Legal Zoom and similar companies have become popular choices for many people to get legal forms quickly and inexpensively. In some limited instances, if you are only in need of a very basic form, this type of online resource may be helpful. However, when it comes to drafting governing documents for a business, such as an operating agreement, you should think twice about buying a generic agreement online. While this could save you money in attorney’s fees upfront, the real cost of going this route could be potentially hundreds of thousands of dollars in legal fees when something goes wrong.
Why Do You Need a Customized Operating Agreement for Your Business?
Every business is different and therefore, requires an operating agreement that addresses its unique needs. Your operating agreement should take into consideration the type of business you are conducting, how your business was created and funded, the interests of the different owners of your business, and what each owner contributes to the business.
In crafting an operating agreement, you and your business partners will want to ensure your investment is properly protected and that you have minimized the risks of future conflicts among yourselves and with third parties. Good legal advice is essential to doing this. An attorney can guide you in discussing and negotiating important terms with your partners that are a critical part of your operating agreement.
What Provisions May Need to Be Customized in Your Operating Agreement?
A generic legal form will not take into consideration facts that are specific to your business. For example, some common provisions that should be tailored to your circumstances include the following:
- Management structure. In some cases, the partners may efficiently make all business decisions together as a standing committee, but other businesses may need a single manager to make ordinary business decisions and leave only the major decisions, such as a sale or dissolution of the business or substantially all of its assets, to the owners to approve. Your company’s operating agreement should reflect the management structure that is appropriate for your business.
- Compensation. If one or more partners are going to actively work in the business, as an executive or employee, but others will be merely passive investors, the active partners should be fairly compensated for their efforts and the operating agreement should provide a mechanism to determine the amount of such compensation in a fair and transparent manner.
- Return on capital contributions. If one partner wants to leave the business, your operating agreement should address how they will be compensated based on how much they contributed to the business initially, as well as the value of the business at the time of their departure. Accordingly, the operating agreement should also include language detailing how the company is to be valued in such an event.
- Indemnification. It is important to ensure you are protected in the event a partner is unable to cover their share of expenses paid to third parties, especially if some partners have a history of being unable to pay their bills.
- Capital calls. Your operating agreement should not require that the partners make additional investments in order to meet the business’s cash flow needs. In the event of a cash flow problem, those partners who wish to make capital contributions to cover a shortfall should be deemed to have made a loan to the non-contributing partners, which is then paid back before any distributions are made.
- Buy/sell provision. Your operating agreement should set forth how business interests will be transferred (bought and sold) in the event a partner dies, becomes incapacitated, or otherwise exits the business.
- Roles and responsibilities. You should outline each partner’s duties so that there is no ambiguity when it comes to who is responsible for what.
- Breach of the operating agreement. There should be specific provisions indicating what constitutes a breach of the agreement and the remedies afforded to the other partners in the event of a breach.
- Breakdown in the relationship between owners. The agreement should outline how to handle conflicts among the parties. This includes:
- Notice provisions in the event one partner wishes to leave the business or sell their interest;
- Clear arbitration/mediation provisions;
- Damages and attorney’s fees provisions; and
- Buy/sell provisions.
No one enters into a business thinking that their partners won’t agree on important issues. However, this unfortunately happens in many businesses. It is important to use your operating agreement to plan for the worst-case scenario and prepare yourself, your business, and your partners.
Do You Need to Consult an Attorney?
A poorly written operating agreement that fails to address important aspects of your business can easily result in costly litigation. By meeting with an attorney before entering into an operating agreement, you can help ensure your agreement serves yours and your business’s interests and prevents costly and unnecessary risks which will only serve to damage your business. Contact us to discuss how we can help your business.