Business & Corporate Articles

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First published in the California Real Property Journal, a quarterly publication of the Real Property Law Section of the State Bar of California.

Ready or Not, the Revised Uniform Limited Liability Company Act Is Now the law in California
By Dina B. Segal and Robert G. Copeland

This article does not undertake a provision-by-provision comparison between RULLCA and the prior law, known as the Beverly-Killea  Limited  Liability  Company Act  (the "B-K LLC Act"). ² Rather,  this  article  identifies  a  number  of  significant issues  that  practitioners   should  be  aware of  that  have  been created by RULLCA as a result of differences with the B-K LLC Act, and sets forth some considerations for handling these issues.

RULLCA  has  entirely  replaced  and  superseded  the  B-K LLC Act. The B-K LLC Act was in effect in California since its adoption in 1994, and thousands of limited liability companies have been formed and operated under the B-K LLC Act without obvious difficulty or controversy. RULLCA does not mandate new filings or amendments of operating agreements with respect to existing LLCs. However, RULLCA has brought many changes to the law governing LLCs and LLC members and managers. A review of the documentation  of LLCs organized under the B-K LLC Act or under the law of a state other than California but doing business in California is recommended to determine whether  amendments  to such documentation  are desirable or essential to avoid the consequences provided for under RULLCA.

One of the avowed purposes of the B-K LLC Act was to provide a simplified process so that persons could establish, form, and operate limited liability companies in California without the need for extensive professional (i.e., lawyer) intercession in the drafting of complex formation and operating agreements. The B-K LLC Act, as a "default statute," simply filled in the blanks that  parties  may have  overlooked  in  putting  together  their operating agreement. The default rules under the B-K LLC Act were generally mild and of minor substantive note. RULLCA is also a "default statute;" however, unlike the default approach under the B-K LLC Act, the default rules under RULLCA in most cases effect substantive shifts from the way parties have operated under the B-K LLC Act, based upon existing provisions in operating agreements prepared in reliance upon the B-K LLC Act. Two  examples  under  RULLCA  demonstrate  this  point: (a) failure  of  the  articles  and  operating agreement  to  state specifically that an LLC is manager-managed will result in the LLC being deemed to be member-managed, with all members deemed to be agents of the LLC and having equal management rights; and (b) if the operating agreement for a manager­ managed LLC does not provide otherwise, the unanimous approval of all members is required for the manager  to take a number of actions, which, under the B-K LLC Act, would normally be considered within the customary powers and rights of an LLC manager.

II.  UNDERSTANDING RULLCA

RULLCA presents a formidable statutory structure. It is difficult to read and interpret. When beginning the task of drafting the operating agreement for a new LLC or amending the organizational documents  of  an  LLC  formed  under  the B-K LLC Act,  it is important  to start at the very beginning  of RULLCA  to  understand   the  permitted  scope  of  an  operating agreement, and to determine which provisions under RULLCA are mandatory and may not be changed or modified by the operating agreement,  and  which  provisions,  often  referred to as the RULLCA default rules, may be overridden by the operating agreement. Merely "tweaking" one's favorite form of LLC operating agreement used before January 1, 2014 may not take into account the new provisions of RULLCA or avoid default into one or more undesirable substantive results. The terminology used in RULLCA is different from that found in the B-K LLC Act for the same issues; therefore, a patchwork editing job on a B-K LLC Act operating agreement form may result in a confusing work product.

The starting point for drafting operating agreements is provided in California Corporations Code³ sections 17701.l0(c), (e) and (g),⁴ which provide that certain provisions of RULLCA may be varied among the members or between members and the LLC by the operating agreement; however, matters set forth in section 17701.l0(c) (restrictions on operating agreement provisions), definitions set forth in  section  17701.02,  and the rights of members under sections 17703.01 (powers and restrictions on the  authority  of  members  and  managers), and 17704.l0 (enforcement of right to obtain records) are mandatory under RULLCA and may not be varied.

