Can A LLC President File for Bankruptcy Over Objections of Debtor’s Other Members?

By Lawrence J. Kotler and Drew S. McGehrin
Through a unilateral bankruptcy filing, a president and manager of a limited liability company sought to utilize the Chapter 11 process and sell a debtor’s business as a going concern over the objection of the debtor’s other members. In this case, the issue was whether the president was authorized to do so. In a recent decision issued on Sept. 30, 2024, the U.S. Bankruptcy Court for the Eastern District of Michigan examined this fundamental question of basic corporate governance and provided guidance to bankruptcy practitioners who may face similar questions in the future.
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Facts and Procedural History

The Debtor and Its Operating Agreement

On May 20, 2011, the Eton Street Brewery (the debtor) was formed as a limited liability company under the Michigan Limited Liability Company Act. The debtor’s initial members were Bonnie J. LePage, as trustee of the Bonnie J. LePage Trust UAD 3/17/97, as amended (the Bonnie trust); and Mary E. Nicholson, as trustee of the Mary E. Nicholson Trust UAD 1/14/1988, as amended (the Mary trust). Each member held a 50% membership interest in debtor.
As this was a limited liability company, the debtor had an operating agreement that, among other things, provided that the company’s business was to be managed by two managers, to be appointed by the members. The debtor’s initial managers were Bonnie LePage, as president, and Mary Nicholson, as vice president. Pursuant to the terms of the operating agreement, the president was vested with the powers to make “ordinary and usual decisions” regarding the business and affairs of the company.
However, the operating agreement imposed explicit restrictions on the manager’s powers and outlined specific decisions that required the unanimous consent of all members of the company. These decisions included: the sale of all or substantially all of the assets of the debtor; any matter that could change the amount of character of the debtor’s capital or the business or affairs of the debtor; or any decision that would make it impossible for the debtor to carry on its ordinary business. Further, the operating agreement also expressly provided that the all of the members had the right to vote on the sale or other transfer of all or substantially all of the company’s assets to the extent such sales were outside the debtor’s ordinary course of business.
On Dec. 1, 2017, the members amended the Debtor’s operating agreement to admit Michael A. Nicholson, trustee of the Michael A. Nicholson Revocable Living Trust U/A/D 1/14/94 as a member (the Michael trust). Following the amendment, the Bonnie trust had a 50% membership interest in debtor, the Mary trust had a 40% interest, and the Michael trust had a 10% interest.
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The State Court Lawsuit and Bankruptcy Filing

On Jan. 1, 2017, the debtor executed an amended promissory note in favor of the Mary trust relating to a prior business capital loan. The amended note required payment in full of the $3.8 million loan on or before Jan. 1, 2020. That debt went unpaid and, as a result, the Mary trust and Michael trust filed a lawsuit against the debtor alleging various causes of action relating to the unpaid note. As part of that lawsuit, the plaintiffs also requested the appointment of a receiver for the debtor’s business assets.
While the state court action was pending, the president, Bonnie LePage, on behalf of the debtor, filed a voluntary petition for relief under Subchapter V of Chapter 11 of the Bankruptcy Code. In its first day pleadings, the debtor admitted that: the goal of the case was to pursue a going concern sale of the debtor’s assets; and the going concern sale would require the consent of both the Mary trust and Michael trust absent a pending bankruptcy case. At the time of the filing, the debtor had already secured a stalking horse offer to purchase all of the debtor’s assets, however, that offer was from an entity related to the LePage family — affiliates of the president.
The debtor failed to secure the consent of, or otherwise consult with, the Mary trust and Michael trust for authority to file the bankruptcy or market and sell all of the assets of the debtor. As a result, the Mary trust and Michael trust filed a motion seeking dismissal of the case.
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The Bankruptcy Court’s Decision

The Bankruptcy Court commenced its analysis by reviewing the standard by which a motion to dismiss is reviewed. If a court finds that “those who purport to act on behalf of the corporation have not been granted authority by local law to institute the proceedings, it has no alternative but to dismiss the petition.”
In applying this standard, the court acknowledged that state law determines who has the authority to file a voluntary bankruptcy petition on behalf of a corporation or other entity. As applied to a limited liability company, the type of entity at issue here, the court noted that an operating agreement functions as a contract by and between the members of the company and, as such, the operating agreement should be construed according to principles of contract interpretation. The goal of such interpretation is to determine and enforce the parties’ intent, accomplished by reading the document as a whole and giving effect to every word, phrase and clause.
With these principles in mind, the court then reviewed the operating agreement to determine the extent to which the bankruptcy was properly authorized. The debtor’s operating agreement was silent as to whether the president may unilaterally place the debtor into bankruptcy. In support of her ability to do so, the president pointed to the language of the operating agreement that vested the president with power to “to all things necessary or convenient” to carry out the debtor’s business and affairs.
However, the court disagreed that this language gave the president unilateral authority commence the bankruptcy case. First, the court observed that the parties drafted the operating agreement to give the president only those powers to make “ordinary and usual decisions” and bankruptcy, the court determined, is not in the ordinary course of a company’s business.
Second, the court noted, that the operating agreement was replete with provisions that provided express limitations on the president’s powers to make certain decisions and that there were other decisions that expressly required the unanimous written consent of all of the members. Although bankruptcy is not specifically mentioned as requiring unanimous member approval, the operating agreement provided the following actions as requiring unanimous consent the sale of all or substantially all of the assets and property of the company; any matter that could result in a change in the amount or character of the company’s capital; any change in the character of the business and affairs of the company; the commission of any act that would make it impossible for the company to carry on its ordinary business and affairs; and any act that would contravene any provision of the operating agreement or applicable law. In light of these expressed provisions, the court found that these provisions unambiguously required unanimous member consent to place the debtor in bankruptcy. Accordingly, the court found that debtor’s failure to obtain unanimous member consent to file bankruptcy was sufficient “cause” for the dismissal of the case.
Notwithstanding this finding, however, the court also determined that the president’s unilateral, prepetition decision to market and begin the process to sell substantially all of the debtor’s assets also violated the express terms of the debtor’s operating agreement. Even before the unauthorized bankruptcy proceeding, the president unilaterally decided to take actions to effectuate the eventual sale of all of the debtor’s assets, an action for which the operating agreement expressly required unanimous member consent. As a result, even if the bankruptcy was properly authorized and filed, which it was not, the court also determined that it would not permit the debtor to utilize bankruptcy as a shield to insulate itself from the president’s blatant prepetition violations of the operating agreement in this regard and that such violations also would be sufficient cause for dismissal of the case.
As a result, the court granted the member’s request and dismissed the case.
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Commentary and Impact

While this case involves rather extreme and willful violations of a debtor’s operating agreement, the decision emphasizes the need for bankruptcy practitioners to closely review a company’s organizational documents to confirm that all of the necessary consents are obtained and that all of the required corporate actions are taken prior to making a major decision like filing for bankruptcy or selling substantially all of a company’s assets. The days and weeks leading up to such a major decision are often fraught with chaos, and such seemingly minor issues may be overlooked; however, as this decision highlights, sometimes these minor issues are extremely consequential and could derail an entire proceeding. Finally, this decision underscores the fact that bankruptcy courts are courts of equity and, as such, unclean hands can detrimentally and significantly impact a case.