Recent Developments in Quasi-Partnerships

Thomas Ogden and John Williams |

Applying the same set of legal rules to all companies, regardless of their individual circumstances and characteristics, can lead to injustice. The concept of “quasi-partnership” encourages a more nuanced approach and allows courts to recognise and enforce equitable obligations which may have arisen between members of a company.

In this article, Thomas Ogden and John Williams of 4 New Square review key elements of the law in this area, and consider a number of important recent decisions.

Introduction

At the end of March 2019 there were roughly 4 million companies on the register at Companies House. Those companies vary in nature and size: from small, closely held family businesses, to large corporations with substantial revenues and assets. In order to alleviate the potential injustice caused by imposing a one-size-fits-all system of legal rules and principles on all companies, irrespective of their nature and background, English law has developed the equitable concept of “quasi-partnership”.

Typically the issue of “quasi-partnership” will be raised in unfair prejudice petitions, or petitions for winding up on the just and equitable ground. An individual may feel that his or her treatment by members of the company is unfair, in light of the relationships, history, agreements and understandings between members of the company (see the article by David Halpern QC and Michael Bowmer). However, these matters may not necessarily be taken into account by the strict legal rights and obligations contained in the Companies Act or the company’s articles of association.

The leading case of Ebrahimi is an early example of the concept of a “quasi-partnership” in practice.[1] In that case, an ex-director complained of his removal from the board by two other directors, who passed a resolution to this effect at a general meeting. He petitioned for winding up on the just and equitable ground, and in the alternative, pursuant to section 210 of the Companies Act 1948.[2] The House of Lords ordered the company to be wound up, and in his leading speech, Lord Wilberforce outlined the approach to identifying cases of quasi-partnership where “equitable considerations” may exist alongside strict rules of law.[3]

Ebrahimi – and the subsequent House of Lords decision in O’Neill v Phillips[4] – remain landmark authorities on quasi-partnership. But this area of the law continues to provoke judicial scrutiny, and more recent decisions have further explained and developed the principles set out in these early cases. Read together with the leading cases, the more recent decisions provide useful guidance for practitioners on crucial elements of the quasi-partnership analysis: in particular, what is meant by the term “quasi-partnership”, the relevance of partnership law to identifying quasi-partnerships, and the circumstances in which courts will be prepared to find that a quasi-partnership has come into existence.

The meaning of “quasi-partnership”

The term “quasi-partnership” is a convenient label, but potentially a misleading one. It suggests that there is a close similarity between quasi-partnership companies, and partnerships proper;  and this has encouraged some judges to identify quasi-partnership companies by reference to the rules and principles of partnership law.[5]

It is correct that historically, partnership law played a formative role in the development of company law.[6] It is also the case that quasi-partnership companies will often meet the criteria for partnership, were it not for their incorporation. This follows from the fact that concepts such as “good faith” and “mutual confidence” are central to the law of partnership, and also play an important role in identifying quasi-partnership companies.[7] But notwithstanding this, it is a mistake to try to identify quasi-partnerships by applying partnership law directly.

This point was emphasised in Strahan v Wilcock, where a minority shareholder brought an unfair prejudice petition pursuant to section 459 of the Companies Act 1985, seeking an order that his shares in the company be purchased by the majority shareholder at a non-discounted value. He relied on a finding of quasi-partnership in support of his case.

At first instance, the judge approached the quasi-partnership analysis by asking whether, if the business had been conducted in the same way, but without the formation of a limited company, it would have qualified as a partnership within the meaning of the Partnership Act 1890.[8] He found that the company would have qualified as a partnership on this basis, and therefore that it counted as a quasi-partnership for the purposes of the unfair prejudice petition.[9]

The Court of Appeal held that was the wrong approach. The company law cases, in particular the speech of Lord Wilberforce in Ebrahimi, give courts independent guidance as to how quasi—partnerships are to be identified.[10] It is this guidance which courts should apply when considering the issue of quasi-partnership; and it is neither necessary nor sufficient that a quasi-partnership company should meet the criteria for partnership.[11]

The term “quasi-partnership” is, therefore, convenient shorthand – but nothing more than this.[12] In functional terms, a quasi-partnership is simply a company where “the circumstances surrounding the conduct of the affairs of a particular company are such as to give rise to equitable constraints upon the behaviour of other members going beyond the strict rights and obligations set out in the Companies Act and the articles of association”.[13]

Identifying a quasi-partnership

The general approach

The concept of quasi-partnership is intended to bring fairness and flexibility. But there is also the risk of unfairness and unpredictability if findings of quasi-partnership are not made by reference to clear and established rules. There is the further tension, which exists elsewhere in private law, between law and equity, and how readily formal legal rules should be displaced by equitable obligations.

