Delaware Court of Chancery Applies Narrow Arbitration Provision in Member Dispute; Stays Claims Pending Arbitration

By Scott E. Waxman and Jessica A. Pingleton

In 360 Campaign Consulting, LLC et al. v. Diversity Communication, LLC, et al., C.A. No. 2019-0807-MTZ (Del. Ch. Mar. 20, 2020), the Delaware Court of Chancery (the “Court”) applied a middle ground approach based on the plain language of an arbitration provision in a governing limited liability company agreement (the “LLC Agreement”), holding that only disputes, controversies or claims between Members arising out of or relating to the LLC Agreement were arbitrable. The Court granted a stay of all remaining claims pending resolution of the arbitration.

The Outreach Team, LLC (the “Company”) is a Delaware limited liability company. Its two members were 360 Campaign Consulting, LLC (“360”) and Diversity Communication, LLC (“Diversity”), until Diversity effectively resigned as a member of the Company in 2019.  Prior to Diversity’s resignation, both members owned a 50% membership interest in the Company.

360, on behalf of itself, and derivatively on behalf of the Company (collectively, the “Plaintiffs”), brought suit against Diversity, Grassroots Team, LLC (“Grassroots”), Philip D. Radford, Diversity’s sole member (“Radford”), and Steven Rufo, the Company’s former manager (“Rufo” and together with Diversity, Grassroots, and Radford, the “Defendants”).

In their complaint, the Plaintiffs alleged that after failing to force a buyout of 360’s interest in the Company, Diversity formed Grassroots to compete against the Company. According the Plaintiffs’ complaint, the Defendants deprived the Company of a major client contract, and took the Company’s management, employees, intellectual property, leases, hardware, proprietary information, and business model. The complaint alleged eleven different claims against Diversity and/or other Defendants, including:

I. conversion of the Company’s assets;

II. violation of the Delaware Uniform Fraudulent Transfer Act;

III. breach of the LLC Agreement;

IV. breach of fiduciary duty;

V. aiding and abetting breach of fiduciary duty;

VI. breach of a confidentiality and non-disclosure agreement;

VII. tortious interference with contractual relations, relating to the LLC Agreement and contracts with third parties;

VIII. tortious interference with prospective business relations;

IX. imposition of a constructive trust;

X. declaratory judgment relating to a breach of the LLC Agreement; and

XI. unjust enrichment. The Defendants moved to dismiss the complaint in favor of the arbitration provision contained in the LLC Agreement (the “Arbitration Provision”).

Arbitrability of Disputes

As a threshold issue, the Court found that it had the authority to decide the arbitrability of the Plaintiffs’ claims because the LLC Agreement did not clearly and unmistakably demonstrate that arbitrability must be decided by an arbitrator. Rather, the Court found that the Arbitration Provision was narrowly drafted and applied only to those disputes between the members of the Company “arising out of or related to” the LLC Agreement, not generally to all disputes.

Applying a plain language interpretation of the LLC Agreement, the Court determined that only disputes between Diversity and 360, as members of the Company, arising out of or relating to the LLC Agreement were arbitrable. As further evidence of this intent, the Court observed that the arbitration provision was included in the section of the LLC Agreement that defined the authority and responsibilities of the Company’s members, managers, and officers, and that numerous actions of the Company required the unanimous or majority approval of the members. Noting that an inability to reach a consensus between the Company’s two members could result in the Company being unable to operate, the Court determined that the Arbitration Provision was included in the LLC Agreement to prevent deadlock amongst the Company’s members.

On the other hand, the Court noted that the LLC Agreement specifically contemplated that other disputes, i.e., disputes not between members or arising out of the LLC Agreement, would be adjudicated by courts, not arbitrators. Because the LLC Agreement included a general forum selection clause providing that disputes would be resolved in courts, and it contemplated that courts could provide equitable relief, the Court determined that it had the authority to resolve which claims brought by the Plaintiffs were arbitrable.

Application of a Narrow Arbitration Provision

Finding that the Arbitration Provision was narrow in scope, i.e., it did not apply to disputes not between members, or not arising out of the LLC Agreement, the Court applied the Arbitration Provision to each legal claim of action brought by the Plaintiffs. The Court found that only three claims were required to be arbitrated under the Arbitration Provision: claims (III), (X), and to the extent such claim was brought against Diversity, (VII) above. Specifically, the Court found that claims (III), (VII) and (X) needed to be arbitrated because such claims were brought by one member against another member of the Company, and each claim arose out of or was related to the LLC Agreement, requiring an analysis of the underlying LLC Agreement.

In its briefing, 360 argued that Diversity could not invoke the Arbitration Provision because it resigned as a member of the Company after the alleged events, and after the complaint and motion to dismiss were filed with the Court. The Court disagreed, holding that absent contractual language in the LLC Agreement to the contrary, a member’s subsequent resignation does not prohibit it from arbitrating disputes that arose prior to its resignation. In fact, the Court suggested that in some circumstances, an arbitration provision might even survive termination of an LLC Agreement.

The Court went on to hold that all other claims brought by the Plaintiffs against non-member Defendants, or claims that did not directly relate to the LLC Agreement, were required to be brought in courts. Noting that the parties could have easily contracted to expand the provisions of the Arbitration Provision to include disputes among the Company’s members, managers, and officers, and chose not to do so, the Court declined to expand the Arbitration Provision beyond its terms. The Court granted the Defendants’ motion to dismiss and compel arbitration with respect to the three arbitrable claims, and issued a stay pending the results of arbitration for all other claims.