Judicial dissolution of LLCs and the operating agreement

Cite this Article
Larry Ribstein, Judicial dissolution of LLCs and the operating agreement, Truth on the Market (September 01, 2010), https://truthonthemarket.com/2010/09/01/judicial-dissolution-of-llcs-and-the-operating-agreement/

The ever helpful Francis Pileggi brings us news of the Delaware Chancery Court’s recent decision in Lola Cars International Ltd. v. Krohn Racing, LLC, which refused after trial to dissolve an LLC under Delaware §18-802.

As I discussed last December, the court previously denied a motion to dismiss the dissolution complaint. I then noted that the statutory language allowing judicial dissolution when it is “not reasonably practicable to carry on the business in conformity with” the operating agreement required the court to analyze the parties’ expectations under their agreement. See my discussion of these issues in my book, Rise of the Uncorporation (180-82). This contrasts with the courts’ generalized expectations analysis, often disconnected from the parties’ agreement, in close corporation dissolution cases. [I will have more to say about the close corporation/LLC contrast in a forthcoming article.]

The problem in Lola is that the agreement also included termination provisions. Did the parties want these to be exclusive, or did they contemplate that judicial dissolution also would apply? They could have clarified this in the agreement, and Delaware Chancellor Chandler held two years ago that such agreements are enforceable. But what should the court do in the absence of an explicit waiver?

In the earlier Lola Cars opinion, the court held that

the Operating Agreement nowhere requires that a member terminate the Operating Agreement solely in accord with its stipulated termination provisions. Thus, the Court cannot conclude that these terms are exclusive. It simply cannot be true that a number of nonexclusive, permissive termination clauses in the Operating Agreement can preclude judicial dissolution as provided for in the Act.

However, in the most recent opinion the court denied dissolution after trial. The court again relied on the operating agreement:

The Court concludes by emphasizing that a party to a limited liability company agreement may not seek judicial dissolution simply as a means of freeing Lola itself from what it considers a bad deal. This is so even if the Member Parties’ relationship has—as here, due largely to pressure applied by Lola both within and without the litigation context—been badly damaged. Endorsing such a rule would allow for one party—unfairly—to defeat the reasonable expectations of its counterparty. Moreover, the Member Parties in their private ordering effort embraced a provision within the Operating Agreement that allows for disentanglement. * * * [I]t is not for the Court to terminate, or rewrite, the Operating Agreement.

The court explained its apparent change of heart from the earlier opinion by noting that the level of managerial misconduct proved at trial fell short of the complaint’s allegations. Id. n. 275.

I’m not completely comfortable with these opinions, for several reasons:

  • Although the court could read the agreement either to permit or not to permit dissolution, I don’t see how it could read the agreement both ways in the same case.
  • I don’t like the court’s use of “moreover” in the quote immediately above, which suggests that “reasonable expectations” might come from something other than the operating agreement.
  • The court’s footnote explanation that the remedy depends on the level of party misconduct is unsatisfying. If the agreement’s termination provisions were intended to preclude judicial dissolution, then damages, and not judicial dissolution, should be the exclusive remedy for any breach of duty the court might have found at trial.

In the final analysis, however, the real problem lies in the agreement. As I said in my previous post on Lola:

The bottom line is that this case indicates that the legal drafting “technology” in LLCs still has not been perfected. This leaves the courts to struggle through the relationship between the agreement and the default provisions of the statute.

Or as Chancellor Chandler said, when holding that non-dissolution agreements are enforceable (quoting the Bard): “our remedies oft in ourselves do lie.”