By default, companies are governed in the first instance by their articles of association, express agreements between shareholders, and other formal legal rules.[14] These are the primary sources of the rights and obligations which exist between members. The imposition of equitable rights is an exception rather than the rule, one which clearly has the potential to undermine the set of legal obligations which ordinarily govern the relationships between company members, if applied too generously.

The courts have, nevertheless, taken a flexible and context-sensitive approach to findings of quasi-partnership. In Ebrahimi, Lord Wilberforce expressly rejected the proposition that there could be a defined set of circumstances in which equitable considerations would arise.[15] This approach is mirrored in more recent cases, which have disapproved of references to “tests” for quasi-partnership, on the basis that they imply an approach which is unduly restrictive.[16] In one recent High Court decision, it has even been suggested that ultimately, a finding of quasi-partnership is simply “a matter for the court’s overall assessment in any cases whether conduct…is to be regarded as in breach of equitable obligations”.[17]

It is doubtful that such a broad approach can be justified. It would lead to circular reasoning, requiring courts to determine when a breach of equitable considerations has occurred, without providing any guidance on how to make such a determination. It also contradicts more authoritative dicta, which underline the importance of a structured approach. As emphasised by Lord Hoffmann in O’Neill, courts should make decisions about quasi partnership, “in the light of established principles rather than an abstract notion of fairness”.[18]

With this in mind, the safest approach is to plead and prove quasi-partnerships by reference to established principles and guidance, and to reason by analogy with decided cases.[19] Additional considerations may be taken into account, but are likely to carry much less weight – particularly if they do not exist alongside the core criteria of quasi-partnership, and in particular, the factors identified by Lord Wilberforce in Ebrahimi.[20]

The Ebrahimi factors

In Ebrahimi, Lord Wilberforce listed three factors which might be present in a case of quasi-partnership. These are still referred to as the core criteria for determining whether a quasi-partnership exist. They are as follows:

(i) an association formed or continued on the basis of a personal relationship, involving mutual confidence – this element will often be found where a pre-existing partnership has been converted into a limited company; (ii) an agreement, or understanding, that all, or some (for there may be ‘sleeping’ members), of the shareholders shall participate in the conduct of the business; (iii) restriction upon the transfer of the members’ interest in the company – so that if confidence is lost, or one member is removed from management, he cannot take out his stake and go elsewhere.

His Lordship tentatively suggested that cases of quasi-partnership “typically may include one, or probably more, of [those] elements”, and noted that “analogous factors” may also be relevant.[21] But in keeping with the desire for a rule-based approach to the imposition of equitable obligations (discussed just above), these factors are generally accepted as being critical to the quasi-partnership inquiry.

The third of the Ebrahimi factors is easy to understand. The other two require some further explanation, and have been elucidated in subsequent case law.

A “personal relationship, involving mutual confidence

The first Ebrahimi factor is arguably the most important. The existence of a personal relationship with the necessary character of confidence is the foundation for equitable obligations, and a factor which affects the conscience of a quasi-partnership’s members, making it inequitable for them to rely on their strict legal entitlement. This interaction between conscience and the imposition of equitable obligations is a typical feature of the law of equity – and the requirement that there exist a relationship of “mutual confidence” has been described as the necessary “substratum” of the equitable considerations present in a quasi-partnership.[22]

The first step is to establish the existence of a “personal relationship”. This often depends on two related factors: the number of members in a company, and the nature of their relationship.

