Drashner v. Sorenson (1954) (p. 140)

1. Drashner v. Sorenson (1954) (p. 140) Donald J. Weidner January 1951, plaintiff Drashner and defendants Sorenson and Deis, associated themselves as co-owner in the real estate, loan and insurance business. For $7,500, they purchased the real estate and insurance agency known as J. Schumacher Co. located in a room on the ground floor of a hotel building. The defendant partners advanced the $7,500 purchase price, but by the time of the trial the partnership had repaid $3,000 of that amount to them. Operations were not successful and plaintiff sued for “an accounting, dissolution and winding up of the partnership.” The trial court held that plaintiff violated the terms of the partnership agreement by demanding a larger share of the income than he was entitled to receive under the agreement; was jailed for reckless driving; demanded the defendants permit him to draw money from escrow accounts for his personal purposes; and spent many normal business hours in a bar. He made it “impossible to carry on the partnership.”

2. Drashner v. Sorenson (cont’d) Donald J. Weidner • Note that under RUPA § 601(5), a partner is dissociated if the partnership or another partner obtains a judicial expulsion of the partner in any one of three situations that could be said to embrace the plaintiff partner’s conduct. • a) wrongful conduct that materially and adversely affected the business, b)willful or persistent breach, • c) conduct making it “not reasonably practicable to carry on . . . with the partner.” • Note, also, that, even without a judicial expulsion, under RUPA § 601(3), a partner is dissociated if s/he is expelled “pursuant to the partnership agreement.” • The court below concluded the defendant partners “are entitled to continue the partnership and have the plaintiff’s interest in the partnership business determined, upon the filing . . . of . . . a bond, conditioned upon the release of the plaintiff from any liability arising out of said partnership, and further conditioned upon the payment . . . of the value of plaintiff’s interest in the partnership as determined by the court.”

3. Drashner v. Sorenson (cont’d) Donald J. Weidner UPA § 38(2)(c) said that, in the case of a buyout of a partner who caused dissolution wrongfully, “in ascertaining the value of the partner’s interest, the value of the good-will of the business shall not be considered.” Court ordered dissolution of the partnership as of September 12, 1951, saying that the plaintiff was entitled to 1/3 of the value of the partnership property on that date, not including good will, after the payment of the liabilities of the partnership and the payment to the defendants of their remaining invested capital of $4,500. The court found that the partnership property was worth only $4,498, insufficient to satisfy a $480 partnership liability and fully repay the defendant partners their $4,500 (they each would be owed $241). Therefore, plaintiff’s interest was declared extinguished and the two defendants were declared the sole owners of the partnership property.

4. Drashner v. Sorenson (cont’d) Donald J. Weidner • First, court said the partnership was or a “definite term or particular undertaking,” and not merely at will: • “The agreement . . . contemplated an association which would continue at least until the $7,500 advance of defendants had been repaid from the gross earnings of the business. Hence, it was not a partnership at will.” • Second, since it was a term partnership (for a specific undertaking), did one side or the other wrongfully dissolve? • Each said the other “had caused the dissolution wrongfully by willfully and persistently committing a breach of the partnership agreement, and by so conducting himself in matters relating to the partnership business as to render impracticable the carrying on of the business in partnership with him.” • The split between the parties “resulted from the continuing controversy over the right of plaintiff to withdraw sufficient money from the partnership to defray his living expenses.” • Plaintiff was dependent upon his earnings to support his family; the defendants had other resources.

5. Drashner v. Sorenson (cont’d) Donald J. Weidner Trial court found an oral partnership agreement in which each partner was to draw as compensation 1/3 of ½ of the commissions earned upon sales made by the partners. The other ½ of the commissions on sales made by partners, plus ½ of the commissions made by other salesmen and the earnings from the partnership’s insurance business, was to be put into a fund, first to pay operating expenses, and second to repay capital advanced, and an additional $800 advanced to cover operating expenses. [apparently equal division of remaining equity]. S. Ct. affirmed that plaintiff wrongfully dissolved by his “insistent and continuing demands” and his “attendant conduct” that “rendered it reasonably impracticable to carry on the business in the partnership with him.” The court noted evidence of the “great value” of the good will of the business. $7,500 was a lot to pay for a small office with very moderate fixtures, on a month to month lease, with its listing of properties, and a 2-year promise by the seller not to compete in the same city.

