Corporate Matters: One Clause that Should Be in Every Partnership Agreement

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Our practice involves the drafting of many different types of partnership agreements and other agreements governing the relationship among individuals involved in a common enterprise. These agreements include general and limited partnership agreements, operating agreements or limited liability company agreements, and shareholder agreements for corporations. In this article, all these types of entities are referred to as “joint ventures.”

During the initial client discussions with respect to these agreements we highlight and discuss the usual laundry list of matters that co-investors should consider at the time of formation. One matter that we believe should be addressed in every joint venture agreement is what happens upon the death of a member of the joint venture. For obvious reasons, many do not want to focus on this point. However, the procedure to be followed when surviving spouses and heirs inherit an ownership interest is best handled at the beginning of the joint venture. While it may appear that all joint venture members have similar interests, relationships can change very quickly, and the bottom line is that while one may be very interested in being in partnership with a certain individual, the same interest may not attach to that person’s spouse.

Corporate Matters: Limited Liability Company Agreements

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In a previous issue, we discussed shareholder agreements and set out items that one should look for in such an agreement. A related topic, but one with subtle differences – particularly on the tax side – concerns the agreements used to govern the management and operation of limited liability companies. In the Delaware Limited Liability Company Act, these agreements are referred to as “limited liability company agreements,” and in the New York Limited Liability Company Law, they are referred to as “operating agreements.” In practice, however, the terms are used interchangeably. For purposes of this article, we will use limited liability company agreement (“L.L.C. Agreement”), as Delaware is the state most frequently used for limited liability company formation.

STATE REQUIREMENTS

Although many states do not require a limited liability company to have an executed L.L.C. Agreement, it is prudent to outline the internal governance procedures of the entity in a legal document. There really is no reason why the members of a limited liability company should not have a functioning governing document. An L.L.C. Agreement does not necessarily have to be a long or complicated document; it will allow you to effectively structure your financial and working relationship with your co-owners in a way that is suited to the type of business you are engaged in. Furthermore, having an agreement will help protect your limited liability status, particularly for single-member limited liability companies, as well as prevent management disagreements and ensure that the business is governed by rules of your making, rather than as stipulated by a particular state statute.

Care should be taken in drafting the agreement, however, as although many statutes provide a lot of discretion for members of a limited liability company to define the terms of their relationship – state statutes contain fundamental governing provisions that members of a limited liability company can contract out of – courts have relied on the plain language contained in the contracts and have resisted creating ambiguities based on extrinsic evidence.

Corporate Matters: Oral Agreement Can Be Unilaterally Terminated If There Is No Definite Term or a Particular Undertaking

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Under New York partnership law (“Partnership Law”), a partnership can be formed orally. Additionally, a partnership may be dissolved unilaterally if “no definite term or particular undertaking is specified” in the underlying agreement.

In Gelman v. Buehler 2013 NY Slip OP 01991 (March 26, 2013, plaintiff (P) and defendant (D) were recent business school graduates who decided to form a partnership in 2007. D had proposed a plan to P aimed at acquiring $600,000 from investors for the purpose of establishing a "search fund" to research and identify and raise any additional funding needed to pay the purchase price of the targeted business. P and D were to manage the business with the goal of increasing its value until it could be sold at a profit (referred to as a "liquidity event") and the investors would share in the profits realized from the sale. P accepted D's proposal and the partnership was formed by oral agreement. P and D expected that the business plan would reach its objective in four to seven years. The partners apparently pursued prospective investors for several months. D withdrew from the venture after P refused his demand for majority ownership of the partnership.