Kevin Capone v. LDH Management Holdings LLC

IN THE COURT OF CHANCERY OF THE STATE OF DELAWARE
KEVIN CAPONE and STEVEN )
SCHEINMAN, )
)
Plaintiffs, )
)
v. ) C.A. No. 11687-VCG
)
LDH MANAGEMENT HOLDINGS )
LLC, LDHMH MM, LLC, )
CASTLETON COMMODITIES )
INTERNATIONAL LLC (f/k/a LOUIS )
DREYFUS HIGHBRIDGE ENERGY )
LLC), TODD BUILIONE, GLENN )
DUBIN, GEORGE FERRIS, WILLIAM )
C. REED II, and JACQUES VEYRAT, )
)
Defendants. )
MEMORANDUM OPINION
Date Submitted: February 13, 2018
Date Decided: April 25, 2018
Daniel A. Dreisbach and Ryan P. Durkin, of RICHARDS, LAYTON & FINGER,
P.A., Wilmington, Delaware; OF COUNSEL: Brendan V. Sullivan, Jr., Stephen L.
Urbanczyk, Paul Mogin, Steven M. Cady, and Matthew H. Blumenstein, of
WILLIAMS & CONNOLLY LLP, Washington, DC, Attorneys for Plaintiffs.
Donald J. Wolfe, Jr., T. Brad Davey, and Seth R. Tangman, of POTTER
ANDERSON & CORROON LLP, Wilmington, Delaware; OF COUNSEL: Andrew
Ditchfield, David B. Toscano, Edward Fu, and Sagar D. Thakur, of DAVIS POLK &
WARDWELL LLP, New York, New York, Attorneys for Defendants.
GLASSCOCK, Vice Chancellor
This matter raises a discrete question under our LLC Act. The Plaintiffs were
unitholders in an LLC. Their equity was subject to a call, which the company made.
Contractually, the units were to be redeemed at a price derived from the value of the
LLC’s parent, as of the end of the preceding year. In making that valuation, the
Defendants—including directors and officers of the company and its parent—were
contractually required to act in good faith. The Defendants made the valuation using
information available as of the valuation date. After that date, however, but before
the valuation, a portion of the parent entity was sold for a price that suggested that
the valuation was grossly insufficient. One of the Plaintiffs made this precise
complaint to the Defendants shortly after the call was exercised. Subsequently, but
before the statute of limitations on the Plaintiffs’ claims had run, the LLC (and its
managing member, another LLC) were dissolved, and their assets were distributed
to the equity holders. Under the LLC Act, the dissolving entity must set aside a
reserve to satisfy, among other things, known claims. The amount of the reserve
must be reasonably likely to be sufficient to these ends. The Defendants, however,
failed to set aside a reserve for the Plaintiffs’ claims (or, looked at another way, set
a reserve of zero dollars). The Plaintiffs allege that the zero-dollar reserve was not
reasonably sufficient to their claims, and ask me to nullify the certificates of
cancellation so that they may proceed with these claims, currently pending in a court
in New York.
1
Because I determine that the dissolutions violated the requirement that a
reasonable reserve be created to address known claims, I grant the relief the Plaintiffs
seek here. My reasoning follows.
I. BACKGROUND
A. The Parties
Defendant Castleton Commodities International LLC, formerly known as
Louis Dreyfus Highbridge Energy LLC (“LDH”), is a Delaware limited liability
company.1 Castleton is a commodities trading company, and its principal place of
business is in Stamford, Connecticut.2
Defendants Todd Builione, Glenn Dubin, George Ferris, William C. Reed II,
and Jacques Veyrat served on the LDH Board of Directors at all relevant times. 3
Reed also served as LDH’s President and CEO, and Ferris was its CFO.4
In 2009, LDH formed Defendant LDH Management Holdings LLC
(“Management Holdings”), a Delaware limited liability company.5 As part of an
employee equity incentive plan, Management Holdings held a fifteen-percent profits
interest in LDH.6 Pursuant to the plan, LDH granted high-level employees
membership interests in Management Holdings; those interests were referred to as
1
Compl. ¶ 18.
2
Id. ¶¶ 4, 18.
3
Id. ¶¶ 19–23.
4
Id. ¶¶ 21–22.
5
Id. ¶ 16.
6
Id. ¶ 4; Cady Aff. Ex. 1, § 1.3.
2
“Units.”7 LDH created another entity, Defendant LDHMH MM LLC (“Managing
Member”), to serve as Management Holdings’ managing member. 8 Managing
Member was a wholly owned subsidiary of LDH.9 I refer to Management Holdings
and Managing Member as the “LLCs.”
Before his termination from LDH in January 2011, Plaintiff Kevin Capone
served as the company’s head trader.10 Plaintiff Steven Scheinman was fired from
LDH in December 2010, though his termination became effective in January 2011;
before then, he was the company’s General Counsel, Executive Vice President,
Chief Compliance Officer, and Corporate Secretary.11 Both Capone and Scheinman
held Units in Management Holdings under LDH’s equity incentive plan.12
Specifically, Capone held fifteen Units, representing 10% of Management Holdings’
outstanding Units, and Scheinman owned seven Units, representing 4.67% of the
outstanding Units.13 These equity interests gave Capone and Scheinman an indirect
profits interest in LDH of 1.5% and 0.7%, respectively.
7
Compl. ¶ 4.
8
Cady Aff. Ex. 1, at 9.
9
Id.
10
Compl. ¶ 14; Cady Aff. Ex. 42, at 54:18–20.
11
Compl. ¶ 15; Cady Aff. 48, at 6:5–7.
12
Cady Aff. Ex. 29, at CCIDEL_00004956.
13
Compl. ¶ 5; Cady Aff. Ex. 29, at CCIDEL_00004956.
3
B. Factual Background
1. The LLC Agreement
The underlying dispute in this case turns on the interpretation of several
related provisions of Management Holdings’ LLC agreement. When Capone and
Scheinman were awarded their Units, they signed Unit Award Agreements that
bound them to the LLC agreement.14 Under the LLC agreement, Management
Holdings had the right to redeem the Units of any LDH employee who was
terminated without cause.15 This call right was required to be exercised at “the Fair
Market Value for such Unit as of the last day of the last Fiscal Year preceding the
Fiscal Year in which the Call Notice is given.”16 Management Holdings redeemed
Capone and Scheinman’s Units on April 12, 2011, several months after they were
fired.17 Thus, the relevant “as of” date for determining those Units’ fair market value
was December 31, 2010.
The LLC agreement provided the following definition of fair market value:
“Fair Market Value” shall mean, with respect to a Unit of a particular
Series, the amount that would be distributed as of any relevant date if
(x) all of the assets of LDH and its subsidiaries had been sold at their
Gross Asset Value (adjusted immediately prior to such deemed sale by
the [Management Holdings] Board in good faith and in consultation
with the LDH Board), (y) the net proceeds of such sale (after payment
of any liabilities of LDH and its subsidiaries other than any liabilities
of LDH and its subsidiaries associated with the Plan Income or
14
E.g., Cady Aff. Ex. 2, at KC-000158.
15
Cady Aff. Ex. 1, § 7.4(b).
16
Id. § 7.4(c)(i).
