This Document Contains Chapters 31 to 32 Chapter 31 OPERATION AND DISSOLUTION OF GENERAL PARTNERSHIPS Relationship of Partnership and Partners with Third Parties Contracts of Partnership [31-1] Authority to Bind Partnership [31-1a] Actual Express Authority Actual Implied Authority Apparent Authority Partnership by Estoppel [31-1b] Torts and Crimes of Partnership [31-2] Notice to a Partner [31-3] Liability of Incoming Partner [31-4] Dissociation & Dissolution of General Partnership under RUPA Dissociation [31-5] Wrongful Dissociations [31-5a] Rightful Dissociations [31-5b] Effects of Dissociation [31-5c] Dissolution [31-6] Causes of Dissolution [31-6a] Dissolution by Act of the Partners Dissolution by Operation of Law Dissolution by Court Order Effects of Dissolution [31-6b] Authority Liability Winding Up [31-6c] Participation in Winding Up Distribution of Assets Marshaling of Assets Dissociation Without Dissolution [31-7] Dissociations Not Causing Dissolution [31-7a] Continuation After Dissociation [31-7b] Dissociated Partner’s Power to Bind the Partnership [31-7c] Dissociated Partner’s Liability to Third Persons [31-7d] Dissolution of General Partnerships Under the UPA Dissolution [31-8] Causes of Dissolution [31-8a] Effects of Dissolution [31-8b] Winding Up [31-9] Distribution of Assets [31-9a] Marshaling of Assets [31-9b] Continuation After Dissolution [31-10] Right to Continue Partnership [31-10a] Rights of Creditors [31-10b] Cases in This Chapter RNR Investments Limited Partnership v. Peoples First Community Bank Conklin Farm v. Leibowitz Robertson v. Jacobs Cattle Co. Warnick v. Warnick Chapter Outcomes After reading and studying this chapter, the student should be able to: • Explain the contract liability of a partnership and the partners. • Explain the tort liability of a partnership and the partners. • Distinguish between the liability of incoming partner for debts arising before his admission and those arising after admission. • Identify the causes of dissolution of a partnership and the conditions under which partners have the right to continue the partnership after dissociation. • Explain the effect of dissolution on the authority and liability of the partners and the order in which the assets of a partnership are distributed to creditors and partners. TEACHING NOTES This outline of the chapter will discuss both UPA and RUPA, with a side-by-side comparison when appropriate. Note that the chapter in the text discusses the RUPA but, where the RUPA has made significant changes, the UPA is also discussed. The chapter summary in the text reflects only the RUPA. RELATIONSHIP OF PARTNERSHIP AND PARTNERS WITH THIRD PARTIES In the course of transacting business, the partnership and the partners also may acquire rights over and incur duties to third parties. Because much of the law of partnership is the law of agency, most problems arising between partners and third persons require the application of principles of agency law. When a partnership becomes liable to a third party, each partner has unlimited personal liability for that partnership obligation. UPA RUPA The UPA makes this relationship explicit by stating that “[t]he law of agency shall apply under this act” and that “[e]very partner is an agent of the partnership for the purpose of its business.” The RUPA states that “[e]ach partner is an agent of the partnership for the purpose of its business.” In addition, the RUPA provides that unless displaced by particular provisions of the RUPA, the principles of law and equity supplement the RUPA. *** Chapter Outcome *** Explain the contract liability of a partnership and the partners. 31-1 CONTRACTS OF PARTNERSHIP If the partnership is bound on a transaction, then each general partner has unlimited personal liability for that partnership obligation unless the partnership is an LLP and the LLP statute shields contract obligations. UPA RUPA The UPA provides that partners are jointly liable on all debts and contract obligations of the partnership. Under joint liability, a creditor must bring suit against all of the partners as a group, and the judgment must be against all of the obligors. Therefore, any suit in contract against the partners must name all of them as defendants. Under the RUPA the partners are jointly and severally liable for all contract obligations of the partnership, which means that all of the partners may be sued jointly in one action or that separate actions, leading to separate judgments, may be maintained against each of them. Judgments obtained are enforceable, however, only against property of the defendant or defendants named in the suit; and payment of any one of the judgments satisfies all of them. The Revised Act, in keeping with its entity treatment of partnerships, requires the judgment creditor to exhaust the partnership’s assets before enforcing a judgment against the separate assets of a partner. NOTE: See Figure 31-1. 31-1a Authority to Bind Partnership A partner may bind the partnership by her act if she has actual authority — express or implied — or if she has apparent authority to perform the act. Where there is neither actual authority nor apparent authority, the partnership is bound only if it ratifies the act. UPA RUPA The UPA provides that the following acts do not bind the partnership unless authorized by all of the partners: 1. assignment of partnership property for the benefit of its creditors; 2. disposal of the goodwill of the business; 3. any act which would make it impossible to carry on the ordinary business of the partnership; 4. confession of a judgment; or 5. submission of a partnership claim or liability to arbitration or reference. The Revised Act omits the UPA’s list of extraordinary acts that require unanimous consent, leaving it to the courts to decide the outer limits of a partner’s agency power. The Revised Act also authorizes the optional, central filing of a statement of partnership authority specifying the names of the partners authorized to execute instruments transferring real property held in the name of the partnership. A statement may also limit the authority of a partner or partners to transfer real property. Actual Express Authority — A partner’s actual express authority may be specifically set forth in the partnership agreement or in an additional oral or written agreement between the partners. In addition, actual express authority may arise from the partners’ majority decisions regarding ordinary matters connected with partnership business. A partner who does not have actual authority from all partners may not bind the partnership by any act that does not apparently relate to the usual conduct of the partnership business. Actual Implied Authority — A partner’s actual implied authority is neither expressly granted or denied but is reasonably deduced from the nature of the partnership, terms of the partnership agreement, or the relations of the partners — i.e., hiring and firing employees whose services are necessary to the partnership business. Apparent Authority — A partner’s apparent authority (may or may not be actual) is authority that a third person, from the partners’ conduct, would reasonably assume to exist. But a third person may not rely on apparent authority where he is put on notice or already knows that the partner does not have actual authority. UPA RUPA Each partner is an agent of the partnership for the purpose of its business. An act of a partner, including the execution 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 partnership, unless the partner had no authority to act for the partnership in the particular matter and the person with whom the partner was dealing knew or had received a notification that the partner lacked authority. CASE RNR Investments Limited Partnership v. Peoples First Community Bank Court of Appeal of Florida, First District, 2002 812 So.2d 561 FACTS RNR Investments is a Florida limited partnership formed to purchase land in Destin, Florida, and to construct a house on the land for resale. Bernard Roeger was RNR's general partner and Heinz Rapp, Claus North, and S.E. Waltz, Inc., were limited partners. The limited partnership agreement provided for various restrictions on the authority of the general partner: (1) it required the general partner to prepare a budget covering the cost of acquisition and construction of the project (Approved Budget); (2) it restricted the general partner's ability to borrow or spend partnership funds if not specifically provided for in the Approved Budget; and (3) it restricted the general partner's ability to exceed any line item in the Approved Budget by more than 10 percent or the total budget by more than 5 percent. In June 1998, RNR, through its general partner, entered into a construction loan agreement, note, and mortgage in the principal amount of $990,000. From June 25, 1998, through March 13, 2000, the Bank disbursed the aggregate sum of $952,699. All draws were approved by an architect, who certified that the work had progressed as indicated and that the quality of the work was in accordance with the construction contract. RNR defaulted under the terms of the note and mortgage in July 2000 and continued to not make payments after that date. The Bank sought to foreclose. RNR defended by alleging that the Bank had negligently failed to review the limitations on the general partner's authority and that the general partner did not have the authority to execute notes, a mortgage, and a construction loan agreement. Stephen E. Waltz alleged that the limited partners understood and orally agreed that the general partner would seek financing in the approximate amount of $650,000. RNR also asserted that a copy of the limited partnership agreement was maintained at its offices. However, the record contains no copy of an Approved Budget of the partnership or any evidence that would show that a copy of RNR's partnership agreement or any partnership budget was given to the Bank or that any notice of the general partner's restricted authority was provided to the Bank. The trial court entered a summary judgment of foreclosure in favor of the Bank. RNR appealed. DECISION Summary judgment is affirmed. OPINION Van Nortwick, J. Although the agency concept of apparent authority was applied to partnerships under the common law, [citation], in Florida the extent to which the partnership is bound by the acts of a partner acting within the apparent authority is now governed by statute. Section 301(1), [citation], a part of the Florida Revised Uniform Partnership Act (FRUPA), provides: Each partner is an agent of the partnership for the purpose of its business. An act of a partner, including the execution of an instrument in the partnership name, for apparently carrying on in the ordinary scope of partnership business or business of the kind carried on by the partnership, in the geographic area in which the partnership operates, binds the partnership unless the partner had no authority to act for the partnership in the particular manner and the person with whom the partner was dealing knew or had received notification that the partner lacked authority. [Court’s footnote: RNR mistakenly argues that section 301(1) has no application to a limited partnership because that section is part of the Florida Revised Uniform Partnership Act, not the Florida Revised Uniform Limited Partnership Act [FRUPA]. Section 620.186 (comparable to Revised Uniform Limited Partnership Act Section 1105), however, provides, as follows: “In any case not provided for in this act, the provisions of the Uniform Partnership Act or the Revised Uniform Partnership Act of 1995, as applicable, and the rules of law and equity shall govern.”] Thus, even if a general partner’s actual authority is restricted by the terms of the partnership agreement, the general partner possesses the apparent authority to bind the partnership in the ordinary course of partnership business or in the business of the kind carried on by the partnership, unless the third party “knew or had received a notification that the partner lacked authority.” [Citation.] “Knowledge” and “notice” under FRUPA are defined [as] *** “[a] person knows a fact if the person has actual knowledge of the fact.” [Citation.] Further, a third party has notice of a fact if that party “(a) knows of the fact; (b) has received notification of the fact; or (c) has reason to know the fact exists from all other facts known to the person at the time in question.” [Citation.]. Finally, under [FRUPA] *** a partnership may file a statement of partnership authority setting forth any restrictions in a general partner’s authority. *** “Absent actual knowledge, third parties have no duty to inspect the partnership agreement or inquire otherwise to ascertain the extent of a partner’s actual authority in the ordinary course of business … even if they have some reason to question it.” [Citation.] The apparent authority provisions *** reflect a policy by the drafters that “the risk of loss from partner misconduct more appropriately belongs on the partnership than on third parties who do not knowingly participate in or take advantage of the misconduct …” [Citation.] *** [T]he determination of whether a partner is acting with authority to bind the partnership involves a two-step analysis. The first step is to determine whether the partner purporting to bind the partnership apparently is carrying on the partnership business in the usual way or a business of the kind carried on by the partnership. An affirmative answer on this step ends the inquiry, unless it is shown that the person with whom the partner is dealing actually knew or had received a notification that the partner lacked authority. [Citation.] Here, it is undisputed that, in entering into the loan, the general partner was carrying on the business of RNR in the usual way. The dispositive question in this appeal is whether there are issues of material fact as to whether the Bank had actual knowledge or notice of restrictions on the general partner’s authority. RNR argues that, as a result of the restrictions on the general partner’s authority in the partnership agreement, the Bank had constructive knowledge of the restrictions and was obligated to inquire as to the general partner’s specific authority to bind RNR in the construction loan. We cannot agree. *** [T]he Bank could rely on the general partner’s apparent authority, unless it had actual knowledge or notice of restrictions on that authority. While the RNR partners may have agreed upon restrictions that would limit the general partner to borrowing no more than $650,000 on behalf of the partnership, RNR does not contend and nothing before us would show that the Bank had actual knowledge or notice of any restrictions on the general partner’s authority. Here, the partnership could have protected itself by filing a statement *** or by providing notice to the Bank of the specific restrictions on the authority of the general partner. INTERPRETATION A general partner has the apparent authority to bind the partnership in the ordinary course of partnership business or in the business of the kind carried on by the partnership, unless the third party knew or had received a notification that the partner lacked authority. CRITICAL THINKING QUESTION Do you agree with the RUPA's policy that “the risk of loss from partner misconduct more appropriately belongs on the partnership than on third parties who do not knowingly participate in or take advantage of the misconduct”? Explain. 31-1b Partnership by Estoppel Partnership by estoppel imposes partnership duties and liabilities on a nonpartner who has represented himself or has consented to be represented as a partner. It extends to a third person to whom such a representation is made and who justifiably relies upon the representation. *** Chapter Outcome *** Explain the tort liability of the partnership and the partners. 