Operating Agreements: Do I Really Need One?

You have a million dollar idea, a new business partner, and you have just filed your articles of organization to form your new LLC.  Since your LLC is now an official legal entity, your only concern is how to get your new business up and running.  You and your business partner work extremely well together and will iron out the internal details of the LLC when you have more time.  After all, you are not exactly sure what role each of you will take, so you are playing it by ear until you start making money.  

Not so fast, you may have just forgotten one of the most important documents of your LLC: your operating agreement.  

Due to the stress of forming a new business, it is commonplace to put off and overlook important documents like an operating agreement.  

What is an operating agreement?

An operating agreement is the LLC’s equivalent of the bylaws of a corporation.  An operating agreement contains the terms and details that will govern the internal structure of your LLC, such as the name of the LLC, the identity of the members, the identity of the manager, and the chosen place of business.  

Your operating agreement will also enumerate membership issues, such as the powers of the members or managers of the LLC, how members and managers are added or removed, how profits are to be distributed among the members, the liquidation and dissolution of the LLC, and buy-sell provisions.  

An operating agreement is the guide that the members of the LLC will consult for proper procedures when making decisions that affect the internal management and ownership of the LLC.  

What is the big deal, can I just draft an operating agreement later? 

You may not think it is important to have an operating agreement because you and your business partner are reasonable professionals and will work these issues out as you go.  Although you may be working well together now, you are leaving yourself open to future liability and litigation that could have been avoided with a properly drafted operating agreement.

The distribution of profits and buy-out agreements are two issues that are often the basis of a lawsuit between business partners who can no longer work under the same roof.  A properly drafted operating agreement can prevent lawsuits and expensive legal fees when you want to dissolve an LLC or disburse company profits.  In an operating agreement, you can specify the exact process of evaluating a member’s share of the LLC and the process for buying one another out.  Without these provisions, you either have to come to an agreement with your estranged business partners or, worse, leave these decisions up to a judge or jury.  It is preferable to go ahead and set these terms in stone while everyone is working well together, rather than years after you relationship has soured. 

Drafting an operating agreement can be a difficult and laborious undertaking.  If you have questions ask a trusted legal professional.  No one expects, or wants, their business relationship to turn unpleasant, but it is a comforting feeling to know that you are protected by a properly drafted operating agreement that finalizes all of those nitpicky details.  As I have written before, “an ounce of prevention is worth a pound of cure.”

Published by Davis W. Puryear on March 15, 2017