17
Compl. ¶ 47.
4
Expense) had been distributed to the members of LDH (including the
Company) upon liquidation of LDH in accordance with the LDH
Agreement (assuming for this purpose that all Units are Vested Units),
and (z) the amount of such distribution to the Company had been
distributed to the Members in accordance with Section 8.3.18
The LLC agreement also stated that
[t]he Gross Asset Value of all Company assets shall be adjusted to equal
their respective gross fair market values as determined by the Managing
Member, immediately prior to the following times: . . . (ii) the
distribution by the Company to a Member of more than a de minimis
amount of Company assets as consideration for all or part of an interest
in the Company (including the redemption of all or any portion of a
Member’s Units).19
Finally, the LLC agreement provided that
[a]ll determinations of Gross Asset Value made by the Managing
Member shall be subject to the review and approval of the
[Management Holdings] Board. Determinations of Gross Asset Value
hereunder shall be made promptly following the relevant date and, to
the extent applicable, shall be based on the Company’s financial
statements for the fiscal quarter ending on such relevant date or during
which such relevant date occurs, unless otherwise determined by the
Board.20
2. LDH Explores a Sale of the Midstream Assets
As of the fall of 2010, LDH contained two separate divisions: the Midstream
Assets Business, which consisted of natural gas pipelines and storage facilities, and
18
Cady Aff. Ex. 1, at 7.
19
Id. at 8.
20
Id. The LLC agreement also provided that “[a]ny claim by a Participating Member, or any
beneficiary of a Participating Member or any other person having or claiming a right under this
Agreement or a Unit Award Agreement, may be asserted solely against [Management Holdings]
or the Managing Member, as applicable.” Id. § 9.9(a).
5
the Merchant Trading Business, which traded energy commodities through LDH’s
trading platform.21 In November 2010, LDH retained Goldman Sachs and Barclays
Capital to explore a sale of the Midstream Assets.22 The next month, on December
14, LDH sent a ninety-six page confidential information memorandum to potential
bidders for the Midstream Assets.23 That memorandum contained extensive
information about the Midstream Assets.24 The bidders used the memorandum to
formulate their bids, which were submitted on January 14, 2011.25
Even before the confidential information memorandum went out, however,
Energy Transfer Partners (“ETP”) had expressed interest in buying the Midstream
Assets. On November 30, 2010, Goldman Sachs reached out to several parties,
including ETP.26 Kelcy Warren, ETP’s CEO, responded to the inquiry by asking
whether LDH would “entertain a pre-empt.”27 Warren noted that ETP was
“considering many projects that would make this a very good fit,” and he indicated
that ETP “plan[ned] to be aggressive in this process.”28 The next day, Michael
Dowling, the head of the Midstream Assets Business, sent an email to LDH
Managing Director David Wallace, explaining that “Energy transfer would be a
21
Compl. ¶ 39.
22
Cady Aff. Exs. 5, 6.
23
Cady Aff. Ex. 14.
24
Id.
25
Cady Aff. Ex. 20; Cady Aff. Ex. 45, at 185:25–187:5
26
Cady Aff. Ex. 7.
27
Id. at CCIDEL_00001901.
28
Id.
6
perfect fit for our merchant. They have no liquids marketing and would likely be
interested in us partnering on projects.”29
About a week later, on December 10, Dowling followed up with Wallace and
Ferris: “This is the guy [ETP’s CEO] that asked if they can stop the process and go
exclusive. . . . As I stated before, it could be they think this [that is, agreeing to a
joint venture with LDH involving a fractionator] is a way to do an exclusive with us
as our assets and people are an excellent fit with them.”30 ETP reached out to LDH
again a few days later.31 Dowling informed Ferris and Wallace that ETP “would
like to go exclusive and [the CEO] asked about the possibility.”32 Dowling also
noted that he had told ETP to “continue communications with Goldman on the
topic.”33
Capone and Scheinman testified at their depositions that, in mid-December
2010, they learned that ETP was interested in buying the Midstream Assets for
around $2 billion. Capone said that two or three Houston-based LDH employees
had told him about a “rumor . . . that ETP [wa]s gonna pay close to $2 billion for . .
. this bunch of assets.”34 After returning to LDH’s headquarters in Connecticut,
Capone shared the rumor with several members of LDH management, including
29
Id. at CCIDEL_00001898.
30
Cady Aff. Ex. 11.
31
Cady Aff. Ex. 13.
32
Id.
33
Id.
34
Cady Aff. Ex. 42, at 139:5–141:7.
7
Ferris.35 Around the same time, Scheinman learned from Ferris that “ETP asked to
go exclusive and had proposed a number [that is, $2 billion].”36
3. LDH Performs Its Own Valuation of the Midstream Assets
On December 23, 2010, LDH finalized its own valuation of the Midstream
Assets Business and the Merchant Trading Business.37 The valuation was performed
as part of an issuance of a new series of Management Holdings Units; it was also
used by LDH’s auditors.38 Ferris, Wallace, and Herbert Quan (an LDH Vice
President) were responsible for creating the valuation,39 and the LDH Board
approved it.40 LDH valued the Midstream Assets using four methodologies: a
comparable companies analysis, a transaction multiples analysis, a discounted cash
flow (“DCF”) analysis, and a master limited partner yield analysis.41 Based on these
methodologies, LDH estimated that the Midstream Assets had an enterprise value of
$1.43 billion as of December 31, 2010.42 The valuation report also noted that
Goldman Sachs and Barclays Capital had estimated the Midstream Assets’
enterprise value to be between $1.3 billion and $1.6 billion.43
35
Id. at 148:7–10.
36
Cady Aff. Ex. 48, at 64:6–7, 64:13–14.
37
Cady Aff. Ex. 17.
38
Toscano Aff. Ex. 6, at 58:2–7.
39
Cady Aff. Ex. 45, at 168:16–21; Cady Aff. Ex. 46, at 14:8–14.
40
Cady Aff. Ex. 41, at 43:14–17, 44:21–45:4; Cady Aff. Ex. 45, at 212:15–213:15; Cady Aff. Ex.
49, at 23:23–25:2.
41
Cady Aff. Ex. 17, at 3–7.
42
Id. at 1, 3; Cady Aff. Ex. 45, at 192:9–21.
43
Cady Aff. Ex. 17, at 20.
8
The Plaintiffs take issue with several aspects of the December 23 valuation.
Their primary criticism is that the DCF analysis used higher discount rates (and
lower EBITDA multiples) than previous valuations. For example, in its November
30, 2010 DCF analysis, LDH used a discount rate of 8% to 10% and an EBITDA
multiple of 9.5 to 10.5 to value Mont Belvieu, the largest piece of the Midstream
Assets.44 As a result, the Midstream Assets were valued at between $1.65 billion
and $1.96 billion.45 By contrast, in the December 23 DCF analysis, LDH valued
Mont Belvieu using a discount rate of 10% to 12% and an EBITDA multiple of 7.5
to 8.5.46 The result was that the Midstream Assets were valued in the range of $1.33
to $1.61 billion.47 The Plaintiffs also point out that Dowling, who headed the
Midstream Assets Business, could not recall playing any role in generating the
December 23 valuation.48 And they complain that Ferris, who helped prepare the
valuation, could not recall whether it was required to be conducted in good faith.49
4. The Plaintiffs Are Fired, and the Sales Process Continues
As noted above, Capone was fired in January 2011, and Scheinman was
terminated in December 2010 (though the termination did not become effective until
44
Cady Aff. Ex. 15, at 21.