31-2 TORTS AND CRIMES OF PARTNERSHIP Both the UPA and the RUPA provide that a partnership is liable for the loss or injury that a partner causes through any wrongful act or omission while acting within the ordinary course of the partnership business or with the authority of the partnership. A partnership is also liable if a partner in the course of the partnership’s business or while acting with authority of the partnership breaches a trust by receiving money or property of a person not a partner, and the partner misapplies the money or property. If the partnership is liable, each partner has unlimited personal liability for the partnership obligation unless the partnership is an LLP. The liability of partners for a tort or breach of trust committed by any partner or by an employee of the firm in the course of partnership business is joint and several. Even a partner innocent of any wrongdoing is liable for the misdeeds of his partners. The liability of the partnership for partners’ torts is comparable to the vicarious liability imposed on a principal for torts of an employee (respondeat superior). The partner committing the tort is directly liable to the third party and must also indemnify the partnership for any damages it pays to the third party. Tort liability of the partnership may include not only a partner’s negligence but also the intentional torts of trespass, fraud, defamation, and breach of fiduciary duty, so long as the tort is committed in the course of partnership business. The fact that a tort is intentional does not necessarily remove it from the course of business, although intent is a factor to be considered. UPA RUPA The Revised Act makes the partnership liable for no-fault torts by the addition of the phrase, “or other actionable conduct.” A partner is not criminally liable for the crimes of her partners unless she authorized them or participated in them. NOTE: See Figure 31-2. 31-3 NOTICE TO A PARTNER Admissions or representations made by a partner regarding firm affairs may be used as evidence against the firm if they were made within the scope of authority. Notice given to a partner concerning partnership business is imputed to the partnership. UPA RUPA A partnership is bound (1) by notice to any partner of any matter relating to partnership affairs; (2) by the knowledge of a partner acting in a particular matter, if he possessed or acquired such knowledge while he was a partner; and (3) by the knowledge of any other partner who reasonably could and should have communicated it to the acting partner. Section 12. Notice of a fact occurs when a person states or delivers a written statement of the fact to the partner. Section 3(2). A partner’s knowledge, notice, or receipt of a notification of a fact relating to the partnership is effective immediately as knowledge by, notice to, or receipt of a notification by the partnership, except in the case of a fraud on the partnership committed by or with the consent of that partner. A person has notice of a fact if the person (1) knows of it, (2) has received a notification of it, or (3) has reason to know it exists from all of the facts known to the person at the time in question. *** Chapter Outcome *** Distinguish between the liability of an incoming partner for debts arising before his or her admission and those arising after admission. 31-4 LIABILITY OF INCOMING PARTNER A person admitted as a partner into an existing partnership is not personally liable for any partnership obligations incurred before the person’s admission as a partner. This means that an incoming partner’s liability for preexisting debts and obligations is limited to her capital contribution. Obviously, though, this restriction does not apply to obligations that arise after her admission into the partnership; then, her liability, like that of the other partners, is unlimited. In an LLP, an incoming partner does not have personal liability for either antecedent or those subsequent debts if they are shielded by that state’s LLP statute. CASE Conklin Farm v. Leibowitz Supreme Court of New Jersey, 1995 140 N.J. 417, 658 A.2d 1257 FACTS In December 1986, Paula Hertzberg, Elliot Leibowitz, and Joel Leibowitz formed a general partnership, LongView Estates (LongView), to acquire from plaintiff Conklin Farm (Conklin) approximately one hundred acres of land in the Township of Montville, New Jersey. Paula Hertzberg owned 40 percent of LongView; Elliot and Joel Leibowitz owned 30 percent each. They intended to build a residential condominium complex on the property. On the same day that the partners formed the partnership, it executed a promissory note in favor of Conklin for $9 million. The three LongView partners signed the note as partners and also personally guaranteed the note. The note represented a portion of the purchase price for the land and was secured by a mortgage on the land. On March 15, 1990, Joel Leibowitz assigned his 30 percent interest in LongView to his wife, defendant Doris Leibowitz, who agreed to be bound by all the terms and conditions of the partnership agreement. Seventeen months later, Doris assigned the interest back to her husband. During those seventeen months, the entire principal of the Conklin note of $9 million was outstanding, and interest accrued at an annual rate of nine percent. LongView's condominium project failed, and LongView defaulted on the Conklin note. In March 1991, LongView filed a petition for bankruptcy. Eventually, Paula Hertzberg, Elliot Leibowitz, and Joel Leibowitz filed for personal bankruptcy protection, and all three were discharged of any personal liability on the Conklin note. Conklin sued Doris Leibowitz in November 1991, claiming that she was personally liable for $547,000: 30 percent of the interest on the Conklin note that accrued during the seventeen months during which she had held her husband's partnership interest, plus interest since then and costs. Conklin asserted that, although the principal of the note was preexisting debt, the interest that accrued while Doris Leibowitz had been a partner was new debt. Doris Leibowitz filed a motion for summary judgment arguing that as an incoming partner she was not personally liable for LongView's preexisting debt, including interest. The trial court found in favor of Doris Leibowitz holding that the interest was part of the preexisting debt, not new debt. Conklin appealed and the Appellate Division reversed, ruling that the interest on preexisting debt is new debt. Doris Leibowitz appealed. DECISION The judgment of the Appellate Division is reversed. OPINION Garibaldi, J. We find that the plain language of section 17 of New Jersey’s Uniform Partnership Law and its legislative history compel the conclusion that Doris Leibowitz, as an incoming partner, is liable for debt to Conklin only to the extent of her interest in partnership assets. Under [section 15(b) of New Jersey’s Uniform Partnership Law] each partner is personally liable for the debts and obligations of a partnership. [Section 17 of New Jersey’s Uniform Partnership Law] defines the liability of new partners entering an existing partnership. That statute provides: A person admitted as a partner into an existing partnership is liable for all the obligations of the partnership arising before his admission as though he had been a partner when such obligations were incurred, except that this liability shall be satisfied only out of partnership property. Under this statute, although the original partners are personally liable for preexisting debt, the incoming partner’s liability for preexisting debt is limited to partnership property. *** Thus, section 17 of the Uniform Partnership *** made incoming partners personally liable for preexisting debts, but only to the extent of their investment in the partnership. *** *** The Conklin note was executed by the partnership prior to Doris Leibowitz’s having any interest in LongView. She did not sign or guarantee payment of that note. Thus, the issue appears resolved by the clear language of [section 17]: Because the note was a preexisting debt, and because Doris Leibowitz was an incoming partner, she is not personally liable for the debt. The parties agree that the principal of the note was preexisting debt. However, while Doris Leibowitz argues that the interest that accrued while she was a partner was part of that preexisting debt, Conklin argues that it was new debt that arose each month as it became due. Thus, according to Conklin, Doris Leibowitz is personally liable for the interest that accrued while she was a partner. We disagree. *** Conklin argues that just as a rent obligation arises for current use of property, an interest obligation arises for current use of principal. The Appellate Division described the analogy as a “sound approach,” and agreed that “interest is current rent for money and also should be treated as new debt.” [Citation.] We disagree, and we find the rent analogy faulty. Contractual interest is created by the contract, and is therefore inseparable from the contractual debt. In [citation], we described contractual interest as “an integral part of the debt itself.” Indeed, contractual interest does not exist absent provision for it in the debt creating instrument. *** The interest obligation cannot be a separate debt from the principal obligation because, independent of the contract establishing the principal obligation, there is no obligation to pay interest. *** Because there is no obligation to pay interest independent of the promissory note, Conklin’s rent analogy fails. Since the obligation to pay interest arises only as a result of the original loan instrument, interest, unlike rent, cannot be “new” debt. *** *** Moreover, there is no prejudice to Conklin in the fact that it may look to only the original partners for payment of the preexisting debt and interest. In executing the note, Conklin considered the personal credit of only Paula Hertzberg, Elliot Leibowitz, and Joel Leibowitz, all of whom guaranteed the loan. Conklin did not rely on the personal credit of Doris Leibowitz. When lenders loan money, they rely on the financial statements of the general partners, and not of some future, unknown general partner. We find that contractual interest is not new debt *** and Doris Leibowitz is not personally liable for its payment. INTERPRETATION A new partner is not personally liable for preexisting debt including interest on a preexisting note even though the interest accrues after the partner's admission. CRITICAL THINKING QUESTION Do you agree with the court's decision? Explain. DISSOCIATION AND DISSOLUTION OF GENERAL PARTNERSHIPS UNDER RUPA AND DISSOLUTION OF GENERAL PARTNERSHIPS UNDER UPA *** Chapter Outcome *** Identify the causes of dissolution of a partnership and the conditions under which partners have the right to continue the partnership after dissociation. Explain the effect of dissolution upon the authority and liability of the partners and the order in which the assets of the partnership are distributed to creditors and partners. One of the major differences between the RUPA and the UPA is their respective treatments of dissociation and dissolution. RUPA UPA Uses the term “dissociation to denote the change in the relationship caused by a partner’s ceasing to be associated in carrying on of the business. Uses the term “dissolution” to refer to those situations when the partnership is required to wind up and terminate. A dissociation of a partner results in dissolution only in limited circumstances. Uses the term “dissolution” to denote the change in the relationship caused by a partner’s ceasing to be associated in carrying on of the business. The withdrawal (dissociation) of a partner causes the dissolution of the partnership NOTE: This section of the instructor’s manual gives a side-by-side comparison of the two sections in the student’s text. Use the heading numbers to find these sections in the student’s textbook. Dissociation and Dissolution of General Partnerships Under RUPA Dissolution of General Partnerships Under UPA 31-5 DISSOCIATION Dissociation occurs when a partner ceases to be associated in carrying on of the business. A partner has the power to dissociate at any time, but may not always have the right to dissociate. A partner who wrongfully dissociates is liable to the partnership for damages. If the wrongful dissociation results in dissolution of the partnership, the wrongfully dissociating partner may not participate in winding up the business. 31-5a Wrongful Dissociations A partner’s dissociation is wrongful if it breaches the partnership agreement. In addition, dissociation is wrongful in a term partnership if before the expiration of the term or the completion of the undertaking the partner: (1) voluntarily withdraws by express will unless the withdrawal follows within 90 days after another partner’s dissociation by death, bankruptcy, or wrongful dissociation; (2) is expelled for misconduct by judicial determination; (3) becomes a debtor in bankruptcy; or (4) is an entity (other than a trust or estate) and is expelled or dissociated because its dissolution or termination was willful. 31-5b Rightful Dissociations All other dissociations are rightful including: (1) the death of partner in any partnership, (2) the withdrawal of a partner in a partnership at will, (3) in any partnership an event occurs that was agreed to in the partnership agreement as causing dissociation, and (4) in any partnership a court determines that a partner has become incapable of performing the partner’s duties under the partnership agreement. 31-5c Effect of Dissociation Upon a partner’s dissociation the partner’s right to participate in the management and conduct of the business terminates. If, however, the dissociation results in a dissolution, all of the partners who have not wrongfully dissociated may participate in winding up the business. The duty not to compete terminates upon dissociation. The partner’s other fiduciary duties and duty of care continue only with regard to matters arising and events occurring before the partner’s dissociation, unless the partner participates in winding up the partnership’s business. DISSOLUTION Only a limited subset of dissociations requires the dissolution of a partnership. Some other events, however, can bring about the dissolution of a partnership under RUPA. 31-6a Causes of Dissolution Dissolution by Act of the Partners —In a partnership at will, a partner’s giving notice of intent to withdraw will cause dissolution. (Death or bankruptcy of a partner does not dissolve a partnership at will.) A term partnership will be dissolved when: The term of the partnership expires or the undertaking is complete. All of the partners expressly agree to dissolve. A partner’s dissociation caused by death or incapacity, bankruptcy or similar financial impairment, or wrongful dissociation will bring on a dissolution if within 90 days after dissociation at least half of the remaining partners express their will to wind up the partnership business. In all cases, dissolution occurs with an event that was specified in the partnership agreement as resulting in dissolution. Dissolution by Operation of Law —A partnership is dissolved by operation of law if an event occurs that makes it unlawful to continue all or substantially all of the partnership’s business. Dissolution by Court Order —A court may order dissolution on grounds of a partner’s misconduct or upon a finding that (1) the economic purpose of the partnership is likely to be unreasonably frustrated; (2) a partner has engaged in conduct that makes it not reasonably practicable to carry on the business with that partner; or (3) it is not otherwise reasonably practicable to carry on the partnership business in conformity with the partnership agreement. On application of a transferee of a partner’s transferable interest or a purchaser at foreclosure of a charging order, a court may order dissolution if it determines it is equitable to wind up partnership business (1) at any time in a partnership at will or (2) after the term of a term partnership has expired. 