Author: Annamarie Larson

EQUITABLE RELIEF GRANTED TO STOP BOARD COUP

By David L. Forney and Annamarie C. Larson

In a Memorandum Opinion, Palisades Growth Capital II, L.P. v. Alex Bäcker and Ricardo Bäcker and QLess, Inc. (Del. Ch. C.A. No. 2019-0931-JRS) the Delaware Court of Chancery found that actions taken at a board meeting were void because the defendant acted inequitably by formulating a secret plan to deceive the other board members into attending the meeting and then seized control.  The Court stated that it will not sanction inequitable action by corporate fiduciaries simply because their act is legally authorized.  The Court found that, while the defendants’ actions were technically authorized in the Company’s Charter and Bylaws, they took affirmative action to mislead the other board members in order to take control. 

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LIMITED PARTNERSHIP IS DISSOLVED BECAUSE IT CANNOT FULFILL ITS PURPOSE

By Scott E. Waxman and Annamarie C. Larson

In GMF ELCM Fund L.P. et al v. ELCM HCRE GP LLC et al, C.A. No. 2018-0840-SG (Del. Ch. August 7, 2019), the Delaware Court of Chancery granted a petition for dissolution of a Delaware limited partnership, ELCM Healthcare Real Estate Fund LP (the “Fund”), because the principal of the general partner, Andrew White, was unwilling or unable to conduct the business of the Fund to fulfill the purpose set forth in its limited partnership agreement.

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PLAINTIFF ALLEGED FACTS SUFFICIENT TO SUPPORT CLAIMS AGAINST DEFENDANTS TO SURVIVE A MOTION TO DISMISS

By Annette E. Becker and Annamarie C. Larson

In Chester County Employees’ Retirement Fund v. KCG Holdings, Inc. et al, C.A. No. 2017-0421-KSJM (Del. Ch. June 21, 2019), the Delaware Court of Chancery denied the defendants’ motion to dismiss claims of breach of fiduciary duty, aiding and abetting, and civil conspiracy brought against the largest stockholder of KCG Holdings, Inc. (“KCG”), its directors, and its long time financial advisor for failure to maximize value for KCG stockholders when negotiating the merger transaction due to certain actions taken by influencers during the sale process.  The Court held that the plaintiff stockholders adequately pled their claims against the defendants to avoid dismissal of claims. 

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WITHDRAWN LIMITED PARTNER IS NOT ALLOWED TO INSPECT BOOKS AND RECORDS

By Scott E. Waxman and Annamarie C. Larson

In Harry Greenhouse v. Polychain Fund I LP and Polychain 2030, LLC, C.A. No. 2018-0214-JRS (Del. Ch. May 29, 2019), the Delaware Court of Chancery held that a withdrawn limited partner no longer retains an equity interest in the partnership and therefore is not entitled to inspect the partnership’s books and records.

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VALUING A CONSULTING FIRM AFTER A KEY PERSON DEPARTURE

By Scott E. Waxman and Annamarie C. Larson

In a post-trial Memorandum Opinion, Neil Smith and NTS, LLC v. Promontory Financial Group, LLC and Promontory Growth and Innovation, LLC, C.A. No. 11255-VCG (Del. Ch. April 30, 2019), the Delaware Court of Chancery rejected both the asset accumulation and the discounted cash flow methods of valuation, instead adopting the buyout value the parties tentatively negotiated prior to the key person’s departure. 

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INSPECTION RIGHTS ARE NOT GRANTED FOR FISHING EXPEDITIONS

By Scott E. Waxman and Annamarie C. Larson

In David A. Hoeller v. Tempur Sealy International, Inc., C.A. No. 2018-0336-JRS (Del. Ch. February 12, 2019), the Delaware Court of Chancery denied a shareholder’s request to inspect the Company’s books and records, because he failed to provide a credible basis to suspect mismanagement or wrongdoing. 

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FOR CAUSE REMOVAL MUST BE FOR CAUSE

By Scott E. Waxman and Annamarie C. Larson

In A&J Capital, Inc. v. Law Office of Krug, Civil Action No. 2018-0240-JRS (Del. Ch. January 29, 2019), the Delaware Court of Chancery granted an LLC manager a final declaratory judgment that the manager had been improperly removed, and the Court ordered immediate reinstatement of the manager.  In short, if a Delaware LLC’s operating documents only allow “for cause” removal of the manager, then the manager cannot be removed “on a whimsy” by the members who then manufacture cause after-the-fact to justify the removal.

Plaintiff A&J Capital, Inc. (“A&J”) was selected as the manager of LA Metropolis Condo I, LLC, a Delaware limited liability company (the “Company”). The Company was organized to raise $100 million from 200 Chinese nationals so they could become United States lawful permanent residents through the EB-5 program. The capital was invested in a construction loan for the development of real estate in downtown Los Angeles, and the loan was extended to Greenland LA Metropolis Development I, LLC (“Greenland”).

When the real estate project was substantially completed, funds from the sale of the condominium units were released to a pledge account in Greenland’s name for the benefit of the Company. Greenland approached A&J with an offer to repay the loan before its maturity date in order to free up capital to redeploy for other projects. Also, the amount in the pledge account could foreseeably exceed the principal of the loan, potentially violating the members’ EB-5 requirements. Greenland and A&J negotiated a prepayment plan and a $1 million prepayment fee for A&J, in exchange for A&J foregoing $1.6 million in management fees that it would otherwise receive at maturity of the loan.

