Whittington v. Dragon Group, L. L. C., C.A. No. 2291-VCP (Del. Ch. May 25, 2012) (Parsons, V.C.)
In this letter opinion, the Court of Chancery addressed two challenges to a proposed final accounting in connection with the Court’s prior finding that the plaintiff was a member of the defendant, a limited liability company. The plaintiff, a member of the defendant, requested payment of attorneys’ fees by the defendant because the defendant paid the attorneys’ fees for other members in connection with this litigation. The plaintiff also requested a distribution for his pro-rata share of inadequately accounted for expenditures allegedly paid from the defendant’s escrow account. The Court denied the plaintiff’s request for attorneys’ fees, holding that the decision by members of the defendant to pay the attorneys’ fees for some, but not all, members was permissible. The Court granted the plaintiff’s second claim, finding the documentation before the Court inadequate to prove that the defendant used two deposits in its escrow account to pay specific expenditures of the defendant. Accordingly, the Court declared the deposits to be distributions, from which the plaintiff, as a member of the defendant, was entitled to his pro-rata share. Finally, the Court found each member of the defendant jointly and severally liable for the forgoing additional amounts owed to the plaintiff, but only to the extent that each member was overpaid due to the plaintiff’s unjust exclusion from the distribution.
Since 2006, plaintiff, Frank C. Whittington, II, (“Whittington”) and defendants, Dragon Group, LLC (“Dragon Group”) and individual Dragon Group members (“the Members”)(and collectively with Dragon Group, “Defendants”), have disputed Whittington’s proper ownership in Dragon Group, a real estate investment vehicle. On April 15, 2011, after several years of litigation, the Court of Chancery held that Whittington owned an 18.81% interest in Dragon Group, which entitled him to distributions of $162,175.10. Vice Chancellor Parsons subsequently ordered an independent accounting to determine if Whittington was entitled to any additional distributions beyond those established in the litigation. The independent accounting established Whittington’s entitlement to an additional net distribution of $396,165.
Whittington challenged the accounting. Whittington first argued that because Dragon Group paid for the Members’ attorneys’ fees in connection with this litigation, and Whittington is a member of Dragon Group, then Dragon Group must pay Whittington’s attorneys’ fees as well. Alternatively, Whittington argued that such payments were distributions to the Members, from which he was entitled to a pro-rate share. In analyzing this issue, the Court focused on two key issues. First, the Court noted that a group of members holding a majority interest in Dragon Group approved the payment authorization during a meeting attended by a quorum of the Dragon Group members. Therefore, under Dragon Group’s operating agreement and Delaware law, the payment authorization was a valid action for purposes of the final accounting. Next, the Court acknowledged that Delaware law permits members of an LLC to approve payment of attorneys’ fees for all, or only a subset, of the LLC members, provided such action is not contrary to the LLC operating agreement. The Court determined that no provisions in the Dragon Group operating agreement prohibited the selective payment of attorneys’ fees for members, and that the Members made the payment authorization in direct response to, and for the purpose of defending against, the litigation initiated by Whittington. Accordingly, Vice Chancellor Parsons denied Whittington’s request for attorneys’ fees. The Court, however, permitted Whittington to file a separate action to challenge the propriety of the payment, a legal issue beyond the scope of the final accounting and thus outside the scope of the current action.
Whittington’s second challenge alleged that Dragon Group inadequately accounted for payments, totaling $478,000, allegedly made from two Dragon Group escrow account deposits. Without an adequate accounting, argued Whittington, the expenditures should be declared distributions, and thereby entitle Whittington to his pro-rata share. As proof of alleged development expense payments and attorneys’ fees payments, Defendants provided photocopies of check faces. Unpersuaded, the Court noted that the check faces did not identify Dragon Group or its trust account. As proof of an alleged mortgage payment, Defendants offered a mortgage amortization schedule, along with general journal entries from the books of Dragon Group and the alleged payee, Whittington, Ltd. However, the Court found no journal entry for the alleged payment amount in either set of books. Further, Defendants failed to produce a cancelled check for the mortgage payment, despite allegations of having such in its possession. The Court also questioned Defendants failure to introduce any third-party confirmations, finding that such confirmations would likely exist for the payments at issue. Ultimately, the Court found insufficient evidence to prove that Dragon Group used the deposits to pay the alleged payments. Accordingly, the Court found the deposits constituted distributions, and that Whittington was entitled to his pro-rata share of $89,911.80.
Whittington also requested that each of the Members be jointly and severally liable for the additional amounts owed Whittington, as determined by the letter opinion and the independent accounting. The Court held that the Members were joint and severally liable for the additional amounts, but that no Member was to be liable for an amount greater than that which the Member was overpaid due to Whittington’s improper exclusion from the distribution.