Partnership and Shareholders Agreement

Where two or more people wish to run a business jointly they can create a partnership. Under the 1890 Partnership Act, a partnership will automatically come into existence between people as soon as their activities satisfy a very straightforward legal test, namely that they: “carry on business in common with a view to profit”.

The consequences of forming a legal partnership under the Partnership Act 1890

Entrepreneurs in partnership should be aware of three fundamental principles of partnership law:

• First, all of the partners will be jointly liable for the debts and obligations of the partnership business and they will also be jointly and severally liable for the wrongful acts or omissions of their fellow partners in the ordinary course of the partnership business.
• Second, each of the partners has the right to participate in the management of the partnership business, unless the partners agree otherwise.
• Third, the partners are entitled to share equally in the capital and profits of the partnership and must contribute equally towards losses, unless the partners agree otherwise.

Not all partnerships are made equally

There are numerous ways entrepreneurs can be in partnership together without having a legal partnership for the purposes of the Partnership Act 1890. It can include the following structures:

• limited liability company.
• unlimited liability company.
• limited liability partnership.

Note that for the above two company options, the partnership agreement would correctly be called a Shareholder Agreement. Where business men or women in partnership operate an LLP, then the name of the agreement should be called an LLP agreement.

It may in fact be the case that there is one partner in a group who owns the freehold or leasehold to the main premises. They then rent rooms and other facilities of the other partners. The other partners may be described to the customers of the business as partners of the business, but in a strict legal sense, they have no partnership rights whatsoever.

Partnerships can give rise to a number of different legal relationships. Care will be needed to be clear exactly what those relationships entail, and ensuring that they are documented correctly.

Why have a Partnership Agreement or Shareholders Agreement

The main purpose of any legal agreement is to record and evidence the intention of the parties to that agreement. The partnership agreement or shareholders agreement will record the intentions of the partners in business together. Significant and long term partnerships may need fairly comprehensive documentation to provide rules concerning the inevitable ups and downs of life. Areas covered in a Partnership Agreement or Shareholders Agreement

The partnership agreement or shareholders agreement can cover numerous areas, and become a fairly substantial constitutional document in their own right. However, the following are the key areas that we recommend are included in all partnership agreements and shareholder agreements:

• Intended structure of the business, and provisions regarding any necessary changes following tax and legal advice.
• Ownership of the partnership or company assets i.e. will ownership of all assets be in the name of the business or the partners or shareholders individually.
• Decision making rules. So, for example, which partners or shareholders can sign cheques? Which partners or shareholders can bind the partnership or company to contracts? How often will the partners or shareholders have to meet? If the partnership or company is deadlocked, then how is the deadlock to be resolved?
• What contributions do the partners or shareholders need to make? Will the partners or shareholders be required to work full time, or can they have other business interests?
• If a partner or shareholder dies then what are the pre-emption provisions in terms of offering the deceased share in the business back to the surviving partners? What price should be provided? How will the valuation be decided? Will life insurance be required to fund the purchase of the deceased share?
• Exit planning generally. For example, will the partnership agreement or shareholders agreement include a right for the partners or shareholders to sell their stake at any time? Will the remaining partners or shareholders be required to buy-back the departing partner or departing shareholder who chooses to depart at any time? What happens if the relationship between the partners or shareholders breaks down, or one party suffers a serious accident or illness?

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