General Partnerships I PDF

1 BUSINESS ASSOCIATIONS GENERAL PARTNERSHIPS I Professor Robert N. Rapp Case Western Reserve University School of Law Gund Hall 220A 216.368.6406 [email protected] All Rights Reserved  2...

1 BUSINESS ASSOCIATIONS GENERAL PARTNERSHIPS I Professor Robert N. Rapp Case Western Reserve University School of Law Gund Hall 220A 216.368.6406 [email protected] All Rights Reserved  2 “PARTNERSHIP” Partnership means an association of two or more persons to carry on as co-owners a business for profit. UPA (1997) § 102(11)  “A partnership is an entity distinct from its partners.” UPA § 201(a).  A partnership is recognized in law as a legal actor. It can own property; incur debts and obligations, enter into contracts; sue and be sued.  And fundamentally, as made clear in UPA (1997) § 202(a): “[T]he association of two or more persons to  3 A WORD ABOUT THE “LAW” OF GENERAL PARTNERSHIPS  All states have a partnership statute.  Many are based on a version of the Uniform Partnership Act: The original 1914 version, the 1997 version (often referred to as the “Revised” Uniform Partnership Act and the basis for laws in most states); or in just a handful of states, a 2013 version adopted to modernize the 1997 version further.  Keeping in mind always…. The UPA establishes certain basic principles of law that operate regardless of any agreement between partners (mandatory  4 KEY POINTS AT THE BASELINE….  The partnership is a legal “person,” an entity, but an always overarching thing about it is the individual, unlimited, liability of the partners for the debts, obligations and liabilities of the partnership. UPA § 306(a).  Each partner is an agent of the partnership and the partners for purposes of its business, and an act of a partner, including the signing of an instrument in the partnership name, for apparently carrying on in the ordinary course the partnership business or business of the kind carried on by the partnership, binds the  5 PARTNERSHIP FORMATION SOME BASICS  Two or more “persons”-- UPA § 102(14): “Person” means an individual, business corporation, nonprofit corporation, limited partnership, limited liability company… joint venture, public corporation, government, governmental subdivision, agency, or instrumentality, or any other legal or  6 ASSOCIATING TO CARRY ON AS CO-OWNERS A BUSINESS FOR PROFIT  The fundamental characteristic –persons coming together for a business purpose and relationship. Combining talents and resources. Sharing in profits…. The commonly perceived hallmarks of a true partnership.  Intent to create a partnership? Persons can create a partnership among themselves without even realizing they are doing so. UPA § 202(a) says: “[T]he association of two or more persons to carry on as co-  7 BUT ONE THING IS TRUE… CALLING IT A PARTNERSHIP DOES NOT MAKE IT SO Fenwick v. Unemployment Compensation Commission 44 A.2d 172 (1945) Cheshire and Fenwick entered into a written agreement: “The parties associate themselves into a partnership….” So, how could it be otherwise?  First, who says it isn’t a partnership? Why does it matter in this case?  Their lawyer-assisted agreement certainly governs  8 KEY TERMS OF THEIR AGREEMENT:  No capital investment [?] shall be made by Mrs. Cheshire.  Control and management of the business shall be vested in Fenwick.  Fenwick alone is to be liable for the debts of the partnership.  Mrs. Cheshire is to act as cashier and be paid a salary of $15 per week, and a bonus of net profits at the end of the year if the business warrants it.  9 WHERE TO START….? 1. Fenwick had exclusive control of management of the business. But UPA § 401(h) says, in no uncertain terms: “Each partner has equal rights in the management and conduct of the partnership’s business.” 2. Fenwick alone is liable for the debts (losses) of the partnership. But UPA § 401(a): In a partnership “each partner is…chargeable with a share of the partnership losses in proportion to the partner’s share of the distributions.” 