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The Company Agreement Explained: Member-Managed v. Manager-Managed

September 27, 2013   |   By Vela Wood

Before you form an LLC, you should determine the management structure of your LLC. In Texas, there are two options: (1) member-managed or (2) manager-managed. Before we delve into the difference between the two, let’s back up a bit and first discuss who has a stake or ownership in an LLC.

Who Has Ownership in an LLC?

The owners of an LLC are called “members.” Section 101.101(a) of the Texas Business Organizations Code (the “TBOC”) provides that an LLC can have one or more members, but there must be at least one member. LLCs are member-managed by default in most states, but some states (including Texas) require the initial owners of the LLC to choose whether the LLC will be member-managed or manager-managed in the Certificate of Formation. Management of the LLC is typically provided in the Certificate of Formation and/or the Company Agreement of the LLC.

An LLC may be member-managed, where all of the members of the LLC participate in the management of the LLC, or manager-managed, where the members surrender management duties to one or more managers. A manager doesn’t have to be a member of the LLC. A manager-managed LLC is more analogous to a board of directors of a corporation.

Why Be Manager-Managed?

Most people forming an LLC choose to be manager-managed for the following reasons:

Investors or Passive Members

Some LLCs may be interested in taking on investors or passive members at the time of formation or sometime in the future. If the LLC is manager-managed, the investors or passive members can be members of the LLC but they do not need to be managers (unless you want them to be), and thus, have no say in the day-to-day management of the LLC. By contrast, if the LLC is member-managed, investors could arguably have the opportunity to participate in the management of the LLC, depending on the Company Agreement. And a poorly drafted (or non-existent) Company Agreement could inadvertently give rights to people whom you did not intend to have them.

Size

It is much more difficult to try to make a decision with a large group of members as opposed to a few members. It makes more sense to have a one or a few managers making the day-to-day decisions of the LLC rather than trying to get all the members together to make a decision.

Insulation from Liability

While members are not liable for the debts and actions of an LLC, many people simply prefer the additional layer of protection associated with having managers.

Structure

A manager-managed LLC can be set up with multiple managers to look and act like a traditional board of directors in a corporation. This can be very valuable for owners who prefer the structure of corporations, but want the flexibility and ease of an LLC.

If there is only going to be one or two members of the LLC, then having a member-managed LLC is oftentimes the way to go. In fact, the Company Agreement and other governing documents of the LLC may be less cumbersome because laying out manager duties isn’t necessary. The problem with member-managed LLCs arises when the LLC has multiple members.

Regardless pf which option you choose, the Company Agreement should clearly define the roles and responsibilities of the members if member-managed and both members and managers if manager-managed. In any case, please reach out to your attorney if you need assistance in making sure such duties and responsibilities are provided for in your Company Agreement.


Posted in Company Agreement Series, Startups
Vela Wood
Vela | Wood is a boutique corporate law firm that focuses on small businesses, entrepreneurs, and startups.