BusOrg (Fall 2013)
Organizational Choice Hypos – Part 1
Relevant law:
· Partnerships
o Uniform Partnership Act (1914)
o Revised Uniform Partnership Act (1997)
o Uniform Limited Partnership Act (2001)
· Corporations
o MBCA with comments (2007)
o NC Business Corporation Act
o Delaware General Corporation Law
· Limited liability companies
o Uniform Limited Liability Company Act (1996)
o Uniform Limited Liability Company Act (2006)
o Delaware Limited Liability Company Act
Anita and Brandon approach you (their lawyer) to help them organize a new business that will design and install energy-saving systems in existing homes. They’ll call the business “Your Green Home,” and they’ll hire home-efficiency designers and skilled installers. Anita has an MBA and is a business journalist; she has cash to invest. Brandon is an engineer experienced in energy-savings home design and installation; he’s looking for a new career. Anita will put in capital and oversee the new firm’s finances. Brandon will run the business. Please consider the following questions about the organizational options they (and you) face.
- You contemplate the basic organizational choices for A and B. Which statement is right?
A. A partnership fits their circumstances because they will want equal control, management and financial rights
B. A corporation fits their circumstances because they will want centralized management and limited liability
C. A limited liability company fits their circumstances because they will want to customize their relationship – both as to management and finances
D. It’s way too early to know. Each of these three organizational choices can be adapted to fit their circumstances and their expectations.
- A and B meet with you. A says she wants to oversee the business and have the potential for high returns. B wants a fixed pay of some sort, though also wants to share in profits. Both are worried that if something goes wrong, their personal assets won’t be at risk. What organizational choice might you recommend?
A. A partnership in which A will receive all the profits, and B will receive a specified salary, but with the authority to be managing partner
B. A limited partnership in which A as limited partner will receive 75% of the profits, and B as general partner will receive 25% of the profits
C. An LLC in which their operating agreement specifies: a specified sharing of profits, payment of B a fixed salary, B as manager of the business, and oversight by A
D. A corporation in which the two will be the sole shareholders, and questions of profit-sharing and salaries will be decided by the corporation’s board of directors
- You talk further with A and B, and learn that A is involved in a messy “domestic relationship.” She would prefer that her investment in the business with B not be public. Not knowing much about business organizational choices, she states the following. Which statement is true?
A. “If we form a partnership and want limited liability by filing to obtain LLP status, we will have to disclose who the partners are.”
B. “If we form a limited partnership, we would have to disclose the names and addresses of all the limited and general partners.”
C. “If we organize a limited liability company, all of the members will have to be disclosed in the articles of organization, a filing available on the Internet.”
D. “If we form a corporation in this MBCA jurisdiction, all of the officers will have to be disclosed in an annual report filed with the state.”
- A asks whether there will be fees if they seek to form a limited liability. You answer, yes. “Wrong answer,” says A. “In that case, why don’t B and I simply agree to split profits 70/30, and to have B handle day-to-day affairs, consulting with me on any major matters.” Your answer?
A. “Well, if you do that you would likely be considered partners, and if the business incurs any liability (in contract or through negligence), you A could be personally liable.”
B. “Well, you would be considered a limited partnership, with B having full liability as a general partner, thought not you unless you became involved in running the business.”
C. “Well, you would be a limited liability company, with an operating agreement (which could be written or oral) specifying your profit and management allocation.”
D. “Well, you would then be a corporation, in which you would have 70% of the shares and B 30%, and you would both be directors and officers.”
- Comfortable that you seem to know what you’re saying and energized by your explanations of business law, A and B begin to bandy about the “alphabet soup” of business organizations – GP, LLP, LP, LLLP, LLC, even PLLC. (For some reason, “corporation” keeps its vaunted title.) They ask you, “How can we get both limited liability, share profits, and let B run the show, but with A’s oversight – while keeping costs low?”
A. You recommend a GP, because no state filing is required
B. You recommend an LP, because A is allowed broad voting rights
C. You recommend an LLC, because their operating agreement can do all the things they want (though with fees to organize and with annual reports)
D. You recommend a corporation, because a shareholders’ agreement can accomplish all these things (after incorporating, corporations have no ongoing filing fees)
- A and B mention that they have approached Probity Bank to obtain a loan for their new business. The bank has said it would agree to lend money to the business, but suggests that the Bank might ask A and B to give personal guarantees on the loan to the business. How would you advise the parties?
