Thursday, October 8, 2009

Partnership Law: Smith v. Lowe

In an earlier post (here), we wrote about Virginia's Statute of Frauds. The Statute of Frauds requires that certain contracts be in writing in order to be enforceable. Many contracts, however, do not depend upon the existence of a written agreement -- this can be a rude surprise for someone who believes that legal obligations depend upon the existence of a signature.

Today we consider a related issue that focuses on the law of partnerships, rather than the law of contracts.

Our clients are sometimes surprised to learn that a person can enter into a legal partnership -- and thereby subject himself to certain obligations, both to his partners and to third parties dealing with the partners -- without actually signing a written partnership agreement. To put it differently: Virginia law does not require a written agreement in order for a partnership to exist. What matters, instead, is the "intention" of the parties.

(Aside #1: "Intention." Now there's a word that a lawyer will love. It's right up there with "reasonble" and "substantial" on the hierarchy of ambiguous vocabulary!)

(Aside #2: in its 1989 decision of Wingate v. Coombs (237 Va. 501), the Supreme Court of Virginia considered whether a partnership agreement among purchasers of real estate must be in writing, in light of the Statute of Frauds requirement that contracts for the sale of real estate be in writing. In a fascinating decision, the Court held in the negative, based on the idea that interests in land held among partners are personal (rather than real) property: "A partnership for the purchase and sale of land for speculation, the profits to be divided among the partners, is valid when verbally made.")

In Smith v. Lowe (September 9, 2009; 3:08 CV 736), the US District Court for the Eastern District of Virginia considered a dispute about whether a partnership existed in the absence of a written agreement.

Plaintiff James Smith alleged that he had formed a partnership with Defendant Barry Lowe (and others) when they agreed to cooperate in the installation of compressors at an electric power plant and then proceeded to work together for several years. Lowe and his affiliated companies provided much of the financing for the project, while Smith was in charge of machine maintenance and customer relations.

After working together for several years -- but having never formalized their relationship in a single written document -- Lowe et als. purported to terminate Smith. Smith argued that he was a partner with Lowe and entitled to share in profits from the project, and he sued Lowe and the affiliated companies for $2 million.

In analyzing the facts and finding in favor of Lowe, Magistrate Judge Dohnal of the US District Court cited to Virginia's Uniform Partnership Act (the text of which you can link to here) and judicial interpretation of that Act's provisions. The Uniform Partnership Act defines a partnership as "the association of two or more persons to carry on as co-owners a business for profit ... whether or not the persons intend to form a partnership."

Based on this definition, Smith would seem to have a solid argument that a partnership existed between him and Lowe: after all, they had agreed to work together on the compressor project and, upon its conclusion, to share the profits after the distribution of certain administrative fees to Lowe's affiliates.

HOWEVER, said Judge Dohnal, the Supreme Court of Virginia has interpreted the critical words "carry on" in a way that defeats Smith's claim. In particular, the Supreme Court has held that carrying on means "the conduct of a business for a sustained period for the purposes of livelihood or profit and not merely the carrying on of some single transaction."

Applying this standard to Smith and Lowe's relationship, Judge Dohnal said that there was no evidence that the parties contemplated the "sustained" relationship which is a necessary condition of the formation of a legal partnership:
"Neither Smith nor the Defendants have presented evidence or argued that they ever contemplated similar endeavors for the future, or that they would join in smilar activity involving the purchase of additional compressors [for this client or other clients]. Accordingly, the business relationship would necessarily end with the [end of this project]."


The provisions of the Virginia Uniform Partnership Act, even once they are read in light of the relevant case law, include ambiguous language that leave room for legitimate arguments from multiple perspectives. In Smith v. Lowe, the Court examined closely the course of dealing between the parties in reaching its decision. A major take-away is the value of obtaining a written partnership agreement (or other form of contract) in connection with a business venture that involves a significant investment.