litigant are circumscribed by the boundaries

drawn at law, such as in a breach of contract case, principles of equity cannot create rights outside

those boundaries. See generally Swartz v. Atkins, 315 S.W.2d 393, 395 (Tenn.1958); Bedwell v.

Bedwell, 774 S.W.2d, at 956. The Missouri Court of Appeals succinctly stated the rule to be applied

in breach of contract cases. “The rights of the parties are to be determined from the contracts into

which they entered and the consequences ofthose contracts and not from some generalized concepts

of equity.” Norcomo Corp. v. Franchi Construction Co., Inc., 587 S.W.2d 311, 317 (Mo.Ct.App.

1979). This Court has held: “The essential elements of any breach of contract claim include (1) the

existence of an enforceable contract, (2) nonperformance amounting to a breach of the contract, and

(3) damages caused by the breach of the contract.” Custom Built Homes v. G.S. Hinsen Co., Inc.,

1998 WL 960287 (Tenn.Ct.App. Feb. 2, 1998) (citing LifeCare Ctrs. Of Am., Inc. v. Charles Town

Assoc’s. Ltd. Partnership, LPIMC, Inc., 79 F.3d 496, 514 (6 Cir.1996)). th
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However, the second remedy sought by the Complaint is for the Court to “. . . order a

dissolution, winding up and distribution of the assets of LifeMed in accordance with the LLC

Agreement and applicable law.” This is therefore a proceeding to dissolve an LLC by judicial

intervention. In such a proceeding, the court “. . . may grant any equitable relief it considers just and

reasonable in the circumstances . . .” Tenn.Code Ann. § 48-245-901.

Determining damages for breach of contract in this case is rendered difficult by the fact that

the managing member controlled the books and records of the LLC, wrote all of the checks, recorded

all of the income, did all of the bookkeeping, and provided all of the accountings under its

Management Contract. Nevertheless, it must abide by the Management Contract.

In addressing the duties of the managing partner of an LLC, it must be recognized that the

LLC is still in its relative infancy. This Court has observed:

The LLC is a relatively new form of business entity, a hybrid which

“incorporates certain beneficial aspects of a partnership with certain beneficial

aspects of a corporation.” Annotation, Construction and Application of Limited

Liability Company Acts, 79 A.L.R.5th 689. This A.L.R. annotation contains the

following helpful observations:

It is important to keep the history of LLC development in

perspective when working with LLCs and court interpretations of

LLC acts. . . . The typical LLC act is usually a hybrid of

provisions culled from the individual state’s partnership statutes and

business corporation law.

* * *

[W]hen a court is interpreting an LLC act or agreement, the court will

focus on the particular aspect of the LLC that gives rise to the

problem, with emphasis on the foundational business form from

which that characteristic originated. Usually, the particular aspect can

be traced to either the corporate components or the partnership

components of the LLC act or agreement. In such cases where the

characteristic originated from the partnership aspects of the LLC, the

court will use the established princip[le]s and precedent of the

partnership law to resolve the issue . . . In such cases where the

characteristic originated from the corporate aspects of the LLC, the

court will utilize the established princip[le]s and precedent of

corporate law to resolve the issue. 79 A.L.R. 5th at page 698.

Anderson, et al. v. Wilder, et al., 2003 WL 22768666 * 3-4 (Tenn.Ct.App. Nov. 21, 2003).
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Borrowing from partnership law and under the terms of the Management Contract, LifeMed,

LLC was entitled to a proper accounting by its managing partner. Fulcher v. Allen, 2 S.W.3d 207,

218 (Tenn.Ct.App.1999).

As held by the Supreme Court of Illinois:

As the managing partner who was admittedly responsible for virtually all of

the financial aspects of the partnership, defendant had a duty, as trustee, to maintain

regular and accurate records and to account for partnership transactions. (Altschuler

v. Altschuler (1951), 410 Ill. 169, 177-78, 196-97, 101 N.E.2d 552; see also Bakalis

v. Bressler (1953), 1 Ill.2d 72, 78-79, 115 N.E.2d 323. Einsweiler v. Einsweiler

(1945), 390 Ill. 286, 293, 61 N.E.2d 377; Wylie v. Bushnell (1917), 277 Ill. 484, 491,

115 N.E. 618; Ill.Rev.Stat.1981, ch. 1061⁄2, pars. 20, 21(1), 22.) All doubts and

obscurities created by his own negligent failure to keep adequate records were

properly resolved against him by the trial court. Altschuler v. Altschuler (1951), 410

Ill. 169, 196-97, 101 N.E.2d 552; Crimp v. First Union Trust & Savings Bank (1933),

352 Ill. 93, 102, 185 N.E. 179; Crane & Bromberg, Partnership sec. 66, at 384

(1968).

