Delaware LLC Agreement is Subject to the Statute of Frauds

Steven D. Goldberg, Esq. Wilmington, DE
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[The 2010 Amendments to the Delaware LLC Act removes oral LLC agreements from the Statute of Frauds]
Section 18-101(7) of the Delaware LLC Act provides that the LLC agreement means “any agreement (whether referred to as a limited liability company agreement, operating agreement or otherwise) written, oral or implied, of the member or members as to the affairs of a limited liability company and the conduct of its business.” If an agreement may be “oral or implied” one could reasonably assume that such an agreement has been taken out of the Statute of Frauds.

Delaware’s Statute of Frauds, 6 Del. C. §2714(a) bars the enforcement of an agreement “that is not to be performed within the space of one year from the making thereof,” unless it is (1) written and (2) signed by the party against whom the agreement is to be enforced.  Only if the parties cannot possibly perform the agreement within one year does the statute of frauds apply and require a writing, signed by the charged party.

The Delaware Supreme decided the case of Olson v. Viking Global on December 15, 2009. Olson v Viking Global The case in part involved the enforcement of an unsigned LLC Company Agreement which was drafted for a hedge fund. Olson sought to enforce an earn out provision of the unsigned agreement on the basis that it represented an “oral” Company Agreement as permitted under the Act. The Company and the remaining members defended on the basis that an agreement had not been formed and even if there was an agreement a provided in the unsigned agreement, the provision in question was unenforceable under the Delaware Statute of Frauds as the earn out could not possibly be performed within one year of the date the agreement was allegedly made.

The Court preferenced it Statute of Frauds analysis at page 20 that:

“We have often declined to decide an issue that does not affect a case’s disposition, but this issue is one that could considerably impact the drafting and enforcement of LLC agreements. For this reason and because this issue involves a question of law and statutory construction, we proceed to review it de novo.”

“The Delaware LLC Act seeks “to give maximum effect to the principle of freedom of contract and to the enforceability of limited liability company agreements.” To that end, the Delaware LLC Act allows “written, oral or implied” LLC agreements. The Delaware LLC Act also provides that “[a] limited liability company is not required to execute its limited liability company agreement” and that “[a] limited liability company is bound by its limited liability company agreement whether or not the limited liability company executes the limited liability company agreement.” Thus, the Delaware LLC Act generally allows parties to enforce unwritten, unsigned LLC agreements.”

“In this case, we must determine whether parties to a Delaware LLC agreement may enforce an unsigned or unwritten LLC agreement that would require more than a year to complete. We must adhere to the rules of statutory construction and, whenever possible, presume consistency between recent legislation and pre-existing law. “Laws are assumed to be cumulative, not destructive of other laws.” We “assume[] that when the General Assembly enacts a later statute in an area covered by a prior statute, it has in mind the prior statute,” and thus, “statutes on the same subject must be construed together so that effect is given to every provision unless there is an irreconcilable conflict between the statutes . . . .” ”

“… We have long recognized that “unless it is expressly so provided, one act does not ordinarily repeal another, if both, in whole or in part, can be construed together.” We are “reluctant to find repeal by implication even when the later statute is not entirely harmonious with the earlier one,” and “[i]f two statutes conflict somewhat, [we] must, if possible, read them so as to give effect to both, unless the text or legislative history of the later statute shows that [the legislature] intended to repeal the earlier one and simply failed to do so expressly.””

“The legislative history of the LLC Act does not demonstrate the General Assembly’s intent to place LLC agreements outside of the statute of frauds. When the General Assembly originally enacted the LLC Act in 1992, it only permitted written LLC greements. In 1995, the General Assembly amended the LLC Act to permit “any agreement, written or oral.” In 2007, the General Assembly further expanded the LLC Act to allow “implied” LLC agreements. In its current form, Section 18-101(7) of the LLC Act provides that LLC agreements may be “written, oral or implied.” ”

“Because we can construe the statute of frauds and the LLC Act together and the General Assembly did not clearly intend the LLC Act to render the statute of frauds inapplicable, there is no implied repeal of the statute of frauds. As the Vice Chancellor stated, the statue of frauds should “protect defendants against unfounded or fraudulent claims that would require performance over an extended period of time.” The legislature enacted the statute of frauds over a century ago, and its purpose remains valid. If the General Assembly intends to limit the application of the statute of frauds by removing LLC agreements from its scope, the General Assembly must say so explicitly. “[We] will not do by judicial implication what the General Assembly itself has declined to do by express legislation.” Accordingly, we hold that the Delaware LLC Act does not preclude application of the statute of frauds to LLC agreements. Therefore, the statute of frauds applies to LLC agreements, and the Vice Chancellor correctly so held.”

[Citations and foot notes omitted]

The Court’s holding in this case may come as a suprise to many practitioners who reasonably  interpreted 18-101(7) as an implied repeal of the Statute of Frauds. While most agreements do not contain complicated earn out provision that last over a series of years, some agreements do contain provisions that implicate the Statute of Frauds. The use of oral or implied Company Agreements has always been a difficult practice issue. While permitted by the Act, the use of oral agreements has always been frowned upon by practitioners. This decision gives one more reason why the practioner will press his or her clients to reduce their agreements to writing and to follow through with clients to assure that agreements sent out for signature are actually signed.

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