When can a partner forfeit their partnership share?

Limited Liability Partnerships (“LLPs”) are currently a popular, if not the most popular, vehicle for professional businesses in the English legal system. If any one thing can be said to underpin the relationship between partners, it is trust.  The classic expression of that concept appears in Helmore v Smith (1) (1886) 35 Ch D 436, where Bacon V-C declared:

“… I cannot conceive a stronger case of fiduciary relation than that which exists between partners. Their mutual confidence is the lifeblood of the concern. It is because they trust one another that they are partners in the first instance; it is because they continue to trust one another that the business goes on.”

This principle was revisited by Mr Justice Newey in the more recent case of Jeremy Hosking v Marathon Asset Management LLP [2016] EWHC 2418 (Ch) — a case relating to the forfeiture of profit share by a partner (member) in an LLP, in the circumstances of a team move.

The facts

Marathon Asset Management LLP carried on an investment management business. One of its founding members (Jeremy Hosking) gave notice of his intention to retire — in the process becoming a “Non-Executive Member” of Marathon, in accordance with the LLP agreement. As such he was entitled to receive only half as much profit share as an Executive Member.

After the notice had been given the LLP initiated arbitration proceedings against Mr Hosking, alleging breach of contractual and fiduciary duties owed to the LLP. The accusation was that he had discussed the possibility of starting a new business with four of its employees including the production of a business plan “outlining his thoughts”. The breaches were proven to the satisfaction of the tribunal which determined that the LLP had lost the chance of retaining three individuals (which it assessed at 5%), known as the “Global Three”.  The arbitrator went on to determine that compensation of £1.36 million was payable, as a consequence.

The tribunal also came to the conclusion that the LLP was entitled to equitable compensation and that Mr Hosking should forfeit 50% of the profit share that he had received in respect of the period during which he had breached his contractual and fiduciary duties. Eventually, he had to repay some £10.3 million. The award was appealed to the High Court on a point of law; whether the share of profits of a partner (whether in a partnership or as a member in an LLP) can be subject to the principle of forfeiture on the basis of a breach of fiduciary duties.

The court’s decision

By drawing on and comparing agency law with partnership law the court found that part of Mr Hosking’s profit could indeed be forfeited and that it was “proportionate and equitable” that this should occur in circumstances where the arbitrator had found that he was “dealing with a series of serious breaches of fiduciary duty” and “that forfeiture of a 50% share of Income Profits, distinct from the 50% share received by way of `half rations’, [was] not inconsistent with, or excluded by, the terms and structure of the LLP Deed”.

The court noted that there is an important conceptual distinction between profit share and remuneration in partnerships and limited liability partnerships. Although the distinction between the two may not always be clear, it is probably sufficient to be aware the possibility of forfeiture can arise, where there are serious breaches of partnership duty.

Interestingly, although the court was dealing with matters arising in the context of an LLP, it seems clear that the judgment is equally applicable to traditional partnerships.

Conclusion

Departing partners need to recognise that serious financial consequences can flow from their failure to have regard to their partnership duties.