series llcs: what happens when one series...

SERIES LLC Series LLCs in Interstate Commerce

Presented by

Allen Sparkman – Sparkman + Foote LLP Moderated

by Edward L. Wender – Venable LLP

February 5, 2013 ABA Business Law Section

Committee on LLCs, Partnerships and Unincorporated Entities Free Webinar

What is a Series LLC? A Series LLC is an LLC formed pursuant to a statutory provision permitting

the LLC to have separate identified series of limited liability company interests or assets, each of which may have its own separate members, managers, business purpose, or investment objective, and each of which may be treated separately with respect to liabilities to third parties such that the liabilities with respect to one series can be enforced against the assets of that series only and not against the assets of the LLC generally or of any other series.

SERIES LLC

Series A Series B

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Background Only nine states have adopted Series LLC legislation: • Delaware, Kansas (effective July 1, 2012), Illinois, Iowa,

Nevada, Oklahoma, Texas, Tennessee, and Utah • Although series legislation generally permits an individual

Series to contract, hold title, and sue and be sued in its own name, only Kansas, Illinois, and Iowa permit (but do not require) an individual Series to be treated as a separate legal entity

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Issues if Series Does Business in a Non-Series State

Several issues may arise, including— • How to qualify as a foreign entity. • Will a court in a non-Series state respect

the internal liability shield of the series LLC?

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Qualification as Foreign Entity

If an individual Series wishes to carry on activities in a non-Series State that will constitute “doing business” in that State for purposes of the registration of foreign entities, it is likely to be unclear precisely how the Series, or the juridical Series LLC, should comply. That is, should the filing be in the name of the Series or of the juridical Series LLC?

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Qualification as Foreign Entity Non-Series State

In Colorado, a non-Series state, for example, the statute provides that “a foreign entity shall not transact business or conduct activities in this state … until its statement of foreign entity authority is filed in the records of the secretary of state.” C.R.S. §7-90-801.

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The Colorado statute defines “foreign entity as “a foreign corporation, …a foreign limited liability company, or any other organization or association that is formed under a statute or common law of a jurisdiction other than this state or as to which the law of a jurisdiction other than this state governs relations among the owners and between the owners and the organization or association and is recognized under the law of such jurisdiction as a separate legal entity.” C.R.S. §7-90-102(23).

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Because an individual series of a Delaware Series LLC is not treated as a separate legal entity under Delaware law, if such an individual series began doing business in Colorado, the juridical Series LLC would be required to file a statement of foreign entity authority. The records of the Colorado Secretary of State disclose that in many cases an individual series has filed a statement of foreign authority in the name of the individual series. Assuming such a filing could not be characterized as a filing by the juridical Series LLC, there does not appear to have been compliance with the Colorado statute.

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Qualification as Foreign Entity Series State—Delaware

Although the Delaware Secretary of State’s form for qualification of a foreign LLC does not include a series provision, Delaware law provides that if a foreign Series LLC registering to do business in Delaware is governed by an operating agreement that establishes designated series of members, managers, LLC interests, or assets having separate rights, powers, or duties with respect to specified property or obligations of the foreign limited liability company or profits and losses associated with specified property or obligations of the LLC, that fact must be stated on the application for registration as a foreign LLC.

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Qualification as Foreign Entity Series State—Delaware

In addition, Delaware law requires that the foreign LLC state on the application whether the debts, liabilities and obligations incurred, contracted for or otherwise existing with respect to a particular series is enforceable only against the assets of that series and not against the assets of the foreign LLC generally or any other series thereof and whether any of the obligations, debts, expenses and liabilities of the limited liability company generally or another series thereof are enforceable against that series. 6 Del. C. §18-215(n).

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Qualification as Foreign Entity Series State--Delaware

Delaware lawyers believe §18-215(n) to be a notice statute that does not provide a substantive rule that Delaware will recognize the internal liability shield of a foreign Series LLC. Conaway, A Business Review of the Delaware Series: Good Practice for the Informed, at 30, http://papers.ssrn.com/so13/papers.cfm?abstract_id=1097645.

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http://papers.ssrn.com/so13/papers.cfm?abstract_id=1097645

http://papers.ssrn.com/so13/papers.cfm?abstract_id=1097645

Foreign Qualification Series State—Texas

The Texas Business Organizations Code contains a special rule for foreign Series LLCs: Sec. 9.005. SUPPLEMENTAL INFORMATION REQUIRED IN APPLICATION FOR REGISTRATION OF FOREIGN LIMITED LIABILITY COMPANY. (a) This section applies only to a foreign limited liability company governed by a company agreement that establishes or provides for the establishment of a designated series of members, managers, membership interests, or assets that has any of the characteristics described by Subsection (b).

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(b) A foreign limited liability company must state in its application for registration as a foreign limited liability company whether: (1) the series has: (A) separate rights, powers, or duties with respect to specified property or obligations of the foreign limited liability company; or (B) separate profits and losses associated with specified property or obligations of the foreign limited liability company; (2) any debts, liabilities, obligations, and expenses incurred, contracted for, or otherwise existing with respect to a particular series shall be enforceable against the assets of that series only, and not against the assets of the company generally or the assets of any other series; and (3) any debts, liabilities, obligations, and expenses incurred, contracted for, or otherwise existing with respect to the company generally or any other series shall be enforceable against the assets of that series.

