Maura Burke, an associate in our Delaware office, prepared this case summary.
Introduction: In The Homer C. Gutchess 1998 Irrevocable Trust v. Gutchess Companies, LLC, the Court of Chancery first issued a bench ruling (dated Feb. 16, 2010) and then published a supplemental opinion letter (dated Feb. 22, 2010) dismissing a petition for judicial dissolution of a Delaware limited liability company. Although the limited liability company at issue was created as part of an estate planning program, the Delaware Court of Chancery treated the dissolution of this company as it would with any LLC—by respecting the member’s private preferences as expressed in the company’s operating agreement.
Background: Gutchess Companies, LLC (the “LLC”) was created in 2002 as an estate planning vehicle to hold Homer C. Gutchess’s shares in Gutchess Lumber, a lumber mill and leading supplier of hardwood lumber located in New York state. The operating agreement of the LLC split the voting interest from the equity interest. Homer retained 100% of the voting interest, and 1% of the equity interest. Homer’s wife, Martha, initially held only a 1% equity interest. The remaining 98% equity interest was held by The Homer C. Gutchess 1998 Irrevocable Trust (the “Trust”). Later, Homer transferred his voting interest to Martha, such that Martha held 100% voting interest, and a 1% equity interest in the LLC. After Homer’s death in 2006, Martha appointed Gary Gutchess, her son, as the LLC’s sole manager. Subsequently, a dispute arose between Martha and Gary Gutchess, on the one side, and the trustees of the Trust, on the other. In 2009, the trustees, one of whom is Keith Gutchess, the brother of Homer, petitioned the Delaware Court of Chancery for dissolution of the LLC pursuant to Section 18-802 0f the Delaware Limited Liability Company Act (the “Act”).
In support of their petition for dissolution, the trustees alleged misconduct by the LLC’s management, including accusations that the LLC’s management deliberately generated tax liabilities for the Trust while withholding distributions and/or refusing to generate income that would allow for the payment of those taxes. In response, the LLC moved to dismiss the petition for dissolution on a 12(b)(6) motion for failure to state a claim.
Bench Ruling: Vice Chancellor Noble found that Homer made an informed decision to split the voting and equity interests in the LLC, and “the Court must respect the private ordering of affairs.” (Transcript dated Feb. 16, 2010, at 44-45).
Additionally, V. C. Noble found that the dissolution of the LLC was not an appropriate remedy based upon the Trust’s allegations, which were essentially management misconduct, because (i) management misconduct is not typically an appropriate basis for the drastic remedy of judicial dissolution; and (ii) in this case, the LLC’s operating agreement specifically limited the Trust’s ability to affect management of the LLC. Emphasizing the Court’s preference for upholding the private ordering of affairs, V.C. Noble found dissolution was not warranted because (i) even where there was disagreement with the LLC’s management there was no deadlock because the voting power was held by one person; (ii) the LLC was not insolvent; and (iii) “[s]imply because things have not worked out as the [T]rust might have liked does not afford the Court a basis for dissolving the limited liability company.” (Transcript dated Feb. 16, 2010, at 44-45).
Supplemental Letter Opinion: In a letter dated February 22, 2010, V.C. Noble supplemented his bench ruling with respect to two cases: Haley v. Talcott, 854 A.2d 86 (Del. Ch. 2004); and In re Arrow Inv. Advisors, LLC, C.A. No. 4091-VCS, 2009 WL 1101682 (Del. Ch. Apr. 23, 2009). The Trust relied heavily on Haley, arguing that the Court there ordered dissolution of the corporation on equitable grounds, rather than on the actual existence of a deadlock. In Haley, the Court required three prerequisites for dissolution pursuant to 8 Del. C. § 273: (i) two 50% stockholders in the corporation; (ii) the stockholders are engaged in a joint venture; and (iii) the stockholders are “unable to agree upon whether to discontinue the business or how to dispose of the assets.” (Letter dated Feb. 22, 2010, at 2). V.C. Noble disagreed with the Trusts’ interpretation of Haley, stating that a critical factor in the Haley Court’s decision was that the “company’s founders envisioned co-equal management, and that one of the members was unable to influence the path upon which the company was traveling.” (Letter dated Feb. 22, 2010, at 3). Comparatively, the LLC in Gutchess was never intended to be a joint venture as evidenced by Homer’s calculated division of equity and voting interests.
Thus, Haley did not apply. The Trust also cited dicta in Arrow Inv. where the Court suggested that dissolution may be appropriate, even in the absence of deadlock, where the petitioner demonstrates that the company’s continued existence would be “obviously futile and would not result in business success.” (Letter dated Feb. 22, 2010, at 4).
Again, V.C. Noble did not find this argument persuasive because the Court in Arrow Inv. emphasized that judicial dissolution was an extreme remedy not to be granted freely. “Moreover, the Trust has not alleged the type of absolute frustration or futility required in the absence of unachievable business purpose and/or deadlock.” (Letter dated Feb. 22, 2010, at 5).
See excellent and insightful commentary by Peter Mahler on his blog called New York Business Divorce here.