45
Id.
46
Cady Aff. Ex. 17, at 6.
47
Id.
48
Cady Aff. Ex. 43, at 102:22–103:19.
49
Cady Aff. Ex. 45, at 221:22–222:2. The Plaintiffs also point out that Highbridge Capital, one
of LDH’s owners, offered a slightly higher valuation of the Midstream Assets. Cady Aff. Ex. 18.
9
January 2011).50 Around the same time, LDH was continuing its efforts to auction
the Midstream Assets. On January 14, LDH received twenty-three conforming bids
for the Assets.51 The median bid was $1.8 billion, and all but one of the twenty-
three bids were higher than the $1.43 billion valuation LDH had placed on the
Midstream Assets on December 23.52 Goldman Sachs described the bids as
“preliminary indicative bids,” and they were not binding.53
About a week after the bids came in, Scheinman told Reed, LDH’s CEO, that
it was legal error not to take account of the bids in valuing the Midstream Assets.54
Scheinman also told Wallace that it was a mistake not to consider “third-party bids,”
and that “the company was obligated to be sure about this because the so-called
profits interest characterization of the units based on the IRS guidance required that
the Series 1 be fully valued before issuing Series 2.”55 Later, on January 25,
Scheinman sent an email to Reed and Wallace: “In the spirit of our ‘spirited debate’
yesterday, here are the Tax regulations governing the determination of FMV for
book-up purposes.”56 Wallace then emailed Reed to “suggest refraining from
50
Compl. ¶¶ 14–15.
51
Cady Aff. Ex. 20, at 4.
52
Id.
53
Toscano Aff. Ex. 15.
54
Cady Aff. Ex. 45, at 232:3–15; Cady Aff. Ex. 48, at 170:16–171:19.
55
Cady Aff. Ex. 48, at 209:20–210:2; see also Cady Aff. Ex. 50, at 42:25–43:19.
56
Cady Aff. Ex. 23.
10
continuing this dialogue.”57 Scheinman made the same argument about considering
third-party bids to John Damasco, LDH’s Tax Director.58
On January 28, Damasco sent an email to Wallace and Ferris, informing them
that he had “[s]poke[n] to Steve [Scheinman] last night at his farewell party and he
told me he wants to discuss the valuation issue with Bill [Reed] today. Steve also
indicated that Capone has the same valuation question.”59 Damasco labeled the
email “PRIVILEGED & CONFIDENTIAL ATTORNEY WORK PRODUCT.”60
The next month, on February 4, Capone wrote a letter to Reed in which he
expressed concern that “the Fair Market Value at 12/31/10 has been set exceedingly
low, especially in light of the bids for the assets that came in just a few days later.”61
Indeed, Capone said that “[i]f . . . the FMV has been significantly undervalued, it
would be devastating to the value of my interest in the equity plan and it is something
I would need to review and perhaps formally question.”62 Reed did not respond to
the letter.63
57
Id.
58
Cady Aff. Ex. 48, at 213:19–214:15.
59
Cady Aff. Ex. 24.
60
Id. (emphasis omitted). Damasco included the same label in another email in this chain. Id.
61
Cady Aff. Ex. 25, at KC-000227.
62
Id.
63
Cady Aff. Ex. 42, at 183:17–184:17.
11
5. The Midstream Assets Are Sold, and the Plaintiffs’ Units Are
Redeemed
On March 22, 2011, LDH sold the Midstream Assets to a joint venture
between ETP and Regency Energy Partners for $1.925 billion.64 Then, on April 12,
2011, the Defendants redeemed the Plaintiffs’ Units.65 For purposes of the
redemptions, the Defendants valued LDH as a whole at $1.744 billion, and the
Midstream Assets in particular at $1.43 billion.66 The valuations purported to be
based on the fair market value of LDH as of December 31, 2010.67 As the Plaintiffs
point out, however, $1.744 billion is about $200 million less than the $1.925 billion
ETP paid to acquire the Midstream Assets alone, and there is no evidence that the
Assets materially increased in value between December 2010 and March 2011.
On April 20, 2011, Scheinman sent Ferris an email asking for information
about how “the per Unit price of $780,919.29 was derived from the $1,744
million.”68 Ferris forwarded the email to Damasco, who then said that his “litigation
view would be to discuss verbally as opposed to written communication.”69 For his
part, Capone continued to reach out to Reed, sending a letter on May 17 in which he
expressed confusion about “how the low value of $1.744 billion could have been
64
Cady Aff. Ex. 27.
65
Cady Aff. Ex. 29, at CCIDEL_00004956–57; Toscano Aff. Exs. 16, 17.
66
Toscano Aff. Exs. 16, 17; Cady Aff. Ex. 45, at 193:14–19, 204:10–12.
67
Toscano Aff. Exs. 16, 17.
68
Cady Aff. Ex. 32, at 2.
69
Id. at 1.
12
reached given the fact that only one part of the Company was sold a few months
later for more than $1.9 billion.”70 While Reed did not respond to this letter,71 he
and Ferris met with several LDH employees (including an LDH lawyer) to discuss
it.72 Three days after this meeting, Capone sent a follow-up email to Reed, who
again did not write back.73 Capone then emailed Ferris, who responded by saying
that he was “a little puzzled why you feel the need to write letters and send detailed
emails to Bill [Reed].”74 Ferris nevertheless agreed to discuss Capone’s questions
over the phone.75
Capone and Ferris spoke over the phone on June 7, 2011.76 Ferris answered
some of Capone’s questions about the valuation, but the conversation quickly
became “almost a shouting match where [Ferris] told me to get off . . . my soapbox,
and to stop lecturing him or he was going to end the call right now and not give me
anymore [sic] information.”77 Capone testified that during the call he accused the
Defendants of “act[ing] in bad faith under the contract . . . [and] act[ing] with
malice.”78 Indeed, Capone “told [Ferris] I thought he had breached, very clearly.”79
70
Cady Aff. Ex. 34.
71
Cady Aff. Ex. 42, at 184:12–14.
72
Cady Aff. Ex. 35.
73
Cady Aff. Ex. 36; Cady Aff. Ex. 42, at 184:12–14.
74
Cady Aff. Ex. 38.
75
Id.
76
Cady Aff. Ex. 39; Cady Aff. Ex. 42, at 181:5–182:5.
77
Cady Aff. Ex. 42, at 181:11–18.
78
Id. at 181:19–21; see also Cady Aff. Ex. 39, at KC-000303.
79
Cady Aff. Ex. 42, at 188:6–7.
