Delaware Chancery Court Addresses Obligation to Set Aside Reserves for Known Claims;“Undissolved” to LLCs so Creditor Claims May be Pursued

Delaware Chancery Court Addresses Obligation to Set Aside Reserves for Known Claims; “Undissolved” to LLCs so Creditor Claims May be Pursued

Yesterday, the Delaware Court of Chancery (Vice Chancellor Glasscock) issued an opinion addressing the obligation of an LLC to set aside reserves to satisfy likely claims. In this instance, the LLCs had dissolved and set aside nothing in the way of reserves to satisfy reasonably expected claims from some former members dissatisfied with the appraisal methodology utilized to determine their redemption price. Vice Chancellor Glasscock found that the zero reserve was inappropriate, and on that basis “undissolved” the LLCs. Capone v LDH Management Holdings, LLC, C.A. No. 11687-VCG (Del. Ch. April 25, 2018).

The plaintiffs in this action have been executive officers of defendant LDH. After termination of employment, LDH was entitled to redeem their interests in the company pursuant to a valuation performed as of the last day of the prior year. In this instance, however, LDH jumped the gun and performed the valuation before the end of the year. That valuation came it at essentially $1.4 billion.  However, an essentially contemporaneous offer to sell part of the company received significantly higher valuations. The plaintiffs objected that those higher valuations, determined by what third parties would actually pay for the business, should have been taken into account in the valuation.  Specifically, they asserted that the failure to consider those offers would violate the board’s obligation that they determine the value “in good faith” as specified in the operating agreement.

The Delaware LLC Act sets forth a detailed process for the dissolution of an LLC. One of those requirements, set forth at section 18-804(b)(3), requires that the LLC:

Make such provision as will be reasonably likely to be sufficient to provide compensation for claims that have not been made known to the limited liability company or that have not arisen but that, based on facts known to the limited liability company, are likely to arise or to become known to the limited liability company within 10 years after the date of dissolution.

Otherwise, the LLC Act requires as well that:

A limited liability company which has dissolved … shall pay or make reasonable provision to pay all claims and obligations, including all contention, conditional or un-matured contractual claims, known to the limited liability company.

Del. LLC Act § 18-804(b)(1).

The bulk of the opinion was then devoted to whether the complaints made by the plaintiffs over a series of emails and phone calls with respect to the valuation methodology employed by the company put it on notice of the claims. The court ultimately determined that the company had notice of the potential claims and had acted inappropriately in setting aside a zero reserve based thereon. The ultimate merits of that claim will be resolved in litigation already pending in New York.

What Vice Chancellor Glasscock did order was that the certificates of cancellation filed with respect to the subject LLCs be in effect withdrawn and the LLCs reinstated. This is necessary in that, under Delaware law, once a certificate of cancellation is filed, no suits can be brought by or against of the LLC. With those certificates of cancellation now no longer in effect, the LLCs continue in existence, and the New York lawsuit may proceed.

FYI, Kentucky does not have the concept of a certificate of cancellation, and a dissolved LLC may continue to sue or be sued after its dissolution.