Chapter 16 Sole Proprietorships Partnerships and Special Business

Introduction ü Entrepreneurs wishing to start a new business must be aware of advantages and disadvantages of various business entities for their endeavor. Consider: § Ease of creation. § Owners’ liability. § Tax considerations. § Need for Capital. © 2004 West Legal Studies in Business A Division of Thomson Learning 2

§ 1: Sole Proprietorships The owner is the business; anyone who does business without creating a separate business organization has a sole proprietorship. ADVANTAGES Owner is in complete control & receives all profits Flexibility DISADVANTAGES Owner is personally liable for all torts/contracts Lacks continuity after death Ease of creation; maintenance Difficult to raise financing © 2004 West Legal Studies in Business A Division of Thomson Learning 3

Introduction ü Partnerships are governed both by common law and by statutory laws. ü Agency Concepts and Partnership Law: § Each partner is deemed to be an agent of the other. § There may be imputation of liability. § Each partner is a fiduciary of the other. © 2004 West Legal Studies in Business A Division of Thomson Learning 4

§ 1: Law Governing Partnerships ü Partners are agents and fiduciaries of one another, but differ from agents in that they are also co-owners and share in profits and losses. ü Sources of Law: § State common law. § Uniform Partnership Act (UPA), adopted by all states in some form. § Revised Uniform Partnership Act (RUPA): adopted by some states. © 2004 West Legal Studies in Business A Division of Thomson Learning 5

§ 2: Partnerships ü Partnership is created when two or more persons agree to carry on business for profit as co-owners with equal right to manage and share profits (UPA). ü Case 16. 1: Cap Care Group Inc. v. Mc. Donald (2002). © 2004 West Legal Studies in Business A Division of Thomson Learning 6

Definition of Partnership ADVANTAGES DISADVANTAGES Easy to create and maintain Partners are personally liable for all torts/contracts Flexible, informal Partners share profits and losses equally Dissolved upon death Difficult to raise financing © 2004 West Legal Studies in Business A Division of Thomson Learning 7

Definition of Partnership ü If a commercial enterprise shares profits and losses a partnership will be inferred. Exceptions: Partnership not be inferred if profits received as payment in the following situations: § Debt by installments of interest on a loan. § Wages of an employee. § Rent to a landlord. § Annuity to a widow or representative of a deceased partner. § Sale of good will. © 2004 West Legal Studies in Business A Division of Thomson Learning 8

The Nature of Partnerships ü At common law, the partnership was not a separate legal entity from its owners. ü Today, partnership law in many states recognizes a partnership as an independent entity for some purposes. © 2004 West Legal Studies in Business A Division of Thomson Learning 9

Nature of Partnerships ü Partnerships are recognized as separate legal entities: § To own partnership property. § To convey partnership property. » At common law -- property owned in tenancy in partnership, all partners had to be named and sign the conveyance. » Under UPA partnership property can be held and sold in firm name. © 2004 West Legal Studies in Business A Division of Thomson Learning 10

Partnership Formation ü Duration of Partnership. § Partnership for a term. § Partnership at will. Partnership agreements can be oral unless Statute of Frauds requires a written agreement. Practically, agreements should be in writing. ü Capacity. Partners must have legal capacity. ü Corporations. UPA permits corporations to be a partner. © 2004 West Legal Studies in Business A Division of Thomson Learning 11

Partnership by Estoppel üOccurs when a person who is not a partner holds himself out to 3 rd Parties and the 3 rd Party relies to her detriment. üTwo Aspects of Liability: § Person who mis-represents he is a partner is liable. § Any person consenting to the misrepresentation is also liable. © 2004 West Legal Studies in Business A Division of Thomson Learning 12

Partnership by Estoppel ü When real partnership exists: § A partner represents a non-partner is in fact a partner, § The non-partner is an agent whose acts are binding on the partner only, not the partnership. ü Remember: Partnership by estoppel requires third party reasonably rely on the representation to her detriment. © 2004 West Legal Studies in Business A Division of Thomson Learning 13

Partnership Operation ü Rights of Partners: In the absence of a partnership agreement (oral or written) state statutes govern the partner rights: § Management: equal, each one vote, majority wins; need unanimous consent for some actions. § Partnership Interest: equal profits, losses shared as profits shared. © 2004 West Legal Studies in Business A Division of Thomson Learning 14

