SLG is Prepared to Litigate Delaware Alternative Entity Disputes
When business partners come together, the result can be a profitable enterprise that stands the test of time. Unfortunately, disputes between business partners often arise and must eventually be settled through a formal legal process. In Delaware, many businesses are not traditional corporations but are instead incorporated as “alternative entities,” such as Limited Liability Companies (LLCs) and Limited Partnerships (LPs). These structures give business partners unparalleled flexibility and tax advantages, but those same attributes often leave room for interpretation in operating agreements, ultimately becoming a breeding ground for complex litigation.
When fiduciary duties are called into question or one partner begins to act against the others, you need legal intervention from a skilled and experienced team of attorneys. At Shlansky Law Group (SLG), our attorneys have many years of experience settling and litigating Delaware alternative entity disputes. This experience allows us to protect the rights of investors, managers, members, and partners.
If your Delaware alternative entity is facing a serious dispute, whoever takes quick, decisive action first has the advantage. Contact the team at SLG today at 347.378.6990 for a confidential consultation to discuss your legal options.
What Are Alternative Entity Disputes?
To understand alternative entity disputes, one must first understand the fundamental difference between a traditional corporation and an alternative entity under Delaware law. Traditional corporations are strictly governed by Delaware’s general corporation law (DGCL), which imposes a rigid framework of mandatory rules, board structures, and unyielding fiduciary duties.
Alternative entities, however, are considered “creatures of contract.” Governed primarily by the Delaware Limited Liability Company Act and the Delaware Revised Uniform Limited Partnership Act (DRULPA), these entities are built upon the foundational principle of “freedom of contract.” This means that the internal affairs, management structure, economic rights, and even the fiduciary obligations of the entity’s managers and members are dictated almost entirely by the entity’s governing document (the LLC Operating Agreement or the Limited Partnership Agreement).
An alternative entity dispute, therefore, is fundamentally a contract dispute, often layered with complex equitable claims. These disputes typically involve disagreements among the entity’s constituent members (e.g., member vs. manager, minority investor vs. majority controller, or general partner vs. limited partners).
Common types of alternative entity disputes include:
- Breach of Fiduciary Duty. Allegations that those in control of the entity violated their duties of loyalty or care by engaging in self-dealing, usurping entity opportunities, or mismanaging assets.
- Squeeze-Outs and Freeze-Outs. Aggressive tactics utilized by majority owners to dilute the interests of minority investors, force them out of the business, or deprive them of their economic rights.
- Dissolution and Winding Up. Legal actions seeking the involuntary dissolution of the entity because it is no longer reasonably practicable to carry on the business in conformity with the operating agreement.
How Do Alternative Entity Disputes Arise?
Delaware law provides for contractual flexibility, making forming alternative entities in the state particularly attractive. But contractual flexibility also tends to lead to litigation. When business is booming and relationships are strong, operating agreements are rarely scrutinized. However, when financial pressures mount, strategic visions diverge, or relationships sour, the precise wording of the governing documents becomes the battleground.
Alternative entity disputes typically arise from one or more of the following scenarios:
1. Poorly Drafted or Ambiguous Governing Documents
Because Delaware law allows founders to customize their entities, the operating agreement is the ultimate authority. If this document is drafted with ambiguous language, contradictory clauses, or fails to anticipate specific future scenarios (like the death of a member, a sudden need for capital, or a severe market downturn), disputes are inevitable. What one partner interprets as a legitimate exercise of managerial discretion, another may view as a blatant breach of contract.
2. The Illusion of Shared Vision
Many alternative entities are formed by long-time friends or family members who rely on their deep personal relationships rather than tight contracts. As such, they likely never could have foreseen that legal action would be necessary to resolve a business dispute. However, over time, the goals of members and partners may diverge. One member may want to take risks to grow their business into an empire that stands the test of time, while another wants immediate cash distributions to play it more conservatively. If operating agreements and contracts have no clear mechanism to resolve these disputes, litigation may be the only path forward.
3. Modification of Fiduciary Duties
Delaware allows alternative entities to expand, restrict, or entirely eliminate traditional fiduciary duties, replacing them with a purely contractual standard of conduct. Disputes frequently arise over whether a specific action taken by a manager breached the “implied covenant of good faith and fair dealing” (which cannot be eliminated) or whether the governing agreement successfully shielded the manager’s self-interested actions from liability.
Responsibilities of Managers and Controlling Members
For those in control of an alternative entity, the primary responsibility is to understand and adhere strictly to the terms of the governing agreement. If the agreement imposes traditional fiduciary duties, managers must act with undivided loyalty to the entity and its members and avoid conflicts of interest. Even if fiduciary duties have been eliminated, managers remain bound by the implied covenant of good faith and fair dealing, meaning they cannot act arbitrarily or unreasonably to frustrate the contract’s fundamental purpose. Furthermore, managers have a responsibility to maintain accurate financial records and respond appropriately to valid statutory demands for information from investors.
Legal Options for Aggrieved Members and Partners
- Direct vs. Derivative Lawsuits. A member can file a direct lawsuit if they have suffered personal harm distinct from that of other members (e.g., being denied a promised distribution or voting right). Alternatively, if the harm was suffered by the LLC or LP itself (e.g., a manager stealing company funds), a member can file a derivative lawsuit on behalf of the entity to recover damages for the business.
- Injunctive Relief. If a manager is about to take an action that would cause irreparable harm to the company or a minority investor, an aggrieved party can petition the court for a temporary restraining order or preliminary injunction to halt the action.
