Boards for LLCs
BIRMINGHAM BUSINESS LAW BLOG
A blog published by Red Mountain Law Group providing
legal updates and tips to businesses and individuals.
Posted on November 5, 2012
As we have discussed in previous articles, a limited liability company does not have a “board of directors.” What does this mean? If you look in the state statute that governs the organization of LLCs, you will not find the term “board of directors.” Instead, you will find the concept of a “board of managers.” Originally, LLCs were a split between corporations and partnerships. This “board of managers” concept was created as the vehicle to govern an LLC; it is not a true board of directors, nor is it a true executive committee, which was becoming the governing basis for partnerships.
From a statutory perspective, a board of managers does have several characteristics of a board of directors. Namely, the board of managers is elected by the LLC’s members, which own the LLC. Managers then appoint officers. However, the code does have some nuances. Unlike a corporation, there are no statutory offices. Additionally, the LLC code seems to allow that managers can play a role in operations. Thus, as opposed to a director whose role is purposefully limited to oversight, a manager may play a more elevated role in the operations of the company.
Perhaps more significant than anything else, the fact that corporations with boards of directors have existed for more than one hundred years, while LLCs began to emerge only in the 1990s, means that courts and business people are more familiar with corporations than they are LLCS. They know the legal requirements and expectations of members of a board of directors, but the individual’s obligation as a member of a board of managers is much more nebulous. People know what a board of directors is, but a board of managers is a significantly less familiar concept, and the role that individuals can and should play is not defined by law or business custom.
LLCs will often try and encapsulate the concept of a board of directors into the organizing documents despite (or perhaps because of) the fact that the statutes and nomenclature are different. Because operating agreements and LLCs generally are creatures of contract, parties can work to contractually create a governing board that mirrors a board of directors. Thus, you will find provisions in operating agreements that have a company indemnifying, electing and creating a role for the board of managers that mirrors the board of directors. It is not unheard of that an operating agreement will, through contractual agreement, rename the “board of managers” to the “board of directors.”
While this ability to contract creates a wide open playing field for owners to create their perfect governance structure, arguably the field is too wide open. Usually, and correctly, operating agreements will attempt to limit the liability of the managers. Operating agreements will, to the greatest extent possible as permitted under law, disclaim the duty of loyalty. While this can be off-putting to business operators who have certain expectations of their board of managers, it is perhaps necessary to limit liability in order to get qualified people to serve. Typically, starting from a lower liability perspective is correct for the business. For example, in a real estate business the managers of an LLC do not want to have a conflict as to whether they need to bring every real estate opportunity to the company; such a decision matrix is unworkable and not industry standard when people have an LLC for every property that they have in place.
One of the quirks of Alabama LLC law surrounds the duty of loyalty and care for managers. Section 10A-5:03 does not allow for an operating agreement to restrict the duty of loyalty and duty of care for managers, although you can narrow the application. As a consequence, a manager will have certain fiduciary duties to an LLC, and individuals need to be cognizant of that when they agree to be on such boards. (Some people will also cite this as a reason to go to Delaware where you have more freedom of contract in your operating agreement.)
Where this takes small business, I believe, is to have very limited and very narrow duties and obligations for the Managers and the Board of Managers in the LLC operating agreement. Do the minimum necessary here to run legally. For business reasons, however, you should have a broader group of advisors that helps monitor and give strategic direction to the company. This is best accomplished through a board of advisors – the subject of next week’s article.
Goodrich Law Firm, LLC