Couri v. Couri, 447 N.E.2d 334, 337 (Ill.1983); see also Glazer v. Kurman, 120 A.2d 892, 894

(Penn.1956).

The breach of contract by AMC-TN has been plainly established and the difficulties in

establishing damages are caused by the inaccurate accountings made by AMC-TN, the misstatement

of LifeMed, LLC’s true financial condition, and the failure to manage the LLC’s business in

accordance with the requirements of the Management Contract.

The courts will allow recovery even if it is impossible to prove the exact

amount of damages from the breach of contract. Otherwise, in certain instances, the

courts would be powerless to help some wronged parties. “Exact justice is not

always attained, and the law does not require exactness of computation in suits that

involve questions of damages growing out of contract of tort.” [sic] Provident Life

and Accident Ins. Co. v. Globe Indemnity Co., 156 Tenn. 571, 576, 3 S.W.2d 1057

(1928). In Coverdell v. Mid-South Farm Equipment Assoc., Inc., 335 F.2d 9 (6th

Cir.1964), the court applied Tennessee law to determine that an insurance company

agent who was informed by trustees of the defendant corporation that he had been

hired under a personal service contract to organize their group insurance, worked an

entire weekend on the project, and cancelled an appointment in Texas was damaged

when the trustees gave the contract to another agent. Uncertain and speculative

damages are prohibited only when the existence of damage is uncertain, not when the

amount is uncertain. When there is substantial evidence in the record and reasonable

inferences may be drawn from that evidence mathematical certainty is not required.

Id. at 14.
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Cummins v. Brodie, 667 S.W.2d 759, 765 (Tenn.Ct.App.1983).

From a review of the record in this case, it would appear that the shortages in inventory

within the “pharmacy-within-a-pharmacy” may not have resulted in substantial losses to LifeMed,

LLC since AMC-TN, independently of the joint venture, appears to have chosen to absorb these

losses. The real damages occur from the failure of AMC-TN to timely collect its expenses and

management fees in the amount of $538,151, which was clearly in breach of the contract. It further

appears that the overvaluation of accounts receivable was approximately $380,000. These damage

amounts appear to be recoverable by LifeMed, LLC from AMC-TN.

Since the trial court determined the case on the basis of breach of fiduciary duty, negligent

misrepresentation, and breach of contract, and this Court has sustained the action only on breach of

contract in favor of LifeMed, LLC only, review of the trial court’s findings is somewhat complicated.

The final judgment of the trial court provided:

33. Damages are difficult to calculate in this case due to the state of

LifeMed’s books. The Court is guided through the end stages of the limited liability

company’s life somewhat by partnership principles. See Harwitz v. Padden, 581

N.W.2d 359, 362 (Minn. Ct. App. 1998). In particular, all doubts regarding the

division of the firm’s remaining assets well be resolved against the member

responsible for haphazard and misleading accounting practices. See, e.g., Wilson v.

Moline, 38 N.W.2d 201, 207 (Minn. 1949).

34. On this standard, the Court has little difficulty concluding that

LifeTrust and ARC-LifeMed have been damaged to the extent of their initial capital

contributions of $200,000 and $300,000, respectively. The record contains abundant

evidence that these members would have voted to dissolve the limited liability

company upon learning that their equity was in danger.

35. The record reflects that LifeMed presently has available cash of

$686,439.00 and is subject to a third-party property tax claim of $1,135.00. The tax

claim shall be paid from the available cash. Thereafter, the non-managing members

capital contributions shall be returned to them. After return of the non-managing

members’ capital contributions and payment of the taxes, the limited liability

company is left with $185,304.00. The Court holds that AMC-TN is entitled to a

return of its actual capital contribution of $150,000 from this sum. The remaining

$35,304.00 is to be divided pro rata among the parties according to their initial

capital contributions. Although the LLC Agreement provides for the parties to divide

LifeMed assets equally, AMC-TN itself has proposed a pro rata distribution (Ex. 39),

and the Court concludes that such a distribution is more equitable in light of AMCTN’s conduct. Thus, the parties shall receive in addition to their capital

contributions:
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LifeTrust: $10,862.77

ARC-LifeMed 16,294.15

AMC-TN 8,147.08

36. It is also represented that there are hard assets consisting primarily of

medical carts which belong to the joint venture. The Court has heard no credible

evidence regarding the value of those carts. In view of the fact that the carts are

depreciating assets, the Court concludes that the time and expense required to

determine their value and ownership would not be warranted from a cost-benefit

standpoint. Accordingly, the carts shall be awarded and remain in the possession of

whichever party currently has them.