III.  RULLCA AND FOREIGN LLCS

A. The Effect of RULLCA on Foreign LLCs

Except as otherwise provided in the statute, RULLCA applies not only to domestic California LLCs existing on and after January l, 2014, but  also to all foreign LLCs registered with the California Secretary of State, whether before or after January 1, 2014.⁵ Basically, RULLCA has been imposed upon all existing and new LLCs. Section 17708.01(a) states that the law of the state or other jurisdiction under which a  foreign LLC is formed governs: the organization of the limited liability company, its internal affairs, the authority of its members and managers, and the liability of a member as a member and a manager for the debts, obligations, or other liabilities of the limited liability company.⁶ Therefore, on its face, RULLCA provides that all existing domestic LLCs as well as foreign LLCs registered in California are subject to RULLCA (except for those provisions that are addressed in section 17708.0l (a), noted in clauses (a)-(d) above).

1.     What Parts of RULLCA Are Applicable to a Foreign LLC?

Section 17708.01(a) can certainly be  read  to  provide that the law of the state or jurisdiction under which a foreign LLC is formed preempts RULLCA as to the following issues: the "organization of the [LLC],'' the "authority of [the LLC's] members and managers,'' the "internal affairs,'' and "the liability of a member as member and a manager as manager for the debts, obligations, or other liabilities of the [LLC]." The foregoing issues are broad in scope and may be read to cover the most important matters in an LLC operating agreement. Yet, if full preemption had been intended by the California legislature, section 17713.04(a) easily could have been worded differently to· reflect full preemption. For example,  preemption  could have been clarified by the addition of a clause providing that "unless the law of the state or other jurisdiction under which a foreign LLC has been formed is silent on or fails to provide clear guidance on the issue at hand, the law of the state or jurisdiction of a foreign LLCs formation governs."

RULLCA, however, does not say this. Instead, parties conducting business in California using an LLC formed in a state or jurisdiction other than California are almost certain to face issues over what constitute an "organization[al]" matter or an "internal affair" of the foreign LLC. For example, it is not clear whether such matters or affairs include contributions to capital, dissolution of the entity, or a merger. Further issues of interpretation could include the admission of members, the assignment or transfer of LLC interests, manager removal rights, the status of a transferee as a substituted member or holder of a mere economic interest, voting rights, indemnity provisions, and a manager's ability to exercise significant rights without the prior approval or consent of members.

In short, the list of potential issues is almost endless. The manner in which RULLCA is drafted leaves open a vast array of issues that could become the subject of argument and uncertainty and lead to possible litigation related to the operation of a foreign LLC registered and operating in California. Notwithstanding these uncertainties, some guidance may be taken from a definition of the "internal affairs doctrine," which is reproduced in the endnotes.⁷ In addition, section 17708.01, which appears in Article 8 of RULLCA and is titled "Foreign Limited Liability Companies," states that the law under which a foreign LLC is formed governs among other things the "internal affairs" of the foreign LLC.

2.     Let's Change Domicile

As discussed in Section IV below, RULLCA clearly impacts domestic California-formed LLCs. Many experienced California practitioners have considered changing the domicile of existing California LLCs to a jurisdiction with a more "user friendly" LLC statute, such as may be found in Delaware or Nevada to avoid RULLCA's reach. Given RULLCA's stated application to foreign LLCs (with certain exceptions), however, it is clear that changing the domicile of a California LLC to Delaware will not completely take the LLC beyond the reach of RULLCA.

B.  Possible Solutions

In addition to other amendments in response to RULLCA to the operating agreements of California LLCs and foreign LLCs qualified  to  do  business  in  California,  one  solution to preemption  by RULLCA  is  to  consider  identifying  in the operating agreement (and perhaps also in the articles of organization) of a foreign LLC, those matters deemed to be "organization[al]" or otherwise related to the "internal affairs" of the LLC. Indeed, in the recitals of the operating agreement of a foreign LLC, it might make sense to recite that the provisions of the operating agreement are intended to govern the operation of the business and internal affairs of the LLC, and to  the extent not covered by the foregoing, the law of the state under which the LLC has been formed and organized shall govern and determine all other matters affecting the LLC,  its managers, and its members. Such provisions in a foreign LLC's operating agreement would be instructive as to the intent of the parties in a later dispute among members or members and creditors and might help persuade the trier of fact reviewing the dispute to find that RULLCA has not preempted the law under which the foreign LLC has been organized or domesticated.