A. If they form a GP, their personal assets will be at risk, and the bank can sue either of them individually for non-payment even if the business has assets to cover the loan
B. If they form an LP, only the assets of the general partner B will be at risk, and the Bank cannot obtain a personal guarantee from the limited partner A
C. If they organize an LLC, their personal assets will not be at risk, even if they immediately (and wrongfully) distribute all of the loan proceeds to themselves
D. If they incorporate, their personal assets will not be at risk, even if they sign the Bank loan on behalf of the corporation (assuming Bank doesn’t get their personal guarantees)
- B wonders about the extent of his liability if he runs the business. Suppose he brings on an employee who negligently mis-installs insulation in a customer’s house, causing the house to become unlivable. B asks you. “Will I avoid liability under the different organizational choices you have outlined?” Your answer?
A. Yes, if the partnership chooses (and files) to be an LLP, no partner can become liable for liabilities of the business
B. Yes, if the LP chooses (and files) to be an LLLP, no partner can become liable for liabilities of the business
C. Not necessarily, if the business is organized as an LLC, the member who commits a tort by improperly hiring an employee (known to both insulation jobs) can be liable
D. Not necessarily, if the business is incorporated, the officer who supervises an employee who commits a tort while acting within the scope of the business becomes liable
- A and B are getting more and more curious. They ask about how they will share control of their business – at least under the organizational default rules. A says that she took a course on business law in her MBA program, and she makes the following assertions. You raise your eyebrow. Which statement is true?
A. “If we form a partnership, all decisions will have to be unanimous, even if we take on other partners. The partnership is a contract and requires consent by all the parties.”
B. “If we form a partnership, ordinary matters will be decided by majority vote. Thus, we would want to change this rule if we chose to bring on another partner.”
C. “If we organize an LLC, ordinary matters must be approved by a majority of the members, but extraordinary matters by all. That’s the law.”
D. “If we incorporate, ordinary matters must be decided by the board, with shareholders voting only on fundamental transactions. Too bad we can’t contract otherwise.”
- B mentions to you that his brother-in-law Fred will likely work in the business as one of the “energy efficient system” installers. If B hires F, but A objects, what are A’s options?
A. In a GP, A cannot veto an ordinary matter decided by B, but could withdraw from the partnership and be paid in cash A’s share of the business assets
B. In an LP, A as a limited partner would be able to vote against such a conflict-of-interest transaction and prevent it from happening
C. In a member-managed LLC, each member has a veto power over ordinary decisions, which must be approved unanimously by the members
D. In a corporation, each director has the authority to act on behalf of the corporation and bind it in the “ordinary course of business”
- B is a bit concerned about one matter. “What if A begins to act as though she runs the business? Would the business become bound if A, for example, decides to employ a new marketing executive to help promote the business?” Your answer?
A. Don’t worry. If A and B operate as a partnership, only the managing partner may bind the partnership in its ordinary business matters.
B. This is a concern. In a partnership, any partner can bind the partnership. Even if third parties know about limits on a partner’s authority, that partner can bind the business
C. Don’t worry. In an LLC set up as a “manager-managed” LLC, only the manager has the authority to bind the business
D. This is a concern. In a close corporation, where the same persons are shareholders, directors and officers, any one of them can bind the corporation
- A and B are learning a lot. They now understand the difference between mandatory rules and default rules. They ask you, “What if A decides to invest in other start-up ‘home energy-system’ companies like ours. Can fiduciary duties, including duties not to compete, be waived by agreement?”
A. In a partnership, fiduciary duties are mandatory terms and cannot be waived or modified by the parties.
B. In an LLC, all terms of the members’ relationship are contractual, and the courts will accept (and apply) whatever terms the parties agree to.
C. In an LLC, there are some terms that cannot be waived – including certain aspects of fiduciary duties – because they would be inconsistent with contractual good faith.
D. In a corporation, fiduciary duties of directors and officers cannot be modified by agreement, even if placed in the articles of incorporation.
- A continues to be interested in having oversight over B. She asks that whatever business form they choose, she would want to be able sign all contracts and checks over $1000. B is agreeable, figuring that A’s involvement will keep things running better. And, of course, they want limited liability. What should you advise them?
A. “An LLP accomplishes this, given that all ordinary business matters require the approval of a majority of partners (two of you) or as you specify.”
B. “An LLLP accomplishes this, given that a limited partner has authority to vote on all matters affecting the business.”
C. “An LLC accomplishes this, though it would have to be structured as a manager-managed LLC, given that management matters cannot be agreed to internally.”
D. “A corporation accomplishes this, given that any action by the business must be approved specifically by the board of directors (here the two of you).”