3. They were not co-owners of the business. They intended to  10 AS A MATTER OF PARTNERSHIP LAW, COURT AFTER COURT HAS MADE THE CENTRAL POINT: “Ordinarily the existence of an actual partnership is evidenced by the right of the respective parties to participate in the profits and losses of the business, the contribution by the partners of either money, property or services, and some degree of participation by the partners in the management and control of the business.” -In re Lona, 393 B.R. 1, 14 (N.D. Cal. 2008)  11 WHAT “MAKES” A PARTNERSHIP?  Partners share in profits and losses of the business. This is the essence of co-ownership!  Partners participate in control of the business. This is a primary element in creation of a partnership and is virtually essential to the determination that a partnership exists. Keeping in mind… an agreement to relinquish or delegate management authority or power to a partner is itself an exercise of the right to control.  Parties’ characterization of their relationship as a  12 START THINKING NOW ABOUT ACTUAL PARTNERSHIP AGREEMENTS More on this later… but:  UPA § 105: A partnership agreement governs the relations among partners, as partners, and between the partners and the partnership; and the business of the partnership and the conduct of that business.  There are things that a partnership agreement may not do, but the main thing is that it governs the partners’ relationships and the conduct of the business of the partnership.  13 WHAT MAKES A PARTNERSHIP? (WHETHER OR NOT THE PERSONS INTEND TO FORM ONE)  Co-ownership of a business. As evidenced by: 1. Sharing in profits, which is prima facie evidence of a partnership – actually, a rebuttable presumption per UPA (1997) § 202(c)(3): “[A] person who receives a share of the profits of a business is presumed to be a partner…unless….” (More on this in Southex Exhibitions).  14 THE CONSEQUENCES OF CREATING A PARTNERSHIP….[!]  Unlimited personal liability of a partner for all debts, obligations, and other liabilities of the partnership. UPA (1997) § 306(a). This is joint and several liability.  Each partner is an agent of the partnership for the purpose of its business…. The act of a partner in the ordinary course of business binds the partnership and all other partners. UPA (1997) § 301.  The partnership, and each of the partners, are liable for loss or injury caused to a person as the result of actionable wrongful conduct of a partner acting within the ordinary course of business of the partnership, or  15 PLEASE… NO PARTNERSHIP HERE [!][[?] Martin v. Peyton  Did the defendants associate together with K N & K in a partnership to carry on as co-owners a business for profit?  Were they just creditors or lenders, and whatever things they did were consistent with protecting their interests as creditors?  They had a (limited) right to share in profits.  But they had zero involvement in determining whether there would be any profits.  16 THE BOTTOM LINE…. DID THEY ASSOCIATE WITH THE FIRM SO THAT THEY AND IT TOGETHER CARRIED ON AS CO-OWNERS A BUSINESS FOR PROFIT?  They were not partners in the business. They were lenders –their “connection” and the requirements they imposed relative to the firm’s business were consistent with protecting their interest as lenders.  “There is nothing here not properly adapted to secure the interest of the respondents as lenders.” Nothing to imply an association in the business.  But they had (kind of) a right to share in profits!  17 BUT WE REALLY WANT IT TO BE A PARTNERSHIP… Southex Exhibitions v. Rhode Island Builders Association, Inc.  There was an agreement –even said “ as sponsors and partners.”  And the agreement to split show profits 55% to SEM and 45% to RIBA.  But the agreement was not in fact a “partnership” agreement.  No agreement to share in losses.  SEM was responsible for the “lion’s share” of  18 BUT THE PROFIT-SHARING AGREEMENT…  About UPA § 202(c)(3): It does not necessarily follow that evidence of profit sharing compels a finding of partnership formation.  The presumption created by profit-sharing can be overcome by competent evidence of other pertinent factors indicating the absence of intent to form a partnership (e.g., lack of mutual control over business operations, failure to file partnership tax returns, failure to prescribe loss sharing).  