Another solution, beyond the scope of this article, would be to convert the LLC into some other form of entity not governed by RULLCA,  such as a limited partnership or a corporation. The conversion would require the approval of all of the members under RULLCA, except in a case where the B-K LLC Act operating agreement had been drafted with extreme foresight including very clear provisions on the necessary vote required of the members for a conversion of the LLC to another form of entity.

IV.  EFFECT OF RULLCA ON EXISTING B-K LLC ACT OPERATING AGREEMENTS

As noted in Section III.A above, RULLCA now applies to every domestic LLC. However, even with that unambiguous pronouncement in RULLCA, section 17713.04(b) provides another issue of statutory interpretation, which may not necessarily be solved by an amendment to an operating agreement.

A. The Apparent  Contradiction  of Sections  17713.04(a) and (b)

Section 17713.04(a) of RULLCA provides that the statute applies to all LLCs existing on or after January 1, 2014; however, section 17713.04(b) provides that RULLCA applies only to contracts entered into on or after January l , 2014, and to all actions taken by the managers and members of an LLC on or after January 1, 2014. Therefore, it appears that the B-K LLC Act, which is now superseded by RULLCA, continues to apply to contracts entered into and actions taken before January 1, 2014.

B. Is There a Difference Between an Operating Agreement and a Contract?

Most would assume that the operating agreement of an LLC is a "contract." So, a literal reading of section l 7713.04(b) seems to lead to the possible conclusion that the operating agreement of a domestic California LLC existing and operating in California before January l, 2014 would be unaffected by RULLCA. What is not clear is whether section 17713.04(b) overrides section l 7713.04(a), which provides that RULLCA applies to all LLCs existing on or after January 1, 2014. The authors of RULLCA likely intended that "contracts" means contracts between an LLC and third parties—but the statute is not clear.

The analysis becomes more difficult if the operating agreement of an LLC operating in California on January 1, 2014 is amended in any way. For example, it is not clear whether the amendment to the operating agreement renews the contract exception,  represented  by the operating  agreement,  such that it now brings the amended operating agreement under the purview of RULLCA. Although RULLCA  does  not  provide any guidance to answer these questions, a safer approach is to assume that the LLC formed prior to January l, 2014 has been subject to RULLCA since January 1, 2014, without regard to any amendment entered into after January l, 2014.  Indeed, if any amendment is to be made to the operating agreement of an LLC formed under the B-K LLC Act, to preserve the original intent of the members and managers (if any), the prudent course would be to analyze the entire operating agreement  with the view of amending all provisions capable of amendment under RULLCA to preserve the relationship of the managers (if any) and members as they existed under the B-K LLC Act operating agreement of the LLC (assuming, of course, that all of the members and managers are still of the same mind).

V. OPERATIONAL ISSUES AND PITFALLS

RULLCA makes several significant changes in the way LLCs are managed and operated. Section 17704.07 is the departure point for the analysis of these issues.

A. Member Consents

Under the B-K LLC Act, only a limited number of actions required any vote or consent of all members of the LLC, whether the LLC was member-managed or manager-managed. If no voting provision was contained in the articles of organization or the operating agreement, by default, an amendment to the articles of organization required the unanimous vote of the members. For all other matters, only a majority vote of the members was required. The operating agreement could eliminate voting rights as to all matters other than (a) amendments to the articles of organization and the operating agreement, (b) authorization to dissolve the LLC, and (c) to authorize a merger of the LLC, each of which required at least a majority vote of the members. ⁸

Conversely, assuming an LLC will be manager-managed, absent an explicit provision in the written operating agreement, section  l 7704.07(c)(4)  of  RULLCA  requires  the  unanimous consent of all members to sell, exchange, or otherwise dispose of all or substantially all of the LLC's property, approve a merger or conversion, undertake an act outside of the "ordinary course" of business, or amend the operating agreement. In other words, absent explicit contrary language in a written operating agreement, the default rule is to require the unanimous approval of members to the above noted actions in a manager-managed LLC. These default rules are significant changes in the law and will have substantial effects, especially on syndicated LLCs with many members.