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Note that the form the Texas Secretary of State has promulgated for filing by a foreign Series LLC requires that the filing will be in the name of the juridical Series LLC in certain cases. The instructions to Form 313 state: “A series limited liability company that is treated as a single legal entity under the laws of its jurisdiction of organization is treated as a single legal entity for purposes of registration. The limited liability company rather than the individual series should register as the legal entity that is transacting business in Texas.” Does the language of the instructions to Form 313 mean by implication that an individual foreign Series that is treated as a separate legal entity by its jurisdiction of formation should file in the name of the Series?

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If you are called on to help with such a filing, the author suggests calling the friendly folks at the Texas Secretary of State’s office. In all cases where the answer is not clear from the applicable statute or form, the best practice surely must be to call the particular State filing office for guidance.

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Recognition of Liability Shield in Non-Series State

While the general rule is that the law of the state of formation should govern the regulation of the internal affairs of an entity, including the liability of an owner of the entity for obligations of the entity, it would appear to be a stretch for a jurisdiction without Series LLCs to recognize the liability limitation function of the Series within the LLC on the basis of the internal affairs doctrine—the effect of the liability limitation function applies to third party creditors of a Series, not just to the internal affairs of the entity and its members inter se nor, unless a veil-piercing claim is involved, to the liability of a member for debts of the Series or the Series LLC.

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Recognition of Liability Shield in Non-Series State—Full Faith and Credit

If the internal affairs doctrine does not apply, the next question is whether a non-Series state would be required to recognize the internal liability shields of a Series LLC because of the Full Faith and Credit Clause of the United States Constitution: Full faith and credit shall be given in each state to the public acts, records, and judicial proceedings of every other state. And the Congress may by general laws prescribe the manner in which such acts, records, and proceedings shall be proved, and the effect thereof. U.S. Const. Art. IV, Sec. 1.

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Recognition of Liability Shield in Non-Series

State—Full Faith and Credit (Cont.) In other words, if an individual Series of a Delaware Series LLC is doing business in a non-Series state, say Colorado, does the Full Faith and Credit Clause require a Colorado court to respect the internal liability shield of the Delaware Series LLC legislation in a suit brought by a Colorado resident seeking to hold the juridical Series LLC and all its Series liable for an accident caused by the activities of one of the Series in Colorado?

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State—Full Faith and Credit (Cont.) The short answer is no. Although it is well-established that a state’s statutes are “public acts” for purposes of the Full Faith and Credit Clause, Bradford Electric Light Company v. Clapper, 286 U.S. 145, 154-55 (1932),a state is not required “to substitute the statutes of other states for its own statutes dealing with a subject matter concerning which it is competent to legislate.” Pacific Employers Ins. Co. v. Industrial Accident Commission, 306 U.S. 493, 501 (1939).

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State—Full Faith and Credit (Cont.) Further, “a rigid and literal enforcement of the full faith and credit clause, without regard to the statute of the forum, would lead to the absurd result that, whenever the conflict arises, the statute of each state must be enforced in the courts of the other, but cannot be in its own.”

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State—Full Faith and Credit (Cont.) The Court cited Pacific Employers approvingly in 1998 in Baker v. General Motors Corporation, 522, U.S. 222, 233 (1998) (Although a court may be guided by the forum state’s public policy in determining the law applicable to a controversy, the Court’s decisions support no roving “public policy exception” to the full faith and credit due judgments. Pacific Employers Ins. Co., supra, quoting Alaska Packers Association v. Industrial Accident Commission, 294 U. S, 532, 547 (1935).

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State—Full Faith and Credit (Cont.) Accordingly, a court in a non-Series state could, without running afoul of the Full Faith and Credit Clause, refuse to uphold the internal liability shields of a Series LLC on the ground that the forum state’s legislature, by not enacting series legislation, had expressed a public policy that internal liability shields within a single entity should not be recognized.

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State—Full Faith and Credit (Cont.) By contrast, the Full Faith and Credit Clause applies quite differently to judgments of a sister State: A valid judgment in one State of the United States will be recognized and enforced in a sister State even though the strong public policy of the latter State would have precluded recovery in its courts on the original claim. RESTATEMENT (SECOND) OF CONFLICTS §117 (1971); Baker, supra, note 11 at 233.

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State—Full Faith and Credit (Cont.) Indeed, if a Colorado court were to render a money judgment against a Delaware Series LLC because of an act of one Series of the Series LLC in Colorado, the Full Faith and Credit Clause would require a Delaware court to recognize and enforce that judgment. Baker, supra; Fauntleroy v. Lum, 210 U.S. 230.237, (1908) (Full Faith and Credit Clause required Mississippi court to enforce judgment of a Missouri court that, in a case brought in Missouri, enforced a contract entered into in Mississippi that was illegal under Mississippi law.)