6. Drashner v. Sorenson (cont’d) Donald J. Weidner • For the first 7 months of 1951 (formed in Jan.), the gross commissions earned exceeded $22,000 (just before the court declared dissolution): • In that period, the received commissions paid all expenses, including the commissions of salesmen, retired $3,000 of the $7,500 purchase price advanced by defendants, and all of $800 of working capital so advanced, allowing the parties to withdraw $1,453.02 each, and accumulated a cash balance of $2,221.43. • The U.P.A. provided for a forfeiture of good will “as a sanction for causing the dissolution of a partnership wrongfully.” • “With the most valuable asset of the business [good will] eliminated,” not enough remained to call into question the trial court’s judgment that there was no equity left to distribute to the plaintiff. • There was nominal furniture and fixtures, there were some receivables worth only $777.47 and items of commission due in the amount of $8,100. Most of these had been placed with attorneys for collection. Plaintiff and defendants disputed their value, with little evidence of the particulars.

7. Drashner v. Sorenson (cont’d) Donald J. Weidner • The court addressed the “listings of real estate for sale” at a fixed price, with a 5% commission. • Defendants say these listings are part of the good will of the business. • Plaintiff produced a witness who said the listings with which he was familiar were worth 5% of the sales price. • “Although these listings may have resulted in part at least from the good will of customers to the agency, . . . they are not . . . good will” for purposes of the UPA. • By statute, “good will” is “the expectation of continued public patronage.” It is also defined as the “element of value which inheres in the fixed and favorable consideration of customers, arising from an established and well-known and well-conducted business.”

8. Drashner v. Sorenson (cont’d) Donald J. Weidner • “Rather than being an element of good will value, these listings take on the aspect of going concern value as that concept is customarily employed in fixing rates for utilities. Until such a list is established a real estate agency is not a going concern. Money, time, energy and skill go into its establishment. Therefore, we think it would be reasonable, in fixing the overall value of a real estate business, to attach such a value to its list of property for sale as is comparable to the expense involved in its establishment.” • “The reason it cannot be valued on an exchange basis, is that these listings are not transferable, and are revocable at will.” • Do these listings represent “unfinished business” of the firm? • Works in progress? Trade secrets? • The trial court did not say the listings had no value (just not very significant value).

9. Drashner v. Sorenson (cont’d) Donald J. Weidner • “In arriving at the conclusion that these listings should not carry a high estimate of value, the court was undoubtedly influenced by the foregoing considerations and by the further fact that plaintiff had been with the office for several years and had secured many of these listings, and, therefore, the probability was not remote that some of them would follow him out of the agency.” • There wasn’t much evidence of value submitted. • Therefore, the trial court’s very low estimate of the value of these assets will not be overturned. * * * • RUPA eliminates the UPA rule of forfeiture of good will. Under RUPA, unless the partnership’s good will is damaged by a wrongful dissociation, the value of the wrongfully dissociating partner’s interest will include any goodwill value of the partnership. If the firm’s good will is damaged, the amount of the damages suffered by partnership and the remaining partners will be offset against the buyout price.

10. RUPA’s Buyout: Selected Rules from Section 701 (p. 145) Donald J. Weidner If a partner is dissociated without resulting in a dissolution, RUPA § 701(a) states that “the partnership shall cause the dissociated partner’s interest in the partnership to be purchased for a buyout price determined pursuant to subsection (b).” “(b) The buyout price of a dissociated partner’s interest is the amount that would have been distributable to the dissociating partner under Section 807(b) [the rules on settlement of accounts on a liquidation] if, on the date of dissociation, the assets of the partnership were sold at a price equal to the greater of the liquidation value or the value based on a sale of the entire business as a going concern without the dissociated partner and the partnership were wound up as of that date.”

11. RUPA’s Buyout: Selected Rules from Section 701 (cont’d) Donald J. Weidner • “(d) A partnership shall indemnify a dissociated partner whose interest is being purchased against all partnership liabilities, whether incurred before or after the dissociation, except liabilities incurred by an act of the dissociated partner under Section 702.” • After dissociation: a partner who is being bought out can be liable as a partner to the other party to a transaction entered into by the partnership within two years after the partner’s dissociation if the other party reasonably believed that the dissociated partner was still a partner [unless a “statement of dissociation” is filed that puts third parties on constructive notice of the dissociation in only 90 days]. • As we have seen, subsection (h) provides that a partner who wrongfully dissociates before the expiration of a term or the completion of an undertaking “is not entitled to payment of . . . the buyout price until the expiration of the term or completion of the undertaking, unless the partner establishes . . . that earlier payment will not cause undue hardship to the business of the partnership. A deferred payment must be adequately secured and bear interest.”