31-6b Effects of Dissolution A partnership continues after dissolution only for the purpose of winding up its business. The remaining partners may continue the business after dissolution if all of the partners, including any rightfully dissociating partners, waive the right to have the business wound up. In that event the partnership resumes carrying on its business as if dissolution had not occurred. Authority — Upon dissolution, the actual authority of a partner to act for the partnership terminates, except so far as is appropriate to wind up partnership business. With respect to apparent authority, the partnership is bound only if a partner's act would have bound the partnership before dissolution and the other party did not have notice of the dissolution. Liability — Partners are liable for their share of partnership liabilities incurred after dissolution. A partner, who, with knowledge of the dissolution nevertheless incurs a liability that is not appropriate for winding up the partnership business, is liable to the partnership for any damage caused. 31-6c Winding Up Whenever a dissolved partnership is not to be continued, the partnership must be liquidated. The process, called winding up, involves completing unfinished business, collecting debts, taking inventory, reducing assets to cash, auditing the partnership books, paying creditors, and distributing the remaining assets to the partners. Participation in Winding Up — A partner who has not wrongfully dissociated may participate in winding up. The court may order judicial supervision of the winding up if good cause is shown. Distribution of Assets — After partnership assets have been reduced to cash, they are distributed to creditors and the partners. The partnership must apply its assets first to discharge the obligations of partners who are creditors on parity with other creditors. Second, any surplus must be applied to pay a liquidating distribution equal to the net amount distributable to partners in accordance with their right to distributions, or according to the partnership agreement, if different. Each partner is entitled to a settlement of all partnership accounts upon winding up. (See text for details.) Marshaling of Assets — The Revised Act abolishes the marshalling of assets doctrine—which segregates and considers separately the assets and liabilities of the partnership and the respective assets and liabilities of the individual partners—and the dual priority rule. The three stages in the ending of a partnership are (1) dissolution, (2) winding up or liquidation, and (3) termination. The partnership is not terminated until the winding up is completed. 31-8 DISSOLUTION The UPA defines dissolution as the change in the relation of the partners caused by any partner’s ceasing to be associated in the carrying on of the business. 31-8a Causes of Dissolution Dissolution may be brought about by (1) an act of the partners, (2) operation of law, or (3) court order. Because a partnership is a personal relationship, a partner always has the power to dissolve it by his actions, but whether he has the right to do so is determined by the partnership agreement. A partnership is dissolved by operation of law upon (1) the death of a partner, (2) the bankruptcy of a partner or of the partnership, or (3) the subsequent illegality of the partnership. A court-ordered dissolution may be sought by a partner, an assignee of a partner’s interest, or a partner’s personal creditor who has obtained a charging order against the partner’s interest. 31-8b Effects of Dissolution Dissolution does not terminate the partnership; it continues until the winding up is completed. Dissolution does not discharge the existing liability of any partner, though it does restrict the authority of partners to act for the partnership. Authority — Dissolution terminates a partner's actual authority to conduct business on behalf of the partnership except to complete the winding up process. Apparent authority continues as to third parties who have extended credit to the firm until they are given actual notice of the dissolution. Constructive notice will be effective as to third parties who were aware of the partnership's existence but did not extend credit to it before its dissolution. Existing Liability — Upon dissolution individual partner liability is not discharged, but liability on some executory contracts may be discharged. 31-9 WINDING UP Winding up, also known as liquidation, involves completing unfinished business, collecting debts, taking inventory, reducing assets to cash, auditing the books, paying creditors, and distributing the remaining assets to partners. 31-9a Distribution of Assets After all the partnership assets have been collected and reduced to cash, they are distributed to creditors and partners in the following order, per the UPA: (1) amounts owing to creditors other than partners, (2) amounts owing to partners other than for capital and profits, (3) amounts owing to partners for capital contributions, (4) amounts owing to partners for profits. 31-9b Marshaling of Assets Applies only when partnership assets and the individual assets of the partners are being administered by a court of equity. This doctrine refers to a segregation of partnership assets from individual partner assets. Partnership creditors have first right to the partnership assets while nonpartnership creditors have first priority as to individual assets. An insolvent partner's assets are distributed according to the following priority: a) nonpartnership creditors, b) partnership creditors, and then c) contributions to partners. If the partnership is a debtor under the Bankruptcy Code and partnership assets are inadequate to pay all claims, the appointed trustee will first seek recovery from nonbankrupt general partners. The trustee will then proceed against the estates of any bankrupt partners. CASE Robertson v. Jacobs Cattle Co. Supreme Court of Nebraska, 2013 830 N.W.2d 191, 285 Neb. 859 FACTS Jacobs Cattle Company is an at-will, family partnership whose current partners are Ardith, Duane, Carolyn, Patricia, James, and Dennis. Under the terms of the partnership agreement, Ardith has general management authority (1) to conduct day-to-day business on behalf of the partnership and (2) to bind the partnership, but a vote of 6 partners has authority to override a decision made by Ardith. Ardith and Dennis each have two votes; Patricia, James, Duane, and Carolyn each have one vote. Ardith and Dennis together have a capital interest in the partnership of approximately 78 percent. The partnership owns approximately 1,525 acres of agricultural land in Valley County, Nebraska. A real estate appraiser valued the land as of September 20, 2011 at $5,135,000. The partnership rented its land to others including Patricia, James, Dennis, Duane, and Carolyn, although James did not sign a lease. At least some of the land was rented for less than its fair rental value. Since June 19, 1997, the partnership has not returned a profit and there have been no distributions of net profits to the partners. There were no partnership meetings after January 2005, after which Ardith replaced the partnership’s attorney and accountant, who were the last accountant and attorney agreeable to all of the partners. None of the tenants had paid their rent for 2004. In March 2005, Dennis and Patricia were involved in a physical altercation. As a result, Dennis pled no contest to criminal assault charges. On April 28, Patricia and James were served with a notice to quit the leased premises for nonpayment of rent. Around the same time, Duane was also notified that he needed to quit the premises he was leasing due to nonpayment of rent. Duane eventually paid his rent, but on May 4, the partnership sued Patricia and James for rents due for the years 2003 and 2004. Ardith alone made the decision to file the lawsuit. On August 11, a court entered judgment against Patricia for unpaid rent. The court did not enter judgment against James because his name was not on the lease. The land that the partnership had leased to Patricia was later rented to Dennis. In July 2007, Patricia, James, Duane, and Carolyn (appellants) filed a complaint against the partnership, Ardith, and Dennis (collectively appellees), seeking a dissolution and winding up of the partnership under the Uniform Partnership Act of 1998 (1998 UPA). Appellees filed an answer alleging that dissociation of appellants, not dissolution of the partnership, was the proper remedy. After conducting a bench trial, the district court concluded that appellants did not prove the occurrence of events authorizing dissolution under § 67-439(5) because (1) nothing had occurred to interfere with the partnership’s ability to buy, own, and rent land; (2) no partners took steps to override decisions made by Ardith; and (3) Ardith had not acted beyond the partner restrictions specified in the partnership agreement. The court reasoned that nothing had occurred to make the partnership agreement difficult or impossible with which to comply, and it dismissed appellants’ dissolution claims. However, the court found that appellants’ failure to pay rent in a timely manner supported appellees’ request that appellants be dissociated from the partnership under § 67-431(5)(a) and (c). The court reasoned that because the primary purpose of the partnership was to rent land, appellants’ delinquency in paying rent materially and adversely affected the partnership business and made it not practicable for the partnership to carry on with appellants as partners. The court thus ordered dissociation of appellants by judicial expulsion pursuant to § 67-431(5)(a) and (c) and ordered the partnership to purchase appellants’ interests in the partnership. DECISION Judgment dissociating appellants from the partnership by judicial expulsion and declining to dissolve the partnership affirmed. OPINION Stephan, J. The 1998 UPA replaced the original Uniform Partnership Act, [citations], and brought about significant changes in partnership law. Prior law required an at-will partnership to dissolve upon any partner’s expressed will to dissolve the partnership. [Citations.] RUPA, on which the 1998 UPA is based, sought to avoid mandatory dissolution of partnerships by making a partnership a distinct entity from its partners. [Citation.] *** *** The statutory provisions governing dissociation and dissolution are similar but not identical. Dissolution of a partnership is governed by § 67-439, which provides that “[a] partnership is dissolved, and its business must be wound up, only upon the occurrence of any of the following events,” which include (5) On application by a partner, a judicial determination that: (a) The economic purpose of the partnership is likely to be unreasonably frustrated; (b) Another partner has engaged in conduct relating to the partnership business which makes it not reasonably practicable to carry on the business in partnership with that partner; or (c) It is not otherwise reasonably practicable to carry on the partnership business in conformity with the partnership agreement[.] The district court concluded that none of these circumstances existed because (1) nothing had occurred which would frustrate the partnership’s ability to buy, sell, or own land, and (2) Ardith, as managing partner, had authority on behalf of the partnership to take the actions with which appellants disagreed. Dissociation is a new concept introduced by RUPA “to denote the change in the relationship caused by a partner’s ceasing to be associated in the carrying on of the business.” [Citation.] Under RUPA, “the dissociation of a partner does not necessarily cause a dissolution and winding up of the business of the partnership.” [Citation.] Section 67-431 lists events which may trigger a partner’s dissociation, including (5) On application by the partnership or another partner, the partner’s expulsion by judicial determination because: (a) The partner engaged in wrongful conduct that adversely and materially affected the partnership business; (b) The partner willfully or persistently committed a material breach of the partnership agreement or of a duty owed to the partnership or the other partners under section 67-424; or (c) The partner engaged in conduct relating to the partnership business which makes it not reasonably practicable to carry on the business in partnership with the partner. In this case, the district court concluded that the grounds for dissociation stated in § 67-431(5)(a) and (c) were met by the failure of appellants to pay timely rent for the land leased from the partnership. With these principles in mind, we first consider appellants’ argument that the district court erred in determining that there were grounds to dissociate them from the partnership. Given that the sole business of the partnership was to own farmland which it leased to others, we have no difficulty concluding that the failure of appellants who executed leases to pay timely rents constituted wrongful conduct that adversely and materially affected the partnership business and made it not reasonably practical to carry on the partnership business with the existing partners. *** Next, we consider whether the district court erred in concluding that appellants failed to establish grounds for dissolution of the partnership. Appellees argue the district court correctly decided this issue because no wrongdoing on the part of Ardith or Dennis has been proved. But even appellees acknowledge that “much acrimony exists between and among the parties.” [Citation.] At oral argument, appellees’ counsel conceded that there were unspecified grounds for dissolution of the partnership, but argued that dissociation was nevertheless the appropriate remedy. We perceive this concession as agreement that the somewhat autocratic manner in which Ardith conducted the affairs of the partnership in recent years, even if not in violation of the partnership agreement, would constitute grounds for dissolution under § 67-439(5)(b), i.e., “conduct relating to the partnership business which makes it not reasonably practicable to carry on the business in partnership with that partner.” We find no other possible grounds for dissolution. *** such conduct is also grounds for dissociation under § 67-431(5)(c), and the record supports the district court’s determination that appellants engaged in such conduct. Thus, we conclude that there are grounds for dissolution of the partnership under § 67-439(5)(b) and dissociation of appellants under § 67-431(5)(a) and (c). Under the RUPA model upon which our statutes are based, the dissociation of a partner does not necessarily cause a dissolution and winding up of the partnership’s business. [Citations.] Generally, the partnership must be dissolved and its business wound up only upon the occurrence of one of the events listed in § 801 of RUPA, upon which Nebraska’s § 67-439 is based. [Citation.] The question we must resolve is whether dissolution is mandatory where the conduct of multiple partners constitutes grounds for dissolution under § 67-439(5)(b) and also constitutes grounds for dissociation pursuant to § 67-431(5)(c). *** *** Construing the dissolution remedy as mandatory in this circumstance would be contrary to the entity theory of partnership embodied in RUPA. *** a main purpose of RUPA is “to prevent mandatory dissolution” of a partnership. Accordingly, we hold that where a court determines that the conduct of one or more partners constitutes grounds for dissociation by judicial expulsion under § 67-431(5)(c) and dissolution under § 67-439(5)(b), and there are