Crafting Your Operating Agreement
The reason you need an operating agreement when raising capital is because it tells your prospective investors exactly what your company is legally obligated to do, or not to do. The operating agreement spells out how it will all go down. From management, to new owners, to getting out of your ownership, dissolution of the company, everything.
Cannabis Company Operating Agreements are Flexible
We have done scores of operating agreements, many for cannabis companies. Cannabis companies often require additional care in drafting their operating agreements because of the amount of money and free cash flows that they kick out during their operations. Therefore, it is very important to review and understand your cannabis company’s operating agreement. Consulting an attorney that is experienced in them and asking questions until you understand everything about how your cannabis company operates should be your first step in setting up an operating agreement.
In an LLC you can set it up so that members have no duty to one another. Just be like – I did this – deal with it. That could be a part of the business. We have an operating agreement that we like to call the fugghetaboutit – because not only does it allow you to have the least amount of duties to your partners as a matter of law, but the freedom to leave the business on a moment’s notice, dissolve the business and leave it in the past. It’s the LLC for the deal when you got just one little thing to do.
Then you got the protect yah neck, son – that’s just a single member LLC – the operating agreement basically gives the liability shield and very little else. We have seen these be just a few pages, but you get more people involved and watch the operating agreement grow into the dozens of pages, maybe over 100 depending on the exhibits attached.
Then we have another operating agreement that I like to call the flip – this company is basically on a mission to be sold – the LLC comes with an exit so you are almost for sale from the day you go into business on the terms set by the operating agreement. In this format, we use the tag-along-drag-along clause as a term of the operating agreement to provide protections to the minority owner of the company the “tag along” to be “dragged along” in the full sale of the company, or substantially all of its assets. So you can see, both the minority owner and the majority owner are in agreement as to what will happen when the offer to buy comes along.
Then we have one called the generational wealth – where you have the business being able to have rights of first refusal to retain ownership – often inside a family owned business. It is a sticky wicket to get into or out of – and that’s the point.
As you can see LLC Operating agreements are so flexible that you can adapt them for any situation your company needs – even compliance with certain social equity aspects of some state’s cannabis laws.
Can You Run Your LLC Like a Corporation?
In corporation terms, an operating agreement blends shareholder agreements and bylaws all together – but in theory, an LLC could do bylaws separately – in theory. And as we get to the intersection of these two different type of corporate entities businesses have at their disposal, we can finally answer of the question, can an LLC be run like a corporation?
So you can see that – yes, you can structure a LLC like it is a corporation – but it will be much more expensive than the couple page single member LLC operating agreement. The operating agreement has to blend agreements about new owners, types of owners, officers and directors, voting rights, tax consequences – so many things.
Conclusion on LLC Operating Agreements
So why not just start with a corporation? You can, but they have greater formality, less flexibility, and easier exchange of your shares. An LLC can become a corporation – so if your first 5 years are expected to be you and your core team operating the business before it is geared up and sold, or who knows. Then you can start to set up the corporation as best you can, but borrower the flexibility and lack of formality that the LLC has, plus get more restrictive ownership, to keep your team together until you are ready to become a full on corporation that ends up getting sold for stock – a corporation can still buy an LLC.
What are the Elements of a Cannabis Company’s Operating Agreement?
Operating agreements, for any company – not just cannabis businesses – have different sections, or articles. Like chapters in a book, articles in an operating agreement break down the contract into logical subgroups where specific things are discussed. The common sections, or articles, in operating agreements that we use include:
• Formation of Company
• Members & Units
• Management of the Company
• Rights & Obligations of Members
• Actions of Members
• Contributions to the Company and Capital Accounts
• Allocations, tax and distributions
• Issuance of Membership Interests
• Dissolution and Termination
• Books and Records
• Miscellaneous Provisions