LLCs

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Guest post by Mohsen Manesh:

In my previous post, I suggested that we are unlikely to see Delaware ever step back from its statutory commitment to freedom of contract in the alternative entity context. And that is true even if Chief Justice Strine, Vice Chancellor Laster, and others might believe that unlimited freedom of contract has been bad public policy.

Why? To be cynical, it’s about money.

It is well known that Delaware, as a state, derives substantial profits, in the form of franchise taxes, as a result of its status as the legal haven for a majority of publicly traded corporations. In 2014 alone, Delaware collected approximately $626 million—that is almost 16% of the state’s total annual revenue—from corporate franchise taxes. (For scale, that’s almost $670 per natural person in Delaware.)

Less well documented, however, is that Delaware also now derives substantial—and growing—revenues as the legal home from hundreds of thousands of unincorporated alternative entities. My chart below tells the story. Over the last decade, while the percentage of the state’s annual revenue derived from corporate franchise taxes has been flat, an increasingly larger portion of the state’s annual revenue has been derived from the taxes paid…

 Guest post by Sandra Miller:

The ratio of LLC filings to corporate filings in Delaware from 2010 to 2014 was over 3 to 1.  Alternative business entities are no longer the province of a relatively small number of sophisticated investors.  Increasingly, corporations are becoming the “alternative” and LLCs and other unincorporated entities the norm.  Mom and Pop business as well as sophisticated real estate syndicators use alternative business entities.  Additionally, as discussed below, publicly-traded limited partnerships and LLCs are now being aggressively marketed. 

Accordingly, the assumptions that might once have justified greater reliance on private ordering in LLCs and alternative business entities should be revisited.  Not all investors are highly sophisticated parties and a relentlessly contractual approach to business entity governance is not appropriate for unsophisticated parties.   Nor is it appropriate for those without sophisticated legal counsel.  In backhanded fashion, this point was recognized by Larry E. Ribstein who advocated the removal of restrictions on waivers of fiduciary duties in limited partnerships when these entities were used by sophisticated firms that were unlikely to be publicly traded.   Ribstein expressly stated that limited partnership interests may be less vulnerable than corporate shareholders and are unlikely to be publicly traded.  (…

Guest post by Daniel Kleinberger:

Part I – Introduction

My postings this week will seek to delineate Delaware’s implied contractual covenant of good faith and fair dealing and the covenant’s role in Delaware entity law

An obligation of good faith and fair dealing is implied in every common law contract and is codified in the Uniform Commercial Code (“U.C.C”). The terminology differs:  Some jurisdictions refer to an “implied covenant;” others to an “implied contractual obligation;” still others to an “implied duty.”  But whatever the label, the concept is understood by the vast majority of U.S. lawyers as a matter of commercial rather than entity law.  And, to the vast majority of corporate lawyers, “good faith” does not mean contract law but rather conjures up an important aspect of a corporate director’s duty of loyalty.

Nonetheless, Delaware’s “implied contractual covenant of good faith and fair dealing” has an increasingly clear and important role in Delaware “entity law” – i.e., the law of unincorporated business organizations (primarily limited liability companies and limited partnerships) as well as the law of corporations.

Because to the uninitiated “good faith” can be frustratingly polysemous, this first blog “clears away the underbrush” by explaining what Delaware’s…

Guest post by Mohsen Manesh:

First, I want to give a big thanks to Anne and the rest of the Business Law Professor Bloggers for graciously hosting this mirco-symposium! As a longtime BLPB reader, it is a privilege to now contribute to the online conversation.

In this post, I want to explore the boundaries of the proposal recently made by Delaware Chief Justice Strine and Vice Chancellor Laster to address the problem, as they see it, that has been created by the unbound freedom of contract in the alternative entity context.  In their provocative “Siren Song” book chapter, the judicial pair advocate limits on the freedom of contract by making the fiduciary duty of loyalty mandatory.[1] But, importantly, they limit their proposal to publicly traded LLCs and LPs. [2]

This limitation is striking because it makes their proposal, in one respect at least, so very modest. There exists literally hundreds of thousands of Delaware LLCs and LPs. (121,592 LLCs were formed in Delaware in 2014 alone!) Only around 150 are publicly traded. [3] Thus, the Strine and Laster proposal for curtailing the freedom of contract affects only a tiny fraction of the alternative entity universe.

But in…

Guest post by Jeffrey Lipshaw:

I’m honored to be asked to participate in this micro-symposium, and will (sort of) address the first two questions as I have restated them here.

  1. Does contract play a greater role in “uncorporate” structures than in otherwise comparable corporations and, more importantly, do I care?

                  Yes, as I’ll get to in #2, but indeed I probably don’t care. My friend and casebook co-author, the late great Larry Ribstein, was more than a scholar-analyst of the non- or “un-” corporate form; he was an enthusiastic advocate. It’s pretty clear that had to do with his faith in the long-term rationality of markets and their constituent actors and a concomitant distrust of regulatory intervention. Indeed, he argued the uncorporate form, based in contract, was more amenable than the regulatory-based corporate form to the creation of that most decidedly immeasurable quality, trust, and therefore the reduction of transaction costs. I confess I never quite understood the argument and tried to explain why, but only after Larry passed away, so I never got an answer. 