12. Note on Business Valuation (p. 146) Donald J. Weidner • As the note suggests, we are barely scratching the surface on the topic of business valuation. But some beginning is better than none. • Valuation is a specialty and is often as much art as it is science. • Text indicates that courts often look at three different indications of value of a business: • recent sales of comparable businesses; • works well only when there are recent comparable sales • the value of the business’s underlying assets (their replacement cost); • may be appropriate when a business depends upon a few key assets; • the value of the expected future profits from the business • estimate an expected stream of earnings over the lifetime of the business • reduce that future stream of earnings to its present value (aka “discount” it to its present value) • a dollar you won’t receive until next year is not worth as much as a dollar you receive now • how much less it is worth will depend on your discount rate • The higher the rate of return you expect on your money, the less that future dollar is worth to you

13. Method #3: Reduce a Future Stream of NOI to its Present Value Values property by A) estimating the net operating income for each year into the future; and b) discounting those future flows of cash to their present value. Discounting is the obverse of compound interest. Assume you estimate NOI of $1,000 a year for each of 10 years. How much would you pay to purchase a 10-year position as landlord the right to receive $1,000 yr. rent for 10 years? Stated differently, what is the total present value of the right to receive $1,000 in cash at the end of each of the next ten years? The answer depends upon the rate of return you insist on. Assume the investor insists on a 20% rate of return. Because the 10, $1,000 payments are spread over the next 10 years, their total present value is the sum of the present value of each of the future payments. That is: • .833 x $1,000 = 833 • .694 x $1,000 = 694 • .579 • .482 • .402 • .335 • .279 • .233 • .194 • .162 x $1,000 = 162 • $4,193 Donald J. Weidner

14. Business Valuation (cont’d) Donald J. Weidner An appraiser friend tells me that, if a “key person” is leaving, the appraiser may increase the discount rate that will apply to the future anticipated income stream (that is, the business will be valued at a lower amount because of the risk created by the loss of a key person). Reconciliation is the process of relating these three factors (recent sales, replacement cost and capitalized value of income) to determine a value-- it does not simply average them. A reconciliation may select one factor as the most important. Ultimately, valuation is a matter of definition and of judgment. Written appraisals of commercial properties can be voluminous.

15. Business Valuation (cont’d) Donald J. Weidner • Text: “In computing a dissociating partner’s buyout price, courts ordinarily will begin by computing the value of the whole partnership. Recall that § 701(b) specifies that the business’s value is to be computed as “the greater of the liquidation value or the value based upon a sale of the entire business as a going concern without the dissociated partner and the partnership were wound up as of that date.” • In this context, “liquidation” is a term that largely refers to the net value of the partnership’s assets. Since that value is ordinarily less than the value of a business as a “going concern,” RUPA here merely confirms an ordinary principle of valuation.”

16. Business Valuation (cont’d) Donald J. Weidner • After computing the value of the entire partnership business, the question is how much of that value goes to the partner who is being bought out? • Section 807(a). “In a winding up a partnership’s business, the assets of the partnership, including the contributions of the partners required by this section, must be applied to discharge its obligations to creditors, including, to the extent permitted by law, partners who are creditors.” • Any surplus must be applied to pay in cash the net amount distributable to the partners” under § 807(b), which provides, in part: • “In settling accounts among the partners, profits and losses that result from the liquidation of the partnership assets must be credited and charged to the partner’s capital accounts. The partnership shall make a distribution to a partner in an amount equal to any excess of the credits over the charges in the partner’s account. A partner shall contribute to the partnership an amount equal to any excess of the charges over the credits in the partner’s account but excluding from the calculation charges attributable to an obligation for which the partner is not personally liable under Section 306(6).”

17. Business Valuation (cont’d) Donald J. Weidner • RUPA § 701 comment: • “’Buyout price is a new term. It is intended to be developed as an independent concept appropriate to the partnership buyout situation, while drawing on valuation principles developed elsewhere. * * * Liquidation value is not intended to mean distress sale value. Under general principles of valuation, the hypothetical selling price in either case should be the price that a willing and informed buyer would pay a willing and informed seller, with neither being under any compulsion to deal.” • Dixon says RUPA gives the court discretion to determine the buyout price.

