When the Fine Print Gets Expensive: Capital Calls

By: David L. Simmons, Drewry Simmons Vornehm, LLP

What can be more exciting than a new business venture? Unfortunately, the thrill of creating or buying a business often overshadows the more mundane aspects of the enterprise, such as operating agreements and corporate governance. Buried in the fine print of operating agreements, bylaws, and other governance documents may be obligations that impose considerable risk, and yet remain unknown to an unsuspecting owner. One of these obligations is known as “the capital call.”

Many business owners and investors assume that the initial contribution of capital or investment is the extent of their risk. This is often the case, unless the owner signs a personal guarantee in favor of a lender or landlord. Another exception to the limited risk of a business owner is the obligation to contribute additional capital, also known as a “capital call.” For example, an operating agreement may provide that:

If at any time the Manager believes that the Company is in the position of having payment obligations in excess of resources with which to fund the obligations, the Manager shall make the amount of the excess of obligations known to the Members, who shall each be obligated to contribute to the Company funds in an amount equal to the Member’s residual percentage multiplied by the cash need amount.

A clause such as this requires each of the owners to contribute additional capital to the extent deemed necessary by the manager. The fact that an owner was unaware of the provision is not controlling, since every member or shareholder has the obligation to review and understand his obligations under the relevant operating agreement and corporate records. A business owner must also decide whether it would be advantageous to include limitations on the authority of the manager to require such a contribution.

The obligation to satisfy a capital call is not necessarily disadvantageous, since the circumstances of the business may make such a clause necessary. Nevertheless, a business owner must be aware of such a provision and understand the extent to which he may be at risk for the contribution of additional capital.