- Expedited Arbitration or Mediation. Many modern operating agreements contain mandatory alternative dispute resolution (ADR) clauses. Mediation offers a confidential way to negotiate a settlement, while arbitration provides a private, binding decision outside of the public court system.
- Petitions for Judicial Dissolution. As a last resort, if the deadlock is absolute and the business can no longer function according to its operating agreement, a member can petition the Delaware Court of Chancery to formally dissolve the entity, liquidate its assets, and distribute the proceeds.
The Importance of Working with a Firm that Understands Delaware Law
At SLG, our deep-rooted understanding of Delaware law provides our clients with a distinct tactical advantage. Our highly experienced team possesses:
1. Mastery of the “Freedom of Contract”
Business disputes are largely decided based on the exact wording of operating agreements and foundational contracts. Thus, resolving these disputes requires an experienced legal team that understands how Delaware courts interpret contractual language. At SLG, our legal team understands how the Delaware Court of Chancery interprets corporate legalese and scrutinizes agreements. This allows us to create informed litigation strategies.
2. Deep Knowledge of Fiduciary Nuance
Fiduciary duties are much more complex than just acting in good faith. There is a complex interplay among default fiduciary duties, contractual modifications of those duties, the implied covenant of good faith and fair dealing, and many other aspects of business law. Ultimately, all of these factors build on one another, which can make it difficult to analyze which duties a person does and does not have. The SLG team leverages our many years of experience in Delaware alternative entity disputes to look at the big picture.
3. Litigation Experience in the Delaware Court of Chancery
The Delaware Court of Chancery is unlike any other court in the United States. It is a court of equity, meaning there are no juries. Cases are heard by Chancellors, Vice Chancellors, and Magistrates who are highly sophisticated corporate law experts. The Court moves with incredible speed, particularly in matters requiring injunctive relief or expedited trials. Practitioners who are unfamiliar with the unwritten rules, expectations, and fast-paced cadence of the Chancery Court will be at a severe disadvantage. SLG is built to operate efficiently and effectively in this unique judicial environment.
Frequently Asked Questions
What exactly is an “Alternative Entity” under Delaware law?
In Delaware, an “alternative entity” refers to any unincorporated business organization. While traditional corporations are governed by the Delaware General Corporation Law (DGCL), alternative entities are primarily governed by their own specific statutes, such as the Delaware Limited Liability Company Act or the Delaware Revised Uniform Limited Partnership Act. The most common alternative entities are Limited Liability Companies (LLCs) and Limited Partnerships (LPs).
The defining characteristic of an alternative entity is that it is fundamentally a “creature of contract.” Unlike a corporation, which has rigid, statutory rules governing boards of directors, shareholder voting, and fiduciary duties, the internal affairs, management structure, and economic rules of an alternative entity are designed by the founders and set forth in an Operating Agreement or Partnership Agreement. This enables unparalleled structural flexibility, tax efficiency, and customized governance.
Can fiduciary duties be eliminated in an LLC or LP?
Yes, and this is one of the most powerful and heavily litigated aspects of Delaware alternative entity law. Unlike traditional corporations, where directors owe unyielding fiduciary duties of care and loyalty to shareholders, Delaware’s LLC and LP Acts explicitly permit the parties to expand, restrict, or eliminate traditional fiduciary duties in their governing agreements.
It is crucial to note, however, that while you can eliminate fiduciary duties, you cannot eliminate the implied covenant of good faith and fair dealing. This is a bedrock principle of Delaware contract law that ensures parties do not act arbitrarily or unreasonably in a way that would destroy the fundamental benefits of the agreement. Much of the litigation in this space centers on whether a specific action violated this non-waivable implied covenant, even though all other fiduciary duties have been eliminated.
Why is the Delaware Court of Chancery the primary venue for these disputes?
The Delaware Court of Chancery is the preeminent business court in the United States, and one of the most widely respected courts in the world. It holds jurisdiction over the internal affairs of Delaware business entities, including LLCs and LPs. There are several reasons why it is the premier venue for business litigation:
- It is a court of equity, not of law. This means that there are no juries, and the judge can order parties to take specific actions. Cases are decided by specialized judges called Chancellors and Vice Chancellors, who have many years of experience in corporate and business law. This means that parties and their attorneys do not have to worry about educating juries about complex financial concepts or the nuances of business law.
- The Court has a vast body of case law. In the American legal system, courts base their judgments largely on how other courts settled similar disputes in the past. If there were no similar disputes, the court often has to create its own solution that may take years to be fully developed through appellate courts. The Court of Chancery has over 230 years of experience, which means they have a wide body of prior decisions to draw upon.
- The Court is quick and efficient. In a corporate crisis, such as a hostile takeover, timing is critical. The Court frequently accommodates expedited schedules, allowing it to hear arguments and make decisions in a matter of weeks or just a few months, as opposed to the years of endless litigation that is common in other states.
Secure Your Business with SLG’s Experienced Delaware Counsel Today
Whether you are a minority investor fighting for transparency or a business partner attempting to get past a crippling operational deadlock, you need legal support from a highly experienced team that is intimately familiar with Delaware alternative entity disputes.
At SLG, we provide the knowledgeable and aggressive legal representation required to win in the settlement conference room and the courtroom. Call SLG today at 347.378.6990 to schedule a confidential consultation with our Delaware alternative-entity dispute litigation team.