Determining whether a partnership is formed  19 THE BOTTOM LINE…. THERE ARE ANY NUMBER OF FACTORS THAT GO INTO THE DETERMINATION THAT PARTIES HAVE ASSOCIATED AS CO-OWNERS TO CARRY ON A BUSINESS FOR PROFIT –TO FORM A PARTNERSHIP IN THE EYES OF THE LAW.  Some profit-sharing agreement or arrangement is relevant, obviously important --there is the rebuttable presumption in UPA § 202(c)(3) --but rebuttable is the key on that.  Southex illustrates… do not lose sight of all factors: Sharing losses (or not), capital contributions, participation in management and control, and what  20 A PARTNERSHIP…. BY ESTOPPEL? Young v. Jones  The international professional services brand –today PriceWaterhouse Coopers (PwC), formerly just Price Waterhouse.  PW-Bahamas was/is a member of the Price Waterhouse branded network that operates in 157 countries.  PwC member firms –separate partnerships.  The estoppel argument.  21 HOW DOES PwC HOLD ITSELF OUT TODAY? “The PwC network is not one international partnership and PwC member firms are not otherwise legal partners with each other. Many of the member firms have legally registered names which contain “PricewaterhouseCoopers,” however there is no ownership by PwCIL [PricewaterhouseCoopers International Limited]. A member firm cannot act as agent of PwCIL or any other member firm, cannot obligate PwCIL or any other member firm, and is liable only for its own acts or omissions and not those of PwCIL or any  22 AND AS TO PwC IN THE UNITED STATES: “PwC refers to the US member firm or one of its subsidiaries or affiliates and may sometimes refer to the PwC network. Each member is a separate legal entity.”  23 FORMING A GENERAL PARTNERSHIP  Governing law: UPA (1997) §104: The law of the jurisdiction in which the partnership has its principal office.  “Official” documentation and filing? Statutory and administrative requirements?  Fictitious name clearance and registrations. “Trade names” “Service Marks” – registration and protection.  Licenses? Business qualification.   24 THE PARTNERSHIP AGREEMENT  A formal, written, partnership agreement is not required, but… [!]  Partnership agreements, as provided in UPA (1997) §105, govern (1) relations among the partners as partners and between the partners and the partnership; (2) the business and conduct of the partnership business; and (3) the manner and method of amending the agreement.  §105 also makes clear that to the extent something is not covered in the partnership agreement it  25 A QUICK NOTE ABOUT PARTNERSHIP TAXATION  A partnership has its own legal identity and is an entity distinct from its partners (UPA § 201(a)), but not for tax purposes. A partnership does not pay income taxes.  Income and losses are "passed through“ to the partners. Each partner’s respective share of partnership income or losses is reported annually on a special form called Schedule K-1.  Partners simply include their share of any partnership income or losses on their individual income tax returns and pay tax based on their  26 BEING IN A PARTNERSHIP THE FIDUCIARY OBLIGATIONS OF PARTNERS  Partners owe fiduciary duties –to the partnership and to each other.  Under UPA § 409 (“Standards of Conduct for Partners”) partners owe duties of care, loyalty, and the contractual obligation of good faith and fair dealing.  The duty of care (UPA § 409(c)): To refrain from engaging in grossly negligent or reckless conduct, willful or intentional misconduct, or a knowing violation of law.   27 THE DUTY OF LOYALTY UPA § 409(b)  To account to the partnership for any property, profit or benefit derived by the partner in the conduct of the partnership business; or from use of the partnership property; or from appropriation of a partnership opportunity.  Not competing with the partnership in the conduct of the partnership business.  Not dealing with the partnership in the conduct of the partnership business as or on behalf of a person having an adverse interest to the partnership.  28 STATED IN PERHAPS THE MOST CITED PARTNERSHIP CASE EVER “The duty of finest loyalty.” “Not honesty alone, but the punctilio of an honor the most sensitive…” Meinhard v. Salmon 295 N.Y. 458, 164 N.E. 545 (1928)  First, it was a Joint Venture (?), not actually a partnership case.  A joint venture –a form of business association-- call it a partnership for a specific project. Essentially a  29 WHAT’S HAPPENING IN MEINHARD….  