You started a limited liability company with the best business partner in the world. It turns out he is the worst business partner in the world. Now what?
Let’s start with the standard lawyer answer: it depends. These situations are highly fact-dependent and incredibly complex. We recommend you hire an attorney to navigate them. This all said, here are some common solutions to these sorts of situations.
The best solution oftentimes is to simply make a business deal. You can buy the other member’s membership units. Making a deal does not require litigation, which can be incredibly costly and disruptive for business.
If you can’t make a deal, then your other options are defined by law. North Dakota’s Rules regarding limited liability companies are contained in the North Dakota Uniform Limited Liability Company Act. Specifically, Section 10-32, 1-48 permits expulsion under certain circumstances.
Do you have an operating agreement (sometimes known as a Member Control Agreement)? An operating agreement is a contract between the LLC’s members (owners) that define: (1) each member’s rights and duties; (2) decision making processes; and (3) how money is handled. Under Section 10-32.1-48(3), a member may be expelled pursuant to the operating agreement. Broadly speaking, membership units are made of two types of interests, governance rights, and financial rights. Governance rights are the power to cause the LLC to make decisions. The financial rights are the right to distributions. The Operating Agreement would likely provide for a buyout or exit procedure so that you could purchase the governance rights and financial rights.
Does the other member have creditor issues? If the other member has a charging order against him, has executed an assignment for the benefit of creditors, or has filed for bankruptcy, then you may be able to expel. Section 10-31.1-48 provides for specific requirements in each circumstance.
If none of the other options work, your last resort is probably with the Court:
5. On application by the company, the person is expelled as a member by judicial order because of the person:
a. Has engaged, or is engaging, in wrongful conduct that has adversely and materially affected, or will adversely and materially affect, the activities of the company;
b. Has willfully or persistently committed, or is willfully and persistently committing, a material breach of the operating agreement or the duties or obligations of the person under section 10-32.1-41; or
c. Has engaged, or is engaging, in conduct relating to the activities of the company which makes it not reasonably practicable to carry on the activities with the person as a member;
We should make a few more points about this subsection. First, the application must be made by the Company, not an individual member. This means the Company must take action, which is, of course, problematic depending on how the decisions are made. If it’s 50/50 ownership, subsection (5) may not be available because no vote can be taken to cause the Company to make the application. Second, the North Dakota Uniform Limited Liability Company Act’s effective date was July 1, 2015, which means we have had no case law to tell us exactly what these mean. Since this is a uniform law, however, we will be able to look to other states for additional guidance.
Let’s say you are able to expel pursuant to Section 10-31.1-48. What happens next? Expulsion causes what’s called “dissociation.” The effect of dissociation is defined by Section 10-31.1-49. Basically, after dissociation, the dissociated member no longer has governance rights but retains financial rights. Repeat: a member expelled and dissociated under the North Dakota Uniform Limited Liability Act still has a right to distributions. This is why it’s preferable to negotiate a buyout or dissociate pursuant to the Operating Agreement.
This article is meant only to generally outline expulsion and dissociation in LLCs. If you are having issues with another member of your limited liability company, you need to speak to an attorney. Without proper guidance, you may pursue a course of conduct that opens you up to liability. Specifically, fiduciary duties and wrongful dissociation are often an issue in ownership disputes. If you need help with these sorts of issues, call our Business Law Team at 701-297-2890 or send us an email below.