Gregory Holifield co-founded XRI’s predecessor entity. In August 2016, he sold his controlling interest to funds affiliated with an investment bank. Out of that transaction emerged XRI, a Delaware limited liability company. XRI’s LLC Agreement designated two classes of membership interests— “Class A Units” and “Class B Units.” Holifield’ and his co-founder held Class B Units and the investment bank held all the Class A Units. The LLC Agreement prohibited members from transferring their member interests (the No Transfer Provision), except if made for consideration to certain “Permitted Transferees,” such as an entity owned solely by the transferring member. Any transfer that violated the No Transfer Provision was “void.”
Around 2018, Holifield and his co-founder proposed a transaction that involved, in part, Holifield transferring his Class B Units to a special purpose vehicle (the Blue Transfer). XRI approved the Blue Transfer in June 2018 on the assumption that it was a “Permitted Transfer” under the LLC Agreement. In April 2019, Holifield provided additional documentation concerning the Blue Transfer, at which point XRI became concerned that the Blue Transfer was not a “Permitted Transfer” and violated the LLC Agreement.
In the action underlying this appeal, XRI sought a declaration that the Blue Transfer was void under the LLC Agreement. After a one-day trial, the Court of Chancery held that the Blue Transfer was not a Permitted Transfer because it was made “for consideration.” The court concluded that transfers other than Permitted Transfers were required to be approved by the XRI board and because the Blue Transfer was not approved, it violated the No Transfer Provision. In reaching this conclusion, the trial court relied on the Delaware Supreme Court’s decision in CompoSecure LLC v. Cardux LLC, C.A. No. 177, 2018 (Del. Nov. 7, 2018) (CompoSecure II). There, the court held that where the plain language of an LLC agreement states that a noncompliant act is “void” instead of “voidable,” the contractual language prevails over the equitable defense of acquiescence and requires courts to deem the act incurably void.
Holifield appealed the Chancery Court’s decision and urged the Delaware Supreme Court to overturn CompoSecure II. The Court declined to do so for four main reasons.
First, the court found that CompoSecure II was consistent with the well-established principle in Delaware corporate law that LLCs are “creatures of contract” that significant contractual freedoms not available in the corporate context. In the alternative entity context, “equity will not save a bad contract.”
Second, the court noted that this freedom of contract in LLC agreements extends to contractually specified incurable voidness, finding that “nothing in Delaware law or public policy prohibits parties to an LLC agreement from contracting for incurable voidness.”
Third, the court noted that the legislative response to CompoSecure II favored adherence to its rule. Following Composcore II, the General Assembly amended Delaware’s LLC law to provide that LLC may ratify certain acts that are void due to lack of necessary LLC approval. However, the statutory amendment only addressed ratification of the LLC’s own breaching acts, not the acts of LLC members.
Finally, the court concluded that the Delaware’s stare decisis principles weighed against overruling CompoSecure II. There was no “clear manifestation of error” or urgent reasons to overrule the decision, which, though only five years old, settled an issue in an area of the law that has been “thorny” for “a very long time.” The court, therefore, would not upset this easily administrable rule based on a narrow majority or change in court composition.
Authored by Allison M. Wuertz, Maura Allen, and William Winter
