Keegan Hicks

As “part of an ongoing dialogue between the Delaware Supreme Court and the trial courts,”[1] Delaware Vice Chancellor Laster recently made a direct proposal that the Delaware Supreme Court “retreat from the concept of contractually specified incurable voidness.”[2] This blog post aims to explore the facts that motivated Vice Chancellor Laster’s suggestion, consider the law and his reasoning, summarize his proposed regime, and outline a few practical implications of the Delaware Supreme Court possibly considering this question.[3]

The Facts[4]

At its heart, this case is a dispute over Class B shares (“Disputed Shares”) in XRI Investment Holdings LLC (“XRI”). XRI is owned by Morgan Stanley, and co-founders Matthew Gabriel and Defendant Gregory Holifield.[5] Originally, the Disputed Shares were owned by Holifield, but to finance another company, Holifield—with the help of Gabriel—transferred the Disputed Shares to secure a 3.5-million-dollar loan from a third-party private equity fund (“Assurance”).[6] Specifically, Holifield transferred (“Blue Transfer”) the Disputed Shares into a newly formed LLC (“Blue Fund”) because XRI was already a Direct Creditor to the disputed shares.[7] This allowed Holifield to subordinate the creditor claims over the Disputed Shares—XRI would remain the only secured creditor of the shares, whereas Assurance became a general creditor over Blue Fund and could only claim as collateral the net proceeds that Blue Fund would receive in the event of a sale of the Disputed Shares.[8] Though XRI’s LLC Agreement (“LLC Agreement”) likely prohibited Blue Transfer as a “void” act against the no transfer provision, XRI made a business judgment to not originally not pursue disputing Blue Transfer under the LLC agreement.[9]    

XRI changed its position and decided to enforce the LLC Agreement almost a year after the loan had been secured when Holifield ran into financial struggles and was unable to perform on his loan from XRI.[10] Holifield attempted to renegotiate this debt and offered to sell part of the Disputed Shares, but asserts that XRI chose to pursue a strict foreclosure instead because the Disputed Shares were worth much more than the remaining balance of the loan.[11] Strict foreclosures are generally consensual agreements that relieve the debtor of her obligations, but only if the debtor surrenders the entirety of the collateral.[12]  XRI performed the strict foreclosure by taking advantage of a provision in the UCC that deems silence as acceptance of a strict foreclosure where the offer is made and the debtor fails to respond.[13] According Holifield, XRI intentionally sent a physical offer of the strict foreclosure to an address XRI knew Holifield had vacated.[14] When Holifield did not respond, XRI foreclosed on the Disputed Shares.[15] Holifield and Assurance brought an action in Texas courts to challenge XRI’s foreclosure, claiming that the foreclosure performed against Holifield was ineffective because Blue Fund, not Holifield, was the owner of the Disputed Shares.[16] XRI responded by bringing this action in Delaware Court seeking declaratory judgment that Blue Transfer was an act void ab initio[17] under the no transfer provision of the LLC Agreement. Under the doctrine of voidness, this would mean (1) that Blue Transfer was a legal nullity that never occurred; (2) that Holifield, not Blue Fund, was the owner of the Disputed Shares; and (3) that the Strict Foreclosure had correctly been performed against Holifield.[18]

The Law

Holifield primarily claims acquiescence, an equitable defense which bars XRI from claiming breach.[19] The Court found that “[t]aken as a whole, XRI’s initial actions, followed by a subsequent and lengthy period of inactive silence, clearly establish acquiescence.”[20] XRI responded by arguing that this defense was unavailable to Holifield, first asserting that equitable defenses were not available to actions at law; and second, that under CompoSecure, LLC v. CardUX, LLC II,[21] a binding Delaware Supreme Court precedent, the plain language of the XRI LLC agreement mandated a finding that any acts in violation of the no transfer provision of the LLC Agreement are void ab initio.[22]

The Court disagreed with XRI’s first assertion. After reviewing the centuries-long conflict between courts of law and courts of equity in old England, the Court held that “the reality is that whether a party can raise an equitable defense in response to a legal claim depends on the equitable defense.”[23] Specifically, the Court distinguished the “relief asserted [by equity courts] to defend against an action at law” called “equitable affirmative relief”[24] and the “equitable remedies” which courts of equity “issued when providing relief in [their] own right.”[25] The Court then asserted that fraud, mistake, illegality, and estoppel are all forms of equitable affirmative relief available against actions at law, and that laches and unclean hands were equitable remedies only available against equitable claims.[26] Because acquiescence is a special form of estoppel, the Court held that it is available against legal claims.[27]