18. Warnick v. Warnick (2006) (p. 148) Donald J. Weidner “Warnick Ranches” is the name given to 3 Warnick partners who were continuing partners who were required to buy out the partnership interest of Randall, the 4th Warnick partner. Because Randall’s dissociation did not cause a “dissolution and winding up” of the partnership, it was required to buyout Randall. The continuing partners complain that, when the district court determined the “buyout price,” it failed to make any deduction for an estimated $50,000 in costs that would be incurred to liquidate partnership assets. The “buyout price is the amount that would have been paid to the dissociating partner following a settlement of accounts upon the winding up of the partnership, if, on the date of dissociation, the assets of the partnership were sold at a price equal to the greater of the liquidation value or the value based on a sale of the business as a going concern without the dissociating partner.” [paraphrase of RUPA § 701(b)]

19. Warnick v. Warnick (cont’d) Donald J. Weidner • Partnership assets must first be applied to discharge partnership liabilities to creditors (including partners who are creditors) before a partner’s distribution can be determined. • “In computing the buyout price, the amount the dissociated partner receives is reduced by his or her share of the partnership liabilities.” • According to the court, the continuing partners--Warnick Ranches—did not argue “that the costs associated with a hypothetical sale of ranch assets should be considered a partnership liability.” • Instead, they focused solely “upon the valuation of the partnership’s assets” under RUPA § 701(b)(defining the “buyout price”).” • “A common understanding of liquidation is ‘[t]he act or process of converting assets into cash.’ Warnick Ranches [the three continuing partners] appears to assume that the liquidation value of the ranch is the amount of cash that would remain following a sale.” • “This assumption is not supported by the pertinent statutory language and the circumstances of this case.”

20. Warnick v. Warnick (cont’d) Donald J. Weidner The continuing partnership retained these assets and never sold them. “When a business is not actually dissolving, ‘valuation may be difficult and will have to be based to some extent on estimates and appraisals.’” Therefore, both the asset liquidation and the “urged $50,000 deduction” were only hypothetical. “Liquidation value” is not intended to be “net proceeds from a distress sale.” Importantly, the buyout price is stated to be the greater of liquidation value orvalue based on a sale of the entire business as a going concern without the dissociated partners.

21. Warnick v. Warnick (cont’d) Donald J. Weidner “The liquidation value looks to the value of the partnership’s assets less its liabilities and determines each partner’s appropriate share. When valuing a going concern, however, the market value of the partnership interest itself is what is at stake, rather than the percentage of net assets it represents. Depending on circumstances, the market value of the partnership interest may be more or less than the value of the same percentage of net assets.” “By providing two approaches, [RUPA] contemplates variations that could result from differing appraisal techniques and varying business circumstances.” Here, the “district court did not specify which valuation method was selected, and it was therefore possible that the value used in the buyout price calculation represented the going concern value of the ranch.” (particular assets would not be sold) “Were we to conclude that the district court used a figure which represented the going concern value, our analysis could end here without further discussion of hypothetical costs of sale.”

22. Warnick v. Warnick (cont’d) Donald J. Weidner • “However, even if the district court valued the partnership assets using liquidation value, the deduction for costs associated with a hypothetical sale would not be warranted. . . . [L]iquidation value is not the amount of the seller’s residual cash following a sale. * * * ‘[L]iquidation value’ simply means the sale of the separate assets rather than the value of the business as a whole.” • In effect, gross value not net value? • Court noted the Wyoming legislature added RUPA Comment to the text of § 701(b): Under either valuation method, the sale price is to be determined “on the basis of the amount that would be paid by a willing buyer to a willing seller, neither being under any compulsion to buy or sell, and with knowledge of all relevant facts.”

23. “Dissolution and Winding Up” and Termination (p. 151) Donald J. Weidner A “dissolution and winding up” leading to a termination can be caused various types of dissociations. It can also be caused by a few other events. The text notes that the default rules of § 801 contain four events that frequently cause a winding up of the partnership business: A partner intentionally withdraws from a partnership at will (and the partnership agreement does not provide for a continuation of the business in that event). A partnership for a term or for a particular undertaking completes its term or undertaking, or all the partners agree to wind up the business. The partnership agreement requires a winding up. Either a partner or a transferee applies for a court order declaring the partnership should be wound up.

