The Difference Between Manager-Managed and Member-Managed (And Why It Matters When You're Selling)

We formed our first multi-member LLC as member-managed. The default. We did not think about what it meant, because the attorney who helped us form it did not raise the question, and we did not know to ask.

What it meant: every member of the LLC had apparent authority to bind the company in transactions. A third party dealing with any one of us in the company's name could reasonably rely on that person having the authority to make commitments on the company's behalf. In a two-person partnership where both people are equally involved, this is usually not a problem. In a company where one partner is operational and the other is passive, it is a structural mismatch.

What "apparent authority" means in practice

Apparent authority is the authority a third party reasonably believes someone has based on the circumstances, regardless of what the operating agreement actually says internally.

In a member-managed LLC, the default rule under most states' LLC acts is that each member has apparent authority to act on behalf of the company in the ordinary course of business. This means a vendor who receives a signed contract from any member, or a bank that receives a wire instruction from any member, can generally rely on the authority of that person without verifying whether the internal documents authorize it.

This works fine when all members are active, equally informed, and aligned. It creates exposure when a member acts outside the scope of what the other members intended, because the third party's reliance on apparent authority may be protected even if the action was not actually authorized.

How manager-managed changes it

A manager-managed LLC designates one or more managers who have the authority to act on behalf of the company. The managers may be members, or they may not be. The key distinction is that members who are not designated managers do not have apparent authority to bind the company.

This structure is appropriate when the company has passive investors, when one founder is operational and the other is not involved in day-to-day decisions, or when the company wants to limit the number of people who can make binding commitments. The articles of organization must specify manager-managed status for it to be effective against third parties, because that designation appears in the public filing.

Why it matters when you are selling

A buyer conducting due diligence on a member-managed LLC will look at every contract, lease, and binding commitment the company has made and ask whether the person who signed it had authority to do so. If there are past agreements signed by a member who did not have actual authority, and the question of apparent authority is ambiguous, that creates a due diligence issue that has to be resolved before closing.

We have watched a deal slow down at the diligence stage because an early contract had been signed by a passive member who had apparent authority under the default member-managed structure but who the other founders would have described as having no authority to commit the company. The contract was enforceable. The question of whether it created an undisclosed obligation the buyer was inheriting took three weeks to resolve.

The cleaner approach, particularly for companies with passive investors or unequal operational involvement, is manager-managed from formation. The operating agreement specifies who has authority. The articles of organization reflect it. The question does not arise in diligence.

The operating agreement has to match the articles

Specifying manager-managed structure in the operating agreement alone is not sufficient for it to bind third parties. The articles of organization, which are public, must also reflect the manager-managed designation. An operating agreement that says manager-managed while the articles say member-managed creates an internal document that contradicts the public record, and third parties who rely on the public record are protected regardless of what the private document says.

If you are reviewing your formation documents and find this inconsistency, amending the articles is the fix. It is a straightforward state filing. Do it before the question becomes relevant.