In re: Bold St. Peters, L.P. v. Bold on Boulevard LLC, et al. (C.A. No. 2024-0653-MTZ), the Court of Chancery concludes that a member of a Delaware LLC was validly removed as manager of a limited liability company.
Background
To briefly summarize the facts of this case, an LLC was created to fund the purchase of a certain property (the “Company”). At issue was the relationship between two members of the Company, referred to therein as the “PE Member” and the “Common Member.” The Company financed the purchase of the property via PE Member’s investment and a loan from Old National Bank (“ONB” and the “ONB Loan”). The ONB Loan included an agreement to maintain compliance with certain debt coverage ratios.
Through the Company’s operating agreement, Common Member was appointed the Company’s managing member. However, under the operating agreement, the PE Member had certain consent rights, and there existed circumstances under which PE Member could remove Common Member as manager and become manager itself. As noted in the opinion, PE Member had to provide prior written consent for material amendments to the ONB Loan.
Specifically as to consent regarding the ONB Loan, “PE Member has an absolute independent right to grant, deny, withhold or condition any requested consent or approval based on its own point of view, but subject to the standards of consent set forth herein and the implied covenant of good faith and fair dealing.” As noted therein, any event defined as a “Removal Event of Default” would trigger PE Member’s right to replace Common Member as managing member. In addition, the PE Member could initiate a change in control by sending Common Member a notice of default and an opportunity to cure. Upon expiration of the cure period without a cure, PE Member could effectuate a change in control by sending a change in control notice.
Of relevance here, the Company defaults on the ONB Loan, which was considered a Removal Event of Default under the operating agreement. PE Member began implementing the operating agreement’s steps for a change in control upon a Removal Event of Default.
PE Member stated it was removing Common Member as managing member of the Company and appointing itself, in accordance with the operating agreement. However, Common Member argued that it was taking steps to cure the defaults.
Analysis
Pursuant to 6 Del C. Section 18-110, “[U]pon application of any member or manager, the Court of Chancery may hear and determine the validity of any admission, election, appointment, removal or resignation of a manager of a limited liability company, and the right of any person to become or continue to be a manager of a limited liability company.”
“Delaware’s LLC law is…‘explicitly contractarian,’ and fundamentally regards and enforces the limited liability company agreement as a contract.” As noted by the Court, the starting point of its analysis is the operating agreement, and in particular, Section 7.2 of the operating agreement, which provides the requirements for notice, a cure period, and a change in control. As noted by the Court, “Courts in our State and beyond have recognized that contractual notice and cure provisions cannot be ignored….” Indeed, “Delaware law requires compliance with notice and cure provisions.”
As was the case here, Common Member attempted to take steps to cure defaults by entering into the loan modifications, but the defaults were not cured within the set period under the operating agreement. Under Section 7.2(b) of the operating agreement, PE Member has the right to terminate Common Member’s authority to act as managing member after learning of a Removal Event of Default and after giving written notice to cure of the contractually specified duration. Once the cure period runs, Section 7.2(c) of the operating agreement provides PE Member’s change in control is effective upon delivery of a written change-in-control notice.
Here, the loan modification documents were not executed within the cure period. This was also a case where any such loan modifications required PE Member’s consent.
Takeaway
This case may appear to be a straightforward case involving the removal of a manager of an LLC, but what is also interesting about this case is ensuring that members of Delaware LLCs understand whether the ability to cure a default is also tied to another member’s consent. From our experience, it creates a leverage issue that drafters of LLC agreements should pay attention to. For one, the cure could be extended for so long as the defaulting member is taking steps to cure the default.
In this case, Common Member argued PE Member could not withhold consent unreasonably. The Court disagreed. As noted, the operating agreement does not place a reasonableness condition on PE Member’s discretion in approving ONB Loan modifications. “A court should not read a reasonableness requirement into a contract entered into by two sophisticated parties” nor “imply an obligation inconsistent with the parties’ express agreement.”