24. “Dissolution and Winding Up” and Termination (cont’d) Donald J. Weidner • Winding up begins with a contraction in the scope of the partnership business. The partnership is generally not to take on new business. Rather, its scope is limited to completing current matters, selling its assets, paying off partnership liabilities, and distributing any remaining equity to the partners. In some cases, partners may be asked to contribute additional capital. When this process is completed, the partnership is terminated. • Because some assets, and some liabilities, may not be apparent—they could be hidden or simply unidentified--it is not always easy to determine when a partnership has been fully wound up and hence terminated. • The winding up process may be lengthy, complicated, and could involved litigation. • Because the winding up period is simply a period in which the scope of the continuing partnership has contracted, all the partners can participate (other than a partner who has wrongfully dissociated).

25. “Dissolution and Winding Up” and Termination (cont’d) Donald J. Weidner • In an ordinary winding up, the partnership will sell its remaining assets, which does not mean that the business will be discontinued. • As we have seen, a business can often most profitably be sold as a “going concern” rather than simply a sale of individual assets. If all the partnership assets are sold, it may resemble, from the outside, a total sale of “the business.” It can be. The partnership winds up its business and terminates,but the business itself may be continued by the new buyers. • “Indeed, a former partner, a group of them, or some combination of former partners and outsiders may buy the business—if, for example, they bid the most for it at an auction. • This looks like what was going to happen in Page v. Page • Therefore, as a practical matter, some windups may look very much like buyouts.

26. Creel v. Lilly (1999) (p.152) Donald J. Weidner On June 1, 1993, Joe Creel began selling retail NASCAR memorabilia out of a room in his wife’s florist shop. A little over a year later, he decided to raise capital to grow the business. On September 20, 1994, he signed a partnership agreement with Arnold Lilly and Roy Altizer to form a general partnership called “Joe’s Racing.” The three-person partnership opened a retail store. Lilly and Altizer each made an initial contribution of $6,666 to the capital of the partnership. Creel contributed his inventory and supplies valued at $15,000. In addition, Lilly and Altizer each paid $3,333 to Creel “for the use and rights to the business known as Joe’s Racing Collectables.” [Total Lilly and Altizer contributions/payments of $20,000]

27. Creel v. Lilly (cont’d) Donald J. Weidner The funds were placed in a partnership bank account on which all three partners were signatories. Eight months later, Creel unilaterally and secretly took his partners’ names off the account as signatories. They learned about it after he died, when the bank froze them out of the account. Even before that, and also without their knowledge, Creel paid a $5,000 retainer to an attorney to prepare documents to market franchises for retail stores selling racing memorabilia. Creel died about 9 months after the partnership was formed (with a 52% share of profits and losses). The primary issue is whether the Maryland UPA “permits the estate of a deceased partner to demand liquidation of partnership assets in order to arrive at the true value of the business.”

28. Creel v. Lilly (cont’d) Donald J. Weidner Under the UPA, when a partner died, the partnership was required to enter into a winding up, and could not merely offer the deceased partner’s estate a buyout, unless (1) the partnership agreement provided for continuity or (2) the estate agreed to the buyout. Both courts below were uncertain about the interpretation of the agreement, but held for the surviving partners. In this case, the surviving partners said they had a right to continue and they conducted a full inventory, provided a full accounting to the estate of the value of the business as of the date of dissolution, and paid the estate its share of the surplus. Court said, because of the uncertainty of the trial court’s rationale, it would consider the agreement, the UPA, and the newly enacted RUPA.

29. Creel v. Lilly (cont’d) Donald J. Weidner • At the outset, the court noted its hostility to what we now call a winding up as opposed to a buyout. • The court reflected a view that came to prevail in the drafting of RUPA: • Liquidation “can be a harsh, drastic, and often unnecessary course of action. A preferred method in a good faith winding up, which was utilized in this case, is to pay the deceased partner’s estate its proportionate share of the value of the partnership, derived from an accurate accounting, without having to resort to a full liquidation of the business [a buyout]. To hold otherwise vests excessive power and control in the deceased partner’s estate, to the extreme disadvantage of the surviving partners.”

30. Creel v. Lilly (cont’d) Donald J. Weidner RUPA allows the partnership to continue after the departure of a member because it views the partnership as an entity. Its “major innovation” is the delineation of the two possible paths, the continuation with a buyout or a winding up and termination. “Critically, under RUPA the estate of the deceased partner no longer has to consent in order for the business to be continued nor does the estate have the right to compel liquidation . . . .” Even prior to RUPA, courts tried to avoid the harsh UPA rule requiring liquidation on death of a partner, including ordering “in kind” distributions of assts. The policy reason is made clear in the Bromberg quote which, we shall see, also applies to closely-held corporations and to LLCs.

