Alan R. Kahn Lawsuit Collection - a shareholder of TravelCenters of America, LLC (TA) ...Plaintiff Alan R. Kahn

Plaintiff Alan R. Kahn

Mar 10, 2009 ... Plaintiff Alan R. Kahn, a shareholder of TravelCenters of America, LLC (TA), a publicly traded Delaware LLC that operates truck stops in the ..

"Corporate and Securities Law Alert

Kahn v. Portnoy Reiterates Importance of Precise Drafting of LLC Agreements

Tuesday, March 10, 2009

Precise drafting of a limited liability company (LLC) operating agreement may spare a company valuable litigation time and expenses. This maxim was reiterated on December 11, 2008 in a decision of the Delaware Court of Chancery in Kahn v. Portnoy.1 In deciding a motion to dismiss, the court found ambiguities in the LLC agreement that set out to define the scope of a director’s fiduciary duties under discussion. The court was unable to resolve the ambiguities in the context of the motion to dismiss, and the interpretation was thus left to be carried out at trial.

Plaintiff Alan R. Kahn, a shareholder of TravelCenters of America, LLC (TA), a publicly traded Delaware LLC that operates truck stops in the United States, filed a derivative suit on behalf of TA. The suit alleged that TA’s directors breached their fiduciary duties by approving the “Petro Lease Transaction.” Under this transaction, TA purchased Petro Stopping Centers, L.P., a truck stop operator, and leased its facilities from defendant Hospitality Properties Trust (HPT).

The transaction allegedly benefitted REIT Management & Research LLC (RMR), a company that managed TA and HPT, at TA’s expense by requiring TA to pay above-market rent. Defendant Portnoy, a director of TA who notably was not a shareholder of TA, also was a director of HPT and a key shareholder in RMR. Many of the directors who participated in the decision were allegedly beholden to Portnoy, due to positions they held in RMR and other entities in which Portnoy was involved.

The LLC Agreement and the Board Decision

Citing the importance of the principle of freedom of contract in Delaware limited liability companies, the court turned to TA’s LLC agreement to determine the scope of the fiduciary duties the directors owed to TA in approving the Petro Lease Transaction already defined. The LLC agreement specified that any decision by the board of directors would not constitute a breach of the board’s fiduciary duty “whenever a potential conflict of interest exists or arises between any Shareholder or an Affiliate thereof, and/or one or more Directors or their respective Affiliates and/or” TA, provided that certain conditions were met and that the LLC agreement or the Delaware LLC Act did not expressly provide otherwise.

In the immediately succeeding sentence the agreement stated: “It shall be presumed that, in making its decision and notwithstanding that such decision may be interested, the Board of Directors acted properly and in accordance with its duties (including fiduciary duties) …” The agreement further provided that this presumption could be overcome only by clear and convincing evidence.

Defendants argued that the second sentence creates a presumption that the board acted in accordance with its duties, notwithstanding that the board's decision may have been interested. Under the agreement, such presumption may be rebutted only by clear and convincing evidence, which allegedly was not provided in this case and so would warrant granting defendants’ motion to dismiss. The court, however, noted that this sentence is ambiguous and allows for another reasonable interpretation under which it does not apply to the TA board’s decision in the Petro Lease Transaction.

Under this alternative interpretation, if read in context as the second of two sentences in the same paragraph, the sentence could be reasonably interpreted to apply only to board decisions that involve a conflict described in the preceding sentence, namely between a shareholder and one or more board members or between a shareholder and TA. In this case, however, the conflict is only a conflict between a single director (Portnoy) and TA.

In deciding a motion to dismiss a case for failure to show cause under applicable Chancery Court rules, if more than one reasonable interpretation of an ambiguous contract provision exists, the court must resolve the ambiguity in favor of the non-moving party. Because the court identified a reasonable interpretation of the exculpatory clause of the LLC agreement that would not have ratified the board’s actions, the motion to dismiss was denied.

Directors’ Fiduciary Duties

The ambiguity in drafting of the TA LLC agreement revealed by the court also affected the analysis of the fiduciary duties of the TA directors. The LLC agreement specified that TA will be managed by a board of directors that, subject to exceptions in the LLC agreement, has the same powers and duties (including fiduciary duties) as a board of directors of a corporation organized under the Delaware General Corporation Law (DGCL). One such exception appears in the section of the LLC agreement discussed above. However, once again, it is unclear whether the section applies to the duties of a director in a conflict between a non-shareholder director and the company. If not, then despite TA’s attempt to modify the standard of director fiduciary duty, the applicable standard would be the default standard set forth in the DGCL in a conflict between a director and the company.

The Exculpatory Clauses

When discussing the LLC agreement’s exculpatory clauses, the court revealed another drafting ambiguity: two arguably conflicting provisions exculpating directors from personal liability for money damages. Both sections referred to an act done in bad faith. The court was “unable to explain these provisions as anything other than poor drafting or a strategy of ‘if one exculpatory provision is good, then two must be better.’”

After a short analysis, using an interpretation favorable to the Defendant, the court concluded that Plaintiff has made sufficient factual allegations to rebut, at least in the preliminary context of a motion to dismiss, the presumption that the directors acted in good faith.

The allegations included a showing that defendant Portnoy’s loyalties to TA were divided with respect to the Petro Lease Transaction due to his role as a director in HPT and his interest in RMR pursuant to which he stood to personally gain from the transaction. It also included a showing that some of the other TA directors were beholden to Portnoy and acted to benefit RMR and Portnoy at the expense of TA due to their roles in RMR and other companies in which Portnoy was involved.

Conclusion

This was a case of contract interpretation. The LLC agreement of TA set out to define directors’ fiduciary duties by modifying the default DGCL standard, but did so in an ambiguous manner, open to more than one reasonable interpretation. In this case the court found sufficient facts to allow the Plaintiff to survive the motion to dismiss.

As a result, the ambiguity will require a discussion of the provisions and their interpretation at trial, a risk which could have been avoided by more careful and precise drafting.

Endnotes

1 Kahn v. Portnoy, not reported in A.2d, 2008 WL 5197164, Del.Ch., December 11, 2008 (NO. CIV.A. 3515-CC). "

Source
http://www.pepperlaw.com/publications_update.aspx?ArticleKey=1423