The fact that a company has a small membership does not make it a quasi-partnership.[23] However, a small company is likely to foster the kind of intimate working environment necessary for equitable obligations to arise.[24] As for the nature of a quasi-partnership, recent cases distinguish “personal” relationships by contrasting them with “commercial” relationships. The difference arises from the level of formality involved in the interactions and dealings between members, and the extent to which the affairs of the company are conducted on the basis of personal understandings rather than strict legal entitlements – which will often be the case where business arrangements grew out of pre-existing personal relationships, or otherwise took on a personal (rather than purely commercial) character.[25] Courts may also be prepared to infer that formal legal transactions are non-commercial on the basis of other relevant circumstantial factors: for example, where a reduced consideration is paid.[26]

In light of this, it is not surprising that family-owned companies are commonly found to be quasi-partnerships. They exemplify a membership which is likely to be small, close knit, and bound by non-commercial considerations. In Fisher v Cadman for example, the importance of a “family relationship” to the running of the company was a key factor in the decision that the company was a quasi-partnership. This was despite the absence of some of the usual features indicating a quasi-partnership.[27]

The second step is to establish that the relationship between members has the necessary character of “mutual confidence”. This principle has been reformulated in a number of ways, but commonly, it is taken to refer to the need for “mutual trust and reliance”.[28] Again, these are elements which are central to the operation of the general law of equity.

Reliance in this context can take a number of forms, depending on the circumstances of the case. In Sprint Electric, [29] for example, both parties relied on the other’s diligence and technical expertise in contributing to the success and profitability of the company – from which they both stood to gain. In Croly v Good,[30] it was held that a profit-sharing arrangement existed between the parties, which could only work if each relied on the other to act in their shared interests. This supported a finding of quasi-partnership – despite the judge’s conclusion that both parties may have had reservations about the trust and confidence which could be placed in the other.[31]

Finally, whatever evidence is relied on to demonstrate a personal relationship of mutual confidence, courts should focus on the substance, not the form, of the parties’ relationship. An example of this is Croly v Good, where the judge looked through the various legal entities used by the parties to structure their dealings, to the core elements of the underlying business relationship. It was not necessary for there to have been an express agreement as to the existence of a relationship of trust and confidence – which would be highly unusual in negotiations between laypeople. It was instead for the court to reach this view, on considering the circumstances of the case.[32]

“Agreement or understanding”

The second Ebrahimi factor concerns the existence of agreements and understandings, as indicators of a relationship governed by equitable considerations. Paradoxically – and unlike when seeking to prove the existence of a contract – the more detailed and formalised the parties’ arrangements are, the less likely it may be that the court will find there to have been the relevant kind of agreement or understanding.

This was the reasoning of David Richards J in the case of Re Coroin.[33] The judge refused to find that equitable obligations existed, in circumstances where “articles of association and a shareholders agreement were negotiated and drafted, containing lengthy and complex provisions” to govern the relationships between members. The more professionally and carefully drafted such agreements are, the less likely that equitable considerations exist, on the basis that the parties intended solely to rely on their strict legal rights.[34]

It is also likely that considerations relevant to the first Ebrahimi factor will be relevant at this stage too. In Re Coroin, in support of his finding that there was no space for equitable considerations to operate, the judge placed significant emphasis on the commercial nature of the relationship between the parties. It is a natural inference from the fact that the parties are engaging with each other on an arms-length commercial basis that they intend their relationship to be governed by legal rather than equitable rights.

It follows that courts are prepared to be somewhat generous in identifying the relevant agreement or understanding relied on. The assumption is that in many cases of quasi-partnership, this will be informally expressed, and may not have been made express or written.[35] These kinds of loose understandings are typically found in cases of family companies, but can exist elsewhere as well. In Strahan v Wilcock for example, Arden LJ was prepared to infer an agreement relating to participation in management from the surrounding facts and circumstances of the parties’ dealings.[36]

However, this flexibility is not unlimited. A “sufficient degree of agreement” is still required.[37] What counts will vary from case to case. But courts will, in all likelihood, be guided by general equitable considerations – including the existence of mutuality, detrimental reliance, and whether it would be inequitable in the circumstances for a party to resile from the alleged agreement. By their nature, such considerations require alleged “agreements” or “understandings” to have at least a certain degree of clarity and certainty, and to have been mutually recognised by both parties.

Complex cases

Changing relationships

As highlighted in the discussion above, a finding of quasi-partnership is based on substance, and not form. It follows that quasi-partnerships may come into existence at some point after the moment of incorporation. Often, a company will be formed out of a pre-existing business relationship, and be a quasi-partnership from the start. However, even if that is not the case, it is still possible to establish that a quasi-partnership arose at some point following incorporation.

