Court of Appeal considers Partnership Formation

Case: Ilott v Williams & Others [2013] EWCA Civ 645

Background

Section 1 of the Partnership Act 1890 defines “Partnership” as “the relation which subsists between persons carrying on a business in common with a view of profit”.

Under the Partnership Act 1890 (PA 1890) there is no formality when establishing a partnership and following the House of Lords decision in Khan v Miah [2000] 1 WLR 2123 there is no rule of law that there is no partnership until trading actually commences.

Facts

Back in 2008 4 individuals decided to set up an asset management business and having identified the basic concept of the new business and their respective roles sought to join forces with another organisation to obtain finances for the business and regulatory approval from the FSA.  They subsequently entered negotiations with BC LP who agreed to provide capital with the new business running through a division of BC LP.  A side letter recording the division of profits (40% to the 4 individuals and 60% to BC LP) with a promise to secure that the 4 individuals became limited partners of BC LP was then prepared by the general partner of BC LP in June 2008.  The letter also stated that provided an individual remained a limited partner at all relevant times (i.e. would not be subject to a notice of removal) then, subject to there being sufficient profits, he would receive his allocation of profits in accordance with the side letter.

However, in December 2008, BC LP was restructured with its assets and liabilities transferring to an LLP of which BC LP’s general partner became a designated member and the four individuals became members.  Within the LLP deed the board of the LLP could remove an individual member by serving notice of removal if it considered service of such notice was in the best interests of the LLP.

Disagreements between 3 of the individuals and SI (the fourth) arose in 2009 and the LLP board served notice of SI’s removal to take effect 4 days prior to the end of the 2009 financial year meaning that SI would not (and actually did not) receive any distribution of profits for that financial year.

SI subsequently brought a claim for his share of the profits against:

  • The 3 remaining individuals on the grounds that they had entered into partnership together, that the partnership’s business was that of receiving distributions under the side letter and that the partnership continued to exist in parallel with membership of BC LP;
  • BC LP on the basis that it was liable under the side letter to pay profits to him; and
  • The LLP on the basis that the liabilities under the side letter had been novated to it.

SI also challenged the service of the notice of removal on him on the grounds that it was an implied term of the power of removal that it should only be exercised rationally, that is, if the LLP board considered on rational grounds that it was in the LLP’s best interests to remove SI as a member, and that the term was breached.

Decision

At first instance the Judge found the 4 individuals had not become partners and none of them had contemplated carrying on a business without limited liability.  The Court of Appeal subsequently dismissed the appeal based on the following:

  • SI had no claim against the other 3 individuals;
  • SI could not recover against BC LP or the LLP; and
  • The reasons for the service of the notice of removal on SI were capable of rationally being considered to be in the LLP’s best interests.

Comments

There was no confirmation by Arden LJ in her leading Judgment whether there is always an implied term that a power to remove a partner in an LLP should be exercised rationally.