no other grounds for dissolution, the court may in its discretion order either dissociation by expulsion of one or more partners or dissolution of the partnership. We conclude that dissociation by judicial expulsion of appellants is an appropriate remedy under the facts of this case. *** Ardith and Dennis have a capital interest in the partnership of approximately 78 percent. Pursuant to the partnership agreement, Ardith has general management authority to conduct the day-to-day business on behalf of the partnership. We agree with the finding of the district court that there is no apparent reason why the partnership cannot continue to exist and function in accordance with the partnership agreement with Ardith and Dennis as its sole partners. INTERPRETATION Where the conduct of one or more partners constitutes grounds for both dissociation by judicial expulsion and dissolution, and there are no other grounds for dissolution, the court may in its discretion order either dissociation by expulsion of one or more partners or dissolution of the partnership. CRITICAL THINKING QUESTION Explain why the four partners would prefer dissolution to dissociation. NOTE: This section of the instructor’s manual continues the side-by-side comparison of the two sections in the student’s text. Use the heading numbers to find these sections in the student’s textbook. Dissociation and Dissolution of General Partnerships Under RUPA Dissolution of General Partnerships Under UPA 31-7 DISSOCIATION WITHOUT DISSOLUTION 31-7a Dissociations Not Causing Dissolution With three exceptions, the partners may by agreement modify or eliminate any of the grounds for dissolution. The three exceptions are carrying on an illegal business, a court ordered dissolution on application of a partner, and a court ordered dissolution on application of a transferee of a partner’s interest. Partnership at Will — a partner’s death, bankruptcy, or incapacity, the expulsion of a partner, or the termination of an entity-partner results in a dissociation of that partner but does not result in a dissolution. Term Partnership — if within 90 days after any of following causes of dissolution occurs, fewer than half of the remaining partners express their will to wind up the partnership business, then the partnership will not dissolve: a partner’s dissociation by death, bankruptcy or incapacity, the distribution by a trust-partner of its entire partnership interest, the termination of an entity-partner, or a partner’s wrongful dissociation. 31-7b Continuation After Dissociation The remaining partners have the right to continue the partnership with a mandatory buyout of the dissociating partner. The creditors of the partnership have claims against the continued partnership. 31-7c Dissociated Partner’s Power to Bind the Partnership A dissociated partner's actual authority to act for the partnership terminates; apparent authority continues for two years unless notice of the dissociation is given to a third party or a statement of dissociation is filed. 31-7d Dissociated Partner’s Liability to Third Persons A partner’s dissociation does not of itself discharge the partner’s liability for a partnership obligation incurred before dissociation. A dissociated partner is liable for a partnership obligation incurred within two years after a partner dissociates unless notice of the dissociation is given to a third party or a statement of dissociation is filed. 31-10 CONTINUATION AFTER DISSOLUTION After dissolution, a partnership is either liquidated or the remaining partners continue the partnership. Liquidation sacrifices the value of a going concern; continuation of the partnership after dissolution avoids this loss. 31-10a Right to Continue Partnership After dissolution, the remaining partners have the right to continue the partnership when: (1) the partnership has been dissolved in violation of the partnership agreement, (2) a partner has been expelled in accordance with partnership agreement, or (3) all the partners agree to continue the business. 31-10b Rights of Creditors Continuing a partnership after dissolution creates a new partnership. The creditors of the old partnership have claims against the new partnership and also may hold all of the members of the dissolved partnership personally liable. Even if the remaining members of the continuing business agree to assume and pay all of the firm’s debts, a withdrawing partner is still liable to creditors whose claims arose prior to the dissolution — but she has a right of indemnity against her former partners if she has to pay due to their failure to pay debts as agreed. A retiring partner may be discharged from his existing liabilities by a novation with the continuing partners and creditors. (A novation is a substitution by agreement of a new contract for an old one, the terms remaining the same but the parties changing.) A creditor must agree to the novation, or his consent may also be inferred from his course of dealing with the partnership after dissolution. A withdrawing partner may protect herself against liability on contracts that the firm enters into after her withdrawal by giving notice that she is no longer a member of the firm. She must give actual notice to persons who had extended credit to the partnership prior to its dissolution. Constructive notice will suffice for those who knew of the partnership but who had not extended credit to it before its dissolution. CASE Warnick v. Warnick Supreme Court of Wyoming, 2003 2003 WY 113, 76 P.3d 316 FACTS In August 1978, Wilbur and Dee Warnick and their son Randall Warnick purchased a ranch in Sheridan County, Wyoming for $335,000, with $90,000 down plus $245,000 in installments over ten years at 8 percent interest. In April 1979, they formed a general partnership, Warnick Ranches, to operate the ranch and to pay off the purchase agreement. The partnership agreement recited that the initial capital contributions of the partners totaled $60,000, paid 36 percent by Wilbur, 30 percent by Dee, and 34 percent by Randall. The Warnick Ranches Partnership Agreement stated that by “unanimous agreement of all Partners, additional contributions may be made to, or withdrawals may be made from, the capital of the Partnership.” The partners over the years each contributed additional funds to the operation of the ranch and received cash distributions from the partnership. After 1983, Randall contributed very little new money, and almost all of the additional funds to pay off the mortgage came from Wilbur and Dee Warnick. Wilbur also left in the partnership account two $12,000 cash distributions that were payable to him. The net cash contributions of the partners through 1999 were as follows: Wilbur $170,112.60 (51 percent); Dee $138,834.63 (41 percent); and Randall $25,406.28 (8 percent). In 1998, Randall Warnick began having discussions with his brother about the possibility of selling his interest in Warnick Ranches. When Randall mentioned this to his father, a dispute arose between them concerning the percentage of the partnership that Randall owned. On April 14, 1999, Randall's attorney sent a letter to Warnick Ranches proposing the sale of Randall's partnership to a third party or to the partnership, or a liquidation of the partnership. On August 11, 1999, Warnick Ranches responded in writing, treating the letter from Randall's attorney as the expressed will of a partner to dissociate. Randall brought an action against the partnership to determine his interest in the partnership, including a buyout price if he is determined to be dissociated from the partnership. The district court, in granting Randall Warnick's motion for summary judgment, found that dissociation of Randall as a partner was the appropriate remedy. The court awarded judgment to Randall Warnick for the amount of his cash contributions, plus 34 percent of the partnership assets' increase in value above all partners' cash contributions. As a result of that calculation, $230,819.14, or 25.24 percent, of the undisputed value of the partnership was awarded to Randall. DECISION Judgment affirmed in part and reversed in part; case is remanded. OPINION Golden, J. Resolution of this matter relies almost entirely on application of the Wyoming Revised Uniform Partnership Act (“RUPA”), [citation] *** . *** The partnership agreement is entirely silent as to how cash advances or payments on behalf of the business are to be treated. The partners knew that additional cash would be needed to make the mortgage payments on the ranch, and perhaps assumed that *** their agreement would cover the additional funds when they would unanimously agree to adjust the capital accounts when a partner paid more money into the operation. It is, however, undisputed that the partners never entered into a unanimous agreement to amend their partnership agreement or to reflect additional capital contributions. It is also undisputed that the advances by the partners were not anywhere documented as a loan to the partnership rather than capital contributions. *** The [district] court specifically found that there was no documentation to support a conclusion that the payments by the elder Warnicks were a loan, so they could not be treated as a loan. The district court’s decision, however, misapplies the clear provisions of the Revised Uniform Partnership Act. RUPA operates automatically if a partnership agreement does not have contrary provisions; *** . The district court’s calculations in this case treat the mortgage payments as neither capital contributions nor advances, but as something else not contemplated by RUPA. *** Advances are not addressed in the [partnership] agreement, so we must turn to RUPA’s default provisions in that regard. [Citation.] Nothing in RUPA requires advances to the partnership or payment of partnership debts by partners to be memorialized in writing as a loan. In fact, the act addresses payments and advances in several places without requiring a writing or unanimous partner approval: [RUPA] § 401(c) requires the partnership to reimburse a partner for payments made by the partner in the ordinary and proper conduct of the business of the partnership or for the preservation of its business or property; [RUPA] § 401(d) requires the partnership to reimburse a partner for a payment or advance to the partnership beyond the amount of capital the partner agreed to contribute; [RUPA] § 401(e) provides that a partner’s cash payment on behalf of the partnership automatically constitutes a loan which accrues interest from the date of the payment; Read [together], these provisions of the act evidence a presumption that additional amounts paid by a partner, over and above the capital contributions recited in the partnership agreement or agreed to, are presumed to be loans to the partnership, with interest payable from the date of the advance. RUPA is unequivocal on this point. *** *** The silence of the partnership agreement on [the duty to make capital contributions beyond the partnership agreement], combined with the statutory presumption in favor of advances over capital contributions, leads necessarily to the conclusion that a partner’s payment of the Warnick Ranch mortgage, without the unanimous consent required for additional capital contributions, would be an advance and a loan to the partnership. *** RUPA dramatically changes the law governing partnership breakups and dissolution. An entirely new concept, “dissociation,” is used in lieu of the UPA term “dissolution” to denote the change in the relationship caused by a partner’s ceasing to be associated in the carrying on of the business.… Under RUPA, unlike the UPA, the dissociation of a partner does not necessarily cause a dissolution and winding up of the business of the partnership. Section 801 identifies the situations in which the dissociation of a partner causes a winding up of the business. Section 701 provides that in all other situations there is a buyout of the partner’s interest in the partnership, rather than a windup of the partnership business. In those other situations, the partnership entity continues, unaffected by the partner’s dissociation. [Revised] Uniform Partnership Act § 601, cmt. 1, [citation]. The Warnick Ranch Partnership Agreement is again silent as to dissociation, addressing only liquidation. RUPA states that a partner has the power to dissociate at any time by express will, [RUPA] § 602(a), and that: (a) A partner is dissociated from a partnership upon: (i) Receipt by the partnership of notice of the partner’s express will to withdraw as a partner or upon any later date specified in the notice; Under these circumstances, the record supports the district court’s conclusion that there was no genuine issue as to the material fact that a dissociation occurred. Considering the April 1999 letter from Randall’s attorney to the partnership, in the context of deposition testimony regarding allegations of physical violence and misappropriation of partnership funds, we determine that the date of the letter is the date of dissociation. However, the court erred in its calculation of the judgment. RUPA states that a dissociated partner’s interest in the partnership shall be purchased by the partnership for a buyout price. [Citations.]. The buyout price is equal to the amount that would have been distributable to the dissociating partner under [citation] if, on the date of the dissociation, the partnership’s assets had been sold. [Citation.] However, [RUPA] provides that partnership assets must first be applied to discharge partnership liabilities to creditors, including partners who are creditors. As noted above, as each partner advanced funds to pay the mortgage or other partnership expenses, that partner became a creditor of the partnership for the amount advanced, and is entitled to interest on each amount from the date of the advance. In calculating Randall’s buyout price, it is therefore necessary to first calculate the amount that the partnership owes to each partner for advances to the partnership, with interest accrued from the date of each advance) *** . Next, there is the matter of two $12,000 draws, or “guaranteed payments,” that Wilbur Warnick was entitled to in 1998 and 1999, but actually left in the partnership account and did not receive. The guaranteed payment arrangement was at Randall’s request and agreed among the partners in order to provide Randall an income and to avoid the partnership showing a taxable profit. Randall received his draw as agreed in 1998 and 1999 but Wilbur did not, even though he reported it as personal income and paid taxes on it. At the time he became entitled to the “guaranteed payment,” the $12,000 was Wilbur’s personal money and his leaving it with the partnership was the functional equivalent of another advance to the partnership. [Citations]. Upon remand, therefore, in calculating the buyout price for Randall Warnick’s share, it is necessary to first calculate the amount the partnership owes Wilbur Warnick for the two $12,000 draws he left with the partnership, with interest from the date he was entitled to the payments. INTERPRETATION A partnership must purchase a dissociated partner's interest in the partnership for a buyout price equal to the amount that would have been distributable to the dissociating partner under RUPA if, on the date of the dissociation, the partnership's assets had been sold and first applied to discharge partnership liabilities to creditors, including partners who are creditors. CRITICAL THINKING QUESTION Do you agree with the Wyoming Supreme Court's decision? Explain. FEATURE: Ethical Dilemma What Duty of Disclosure Is Owed To Incoming Partners? This situation is one where a managing partner of a CPA firm facing several significant lawsuits is discussing merger with a smaller firm. It poses the questions of the obligation of the partner to disclose all the facts with potential partners as well as the responsibility of incoming partners to investigate the larger firm prior to merger. ETHICAL DILEMMA DISCUSSION “What Duty of Disclosure is Owed to Incoming Partners?” Legal Background Generally an agreement will be enforced in lieu of statutory rights which apply in the absence of an agreement. Under the Uniform Partnership Act, Section 38, “when a dissolution is caused in any way, except in contravention of the partnership agreement, each partner . . . unless otherwise agreed . . . may have the partnership property applied to discharge its liabilities, and the surplus applied to pay in cash the net amount owing to the respective partners.” In Adams v. Jarvis, 23 Wis.2d 453, 127 N.W.2d 400 (1964), a doctor withdrew from a medical partnership which had a partnership agreement similar to the one in the present case. Dr. Adams claimed that he was entitled to one-third of the net worth of the partnership including one-third of the accounts receivable. He argued that the partnership provisions regarding the payments to be made to a withdrawing partner were void as against public policy. The Supreme Court of Wisconsin held that the partnership agreement was enforceable. The court emphasized the existence of the fiduciary duty which the remaining partners owed to the retired partner. The prudent collection of accounts receivable up until the end of the fiscal year was critical since the amount of profits Dr. Adams would ultimately receive would be based on his allocable share of profits as of the end of the fiscal year. However, Dr. Adams was not entitled to one-third of the net value of the partnership, rather his rights were limited to those outlined in the partnership agreement. The case emphasizes the importance of the provisions in a partnership agreement, and the fiduciary duties among partners. Social Policy and Ethical Considerations 1. Yes, James should acquaint himself with the litigation. He should never assume that any pending litigation is insignificant. As a managing partner he needs to have this knowledge. 