Warning: Some Contractual Words May Actually Be Magic

Courts are fond of saying that there is no such thing as “magic words” in contracts.[1] That may be, but according to a recent Delaware Court of Chancery decision, XRI Investment Holdings LLC v. Holifield, 2022 WL 4350311 (Del. Ch. Sep. 19, 2022), the word “void” could well have a talismanic effect. And when you contractually declare that the effect of an assignment made in violation of an anti-assignment clause is that the offending assignment is “void,” then you have cast an unbreakable spell on that assignment that renders it “incurably void,” with all the attendant consequences: “that means a party may not deploy equitable defenses such as waiver, estoppel, acquiescence, or unclean hands to defeat the claim of breach and defend the contractually noncompliant act.”[2]

In XRI Investment Holdings, an individual member of an LLC assigned his membership interests to a newly created special purpose vehicle in order to facilitate a financing transaction unrelated to the LLC. The LLC agreement prohibited assignments of membership units unless they were formally approved in writing by the LLC Board or were made to a “Permitted Transferee” for no consideration. The newly created special purpose vehicle clearly qualified as a Permitted Transferee and there was no consideration directly exchanged for that transfer. But the transfer was required as part of the financing and the court held that under the “step-transaction” doctrine the financing and the assignment had to be considered as part of one transaction for which the financing was in fact consideration for the assignment to the special purpose vehicle. With that decided, the assignment thus required the “written consent” of the LLC Board, which had not been obtained.

However, certain members of the LLC Board had apparently known about and helped facilitate the transaction to an extent that Vice Chancellor Laster found that their actions constituted “acquiescence” in the transaction and that the LLC should be estopped from asserting the noncompliance with the formal requirements of the anti-assignment clause.[3] But alas, the anti-assignment clause specifically provided that any noncompliant assignment was “void,” and under binding Delaware Supreme Court precedent, the use of the word “void” made any reliance on equitable defenses to strict compliance with the formal terms of the anti-assignment provision unavailable. Even worse, the voidness of the assignment was incurable, even had the parties wanted to waive the technical requirements after the fact:

The consequences of finding a contract void ab initio are serious. Under Delaware law, “[a] court may never enforce agreements void ab initio, no matter what the intentions of the parties.” Parties cannot ratify or fix a void contract, which is “deemed incapable of confirmation….”[4] 

Only a compliant do over could effectuate such an assignment—there was simply no mechanic to validate the originally void assignment.

Vice Chancellor Laster believed that the result he was forced by precedent to render here was inequitable and wrote an extensive “brief” (the opinion in its original form is 154 pages) as to why the Delaware Supreme Court should reconsider the rule that made the parties’ choice to declare a noncompliant assignment void so far reaching. His recommended approach was to limit the parties’ ability to dictate voidness ab initio as a selected remedy for breach of an anti-assignment clause and instead treat the parties’ use of the word “void” as only meaning that the non-breaching party could treat it as void but was not required to do so—in other words, treat the word “void” as having the same meaning as “voidable”:

Under [binding Delaware Supreme Court precedent], XRI can avoid the consequences of a transaction notwithstanding its acquiescence. For a court of equity, that is an uncomfortable outcome, and it provides an impetus to explore a different approach. Under that different approach, the consequence of incurable voidness would be reserved for acts that violate limitations that the state has imposed, in its capacity as sovereign, on the actions that parties can legitimately take. When parties have gone outside the boundaries that the state has set, it makes sense that the state would treat the impermissible act as if it never occurred. But just as parties cannot agree contractually to other remedies that only the state can impose, such as criminal sanctions, parties would not be able to agree contractually to an outcome of incurable voidness. No matter what words the parties used in a contract, the noncompliant act would be voidable, not void. A court still could determine that the act was invalid, but parties would be able to raise equitable defenses to defeat that result. Parties could not use the word “void” to contract out of equity.[5]

But Vice Chancellor Laster’s preferred approach is not the current law of Delaware and throwing the word “void” around as a consequence of a contractual breach of an anti-assignment clause may have unintended consequences. Everyone should know that, as a general rule, “[a] contract term prohibiting assignment of rights under the contract, unless a different intention is manifested, … gives the obligor a right to damages for breach of the terms forbidding assignment but does not render the assignment ineffective.”[6] So one can understand why a party may want to clearly provide for the right to treat an assignment in violation of an anti-assignment clause as invalid. But doing so does not require one to declare it void ab initio and thereby deprive both parties of the flexibility to ratify the offending assignment if so desired. Until the Delaware Supreme Court decides otherwise, it might be prudent to avoid incantations of voidness when voidability is sufficient.

Endnotes    (↵ returns to text)
  1. See e.g., Wood v. Lucy, Lady Duff Gordon, 118 N.E. 214 (N.Y. 1917) (“The law has outgrown its primitive stage of formalism when the precise word was the sovereign talisman, and every slip was fatal.”); Prairie Capital. V. Double E Holding Corp., 132 A.3d 35, 51 (Del. Ch. 2015) (“Delaware law does not require magic words.”).
  2. XRI Investment Holdings LLC v. Holifield, 2022 WL 4350311, at *47 (Del. Ch. Sep. 19, 2022).
  3. “Acquiescence applies when the party who possesses a valid challenge to a particular act, having ‘full knowledge of his rights and the material facts,’ engages in conduct that leads the other party to believe reasonably that the act had been approved.” Id. at *30.
  4. Id. at *55.
  5. Id. at *51.
  6. Restatement (Second) of Contracts § 322(2)(b) (1981).