Delaware Business Litigation Report

LLC May Not Reverse Decision to Enter into Contractual Call Option Buyout Process with Members

Walsh v. White House Post Productions, LLC, C.A. No. 2019-0419-KSJM (Del. Ch. Mar. 25, 2020).  

Parties to LLC agreements often provide for buyout provisions upon specified events, such as when a member ceases to be an employee. The provisions set forth a process by which the parties agree up front to a price to acquire the departing member’s interest. In this case, the Court prohibited an LLC from withdrawing from a contractually agreed-upon process to buy its members’ shares once the LLC initiated the process.

This dispute arose between the plaintiffs, who are former members of Defendant Carbon Visual Effects, LLC (the “Company”), and the Company. The Company’s LLC Agreement grants the Company the right to buy a former member’s units at fair market value (the “Buyout Provision”). Specifically, the Buyout Provision provides: “In the event a Member ceases to be employed by the Company for any reason, the Company shall have the right to purchase such Member’s Units, and such Member shall be obligated to sell such Units to the Company.” The LLC Agreement then states that the Company will enter into a price-fixing process for the Parties to determine the fair market value of the units. Pursuant to the price-fixing process, the Company first obtains an appraisal, which the former member may challenge by obtaining a second appraisal. If there is a significant discrepancy between the appraisals, the two appraisers choose a third to make a binding determination; otherwise, the parties average the first and second appraisals. In this case, the Company noticed its intent to begin the price-fixing process by providing an appraisal to plaintiffs. The plaintiffs then sought information from the Company to obtain a second appraisal. The Company then reversed course, however, and decided not to purchase the plaintiffs’ units. The plaintiffs filed this action alleging that the Company breached the Buyout Provision by failing to comply with the price-fixing process to purchase the plaintiff’s units. The Court of Chancery denied the Company’s motion to dismiss, holding that the Company lacked the ability to withdraw from the price-fixing process once it accepted the option by providing the first appraisal and that it was reasonably conceivable that the Company’s failure to proceed with the price-fixing process stated a valid claim for breach of contract.

The Court’s rationale was that, while the Buyout Provision’s plain terms did not prohibit it from withdrawing from the process, it nonetheless created a call option. The Court explained that, a contract for a call option contains two elements: (1) an underlying offer to purchase property, and (2) a promise to hold the offer open. The Buyout Provision contained both of those elements because it (1) offered the Company a right to purchase a former employee’s units at fair market value, and (2) kept the offer open by requiring a former member to sell his or her units to the Company. The Court reasoned that the Buyout Provision operated like an option contract because it allowed the parties, when they first signed the LLC Agreement, to negotiate terms that would apply if the Company exercised the option in the future. The Court also explained that precedent supported that the parties’ failure to use the word “option” was not dispositive of whether they intended to create an option. Therefore the only reasonable interpretation was that the Buyout Provision created an option.

Finally, the Court of Chancery held that it was reasonably conceivable that the Company exercised its option by providing a first appraisal to plaintiffs. This was because the LLC Agreement did not specify how the Company should exercise its option, and Delaware law allows a party to accept an offer through conduct such as beginning a price-fixing process. Additionally, it was reasonably conceivable that the Company breached the Buyout Provision by withdrawing from the price-fixing process. For these reasons, the Court found that the plaintiffs had stated a valid claim for breach of contract.

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