2. There is nothing to suggest that the partnership agreement was unethical. Presumably it was a voluntary agreement and did not unfairly deprive a retiring partner of compensation upon retirement. There should be no reason why the agreement should not be enforced. 3. Partners traditionally owe a fiduciary duty to each other to act in good faith. Actions may be brought for a breach of this duty under common law principles. The concept has been codified in UPA Section 21 which makes every partner accountable as a fiduciary. 4. Care must be taken to insulate retiring partners from liability to creditors subsequent to their withdrawal. It is advisable to enter an agreement with the creditor absolving the retiring partner from future liability. Under UPA Sec. 36(2) a partner is discharged from any existing liability upon dissolution of the partnership by an agreement to that effect between himself, the partnership creditor and the person or partnership continuing the business; and such agreement may be inferred from the course of dealing between the creditor having knowledge of the dissolution and the person continuing the business. 5. They should review the litigation files through the appropriate courts. They also need to take a more aggressive role in negotiating the merger agreement. Chapter 32 LIMITED PARTNERSHIPS & LIMITED LIABILITY COMPANIES Limited Partnerships [32-1] Definition [32-1a] Formation [32-1b] Filing of Certificate Name Contributions Defective Formation Foreign Limited Partnerships Rights [32-1c] Control Voting Rights Choice of Associates Withdrawal Assignment of Partnership Interest Profit and Loss Sharing Distributions Loans Information Derivative Actions Duties and Liabilities [32-1d] Duties Liabilities Dissolution [32-1e] Causes Winding Up Distribution of Assets Limited Liability Companies [32-2] Formation [32-2a] Members Filing Name Contribution Operating Agreement Foreign Limited Liability Companies Rights of Members [32-2b] Profit and Loss Sharing Distributions Withdrawal Management Voting Information Derivative Actions Assignment of LLC Interest Duties [32-2c] Manager-managed LLCs Member-managed LLCs Liabilities [32-2d] Dissolution [32-2e] Causes Dissociation Winding Up Authority Distribution of Assets Protection of Creditors Mergers and Conversions [32-2f] Other Unincorporated Business Associations [32-3] Limited Liability Partnerships [32-3a] Formalities Designation Liability Limitation Limited Liability Limited Partnerships [32-3b] Cases in This Chapter Alzado v. Blinder, Robinson and Co., Inc. Wyler v. Feuer Montana Food, LLC v. Todosijevic Estate of Countryman v. Farmers Coop. Ass’n In the Matter of 1545 Ocean Ave, LLC Chapter Outcomes After reading and studying this chapter, the student should be able to: • Distinguish between a general partnership and a limited partnership. • Identify those activities in which a limited partner may engage without forfeiting limited liability. • Distinguish between a limited partnership and a limited liability company. • Distinguish between a member-managed limited liability company and a manager-managed limited liability company. • Distinguish between a limited liability partnership and a limited liability limited partnership. TEACHING NOTES *** Chapter Outcome *** Distinguish between a general partnership and a limited partnership. 32-1 LIMITED PARTNERSHIPS The limited partnership has been a very appealing investment vehicle because it confers limited liability and tax advantages. But unlike general partnerships, limited partnerships are statutory creations. Before 1976, the governing statute in all States except Louisiana was the Uniform Limited Partnership Act (ULPA), which was promulgated in 1916. The Uniform Law Commission (ULC) developed a Revised Uniform Limited Partnership Act (RULPA), which was promulgated in 1976. According to its preface, the RULPA is “intended to modernize the prior uniform law while retaining the special character of limited partnerships as compared with corporations.” In 1985, the ULC revised the RULPA “for the purpose of more effectively modernizing, improving and establishing uniformity in the law of limited partnerships.” The 1985 Act is substantially similar to the 1976 RULPA, preserving the philosophy of the older Act and making almost no change in its basic structure. All the States except Louisiana had adopted either the 1976 Act or the 1985 Act with a large majority of these States adopting the 1985 version. In 2001 the ULC promulgated a new revision of the 1985 Revised Uniform Limited Partnership Act (ReRULPA). The new Act has been drafted to reflect that limited liability partnerships and limited liability companies can meet many of the needs formerly met by limited partnerships. To date, at least 19 states and the District of Columbia have adopted it. In 2011 and 2013, the 2001 ReRULPA was amended as part of the Harmonization of Business Entities Acts project. The ULPA, the 1976 RULPA, and the 1985 RULPA are supplemented by the Uniform Partnership Act, which applies to limited partnerships in any case for which the Limited Partnership Act does not provide. The ReRULPA is a stand-alone statute and is not linked the Uniform Partnership Act. NOTE: See Fig 31-1: General Partnership, Limited Partnership, Corporation and Limited Liability Co. in Ch. 31. 32-1a Definition A limited partnership is a partnership that has one or more general partners and one or more limited partners and is formed in compliance with the laws of a state. Limited partnerships differ from general partnerships in three basic ways: (1) A statute providing for the formation of limited partnerships must be in effect. (2) The limited partnership must substantially comply with the requirements of that statute. (3) The liability of a limited partner for partnership debts or obligations is limited to the extent of the capital he has contributed or agreed to contribute. 32-1b Formation Formation of a limited partnership requires compliance with the applicable statute, in contrast to the simple procedure for forming a general partnership. Filing of Certificate — The partners must swear to and sign a certificate which must then be filed with the appropriate public official. Name — A limited partner’s surname may not be used in the name of the partnership (unless a general partner has the same name.) The partnership name must contain the words "limited partnership." Contributions — The RULPA provides that partners may contribute to the firm cash, property or services, or a promissory note or other obligation to contribute cash or property or to perform services. Defective Formation — A limited partnership is formed when the certificate is correctly filed. If the certificate is defective, the limited partners' limited liability may be jeopardized. Upon learning of a defect in the formation of the partnership limited partners will not lose their limited liability protection if they promptly withdraw from the business and renounce their interest in the profits. Foreign Limited Partnerships — A limited partnership will be viewed as "foreign" in any state other than the one where it was formed. The RULPA provides that a foreign limited partnership will be governed as to organization, internal procedure, and partner liability by the law of the state in which it was established. *** Chapter Outcome *** Identify those activities in which a limited partner may engage without forfeiting limited liability. 32-1c Rights Control — Limited partners cannot participate in the management of the business, and they do so at the risk of losing their limited liability. The RULPA, have, however, allowed limited partners to advise and consult the general partners about the business as long as they do not participate in the day-to-day management of the partnership. The RULPA also provides a listing of other activities a limited partner may participate in without losing limited liability. CASE 32-1 ALZADO v. BLINDER, ROBINSON & CO., INC. Supreme Court of Colorado, 1988 752 P.2d 544 http://scholar.google.com/scholar_case?q=752+P.2d+544&hl=en&as_sdt=2,34&case=5412987996095530695&scilh=0 Kirshbaum, J. [In 1979, Lyle Alzado, a former professional football player, and two business associates formed Combat Promotions, Inc., to promote an eight-round exhibition boxing match in Denver, Colorado, between Alzado and Muhammad Ali, a former world champion boxer.] Ali had agreed to engage in the match on the condition that prior to the event his attorneys would receive an irrevocable letter of credit guaranteeing payment of $250,000 to Ali. Combat Promotions, Inc. initially encountered difficulties in obtaining the letter of credit. Ultimately, however, Meyer Blinder (Blinder), President of Blinder-Robinson, expressed an interest in the event. Blinder anticipated that his company’s participation would result in a positive public relations image for its recently opened Denver office. Blinder-Robinson ultimately agreed to provide the $250,000 letter of credit. Blinder-Robinson insisted on several conditions to protect its investment. It required the formation of a limited partnership with specific provisions governing repayment to Blinder-Robinson of any sums drawn against the letter of credit. It also required Alzado’s personal secured guarantee to reimburse Blinder-Robinson for any losses it might suffer. Alzado and Combat Promotions, Inc. accepted these conditions. On June 25, 1979, an agreement was executed by Combat Promotions, Inc. and Blinder-Robinson creating a limited partnership, Combat Associates. Under the terms of the agreement, Combat Promotions, Inc. was the general partner and Blinder-Robinson was the sole limited partner. Blinder-Robinson contributed a $250,000 letter of credit to Combat Associates, and the partnership agreement provided expressly that the letter of credit was to be paid off as a partnership expense. On the same day, June 25, 1979, Alzado executed a separate guaranty agreement with Blinder-Robinson. This agreement provided that if Ali drew the letter of credit, Alzado personally would reimburse Blinder-Robinson for any amount Blinder-Robinson was unable to recover from Combat Associates under the terms of the limited partnership agreement. As security for his agreement, Alzado placed a general warranty deed to his residence, an assignment of an investment account and a confession of judgment in escrow for the benefit of Blinder-Robinson. Thereafter, a separate agreement was apparently executed by Alzado and Combat Associates providing that Alzado would receive $100,000 in compensation for the exhibition match but subordinating any payment of that sum to the payment of expenses of the match, including, if drawn, the letter of credit. Approximately one week before the date of the match, Alzado announced that he might not participate because he feared he might lose the assets he had pledged as security for the guaranty agreement. Alzado informed Blinder of this concern, and the two met the next day in Blinder-Robinson’s Denver office. Tinter, Kauffman and Ali’s representative, Greg Campbell, were also present. Subsequently, on July 14, 1979, the event occurred as scheduled. Few tickets were sold, and the match proved to be a financial debacle. Ali drew the letter of credit and collected the $250,000 to which he was entitled. Combat Associates paid Blinder-Robinson only $65,000; it did not pay anything to Alzado or, apparently, to other creditors. In January of 1980, Blinder-Robinson filed this civil action seeking $185,000 in damages plus costs and attorney fees from Alzado pursuant to the terms of the June 25, 1979, guaranty agreement. Alzado denied any liability to Blinder-Robinson and * * * also filed two counterclaims against Blinder-Robinson. The first alleged that because of its conduct Blinder-Robinson must be deemed a general partner of Combat Associates and, therefore, liable to Alzado under the agreement between Alzado and the partnership for Alzado’s participation in the match. * * * [The jury returned a verdict of $92,500 in favor of Alzado on this counterclaim. The court of appeals reversed.] * * * Alzado next contends that the Court of Appeals erred in concluding that Blinder-Robinson’s conduct in promoting the match did not constitute sufficient control of Combat Associates to justify the conclusion that the company must be deemed a general rather than a limited partner. We disagree. A limited partner may become liable to partnership creditors as a general partner if the limited partner assumes control of partnership business. [Citations]; see also [RULPA] §303, which provides that a limited partner does not participate in the control of partnership business solely by doing one or more of the following: (a) Being a contractor for or an agent or employee of the limited partnership or of a general partner; (b) Being an officer, director, or shareholder of a corporate general partner; (c) Consulting with and advising a general partner with respect to the business of the limited partnership; * * * * * * Any determination of whether a limited partner’s conduct amounts to control over the business affairs of the partnership must be determined by consideration of several factors, including the purpose of the partnership, the administrative activities undertaken, the manner in which the entity actually functioned, and the nature and frequency of the limited partner’s purported activities. * * * The record here reflects that Blinder-Robinson used its Denver office as a ticket outlet, gave two parties to promote the exhibition match and provided a meeting room for many of Combat Associates’ meetings. Blinder personally appeared on a television talk show and gave television interviews to promote the match. Blinder-Robinson made no investment, accounting or other