An operating agreement of a limited liability company (LLC) is the company’s instruction manual. Through an operating agreement, the members (i.e., owners) can agree on critical things like their ownership percentage, roles in the company, and other rights and obligations as a member.
The no operating agreement problem
As a Phoenix Arizona business attorney, I (far too) often come across LLC owners without an operating agreement. Typically, the company’s owners don’t really think about it until there’s a problem and one or more of the partners wants out. These members usually want to know if they can sell their interest (either to the other members or even an outsider), given the lack of an operating agreement between the members.
Enter the Arizona Limited Liability Company Act
Where the members of an LLC have no operating agreement in place, Title 29 of the Arizona Revised Statutes (otherwise known as the Arizona Limited Liability Company Act (“Act”)) offers a road map of sorts.
The Act says that, where there is no operating agreement and the LLC’s articles of organization don’t say otherwise, management of the company is vested in the company’s members (A.R.S. §29-681). Under this same section, a vote or consent of all members is required to adopt or amend an operating agreement. This is also a requirement where a member wants to issue an interest in the company to any person outside the LLC.
In addition, again assuming that there is no operating agreement, the Act provides that a person may be assigned part or all of a member’s interest upon the approval or consent of all members (See A.R.S. §29-731).
Finally, under A.R.S. §29-732, an interest in the LLC is considered personal property that, subject to any contrary terms of an operating agreement, can either partially or entirely be assigned by a member to someone else.
There is no substitute for an LLC Operating Agreement
Notice above how many times I’ve had to write, “if there is no operating agreement” or “in the absence of language in the operating agreement to the contrary”? Are you sensing a pattern?
There are lots of important reasons to have an operating agreement. It would take up half my blog to cover most of them, and the issues mentioned above are just a few. The point is, the Act was never intended by our legislature to be a substitute for a negotiated and well-thought out operating agreement between LLC members.
Just when you thought you were out…
Can an LLC member just sell or assign their interest to a third party? After all, there is no operating agreement saying that she cannot right?
Not exactly. A.R.S. §29-732 says that, unless the operating agreement says otherwise(!), a member who assigns all or part of her interest in an LLC is not actually released from their liability to the company. Instead, the assigning member would need the written consent of all of the members, or the assignee of the interest would actually have to be admitted as a member.
In practical terms, if you are a member of an LLC without an operating agreement, and you are planning to leave or assign your interest to someone else, you want to make sure that your fellow members release and discharge you from any past, current, and future liabilities of the company. You or your lawyer should also stay on top of the process to make sure that the assignee of your interest actually gets admitted by your former partners as an LLC member.
For those looking to sell or transfer their membership interest in an LLC that does not have an operating agreement in place, our Phoenix Arizona business law firm has the knowledge and experience to structure the sale in a way that complies with the Act, helps minimize conflicts with your existing partners, and eliminate risk of potential liabilities, while also achieving your business goals.
Ben Bhandhusavee is the founder of BHANDLAW, PLLC, a Phoenix business and technology law firm advising early stage and established businesses on corporate M&A, technology, and finance transactions, as well as e-commerce, creative intellectual property, Internet and digital media matters. Ben can be reached at (602) 222-5542 or by e-mail at firstname.lastname@example.org