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How an LLC Can Help a Business Thrive

  • 21 April 2015
  • Author: Cari Holbrook
  • Number of views: 2995
How an LLC Can Help a Business Thrive

Taking on partners or investors can be risky, especially when you’re just starting out. However, certain risks are necessary in order to succeed. Some tools can help mitigate the risk of getting outside funding for a business. An LLC structure is one of those tools.

As we mentioned earlier this month, an LLC offers the flexibility of a waterfall distribution to pay stakeholders, unlike corporate structures which mandate proportionate distributions. A waterfall distribution can help a business owner control where and how funds are distributed. Too often, business owners—even those already utilizing an LLC designation—can be trapped in the mindset of needing to pay stakeholders according to percentages held. But an LLC can allow a business owner to step outside this box by evolving priorities as necessary to keep the business healthy. Distribution amounts do not have to correlate to owner percentages under LLC statutes.

For instance, a new business may give a major sponsor/investor 80 to 90 percent of the losses upfront in exchange for receiving priority payment with preferred return. On a second allocation (further down the “waterfall”), those with sweat equity are paid, including general partners and co-founders. According to Thomson Reuters, a sponsor will often receive a preferred return before management shares in any proceeds of the investment. The general yield on the preferred return ranges from 8 to 10 percent and is typically cumulative with compounding at least annually.

There can be some common but costly oversights when drafting waterfall distribution terms. Additionally, the language can significantly affect other scenarios like buyouts and liquidation—scenarios that may seem merely hypothetical now but could be a realistic part of your business’s future. To get started on weighing the options that are most appropriate for your business, feel free to contact us.

Image Copyright: 123RF Stock Photo

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