financial decisions for the partnership; all such fiscal decisions were made by officers or employees of Combat Promotions, Inc., the general partner. The evidence established at most that Blinder-Robinson engaged in a few promotional activities. It does not establish that it took part in the management or control of the business affairs of the partnership. Accordingly, we agree with the Court of Appeals that the trial court erred in denying Blinder-Robinson’s motion for judgment notwithstanding the verdict with respect to Alzado’s first counterclaim. * * * We * * * affirm the judgment of the Court of Appeals insofar as it reverses the judgments entered at trial in favor of Alzado on his first counterclaim against Blinder-Robinson. Voting Rights — The partnership agreement may grant voting rights to limited partners, but this may jeopardize the limited partner's limited liability if the rights exceed the RULPA’s safe harbor provision. Choice of Associates — Addition of a new partner, general or limited, requires the unanimous agreement of all partners, and the partnership records must be amended to reflect this change. Withdrawal — A general partner may withdraw at any time, with written notice. A limited partner may withdraw only in accordance with the partnership agreement, or if the agreement does not provide, upon 6 months' written notice Assignment Of Partnership Interest — Limited and general partners may assign their partnership interest, however, the assignee will become a substituted limited partner only if all other partners agree or the certificate provides for this right. Profit and Loss Sharing — Absent an agreement to the contrary, limited partnership profits and losses are shared based on the value of capital contributions, except that limited partners are liable for losses only to the extent of capital contributed. Distribution — Partners share distributions per the partnership agreement; may be different ratio than share of profits. Distributions shall not be made unless assets remaining are sufficient for partnership liabilities. Loans — In loans made to the partnership, the RULPA permits limited and general partners to be secured or unsecured creditors of the firm. Information — A limited partner has a right to inspect the partnership books and to request information regarding the business and financial condition of the limited partnership. Derivative Actions — A limited partner may bring an action to recover a judgment on behalf of the limited partnership if the general partners refuse to do so. 32-1d Duties and Liabilities Duties — General partners owe a fiduciary duty to each other and the limited partners and must exercise reasonable business judgment. Case authority indicates limited partners do not owe a similar duty of care. CASE 32-2 WYLER v. FEUER California Court of Appeal, Second District, Division 2, 1978 85 Cal.App.3d 392, 149 Cal.Rptr. 626 http://scholar.google.com/scholar_case?q=149+Cal.Rptr.+626&hl=en&as_sdt=2,34&case=9054451800672347003&scilh=0 Fleming, J. Defendants Cy Feuer and Ernest Martin, associated as Feuer and Martin Productions, Inc. (FMPI), have been successful producers of Broadway musical comedies since 1948. Their first motion picture, “Cabaret,” produced by Feuer in conjunction with Allied Artists and American Broadcasting Company, received eight Academy Awards in 1973. Plaintiff Wyler is president and largest shareholder of Tool Research and Engineering Corporation, a New York Stock Exchange Company based in Beverly Hills. Prior to 1972 Wyler had had no experience in the entertainment industry. [In 1972, FMPI bought the motion picture and television rights to Simone Berteaut’s best-selling books about her life with her half-sister Edith Piaf. To finance a movie based on this novel, FMPI sought a substantial private investment from Wyler. In July 1973, Wyler signed a final limited partnership agreement with FMPI. The agreement stated that Wyler would provide, interest free, 100 percent financing for the proposed $1.6 million project, in return for a certain portion of the profits, not to exceed 50 percent. In addition, FMPI would obtain $850,000 in production financing by September 30, 1973. The contract specifically provided that FMPI’s failure to raise this amount by September 30, 1973, “shall not be deemed a breach of this agreement” and that Wyler’s sole remedy would be a reduction in the producer’s fee.] Despite their acclaimed success in “Cabaret,” defendants at the time of execution of the limited partnership agreement were experiencing difficulties in obtaining distributor commitments and knew it would be unlikely they could obtain any production financing by the September 30 deadline. Their difficulties arose from their overestimation of the attractiveness of the Piaf subject-matter, from the unknown leading actress, and from the scheduling of photography during the summer months when most Europeans go on vacation. Filming of the motion picture began July 23 and ended October 9. By that time Wyler had advanced $1.25 million and defendants had failed to obtain any production financing. The completed cost of the picture was $1,512,000. Early in October, Feuer met Wyler in Paris and requested an extension of the deadline for production financing to December 30, so that defendants could take advantage of distributor negotiations in process and recoup their profit percentage and their producer’s fee. Wyler said he had already financed the picture and refused to extend the deadline, thereby maintaining his profit percentage at 50 percent. [A year after its release in 1974, the motion picture proved less than an overwhelming success—costing $1.5 million but making only $478,000 in total receipts. From the receipts, Wyler received $313,500 for his investment. FMPI had failed to obtain an amount even close to the $850,000 required for production financing. Wyler then sued i Feuer, Martin, and FMPI for mismanagement of the business of the limited partnership and to recover his $1.5 million as damages.] A limited partnership affords a vehicle for capital investment whereby the limited partner restricts his liability to the amount of his investment in return for surrender of any right to manage and control the partnership business. [Citation.] In a limited partnership the general partner manages and controls the partnership business. [Citation.] In exercising his management functions the general partner comes under a fiduciary duty of good faith and fair dealing toward other members of the partnership. [Citations.] These characteristics—limited investor liability, delegation of authority to management, and fiduciary duty owed by management to investors—are similar to those existing in corporate investment, where it has long been the rule that directors are not liable to stockholders for mistakes made in the exercise of honest business judgment [citations], or for losses incurred in the good faith performance of their duties when they have used such care as an ordinarily prudent person would use. [Citation.] By this standard a general partner may not be held liable for mistakes made or losses incurred in the good faith exercise of reasonable business judgment. According all due inferences to plaintiff’s evidence, as we do on review of a nonsuit, we agree with the trial court that plaintiff did not produce sufficient evidence to hold defendants liable for bad business management. Plaintiff’s evidence showed that the Piaf picture did not make money, was not sought after by distributors, and did not live up to its producers’ expectations. The same could be said of the majority of motion pictures made since the invention of cinematography. No evidence showed that defendants’ decisions and efforts failed to conform to the general duty of care demanded of an ordinarily prudent person in like position under similar circumstances. The good faith business judgment and management of a general partner need only satisfy the standard of care demanded of an ordinarily prudent person, and will not be scrutinized by the courts with the cold clarity of hindsight. [Judgment for Feuer, Martin, and FMPI affirmed.] Liabilities — Limited liability means that a limited partner is not liable for partnership losses beyond the amount of her contribution, assuming that the partnership was established correctly and that the limited partner has not participated in the management of the business. The general partners of a limited partnership have unlimited external liability, unless the limited partnership is a limited liability limited partnership (LLLP). NOTE: See Figures 32-2 and 32-1: Comparison of General and Limited Partners and Liability of Limited Partners. 32-1e Dissolution Extinguishing a limited partnership involves three steps: dissolution, winding up, and termination. Causes — The death, withdrawal, or bankruptcy of a limited partner will not dissolve a limited partnership. The RULPA specifies what events will effect a dissolution: lapse of a stated time period, happening of stated events, unanimous written consent of all partners, withdrawal of a general partner (assuming all remaining partners do not agree to continue), and judicial decree. A withdrawal of a general partner includes the partner’s death, incompetency, bankruptcy and retirement. Winding Up — General partners who have not wrongly dissolved a partnership may wind up its affairs. Distribution of Assets — The RULPA order of distribution of assets in liquidation: (1) creditors, including general partners and limited partners, (2) partners for declared but unpaid distributions, (3) partners capital contributions, (4) in accordance with distribution-sharing percentages. *** Chapter Outcome *** Distinguish between a limited partnership and a limited liability company. 32-2 LIMITED LIABILITY COMPANIES A limited liability company (LLC) is another form of unin¬corporated business association. Prior to 1990, only two States had statutes permitting LLCs. By 1996 all States had enacted LLC statutes. Since then many States have amended or revised their LLC statutes. Until 1995, there was no uniform stat¬ute on which States might base their LLC legislation, and since its promulgation twelve States have adopted the Uni¬form Limited Liability Company Act (ULLCA), which was amended in 1996. In 2006 the Revised ULLCA was completed and at least fourteen States have adopted it. (In 2011 and 2013, the 2006 Revised ULLCA was amended as part of the Harmonization of Business Entity Acts project. These amendments coordinate the language in the 2006 Revised ULLCA with the language of similar provisions in the other uniform and model unincorporated entity acts.) Therefore, LLC statutes vary from State to State with respect to such matters as LLC management, admission and withdrawal of members, power of members and managers to bind the LLC, duties imposed on managers and members, and the LLC’s right to merge with other business entities. Nevertheless, the LLC statutes generally have some common characteristics. A limited liability company is a non-corporate form of business organization that provides limited liability to all of its owners (members), permits all of the members to participate in management of the business, and if properly structured will be taxed as a partnership. In short, the LLC provides many of the advantages of a general partnership plus limited liability for all its members. It has advantages over a limited partnership because all of its members have limited liability and all members may participate in management and control. Formation The formation of an LLC requires substantial compliance with a State's LLC statute. All States permit an LLC to have only one member. Once formed, an LLC is a separate legal entity that is distinct from its members, who are normally not liable for its debts and obligations. An LLC can contract in its own name and is generally permitted to carry on any lawful purpose, although some statutes restrict the permissible activities of LLCs. Members — LLC statutes permit members to include individuals, corporations, general partnerships, limited partnerships, limited liability companies, trusts, estates, and other associations. LLC statutes differ concerning the procedure for adding members after an LLC has been formed. Filing — The LLC statutes generally require the central public filing of articles of organization in a designated State office. The States vary regarding the information they require the articles to include, but all require at least the following: (1) the name of the firm, (2) the address of the principal place of business or registered office, and (3) the name and address of the agent for service of process. The articles may also include any provision consistent with law for regulating internal LLC matters. Name — Generally, must include the words "limited liability company" or the abbreviation “LLC.” Must be distinguishable fro other firms doing business in that State. Contribution — In most States, the contribution of a member to a limited liability company may be cash, property, services rendered, a promissory note, or other obligation to contribute cash, property, or to perform services. Members are liable to the LLC for failing to make an agreed contribution. Operating Agreement — is the basic contract governing the affairs of a LLC and stating the various rights and duties of the members; some provisions may require written agreement. Foreign Limited Liability Companies — a LCC is considered foreign in all other states other than that in which it was formed. Foreign LLCs, however, generally are not permitted to transact business that domestic LLCs may not transact. Foreign LLCs must register with the Secre¬tary of State before transacting any business in a State. Any foreign LLC transacting business without so register¬ing may not bring enforcement actions in the State's courts until it registers, although it may defend itself in the State's courts. Moreover, States generally impose fines and penalties on unregistered foreign LLC that transact business in the State. Rights of Members Includes financial interests (distributions) and management interests (all other rights granted by the operating agreement and statute). Profit and Loss Sharing — Determined by the operating agreement or allocated on the basis of the members' contributions. Absent an agreement, the default is to share profits equally. Distributions — Of cash or other assets; determined by the operating agreement or allocated on the basis of the members' contributions. Liability is imposed on members who receive wrongful distributions. Withdrawal — Under most statutes, a member may withdraw and demand payment of her interest upon giving the notice specified in the statute or the LCC's operating agreement. Management — Unless agreed otherwise, each member has equal voice in the management. May be managed by one or more managers who may or may not be members, but who are selected by the members. CASE 32-3 MONTANA FOOD, LLC v. TODOSIJEVIC Supreme Court of Wyoming, 2015 2015 WY 26, 344 P.3d 751 Kite, J. [Montana Food,] LLC is a limited liability company organized under the laws of the State of Wyoming and listing its principal place of business in Laramie County, Wyoming. During 2010, Mr. Todosijevic and Mr. Vukov, who are residents of Belgrade, Serbia, each held a 50% membership interest in the LLC. The LLC organized several subsidiaries in Belgrade, including Delbin Investments, MD, LTD (Delbin). The LLC and its subsidiaries invested in buildings located in Belgrade with an eye toward developing them. The LLC’s articles of organization provided that the LLC was manager-managed and named Maksim Stajcer, who was not a member of the LLC, as the manager. The articles of organization also provided that after the initial capital contribution of $10,000, "[a]dditional contributions