It is well-known that choosing a limited liability company (LLC) business structure offers founders the best of both worlds, namely, limited liability for the debts of the entity (like a corporation) and the option to elect to be taxed as a partnership. LLCs also offer more flexibility and control, and allow for future adaptation of the company structure as the business may shift and grow. Once you select an LLC structure for your business, the next big decision is determining how it will be managed.
Member vs. Manager Model
There are two basic management structures for an LLC: a “Member-Managed LLC” vs. a “Manager-Managed LLC.” Choosing the right one for your business will depend on such factors as the type of business it is, the number of owners, and who you want to make decisions for the business.
An LLC’s management model is typically set out in its Operating Agreement (also known as an LLC Agreement). However, it can also be designated in the formation documents that are filed with the state of organization. In a previous article, we take a closer look at LLC operating agreements, which govern, among other things, how the entity will operate, who and how important decisions will be made, and how money will be handled and distributed. Although LLCs are not required to have operating agreements in every state, they do provide a valuable point of reference on key issues of governance and management authority for the entity.
Below is a side-by-side comparison of the 2 basic LLC management structures, highlighting some of their key differences:
| Issue | Member-Managed | Manager-Managed |
| Day-to-day decision-making authority for the business | Control is exerted collectively over all company decisions by those who own the business (e.g., members). Not all members will necessarily have an equal vote in decision-making. The operating agreement will set out these details. For example, voting rights may be (a) equal among members, (b) proportionate in relation to a member’s ownership percentage, or (c) otherwise. | Decision-making authority is given to a manager or board of managers, elected by the members. Even with this model, however, it is common for members to still have authority over certain key decisions, such as taking on debt, or entering into a merger or other significant transaction. Decisions requiring member approval will be addressed in the operating agreement. |
| Impact of LLC size (# of owners & investors) | A member-managed LLC is often a good fit for LLCs with fewer members, especially when each member wishes to play an active role in the day-to-day affairs of the business. In this model, each member also serves as an “agent” of the entity with the authority to act on behalf of the company (as more fully set forth in the operating agreement). | When there are many members, or if business operations are complex, a manager-managed LLC is usually preferable. In a manager-managed LLC, members are not considered “agents” of the business, and generally do not have the authority to bind the company. |
| Advantages | Every owner of the business can participate in its management; no one is cut out. Smaller businesses just starting out, and especially LLCs with only one member, are well-suited to this model. When responsibility is shared by all owners, there tends to be less “pointing of fingers” if/when things go south. | Decisions can be made more quickly with a centralized management structure. Investors with neither the time nor inclination to run the business tend to prefer this model. By entrusting one or more experienced managers to act on behalf of the LLC, the potential for chaos and delays in decision making are minimized. There is usually no limit to the number of managers that can be appointed, and managers are not required to also be members. This allows for the possibility of hiring a professional manager, if desired. |
| Disadvantages | This structure may require more time and energy than each member can give. This model requires a willingness and ability to collaborate and work together. A unanimous vote of all members may be required for certain decisions, depending upon the terms of the operating agreement, which may be difficult in some cases. If you are planning to seek a capital raise, this structure is typically unattractive to a passive investor. | All owners will typically not get a vote on matters that may be important to them. Choosing this structure may be more costly up front in terms of the drafting of the management provisions within the operating agreement. It may be challenging to find the right manager for the LLC (trustworthy, industry skills, etc.) And, hiring a professional manager may be costly. |
Fortunately, you are not locked into the management structure you initially choose for your business. As the nature, size and investment structure of your company may change over time, so too can your management structure by simply modifying your operating agreement to suit the current needs of your entity. Even if you decide not to choose a management structure up front (resulting in a member-managed designation by default in most states), you can always modify down the road.
The LLC business structure offers owners many benefits, including the flexibility to choose (or not) an initial management structure at formation. That said, it is always advisable to consult an attorney to discuss formation and governance issues such as these to ensure compliance with applicable laws and regulations.
For questions about LLCs or assistance forming a new business entity, please contact Kristin Kreuder at kkreuder@outsidegc.com.
Kristin Kreuder is a Partner on our NY-area team with over 25 years of legal and business experience in both public and private corporations and in major NYC law firms. Kristin handles a wide range of legal matters, including mergers and acquisitions; commercial transactions; technology, media, licensing and sponsorship; capital markets, venture capital and private equity transactions; and a variety of general corporate and governance matters.