13
Capone further testified that he called Ferris “a liar and [said] he was cheating.”80
Ferris had a similar recollection of the conversation:
I remember reviewing the valuation methodology with him and, at the
end, having him accuse me of lying and cheating. And I use the word
“cheating” not as a specific reference of words that he said, but more
the accusation that the valuation was fixed at a level that he disagreed
with and that was done out of malice.81
Ferris later told Reed about his conversation with Capone.82
6. The LLCs Are Cancelled, and the Plaintiffs Pursue Litigation in
New York
On December 31, 2012, LDH was acquired by third-party investors and
renamed Castleton Commodities International LLC.83 That same day, Management
Holdings and Managing Member were cancelled.84 John Damasco, LDH’s Tax
Director, testified that the cancellations were part of the restructuring necessary to
consummate the acquisition.85 The Defendants did not notify the Plaintiffs of the
cancellations, and the Defendants did not reserve funds for Plaintiffs’ claims relating
to breach of the LLC agreement.86
80
Id. at 181:21–22.
81
Cady Aff. Ex. 45, at 242:25–243:9.
82
Id. at 244:2–3.
83
Capone v. Castleton Commodities Int’l, LLC, 2016 WL 1222163, at *3 (N.Y. Sup. Ct. Mar. 29,
2016), aff’d, 48 N.Y.S.3d 583 (App. Div. 2017).
84
Toscano Aff. Ex. 24.
85
Toscano Aff. Ex. 25, at 210:7–14.
86
Compl. ¶¶ 90, 94.
14
On May 21, 2015, the Plaintiffs sued Management Holdings, Managing
Member, and Castleton in New York state court for breach of contract, breach of the
implied covenant of good faith and fair dealing, and unjust enrichment. 87 The
Plaintiffs later amended their complaint, adding Builione, Dubin, Ferris, Reed, and
Veyrat as defendants, and seeking recovery “for contractual breaches, unjust
enrichment, torts, wrongful cancellation of Management Holdings and the Managing
Member, and clawback of the improper distributions and/or transfers of
Management Holdings’ and the Managing Member’s assets.”88 The Plaintiffs’
breach of contract claims rested on the allegation that the “Defendants failed to
determine in good faith the fair market value of LDH Energy and Plaintiffs’ Units.”89
On March 29, 2016, the New York court dismissed all of the Plaintiffs’ claims except
the breach of contract claims against the LLCs, which the court stayed pending a
ruling from this Court on the Plaintiffs’ claim for nullification of the cancellations.90
C. This Litigation
The Plaintiffs commenced this action on November 6, 2015, and they
amended their Complaint on July 5, 2016. Count I of the Complaint seeks an order
nullifying the cancellations of Management Holdings and Managing Member.91
87
Id. ¶ 96.
88
Id. ¶ 98.
89
Toscano Aff. Ex. 26, ¶ 101.
90
Capone, 2016 WL 1222163, at *10.
91
Compl. ¶¶ 101–04.
15
According to the Plaintiffs, the Defendants violated Delaware law by cancelling the
LLCs without setting aside a reserve for the Plaintiffs’ breach of contract claims.92
Count II seeks to hold the Defendants liable for that purported violation of Delaware
law.93 In Count III, the Plaintiffs seek to hold the Defendants “liable for clawbacks
up to the amount of any distributions they received [as part of the acquisition and
cancellations] in order to satisfy Plaintiffs’ claims against Management Holdings
and the Managing Member.”94 Finally, Count IV alleges that the Defendants
fraudulently transferred assets belonging to Management Holdings and Managing
Member in the course of winding up those entities.95
On December 2, 2016, I denied the Defendants’ Motion to Dismiss as to
Count I and asked the parties to confer about how the litigation should go forward.96
The parties then agreed that the Motion to Dismiss as to Counts II to IV would be
withdrawn without prejudice, and that discovery would proceed as to Count I. After
the completion of that discovery, the parties cross-moved for summary judgment on
the Plaintiffs’ nullification claim.97 I heard oral argument on those Motions on
92
Id. ¶ 103.
93
Id. ¶¶ 105–09.
94
Id. ¶ 120.
95
Id. ¶¶ 123–34.
96
Dec. 2, 2016 Oral Arg. Tr. 69:18–74:12.
97
According to the Defendants, a ruling in their favor on Count I necessarily means they win on
the remaining Counts. Because the Plaintiffs are entitled to summary judgment on Count I, I need
not address this issue.
16
February 13, 2018, during which the parties agreed that I could consider the Motions
submitted on a stipulated record.98
II. ANALYSIS
Under Court of Chancery Rule 56, summary judgment shall be granted if
“there is no genuine issue as to any material fact and . . . the moving party is entitled
to a judgment as a matter of law.”99 The moving party bears the initial burden of
demonstrating the “absence of a material factual dispute.”100 If the moving party
makes this initial showing, “the burden shifts to the nonmovant to present some
specific, admissible evidence that there is a genuine issue of fact for a trial.”101 In
reviewing a summary judgment motion, the Court “must view the evidence in the
light most favorable to the non-moving party.”102 Thus, the Court must deny a
request for summary judgment “if there is any reasonable hypothesis by which the
opposing party may recover, or if there is a dispute as to a material fact or the
inferences to be drawn therefrom.”103
Where, as here, the parties have filed cross-motions for summary judgment
and have not argued that a material issue of fact exists, “the Court shall deem the
98
Feb. 13, 2018 Oral Arg. Tr. 4:20–5:3.
99
Ct. Ch. R. 56(c).
100
In re Transkaryotic Therapies, Inc., 954 A.2d 346, 356 (Del. Ch. 2008) (quoting Levy v. HLI
Operating Co., 924 A.2d 210, 219 (Del. Ch. 2007)).
101
Id.
102
Merrill v. Crothall-American, Inc., 606 A.2d 96, 99 (Del. 1992).
103
In re El Paso Pipeline Partners, L.P. Derivative Litig., 2014 WL 2768782, at *8 (Del. Ch. June
12, 2014) (quoting Vanaman v. Milford Mem’l Hosp., Inc., 272 A.2d 718, 720 (Del. 1970)).
17
motions to be the equivalent of a stipulation for decision on the merits based on the
record submitted with the motions.”104 Nevertheless, “even when presented with
cross-motions for summary judgment, a court must deny summary judgment if a
material factual dispute exists.”105
A. Nullification
The parties have moved for summary judgment on the Plaintiffs’ nullification
claim. That claim seeks to revive the cancelled LLCs—Management Holdings and
Managing Member—so that the Plaintiffs can pursue their breach of contract claims
against those entities in New York.106 Specifically, the Plaintiffs argue that the
Defendants violated Section 18-804(b) of the Delaware Limited Liability Company
Act by cancelling the LLCs without setting aside a reserve to cover the Plaintiffs’
breach of contract claims. According to the Plaintiffs, at the time of cancellation,
the Defendants either knew of the claims or were aware of facts that made them
likely to arise. Either way, say the Plaintiffs, the Defendants improperly wound up
the LLCs, making it appropriate to nullify the certificates of cancellation. The
Defendants argue strenuously that the dissolutions were in compliance with the Act;
104
Ct. Ch. R. 56(h).
105
Bank of N.Y. Mellon v. Realogy Corp., 979 A.2d 1113, 1119 (Del. Ch. 2008).
106
As this Court has pointed out, Section 18-803(b) of the LLC Act “provides that suit generally
may be brought by or against a limited liability company only until the certificate of cancellation
is filed.” Metro Commc’n Corp. BVI v. Advanced Mobilecomm Techs. Inc., 854 A.2d 121, 138
(Del. Ch. 2004).
