What happens to partnership assets on a dissolution in the absence of agreement?
In a recent decision, the Court of Appeal has overturned an earlier decision by the High Court, following a dispute over the distribution of partnership assets on dissolution of the partnership. In so doing, it has underlined that the usual approach that should be adopted, in the absence of exceptional circumstances, or in the absence of any agreement between the partners themselves, is that the partnership assets should be sold on the open market, rather than being transferred to one or other of the partners.
The background was that Mr Bahia and Mr Sidhu formed a partnership in 1972 which, over the years, had acquired a sizeable investment property portfolio comprising both residential and retail premises, situated mostly in and around Greater London. The Partnership was dissolved in October 2016. Mr Bahia and Mr Sidhu were equal partners, and thus each was entitled to 50% of the net proceeds of a winding up of the partnership. Their relationship had begun to deteriorate in around 2007-2008, when each began to hold suspicions about the other in respect of the collection of and accounting for rental income from Partnership properties, and the unauthorised use of Partnership monies. The relationship between the two families had irretrievably broken down by 2012, long before the dissolution of the Partnership. For many years, no proper partnership accounts were drawn up. The last set of signed accounts for the Partnership property were signed in April 2011. The record-keeping in relation to both parties was described by the court as “wholly inadequate.”
Mr Bahia began legal proceedings, seeking, amongst other things, an order for the taking of a dissolution account, an order for payments out to or in by each party as were found to be due on the taking of such account, an order that the affairs of the Partnership be wound up, and such directions as to the sale of the assets of the Partnership (including to the parties or either of them) as the Court thought fit.
Mr Sidhu then died, but the proceedings continued against his Estate. Following a trial of the issues in January and February 2022, the Court appointed a Receiver and manager over all the assets of the partnership and directed a hearing for the taking of a dissolution account of the Partnership from 6 April 2011. The Court subsequently directed that at that hearing, it would determine, among other matters, whether the properties of the Partnership should be sold or whether they should be dealt with, or disposed of, in a different manner.
By the time the matter came back before the High Court in November 2023, the amount owed by Mr Sidhu’s Estate to the Partnership (including accumulated interest) was around £3.6 million, and there was also an indebtedness to Mr Bahia personally of around £50,000. Interest continued to run on both debts at the judgment rate of 8%. The Sidhus contended that they did not have the liquid resources to pay the judgment debts unless and until there was a disposal of the Partnership assets and a distribution of the net proceeds of the winding up of the Partnership. They therefore proposed that the Partnership properties be put up for sale at auction. It was not in dispute that the value of the Partnership assets was in excess of £11.5 million, and that the Estate’s half share on a final taking of the Partnership accounts, would be sufficient to meet the indebtedness.
Mr Bahia made an application seeking a transfer to him of sufficient of the Partnership properties to restore him to the position he would have been in but for the Sidhus’ “stripping” of the partnership assets. Mr Bahia complained that a sale of the properties in the open market would be unfair to him and constitute a very substantial advantage to the Sidhus, because as a result of the retention of the partnership money that Mr Sidhu had taken but failed to restore, they were in a far better financial position to acquire the Partnership properties than he was.
The Sidhus proposed that the potential unfairness to Mr Bahia in bidding for the Partnership properties at auction be eliminated by allowing him to bid on credit to the extent of the Estate’s indebtedness to the Partnership.
The High Court ordered that four particular properties be transferred immediately to Mr Bahia, and that Mr Bahia was to be treated as having received an interim distribution, in respect of each property. It directed that the other properties be sold by the Receiver, who would have a discretion as to whether sale would best be achieved by private treaty or public auction, and that as each of these properties was sold, the Receiver would have the power to make interim distributions to the parties with a view to ensuring equality between them.
The Sidhus appealed against the order, arguing that there was no justification for the approach taken by the Court, as the shares in the Partnership were held equally and there were no exceptional circumstances that would justify anything other than the usual order for sale.
The Court of Appeal allowed the appeal and directed that the properties should be sold at auction. The issue for the Court of Appeal was whether the High Court had erred in law. It concluded that it had done so. Despite accepting that the High Court had considered its solution to be both pragmatic and fair, the Court of Appeal concluded that it was not in accordance with established legal principles. There is no absolute rule that partnership assets must be sold upon dissolution, but it is the normal means of ascertaining the value of the partnership assets if they are capable of being sold. The rationale which underlies the normal practice is that a sale on the open market will usually be the best means by which to achieve a full and fair value for the partnership assets. The partners can test the market with competing bidders in just the same way as they would if they were selling their own property. If one of the partners has a particular interest in acquiring any of the partnership property, an open market sale will ensure that he pays a fair price for it.
There may be circumstances in which a realisation of a partnership’s assets in the open market is not feasible, or would produce an unjust outcome, but this was not that type of case. Indeed, the High Court had accepted that selling the properties at auction was workable and could be done without causing unfairness to Mr Bahia. In the light of that assessment, there was no basis for departing from the normal practice. The High Court had approached matters by asking the question, “what order does the justice of this case demand?”, as if it had a broad discretion to make an order based on perceived fairness. However there was no overarching discretion to make whatever order the court considered to be just, where there was nothing exceptional about the case, and a sale on the open market would produce a just result.
Reviewing previous case law, the Court of Appeal noted that the types of case in which “exceptional circumstances” have been found to exist, or where it has been envisaged there might be justification for departing from the general practice of ordering a sale, are: (i) where one partner has a very small stake in the partnership, and selling the partnership business as a going concern would create disproportionate injury to the majority partner(s) and/or to third parties such as customers of the business; (ii) where a sale in the open market is obviously not going to maximise the value of anyone’s share in the partnership, because the assets are worth little or nothing if sold separately from the goodwill, and selling both together would be disproportionate; (iii) where, even if its terms were breached, the partnership agreement makes provision for a buy-out on termination of the partnership, or it can properly be inferred that this is what the contracting parties intended, and (iv) (possibly) where it is established that one partner intends to use the auction process to drive up the price artificially, to the detriment of the other partner who wants to buy the property.
All those are examples of situations in which a sale by auction would not serve the interests of justice. It would not maximise the value of the assets or, even if it would, it would unduly favour one of the parties or unduly disadvantage the other(s).
On the other hand, there is no reported case law in which the discretion has been exercised, or even recognised as arising, in a situation where the assets can be sold in the open market without creating any unfairness, and the partners are unable to agree on an alternative. There is nothing in the case law that suggests that the wishes of one partner to acquire a property or certain of the properties held by the partnership, or their wish to continue running the partnership business, or even their willingness to buy out the other partner at a valuation based on the opinion of an independent expert, would alone suffice to take the case into the exceptional category.
Nor would it be enough in itself for one partner to complain that the other partner had more money or greater liquidity, and therefore would be more likely to outbid them for any property they both wished to acquire. So long as a fair price can be achieved, it should not matter whether the purchaser is a third party or one of the former partners. Things might be different if the partner who was better off had achieved an unfair financial advantage by taking monies from the partnership account and using them for his personal benefit. However, if that unfairness could be overcome in any bidding process by allowing the other partner to bid on credit up to an amount represented by the debt owed to the partnership by the defaulting partner or his representatives (as was proposed in this case), then it would not provide a sufficient justification for departing from the general practice.
The judgment is a helpful reminder of the usual consequences of dissolving a partnership, absent some agreement between the partners as to how that will work, whether that is contained in a written partnership agreement or negotiated when the issue arises.
Disclaimer: this article is not to be relied upon as legal advice. The circumstances of each case differ and legal advice specific to the individual case should always be sought.