Rights of Partners ü Rights among partners (cont’d): § Compensation: none. § Inspection of the Books: always and also by rep. of deceased partner. § Accounting: when other partner(s) committing fraud, embezzlement, wrongful exclusion, or anytime it is just and reasonable. § Property Rights © 2004 West Legal Studies in Business A Division of Thomson Learning 15

Rights of Partners ü Each partner has a property right, which includes: § An interest in the partnership. § A right in specific partnership property. § A right to participate in the management of the partnership, as mentioned above. © 2004 West Legal Studies in Business A Division of Thomson Learning 16

Rights of Partners ü Each Partner has right to equally share partnership interest: § A proportionate share of the profits earned and a return of capital on the partnership's termination. § A partner may assign his interest. § A partner’s interest is susceptible to a creditor’s lien. Creditors may attach and get a “charging order. ” § Assignment or charging order do not dissolve the firm. © 2004 West Legal Studies in Business A Division of Thomson Learning 17

Rights of Partners ü Partner Has a Right to Partnership Property: (cont’d) § § § What she originally brought into the partnership, or Acquired on account of the partnership, or Purchased with partnership funds. ü Partners are tenants in partnership of all firm property = other partners have rights of survival if one dies and then they account to the deceased partner’s estate for the value of his interest. (*but see RUPA) © 2004 West Legal Studies in Business A Division of Thomson Learning 18

Rights of Partners ü Partner cannot sell, assign or take a particular item of partnership property, nor can individual partner’s creditors seize the property. ü Creditors can get a charging order against the partnership for the partner’s interest in the partnership. © 2004 West Legal Studies in Business A Division of Thomson Learning 19

Duties, Powers and Liabilities of Partners ü Fiduciary Duties. Partners are fiduciaries and general agents of one another and the partnership. ü General Agency Powers. Partners have implied authority to conduct ordinary partnership business but need unanimous consent to sell assets or donate to charity. © 2004 West Legal Studies in Business A Division of Thomson Learning 20

Duties, Powers and Liabilities of Partners ü Authorized vs. Unauthorized Actions. § Liability depends on the scope of authority. ü Joint Liability for Contracts. If Partner is sued for Partnership debt, Partner has right to insist that other partners be sued with her. © 2004 West Legal Studies in Business A Division of Thomson Learning 21

Duties, Powers and Liabilities of Partners ü Joint and Several Liability for Torts. § JSL means 3 rd party can sue either one or all partners. 3 rd party may collect against personal assets of all partners. ü Liability of Incoming Partner & Outgoing Partner. New admitted partner has no personal liability for existing partnership debts and obligations. © 2004 West Legal Studies in Business A Division of Thomson Learning 22

Partnership Termination ü The termination of a partnership occurs in two stages: § Dissolution (is the legal “death” of the partnership), and § Winding up. (collecting and distributing partnership assets). © 2004 West Legal Studies in Business A Division of Thomson Learning 23

Dissolution ü By Acts of the Partners: § Partners can agree to Agreement. § Partner’s Withdrawal. » Partnership for term – breach. » No term -- no breach. § Admission of a new partner. § A transfer of a partner’s interest. » Although the transferee does not become a partner. » By assignment or attachment by creditor. © 2004 West Legal Studies in Business A Division of Thomson Learning 24

Dissolution ü By Operation of Law: § Death of a partner. § Bankruptcy of

Dissolution ü By Judicial Decree: § Insanity. § Incapacity. § Business Impracticality. § Improper Conduct. § Other Circumstances (personal dissension). © 2004 West Legal Studies in Business A Division of Thomson Learning 26

Notice of Dissolution ü To avoid liability for apparent authority, apply the agency rules by giving: § Actual notice. § Constructive notice. © 2004 West Legal Studies in Business A Division of Thomson Learning 27

Winding Up ü Partners have no authority after dissolution occurs except to: § Complete transactions already begun. § Wind up by collecting and preserving partnership assets, discharging liabilities, and accounting to each partner for the value of his share. ü Case 16. 2: Creel v. Lilly (1999). © 2004 West Legal Studies in Business A Division of Thomson Learning 28

