Put on your Member B hat in the following not-so-hypothetical fact pattern:

Member A and Member B form a Delaware LLC to invest in a third-party biotech company. Member A presents Member B with an operating agreement under which:

• Member B gets 300,000 Class B units in exchange for making an initial capital contribution around $1.9 million, which the operating agreement expressly terms as a “loan” to the LLC, to invest in the biotech company.
• Member A is made managing member and gets 300,000 Class A units for making, any time within six months after Member B’s contribution, an equal capital contribution to be used to repay Member B’s loan.
• If the LLC fails to repay Member B’s loan within six months, the LLC is obligated to make interest-only payments to Member B every six months in arrears at a 6% annual rate.

As Member B, are you ready to sign the operating agreement?

Heck no, you say, likely using stronger language. If Member B signs the agreement (a) is there any assurance of repayment of the $1.9 million principal loan amount by a date certain, and (b) are there any consequences to Member A for not making the equal contribution to be used by the LLC to repay the principal amount of Member B’s loan? In other words, if there are no other protections in the agreement for Member B, doesn’t it look like Member A gets a free ride on Member B’s investment in the third-party biotech company if Member A never makes the matching contribution or, even if it’s made, the LLC, as borrower under Member A’s sole control as managing member, doesn’t use the contribution to repay Member B’s loan?

As I told you at the top, this is no hypothetical. This is the fact pattern addressed in a recent Report of Magistrate in Chancery David Hume IV in Hassanein v NTO Fund I, LLC, in which Mr. Hassanein (Member B) brought suit against Mr. Eliovits (Member A), NTO I, LLC (the jointly owned LLC), and Dermbiont, Inc. (the biotech company) seeking repayment of the $1.9 million.

Mr. Hassanein’s complaint filed in early 2025 — about three and a half years after making his contribution — primarily claimed breach of contract against Mr. Eliovits and NTO, both of whom greeted the complaint with a motion to dismiss.

The motion to dismiss and Mr. Hassanein’s opposition turned entirely on Section 3.1(e)(ii) of the operating agreement, providing:

The Obligations of the Class B Units are that as the initial Capital Contribution of the Class B Units, the Class B Members must, in aggregate, lend to the Company the sum of $1,924,417.78 (the “Class B Loans”). The Class B Loans shall not accrue interest, and the sole return on the Class B Loans shall be the Rights and Privileges granted to the Class B Units under this Agreement; provided however that, if the Company does not repay the Class B Loans in full on or prior to the Class B Loans Maturity Date, then simple interest at a rate of six percent (6%) per annum shall accrue and be payable on the unpaid outstanding amount of the Class B Loans, which amount shall accrue from the first date that the Class B Loans were made, and which interest shall be payable every six months in arrears, with the first interest payment due and payable on the Class B Loans Maturity Date.

Magistrate Hume’s decision sets the stage by reciting the principles that have cemented Delaware’s vigorous, contractarian approach when reviewing contracts in general and, specifically, LLC operating agreements:

Delaware employs a contractarian scheme for LLCs like NTO. The LLC’s operating agreement dictates membership terms and the members’ corresponding rights and responsibilities. All considerations of an LLC’s internal governance commence by examining the LLC agreement. See In re Coinmint, LLC, 261 A.3d 867, 889 (Del. Ch. 2021) (“[T]he limited liability company agreement serves as the primary source of rules governing the ‘affairs of a limited liability company and the conduct of its business.’”) (quoting 6 Del. C. § 18-101(9)). Because LLCs are “creatures of contract,” the policy of the Delaware LLC Act gives “maximum effect to the principle of freedom of contract and to the enforceability of limited liability company agreements.” 6 Del. C. § 18-1101(b); see Holifield v. XRI Investment Holdings LLC, 304 A.3d 896, 922 (Del. 2023) (“[T]his Court has observed that the approach of the [LLC Act] is ‘to provide members with broad discretion in drafting the [limited liability company agreement] and to furnish default provisions when the members’ agreement is silent.’”) (quoting Elf Atochem North America, Inc. v. Jaffari, 727 A.2d 286, 291 (Del. 1999)).

Notice the quoted language codified in § 18-1101(b), providing that “[i]t is the policy of this chapter to give the maximum effect to the principle of freedom of contract and to the enforceability of limited liability company agreements.” Professors Daniel Kleinberger and Douglas Moll, in their article published by the ABA Business Law Section entitled “The Limited Effect of ‘Maximum Effect,'” opine that the section is more bark than bite, “[t]hat is to say, the ‘maximum effect’ pronouncement is of little practical effect” because freedom of contract has long been embedded in common law without need for statutory pronouncement.

Whether that’s so, any such “limited effect” offered cold comfort to Mr. Hassanein. First, Magistrate Hume holds that he lacks standing to sue Mr. Eliovits for breach of contract because the above-quoted section of the operating agreement clearly states that “[t]he loan is not made to Eliovits” and that “NTO is responsible for paying back the Class B Member” including interest if the loan isn’t timely paid within six months.

Second, even assuming Mr. Hassanein has standing, Magistrate Hume holds that neither Mr. Eliovits nor NTO can be held liable for breach of contract, explaining:

The contract does not provide a due date for Class B Loan repayment. The Agreement contemplates nonpayment of the Class B Loan by the Class B Maturity Date. The recourse the Agreement provides for failure to repay the Class B Loan by the Maturity Date is interest at 6% per annum. The Agreement does not define default on the Class B Loan and does not require repayment of principal by a date certain. Nor does it provide any repayment structure or schedule. The obligation imposed by the contract is payment of annual 6% interest. That interest has been added to the principal. Neither NTO nor Eliovits have breached the contract. Instead, interest continuously accrues for the Class B Loan, according to the parties bargained-for agreement. The contract continues to function as drafted. The parties, as they are allowed, agreed to these provisions however lamentable they may now seem to Hassanein (emphasis added).

Lamentable is one way to put it. Magistrate Hume gives it a more explicitly contractarian spin elsewhere in his Report, where he writes:

While the lending party made his initial capital contribution, the second member failed to meet his part of the bargain. But the parties’ poorly drafted contract provided the annual interest as the only recourse for failing to make the capital contribution that would repay the initial loan. The parties elected not to include a default date or any structure for repayment of the principal. The parties must live with the result of their agreement, and I grant the Defendants’ Motion to Dismiss (emphasis added).

“The parties must live with the result of their agreement.” I’ve often seen and heard the same thing said more colloquially, as, “you made your bed, now lie in it.”

I recall that interest rates were at historic lows around the time the deal was made. Was interest at 6% enough of an enticement for Mr. Hassanein and enough of a default deterrent for Mr. Eliovits? Or maybe it was a deal made between parties who had built a mutually trustful business relationship with a track record of successful joint ventures. We can conjure up other maybes, but with $1.9 million at stake, it’s hard to fathom a good explanation for omitting from the operating agreement provisions to enforce a default in repayment of the principal loan amount as of a date certain.