The story of the alter ego with an alter ego,begins in 2001 when the financial giant Lehman Brothers used $7 million to purchase an existing corporation named Ibex Capital Markets.
Almost immediately, for reasons that will become obvious in a moment, Lehman changed the name of Ibex to Hudson Castle. Despite the name change, Hudson remained a legally incorporated entity with its own separate identity and its own independent corporate status-well, sort of. It had incorporation papers, its own board, and its own employees-well, almost. It looked, acted, and operated like a stand-alone corporate entity, as long as no one looked closely at what it was doing. If someone had looked closely, however, a different picture would have emerged. That picture would have revealed that Hudson was almost totally dedicated to supporting Lehman Brothers. Apparently, this was no accident.
A memo written by a Lehman executive, the same Lehman executive who later became CEO of Hudson, revealed that one of Lehman's reasons for buying Hudson was to use it as a shield that would protect Lehman from a public relations disaster if any of Lehman's financial deals collapsed. The close relationship between Lehman and Hudson was hidden from Lehman's shareholders but was well knownby Lehman employees, especially since the new CEO at Hudson brought several Lehman employees along with him. The close relationship between Lehman and the Hudson alter ego was cemented by Lehman's control of Hudson's board of directors; by its ownership of 25 percent of Hudson's stock; by a contract that prevented Hudson from working with Lehman's competition, and by a series of alter-alter egos which worked for Hudson as it worked for Lehman. One of its key alter- alter egos was a Hudson alter ego named Fenway , which Hudson operated to benefit Lehman. Under Hudson's control Fenwaywould borrow money in order to lend that money to Lehman.
In one interesting deal, Lehman purchased Fenwaynotes that were worth more than $3 billion. Then Lehman used the notes to support a loan that Fenwaymade to Lehman that was secured by a Lehman investment in a West Coast firm that eventually failed. The use of alter egos is not wrong in and of itself. In fact, it can be a very creative process that permits a parent corporation to do a wide variety of things that it would not ordinarily be able to do on its own. Sometimes the alter ego even benefits if it maintains just enough independence to eventually step away from the parent. This is, in fact, what happened to Hudson which lives on even today, brokering the same kind of deals for other firms that it originally fashioned for Lehman, but in a much more independent way.
(See Louise Story and Eric Dash, "Lehman Channeled Risks Through ‘Alter Ego' Firm," The New York Times, April 13, 2010, p. 1.)
Opening Case Questions
1. What makes an alter ego an alter ego? Does the definition actually fit the Hudson entity discussed above? Why or why not?
2. Is the Fenway corporationan alter ego of Hudson or of Lehman and what difference would the difference make in this case? Explain.
3. Generally in a veil-piercing case, a plaintiff pierces the veil of the alter ego to reach the parent. In this situation, the alter ego has survived. Can veil piercing be reversed? Can a plaintiff pierce the veil of an insolvent parent to reach a financially healthy alter ego? Explain.
4. Would the instrumentality test work in this case to reach Lehman through Hudson? Why or why not? 5. Would the instrumentality test work in this case to reach Lehman through Fenway ? Why or why not? Would a plaintiff be forced to go through Fenway , to Hudson, to Lehman, or could Lehman be reached directly through Fenway ? Explain.