Winding Up ü If partner has violated the partnership agreement, he: § Must pay damages. § May not participate in winding up. § But other partners may choose to continue. ü If partner dies: § Other partners act as fiduciaries. § Accounting to deceased partner’s estate. § Survivors get paid for their services. © 2004 West Legal Studies in Business A Division of Thomson Learning 29

Distribution of Assets ü Partnership obligations are paid in the following order: § First, 3 rd party creditors. § Second, partner loans to partnership. § Third, return of capital contributions. § Fourth, distribution of the balance, if any to partners. © 2004 West Legal Studies in Business A Division of Thomson Learning 30

Distribution of Assets ü If liabilities are greater than assets partners bear losses in proportion in which they shared profits, unless agreed otherwise. ü If one partner does not contribute, other partners are liable for his share and they have the right of contribution against that partner who didn’t pay. © 2004 West Legal Studies in Business A Division of Thomson Learning 31

§ 3: Special Business Forms ü Joint Venture: two or more entities combine efforts or property for a single transaction or project. ü Unless agreed otherwise, JV’s share profits and losses equally. ü Common in international transactions when U. S. companies wish to expand overseas. © 2004 West Legal Studies in Business A Division of Thomson Learning 32

JV Characteristics ü Resembles a partnership and is taxed like a partnership. However, a JV is limited in time and scope, whereas a partnership is an ongoing business. Other differences: § JV members has less implied and apparent authority than partners. § Death of JV member does not terminate JV. ü JV members can specify duration. If not, then JV terminates when purpose is accomplished. © 2004 West Legal Studies in Business A Division of Thomson Learning 33

JV Rights and Liabilities ü JV members owe a fiduciary duty to each other (loyalty, no conflicts of interest). ü JV members have equal right to manage the business. ü Case 16. 3: Ultralite Container Corp. v. American President Lines, Ltd. (1999). © 2004 West Legal Studies in Business A Division of Thomson Learning 34

Other Entities ü Syndicate (Investment Group): group of individuals getting together to finance a particular project. ü Joint Stock Company is a hybrid of partnership and corporation: (1) ownership represented by shares of stock; (2)managed by directors and officers of the company; and (3) can have a perpetual existence. © 2004 West Legal Studies in Business A Division of Thomson Learning 35

Other Entities ü Business Trust is created by a written agreement setting forth the interests of the beneficiaries and obligations and powers of trustees. Legal ownership and management of property remains with trustees and profits distributed to the beneficiaries. ü Cooperative is an association organized to provide a not-for-profit service to members. © 2004 West Legal Studies in Business A Division of Thomson Learning 36

§ 4: Franchises ü Franchise: agreement so that Franchisor (Owner of trademark, trade name or copyright) licenses Franchisee to use the trade mark, trade name or copyright in the sale of goods or services. ü Types of Franchises: § Distributorship. § Chain Style Business Operation. § Manufacturing or Processing Arrangement. © 2004 West Legal Studies in Business A Division of Thomson Learning 37

Laws Governing Franchises ü Governed by commercial sales and contract law. If franchise is primarily for the sale of goods, UCC Article 2 governs. ü State and federal laws regulate franchising to protect franchisee. ü The contract states parties’ rights and duties and can include an exclusive “territory” to market goods/services. ü Case 16. 4: Bixby’s Food Systems v. Mc. Kay (2002). © 2004 West Legal Studies in Business A Division of Thomson Learning 38

Franchise Contract ü The Franchise Contract can include: § Franchisee’s type of business entity including capital structure, sales quotas and record keeping. § Location of the Franchise § Premises is leased or purchased. ü Quality Control is a legitimate issue for Franchisor because of good will, reputation and trademark value. Courts will not question Franchisor’s strict supervision but Franchisor may be liable for torts of agents. ü Case 16. 5: Miller v. D. F. Zee’s Inc. (1998). © 2004 West Legal Studies in Business A Division of Thomson Learning 39

Termination of the Franchise ü Duration of the franchise is a matter determined by contract of the parties. ü Provides Remedies for Default and Breach. ü Wrongful Termination. ü Good Faith and Fair Dealing. © 2004 West Legal Studies in Business A Division of Thomson Learning 40

Law on the Web ü U. S. Small Business Administration online. ü Federal Trade Commission and state regulations regarding franchising. ü Franchising. org. ü Legal Research Exercises on the Web. © 2004 West Legal Studies in Business A Division of Thomson Learning 41