We’ve all heard about Corporations, a centuries-old structure for the operation of a business which provides limited liability for investors.
Most folks have now also heard about Limited Liability Companies (commonly called LLCs), a newer structure which also provides limited liability for its investors. That is, in both cases, “limited liability” simply means that an investor, who becomes an owner of such an entity, has invested dollars at risk but other personal assets not at risk.
So under these two common entities, what are the people involved called?
For Corporations, the owners are called Shareholders, or sometimes Stockholders, both terms being interchangeable. They typically receive a Share Certificate (or Stock Certificate, same thing) which historically was an actual piece of paper issued by corporate officials tangibly representing the number of shares owned. Today, many corporations do not actually issue pieces of paper but rather just keep electronic records, but the ownership concept is the same.
Shareholders can own Common Stock or Preferred Stock. Common Stock is the norm and represents a proportionate ownership of the entire business and upon the eventual liquidation of the Corporation entitles the owner to that portion of the assets that are left after paying all creditors. Common Stock may, but is not required, to include a Dividend payable to the Shareholders, which is a distribution of some portion of the corporate profits. Common Stock may be “Voting”, meaning that each share gets one vote on important matters submitted to such votes, or “Nonvoting”, meaning that each Nonvoting Share has the same economic rights as a Voting Share but is not entitled to vote on anything. Preferred Stock is also an ownership interest but upon the eventual liquidation of the Corporation these shares are to be repaid, dollar for dollar, what the investor paid for them. Most Preferred Stocks also have a required dividend payment to the Preferred Shareholders, which must be paid before any dividend can be paid to the Common Shareholders. For example, the owner of a Preferred Stock for which the owner paid $100/share and which has a 7% dividend would be entitled to an annual dividend of $7 and a return of the $100 (no more) when the stock is cashed in. Preferred Stock is an exception to the norm and not typically issued by the vast majority of Corporations.
The primary function of Shareholders in corporate governance is to elect Directors, who are the persons responsible for the oversight of the management of the Corporation. The primary function of Directors is to elect Officers (President, Vice-President(s), Secretary, Treasurer, etc) who are in charge of the daily management of the Corporation.
For LLCs, the owners are called Members. Instead of Shares, their ownership interests are call Units. Members may receive a Unit Certificate (an actual piece of paper issued by LLC officials tangibly representing the number of Units owned). But most LLCs do not actually issue pieces of paper but rather just keep electronic records, again the ownership concept being the same.
Members can own Common Units or Preferred Units or any other variation that might be useful. Common Units and Preferred Units would have the equivalent liquidation priorities as Common Stock and Preferred Stock for a corporation and the same requirements (or not) for distribution of profits (called simply a Distribution, not a Dividend) to the Members. Units can be Voting or Nonvoting, just as for corporate Shares.
The primary function of Members in LLC governance is to elect Managers, who are the persons responsible for both the oversight of the management of the LLC and the daily management of the LLC. Some LLCs are “Member Managed”, meaning that there is just one layer of management. It is permitted for an LLC to elect Officers (President, Vice-President(s), Secretary, Treasurer, etc) whose duties would correspond to corporate officers with the same titles. It is permitted for an LLC to have a Board of Directors, but most do not have this intermediate layer.
In the cases of both Corporations and LLCs, it is common today to have the owners enter into a written agreement which sets forth the governing principles for the entity. For Corporations, such an agreement is called a Close Corporation Agreement. (“Close” meaning “closely held”, as opposed to “publicly traded”.) For LLCs, the analogous document is called an Operating Agreement. Typically, both types of agreements cover such topics as selection of Officers or Managers, reciting the ownership (in lieu of certificates), requirements for votes on certain fundamental issues, and buy-sell features.What I have outlined here is greatly simplified and there are nuances which still must be considered, depending upon the long-term goals of the investors establishing the business entity. This brief article provides an accurate summary of the terminology used for Corporations and LLCs in today’s legal world which should help the reader have a better understanding of who’s who in the entity of choice.
What I have outlined here is greatly simplified and there are nuances which still must be considered, depending upon the long-term goals of the investors establishing the business entity. This brief article provides an accurate summary of the terminology used for Corporations and LLCs in today’s legal world which should help the reader have a better understanding of who’s who in the entity of choice.
Doug Drushal, a senior Member of CCJ, has nearly 40 years of experience in business formation, as well as the buying and selling of businesses of all types and sizes. Contact Doug at ddrushal@ccj.com for more information or to discuss your situation.