                  Unlike Larry (and a number of my fellow AALS Agency, Partnership, & LLC section members), I was never able to…

Just a quick report from the 2015 ABA LLC Institute, an annual event held in the fall in Washington, DC that attracts anally compulsive (and I do mean that in the most positive way possible) business lawyers (academics and practitioners) interested in limited liability companies (LLCs) and other alternative business entities.  The agenda for this year’s program is full of nifty stuff and great presenters (present company excepted).  Co-blogger Josh Fershee would love the LLC Institute.  No one here confuses the LLC with the corporation!  (I will just link to one of Josh’s fabulous posts on that topic as a reference point.)

For this year’s institute, I chaired a panel on dissolution in the LLC and also participated in a panel that explored just what an LLC operating agreement really is.  I was wowed in each case by my co-paneleists.  Because the norm at this conference is to interrupt the panelists and comment on their presentations as they speak, the discourse was engaged and lively.

I will save my comments on the operating agreement panel for next week’s micro-symposium.  Today, I want to briefly cover highlights from  the dissolution panel.  Specifically, we focused a lot of attention on the evolution of dissolution events under the uniform and prototype LLC acts and various state LLC statutes since the adoption of the federal income tax “check the box” rules.  There’s more in and related to that topic than you might think . . . .

Next week, the BLPB is hosting a micro-symposium organized by the AALS section on Agency, Partnership, LLCs, and Unincorporated Associations.  Confirmed participants include Joan MacLeod Heminway (BLPB editor), Dan Kleinberger, Jeff Lipshaw, Mohsen Manesh, and Sandra Miller.

The micro-symposium will explore the role of private ordering in LLCs and other alternative business entities, a broad topic that encompasses many interesting questions:

(1) To what extent, and in what ways, does contract play a greater role in LLCs and LPs than in otherwise comparable corporations? Is it helpful to conceptualize private ordering in this context as contractual?

(2) Does unfettered private ordering reliably advance the interests of even the most sophisticated parties? Does it waste judicial resources? In their book chapter, The Siren Song of Unlimited Contractual Freedom, two distinguished Delaware jurists, Chief Justice Leo Strine and Vice Chancellor J. Travis Laster, raise these concerns and argue in favor of more standardized fiduciary default rules. 

(3) Should the law impose fiduciary duties of loyalty and care as safeguards against abuse of the unobservable discretion managers enjoy because those duties reflect widely held social norms that most investors would expect to govern the conduct of managers?

(4) If…

The Georgia Attorney General’s (AG) office is trying to make the case that the Georgia Pipeline Act does not allow any entity other than a corporation to use the statute’s eminent domain power.  Palmetto Pipeline is seeking a certificate for authorization to use that power, provided in GA Code § 22-3-82 (2014): 

(a) Subject to the provisions and restrictions of this article, pipeline companies are granted the right to acquire property or interests in property by eminent domain for the construction, reconstruction, operation, and maintenance of pipelines in this state . . . .

The state AG has argued that a pipeline company must be a corporation, and thus a limited liability company (LLC)  cannot use the statutory power.  The AG is right.  In the Pipeline Act’s definitions section, it provides, at GA Code § 22-3-81 (2014), 

As used in this article:

. . . .

(2) “Pipeline company” means a corporation organized under the laws of this state or which is organized under the laws of another state and is authorized to do business in this state and which is specifically authorized by its charter or articles of incorporation to construct and operate pipelines for the

…

So, my rants about the problem of courts (and others) conflating LLCs and corporations are not new.  Unfortunately for the proper evolution of the law, but good fodder for my posts, I continue to get examples.  We now have a new one that raises the bar a bit.

 A recent case from the United States District Court for the Western District of Pennsylvania continues the trend. The beauty, if one can call it that, of the case is that there are failures to recognize the difference between LLCs and corporations at multiple levels. 

 First, though, let’s recap what LLCs are.  LLCs are limited liability companies, and they are creatures of statute. See, e.g., 6 Del. C. § 18-101, et seq.  As such, they are not corporations, which are creatures of other statutes. Cf., e.g., 8 Del. Code § 101, et. seq. In contrast, LLCs, like corporations and other associations, can be people.  See, e.g.,  Dictionary Act, 1 U.S. Code § 1 (“[The wor[d] ‘person’ . . . include[s] corporations, companies, associations, firms, partnerships, societies, and joint stock companies, as well as individuals.”).

Back to our newest example, which I think of as a…

Last week was the oral midterm examination week for students in my in Business Associations class.  I admit to exhaustion and jubilation at the end of that week every year.  I think the students feel about the same way . . . .

This year’s examination related to an expulsion of members in a member-managed limited liability company (LLC).  The facts were based on an interesting Tennessee case with which many LLC aficionados are no doubt familiar: Anderson v. Wilder.  The exam questions related to the validity and effects of the expulsion under the Revised Uniform Limited Liability Company Act and the LLC’s operating agreement, the potential breaches of fiduciary duty and failure to comply with the contractual obligation of good faith and fair dealing, and the possible resulting causes of action and remedies–including any effects of the members’ dissociation.

In a blog post last weekend from Lou Sirico and our other friends at the Legal Skills Prof Blog, I divined support for all of us who engage in practice-focused legal education: these teaching/learning methods can help students to thrive, not merely survive.  It has been my (admittedly anecdotal) observation that students who engage in simulations (as well as those who participate in clinics and internships/externships) in law school are happier and more well-adjusted about their education and their post-graduation employment.  Last week’s oral midterms–conducted in groups of three–gave me some windows on that world.  I will share a few here.