It is likely that the provisions of the operating agreements of many LLCs formed under the B-K LLC Act relating to the authority and powers of the manager(s) will not be clear enough to avoid the RULLCA default rule and will pose tough questions in many situations where the manager's authority and powers are not clearly defined in such operating agreements. For example; suppose the manager of a manager-managed LLC formed under the B-K LLC Act determines that the building adjacent to the existing facility of the LLC should be acquired to add  much needed factory capacity. Such  a  purchase  is  probably  within the ordinary course of business for this LLC. Assuming so, the manager may wish to cause the LLC to enter into a real estate purchase or long term lease arrangement to  acquire the adjacent property and possibly arrange a loan, the proceeds of which will be used for improvements to the new facility. Under the RULLCA rule, depending upon the wording of  the  operating  agreement, the manager may be required to seek the unanimous approval of the members of the LLC. Other "ordinary course" issues could include a lease of all of the space in the building to a single tenant or refinancing an existing loan. Another thorny  issue  will  be what authority will be required for legal counsel for the LLC to provide a legal opinion to the lender providing financing for the purchase of the adjacent building that all actions required of the LLC to  authorize the purchase and loan have been taken. While requiring a vote of all of the members to approve various actions is democratic and provides checks and balances to the operation of an LLC, the unanimous vote requirement introduces the possibility of a statutorily sanctioned tyranny of the minority by default  under  section 17704.07(c)(4).

B. To Amend or Not to Amend?

If the operating agreement of an  LLC  formed  under the B-K LLC Act referred to in the example in Section V.A above includes provisions  that authorize the manager to take all reasonable  actions and enter into such transactions as the manager in its discretion determines necessary and appropriate to operate and enhance the business of the LLC, then perhaps nothing more needs to be done with the existing operating agreement if one either concludes this is clear enough language to avoid the RULLCA default rules or if one relies upon section 17713.04(b), which states that RULLCA does not affect "contracts" in existence before January 1, 2014. However, for the avoidance of doubt, the powers and authorities of the manager(s) in a B-K LLC Act LLC operating agreement should be reviewed to determine if they are clearly and unambiguously stated to avoid the potential arguments that section 17713.04(b) is inapplicable in this situation, and the section 17704.07(c)(4) default rule governs the actions of the manager(s). Moreover, if  the  provisions  of  an  LLC  operating agreement regarding amendments to the operating agreement are not clear and unambiguous as to the vote of members required to approve an amendment, then any amendment will require unanimous member approval, bringing into play the ability of even a minority of one to block a proposed amendment.

C. Management  Issues  in  the  Case  of  a  Member­ Managed LLC

Section 17704.07(b) of RULLCA imposes a  unanimous member vote to approve an act outside of the ordinary course of activities of the LLC and to amend the operating agreement of the LLC, and it provides that each member has equal rights in the management and conduct of the business of the LLC, including equal  voting rights. These provisions of RULLCA may be varied by a written operating agreement, and doing so will make sense in nearly every case. In reviewing the operating agreement of a member-managed  LLC formed under the B-K LLC Act, the voting provisions should be analyzed to determine if such voting provisions are definitively set forth so as to avoid what will otherwise be the RULLCA default result.

Notwithstanding section 17704.07(b), RULLCA does validate a means of centralizing the voting control of a member­ managed LLC. Section 17704.07(r) provides an exception to the default rule that every member in a member-managed LLC has equal management and voting rights. It provides that the articles of organization or written operating agreement may provide to all or certain identified members of a specified class or group of members the right to vote separately or with all or any class or group of members on any matter. Voting by members may be on any basis, including by a class or group. Therefore, it would appear that a control group or member could be given, either through the articles of organization or the written operating agreement, the right to vote on, for example, a sale of an LLC's property, without requiring the consent of all or even a majority of the other members. It is unclear whether all voting rights can be taken away from a certain member in a member-managed LLC or whether only partial voting rights may be eliminated.