shall be made at such times and in such amounts as may be agreed upon by the Members as provided in the Operating Agreement." In late 2010, Mr. Vukov became concerned that he was the only member making additional contributions. He retained counsel in Serbia to investigate. The investigation apparently showed that Mr. Vukov had contributed 1,260,600 Euros while Mr. Todosijevic had made no additional contributions. Mr. Vukov issued a notice of meeting indicating that he wished to address the issue of capital contributions by the members as provided in the articles of organization and propose that any member who did not contribute to the LLC's capital would be subject to a reduction of his ownership interest. Mr. Todosijevic claimed he did not receive the notice. In any event, he did not attend. At the meeting, Mr. Vukov adopted and approved resolutions showing his capital contribution of 1,260,600 Euros, increasing his ownership interest to 99.72% and reducing Mr. Todosijevic's interest to 0.28%. Thereafter, Mr. Vukov amended the articles of organization by naming himself and his wife as the new managers of the LLC. [In 2011, Mr. Todosijevic filed an action against Mr. Vukov and the LLC, claiming, among other things, that Mr. Vukov did not have the authority to adjust the members’ ownership interests. The district court granted Mr. Todosijevic’s motion for summary judgment. The LLC appealed.] The narrow issue before us is whether Mr. Vukov on behalf of the LLC had the con¬tractual or statutory authority to adjust the members’ capital contributions. In deciding that issue, we must determine whether provisions of Wyoming’s current LLC Act are controlling or whether provisions of the earlier Act apply. [Section 17-29-1103 of the current Act provides that four sections of the former Act applied at the time this action arose, including the management provision.] The effective date of the current Act was July 1, 2010. The LLC we are concerned with here was organized in June of 2007. Therefore, we look to the former provisions *** for guidance. We begin with §17-15-116: §17-15-116. Management. Management of the limited liability company shall be vested in its members, which unless otherwise provided in the operating agreement, shall be in proportion to their contribution to the capital of the limited liability company, as adjusted from time to time to properly reflect any additional contributions or withdrawals by the members; however, if provision is made for it in the articles of organization, management of the limited liability company may be vested in a manager or managers who shall be elected by the members in the manner prescribed by the operating agreement of the limited liability company. If the articles of organization provide for the management of the limited liability company by a manager or manages, unless the operating agreement expressly dispenses with or substitutes for the requirement of annual elections, the manager or managers shall be elected annually by the members in the manner provided in the operating agreements. The manager or managers, or persons appointed by the manager or managers, shall also hold the offices and have the responsibilities accorded to them by the members and set out in the operating agreement of the limited liability company. (Emphasis added.) In the present case, the articles of organization received by the Wyoming Secretary of State on June 1, 2007, provided as follows: IX: Management: The Company is to be managed by a manager. The name and address of the manager who is to serve as manager until the first annual meeting of Members or until its successor or successors is or are elected and qualify, and who shall have authority to act and bind the Company upon his individual signature, is: Maksim Stajcer, CPA S.A. 76 Dean Street Belize City Belize, C. America The LLC operating agreement, also dated June 1, 2007, provided: 3.1 MANAGEMENT OF THE BUSINESS. The name and place of residence of each Manager is attached as Exhibit 1 of this Agreement. By a vote of Member(s) holding a majority of capital interests in the Company, as set forth in Exhibit 2 as amended from time to time, shall elect so many Managers as the Members determine, but no fewer than one. Exhibit 1 to the operating agreement stated that by a majority vote of the members, Maksim Stajcer was elected to serve as manager of the LLC until removed by a majority vote of the members or his voluntary resignation. There is no evidence in the record that Mr. Stajcer had been removed or voluntarily resigned prior to Mr. Vukov’s unilateral amendment of the articles of organization in 2011. *** *** The next question for our determination is whether, in a manager-managed LLC, a member has the authority to adjust the members’ ownership interests. Again, we begin by considering which version of Wyoming’s LLC Act applies. Section 17-29-1103 *** states that four sections of the former Act applied at the time this action arose * * * . None of those provisions address the authority of a member of a manager-managed LLC to adjust ownership interests. We, therefore, look to the new Act to resolve the issue. Section 17-29-407(c) *** addresses LLC management. Subsection (c)(i) provides that in a manager-managed LLC, unless the articles of organization or the operating agreement provide otherwise, any matter relating to the activities of the company is decided exclusively by the manager. Subsection (c)(iv)(C) further provides that the consent of all members is required to undertake any act outside the ordinary course of the company’s activities. Pursuant to the plain language of subsection (c)(i), unless the articles of organization and operating agreement provide otherwise, Mr. Vukov, as a member of the LLC, did not have the authority to decide matters relating to company activities. Pursuant to subsection (c)(iv)(C), Mr. Vukov also had no authority to take action outside the ordinary course of the LLC’s activities without Mr. Todosijevic’s consent unless the organizational documents provide otherwise. The articles of organization at issue here provided that the manager “shall have the authority to act for and bind the Company upon his individual signature.” The operating agreement further provided: *** Members that are not Managers shall take no part whatever in the control, management, direction, or operation of the Company’s affairs and shall have no power to bind the Company... *** Pursuant to these provisions, LLC members were not authorized to control, manage, direct or operate LLC affairs; rather, the manager was to control ordinary LLC operations. The manager was not authorized, however, to change members’ ownership interests. Nothing in the articles of organization or operating agreement gave anyone the authority to change ownership interests. We conclude, as the district court did, that changing owner¬ship interests was action outside the ordinary course of the LLC’s activities. Applying the clear language of §17-29-407(c)(iv)(C), the consent of all members was required. The district court correctly concluded Mr. Vukov did not have the statutory or contractual authority to unilaterally change the members’ ownership interests. Voting — Most of the LLC statutes specify the voting rights of members, subject to a contrary provision in an LLC's operating agreement. In some States the default rule for voting follows a partnership approach (each member has equal voting rights) while the other States take a corporate approach (voting is based on the financial interests of members). Information — The LLC must keep basic organizational and financial records. Each member has the right to inspect and copy the LLC records. Derivative Actions — A member may bring an action to recover a judgment on behalf of the LLC if the managers or members with authority refuse to do so. Assignment of LLC Interest — Generally, a member may assign only financial interests; to gain other rights, assignee must become a member of the LLC by being admitted by the remaining members (in most cases, by unanimous vote only.) CASE 32-4 ESTATE OF COUNTRYMAN v. FARMERS COOP. ASS’N Supreme Court of Iowa, 2004 679 N.W.2d 598 http://scholar.google.com/scholar_case?q=679+n.w.2d+598&hl=en&as_sdt=2,34&case=12820500586608385138&scilh=0 Cady, J. In the afternoon of September 6, 1999, an explosion leveled the home of Jerry Usovsky (Usovsky) in Richland, Iowa. Tragically, seven people who had gathered in the home to celebrate the Labor Day holiday died from the explosion. Six others were injured, some seriously. The likely cause of the explosion was stray propane gas. The survivors and executors of the estates of those who died eventually filed a lawsuit seeking monetary damages against a host of defendants. The legal theories of recovery included negligence, breach of warranty, and strict liability. The defendants included Iowa Double Circle, L.C. (Double Circle) and Farmers Cooperative Association of Keota (Keota). Double Circle is an Iowa limited liability company. It is a supplier of propane, and delivered propane to Usovsky’s home prior to the explosion. Keota is one of two members in Double Circle. It owns a ninety-five percent interest in the company. The other member is Farmland Industries, Inc. (Farmland Industries), a regional cooperative. Keota and Farmland Industries formed Double Circle in 1996 from an existing operation. Keota is a farm cooperative that provides a variety of farm products and services to area farmers. It is a member of Farmland Industries and is managed by Dave Hopscheidt (Hopscheidt). The executive committee of Keota’s board of directors serves as the board of directors of Double Circle, along with a representative of Farmland Industries. Keota provides managerial services to Double Circle, pursuant to a management agreement between Keota and Double Circle. Keota’s duties under the agreement include “human resource and safety management.” Hopscheidt oversees the daily operations ofboth Keota and Double Circle. However, Keota and Double Circle operate as separate entities and maintain separate finances. Keota moved for summary judgment. * * * The plaintiffs resisted the motion by pointing to allegations in their petition indicating Keota participated in the claims of wrongdoing through the management decisions it made in consumer safety matters. For example, plaintiffs claimed Keota, through Hopscheidt, was negligent in failing to provide proper warnings to propane users, including the failure to warn users to install a gas detector, and to properly design the odorant added to the propane. * * * The district court granted summary judgment for Keota. It found plaintiffs failed to produce any facts to show that Keota engaged in conduct separate from its duties as director or manager of Double Circle. Consequently, it concluded Keota was protected as a matter of law from personal liability for claims of wrongful conduct attributable to Double Circle. * * * * * * Plaintiffs filed their notice of appeal from the summary judgment. * * * They claimed the district court erred by finding that Keota was insulated from liability as a matter of law. * * * * * * The limited liability company, “LLC” as it is now known, is a hybrid business entity that is considered to have the attributes of a partnership for federal income tax purposes and the limited liability protections of a corporation. [Citation.] As such, it provides for the operational advantages of a partnership by allowing the owners, called members, to participate in the management of the business. [Citation.] Yet, the members and managers are protected from liability in the same manner shareholders, officers, and directors of a corporation are protected. [Citation.] The LLC * * * has now been adopted by statute in every state in the nation. [Citation.] Iowa joined the trend in 1992 with the passage of the Iowa Limited Liability Company Act (ILLCA). [Citation.] The ILLCA, among other features, permits the owners or members to centralize management in one or more managers or reserve all management powers to themselves. [Citations.] Although the tax treatment of an LLC has been largely resolved, the contours of the limited liability of an LLC are less certain. [Citation.] Only a few courts have specifically addressed the issue of tort liability. * * * * * * The[se] rules of liability derived from [the ILLCA] have been summarized as follows: Sections * * * of the Act generally provide that a member or manager of a limited liability company is not personally liable for acts or debts of the company solely by reason of being a member or manager, except in the following situations: (1) the ILLCA expressly provides for the person’s liability; (2) the articles of organization provide for the person’s liability; (3) the person has agreed in writing to be personally liable; (4) the person participates in tortious conduct; or (5) a shareholder of a corporation would be personally liable in the same situation, except that the failure to hold meetings and related formalities shall not be considered. [Citation.] * * * While liability of members and managers is limited, the statute clearly imposes liability when they participate in tortious conduct. [Citation.] This approach is compatible with the longstanding approach to liability in corporate settings, where, under general agency principles, corporate officers and directors can be liable for their torts even when committed in their capacity as an officer. [Citations.] * * *. Keota suggests that liability of an LLC member or manager for tortious conduct is limited to conduct committed outside the member or manager role. Yet, this approach is contrary to the corporate model and agency principles upon which the liability of LLC members and managers is based, and cannot be found in the language of the statute. We acknowledge that the “participation in tortious conduct” standard would not impose tort liability on a manager for merely performing a general administrative duty. [Citations.] There must be some participation. [Citation.] The participation standard is consistent with the principle that members or managers are not liable based only on their status as members or managers. [Citation.] Instead, liability is derived from individual activities. Yet, a manager who takes part in the commission of a tort is liable even when the manager acts on behalf of a corporation. [Citation.] The ILLCA does not insulate a manager from liability for participation in tortious conduct merely because the conduct occurs within the scope and role as a manager. * * * The limit on liability created for members and managers of LLCs in [citation] means members and managers are not liable for company torts “solely by reason of being a member or manager” of an LLC. [Citation.] The phrase “solely by reason of” refers to liability based upon membership or management status. It does not distinguish between conduct of a member or manager that may be separate and independent from the member or management role. Thus, it is not inconsistent to protect a member or manager from vicarious liability, while imposing liability when the member or manager participates in a tort. Liability of members of an LLC is limited, but not to the extent claimed by Keota. * * * We conclude that Keota is not protected from liability if it participated in tortious conduct in performing its duties as manager of Double Circle. Consequently, the district court improperly granted summary judgment based on the limited liability provisions of [citation]. A trial is necessary to develop the facts relating to allegations of Keota’s participation in the alleged torts. We reverse the summary judgment ruling of the district court on the issue of liability under [citation], and remand for further proceedings. *** Chapter Outcome *** Distinguish between a member-managed LLC and a manager-managed LLC. 32-2c Duties Manager-managed LLC — Managers have a duty of care and loyalty; usually members have no duties to the LLC. Member-managed LLC — Members have a duty of care and loyalty. NOTE: See Figure 32-3: Comparison of Member- and Manager-Managed LLCs 32-2d Liabilities No personal liability for LLC’s obligations is incurred by any member or manager solely by reason of being a member or acting as a manager. The limitation on liability, however, will not affect the liability of a member or manager who committed the wrongful act. A member or manager is also personally liable for any LLC obligations guaranteed by the member or manager. 