The Joint Venture: Salmon and Meinhard entered into an agreement for renovation of the Bristol Hotel property, on which Salmon held a 20 year lease (from owner Gerry). Meinhard put up 50% of the money needed for renovation and operation of the hotel which Salmon had sole power to manage, sublease, and operate during the 20 year term of the lease, and at the end of which the property would revert back to owner.  Salmon to pay Meinhard 40% of net profits for the  30 WHEN….  Owner (Gerry) comes back into the picture with a plan to develop properties he also owned next door and in the same neighborhood as the Bristol Hotel.  Around four months before the lease with Salmon was to expire Gerry proposes a new deal –a new lease– to Salmon, to join him in development of these properties (which would include demolition of the Bristol). Salmon agrees and signs (using a company he owned – “Midpoint Realty” --a new lease with Gerry on all the properties and which would require a major cash outlay by Salmon.  Meinhard in this picture? Was never told of the new  31 OUCH….  This was a very big deal for Salmon and Salmon had not told Meinhard anything about it. “Whatever his motive may have been, he had kept the negotiations to himself. Meinhard was not even informed of the bare existence of the project.” Salmon took it for himself (!)  Justice Cardozo would have none of it: “Joint venturers, like copartner, owe one another, while the enterprise continues, the duty of finest loyalty. Many forms of conduct permissible in a workaday world for those acting at arm’s length, are forbidden to those  32 SO (SAYS JUSTICE CARDOZO) SALMON WAS A SCOUNDREL…. BUT SOME GREAT QUESTIONS  Think in today’s terms on UPA § 409: Did Salmon violate any of the Standards of Care for Partners? Did he actually violate the duty of loyalty?  Did Salmon appropriate for himself a “partnership opportunity”?  What makes a “partnership opportunity”?  What was Justice Cardozo’s basis for concluding the new development represented a partnership opportunity?  33 IN MORE MODERN TIMES… ANOTHER JOINT VENTURE SETTING Sandvick v. LaCrosse  No agreement, and no clear determination that there actually was a JV or partnership relationship, but Court of Appeals did not disagree that there was a joint venture.  So… a joint venture opportunity?  LaCrosse and Haughton bought the “top leases” six months before expiration of the Horn Leases and didn’t tell Bragg and Sandvick.  So what?  34 A SUBTLE POINT IN THE SANDVICK DISSENT  “North Dakota law [the UPA 1997] allows partners (and therefore joint venturers) to limit the scope of their duty of loyalty to the remaining partners [UPA (1997) § 105(d)].  “This means that, under North Dakota law, the parties could have limited their duty their duty of loyalty” (!)  They did not do it in Sandvick –there was no joint venture or partnership agreement– there was no  35 SUPPOSE… THIS PROVISION IN YOUR PARTNERSHIP AGREEMENT “Partners may compete. Partners shall not in any way be prohibited from or restricted in engaging or owning an interest in any other business venture of any nature, including any venture which might be competitive with the business of the  36 UPA (1997) § 105(d) AND THE DUTY OF LOYALTY  UPA § 105 and the Partnership Agreement scope, function, and limitations generally –what the partnership agreement can and cannot do.  UPA § 105(c): “A partnership agreement may not…(5) alter or eliminate the duty of loyalty or the duty of care, except as otherwise provided in subsection (d) (Emphasis added).  UPA § 105(d)(3): “If not manifestly unreasonable, the partnership agreement may….”among other things,  37 AND INDEED… THE PARTNERSHIP AGREEMENT MAY:  UPA § 105(d)(3)(D): “[A]lter or eliminate any other fiduciary duty.”  If not “manifestly unreasonable” (?) – UPA § 105(e): “The court shall decide as a matter of law whether the term of a partnership agreement is manifestly unreasonable….”  How so?  Consider the circumstances that existed at the time the challenged term became part of the partnership agreement, and invalidate it only if in light of the  38 ABOUT ELIMINATING THE DUTY OF CARE…. NOT SO FAST  UPA (1997) § 105(c)(5) says the agreement can eliminate the duty of care, except as provided in 105(d).  