18
they do not contest that, should I find that their actions violated the Act, nullification
of the cancellations is the appropriate remedy.
I turn first to the relevant provisions of the LLC Act. I then examine whether
the Plaintiffs have established that the LLCs were cancelled in violation of the Act.
1. Section 18-804(b)
Section 18-804 of the LLC Act governs the distribution of a dissolved LLC’s
assets. In particular, Section 18-804(b)(1) provides that “[a] limited liability
company which has dissolved” “[s]hall pay or make reasonable provision to pay all
claims and obligations, including all contingent, conditional or unmatured
contractual claims, known to the limited liability company.”107 Section 18-804(b)(3)
requires an LLC undergoing the wind-up process to
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.108
107
6 Del. C. § 18-804(b)(1).
108
Id. § 18-804(b)(3). Section 18-804(b)(2) provides that a dissolved LLC “[s]hall make such
provision as will be reasonably likely to be sufficient to provide compensation for any claim
against the limited liability company which is the subject of a pending action, suit or proceeding
to which the limited liability company is a party.” That provision is irrelevant here, because the
Plaintiffs’ breach of contract claims were not the subject of a pending suit or proceeding when the
LLCs were dissolved.
19
If an LLC is not wound up in accordance with the LLC Act, this Court “may nullify
the certificate of cancellation, which effectively revives the LLC and allows claims
to be brought by and against it.”109
Several features of these statutory provisions bear emphasis. First, Section
18-804(b)(1) is clear that a dissolved LLC must provide for all claims—“including
all contingent, conditional or unmatured contractual claims”—that are “known to
the limited liability company.”110 One leading treatise provides an illustrative
discussion of the LLC Act’s treatment of known claims:
One example of a contingent, conditional contractual claim is a right to
indemnification under the limited liability company agreement; under
many such indemnification provisions, the claim arises only if a
covered loss occurs and becomes an entitlement only if the would-be
indemnitee has satisfied an applicable standard of conduct. A
contingent or conditional claim against the limited liability company
must be accounted for under Section 18-804([b])(1) irrespective of the
likelihood that it will actually “vest.”111
Second, “claims” are not limited to purely contractual obligations; instead, they
“include, without limitation, contract, tort, or statutory (e.g., tax) claims against . . .
the limited liability company, whether or not . . . reduced to judgment.”112
109
Matthew v. Laudamiel, 2012 WL 605589, at *22 n.148 (Del. Ch. Feb. 21, 2012).
110
6 Del. C. § 18-804(b)(1) (emphasis added).
111
Robert L. Symonds, Jr. & Matthew J. O’Toole, Symonds & O’Toole on Delaware Limited
Liability Companies § 16.06[E][2][b][ii] (2d ed. 2016) (emphasis added). Nevertheless, as
discussed below, “[t]he probability of such vesting may be relevant . . . in determining whether
provision for payment . . . is reasonable.” Id.
112
Id.
20
Finally, the LLC Act provides some flexibility to those tasked with making
provision for a dissolved LLC’s claims and obligations.113 The Act “does not specify
a particular method by which the dissolved company must provide for claims and
obligations that it does not pay on a current basis.”114 Instead, “[t]he statute simply
sets forth a reasonableness standard by which any provision for payment is to be
evaluated.”115 Whether a provision for a particular claim is reasonable depends on
several factors, including “the potential amount of such [a] claim[] and the likelihood
of [it] actually becoming [a] liabilit[y] for which the company must answer.”116 “For
example, with respect to evaluation of claims, the minimal likelihood of a given
claim . . . actually arising or vesting could justify the reasonableness of making no
provision, or minimal provision, for payment thereof.”117 Likewise, a claim “might
be valued by applying a discount based on probability of success.”118 Statutory
flexibility notwithstanding, I must keep in mind Section 18-804’s underlying
113
Id. § 16.06[E][2][c][ii].
114
Id.
115
Id. § 16.06[E][2][c][iii]; see also 6 Del. C. § 18-804(b)(1) (requiring a dissolved LLC to make
“reasonable provision to pay” claims and obligations) (emphasis added); id. § 18-804(b)(2)
(requiring a dissolved LLC to make “such provision as will be reasonably likely to be sufficient
to provide compensation for” claims) (emphasis added).
116
Symonds & O’Toole, supra, § 16.06[E][2][c][iii].
117
Id.
118
Id.
21
purpose of providing “mandatory protection to creditors of a limited [limited
company] if the [limited liability company] dissolves and winds up its affairs.”119
2. The Plaintiffs’ Breach of Contract Claims
The first step in analyzing the Plaintiffs’ request for nullification is to
understand the claims for which the Defendants purportedly were required to make
provision. According to the Plaintiffs, the Defendants breached the LLC agreement
by redeeming the Plaintiffs’ Units based on a bad-faith estimate of LDH’s value as
of December 31, 2010. The LLC agreement gave Management Holdings the right
to redeem the Plaintiffs’ Units if the Plaintiffs were terminated without cause. The
redemption had to be based on the “Fair Market Value” of those Units as of
December 31, 2010.120 Under the LLC agreement, “Fair Market Value” meant,
with respect to a Unit of a particular Series, the amount that would be
distributed as of any relevant date [here, December 31, 2010] if (x) all
of the assets of LDH and its subsidiaries had been sold at their Gross
Asset Value (adjusted immediately prior to such deemed sale by the
[Management Holdings] Board in good faith and in consultation with
the LDH Board).121
The LLC agreement further provided that
119
Techmer Accel Holdings, LLC v. Amer, 2010 WL 5564043, at *7 (Del. Ch. Dec. 29, 2010).
Amer involved a limited partnership, not an LLC. Given the dearth of caselaw interpreting the
relevant provisions of the LLC Act, I may look to cases examining analogous statutory provisions
for guidance. See, e.g., In re Delta Holdings, Inc., 2004 WL 1752857, at *8 & n.54 (Del. Ch. July
26, 2004) (evaluating a corporation’s wind-up process by reference to a case involving a limited
partnership because “[t]he same considerations guiding the Court in that decision-the protection
of creditors in the end-game of an entity’s existence-guide the Court here”).
120
Cady Aff. Ex. 1, § 7.4(c)(i).
121
Id. at 7 (emphasis added).
22
Gross Asset Value . . . shall be [determined] promptly following the
relevant date [here, December 31, 2010] and, to the extent applicable,
shall be based on the Company’s financial statements for the fiscal
quarter ending on such relevant date or during which such relevant date
occurs, unless otherwise determined by the Board.122
The Defendants redeemed the Plaintiffs’ Units in April 2011. For purposes
of the redemptions, the Defendants valued LDH as of December 31 using only the
information contained in the December 23 valuation. Thus, the Defendants valued
LDH as a whole at $1.744 billion, and they valued the Midstream Assets in particular
at $1.43 billion. The problem, according to the Plaintiffs, is that between December
23, 2010, and April 2011, highly probative evidence emerged that, as of December
31, the Midstream Assets were worth almost half a billion dollars more than the
value used to redeem the Units. Specifically, on January 14, 2011, LDH received
twenty-three bids for the Midstream Assets, and the median bid was $1.8 billion.
