A limited liability company (LLC) business structure provides a company with many benefits. However, a company may also encounter inherent risks for decision-making problems.
A unique feature of an LLC is the way it is managed. Unlike a C corporation (C corp), there are fewer formalities involved in it. It also allows flexibility in running business operations.
In an LLC, the owners are called members. These members are given a choice. They can decide on the management structure of the business. The LLC can either be member-managed or manager-managed. The choice of the company will affect its day-to-day operations.
Member-Managed Versus Manager-Managed
The term for either structure is a direct description of how it works. A member-managed LLC refers to one wherein all members directly participate in the management of the company’s operations. If there is a dispute, a vote is necessary. Usually, the majority rules.
All members have active roles and should have input. They have the authority to bind the company to an agreement. However, it is possible to have designated members in charge of signing legal contracts. Members can also choose when to hire or fire employees.
On the other hand, an LLC is manager-managed when the members do not participate in handling the day-to-day activities of the company. They can simply be passive investors.
In some cases, manager-managed LLCs choose a small group of members to handle the management of the company’s operations. Others decide to hire non-members to serve as managers.
In most states, the default rule in the LLC management structure is to be member-managed. However, members can choose a manager-managed structure by stating that decision in the LLC’s formation document. It is often called the Articles of Organization or Certificate of Formation.
Other states do not require the disclosure of the structure in the formal paperwork. In that case, it may be best to indicate it in the company’s operating agreement.
No matter what structure an LLC chooses, it may encounter issues in decision-making. Here are some of them:
By default, all members of a member-managed LLC have equal rights regardless of the percentage of ownership. That means the vote of the majority always wins. Because of this, there may be disagreements when it comes to making decisions. It may also cause issues among member.
Some LLCs opt for the manager-managed LLC thinking that it will help them avoid facing decision-making problems. That is far from the truth.
Choosing this structure establishes a more formal management arrangement. The members will only be voting on major decisions. Meanwhile, the day-to-day operations will be left in the hands of the managers. A common problem is when members end up disagreeing with the decisions that the company’s managers make.
Simplifying Decision-Making In An LLC
While various issues may arise when making decisions, they are not totally unmanageable. An LLC can even prevent those problems from happening in the first place.
The most obvious and best solution is to clearly define the roles of members and managers. Decide early on whether the company will be member-managed or manager-managed. Then, create a detailed operating agreement tailored to the circumstances and needs of the LLC.
This paperwork is not a state requirement. It is an internal document that sets the way an LLC will be run. It serves as the framework of the company. It indicates the rules, regulations, and processes that the company has to comply with.
Here are some of the things this document needs to have to prevent possible issues:
- How the profits and losses will be allocated
- The fiduciary duties of members and managers
- The voting rights of members
- How to add or remove a member
- How to appoint managers
- Financial provisions, such as those related to capital and taxes
- Members’ debt responsibility
- How the company will set and conduct organizational meetings
- Information on ownership and management
- Provisions on company dissolution
Having an operating agreement is beneficial for a company. At the same time, it helps in carrying out business activities without a problem. Additionally, this document can help protect the members. It serves as proof that the company is a separate legal entity, which maintains the asset protection feature of the LLC.
Decision-making is a huge part of running a business. Knowing how to simplify it can help prevent issues. If you want to learn more, talk to one of our experts at DoMyLLC.