May 20, 2019
Once you form a limited liability company (an “LLC”), it is imperative that you have an agreement in place to govern the relationship between you and your fellow member(s). A Limited Liability Company Operating Agreement (commonly referred to as an “LLC Agreement”) can provide you with the flexibility to meet your business needs, as well as a structure to govern certain interactions among the members. Addressing these issues from the onset can help avoid disputes and litigation down the road.
Below are certain threshold questions that you should consider. Your attorney can help you parse through these questions, as well as others that LLCs commonly come across:
- Voting. Your input mattered when formulating an idea for your business, so your vote should continue count once the company is up and running. There are various questions that one needs to address when determining thresholds for voting, including: Will all of the members be entitled to vote or will the LLC have both voting and non-voting members? Will votes that are submitted to the members require the approval of all of the members? Or only a majority of the members? Or somewhere in the middle?
- Management. Perhaps your LLC is managed by its managers. In that case, will there be more than one manager? If so, what percentage or number of managers is needed to approve votes submitted to the managers? Should there be any limitations on the manager’s authority?
- Vesting. Before the members jump in – with both feet – you should contemplate whether the interests that the members receive will be subject to vesting or if the members’ interests should be fully vested on day one.
- Incentivizing your Workforce. In addition to salary, you may want to look for other ways to incentivize your workforce to “buy into” the company and truly feel like they are a part of the team. In that vein, you should contemplate whether the LLC will issue profits interests or phantom equity.
- Capital Calls. Whether the LLC is looking to purchase the latest and greatest piece of equipment for its business or is contemplating upgrading its office with fancy new pool tables, LLCs may need additional funds to meet their expenses. Do the parties expect that additional capital calls will be required? What happens if a member fails to contribute to an additional capital call?
- Distributions. After squirming about the idea of contributing money, you will be glad that our next topic is thinking about how money will flow out to the LLC’s members. Will distributions be made pro rata to the members? Will there be any priority distributions?
- Transfer Restrictions. You and your two PHd colleagues have worked well together for years in the business, but what happens if one of them wants to sell their interests in the company? Should members be permitted to freely transfer their interests in the LLC? If not, what restrictions will be imposed on transfers? For example, will a member be required to offer its interests to the LLC and the other members first, before selling its interests to a third party? Will the members have any pre-emptive rights?
- Exit. On a related note, there are other questions to parse through when thinking about a member’s exit from the company. Do the members wish to agree ahead of time on the buy-out terms if another member chooses to leave the LLC? How will the interests in the LLC be valued? Should the LLC have the ability to repurchase any equity issued to employees upon termination of employment?