Operating Agreements and Partnership Provisions: Capital Calls, Dilution, Removal, Breaches

Description

After the fallout from the pandemic and other economic uncertainties arising therefrom, many partnerships and LLCs have taken steps to improve or protect their financial position and to continue operating by making capital calls, diluting or removing members, and taking other measures as needed to ensure viability.

Properly drafted partnership and operating agreements establish the obligations to fund business ventures, including the responsibility to contribute additional capital when needed. These governance documents also typically describe the consequences for failing to do so.

A partner's or LLC member's failure to contribute necessary capital may be regarded as a breach of obligations, and the consequences for such a breach can be significant. For instance, in the case of an LLC, a repeated failure of a member to comply with financial obligations under an operating agreement may be grounds for removal or dilution where an operating agreement provides for such penalties. However, exercising these remedies generally requires strict compliance with the operating agreement, the applicable state's LLC act, and other applicable laws, such as the common law in the state of formation.

Counsel should consider whether updates should be made to their clients' governance documents to provide flexibility to raise capital and take other actions as necessary to allow the company or partnership to address economic uncertainty. As part of these considerations, counsel should consider the scenarios that could exist in various situations, including the history between the parties, the nature of the business, and prior contributions made by each party.

Listen as our expert panel discusses potential changes to partnership and operating agreements that allow for flexibility when addressing current and future economic uncertainty.