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Techmer Accel Holdings, LLC v. Amer: The Delaware Court of Chancery Discusses the Different Statutory Approaches that Apply to Distributions Made by a Limited Partnership Before and After Dissolution

January 11, 2011

In a recent case, the Delaware Court of Chancery addressed cross-motions for summary judgment in a case involving defendants Crescent Private Capital, L.P., a Delaware limited partnership (the "Partnership"), and Crescent Gate Partners, L.L.C., a Delaware limited liability company (the "General Partner"). The Partnership was a majority stockholder of Accel Corporation ("Accel"). In March 2008, Accel was involved in a merger (the "Merger") pursuant to which the Partnership received cash merger consideration. On April 10, 2008, those funds were distributed to the partners of the Partnership (the "Merger Distribution"). Approximately a year after the Merger, a certificate of cancellation was filed on April 21, 2009, with an effective date of April 30, 2009, purporting to terminate the existence of the Partnership. Another certificate of cancellation was also filed on April 21, 2009, purporting to terminate the existence of the General Partner.

As part of the merger agreement governing the Merger (the "Merger Agreement"), the Partnership, among others, agreed to indemnify the plaintiffs for breaches of certain representations and warranties of Accel. The plaintiffs alleged that the Partnership had not reserved sufficient funds to cover the amounts owed under the Merger Agreement, as required by Section 17-804 of the Delaware Revised Uniform Limited Partnership Act (the "LP Act"). The Court acknowledged that "if a claim against a dissolved limited partnership is among those contemplated by § 17-804(b), the limited partnership must make reasonable provision for that claim during the winding up process -- the period after dissolution but before termination of the partnership." If there is a failure to comply with Section 17-804, "the Court may grant a request to nullify the limited partnership's certificate of cancellation because of the limited partnership's failure to wind up in accordance with the statutory mandate."

The defendants countered that the Partnership had made no distributions after the dissolution of the Partnership and therefore could not have violated Section 17-804. In the defendants' view, distributions made by a limited partnership that had not been dissolved are governed by a different statutory section of the LP Act, namely Section 17-607. The plaintiffs had made no allegations under Section 17-607. Section 17-607 sets forth an insolvency test whereby a limited partnership may not make a distribution to its partners if at the time of such distribution or as a result of such distribution the limited partnership is insolvent. Section 17-804 takes a different approach after dissolution of a limited partnership. It requires that creditors must be satisfied (whether by payment or the making of reasonable provision for payment) before distributions may be made to partners in respect of their interests in the limited partnership.

The Court analyzed Section 17-804 and concluded that for it to apply, there must have been a dissolution of the Partnership. The Court stated that "[u]nder § 17-804(e), distributions made to partners by a dissolved limited partnership are exclusively controlled by § 17-804, while § 17-607 governs distributions at all other times during the limited partnership's existence before dissolution." As long as a distribution did not violate Section 17-607 when the Partnership was not dissolved, the distribution would be outside the scope of Section 17-804, which only applies after dissolution. The Court recognized that this meant that assets of a limited partnership could be depleted before dissolution "from ordinary course liabilities or payment obligations…[and] [w]ith its reserves lacking upon dissolution because of earlier depletion, the limited partnership would then only be required to pay its claims and obligations 'ratably to the extent of assets available therefor.'" In so concluding, the Court followed what it believed the Delaware General Assembly intended by having two different statutory approaches to protect creditors based on whether a limited partnership is dissolved.

Under the LP Act, a limited partnership is dissolved if its LLC general partner dissolves and commences to wind up its affairs. Thus, if the General Partner had dissolved and commenced winding up its affairs before the date of the Merger Distribution, the Partnership would have been dissolved and the Merger Distribution would have been subject to Section 17-804 instead of Section 17-607. On the other hand, if the Merger Distribution had been made prior to the General Partner's dissolution and commencement of winding up its affairs, then such distribution would have instead been subject to Section 17-607. Since it was unclear when the General Partner had dissolved and commenced to wind up its affairs, the Court could not conclude whether Section 17-607 or Section 17-804 applied to the Merger Distribution.

The Court also examined whether the Partnership had wound up its affairs in accordance with Section 17-804 before filing its certificate of cancellation. The Partnership had retained certain funds upon its termination. Since a certificate of cancellation may not be filed until the completion of the winding up of a limited partnership, such filing was not appropriate in light of the retention of funds. The Partnership had not completed its winding up prior to cancelling its legal existence.

In light of the failure to wind up completely, the plaintiffs sought to have the Partnership's certificate of cancellation nullified and a receiver appointed pursuant to Section 17-805 to manage the affairs of the Partnership. Under Section 17-805, the Delaware Court of Chancery may appoint a receiver "on application of any creditor or partner of the limited partnership, or any other person who shows good cause." Such an appointment may occur, however, only if a certificate of cancellation has been filed. Since a certificate of cancellation had been filed, the Court exercised its power to appoint a receiver for the Partnership, reasoning that the Partnership had failed to wind up properly. The Court recognized that there were also grounds for nullifying the Partnership's certificate of cancellation, but felt that the appointment of a receiver provided sufficient relief.