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Posted: August 19, 2017

Limited Liability Company Cannot Appoint Non-Member to Evaluate Derivative Claims

On August 15, 2017, the First Department issued a decision in LNYC Loft, LLC v. Hudson Opportunity Fund I, LLC, 2017 NY Slip Op. 06147, holding that, absent express authorization in the operating agreement, a New York limited liability company cannot appoint a non-member to a special litigation committee to evaluate a demand by a derivative plaintiff, explaining:

In Tzolis v Wolff, the Court of Appeals recognized the right of a member to sue derivatively on behalf of an LLC. The Court reasoned that the absence of a proposed article concerning derivative suits from the final legislative enactment did not mean that the legislature meant to render derivative suits nonexistent, observing that no legislator is known to have favored such an extreme result.

In the years since Tzolis was decided, courts have looked to New York statutory and common law on partnerships and corporations in determining certain questions arising in the LLC context. For example, it has been held necessary for a plaintiff suing derivatively on behalf of an LLC to allege presuit demand or demand futility, by analogy to section 626(c) of the Business Corporation Law. . . .

It is true, as defendants assert, that Tzolis encouraged courts to fashion remedies to speak to the omissions in the LLC statute. Nonetheless, we decline to uphold the appointment of an SLC where the relevant operating agreements do not delegate managerial authority to nonmembers or nonmanagers or otherwise provide for the appointment of an outsider to serve as an SLC. . . . That is not to say that the appointment of an SLC would in all cases be improper in the LLC context. Indeed, the members may so provide in the operating agreement, and such provision will be enforced in accordance with . . . the parties’ freedom to contract.

(Citations omitted).

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