32-2e Dissolution Ending an LLC involves three steps: (1) dissolution, (2) winding up or liquidation, and (3) termination. LLC statutes require a public filing in connection with dissolution. For example, after winding up the company, some LLC statutes provide for the filing of articles of dissolution stating (1) the name of the company, (2) the date of the dissolution, and (3) that the company’s business has been wound up and the legal existence of the company has been terminated. Other statutes require either (1) a public filing of the intent to dissolve at the time of dissolution or (2) filings at both the time of dissolution and after winding up. Causes: Most LLC statutes no longer require that LLCs dissolve at the end of a stated term. Moreover, LLC statutes either (1) provide that a member’s dissociation does not cause dissolution or (2) permit the remaining members, by either unanimous or majority vote, to avoid dissolution upon a member’s disassociation. LLC statutes generally provide that an LLC will automatically dissolve upon the following: (1) expiration of the LLC's agreed duration, (2) written consent of all the members, or (3) a decree of judicial dissolution. Dissociation — means that a member has ceased to be associated with the company due to death, retirement, voluntary withdrawal, incompetence, expulsion, or bankruptcy. Initially, many LLC statutes required an LLC to be dissolved upon dissociation of a member. Most statutes permitted nondissociating members by unanimous consent to continue the LLC after a member dissociates. Some allowed continuation by majority vote. Although some States still retain these provisions, a number of States and the amended ULLCA have eliminated a member’s dissociation as a mandatory cause of dissolution. Winding Up — A limited liability company continues after dissolution only for the purpose of winding up its business, which involves completing unfinished business, collecting debts, disposing of inventory, reducing assets to cash, paying creditors, and distributing the remaining assets to the members. During this period, the fiduciary duties of members and managers continue. Authority — Upon dissolution, the actual authority of a member or manager to act for the LLC terminates, except so far as is appropriate to wind up LLC business. Actual authority to wind up includes the authority to complete existing contracts, to collect debts, to sell LLC assets, and to pay LLC obligations. In addition, some statutes expressly provide that after dissolution, members and managers continue to have apparent authority to bind the company that they had prior to dissolution provided that the third party did not have notice of the dissolution. Distribution of Assets — default order: (1) to creditors, including members who are creditors, (2) to members and former members in satisfaction for unpaid distributions, (3) to members for the return of their contributions, and (4) to members for their limited liability company interests in the proportions in which members share in distributions. Protection of Creditors — Many LLC statutes establish procedures to safeguard the interests of the LLC’s creditors. Such procedures typically include the required mailing of notice of dissolution to known creditors, a general publication of notice, and the preservation of claims against the LLC for a specified time. For example, the ULLCA provides that a claim against the LLC is barred unless a proceeding to enforce the claim is commenced within five years after publication of the notice of dissolution. CASE 32-5 IN THE MATTER OF 1545 OCEAN AVE., LLC Appellate Division of the Supreme Court of New York, Second Department, 2010 72 A.D.3d 121, 893 N.Y.S.2d 590 http://scholar.google.com/scholar_case?q=893+N.Y.S.2d+590&hl=en&as_sdt=2,34&case=6048414753116119174&scilh=0 Austin, J. [1545 LLC was formed in November 2006 by its two members Crown Royal Ventures, LLC (Crown Royal) and Ocean Suffolk Properties, LLC (Ocean Suffolk) who executed an operating agreement that provided for two managers: Walter T. Van Houten (Van Houten), who was a member of Ocean Suffolk, and John J. King, who was a member of Crown Royal. Each member of 1545 LLC contributed 50 percent of the capital, which was used to purchase premises known as 1545 Ocean Avenue in Bohemia, New York on January 5, 2007. 1545 LLC was formed to purchase the property, rehabilitate an existing building, and build a second building for commercial rental. Van Houten, who owns his own construction company, Van Houten Construction (VHC), was permitted to submit bids for the project, subject to the approval of the managers. Article 4.1 of the operating agreement provides that “[a]t any time when there is more than one Manager, any one Manager may take any action permitted under the Agreement, unless the approval of more than one of the Managers is expressly required pursuant to the [operating agreement] or the [Limited Liability Company Law].” Article 4.12 of the operating agreement entitled, “Regular Meetings,” does not require meetings of the managers with any particular regularity. Meetings may be called without notice as the managers may “from time to time determine.” The managers disagreed about various aspects of the construction work performed on the LLC property by VHC, which billed 1545 LLC the sum of $97,322.27 for this work. King claims that he agreed 1545 LLC would pay VHC’s invoice on the condition that VHC would no longer unilaterally do work on the site. Notwithstanding King’s demand, VHC continued working on the site. Despite his earlier protests, King did nothing to stop it. The managers also disagreed about which company to hire to perform environmental remediation work on the site. King contended that thereafter tensions between King and Van Houten escalated and that Van Houten refused to meet on a regular basis, proclaiming himself to be a “cowboy” and would “just get it done.” Nevertheless, King acknowledged that the construction work undertaken by VHC was “awesome.” By April 2007, King announced that he wanted to withdraw his investment from 1545 LLC. He proposed to have all vendors so notified telling them that Van Houten was taking over the management of 1545 LLC. As a result, Van Houten viewed King as having resigned as a manager of 1545 LLC. Ultimately, King sought to have Ocean Suffolk buy out Crown Royal’s membership in 1545 LLC or, alternatively, to have Crown Royal buy out Ocean Suffolk. Despite discussions regarding competing proposals for the buyout of the interest of each member by the other member, no satisfactory resolution was realized. During this period of disagreements, VHC continued to work unilaterally on the site so that the project was within weeks of completion when Crown Royal filed a petition to dissolve 1545 LLC. The sole ground for dissolution cited by Crown Royal was deadlock between the managing members arising from Van Houten’s alleged violations of various provisions of article 4 of the operating agreement. The trial court granted the petition of Crown Royal to dissolve 1545 Ocean Avenue, LLC. Ocean Suffolk appealed.] Limited Liability Company Law § 702 provides for judicial dissolution as follows: On application by or for a member, the supreme court in the judicial district in which the office of the limited liability company is located may decree dissolution of a limited liability company whenever it is not reasonably practicable to carry on the business in conformity with the articles of organization or operating agreement (emphasis added). * * * * * * Limited Liability Company Law § 702 is clear that * * * the court must first examine the limited liability company’s operating agreement, [citation], to determine, in light of the circumstances presented, whether it is or is not “reasonably practicable” for the limited liability company to continue to carry on its business in conformity with the operating agreement [citation]. * * * * * * Where an operating agreement, such as that of 1545 LLC, does not address certain topics, a limited liability company is bound by the default requirements set forth in the Limited Liability Company Law [citations]. The operating agreement of 1545 LLC does not contain any specific provisions relating to dissolution. * * * Crown Royal argues for dissolution based on the parties’ failure to hold regular meetings, failure to achieve quorums, and deadlock. The operating agreement, however, does not require regular meetings or quorums [citation]. It only provides, in article 4.12, for meetings to be held at such times as the managers may “from time to time determine.” The record demonstrates that the managers, King and Van Houten, communicated with each other on a regular basis without the formality of a noticed meeting which appears to conform with the spirit and letter of the operating agreement and the continued ability of 1545 LLC to function in that context. King and Van Houten did not always agree as to the construction work to be performed on the 1545 LLC property. King claims that this forced the parties into a “deadlock.” “Deadlock” is a basis, in and of itself, for judicial dissolution under Business Corporation Law § 1104. However, no such independent ground for dissolution is available under Limited Liability Company Law § 702. Instead, the court must consider the managers’ disagreement in light of the operating agreement and the continued ability of 1545 LLC to function in that context. It has been suggested that judicial dissolution is only available when the petitioning member can show that the limited liability company is unable to function as intended or that it is failing financially [citation]. Neither circumstance is demonstrated by the petitioner here. On the contrary, the purpose of 1545 LLC was feasibly and reasonably being met. * * * * * * Thus, the only basis for dissolution can be if 1545 LLC cannot effectively operate under the operating agreement to meet and achieve the purpose for which it was created. In this case, that is the development of the property which purpose, despite the disagreements between the managing members, was being met. As the Delaware Chancery Court noted in Matter of Arrow Inv. Advisors, LLC, The court will not dissolve an LLC merely because the LLC has not experienced a smooth glide to profitability or because events have not turned out exactly as the LLC’s owners originally envisioned; such events are, of course, common in the risk-laden process of birthing new entities in the hope that they will become mature, profitable ventures. In part because a hair-trigger dissolution standard would ignore this market reality and thwart the expectations of reasonable investors that entities will not be judicially terminated simply because of some market turbulence, dissolution is reserved for situations in which the LLC’s management has become so dysfunctional or its business purpose so thwarted that it is no longer practicable to operate the business, such as in the case of a voting deadlock or where the defined purpose of the entity has become impossible to fulfill * * * [citation]. Here, the operating agreement avoids the possibility of “deadlock” by permitting each managing member to operate unilaterally in furtherance of 1545 LLC’s purpose. After careful examination of the various factors considered in applying the “not reasonably practicable” standard, we hold that for dissolution of a limited liability company pursuant to Limited Liability Company Law § 702, the petitioning member must establish, in the context of the terms of the operating agreement or articles of incorporation, that (1) the management of the entity is unable or unwilling to reasonably permit or promote the stated purpose of the entity to be realized or achieved, or (2) continuing the entity is financially unfeasible. Dissolution is a drastic remedy [citation]. * * * [T]he petitioner has failed to meet the standard for dissolution enunciated here * * * [Order of the trial court is reversed, the petition is denied, and the proceeding is dismissed.] 32-2f Mergers and Conversions Most LLC statutes expressly provide for mergers. A merger of two or more entities is the combination of all of their assets. One of the entities, known as the surviving entity, receives title to all the assets. The other party or parties to the merger, known as the merged entity or entities, is merged into the surviving entity and ceases to exist as a separate entity. Many LLC statutes provide for the conversion of another business entity into an LLC. LLC statutes and other business association statutes also provide for an LLC to be converted into another business entity. The converted entity remains the same entity that existed before the conversion. 32-3 OTHER UNINCORPORATED BUSINESS ASSOCIATIONS *** Chapter Outcome *** Distinguish between a limited liability partnership and a limited liability limited partnership. 32-3a Limited Liability Partnerships Is a general partnership that, by making the statutorily required filing, limits the liability of its partners for some or all of the partnership obligations. All of the States have enacted statutes enabling the formation of limited liability partnerships (LLPs). Formalities – General partnership must file an application with the Secretary of State. The RUPA requires a statement of qualification. Some states require unanimous approval from the partners to become an LLP, others require only a majority. Periodic renewals and reports may be required. Designation — All statutes require LLPs to designate themselves as such, using the words "limited liability partnership" or "registered limited liability partnership" or the abbreviation “LLP” or “RLLP.” Liability Limitation — Some statutes limit liability only for negligence; others limit liability to partnership torts or contract obligations that arose from negligence or misconduct, keeping unlimited liability for ordinary contracts, such as those with suppliers; some provide limited liability for all debts and obligations of the partnership. Many states have now adopted full shield statutes although some states still provide only a partial shield. NOTE: See Figure 32-4: Liability Limitations in LLP’s. 32-3b Limited Liability Limited Partnerships Is a limited partnership that limits the liability of its general partners in the same way as a LLP. The new revision of the RULPA promulgated in 2001 provides that a limited liability limited partnership “means a limited partnership whose certificate of limited partnership states that the limited partnership is a limited liability limited partnership.” The revision provides a full shield for general partners in limited liability limited partnerships: “An obligation of a limited partnership incurred while the limited partnership is a limited liability limited partnership, whether arising in contract, tort, or otherwise, is solely the obligation of the limited partnership. A general partner is not personally liable * * * for such an obligation solely by reason of being or acting as a general partner.” Instructor Manual for Smith and Robersons Business Law Richard A. Mann, Barry S. Roberts 9781337094757, 9780357364000, 9780538473637
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