Indeed, twenty two of those bids were higher than $1.43 billion. And in March 2011,
LDH sold the assets to a joint venture for $1.925 billion. Notably, the record is
devoid of evidence that the Midstream Assets materially increased in value between
December 2010 and March 2011.
The Plaintiffs argue that the Defendants breached the LLC agreement by
refusing to take account of this market evidence in redeeming the Units. The
Plaintiffs focus on the LLC agreement’s requirement that Management Holdings
122
Id. at 8.
23
“adjust[] [the Gross Asset Value of LDH’s assets] immediately prior to [the] deemed
sale . . . in good faith.”123 By the Plaintiffs’ lights, a good-faith valuation of LDH
could not ignore market evidence suggesting that the Midstream Assets were worth
far more than the December 23 valuation implied.124 The Plaintiffs also draw
attention to the LLC agreement’s requirement that the determination of gross asset
value be made “promptly following the relevant date [here, December 31].”125 The
Defendants purportedly violated that provision by determining gross asset value on
December 23, over a week before the relevant date. According to the Plaintiffs, the
Defendants knew that bids probative of fair market value would arrive in January,
so they performed the valuation ahead of the schedule established by the LLC
agreement.
3. Were the Defendants on Notice of the Plaintiffs’ Claims?
I now turn to the question whether the Defendants were aware of the
Plaintiffs’ breach of contract claims in December 2012, when the LLCs were
dissolved. Section 18-804(b)(1) requires that provision be made for claims “known
to the limited liability company.”126 The LLC Act defines “knowledge” “as a
person’s actual knowledge of a fact, rather than the person’s constructive knowledge
123
Id. at 7 (emphasis added).
124
The Plaintiffs additionally argue that it was improper for LDH to ignore the December 2010
rumor that ETP was interested in buying the Midstream Assets for around $2 billion.
125
Id. at 8.
126
6 Del. C. § 18-804(b)(1).
24
of the fact.”127 Thus, “known claims and obligations [are] limited to those of which
the limited liability company has actual, rather than constructive, knowledge.”128 In
my view, the record is clear that the Defendants, including LDH’s CEO, were aware
of the Plaintiffs’ claims for breach of contract when the LLCs were cancelled.129
a. Capone
Even before his Units were redeemed in April 2011, Capone was objecting to
LDH’s valuation of its assets. On February 4, he wrote Reed, LDH’s CEO, to stress
the importance of ensuring “a fair result” with respect to “the equity plan.”130
Capone was “worried that the Fair Market Value at 12/31/10 has been set
exceedingly low, especially in light of the bids for the [Midstream Assets] that came
in just a few days later.”131 Capone further suggested that if LDH had in fact been
“significantly undervalued, it would be devastating to the value of my interest in the
equity plan and it is something I would need to review and perhaps formally
question.”132
127
Id. § 18-101(5).
128
Symonds & O’Toole, supra, § 16.06[E][2][b][ii].
129
Because I find that the Defendants were aware of the Plaintiffs’ claims under Section 18-
804(b)(1), I need not decide whether the Plaintiffs have also established an improper cancellation
under Section 18-804(b)(3), which covers “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.” 6 Del. C. § 18-
804(b)(3).
130
Cady Aff. Ex. 25, at KC-000227.
131
Id.
132
Id.
25
Capone continued to complain about the valuation after his Units were
redeemed. On May 17, he wrote another letter to Reed, seeking information that
would clarify “the basis for the amounts I have been paid and that I am to be paid
next year in connection with the Company’s Call of my Units.”133 Capone confessed
to “having difficulty understanding how the low value of $1.744 billion could have
been reached given the fact that only one part of the Company was sold a few months
later for more than $1.9 billion.”134 Reed did not write back; indeed, he never
responded to any of Capone’s inquiries. Reed did take notice, though: Soon after
receiving the May 17 letter, Reed met with Ferris and an LDH lawyer to discuss it.
Capone eventually got Ferris to agree to talk on the phone about some of
Capone’s concerns regarding the valuation. The two spoke on June 7, 2011. During
the conversation, Capone accused the Defendants of “act[ing] in bad faith under the
contract . . . [and] act[ing] with malice.”135 Capone also “told [Ferris] I thought he
had breached, very clearly.”136 Finally, Capone called Ferris a liar and a cheater.
Ferris’s recollection of the conversation tracked Capone’s, and Ferris told Reed
about the call.
133
Cady Aff. Ex. 34.
134
Id.
135
Cady Aff. Ex. 42, at 181:19–21; see also Cady Aff. Ex. 39, at KC-000303.
136
Cady Aff. Ex. 42, at 188:6–7.
26
The evidence just reviewed makes clear that, as of June 2011, at least two of
LDH’s highest-ranking officers knew that Capone had not only raised serious
questions about the valuation used to redeem his Units, but had specifically accused
the Defendants of breaching the LLC agreement in connection with that valuation.
Capone’s repeated complaints about the valuation both before and after the
redemption track the allegations underlying the Plaintiffs’ breach of contract
claims—namely, that the “Defendants failed to determine in good faith the fair
market value of LDH Energy and Plaintiffs’ Units.”137 Moreover, Capone’s breach
of contract claim raised the prospect of millions of dollars in damages. For example,
the Plaintiffs’ New York complaint seeks “$7.5 million to Capone . . . , in respect of
the money taken from Capone based on the understated value of the Midstream Asset
Business.”138 Of course, a request for damages is just that—a request. But about a
month before the redemptions, LDH itself calculated the losses that Capone,
Scheinman, and another departing LDH executive would incur as a result of the
valuation: “The post 12/31/2010 [Unit] value (assuming asset sale @ 1.9B) to
Former Employees would have been an additional $5m of incremental value.”139
The large sums potentially at stake in Capone’s breach of contract claim make it
137
Toscano Aff. Ex. 26, ¶ 101.
138
Id. at 33.
139
Cady Aff. Ex. 25B, at CCIDEL_00011136. Ferris testified at his deposition that he was “sure”
LDH had performed such a calculation. Cady Aff. Ex. 45, at 320:23–321:7.
27
more likely that the Defendants were paying close attention when he raised concerns
about the valuation in early to mid-2011. Thus, the Plaintiffs have established that
the Defendants were aware of Capone’s claim for breach of contract when the LLCs
were cancelled in December 2012.140
b. Scheinman
Scheinman was not as persistent or vocal as Capone in objecting to the
valuation. Nevertheless, Scheinman took enough steps to put the Defendants on
notice of his claim as well. Soon after LDH received almost two dozen bids for the
Midstream Assets, Scheinman told Reed and Wallace, LDH’s Managing Director,
that it was legally improper not to consider the bids in valuing the Assets.