31. Creel v. Lilly (cont’d) Donald J. Weidner The note quoting Bromberg: “The liquidation right will be injurious to the business in many, perhaps in most, cases. One authority has described it as ‘ruinous.’ Whether it really is depends on the relative value of the business sold and the business retained. Such values are partly subjective and partly influenced by specific facts. But, it is rare that a small business . . . can be sold for as much as the owners think it is worth to themselves. This is true if it is disposed of intact as a going concern, and even more so if it is sold piecemeal. In short, the likelihood of loss of value is great enough to require every partnership to look to the ways of denying or restricting the liquidation right.” “The legislature’s recent adoption of RUPA indicates that it views with disfavor the compelled liquidation of businesses and it [allows] the continuation of business without disruption, in either the original or successor form, if the surviving partners choose to do so through buyout out the deceased partner’s share.”

32. Creel v. Lilly (cont’d) Donald J. Weidner • Court was applying the UPA, not RUPA, and “interpreted” the partnership agreement (which estate says was silent on the point) • apparently drafted without the assistance of counsel • “7. TERMINATION • (court says means “dissolution” and “attendant winding up processes”) • “(a) That, at the termination of the partnership, a full and accurate inventory shall be prepared, and the assets, liabilities, and income, both in gross and net, shall be ascertained: the remaining debts or profits will be distributed according to the percentages shown above in 6(e). * * * • (court says assets etc. must be “ascertained,” but doesn’t mandate it be accomplished by forced sale, which is not mentioned. Also, this is what was done here, says court) • (d) Upon the death or illness of a partner, his share will go to his estate. If the estate wishes to sell his interest, they must offer it to the remaining partners first.” • (No “fire sale” mentioned here, either, crude continuation agreement, says court)

33. Creel v. Lilly (cont’d) Donald J. Weidner In short, the court reached to “find” a buyout option in the partnership agreement. Even apart from that, the court said, even under the UPA, it would uphold the buyout that was implemented here. There was a secondary issue. The estate asked for “its share of the partnership profits generated by the Respondents’ alleged continued use of partnership assets for the period of time during which [the estate] claims the Respondents neither liquidated the business nor agreed to pay the estate its proper percentage share of the partnership.” This court affirmed the decision of the courts below and found “no basis for damages because Good Ole Boys Racing (Good Ole Boys) is a successor partnership and not a continuation of Joe’s Racing, which was properly wound up and terminated before the new partnership began operations.”

34. Creel v. Lilly (cont’d) Donald J. Weidner • On the primary issue, the court said the continuing partnership/successor partnership issue does not matter. On this secondary issue, however, the court said the initial partnership was properly wound up on August 31, 1995. Good Ole Boys was thus a successor partnership and no “continuation damages” are at issue. • “When the winding up process is complete, any monies owed to the deceased partner’s estate cease as of this date.” • McCormick v. Brevig(2002) distinguished Creed v. Lilly as applying to a “exit” by death. It said that, when there is a court-ordered dissolution under RUPA § 801(5)*, “the partnership assets must necessarily be reduced to cash in order to satisfy the obligations of the partnership and distribute any net surplus in cash to the remaining partners in accordance with their respective interests.” * RUPA § 801(5) lists several situations in which, on the application of a partner, a court can order a dissolution, including conduct of another partner that makes it not reasonably practicable to carry on the business with that partner.

35. Note to Creed v. Lilly: RUPA § 801(6) Donald J. Weidner RUPA § 801(6) authorizes judicial dissolution: “(6) on application by a transferee of a partner’s transferable interest, a judicial determination that it is equitable to wind up the partnership business: * * * “(ii) at any time, if the partnership was a partnership at will at the time of the transfer or entry of the charging order that gave rise to the transfer.”

36. RUPA § 807: Settlement of Accounts among Partners Donald J. Weidner • We saw earlier the “account” each partner is “deemed” to have under RUPA § 401. It comes into play on winding up. • § 807(a) says, on winding up, the partnership assets (including partner contributions required by this section) must be applied to discharge its obligations to creditors, including partner creditors. Then, “Any surplus must be applied to pay in cash the net amount distributable to partners in accordance with their right to distributions under subsection (b).” • “(b) Each partner is entitled to a settlement of all partnership accounts upon winding up the partnership business. In settling accounts . . . profits and losses that result from the liquidation of the partnership assets must be credited and charged to the partners’ accounts. The partnership shall make a distribution to a partner in an amount equal to any excess of the credits over the charges in the partner’s account.” • This is one function of the capital account, it drives the distribution of what remains inside the partnership.

