Few LLPs give every member an equal share of the profits, a right to participate in management or provide that members need only give ‘reasonable’ notice of their retirement. But, if an LLP’s members fail to agree to the contrary, those rules (and others like them), the so-called ‘default rules’, are what will govern the relationship of members of an LLP.
For this reason, among others, nearly all LLPs have comprehensive members’ agreements dealing with such matters, excluding the ‘default rules’ that would otherwise apply. However, it had long been assumed that, were an LLP’s members’ agreement to come to an end (perhaps because it had been terminated due to a party’s repudiatory breach of its terms), the default rules would rush in to fill the void.
That assumption is no longer tenable following the recent High Court case of Flanagan v Liontrust Investment Partners LLP, where it was held that a members’ agreement may not be terminated by a member on the grounds of its repudiatory breach by one or more other parties to that agreement.
The importance of this decision for LLPs generally is that the threat of accepting a repudiatory breach so that the default rules apply, a potent weapon in the arsenal of disgruntled LLP members, has been much reduced.
The LLP members who would consider making such an argument are those who viewed their treatment by the LLP (or by other members) as amounting to such a serious breach of the members’ agreement that they could treat themselves as no longer being bound by its terms.
The argument was thus seen as a way of avoiding inconvenient agreement provisions, such as agreed notice periods or restrictive covenants. Furthermore, a disgruntled partner could argue that, since the default rules were assumed to apply where no members’ agreement existed, he should be given a say in the management of the LLP, an equal right to its profits and granted immunity from expulsion.
This situation could present a nightmare scenario for LLPs. Not only would it typically put the LLP in a worse situation vis à vis the disgruntled member than under the members’ agreement, it would also inevitably create serious inconsistencies between that member’s treatment under the default rules and the treatment of other members under the members’ agreement. It could, for example, give rise to conflicting entitlements to profits.
Effect of Liontrust
Liontrust, by rejecting the application of the principle of repudiatory breach in relation to LLP members’ agreements, means that such a scenario is far less likely to arise and LLP members who allege repudiatory breach are in a much weaker position.
However, Liontrust seems unlikely to be the last word on the subject. Although allegations of repudiatory breach have on occasion been used as a bargaining chip rather than a serious allegation, an implication of Liontrust for LLP members who have been seriously mistreated is that they may find themselves with no practical remedy (other than to sue for damages for breach) and unable to escape onerous personal obligations, even when the other parties to the members’ agreement have demonstrated that they have no intention of being bound by its terms. This could lead to some highly inequitable situations, which another judge might view differently to the way in which the circumstances presented in Liontrust were viewed. For now though, Liontrust has provided relief for one headache experienced by LLPs and their advisers.