Every offering on the Marketplace has documents related to that deal; you find them under the Documents section of the offering’s detail page. These documents are there to help you perform your due diligence for a deal and understand your rights and obligations as an investor, should you choose to invest. You should carefully review each offering in detail and consult with your legal, tax, and financial advisors before making an investment on the Marketplace.
All deals on the Marketplace have an Operating Agreement within its documents. In this article, we’ll cover some frequently asked questions about Operating Agreements.
What is an Operating Agreement?
An Operating Agreement is a key document that governs the operation of the respective entity. Essentially, it is the “contract” that sets forth how the entity will operate and the rights and obligations of all the members and managers of the entity.
What is the purpose of an Operating Agreement?
The purpose of the Operating Agreement is to govern the internal operations of the business in a way that suits the specific needs of the business owners. Once the document is signed by the members of the entity, it acts as an official contract binding them to its terms.
In commercial real estate (CRE), sponsors will often create a new business entity, usually an LLC or limited partnership, to act as the issuer of securities in which to accept investors. So while a specific sponsor might present a deal, there is a separate business entity that acts as the Issuer. Creating this separate entity is a common practice and helps to protect both the investor and the sponsor from third-party liability. The Operating Agreement outlines how the Issuer operates.
This is confusing - do you have an example?
To help you understand, the following is an example for illustrative purposes only. This does not represent an actual sponsor, investor or deal.
Sponsor ABC, Inc. wants to build a hotel on Main Street in Peoria, IL. They decide the best course of action is to create a deal and source capital via CrowdStreet.
To do this, Sponsor ABC creates a new business entity for this deal. This entity could be an LLC, a corporation, a limited partnership, etc. The entity (known as the "Issuer") raises capital from investors, issues securities in exchange for capital contributions from the investors’ investments, and ultimately uses those invested dollars to build the hotel.
Sponsor ABC decides that the optimal entity type for its new Issuer entity would be an LLC. They name the LLC “Hotel on Main, LLC.” So while Sponsor ABC is the main company behind the project (i.e., the "Sponsor"), investors will actually invest in, and own interests in, Hotel on Main, LLC. An investor who invests in this project will be investing in Hotel on Main, LLC, not Sponsor ABC, Inc. They will be bound by the terms set forth in the Operating Agreement for Hotel on Main, LLC.
This is a common business practice that is important to understand because this will determine the kinds of documents an investor will receive to review this deal, including the Operating Agreement.
Are Operating Agreements standardized?
No, Operating Agreements are structured based on the needs of the entity. You should carefully review each Operating Agreement.
What can be found in an Operating Agreement?
The Operating Agreement usually includes, but is not limited to:
- The percentage of members' ownership.
- Member voting rights and responsibilities.
- The powers and duties of members and managers.
- The distribution of profits and losses.
- How often members hold meetings.
What is the difference between an Operating Agreement and a Private Placement Memorandum (PPM)?
The Operating Agreement outlines how the Issuer will operate. Generally, the PPM will provide information on the Sponsor and management, the business plan, and the risks of investments. .
For more information about PPMs, view this article: Private Placement Memorandum (PPM) overview.
How is an Operating Agreement different from a Subscription Agreement?
The Operating Agreement outlines how the governing body will operate. The Subscription Agreement is the legally binding agreement between the investor and the Issuer.
To learn more about Subscription Agreements, refer to this article: Subscription Agreement overview.