37. It is also represented that there is a (sic) outstanding account payable

of approximately $25,000 owed by the plaintiff LifeTrust to the defendant joint

venture LifeMed. The only testimony offered on this subject was the testimony of

Ms. Frazier, unsupported by any documentation. A representative of LifeTrust

disputes the payable. The Court concludes that there is insufficient evidence to

support the existence of the alleged payable and makes no findings as to the merit of

that claim.

38. At the suggestion of the plaintiffs, the uncollected accounts receivable

remaining on LifeMed’s books, estimated by AMC-TN to be approximately

$200,000.00 are awarded to AMC-TN. The defendant shall benefit from any

collection efforts it cares to make.

As can readily be seen, the trial court holds that AMC-TN has materially breached the

contract to the detriment of LifeMed, LLC, but does not make an award of compensatory damages

before proceeding to a judicial distribution of net assets in conformity with the prayer of the

Complaint for judicial dissolution of LifeMed, LLC.

The primary relief sought in the Complaint was “To the extent that LifeTrust and ARCLifeMed are not made whole from the distribution from LifeMed, award a judgment in favor of

LifeTrust and ARC-LifeMed against AMC-TN for such amounts together with interest to make them

whole from their investments.”

The holding of the trial court results in fulfillment of the primary relief sought by LifeTrust

and ARC-LifeMed. While the proof as to the failure to collect timely fees and expenses and the

overvaluation of accounts receivable might, upon close analysis, sustain damages more or less in

favor of LifeMed, LLC than the judgment of the trial court ultimately determined in the distribution

made upon dissolution, we are content with the result reached by the trial court, which is in effect

a judgment for LifeMed, LLC in the amount of $538,151. This is the exact amount of the expense

and management fees not timely collected by AMC-TN in breach of the Management Contract and

the amount disallowed as a claim against LifeMed, LLC in the counter complaint of AMC-TN. This
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recovery for breach of contract would leave, in the hands of LifeMed, LLC, the approximate

$675,000 equitably divided by the court in its ultimate distribution to the three joint venturers under

the Decree of Dissolution fashioned by the trial judge. The end result is that LifeMed, LLC is

absolved in the breach of contract claim of $538,151 claimed by AMC-TN as management fees.

Therefore, in the equitable distribution on dissolution of the LLC, each of the LifeMed, LLC

members receives its initial contribution plus a pro rata share of anything left, which is after all the

primary relief sought in this first place. For reasons stated, we affirm the judgment of the trial court

with respect to all issues involving breach of contract and, on the basis stated herein, damages and

dissolution distribution.

VI. PREJUDGMENT INTEREST

All parties in this action were hampered by the paucity of case law providing guidance

relative to limited liability companies which have existed for barely a decade in Tennessee. The trial

court has found no intentional wrongdoing on the part of AMC-TN, and we agree with that finding.

While the breach of contract by AMC-TN resulted in damages to LifeMed, LLC, the record reveals

clearly that such breach of contract was not the only causative factor in the failure of LifeMed, LLC.

All of the members overestimated the participation that they could achieve in the assisted living

facilities which depended not upon the singular judgment of the particular assisted living facility,

but rather the voluntary participation of individual residents. AMC-TN has prevailed on appeal on

all issues except the breach of contract. Applying the principles in Myint v. Allstate Insurance Co.,

970 S.W.2d 920 (Tenn.1998), we have determined that LifeMed, LLC is not entitled to prejudgment

interest.

The judgment of the trial court as to breach of fiduciary duty and negligent misrepresentation

is reversed. The judgment of the trial court as to the award of prejudgment interest is reversed. In

all other respects, the judgment of the trial court as modified herein is affirmed. The case is

remanded to the trial court for such further proceedings as may be necessary.

Costs of appeal are assessed against AMC-TN.

___________________________________ 

WILLIAM B. CAIN, JUDGE