Scheinman expressed the same view to Damasco, LDH’s Tax Director. In an email
labeled “PRIVILEGED & CONFIDENTIAL ATTORNEY WORK PRODUCT,”
Damasco told Wallace and Ferris that he had “[s]poke[n] to Steve [Scheinman] last
night at his farewell party and he told me he wants to discuss the valuation issue with
Bill [Reed] today. Steve also indicated that Capone has the same valuation
140
I reject the Defendants’ suggestion that I should not impute knowledge of Capone’s claim to
the Defendants because Capone “stayed silent” from June 2011 to May 2015, when the New York
lawsuit was initiated. Defs.’ Reply Br. 21. By June 2011, Capone had made very clear his position
that the Defendants had breached the LLC agreement. To my mind, it would make little sense to
find that an LLC lacked “knowledge” of a claim unless the claimant continued to remind the
company of the claim. That is especially so here, where the company in question was run by
sophisticated actors who could reasonably be expected to make a record of potential litigation by
former high-level executives—particularly when that potential litigation raised the prospect of
millions of dollars in damages. Moreover, the Defendants do not suggest that the Plaintiffs brought
their breach of contract claims after the expiration of the applicable statute of limitations.
28
question.”141 Moreover, after his Units were redeemed in April 2011, Scheinman
emailed Ferris seeking information about how “the per Unit price of $780,919.29
was derived from the $1,744 million.”142 That email was forwarded to Damasco,
who stated that his “litigation view would be to discuss verbally as opposed to
written communication.”143
Unlike Capone, Scheinman never explicitly accused the Defendants of
breaching the LLC agreement. But Scheinman told several high-level LDH
executives that, in his opinion, it was legal error not to consider the January 14 bids
in fixing a value for the Midstream Assets. One of those executives appears to have
thought litigation over the valuation was a real possibility,144 since he labeled
“ATTORNEY WORK PRODUCT” at least two emails he sent about the issue.145
And soon after the redemptions took place, Scheinman emailed LDH’s CFO asking
for information about how his Units were valued. True, Scheinman testified that he
had only friendly interactions with Reed after his termination.146 But Scheinman
141
Cady Aff. Ex. 24. As noted above, Damasco labeled another email in this chain in the same
manner. Id.
142
Cady Aff. Ex. 32, at 2.
143
Id. at 1.
144
Notably, there was no mystery as to who the defendants would be in such a litigation. The LLC
agreement provided that the any claims by the Plaintiffs relating to the Units “may be asserted
solely against [Management Holdings] or the Managing Member, as applicable.” Cady Aff. Ex.
1, § 9.9(a).
145
See, e.g., Rohm & Haas Co. v. Dow Chem. Co., 2009 WL 537195, at *2 (Del. Ch. Feb. 26,
2009) (“The key question that the Court must ask when evaluating a claim of work product
protection is whether the material at issue was ‘prepared in anticipation of litigation or for trial.’”
(quoting Ct. Ch. R. 26(b)(3))).
146
Cady Aff. Ex. 48, at 115:9–116:14; 176:24–177:6; 177:22–179:4.
29
also testified that he never told Reed that their disagreements over the valuation used
to redeem his units had been resolved.147 To my mind, all of this evidence
demonstrates that the Defendants were on notice of Scheinman’s claim for breach
of the LLC agreement.148 Additionally, the Defendants surely evaluated
Scheinman’s concerns in light of Capone’s contemporaneous and strongly stated
position that the Defendants had acted in bad faith.149
4. Did the Defendants Make Reasonable Provision for the Plaintiffs’
Claims?
Having found that the Defendants were on notice of the Plaintiffs’ claims, I
next determine whether the Defendants made reasonable provision for those claims.
As noted above, Section 18-804(b)(1) requires a dissolved LLC to “pay or make
reasonable provision to pay all [known] claims.”150 It is undisputed that the
Defendants did not set aside any funds for the Plaintiffs’ claims. According to the
Defendants, that was entirely proper, because those claims were “meritless,” and a
147
Id. at 206:17–21. The Defendants also point to Scheinman’s admission in this litigation that he
considered litigation to be a mere “possibility” in late 2012. Id. at 22:17–21. But Scheinman’s
intentions are, strictly speaking, beside the point; the question under Section 18-804(b)(1) is
whether the LLCs were aware of a potential claim. The Defendants do not point to any evidence
suggesting that Scheinman told anybody at LDH that litigation was merely possible, or unlikely,
let alone that he was waiving any claim.
148
In any event, even if Scheinman’s complaints alone were not enough to put the Defendants on
notice, Capone’s certainly were. And I agree with the Plaintiffs that Capone and Scheinman’s
breach of contract claims were sufficiently similar that notice as to one of them provided notice as
to the other.
149
See Cady Aff. Ex. 24 (“Steve also indicated that Capone has the same valuation question.”).
150
6 Del. C. § 18-804(b)(1).
30
reserve of zero dollars was therefore sufficient to account for them.151 I agree with
the Defendants’ premise, but not their conclusion.
Several considerations inform the reasonableness inquiry, including “the
potential amount of . . . [a] claim[] and the likelihood of [it] actually becoming [a]
liabilit[y] for which the company must answer.”152 For instance, “the minimal
likelihood of a given claim . . . actually arising or vesting could justify the
reasonableness of making no provision, or minimal provision, for payment
thereof.”153 Similarly, a claim “might be valued by applying a discount based on
probability of success.”154
A hypothetical illustrates the point. Suppose a delusional individual who had
never worked at LDH wrote a letter to Reed, LDH’s CEO, just before the winding-
up process began. In that letter, the individual maintained that the LLCs owed him
$1 million for services rendered as an LDH employee, even though, as just noted,
he had never worked at LDH. (Assume as well that Reed knew the individual was
delusional and had never been employed by LDH.) Any claim stemming from such
an allegation would be obviously frivolous so that a reserve of zero dollars would
likely be sufficient to account for it. On the other hand, even a relatively weak claim
151
Defs.’ Opening Br. 18.
152
Symonds & O’Toole, supra, § 16.06[E][2][c][iii].
153
Id.
154
Id.
31
may justify a reserve, especially where, as here, the claim raises the prospect of a
large damages award.155 Where the LLC faces a claim for a large amount, its
principals are justified in nonetheless setting a reserve of zero dollars only where the
claim is procedurally barred—as, for example, where a statute of limitation bars the
claim—or where the claim itself is legally frivolous. Because the claims here were
not procedurally barred, I examine their facial legal frivolity as known to the LLCs
at the time of dissolution.156
Were the Plaintiffs’ claims objectively frivolous at the time of dissolution? A
claim is not frivolous simply because it will likely be unsuccessful.157 Instead, the
question is whether the claim “lacks even [a good-faith,] arguable basis in law.”158
In my view, the claims at hand easily clear this bar.
The Defendants argue that the Plaintiffs’ claims lack merit because the LLC
agreement forbade consideration of events postdating December 31, 2010, in valuing
155
See id. (noting that a reasonable reserve may take account of “the potential amount of . . . [a]
claim[]”).
156
At oral argument, counsel for the Defendants agreed that if the Defendants were aware of a
“nonfrivolous claim” at the time of winding up, that would be enough to establish improper
dissolution under Section 18-804(b). Feb. 23, 2018 Oral Arg. Tr. 12:15–13:14.
157
See, e.g., Neitzke v. Williams, 490 U.S. 319, 328 (1989) (“When a complaint raises an arguable
question of law which the district court ultimately finds is correctly resolved against the plaintiff,
dismissal on Rule 12(b)(6) grounds is appropriate, but dismissal on the basis of frivolousness is
not.”); Allen v. Briggs, 331 F. App’x 603, 604 (10th Cir. 2009) (noting that the Neitzke standard
“means much more than just merely wrong”); see also In re BioClinica, Inc. S’holder Litig., 2013
WL 5631233, at *1 n.1 (Del. Ch. Oct. 16, 2013) (“[T]he standard for expedition, colorability,
which simply implies a non-frivolous set of issues, is even lower tha[n] the ‘conceivability’
standard applied on a motion to dismiss.”).
