Tuesday, May 05, 2015

Subsidiary of Deadlocked Company Could Seek Dissolution in Equity

By Lene Powell, J.D.

In a petition to dissolve a deadlocked company, the Delaware Court of Chancery held that although a subsidiary lacked standing to bring a petition for statutory dissolution under the Delaware Limited Liability Company Act, it could bring a petition for dissolution in equity. Without intervention, an inequitable situation would persist that unfairly advantaged one of the parties and did not reflect the parties’ relationship as equal business partners (In re Carlisle Etcetera, April 30, 2015, Laster, J.)

Background. Carlisle Etcetera LLC is a Delaware limited liability company formed in 2012 by petitioner Well Union Capital Limited (WU Parent) and respondent Tom James Company (James). After forming the company, the parties executed an initial operating agreement. Soon after, WU Parent assigned its member interest to a wholly owned subsidiary called Well Union U.S. Holdings, Inc. (WU Sub). James knew about the transfer, did not object, and treated WU Sub as a member. Following the assignment, the parties drafted a revised operating agreement that recognized WU Sub as a member.

Before the revised operating agreement could be finalized, the relationship between the parties soured, resulting in deadlock. Both sides recognized that one side needed to buy out the other, but could not agree on a price or procedure. James saw no urgency to act, as it was in an advantaged position because Carlisle’s CEO was appointed by James, and with the board deadlocked, operated free from oversight. WU Sub petitioned to dissolve the company. James moved to dismiss, arguing that the subsidiary lacked standing to petition for statutory dissolution under Section 18-802 of the LLC Act because WU Sub was an assignee, not a member.

Statutory dissolution not available. The court agreed that WU Sub lacked standing to dissolve the company under Section 18-802 of the LLC Act. The statutory language limited the right to “members and managers” of an LLC. The operating agreement made clear that the Board, acting collectively, was the manager of the company. WU Parent was not a member because it had assigned all its interest to WU Sub.

The question of whether WU Sub was an assignee or member was a little more complex. The court determined that WU Sub was only an assignee. First, Section 18-702(b)(1) provides that an assignee is not a member unless specified in the LLC agreement, and the initial operating agreement did not specify that WU Sub was a member. Second, WU Sub was not admitted as a member because admission requires formal action such as a vote or written consent, and James did not take any such action.

Because neither WU Parent nor WK Sub was a member of the LLC, the petitioners lacked standing to bring a petition for statutory dissolution under Section 18-802.

Dissolution in equity. After analyzing its jurisdiction, the court decided that Section 18-802 did not provide the exclusive method for dissolving an LLC, because the court had equitable jurisdiction to hear the petition for dissolution.

Although previous cases established that parties to an LLC agreement can waive by contract the right to seek statutory dissolution under Section 18-802, this ability to waive dissolution did not extend to a party’s standing to seek dissolution in equity, in the court’s view. An LLC agreement is not an exclusively private contract among its members, because the LLC has powers that only the State of Delaware can confer. Therefore, dissolution is also not a purely private affair, and the State of Delaware retains an interest in having the Court of Chancery available to hear a petition to dissolve an LLC when equity demands.

This was a case in which equity should intervene, said the court. Without dissolution, the petitioners would be locked-in as a silent and powerless passive investor, which was contrary to the bargain the parties struck. The parties contributed equal amounts of capital and formed the company as equal business partners. If the collapse of the relationship had not derailed the finalization of the revised operating agreement, WU Sub would have been formally recognized as a member rather than assignee. As the court explained, equity attempts to enforce rights that spring from the “real relationship” of the parties, and the real relationship of the petitioners and respondents was a joint venture in which they were equal participants. Accordingly, in good conscience, WU Sub should be regarded as a member with the power to seek dissolution, the court concluded.

Because WU Sub had standing to seek dissolution in equity, the court denied the motion to dismiss.

The case is No. 10280-VCL.