VI. FIDUCIARY DUTIES

The fiduciary duties of members in a member-managed LLC and of a manager in a manager-managed LLC are provided in detail in section 17704.09. The extent to which such duties may be modified, varied, and eliminated in the operating agreement is the subject of detailed treatment in section 17701.10.

A. Member Duties

The fiduciary  duties that  a member  owes  to a member­-managed LLC and the other members of the LLC are the duties of loyalty and care.

1. Member Duty of Loyalty

The member's duty of loyalty to the LLC and other members is limited (a) to account to the LLC and hold as trustee for the LLC any benefit derived by the member in the conduct or winding up of the LLC or derived from a use by the member of an LLC property or asset, including the appropriation of an LLC opportunity, (b) to refrain from dealing with the LLC in the conduct of its business or winding up as or on behalf of a party having an interest adverse to the LLC, and (c) to refrain from competing with the LLC in the conduct or winding up of the business of the LLC.⁹

     2. Member Duty of Care

The member's duty of care to the LLC and other members is limited to refraining from engaging in grossly negligent or reckless conduct, intentional misconduct, or a knowing violation of law.¹⁰

    3. Obligation of Good Faith and Fair Dealing

Section 17704.09(d) provides that a member must discharge its duties to the LLC and other members under RULLCA and the operating agreement and exercise any rights consistent with the obligation of good faith and fair dealing.

    4. Limitations on Member Duties

Notwithstanding the foregoing duties, a member has not violated a duty or obligation under RULLCA or the operating agreement merely because the member's conduct furthers the member's own interest.¹¹

B.  Manager Duties

Section 17704.09 provides that in a manager-managed LLC, the duties of loyalty and care, discussed above in Sections VI.A.1 and VI.A.2, apply to the manager(s), but not to the members. The obligation of good faith and fair dealing discussed in Section VI.A.3 above applies to both managers and members; but, other than the obligation  of good faith and fair dealing, a member in a manager-managed LLC has no other fiduciary duty to the LLC or the other members solely by reason of being a member.

C.  Applying the Duties

Assume that ABC Co. is the manager of several LLCs organized to acquire income real estate projects in a geographical region such as the California Inland Empire. The LLCs have been organized and capitalized sequentially over a number of years. There is very little overlap of members from one LLC to another. ABC Co. has inherent conflicts of interest as it pursues sales and exchanges of projects within the region. If there is a project available to purchase, ABC Co. will need to choose which LLC (of which ABC Co. is the manager) to pursue the purchase. Similarly, if an unaffiliated buyer of such projects enters the market looking for acquisitions, ABC Co. will need to choose which LLCs (of which ABC Co. is the manager) will participate in an exchange or sale of one or more of its portfolio projects. As a result of the manager's duty of loyalty to the LLC under RULLCA, ABC Co. has the duty to refrain from competing with the LLC of which it is the manager or to appropriate an opportunity of the LLC of which it is the manager, and it must deal in good faith with the LLCs of which it is the manager. It will be challenging to draft appropriate disclosures and waivers required by RULLCA to establish informed consent under such circumstances.

D. Modifying the Duties

Section 17701.10 of RULLCA outlines the extent to which any of the fiduciary duties may be modified or eliminated. While the provision describes the function, limitation, and scope of an operating agreement, the section is difficult to understand, dissect, and apply given its plethora of exceptions. Despite such confusion, the operating agreement of an LLC may alter certain fiduciary duties.

1. Changing the Duty of Loyalty

The duty of loyalty may not be eliminated, but the operating agreement may (a) identify specific types or categories of activities that do not violate the duty of loyalty if not manifestly unreasonable, and (b) specify the number or percentage of members that may authorize or ratify, after full disclosure to all members of all material facts, a specific act or transaction that otherwise would violate the duty of loyalty.¹²

2. Changing the Duty of Care.

The duty of care may not be unreasonably reduced. ¹³ As described in Section VI.A.2 above, the duty of care is not a very high standard to begin with, so a modification of the duty of care may not be necessary in most situations.