37. RUPA § 807: Settlement of Accounts among Partners (cont’d) Donald J. Weidner • § 807(b) continues: • “A partner shall contribute to the partnership an amount equal to any excess of the charges over the credits in the partner’s account but excluding from the calculation charges attributable to an obligation for which the partner is not personally liable under Section 306.” • This is the second function of capital accounts: a negative capital account is a debt to the partnership that must be paid. • The “exclusions” refer to preadmission losses and obligations of an LLP for which the partner is not liable.

38. Kovacik v. Reed (1957) (p. 162) Donald J. Weidner Money partner sues Services partner for dissolution “of a joint venture” and for an accounting. Money, a general contractor, agreed with Services to contribute $10,000 to a venture to do kitchen remodeling work with Sears. Services, who had superintended and estimated jobs for other general contractors, agreed to do the same for their venture. The trial court found: “neither plaintiff nor defendant was to receive compensation for their services rendered to the joint venture, but plaintiff and defendant were to share equally all their joint venture profits and losses between them.” The Supreme Court found no evidence of an agreement to share losses. The statutory rule is that losses are to be shared in accordance with profits. The statute makes no distinction based on whether the Service provider receives compensation.

39. Kovacik v. Reed (cont’d) Donald J. Weidner • Court: Where, however, no compensation is paid, and one contributes capital and the other services, neither is liable to the other for contribution or loss sustained. • “The rationale of this rule is that where one party contributes money and the other contributes services, then in the event of a loss each would lose his own capital—the one his money and the other his labor.” • “Another view would be that in such a situation the parties have, by their agreement to share equally in profits, agreed that the values of their contributions—the money on the one hand and the labor on the other—were likewise equal; it would follow that upon the loss . . . of both money and labor, the parties have shared their loss equally.” • Perhaps another way of saying this, is that the parties have agreed to “credit” services, and her capital account, with the value of her services. • Therefore, in a no compensation situation, the court found no duty on the service partner to share in the money partner’s losses to capital.

40. Note to Kovacik v. Reed (p. 164) Donald J. Weidner Eisenberg & Cox: “The approach taken in Kovacik is sound. If a services-only partner has been fully compensated for his services, it is hard to see why he should not be required to contribute toward making up a capital loss. Otherwise, a capital partner would bear all the partnership's loss and the services-only partner would bear none in the event that a partnership lost the full value of the capital partner’s contributions and then dissolved.” RUPA’s default rules do not take into account whether the service partner has been compensated. The Note indicates: “Some rules of the [statutes] produce unsatisfactory results . . . . Courts that want to avoid these results will sometimes do so . . . by holding that a ‘special rule’ applies to joint venturers . . . . In many . . . of such cases, the desired result could probably be reached, without applying special rules to joint ventures, by finding that the parties had an implied agreement that overrides the relevant rules of [the statutes].”

41. Problem: Mrs. Ginger Cola (p. 165) Donald J. Weidner • Rachael and Evan enter into a partnership to manufacture a new soda drink, Mrs. Ginger. Rachael contributes $30,000 and Evan will operate the partnership with no salary as long as it exists. They orally agree to split profits and losses equally. • After a year, the partnership has spent its $30,000 in cash and no assets remain. Rachel wants to continue, and lends the partnership $10,000. The partnership also borrows $10,000 from a bank. • What result if Rachel withdraws and seeks a judicial dissolution under RUPA § 801(5)? • For example, claiming that “the economic purpose of the partnership is likely to be unreasonably frustrated.’ RUPA § 801(5)(i). Comment says “truly poor economic performance” can suffice.

42. Problem, Part 1, at Formation Donald J. Weidner Assets = Liabilities $ 30,000 Cash 0 + Equity (Capital Accounts) Rachel Evan $30,000 $0 What us the status of the accounts after the $30,000 is all lost?

43. Problem, Part 2-- After $30,000 is lost Donald J. Weidner Assets = Liabilities $ 0 0 + Equity (Capital Accounts) Rachael Evan $15,000 ($15,000) What is the status of the acccounts after there are the two $10,0000 loans and their proceeds are lost?

