Is the Independent Manager dead after the General Growth Properties bankruptcy? A modest proposal.

Steven D. Goldberg, Esq. Wilmington, DE
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In the typical securitized or CMBS loan structure the borrower is a Delaware LLC. The company agreement places substantial limitations upon the operation of the LLC. These LLC’s are referred to as SPE’s or special purpose entities. The criteria for the SPE was set by the rating agencies on an effort to make them bankruptcy remote. In an effort to preclude the SPE from filing bankruptcy the LLC agreement contains a provision which requires the LLC to always have 1 or 2 “independent managers” who are members with no economic interest in the LLC (18-301(d)).  The agreement requires that in making any decision to file bankruptcy or to take other specified actions, the unanimous consent of all managers, including the independent managers, is required. The duties of the Independent Manager are not defined under the typical SPE LLC agreement. The agreements do, however,  provide that “[t]o the extent permitted by law…the Independent Manager shall consider only the interest of the Company, including its respective creditors, in acting or otherwise voting on matters referred to in…” [the article dealing with a decision to file bankruptcy]. The Independent Managers were required “in exercising their rights and performing their duties under this Agreement, any Independent Manager shall have a fiduciary duty of loyalty and care similar to that of a director of a business corporation organized under the General Corporation Law of the State of Delaware”.

General Growth Properties, Inc., (GGP) is a large shopping cent REIT, which owns or manages over 200 centers in 44 states. GGP filed a Chapter 11 bankruptcy in April 2009. Many of the subsidiaries which filed bankruptcy with it are SPE’s. [For the purpose of this article the mechanics of how the SPE’s filed is not important but is discussed at length in the decision.] Following the filing several of the mortgage holders and servicers filed motions to dismiss the bankruptcy filings with respect to the SPE’s for various reasons. The motions were denied on August 11, 2009. Decision in General Growth SPE Case

The court, at page 33, stated [t]he record at bar does not explain exactly what the Independent Managers were supposed to do. It appears that the Movants may have thought the Independent Managers were obligated to protect only their interests…[citing the declaration of an officer of a servicer] ‘Well, my understanding of the bankruptcy as it pertains to these borrowers is that there was an independent board member who was meant to, at least from the lender’s point of view, meant to prevent a bankruptcy filing to make them a bankruptcy-remote, and that such filings were not anticipated to happen.’ However, if Movants believe that an ‘independent manager’ can serve on a board solely for the purpose of voting ‘no’ to a bankruptcy filing because of the desires of a secured creditor, they are mistaken. As the Delaware cases stress, directors and managers owe their duties to the corporation  and ordinarily, to the shareholders.”

It appears that the lender and servicers created a problem for themself which was not necessary. They created a duty of care, where no duty was necessary, a duty “similar to that of a director of a business corporation organized under the [DGCL].” There was no need to artificially create that duty of care. The Bankruptcy Judge in the GGP case cited to North American Catholic Educational Programming Foundation, Inc. v. Gheewalla, 930 A.2d 92 (Del. 2007), where the Delaware Supreme Court rejected earlier Chancery decisions which held that directors have duties to creditors when operating in the “zone of insolvency”. In North American the court held at 101: [w]hen a solvent corporation is navigating in the zone of insolvency, the focus for Delaware directors does not change: directors must continue to discharge their fiduciary duties to the corporation and its shareholders by exercising their business judgment in the best interests of the corporation for the benefit of its shareholder owners.”

Section 18-1001(c) provides in part “[t]o the extent that, at law or in equity, a member or manager or other person has duties (including fiduciary duties) to a limited liability company or to another member or manager … the member’s or manager’s or other person’s duties may be expanded or restricted or eliminated by provisions in the limited liability company agreement;…” The elimination language was not added until 2005  and many of these agreement were drafted prior to the amendment. In fact, however, the language persisted in the standard form of LLC agreement up until the CMBS market imploded in 2008. It is currently unsettled whether there exist “default fiduciary duties” under the Delaware Act, however it is clear in my opinion that under 18-1001(c) as it now exists the duty owed by the Independent Manager to the company and the members, in a properly drafted agreement,  could be eliminated by specific language coupled with the elimination of the standard language referring to the Independent Manager having the same duties as a director of a business corporation organized under the DGCL. Additionally Section 18-101 a.(7) provides that [a] limited liability company agreement may provide rights to any person, including a person who is not a party to the limited liability company agreement, to the extent set forth herein.”  Given this language I would argue that the lender could be given special rights in connection with a decision to file bankruptcy, to the the extent that such a provision would not conflict with the Bankruptcy Act.

I question whether the “independent manager” should be called a manager at all. The lender could require that the borrower have an “independent member”. The independent member would be given the same voting powers as the independent manager. The independent member would have no fiduciary duties to the company, its members or its manager under 18-1001 and would have a duty exclusively to the creditors when voting on any matter involving the filing of a petition in bankruptcy.

The previous paradigm of calling the person a manager raises the issue of whether the independent manager had a obligation to attend meetings other than a meeting called to consider the filing of a bankruptcy petition. It is fair to say that the CT or CSC employees who have historically served as independent managers have not considered that they had an obligation to attend “board” meetings.

Under 18-101 a.(7) a properly drafted provision would call the person an Independent Member. the Independent Member could not be removed or replaced without the prior written consent of the lender and any effort to remove or replace the Independent Member without the lender’s prior written  consent is void ab initio. The agreement would continue to provide for a “springing manager” or “springing member” which would take office automatically upon any occurrance that causes the last member to cease to be a member of the LLC or any other action that removes the manager.

The protections sought by lenders using anIndependent Manager is not dead, but must be redefined. Calling this person a manager in those situation where the Company continues to have a member or manager is an error. Drafting the agreement for a SPE that meets the requirements of this new post GGP world will be complex. The qualification to serve as an “independent member”  needs to be stated in the Agreement. The Agreement needs to state that so long as the loan is outstanding the independent member may not be removed or changed without the consent of the lender and must specify the how the duties of this independent member will be defined under the new paradigm. I have an active Delaware business practice as well as a practice in Delaware’s State and Federal courts. If you or your client have a business matter or a matter which you wish to litigate in Delaware or has a matter pending in Delaware, we would appreciate the opportunity to consult with you regarding our representation. Please remember that we do not accept representation without a written engagement letter.

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