3. Changing the Obligation of Good Faith and Fair Dealing.

While the obligation of good faith and fair dealing may not be eliminated, the operating agreement may prescribe standards by which the performance of the obligation is to be measured, provided that the standards are not manifestly unreasonable. ¹⁴

The modification of the fiduciary duties of a manager or member to the LLC and the other members may be modified only by a written operating agreement (subject to the limitations and caveats in this Section VI.D) with the informed consent of the members.¹⁵ Assenting to the operating agreement pursuant to section 17701.11, for example, which the transferee of an LLC interest is normally required to do in a fairly cursory manner to be admitted as a member of the LLC, does not constitute informed consent.¹⁶ Consequently, when drafting future LLC "joinder agreements" for LLC interest transferees to sign, the issue of informed consent should be well documented if the written operating agreement contains provisions modifying any of the duties of managers and/or members.

VII. INDEMNIFICATION

A. Basic  Ground   Rule:  Members   and  Managers  Are Covered

The B-K LLC Act provided  that  the  indemnification  of members,  managers,  officers,  agents,  and  other  parties  and persons of an LLC was optionaI.¹⁷ RULLCA departs from that approach, mandating indemnification under section 17704.0S(a) for members and managers by default with no mention of other parties  and  persons  who  may  be  indemnified.  The operating agreement may change the default rule and provide indemnity to other parties and persons as discussed in this Section VII below. The operating  agreement  may  also  eliminate  indemnification for managers and members (the default rule), but it seems very unlikely that many LLCs will choose to go that way.

Section 17704.0S(a) provides that an LLC shall reimburse for any payment made and indemnify for any debt, obligation, or other liability incurred by a member of a member-managed LLC or the manager of a manager-managed LLC if the member or  manager  complied   with   the  fiduciary duties   discussed in  Section  VI  above.  Presumably,  such  reimbursement  and indemnification would  apply even  if those  duties  have  been modified  as permitted  under section  17704.10 and as further discussed in this Section VII below. Section 17704.08 expressly provides  for  such modification,  thus  raising  a  potential  issue of interpretation. An attempt should be made to resolve any doubt as to intent through the drafting of appropriate provisions governing indemnification in the operating agreement.

Under RULLCA, the operating agreement may also eliminate or limit a member or manager's liability to the LLC and  members  for  money  damages,  except  for  the following: (a) breach of the duty of loyalty; (b) a financial benefit received by the member or manager to which the member or manager is not entitled; (c) a member's liability for excess distributions; (d) intentional infliction of harm on the LLC or a member; and(e) an intentional violation of criminal law.¹⁸

B.    Officers and Agents

The indemnification  of  officers  and  agents  of  an  LLC is permitted. Section 17701.05(1) provides that an LLC may indemnify or hold harmless any person subject to any limitations in the articles of organization. Note that this provision is one of the few situations where the articles of organization may affect the operations of the LLC.

        C.  Insurance for Indemnification

Under RULLCA, an LLC may purchase insurance indemnifying designated parties (e.g., managers, members, officers, agents) against liability for the breach of duties, ¹⁹ including those duties which, under section 17701.10(g), the operating agreement of the LLC may not modify, limit, or eliminate.²⁰

D. Lessons

What are some of the useful lessons learned from analyzing the definitions of the fiduciary duties and the extent to which they may be relaxed or eliminated?

1.     "Relaxing" Duties

2.    Drafting Challenges

The identification of specific types of conduct  or categories of activities that will not violate the duty of loyalty, among other duties, will represent a stiff challenge to the ablest draftsperson. It is a shame, really, that RULLCA did not follow Delaware's LLC statute, which provides that all duties other than the (obligation of good faith and fair dealing may be eliminated. The Delaware LLC Act provides that, unless the operating agreement states otherwise, the managers and controlling members of an LLC owe fiduciary duties of care and loyalty to the LLC and its members.²¹In other words, the parties are free to expand, restrict, or eliminate fiduciary duties (except for the implied covenant of good faith and fair dealing) in their operating agreements.²² With respect to a Delaware LLC which is registered in California, however, it is unclear whether RULLCA or Delaware law applies to the modification of fiduciary duties. As discussed in Section III.B above, the question is whether indemnification terms are internal affairs that are governed by the laws of the jurisdiction  of formation.