The Court begrudgingly agreed with XRI’s second assertion. In CompoSecure, LLC v. CardUX, LLC II, the Supreme Court of Delaware held that “when an agreement states that a noncompliant act is ‘void,’ then the plain language of that provision trumps the common law and requires that a court deem the act void ab initio.”[28] Because the LLC Agreement defined wrongful transfers as ‘void,’ and because CompoSecure II was binding precedent, the Court found that Blue Transfer was void ab initio and held that acquiescence, although clearly proven, was unavailable to Holifield.[29]

The Proposed Regime

“On the facts of the case, [holding for XRI] is an inequitable result, and such an outcome is disquieting to a court of equity.”[30] For this reason, the Court argued that the Supreme Court should revisit CompoSecure II, respectfully proposing a new regime: that it would be preferable to treat  “the breach of a contractual provision as making a noncompliant act voidable, regardless of the language that the provision used.”[31] The Court made five primary arguments in support of its suggestion:[32]

1. The Court suggested that Delaware precedents made prior to CompoSecure II supported the Court’s proposed regime, positing that the CompoSecure II court was not briefed on these authorities and therefore did not consider them.

2. The Court noted that there was an active policy to steadily move away from incurable voidness in both contract and entity law because its application leads to harsh outcomes.

3. The Court then argued several aspects of contract law necessitated this new regime. First, the Court posited that to be consistent, Delaware should allow parties to argue all defenses generally available in breach of contract claims. Second, it argued that allowing parties to contract out of equity created poor contracting incentives. And finally, that parties cannot contract for certain remedies, because the courts determine remedies.

4. The Court then argued that “[a] range of authorities suggests that parties, courts, and legislatures do not regard the term ‘void’ as having a settled meaning of “void ab initio.’”[33] Because of this history of ambiguity, the Court stated that the term “lack[ed] the necessary semantic clarity to bear the weight of a rule of incurable contractual voidness.”[34]

5. Finally, the Court noted that the Delaware Constitution established a minimum jurisdiction that even the general assembly could not reduce. The Court argued that this was “intended to establish for the benefit of the people of the state a tribunal to administer the remedies and principles of equity.”[35] Because waiving a constitutional right through such a small contractual provision would be a “significant leap” from this purpose, the Court argued that it was preferable to only give incurable voidness a limited role in reducing equity.

Practical implications

Although the Court ultimately applied CompoSecure II, this Court’s proposal to consider an alternative approach suggests the following implications:

  • At a minimum, this opinion is just the latest in the ongoing push and pull between a formalistic, plain-meaning approach to contract interpretation and a more contextual approach. Because Vice Chancellor Laster’s suggestion favors the latter, practitioners should remember that the facts often outweigh the words of a contract.
  • This opinion puts deal lawyers on notice that contractual voidness provisions may not be enforced as intended.
  • Alternatively, should the Supreme Court ultimately reject Judge Laster’s proposal, it will be important for deal lawyers to recognize that a contractual voidness provision may not be a meaningless provision to be easily conceded in negotiations.
  • Furthermore, should the Supreme Court reject Vice Chancellor Laster’s proposal, that rejection would signal deal lawyers to consider whether that rejection means that parties can not only contract for recission, but other equitable remedies, namely specific performance.
  • To litigators, this opinion clarifies which equitable defenses are available against legal actions and which ones are not. Vice Chancellor Laster’s framework of equitable affirmative relief versus equitable remedies is helpful in determining whether an equitable defense is available in legal actions.
  • This opinion also serves as a basis for non-frivolous arguments against enforcing contractual voidness provisions. As Vice Chancellor Laster pointed out, CompoSecure II was, in part, likely decided the way it was because counsel readily conceded that an act would be void ab initio if the plain language of an agreement indicated as much in a remedy.[36] The Vice Chancellor lists several persuasive arguments that business litigators can use to stave off the harsh effects of incurable voidness.
  • Likewise, the rejection of Chancellor Laster’s regime offers a persuasive opportunity to argue and enforce remedies contractually specified within the four corners of an agreement.
  • Finally, practitioners should follow this case as it moves into an appeal posture. Because the Court was so plain in its dislike for the outcome,  both Plaintiff and Defendants have plenty to argue on appeal. Accordingly, practitioners should have their Westlaw and Lexis alerts turned on to see what happens next.

