Limited liability companies are entities created by state statutes that have their rights and responsibilities governed by a contract—typically called an Operating Agreement—among the owners. This gives the owners/member of the LLC, great flexibility in creating the entity, but also allows for important provisions to be forgotten or not provided for properly. Including specific provisions on Management is a must for an Operating Agreement where the LLC could be managed by its Members, a Manager or a Board. Without strong management description, the Company could be subject to the state’s default statute and run into difficult fiduciary duty issues.
Management in a corporation is mandated by the state’s corporate statute and separates ownership from direct management. Management flows down from the owners:
- shareholders elect directors each year at the annual shareholder meeting,
- those directors manage the business and affairs of the corporation and elect officers, and
- the corporate officers then exercise and implement the business and affairs of the corporation.
In contrast, the LLC statute looks to the terms of the Operating Agreement for management provision, and if the Operating Agreement is silent, the default is for management by the members or owners of the LLC, in proportion to their ownership percentage. As a result, ownership is directly linked to management, without the separation inherent in a corporation.
However, if you are reading this blog, you do not want to know what happens if you forget to include a management provision in your Operating Agreement, you want to know the various ways LLCs can be managed.
Just like the default statutory provision, many LLCs are “Member-Managed.” These are typically seen in a single-member LLC, but can be used in a multi-member LLC as well. Aside from any provisions that require a supermajority consent, the wishes of the member or members owning a majority of the ownership in an LLC, will govern. With one member, this is very simple to execute. With two members, outside of a 50/50 ownership, this can also be very simple to execute; the majority member wins each time. However, with a 50/50 ownership situation or multiple members with no clear majority owner (20/20/20/20/20), the mechanics of making simple management decisions can be burdensome on the business.
More frequently, LLCs are governed by “Managers.” Typically, one Manager is elected by majority vote of the Members and that Manager will govern the business and affairs of the LLC. Again, if there is a majority Member, that Member would always prevail. While Managers are frequently also Members, unless you include that requirement in the Operating Agreement, it is not necessary.