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State—Full Faith and Credit (Cont.) Even if you have a transaction that could go across state boundaries but remain in series jurisdictions (a real estate developer that works in Texas and Chicago), the applicable legislation is not uniform. The author suggests that until there is more wider adoption of Series LLC legislation, or favorable clarification of the issues discussed above, the prudent course for an attorney advising a Series LLC that wants to do business in a non-Series state would be to advise that the Series LLC form a single-member LLC subsidiary to carry out business activity in the non-Series state. 25

Happens When

One Series Fails? Michelle M. Harner

University of Maryland Francis King Carey School of Law

Overview • Eligibility of Series to File Bankruptcy

• Consequences of a Bankruptcy Filing for a Series

• Other Considerations

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Key Issues • Can a Master LLC file?

o If so, what happens to the Series?

• Can a Series File? o If so, what happens to the Master LLC and other

Series?

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Gating Issue: Eligibility • Who May Be a Debtor?

o Sections 109(b) and (d) of the Bankruptcy Code identify “persons” who may be a debtor in a chapter 7 or chapter 11 case.

o Those persons include “individuals, corporations

and partnerships,” and the term “corporation” includes, among others, “unincorporated organizations and associations.”

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Gating Issue: Eligibility • Are the Master LLC and Each Series “Separate

Entities”?

• No clear answer.

• May try to answer through one of three traditional tests: the “state classification” approach, the “independent classification” approach and the “alternative relief” approach.

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Why Does It Matter? State Law Structure

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Why Does It Matter?

Bankruptcy Estate

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Why Does It Matter? • The Bankruptcy Estate:

(a)The commencement of a case under section 301, 302, or 303 of this title creates an estate. Such estate is comprised of all the following property, wherever located and by whomever held: (1)Except as provided in subsections (b) and (c)(2) of this section, all legal or equitable interests of the debtor in property as of the commencement of the case. 11 U.S.C. 541

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http://www.law.cornell.edu/uscode/text/11/301



Why Does It Matter?

Bankruptcy Estate

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Why Does It Matter? • The Bankruptcy Estate:

(a)The commencement of a case under section 301, 302, or 303 of this title creates an estate. Such estate is comprised of all the following property, wherever located and by whomever held: (1)Except as provided in subsections (b) and (c)(2) of this section, all legal or equitable interests of the debtor in property as of the commencement of the case. 11 U.S.C. 541

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Unit Unit Unit 38

Why Does It Matter? • Potential concerns specific to Series LLCs include:

o Losing separate structures and related asset protection

o Entity management losing control of Series o Potential reallocation of assets and resources,

potentially to detriment of assets and owners of healthy Series

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Other Considerations • Substantive Consolidation

• The Powers of the Bankruptcy Trustee/DIP:

o Avoiding Powers (trump unperfected security interests)

o Preference Claims o Fraudulent Conveyance Claims o Asset Sales Free and Clear of Interests and Claims

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Takeaways • Many unanswered questions: some need resolution

under bankruptcy laws, others await clarification under state laws

• Uncertainty may affect pricing and utility

• Bottom line—Series LLCs hold potential value but proceed with caution

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Series LLCs and the Uniform Commercial

Code Scott L. Matthews

Wilmington, Delaware

Two major UCC considerations:

A. Who is the debtor when a series LLC is involved?

B. What is collateral that consists of interests in a

series LLC?

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Who is the debtor? • Possibilities:

1. The limited liability company 2. A nominee of the limited liability company or a

series of the limited liability company 3. A series of the limited liability company

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The limited liability company is the debtor:

• No issues. If it is a Delaware LLC and is solely organized under the laws of the State of Delaware, then you would file in Delaware, as the LLC is a “registered organization” under 9-102(a)(70) of the UCC. If the LLC is not solely organized under Delaware law, then you would file in the location of the principal place of business or chief executive office, or if that jurisdiction has no central lien registry, the District of Columbia.

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A nominee of the limited liability company

or a series of the limited liability company

is the debtor:

• No issues. If the nominee is a registered organization, an organization or an individual, then you would file in the nominee’s location as set forth in Article 9.

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A series of the limited liability company is the debtor:

• Where do you file? oPossibilities:

oThe LLC’s location oIf you can argue that the series is a “person”

under the UCC, then you could file in the principal place of business or chief executive office of the series (if you believe that it is an organization)

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• Where do you file? oAnswer: oCover your bases!

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A series of the limited liability company is the debtor:

What is an interest in a Delaware series LLC?

• If no Article 8 opt-in, an interest in a series LLC, or in

a series of a series LLC, is a “general intangible” and you would have to file in the debtor’s location to perfect

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What is an interest in a Delaware series LLC?

• If Article 8 opt-in is included in the LLC agreement or series agreement, as applicable, then the interest is a “security” under Article 8 and you can perfect by filing against the debtor under Article 9 as “investment property,” or can take “control” of the securities under 8-106 by taking possession of the security certificates (if the interests are certificated) or entering into a control agreement (if the interests are uncertificated)

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Thank you Questions?

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