For sophisticated investors and their legal counsel, the 18-216 Delaware LLC act is often the preferred LLC form in high-stakes private equity deals. This decision is typically based on three key merit-based factors.
Considerations include the default, mandatory and permissive provisions of this act. These sections offer a more comprehensive statutory foundation than any other act for creative operating agreement arrangements as well as legal opinions validating those arrangements.
Default Provisions
The 18-216 Delaware LLC act contains several default provisions that cannot be altered by members in their operating agreements. These include the requirement that a majority of managers approve any Board action; notifying Members in writing when cash needs and shares are due; notifying members when capital contributions are due; the right to adjust Sharing Ratios; and prohibiting Managers from resigning unless they meet specific conditions or are willing to face certain penalties.
These rules offer a practical “off the shelf” statutory foundation for creative operating agreement arrangements and legal opinions validating them. Furthermore, they give parties to high stakes private equity deals more of an assurance that their operating agreement provisions will be upheld in Delaware courts than any other jurisdiction.
Mandatory Provisions
Mandatory provisions of an LLC act refer to rules that, by their terms, cannot be altered by LLC members in their operating agreement. While this can sometimes be unclear, imperative verb forms like “shall,” “must,” and “may not,” as well as the absence of phrases like “unless otherwise provided in the operating agreement,” usually provide clarity.
When considering high-stakes private equity deals that involve LLC formation, the primary legal concerns for the parties will likely be their ability to customize the operating agreement of their limited liability companies according to individual needs and interests. It is thus critical for promoters of such deals to consider which LLC act gives them maximum freedom in this area while guaranteeing that those agreements will be enforced.
The Delaware Act offers more permissive provisions than any other LLC act I am aware of, which can be an invaluable asset to promoters of private equity deals involving LLCs as they provide a legal foundation for creative operating agreement arrangements as well as numerous legal opinions supporting them.
Permissive Provisions
The 18-216 Delaware LLC Act contains an extraordinary amount of permissive provisions. To my knowledge, no other act in the world contains even a fraction as many permissive clauses as this statute does.
Many of Delaware’s permissive provisions serve two purposes: they provide the basis for creative operating agreement arrangements and, secondly, they give the courts of Delaware authority to validate these contracts if they are challenged in these courts.
These permissive provisions contrast favorably with the protections members of an LLC enjoy under other acts and the wider scope of permissible indemnifications provided by those other acts.
The 18-216 Delaware LLC Act may deter private equity investment promoters from using an LLC formed under the Delaware Act for conducting their deals, but Section 18-1001 grants all members of an LLC a mandatory right to bring derivative lawsuits. Therefore, promoters tend to gain more advantage from having this section than they lose from it.
Appraisal Rights
The Delaware LLC act contains several statutory provisions that grant limited liability company members appraisal rights. One such section, 18-210, grants nonexclusive subject matter jurisdiction to the Court of Chancery for matters related to appraisal rights.
However, the Delaware LLC act contains other statutes which do not grant these rights to members. For instance, Sections 18-110(a) and (b) grant nonexclusive subject matter jurisdiction to the Court of Chancery for disputes involving manager elections and removals as well as other specified management matters.
Private equity investment promoters who are worried about the mandatory right under Section 18-110(a) may opt out of it by not including in their LLC agreement any provision granting members the power to elect or remove managers.
Many business litigators regard Delaware courts as more capable and expeditious at resolving high-stakes business disputes than courts in other U.S. jurisdictions. As a result, sophisticated investors and their legal counsel often turn to the Delaware LLC act as being the best option on statutory merits for use in private equity deals involving substantial stakes.