VIII.  RULLCA  CONCEPTS  TO  CONSIDER  IN PREPARING OPERATING AGREEMENTS

A. The Risk of an Implied Operating Agreement

Under section 17701.02(s), an operating agreement may include, without more, an agreement of all members to organize an LLC under RULLCA. In other words, an operating agreement may be determined or argued to exist whether or not it is called an operating agreement and whether or not it is oral, in a record, implied, or in any combination of such elements so long as the purported agreement covers matters described in section 17701.10. Those matters include relationships among the members and between the members and the LLC, the rights and duties of any manager, and the activities of the LLC, among other things. Under RULLCA, the operating agreement governs in a conflict between the  operating  agreement  and  the  articles  of  organization.²³  Of course, any claim that a person or entity is a party to an implied operating agreement or one largely or even partially based upon oral agreements could be most uncomfortable. Moreover, it seems highly likely that this situation will lead to more litigation among employers and employees, as well as members and managers.

Further, a possible interpretation of section 17701.02(s) could result in one or more prospective members forestalling further negotiation and insisting that there is a valid operating agreement in place following preliminary oral discussions among the prospective members. Although a seemingly odd result, RULLCA suggests that this scenario could create an enforceable operating agreement.

In counseling clients, practitioners should consider advising the use of a term sheet or letter of intent as a preliminary outline of operating agreement terms and conditions, which term sheet or letter of intent expressly states that  it is non-binding  until a definitive, written operating agreement has been negotiated, prepared, and signed by all of the parties.

B.   Restrictions  on  the  Contents  of  the  Articles  of Organization and Operating Agreement

If a provision appears  in the articles of organization  that is prohibited from inclusion in an operating agreement under section 17701.10(c), it is ineffective.²⁴

C. Remember the RULLCA Default Rules Related to Member or Manager Management

Section 17704.07(a) provides that an LLC is a member­ managed LLC unless both the  articles  of organization  and the operating agreement  provide  that  (a)  the LLC is or will be manager-managed, (b) the LLC is or will be managed by managers, (c) the management of the LLC is or will be vested in the manager(s), or (d) words of similar import. The statute does not prescribe magic language to be used, but close adherence to one of these formulations seems like a good idea.

D. Becoming a Member of an LLC

Sections 17704.01(a) and (b) address membership in an LLC at the time of formation. Following formation, section 17704.01(c) provides that one becomes a member of an LLC (a) as provided in the operating agreement, (b) as a result of a transaction under Article 10 (essentially a merger),²⁵ or (c) with the consent of all of the members. Presumably, under clause (a) above, a manager of a manager-managed LLC could admit additional members as long as the written operating agreement expressly provides for that method of admission for additional members.

Section 17704.01(d) provides that a person may become a member without acquiring any transferable interest or making or becoming obligated to make a contribution to the LLC. This provision allows a person to have voting and other non­ economic rights in the LLC without making a contribution to the LLC.

It is important to reiterate, as discussed in Section VI.D above, that persons  becoming members of an LLC after formation of the LLC, who are deemed to assent to the operating agreement, will not establish the informed consent of such a person to any waivers or provisions relaxing fiduciary duties set forth in the operating agreement. Such informed consent should be separately and specifically documented.

IX. OTHER CHANGES

This article does not provide a detailed  analysis of other areas changed or affected by RULLCA, including mergers, dissociation,²⁶    transfers    of   membership    interests,²⁷ and dissolution. RULLCA  provides  new  rules  and  approaches in each  of these areas. Practitioners should review all of the RULLCA provisions in preparing to counsel clients, reviewing existing LLC documentation, or drafting documentation for an existing or new LLC.

X. CONCLUSIONS