Partnership agreements: A primer

So you and your partners want to run a business together, and have decided to enter into a ‎partnership - what next? The first step is the preparation of a partnership agreement. Partnership ‎agreements allow you and your partners to agree in advance how you will handle different issues ‎that may arise in starting and running your business and manage your relationship. In a separate ‎article, we explored the different types of partnership. In ‎this installment, we review partnership agreements and discuss key items that are typically ‎addressed in these agreements.‎

In most Canadian jurisdictions, a partnership can be formed without a written agreement ‎between the partners. However, this is not recommended, especially when forming a limited ‎partnership or a limited liability partnership, because a written agreement among the partners will ‎ensure that all partners are on the same page. Similar to the articles, bylaws, and shareholder ‎agreements of corporations, partnership agreements are the governing documents of most ‎partnerships, and deal with important matters such as the rights, responsibilities and liabilities of ‎each partner, the management of the partnership and its business, contributions of the partners, ‎distribution of profits, handling of disputes, and dissolution and winding-up of the partnership.‎

Partnership laws apply by default

The partnership laws of the province or territory in which the partnership is formed will ‎apply to the partnership. Partnership laws contain standard provisions that may not be ‎suitable to every partnership. Partnership agreements allow partnerships to modify certain ‎aspects of those standard provisions to ensure that the structure works for you and your ‎specific situation. To the extent that a partnership agreement does not address such ‎provisions, the applicable partnership law will apply by default.‎

In respect of limited partnership agreements, it is important that the partnership agreement ‎does not provide for ‎participation by the limited partners in the management and control of the partnership, which would endanger the limited liability status of limited partners. The partnership agreement should clearly allocate those ‎responsibilities to the general partner or general partners.‎

Written vs oral agreements

General partnerships may be formed without a written agreement in most Canadian ‎jurisdictions (in Quebec, a written agreement is required), as long as the partners are in ‎agreement to carry on business in common with a view to profit. However, without a written agreement, the rights and ‎obligations of the partners may be unclear and subject to debate and disagreement when ‎things go wrong.‎

In the case of a limited partnership, the partners are required to file a certificate or a ‎declaration with the corporate registry which contains certain details about the ‎partnership, including the name of the general partner, the term of the partnership, and the ‎amount of contribution of limited partners. However, there are several other matters that ‎need to be agreed upon between the general partner and the limited partners in order to ‎ensure that the business of the partnership is run smoothly and the rights and the ‎investment of limited partners are protected. A written agreement, as opposed to an oral ‎agreement, is proof of what the partners agreed upon, and is strongly recommended so ‎that the rights and obligations of all of the partners are clear.‎

Privacy

Partnership agreements are not required to be filed with the corporate registry in any ‎jurisdiction and accordingly the contents of the agreements (to the extent they are not ‎disclosed in the declaration of partnership) are ‎private. However, in certain jurisdictions, including Alberta, a partnership formed outside ‎of the jurisdiction will be required to file a copy of the partnership agreement with the ‎corporate registry if the partnership wishes to extra-provincially register in the jurisdiction. ‎Copies of such agreements may be obtained by any person.‎

Key provisions of partnership agreements

Partnership agreements typically address the following questions, among others:‎

• Management of the business: Who will manage the day-to-day business of the ‎partnership? By law, each partner can act on behalf of the partnership, and any ‎action taken by a partner is binding on all other partners. Therefore, it is critical to ‎clearly define the role of each partner. In a general partnership, the partners may ‎agree that one partner is the managing partner. In a limited partnership, the ‎general partner is responsible for management of the business, although the ‎limited partners may participate in certain fundamental decisions outside of the ‎ordinary course of business, such as the purchase or sale of significant partnership ‎assets, borrowing or lending significant amounts of money, issuance of equity in ‎the partnership, or the winding up or dissolution of the partnership. In limited ‎partnership agreements, the authority and powers of the general partner are ‎described in detail. Such agreements may also contain a limited power of attorney ‎granted by the limited partners to the general partner.‎
• Decision making: How will the partnership make crucial decisions? While the ‎general partner in a limited partnership and a managing partner of a general partnership (if appointed), will generally make day-to-day business decisions, the ‎partners still need to make fundamental decisions such as entering into a new ‎business, taking on significant amount of debt, lending money to someone or ‎dissolving the partnership. It is important to decide how these matters should be ‎approved - by simple majority (i.e., more than 50%), super majority (a 66⅔% or ‎‎75% majority) or unanimous approval (100% approval). Partnership agreements ‎may also contain provisions on how meetings of the partnership will be ‎conducted.‎
• Capital contributions: What contributions will each of the partners be expected ‎to make (including initial contributions upon formation of the partnership and subsequent contributions), and what ‎form will those contributions take (e.g., cash or other assets)? What are the ‎consequences if a partner fails to make contributions as required by the ‎agreement?‎
• Allocations of profits and losses: How are profits and losses to be allocated ‎amongst the partners? The default position under partnership laws is that all ‎partners share equally in the profits and must contribute equally to the losses, however the partnership agreement ‎may provide for special allocation ratios.‎
• New partners: How can new partners be admitted (if new partners are ‎permitted)? Partnership agreements typically provide that new partners must ‎agree to be bound by the partnership agreement. Requirements for new partners ‎to contribute capital, and how the calculation of profit and loss may be affected ‎by the introduction of new partners, should be addressed in the agreement.‎
• Expulsion of partners: Can partners be expelled in certain situations? ‎Partnership agreements should address if and when a partner can be expelled or ‎forcibly removed. For example, a partnership agreement can provide for expulsion of a partner if the partner commits a default under the ‎partnership agreement, refuses to make contributions, acts in a way that ‎damages the partnership’s business, or discloses the partnership’s confidential ‎information‎
• Reporting / financial statements: Is the partnership required to provide financial ‎statements on a quarterly or annual basis to the partners? Must the financial ‎statements be audited? For limited partnerships that are publicly traded, ‎requirements for audited financial statements and their disclosure are dictated by ‎applicable securities laws.‎
• Disputes: How are disputes amongst the partners to be handled? Can a partner ‎sue the partnership or other partners in court, or are they required to address the ‎matter by way of mediation or arbitration?‎
• Non-competition and non-solicitation: Should outgoing partners be prohibited ‎from participating in businesses that compete with the business of the partnership, ‎or from hiring personnel of the partnership for a competing business?‎
• Restrictions on assignment of partnership interest: What are the procedures if ‎a partner wishes to sell his or her partnership interest to a third party? Will the ‎other partners have a right of first refusal to purchase such interests?‎
• Dissolution and winding up: Are there any special circumstances under which ‎the partnership should automatically dissolve (e.g., loss of a regulatory approval, ‎insolvency or bankruptcy of a certain partner, sale of a certain asset)? Under what ‎circumstances should a partner be entitled to terminate the partnership (e.g., ‎change of control, breach of the agreement)? What are the procedures for ‎payment of the liabilities of the partnership and distribution of the remaining ‎assets of the partnership amongst the partners upon termination?‎
• Fees and costs of the partnership: How will the various fees and costs of the ‎partnership be allocated amongst the partners?‎

Conclusion

Prior to entering into a partnership, you should discuss with your potential partners and agree on ‎important issues relating to the management of the business of the partnership. A well-drafted ‎partnership agreement, prepared with the advice of legal counsel, will serve as a guideline for you ‎and your partners as you launch and navigate your business going forward, and will allow you to ‎focus on your business rather than resolving issues relating to management of the partnership. ‎