Partnership at will: A double whammy for Nut and Bolt
This is the fifth of a series of short articles covering various aspects of disputes between partners. Read articles one, two, three and four.
Recap: Nut, Bolt and Spanner* have been trading for a few years reasonably successfully. They have £120,000 tied- up in the business and split profits equally. They have a five year loan agreement which has two years to run. In the last two years turnover has dropped. Nut and Bolt have realised that when a customer calls Spanner says, “Bring it round to my place on Sunday and I’ll charge you £150 cash”. Spanner takes spare parts from the workshop, fits them at “his place” and pockets the proceeds. Nut and Bolt believe he’s cost them £60,000 over two years. They want him out of the partnership and compensation. They have no partnership agreement.
The last article detailed the surprising rules in The Partnership Act 1890, one of which says no majority can expel a partner.
So, if you cannot expel a partner, what can you do?
The Act says that where no fixed term has been agreed, any partner may “determine the partnership” at any time on giving notice.
What is meant by “no fixed term”? It’s fairly unusual for three mates to agree a definite term. When the firm starts, they just want to work together. No one asks, “When are we going to stop working together?” There might be a reason to do so, such as, “I want to retire in five years, but we will work together until then”. This would be a fixed term. Sometimes they agree to work together on one definite project, such as building houses on one site; the partnership will end when the project ends so that is a fixed term.
In our case, Nut, Bolt and Spanner agreed that with a loan over five years they would carry on for at least that long. They therefore have a fixed term, so the problem below will not apply to them.
However many partnerships have agreed no such term. Even if they did, if things work well, why not just carry on? It’s what Nut, Bolt and Spanner would have done and the rest of this article imagines what would happen in this case. This means they would have a “partnership at will” which is very fragile.
A written partnership agreement will spell out how long the partnership lasts, or more often will say that a partner can retire if giving minimum notice, or that a partner can be expelled, without causing the partnership to end.
Why is this so important?
Where there is a partnership at will the Act contains a double whammy for Nut and Bolt. No majority can expel a partner (Spanner for his gross misconduct), but any one partner (Spanner, with a cry of “I’ll take you all down with me”), can give notice to the others to immediately “determine the partnership”.
This means that the business must immediately stop trading and sell all of its assets. Any money should be used to pay off all the firm’s debts and anything left over should be split equally between the partners. If there is not enough, then the partners contribute equally to the shortfall. Nut and Bolt don’t want this, but if Spanner is really desperate then he could serve that notice.
This could be disastrous. If you want to close a business then it’s best to take your time, perhaps find a buyer for the business as a whole, get a good price for all of the assets while the business is still trading, wind down the work so that you finish-off all of your jobs and can collect-in as much as possible. A sudden closure with a fire sale of the assets and leaving lots of unhappy customers with half-finished jobs is a recipe for huge losses all round.
The Partnership Act gives a right for any partner to do this, regardless of conduct beforehand. Spanner can do it. What’s more, he can do it at any time, even at the worst possible moment for everyone else. He is not responsible for any losses resulting from this sudden bombshell. That’s effectively what the Act says.
In reality, few people want to use this weapon. Spanner, the partner serving notice, is likely to suffer every bit as much as the others. However, he might give notice if he feels he has nothing left to lose.
Spanner will also fear that the others will simply ignore him. “You’ve chosen to go. We’re carrying on without you. What are you going to do about it?” He could be left with no income and most of his capital tied-up in the business beyond his reach. In theory he can go to court to force the dissolution, but does he have the funds to do this?
The courts have found a way around the Act. If Spanner does serve notice, the remaining partners can ask the court for an order that they be allowed to carry on working together as long as they buy-out Spanner’s interest. This is discretionary and a judge will weigh up all of the facts, but in our case it is likely that they would succeed. Would they have to pay Spanner for his interest in the business? It will certainly be taken into account. Nut and Bolt will point to the losses that Spanner’s conduct has caused, £60,000 they say, and ask for that to be knocked off anything that Spanner is owed by them. On these facts Spanner would end by owing money to Nut and Bolt.
At the end of the day, the Act gives partners a right that most do not want to use. It’s the same principal as the belief that nuclear weapons are effective because mutually assured destruction means that they will never be used…or so we hope. Despite this courts have found a way to do justice.
All this applies to partnerships at will. In our case there is a fixed term, so no one can give notice to end now because the partnership will go on for at least three years. What happens then? Read my next article to find out!
Call the business disputes team on 01752 203500 or email via Stephen.allen@GAsolicitors.com.
* Please note, this is a fictional business for illustrative purposes only
Stephen Allen, partner