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  • Writer's pictureDavis Yu

Corporate Governance Documents: Why are they important?

September 10, 2020


The start of a new business is a huge step and calls for many exciting, innovative, and potentially lucrative opportunities. As with any new venture, it is always important to consider all legal obligations and consequences and the manner in which they are dealt with. Well-tailored governing legal documents must be properly drafted to ensure that business runs smoothly and is being conducted in accordance with the law.


Corporations


Depending on the particular business structure, there are particular legal documents that are required for its formation. A corporation is legally created when Articles of Incorporation and Statement of Information are filed with the California Secretary of State. A corporation should also have a shareholder agreement, corporate bylaws, and other governing documents.


Articles of Incorporation

The Articles of Incorporation must include the corporation’s name, street and mailing address, and a named agent for service of process. This is an individual or entity that will accept state and legal documents on the corporation’s behalf should any lawsuits arise.


Corporate Bylaws

Bylaws are an important component as they govern the way in which the corporation will operate. Some major points that bylaws should address are:


  • Qualifications of directors and officers

  • Duties and obligations of officers and directors

  • Size of the board of directors and the term and manner of their election or removal

  • How, when, and where shareholder and board meetings will be held

  • Who may call meetings and the terms of notice

  • Issuance of stock certificates

  • Extent of indemnification of directors and officers


Shareholder agreement

Shareholder agreements establish the relationship shareholders have to the corporation and the rules and obligations that govern each shareholder. It should generally lay out:


  • Shareholders’ interest, rights, and liabilities in the corporation

  • Procedures for issuing or transferring shares and assessing its valuation

  • Restrictions on transferring shares

  • Procedure for handling shares of shareholders who pass away or become incapacitated

  • Mechanisms to buy-out shares

  • Voting provisions

  • Provisions for dispute resolution


Limited Liability Companies/Limited Liability Partnerships

In California, limited liability companies (LLCs) and limited liability partnerships (LLPs) typically require an operating or partnership agreement.


Operating Agreement

An operating agreement generally details the membership, management and financial distribution of the company. It is similar to a shareholder agreement; however, the operating agreement is specific to LLCs. It should include, but is not limited to:


  • Members’ share of the business

  • Fiduciary duties and obligations

  • Profit and loss allocation

  • Members’ voting interests and responsibilities

  • Procedures that address the sale, dissolution, or change of ownership

  • Grounds for members’ withdrawal or termination

  • Dispute resolution provisions


Partnership Agreement

A clearly written partnership agreement is meant to express the intent of the partners and expressly lay out all rights and obligations. Although California law does not require a written agreement in order to form a partnership, omitting this step may lead to opposite consequences than what the partners initially agreed upon or costly litigation to resolve disputes. For instance, if the partners intended for a 70-30 split of ownership, this split will not be honored should a dispute arise without a written agreement. Oral partnerships would be subject to default rules set forth in California’s Revised Uniform Partnership Act (RUPA). Under RUPA, each partner owns an equal interest in the partnership and thus, the split in this case would be 50-50 regardless of what was initially agreed upon.


Additionally, a partnership agreement should also include:


  • Purpose and duration of the partnership

  • Limitations on the partners' outside competitive business activities

  • Capital contributions and ownership interests

  • Additional capital contributions

  • Allocation of partnership profits and losses

  • Partners’ management duties and authority

  • Whether specific decisions or acts such as dissolution of a partnership requires a majority or unanimous vote

  • Terms for transfer of interest although, partnerships typically execute a buy-sell agreement to address this issue


With starting a business, it is crucial that everyone involved is on the same page in terms of business goals, means of operation and management, in addition to compliance and risk management. However, this is not always the case. Oftentimes, entrepreneurs and business owners skimp out on important legal documents because of the costs associated but end up having to spend tenfold when a legal dispute arises within their organization.


What happens when companies merge with or acquire separate companies? How will conflicts and disputes between owners/shareholders be handled? What if a member or shareholder wants out? What are the minimum qualifications a director requires?


Although there are complimentary or “cost-friendly” standard agreements on the web for use, not every agreement considers the key questions above and the particular needs of your business. This may only lead to time-consuming, costly, and potentially detrimental consequences for your business. These documents have important practical consequences and are important for the long-term success of your business.


Whether your governance documents are in need of review or updates or need to have documents drafted, we are well-equipped to help so that you can focus on the continued growth and success of your business.



This article is specific to the laws of the State of California and is intended for informational purposes only. The article should not be construed as legal advice or a legal opinion based on any specific facts or circumstances. For specific questions related to this article, please contact an attorney.


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