The Business Divorce Law Report
When is a partnership dissolution not a dissolution? When the partnership is not subjected to the formal dissolution procedures, even if it appears that the Court may have intended otherwise.
Express Finding of Dissolution of Partnership Required
That was the result of a split decision of the Fifth Circuit Court of Appeals, coming some 14 years into the business divorce litigation between the partners to an oil well drilling venture, in Akuna Matata Investments Ltd. v. Texas No Limited Partnership. The Court affirmed a trial court decision terminating the partnership and awarding one of the partners a share of unpaid partnership profits.
The issue on appeal was whether the lawsuit seeking dissolution and profits was barred by an earlier lawsuit in Texas state court in which a state court had awarded the plaint $225,000 as a return of its capital. The argument made by the defendant in the case was that the earlier decision provided the same relief, and thus that the prior decision was res judicata of the issues in the subsequent lawsuit. (Res judicata to our non-lawyer readers is a principle that prohibits litigating a dispute more than once.)
Partnership Dissolution Claims Not Barred by Prior Damages Award
In that earlier case, the plaintiff sued Garrison Ltd. alleging claims of fraud, conversion, breach of fiduciary duty and breach of contract. The case was resolved favorably to the plaintiff and the Court ordered damages for breach of an oral partnership. The award was based on a return of the plaintiff’s original investment. This, said the defendant in the subsequent case was proof that there was no partnership left after the return of the capital.
Dissenting Judge Says Double Recovery Permitted
The majority disagreed. The state court had not decreed dissolution or winding of the partnership, nor was there any pleading seeking such relief. The opinion of the court in earlier case had incorporated a finding of an oral agreement to form a partnership and there was nothing in the record from which a dissolution could be found. A dissolution, the Fifth Circuit noted, required notification of creditors and a formal winding up, none of which was present.
[T]he winding up process consists of more than a showing of “irreconcilable differences.” Under state law, a partnership continues until, inter alia, the partnership’s creditors are notified and satisfied, and the remaining assets are distributed … Garrison did not act, following the state court judgment, as if the partnership was being wound up. Even if Akuna’s interest was “bought out” by the state court judgment and it was no longer a partner, this would have meant a de facto dissolution (since there were only two partners) and Garrison would have been obliged to take the other steps necessary to reclaim the assets for itself alone. That Garrison took no such steps contradicts its position that partnership dissolution was litigated and decided in the state courts.
Circuit Judge Higgonbotham dissented, arguing that the plaintiff had made a double recovery. The decision to pursue a claim that resulted in a return of capital constituted an election of a remedy that was inconsistent with the assertion of an ongoing interest in the partnership. Relying on a decision of the Texas Court of Appeals in Foley v. Parlier, Judge Higgonbotham argued that the plaintiff could affirm the existence of the partnership or seek a recovery in fraud, but not both.
Akuna was put to a similar choice in this case. The state trial court’s decision placed Akuna in a dilemma. Though the trial court found the existence of a partnership, it concluded that Akuna had not produced any reliable evidence of profits. Therefore, if Akuna had affirmed the partnership agreement and asked for expectancy damages, it would have received nothing for its efforts in state court. Akuna apparently did not like this result, so instead it defended the trial court’s damages award as reliance damages intended “to restore the status quo before the contract.” In other words, Akuna chose to disaffirm the partnership agreement and get its investment back. Akuna cannot now recover profits allegedly owed under that same repudiated agreement.
The second lawsuit was a windfall for the plaintiff, the dissent insisted.
The end result is that Akuna contributed nothing to its partnership with Garrison—it paid none of the expenses, it had none of its money at risk, and it contributed no services or skills—yet it now recovers over $250,000 in profits for its non-efforts.