A&J notified the members of the prepayment plan and the prepayment fee and requested the members’ approval. Any member’s abstention from voting was counted as a vote in favor of the plan. The members ultimately rejected the plan, as Greenland had a change of heart and became concerned that A&J would not commit the redeployed funds to Greenland on favorable terms.

Pursuant to the Management Agreement between A&J, the Company, and its members, the manager may be removed only by a majority vote of the members for gross negligence, intentional misconduct, fraud, or deceit. Other documents such as the Private Placement Memorandum support this standard.

James Krug, attorney for some of the members and defendant in this case, sent a removal ballot to the members, asking them to vote for (1) removal of A&J as manager and (2) election of Mr. Krug as the new manager. Importantly, the removal ballot did not state the basis for removal. Out of 200 members, 105 members voted to remove A&J; however, the authenticity of the ballots was questionable. A&J brought this suit to request that it be reinstated as manager.

Mr. Krug made two arguments that A&J violated the required standard of conduct. First, he argued that A&J’s request for a prepayment fee plus the structure of the first vote revealed fraudulent intent. The Court rejected this argument, because A&J unabashedly disclosed to the members the reasons for the prepayment plan and fee and made clear that it was up to the members to decide whether to approve the proposal. Ultimately, the members voted to reject the proposal.

Second, Mr. Krug argued that A&J made improper payments to its strategic partner, Henry Global. The Court quoted language from the Operating Agreement allowing the manager to enter into agreements it reasonably deems appropriate for any purpose beneficial to the Company. The Court found that Henry Global provided significant services to the Company, including organizing conferences with potential investors, translating loan documents, assisting investors with their immigration applications, traveling with investors outside of China to open escrow accounts, and assisting with currency transfers. The Court emphasized that Henry Global was not paid out of the members’ initial $100 million investments, rather out of the interest income, and that the members themselves were not able to receive a high amount of interest due to the structured purpose of the EB-5 investment program. Finally, the Court noted that A&J ordered an independent accounting firm to review the Company’s financial statements, including payments to Henry Global, and A&J later distributed such statements to the members.

The Court held that a “for cause” removal was not warranted and therefore reinstated A&J as manager of the company. One footnote explains, “a holding that would allow removal for any reason unearthed after the fact of removal would circumvent the for-cause contractual predicate for which A&J bargained. And it would deny the Members of the opportunity meaningfully to participate in the removal process because, by definition, their removal votes would not have been informed by the after-acquired evidence.”

MEMBER ENTITLED TO FAIR VALUE OF INTEREST UPON FORCED WITHDRAWAL

By Scott E. Waxman and Annamarie C. Larson

In Domain Associates, L.L.C. et al. v. Nimesh S. Shah (C.A. No. 12921-VCL), Vice Chancellor Lastor held that, in the absence of clear language in the limited liability company agreement, a withdrawn member of a venture capital fund’s management company is entitled to the fair value of his or her member interest, not simply the amount of the member’s capital account.

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CONSENT TO JURISDICTION DOES NOT EQUAL MANDATORY FORUM SELECTION

By Scott E. Waxman and Annamarie C. Larson

In In re Bay Hills Emerging Partners I, L.P., et al (C.A. No. 2018-0234-JRS), Vice Chancellor Slights denied the defendants’ motion to dismiss claims related to their “for cause” removal as general partners, instead staying the action pending resolution of the claims filed in a Kentucky court.  Regarding the forum selection issue, the Court of Chancery held that “the inclusion of the consent language and the lack of language indicating that Kentucky is the exclusive forum—such as by the use of the term ‘any’—[the LPA] does not contain clear language indicating that jurisdiction and venue must lie exclusively in Kentucky.”

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Conflict Transaction Cleansed By Master Limited Partnership’s Special Committee

By Scott E. Waxman and Annamarie C. Larson

In Employees Retirement System of the City of St. Louis v. TC Pipelines GP, Inc., et al, (C.A. No. 11603-VCG), Vice Chancellor Glasscock granted the defendant’s motion to dismiss claims relating to the purchase of pipeline assets from the general partner’s parent.  The Court of Chancery held that the transaction was “fair and reasonable” to the master limited partnership because it was approved by a special committee and that the general partner did not breach the implied covenant of good faith and fair dealing.  In this case, the Court of Chancery reaffirmed parties’ abilities to contract freely when forming alternative entities such as a master limited partnership and confirmed that judicial review of such contractual terms is very limited.

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Chancery Court Approves Books and Records Request of Person Wearing Both Member and Manager Hats and Confirms That Only One Proper Purpose Is Necessary

By Scott E. Waxman and Annamarie C. Larson

Plaintiff George Polk served dual roles in relation to RED Parent LLC (the “Company”). Polk was both a manager of the Company and an indirect owner of the Company through his interest in one of the Company’s members.  In RED Capital Investment L.P. v. RED Parent LLC, the court held that “[b]ecause Polk made a proper request in his capacity as Manager and stated a proper purpose, and because the requested information is within RED Parent’s control, he is entitled, pursuant to Section 18-305(b), to inspect the requested books and records.”

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