The importance of custom designing by-laws and operating agreements.

I have written in other entry’s in this blog about the need to provide more detailed provisions, more personal strategic input of specific requirements  in designing corporate entities.

The issue is the prolific use of standard forms verses the need for more detailed control over basic material decisions and procedures and more precisely what can and should be done beyond the plain vanilla, out of the box standard forms that many lawyers use.

The magic here is that like prenuptial agreements  both  partners are likely to agree with fairly stated propositions in advance of any problems occurring as the partners were in harmony when the agreements were discussed and entered into.

Once they begin to quarrel and disagree, the  agreements take control and everything works out as originally projected, fairly, instead them  being forced towards litigation to resolve these basic issues.

These standard forms in no way deal with the vast array of specific and detailed requirements a deeper analysis would demand.

Since so many business organizations either end in failure, or one owner wants out, or one owner want the other owner out,  or they reach an impasse over basic disagreements of material issues.

At some point  everyone finally looks at the controlling language in the by laws or the operational agreement to see what it has to say about resolving the issues  and realize then, when its to late, that the issue was never dealt with.

I will itemize some of the considerations you should be talking to your lawyer about to include in the by laws or operational agreement when both owners can agree and no issues exist to distort their vision, when both parties are working towards what seems fair.

When an issue arises the rules are binding and already since they have already been  deemed fair and therefore need not be discussed or re-considered re-visited, as  everyone already agreed. Thus you have a path to utilize to resolve issues

Here are some issues to consider in designing your corporate agreements.

1. How the cash invested is handled, debt or equity, better debt for all parties, or possibly a little of both with the debt being convertible to stock if the business takes off and the equity being convertible to debt if the business busts. When and on what terms is it repaid if its debt. A great discussion between the partners.

2. If there is going to be sweat equity, the process which determines the conversion of sweat to equity must be described including time and values.

3. How one gets out of the partnership and  how the other remaining partner buys the exiting  partner out. How the value of the assets and the good will of the business is determined.

4. If there is a buy out, how is the payoff structured, will the remaining partner provide financing to the exiting partner?

5. Majority requirements for various decisions, super majority, unanimous vote, simple majority, this helps minority positions control important votes and decisions.

6. The restrictions regarding the sale of a partners stock, to outside parties including rights of first refusal, or even out right restrictions.

7. Watering down stock issues, issuing and the distribution of new stock, different classes of stock.

8. How are capital calls handled. What if one partner does not contribute and the other does.

9. The requirements for agreeing to any material financial decision such as buying, selling, borrowing, merging.

10. Agreement as to how to restrict majority management control.

12. Employment contracts with working owners., term, salary, benefits, termination policy.

13. Voting rights, proxy rights, rules to calling a meeting to vote on a material issue.

14.Dividend distribution rules.

15. Non-compete rules.

16. The structure of the board of directors, who controls.

Its an important concept for all involved, protecting ones rights and installing appropriate systems in advance of issues to support the business’s continuity and operation.

It also protects individual rights be them majority or minority owners.

It simply makes sense, eliminating confusion and preventing issues and problems that are avoidable. It is cheaper and far more efficient then litigating differences of opinion after issues develop that the by- laws or operating agreements could have resolved.

Unfortunately lawyers all to frequently rely on the standard forms. Its easier and cheaper rather then discussing the merits of a more detailed set of agreements.

It will cost more to develop these agreements but its well worth it in the end as it avoids larger issues and supports logical well thought out relationships. Consider this a must do, and be careful as the lawyer you use may have loyalties to one owner over the other and thus this may skew the technical discussions of corporate design. Call for help 413-549-2966.