Ward on Iowa Limited Liability Company Law

Chancellor Chandler Blows One: HDS Investment v. The Home Depot

I usually like to read opinions by Chancellor Chandler of Delaware's Chancery Court.  He is an insightful jurist, at least he was until  HDS Investment Holding, Inc.v.The Home Depot, Inc.,Civ. Action 3968-CC (October 17, 2008).

The case revolves around a purchase price adjustment clause in the agreement spinning HD Supply off from Home Depot to a group of private investors.  The clause is a common one in such transactions calling for a post-closing adjustment for the working capital (current assets minus current liabilities) of the sold entity as of the day before the closing date. 

In this case current assets excluded cash and cash equivalents because Home Depot was entitled under another provision of the agreement to take the cash and equivalents out of its affiliate before closing.  Current liabilities included accrued compensation and benefits even though another provision of the agreement called for Home Depot to reimburse the acquiror for certain bonuses and retention payments made to employees of HD Supply for a certain period prior to closing.

Home Depot did not remove the cash before closing and became concerned that the agreement could be read to call for the certain bonuses and retention payments to be reimbursed by it and included in the calculation of current liabilities, a double payment.

The issue before the Chancellor was whether the arbitration clause included in the purchase price adjustment provision should be interpreted to mean that the cash and bonus/retention issues should be arbitrated or adjudicated.  The court concluded that because these subjects were covered directly by provisions of the agreement that were outside the purchase price adjustment provision containing the arbitration clause, he would decide those issues, not the arbitrator.

The problem with this conclusion is there is no way the Chancellor can solve the issueswithout reference to the purchase price adjustment clause.  There is no question that Home Depot is to reimburse HDS for the bonus and retention payments.  The question is whether the liability is within the meaning of "accrued compensation and benefits."  There is no question that Home Depot is entitled to the cash and cash equivalents.  The question is whether it is entitled to deem them "accounts receivable" if in fact it did not take the cash.  Both of the real questions at issue concern the purchase price adjustment clause to which the arbitration clause applies.  It does not require adjudication of the other provisions of the agreement.  The good Chancellor blew this one.

The broader lesson is the care in which post-closing adjustment clauses must be drafted.  Both parties were represented by top-of-the-line law firms, yet they still drafted a key clause of an agreement with ambiguity.  There but for the grace of God....

-Marc Ward

Louisiana Appellate Court Destroys the "LL" in LLC

In an abominable decision that better be overturned quickly, the Second Circuit Court of Appeal of Louisiana affirmed a trial court's conclusion that a contractor, John Cash, who owned an LLC was personally liable for the faulty construction of a "water feature" on the lawn of an art center because he personally designed and helped to install the feature.  It is not clear from the opinion if Cash is the sole owner of the LLC or how much work he personally did on the project; the opinion makes references to a supervisor and other employees on the job site.

The court's conclusion was not based on an alter ego theory or any traditional piercing factors or even on the basis that it was necessary to avoid a fraud or injustice.  It was based on the fact that Cash "was engaged in his profession while building the water feature and was not acting solely in his capacity as a member of the limited liability company."

Louisiana Statutes Annotated Section 12:1320(B) says "Except as otherwise specifically set forth in this Chapter, no member, manager, employee, or agent of a limited liability company is liable in such capacity for a debt, obligation, or liability of the limited liability company."

That sounds fair enough.  Now read LSA Section 12:1320(D): Nothing in this Chapter shall be construed as being in derogation of any rights which any person may by law have against a member, manager, employee, or agent of a limited liability company because of any fraud practiced upon him, because of any breach of professional duty or other negligent or wrongful act by such person, or in derogation of any right which the limited liability company may have against any such person because of any fraud practiced upon it by him.

Again, not a surprise if "professional" means a doctor, a lawyer, an architect or any of the other generally understood professions.  But in this case, Cash was "a licensed horticulturist, landscape contractor and irrigator."

The court of appeals concluded that Cash was "engaged in his profession" and therefore personally liable under the exception created in 12:1230(D).  The dissenting judge saw it differently.  Concerned that the majority opinion might destroy the liability shield.  This case was a breach of contract claim against the LLC to whom Cash owed a duty, not a tort claim against him personally.

In a nutshell, the majority saw the case as a tort claim (negligence) and the dissenter viewed the case as a breach of contract of claim (failure to satisfy contract).  What do you want to bet the LLC has no assets?