Article courtesy of Margaret G. Parker-Yavuz (Akin Gump) and Chanwon (Pio) Yoon (Akin Gump)
In re 3P Highstown, LLC, 631 B.R. 205 (Bankr. D.N.J. 2021)
Overview:
On creditor Hightstown Enterprises, LLC’s motion seeking dismissal, the Bankruptcy Court for the District of New Jersey dismissed a voluntary chapter 11 petition of the debtor 3P Hightstown, LLC based on a provision in the 3P Hightstown Limited Liability Company Agreement that restricted the debtor’s authority to file unilaterally for bankruptcy without the consent of debtor’s preferred equity class.
Full Summary:
In December 2019, 3P Hightstown, LLC (the “Debtor”) sought capital investment from a group of four individuals (collectively, the “4J Group”) in exchange for preferred membership units in the Debtor. The preferred membership units were issued to the 4J Group and the admission of the 4J Group as preferred members of the Debtor was evidenced by the 3P Hightstown Limited Liability Company Agreement (the “LLC Agreement”). In July 2020, Hightstown Enterprises, LLC (“Hightstown Enterprises”) paid the 4J Group for a transfer of the 4J Group’s preferred membership interest in the Debtor. As a result of this transaction, Hightstown Enterprises became the preferred member of the Debtor.
In April 2021, the Debtor filed a voluntary chapter 11 petition, and Hightstown Enterprises subsequently filed a motion seeking dismissal of the Debtor’s bankruptcy case. Hightstown Enterprises asserted that, pursuant to the LLC Agreement, the Debtor lacked authority to file a petition in bankruptcy without the consent of its preferred equity class. During oral argument, the Debtor challenged Hightstown Enterprises’s standing to bring the motion. After determining that the Court could dismiss the case on its own regardless of whether Hightstown Enterprises had standing to bring the motion, the Court dismissed the case sua sponte.
In dismissing the case, the Court noted that the Supreme Court in Price v. Gurney, 324 U.S. 100 (1945), held that the entity vested with “the power of management” has the requisite authority to file a bankruptcy petition. The Supreme Court in Price further held that a bankruptcy case must be dismissed if the bankruptcy petition was filed by an entity lacking “the power of management.” Here, the LLC Agreement included a provision which limited the Debtor’s ability to initiate a bankruptcy proceeding. Specifically, section 4.06 (Voting) provided the following:
(b) Notwithstanding anything to the contrary contained in this Agreement, until such time as the Preferred Unreturned Capital Value has been reduced to zero, the Company shall not, and shall not permit any of the Company Subsidiaries to, engaged in or cause any of the following transactions or take any of the following actions, and the Board shall not permit or cause the Company or any of the Company Subsidiaries to engage in, take, or cause any such action, in each case except with the prior approval of the holders of a majority of the outstanding Preferred Units voting separately as a class;
. . .
(xi) the initiation by the Company or any Company Subsidiary of a bankruptcy proceeding (or consent to any involuntary bankruptcy proceeding).
The Court found that the plain language of the LLC Agreement restricted the Debtor’s authority to initiate a bankruptcy proceeding and that the Debtor had not satisfied either of the prerequisites prior to its filing of a chapter 11 petition.
The Debtor argued in opposition to dismissal that Hightstown Enterprises’s acquisition of the preferred membership interest in the Debtor was improper under the LLC Agreement and that Hightstown Enterprises did not have any voting power. The Court, however, rejected the Debtor’s argument, stating: “Regardless of who actually ‘holds’ the units in this case . . . the Debtor failed to get the requisite consent. Therefore, under the terms of the LLC Agreement, the Debtor had no authority to commence bankruptcy proceedings.”
The Court next addressed whether the LLC Agreement’s provision restricting the Debtor’s ability to file for bankruptcy without prior approval may be void as contrary to public policy. In addressing this issue, the Court noted that there was no Third Circuit precedent on point. The Court further noted that since (1) Delaware law treats LLCs differently and establishes that only managing members of an LLC have fiduciary duties and (2) the parties in this case owed no duty to other members or creditors, there was no breach of fiduciary duty which would have rendered the provision at issue in violation of public policy. By contrast, the Court explained that Delaware’s LLC Act grants LLC members extreme contractual freedom and that the parties in this case defined the scope of the fiduciary duties, or waiving of fiduciary duties, in the LLC Agreement. Therefore, the Court concluded that the provision of the LLC Agreement at issue was not void as contrary to public policy, and as a result, dismissed the case.
