In a recent High Court case it was held that a partner in an LLP, a London-based investment manager, can forfeit a partnership profit share for breach of the fiduciary duty owed by a partner to a partnership.
According to the facts of the case, one of the Founder Members had retired, becoming a Non-Executive Member, and was entitled to 50% of the amount of income profits payable to Executive Members upon retirement. Prior to his retirement, the claimant Founder Member had discussed with four of the LLP’s employees the possibility of starting a new business and had produced a business plan outlining his thoughts.
The matter went to arbitration and the initial arbitrator held that the claimant had breached contractual and fiduciary duties owed to the LLP by reason of those discussions, as the LLP had lost a real or substantial chance of retaining the relevant individuals. The arbitrator awarded equitable compensation to the LLP and also ruled that the claimant Founder Member should forfeit certain sums paid to him during the period of his breaches of duty, namely 50% of the payments that he had received as an Executive Member during that period. This decision was made on the basis that this 50% represented the remuneration of an Executive Member for his full time commitment to the LLP, with the other 50% being awarded in recognition of the contribution which Founder Members made to the LLP.
The claimant argued that forfeiture had no application to partnership profits as the distribution of profits is always a matter of contractual bargain, and that the remedy was inconsistent with the provisions of the partnership deed governing the LLP. The claimant sought and obtained permission to appeal to the High Court and the question before the High Court was as follows:
"Whether the share of profits of a partner of a partnership or a member of an LLP, paid out pursuant to and in accordance with a partnership or LLP deed, can be subject to the principle of forfeiture on the basis of the partner's/member's breach of fiduciary duties".
High Court decision
It is settled law that there are circumstances in which a fiduciary (generally meaning a person to whom power or property is entrusted for the benefit of another, and thus which can be an agent) who acts in breach of its fiduciary duties can lose its right to remuneration. The High Court has confirmed that the latter principle can apply not just to a partner's remuneration, but also to his or her profit share in the partnership.
With partnerships and LLPs, there is a conceptual difference between profit share and remuneration: remuneration refers to money payable in exchange for services as an expense prior to the division of profits and irrespective of the profitability of the firm while the profit share of a partner or member reflects his status as a partner or member and his ownership interest.
The court held that the mere fact that someone is a partner or LLP member as well as an agent should not preclude the operation of a principle which affects agents more generally. Profit share may usually reflect the interest of the partner or member in the firm, but it can also represent compensation for services. Where that is the case, profit share can fairly be viewed as remuneration and within the scope of the forfeiture principle.
Thus, the arbitrator’s original decision was upheld and the claimant was required to forfeit 50% of the profit share that he had received as an Executive Member during the period of his breaches of duty.