158
Neitzke, 490 U.S. at 328.
32
the Midstream Assets for purposes of the redemptions.159 The Defendants point to
the LLC agreement’s definition of fair market value:
“Fair Market Value” shall mean, with respect to a Unit of a particular
Series, the amount that would be distributed as of any relevant date [that
is, December 31, 2010] if (x) all of the assets of LDH and its
subsidiaries had been sold at their Gross Asset Value (adjusted
immediately prior to such deemed sale by the [Management Holdings]
Board in good faith and in consultation with the LDH Board).160
The Defendants emphasize that the good-faith obligation relied on by the Plaintiffs
appears in a clause requiring that any adjustment to the valuation be performed
“immediately prior to such deemed sale.”161 According to the Defendants, the
“deemed sale” in this provision unambiguously refers to “the hypothetical sale
whose proceeds were distributed as of December 31, 2010.”162 Since an adjustment
made before December 31 cannot possibly take account of information from
subsequent months, the LLC agreement supposedly prohibited the Defendants from
considering the January 14 bids or the March 2011 sale in valuing the Midstream
Assets and, by extension, the Plaintiffs’ Units.
The Plaintiffs offer two primary responses to this argument. First, they say
that the phrase “adjusted immediately prior to such deemed sale” simply means “that
159
The Defendants also argue that the Plaintiffs have abandoned any claim premised on a failure
to consider ETP’s purported $2 billion offer in December 2010. I need not address this issue,
however, because I conclude that the Plaintiffs’ claims are not frivolous to the extent they rely on
a failure to consider events after December 31, 2010.
160
Cady Aff. Ex. 1, at 7.
161
Id.
162
Defs.’ Opening Br. 26.
33
immediately prior to redeeming Units, the Board will determine in good faith the
fair market value used to redeem the Units.”163 According to the Plaintiffs, that
good-faith determination should have taken into account the highly probative market
evidence that emerged between December 31 and the April 2011 redemptions.
Second, according to the Plaintiffs, the Defendants ignore that the valuation was
finalized on December 23, over a week before the “as of” date. The Plaintiffs view
that decision as improper in light of the LLC agreement, which required the
determination of gross asset value to be made “promptly following the relevant date
[that is, December 31].”164 The Plaintiffs also suggest that this early valuation
supports an inference of bad faith on the part of the Defendants, who knew probative
market evidence would arrive when the bids came in less than a month later. In the
Plaintiffs’ view, the actual sale price is not itself determinative of value as of the date
of the hypothetical sale, but it is strong evidence of value as of that date. This is, in
my view, not a frivolous position.
To repeat, my task is not to decide the merits of these competing
interpretations of the LLC agreement. The Plaintiffs’ breach of contract claims are
not before me; they are being pursued in the New York action (though, as noted
above, the New York court has reserved decision pending my resolution of the
163
Pls.’ Opening Br. 58.
164
Cady Aff. Ex. 1, at 8.
34
request for nullification). It is for that court to determine what view of the contract,
in light of the facts, must prevail. My task is different, and focuses on the
reasonableness of the LLCs’ reserve at the time of dissolution. That issue requires
that I determine whether the Defendants acted reasonably by setting a zero-dollar
reserve, based on their apparent determination that any claim raised by the Plaintiffs
would be clearly meritless. I find that they did not.
Nothing in the LLC agreement unequivocally states that information learned
after December 31, and relevant to value as of the time immediately preceding the
“deemed sale,” cannot be considered in determining the fair market value of the
Plaintiffs’ Units. While the Defendants may be correct that the phrase “adjusted
immediately prior to such deemed sale” achieves the same prohibitory effect, their
reading of that provision is not the only reasonable construction. It is not
indisputably wrong to read the provision, as the Plaintiffs do, as simply requiring a
good-faith adjustment of the LDH assets’ gross asset value immediately before
redeeming a terminated employee’s Units.165
165
Consider a contractual provision requiring a good-faith valuation on July 1 of corporate assets
as of December 31 of the previous year. It is in the corporate interest that the valuation be as low
as possible. The assets, so far as is known on December 31, had a value of $1,000,001. $1 of this
valuation was attributed to a framed $1 bill, the first dollar the corporation had earned in 1922.
Suppose in January, a visitor to corporate headquarters, who happened to be a numismatist, noticed
that the 1922 dollar has a rare printing error, is a collector’s item, and has a value of $1 million.
She communicates such to the company’s principals. Nonetheless, in its valuation on July 1, the
company values itself as of December 31 at $1,000,001 rather than $2 million, based on corporate
knowledge as of December 31. Alleging that such a valuation resulted from bad faith is, in my
view, non-frivolous.
35
I also note that the Plaintiffs point out that the Defendants relied on a valuation
performed over a week before the LLC agreement contemplated such an exercise
being conducted. That in itself may have been a breach of the agreement. In any
event, it supports a reasonable inference that the Defendants, knowing that bids for
the Midstream Assets would arrive in a few weeks, rushed the valuation so that the
Plaintiffs’ Units could be redeemed at below fair market value. Such conduct could
potentially constitute a violation of the contractual obligation to adjust the valuation
in good faith.166
In sum, I cannot say that the Plaintiffs’ reading of the LLC agreement’s rather
complex provisions is frivolous. Thus, because the Defendants167 were aware at the
time of dissolution of the Plaintiffs’ non-frivolous claims against the LLCs for
breach of contract, the LLC Act required creation of a reserve to cover the Plaintiffs’
claims. It is undisputed that the Defendants failed to do that. Accordingly, the LLCs
were dissolved in violation of Section 18-804(b)(1), and the certificates of
cancellation shall be nullified.168
166
The Plaintiffs have also introduced evidence suggesting that in early December 2010, Reed,
Ferris, and Wallace were considering a plan to “[m]aximize [the] dilutive effect of issuing [a] new
series [of units].” Cady Aff. Ex. 10, at 1.
167
At least Reed and Ferris were aware of the breach of contract claims. Both were high-level
officers of LDH whose knowledge may be imputed to the LLCs, which were controlled by LDH.
See, e.g., Teachers’ Ret. Sys. of La. v. Aidinoff, 900 A.2d 654, 671 n.23 (Del. Ch. 2006) (“[I]t is
the general rule that knowledge of an officer or director of a corporation will be imputed to the
corporation.”).
168
See Laudamiel, 2012 WL 605589, at *22 n.148 (“[I]f the Court finds that an LLC’s affairs were
not wound up in compliance with the Delaware Limited Liability Company Act, it may nullify the
36
III. CONCLUSION
For the foregoing reasons, the Plaintiffs’ Motion for Summary Judgment is
granted, and the Defendants’ Motion for Summary Judgment is denied. The parties
should submit an appropriate form of order, and should inform me within one week
whether additional issues remain in this Delaware litigation.
certificate of cancellation, which effectively revives the LLC and allows claims to be brought by
and against it.”).
37