LAW JOURNAL ARTICLE ABOUT CONTRACTING AROUND LLC STATUTE DEFAULT RULES

By , June 6, 2017 5:27 pm

A key task in drafting any LLC operating agreement is to draft provisions in it that validly override default provisions in the governing LLC act that are contrary to your clients’ best interests.  Below are the citation and first paragraph of a law journal article about this process.

42 J. Corp. L. 503
Journal of Corporation Law
Spring, 2017
Article
Peter Molk
Copyright © 2016 by the University of Iowa (The Journal of Corporation Law); Peter Molk
HOW DO LLC OWNERS CONTRACT AROUND DEFAULT STATUTORY PROTECTIONS?

Limited liability companies are built on the idea of contractual freedom. Unlike with other business organization forms, most owner protections apply only by default to LLCs, which are free to waive or modify them as desired. This freedom promises economic efficiency if parties are sophisticated but raises the potential for opportunism by relatively more sophisticated managers and majority owners. While companies ranging from small landscape firms to Chrysler and Fidelity organize as LLCs, remarkably little is known about whether or how LLCs use this contractual flexibility.

I analyze the operating agreements of 283 privately owned LLCs organized under Delaware and New York law to determine when and how parties alter default provisions. I find widespread use of LLC statutes’ flexibility to decrease default owner protections, as well as widespread adoption of owner protections that do not apply by default. There is little evidence, however, that the contractual freedom is used to craft systematically more efficient contractual owner protections. Instead, using a proxy for owner vulnerability, I find that LLCs with more vulnerable owners adopt significantly fewer owner safeguards, suggesting that contractual freedom may be used more often for opportunism and not for efficiency.

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