[1] XRI Invest. Holdings LLC v. Holifield, 2022 Del. Ch. LEXIS 240, at *138, n. 55 (Sept. 19, 2022).

[2] Id. at *174.

[3] On 10/03/2022 Final Order and Judgment were granted. Docket. No. 246. As of 10/04/2022, neither party in Holifield had appealed to the Supreme Court. Nevertheless, Title 10 Delaware Code § 145 provides 30 days to appeal from a final judgment, so watching the status of this case is paramount.

[4] Holifield, 2022 Del. Ch. LEXIS 240 at *11–56.

[5] Id. at *12–14.

[6] Id. at *16–38.

[7] Id.

[8] Id.

[9] Id. at *42–49.

[10] Id. at *46–52.

[11] Here, the parties contended that New York law governed the strict foreclosure. Accordingly, the decision summarized New York’s application of the UCC under N.Y. U.C.C. Law § 9–620(a). See Id. at *5–6, n. 1.

[12] Id.

[13] Id. at 5–7. Admittedly, the requirements for silence as acceptance in this context are more complex, but this explanation is sufficient for our purposes. See generally UCC 9-260.

[14] Holifield, 2022 Del. Ch. LEXIS 420 at *49–52.

[15] Id.

[16] Id. at *52–55.

[17] For the purposes of this blog post, ‘void’, ‘void ab initio’, ‘incurable voidness’, ‘incurable contractual voidness,’ and ‘legal nullity’ are synonymous.

[18] See Holifield, 2022 Del. Ch. LEXIS 420 at *56–59.

[19] See Holifield, 2022 Del. Ch. LEXIS 420 at *87. “The doctrine of acquiescence effectively works a[s] estoppel: where a plaintiff has remained silent with knowledge of her rights, and the defendant has knowledge of the plaintiff’s silence and relies on that silence to the defendant’s detriment, the plaintiff will be estopped from seeking protection of those rights.” Id. at *86-87 (quoting Lehman Bros. Hldgs., Inc. v. Spanish Broad Sys. Inc., 2014 Del. Ch. LEXIS 28, at *9 (February 25, 2014)).

[20] Id. at *87.

[21] CompoSecure, LLC v. CardUX, LLC II, 206 A.3d 807 (Del. 2018).

[22] Holifield, 2022 Del. Ch. LEXIS 420 at *87. Because the Court found that Blue Transfer did breach the LLC agreement, the primary issue before the Court then was whether Blue Transfer was an act void ab initio.  “The distinction between void [ab initio] and voidable is often of great practical importance. Whenever technical accuracy is required, void can be properly applied only to those [acts] that are of no effect whatsoever – those that are an absolute nullity.” Void, Black’s Law Dictionary (11th ed. 2019). In contrast, voidable acts are “valid until annulled,” and “are capable of being affirmed or rejected at the option of one of the parties.” Voidable, Black’s Law Dictionary (11th ed. 2019). Of particular import here, is that equitable defenses are unavailable to acts void ab initio. See Holifield, 2022 Del. Ch. LEXIS 420 at *124.  Thus, if the Court finds that Blue Transfer was void ab initio, as it was ultimately required to do under CompoSecure II, Blue Transfer was incurably void and equitable defenses do not apply. See id. at *84.

[23] Holifield, 2022 Del. Ch. LEXIS 420 at *102.

[24] Id. at 112. (citation omitted).

[25] Id.

[26] Id. at *119–124.

[27] Id.

[28] Id. at *13.

[29] Id. at *132–135.

[30] Id. at *10–11.

[31] Id. at *138.

[32] See Holifield, 2022 Del. Ch. LEXIS 420.

[33] Id. at *168.

[34] Id. at *172.

[35] Id. at 172–173 (quoting Du Pont v. Du Pont, 32 Del. Ch. 413 (Del. 1951)).

[36] Id. at 140–148.

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