Friday, November 14, 2008

Other Members Wish To Sell Their LLC Interests

Q. I am the managing member of a 4 member Delaware LLC. The other three members apparently are in discussion to sell their interest in the LLC. Can they do that? What happens to the loan we took out to purchase the business in 2006?
The place to start is your LLC operating agreement. Does it contain any restrictions upon the sale or transfer of LLC interests by members? If not (or you don't have an LLC operating agreement), then your LLC is covered by the default provisions of the Delaware LLC Act. In particular, § 18-702 has bearing on this issue. It provides, in pertinent part:
§ 18-702. Assignment of limited liability company interest.
(a) A limited liability company interest is assignable in whole or in part except as provided in a limited liability company agreement. The assignee of a member's limited liability company interest shall have no right to participate in the management of the business and affairs of a limited liability company except as provided in a limited liability company agreement and upon:
    (1) The approval of all of the members of the limited liability company other than the member assigning the limited liability company interest; or
    (2) Compliance with any procedure provided for in the limited liability company agreement.
(b) Unless otherwise provided in a limited liability company agreement:
    (1) An assignment of a limited liability company interest does not entitle the assignee to become or to exercise any rights or powers of a member;
    (2) An assignment of a limited liability company interest entitles the assignee to share in such profits and losses, to receive such distribution or distributions, and to receive such allocation of income, gain, loss, deduction, or credit or similar item to which the assignor was entitled, to the extent assigned;* * *
My reading of the above language is that the other members may sell their LLC interests; however, the purchaser does not become a member of the LLC unless the remaining LLC members vote unanimously to admit the purchaser as a member. What does the purchaser get if is blocked from becoming a member? The right to share in the LLC profits and losses and to receive any distributions otherwise allocated to the LLC interest purchased. Can the purchaser vote you out as managing member? I don't see how that happens without your consent to make the purchaser a member. Unless important facts are missing from your question, this transaction is highly unlikely to happen without your consent.

What about the loan used to purchase the business? The selling members are not relieved or any LLC debt they guaranteed merely by selling their LLC interest. Any deal to replace the purchaser as guarantor on this debt for the sellers is matter to be negotiated privately with the lender. It may be that the sales price is assumption of the debt.

As always, the best advice is to address restrictions on transfer of LLC interests in the LLC Operating Agreement at the initial formation of the LLC.

Thursday, November 13, 2008

The Quirky Tennessee LLC Act

In all states except one, LLCs are divided into two categories--those managed by the members and those managed by managers appointed by the members (aka "manager-managed"). In a quest to offer LLCs the face of a corporation, Tennessee goes a different route. Their LLCs are either member managed or governor managed. Further, in a LLC with governors, the governors may appoint managers who serve under them in much the same capacity as officers server under a corporate board of directors. For more information on the particulars, see "New Management Structures" section of this article.

I don't really see what this statutory frameworks adds to Tennessee LLCs; however, the novel framework does create traps for the unwary. The managers of LLCs in other jurisdictions act like officers of a corporation. Further, in a manager-managed LLC, the members have a roll very similar to the board of directors of a corporation. So what's the point to LLC governors Tennessee? In the grand scheme of things, it's not that big of a deal. Governor-managed Tennessee LLCs operate exactly the same as member-managed LLCs in the other 49 states (except for the fact that they can named managers who report to them). For Tennessee LLCs wishing managers, they are required by statute to create an intermediate body of "governors" in addition to naming managers. This necessitates additional complexity in the operating agreement. However, one option to simplify governance for Tennessee LLCs with managers is to name all governors additionally as managers. The net effect of such an arrangement is that the body of LLC governors = the body of LLC managers. Although the operating agreement still requires extra provisions to address the issue of governors, I believe it's a relatively easy drafting issue to handle.

Here is a link to the Tennessee statutes. Go to Title 48 (Corporations and Associations) and see Chapter 201, et alia for the Tennessee LLC Act.