44. Problem, Part 3-- After Two $10,000 Loans Are Taken Out and Lost Donald J. Weidner Assets = Liabilities $0 $10,000 to Bank $10,000 to Rachael + Equity (Capital Accounts) Rachael Evan $ 5,000 ($25,000)

45. Un-Ringing the Dissolution Bell (p. 165) Donald J. Weidner • RUPA § 802(b)(1): • “(b) At any time after the dissolution of a partnership and before the winding up of its business is completed, all of the partners, including any dissociating partner other than a wrongful dissociating partner, may waive the right to have the partnership’s business wound up and the partnership terminated. In that event: • (1) the partnership resumes carrying on the business as if dissolution had never occurred, and any liability incurred by the partnership or a partner after the dissolution and before the waiver is determined as if dissolution had never occurred . . . . “

46. The Limited Liability Partnership (p. 167) Donald J. Weidner The limited liability partnership is often discussed as a separate “form” of organization. I do not think of it that way. The limited liability partnership statutory provisions are part of RUPA. If the partners in a “general” partnership want to end their joint and several liability for partnership obligations, they will cause their partnership to adopt a “shield” and become a “limited liability partnership. ” The partnership becomes an LLP by filing a “statement of qualification,” as provided in RUPA § 1001. After it adopts the shield, the partnership is subject to all the RUPA rules we have been discussing, except the rule that partners are jointly and severally liable for partnership obligations.

47. The Limited Liability Partnership (cont’d) Donald J. Weidner • The shield is defined in RUPA § 306(c): “(c) An obligation of a partnership incurred while the partnership is a limited liability partnership, whether arising in contract, tort, or otherwise, is solely the obligation of the partnership. A partner is not personally liable, directly or indirectly, by way of contribution or otherwise, for such an obligation solely by reason of being or so acting as a partner. This subsection applies notwithstanding anything inconsistent in the partnership agreement that existed immediately before the vote required to become a limited liability partnership under Section 1001(b). • The Official Comment states what the statute does not: “partners remain personally liable for their own personal misconduct.” • As the Comment explains, for a partnership that existed prior to the adoption of the shield, it is important to determine whether an obligation is incurred “while the partnership is a limited liability partnership.”

48. The Limited Liability Partnership (cont’d) Donald J. Weidner For example, assume a partnership has a 10-year lease of its offices, with rent payable monthly. After year 1 of the lease, the partnership files a statement of qualification and becomes a LLP. Do the partners cease to be liable for the rent after the shield is adopted? “When an obligation is incurred is determined by other law. Under that law, and for the limited purpose of determining when partnership contract obligations are incurred, the reasonable expectations of creditors and the partners are paramount . . . .” “For the limited purpose of determining when partnership tort obligations are incurred, a distinction is intended between injury and the conduct causing that injury. * * * Partnership obligations under or relating to a tort generally are incurred when the tort conduct occurs rather than at the time of the actual injury or harm. This interpretation prevents a culpable partnership from engaging in wrongful conduct and then filing a statement of qualification . . . .”

49. The Limited Liability Partnership (cont’d) Donald J. Weidner • The shield that results from filing a statement of qualification obviously has a major impact on third parties. • Hence, RUPA § 1001 provides: “The name of a limited liability partnership must end with ‘Registered Limited Liability Partnership,’ ‘Limited Liability Partnership,’ ‘R.L.L.P.,’ ‘L.L.P.,” ‘RLLP,’ or ‘LLP.’” • The move to LLP status can also have significant impact within the partnership. Hence, RUPA’s default rule is that there must be unanimous consent of the partners to become an LLP: • § 1001(b): “The terms and conditions under which a partnership becomes a limited liability partnership must be approved by the vote necessary to amend the partnership agreement except, in the case of a partnership agreement that expressly considers obligations to contribute to the partnership, the vote necessary to amend those provisions.” • “[E]ach partner is released from the personal contribution obligation . . . in exchange for relinquishing the contribution obligations of other partners . . . . The wisdom of this bargain will depend on many factors including the relative risks of the partners’ duties and the assets of the partnership.”

50. Roe v. Ladymon (2010) Donald J. Weidner One minor but significant detail: Roe v. Ladymon raises the practical question of how an entity can sign a contract. Blane Ladymon, as a general partner of Metro LLP, signed a contract with TP under which the Metro LLP agreed to remodel TP’s home. TP sued Blane individually because he was a “signatory to the contract.” The court held for Blane, saying he was not one of the “Parties” identified in the contract. Rather, he was signing the contract “on behalf of” the LLP, and “not on his own behalf.” Restatement (Second) of Agency § 320 (1958): “Unless otherwise agreed, a person making or purporting to make a contract with another as agent for a disclosed principal does not become a party to the contract.”