UPA (1997) § 105(d)(3) says the agreement may alter the duty of care, but may not authorize conduct involving bad faith, willful or intentional misconduct, or knowing violation of law.  39 REMEMBER “GRABBING AND LEAVING” IN AGENCY  Restatement (Third) Agency § 8.04 (Competition): “[D]uring that time, an agent may take action, not otherwise wrongful, to prepare for competition following termination of the agency relationship.” AND IN PARTNERSHIPS…  UPA § 409(e): “A partner does not violate a duty or obligation under this [act] or under the partnership agreement solely because the partner’s conduct furthers the partner’s own interest.”  “Fiduciaries may plan to compete with the entity to  40 NOTE HOW THE LITIGATION SETS UP IN MEEHAN  Plaintiffs are the partners who left to start their own firm and who are suing their former partners at the firm they left.  Plaintiffs suing for money they claim to be owed by their former partners under the partnership agreement and for a declaratory judgment on what the plaintiffs owe to their former partners.  What matters for us is the defendant former partners’ counterclaims against the plaintiffs for alleged violations of fiduciary duties, breach of the partnership agreement, and other alleged misconduct.  41 BACK TO THE BASELINE POINT…. “Fiduciaries may plan to compete with the entity to which they owe allegiance, provided that in the course of such arrangements they [do] not otherwise act in violation of their fiduciary duties.”  Court concludes that Meehan and Boyle did act in violation of their fiduciary duties.  How so? Secretly setting up a new firm while they were still at the old firm? Not a problem –  42 HOW ABOUT….  Acquiring consents from clients to remove cases? “Through their preparation for obtaining clients’ consents, their secrecy concerning which clients they intended to take, and the substance and methods of their communications with clients, obtained an unfair advantage over their former partners….” (emphasis added).  Or: “On three separate occasions, Meehan affirmatively denied to his partners, on their demand, that he had any plans for leaving the partnership. During this period of secrecy, Meehan and Boyle made preparations for obtaining removal authorizations  43 AND MORE….  They violated ethical standards with the content of letters they sent to clients that were unfairly prejudicial to Parker Coulter.  What is the critical consideration?  The withdrawing partner, while in possession of information that the firm lacks –namely the fact of the impending departure– may not take unfair advantage of that information.  Where a partner surreptitiously approaches firm clients to obtain assurances that the clients will go with them if they form the new firm.  44 HERE’S THE THING(S)….  Secretly soliciting clients.  Removing client files.  All prior to resignation. And lying ahead of it.  Actions that are not mere planning to leave and complete in the future, but rather present acts of direct competition with those to whom the departing partner still owed a duty of loyalty.  The essence of the duty of loyalty in all situations?  Reflections on the real world and “equity” and fairness in the eyes of courts who will define the duty  45 WHEN IT COMES TO A POINT…. PARTNER EXPULSION Lawlis v. Kightlinger & Grey  Key consideration: The Partnership Agreement.  The provision for involuntary expulsion of a partner.  Lawlis expelled by a vote of the partners, all as provided in the partnership agreement.  But applying Indiana Partnership Law –expulsion must be bona fide, or in good faith. Lawlis claimed  46 THE CENTRAL POINT HERE-- AND GENERALLY– IS THE PARTNERSHIP AGREEMENT  “All the parties… were legally competent and consenting adults well educated in the law who initially dealt at arms’ length while negotiating the partnership agreements here involved.”  “Where the remaining partners in a firm deem it necessary to expel a partner under a no cause expulsion clause in a partnership agreement freely negotiated and entered into, the expelling partners act in ‘good faith’ regardless of motivation if that act does not cause a wrongful withholding of money or