But can this work in the other direction? Is it possible for a quasi-partnership to cease to be so, if the relevant factors no longer indicate the existence of equitable obligations?

It is certainly possible for members to renounce or repudiate the existence of a quasi-partnership. By doing so, members are able to bring it to an end, and prevent ongoing equitable considerations from being generated.[38] Parties would then fall back on their strict legal rights. So, for example, when members cease their involvement in the business (even if remaining as minority shareholders),[39] or where members otherwise demonstrate their repudiation of the factors inherent to the quasi-partnership relationship,[40] the quasi-partnership will end.

But if taken to its logical conclusion, this reasoning would stultify the concept of quasi-partnership. If a breakdown in trust and confidence results in the end of a quasi-partnership and the rights associated with it, then any subsequent exclusion from management (for example) would not take place within a quasi-partnership company. That exclusion would therefore not appear to amount to a breach of any existing equitable considerations.[41]

This outcome would be absurd, and does not represent the law.[42] However, the point has not been explored in detail in the cases. The best explanation, perhaps, is that equitable rights can outlive the quasi-partnership which created them. This allows parties to bring actions to vindicate those rights for a period after the quasi-partnership has come to an end, and where the acts complained of by a petitioning member may have taken place after the termination of the quasi-partnership – so long as they are found to be in breach of some persistent equitable right.

The lifespan of such equitable rights remains unclear.[43] Courts will, in all likelihood, seek to achieve a sensible and fair result based on the facts of each case, the cause of action relied on, and the remedy sought. But parties should aim to be prompt in vindicating these equitable obligations lest they disappear. This may be particularly important if those rights are relied on to support a share buyout at full value.[44]

The involvement of third parties

A further difficult question is whether equitable considerations can arise where the criteria for quasi-partnership are met by only some of the members of a company. Does the presence of third parties necessarily prevent a quasi-partnership from arising?

This point was addressed in the case of Re Edwardian (which is analysed in more detail by Helen Evans and Anthony Jones). In that case, Fancourt J expressed the obiter view that a quasi-partnership could conceivably arise in such circumstances, but that this was likely to be exceptional.  Examples could include where the third parties represented a minority of shareholders, and where the rights of those third parties would not be prejudiced by the enforcement of equitable obligations.

This point remains to be settled. However, a more flexible approach would fit with some of the existing case law, which is otherwise difficult to explain. One such case is Fisher v Cadman. There, a quasi-partnership was found to exist, despite the presence of members (holding a small minority shareholding) who did not appear to meet the criteria for quasi-partnership. Rather than straining the test for quasi-partnership to include those members, a more comfortable explanation is that the existence of members who were third parties to the quasi-partnership did not prevent equitable considerations from arising amongst the other members.

Conclusion

The quasi-partnership is a familiar part of the legal landscape. But as the discussion above shows, allegations of quasi-partnership can throw up a number of complexities. The leading cases, particularly Ebrahimi, remain important. But they have also given rise to a sizeable body of case law, which has significantly developed the applicable principles, and which remains in a state of flux. These developments should always be kept in mind when a petitioner seeks to establish the existence of a quasi-partnership, as they can have a significant impact on the outcome of the underlying case on liability and any remedy which may be awarded.

Thomas Ogden and John Williams

4 New Square

July 2019

© Thomas Ogden and John Williams. The authors assume no responsibility to any party in respect of this article. Specific legal advice tailored to specific problems should always be obtained.

About the authors

Thomas Ogden (2008) specialises in commercial litigation and arbitration.

John Williams (2017) has a broad commercial practice, including professional liability and arbitration work, and disputes involving elements of company law and corporate insolvency.


[1] Ebrahimi v Westbourne Galleries Ltd [1973] A.C. 360.

[2] The predecessor to the modern unfair prejudice petition in section 994 of the Companies Act 2006.

[3] See especially pp 378-380.

[4] [1999] 1 W.L.R. 1092.

[5] See, for example, the first instance decision discussed by the Court of Appeal in Strahan v Wilcock [2006] EWCA Civ 13 at [13].

[6] See Ebrahimi 379-80 and O’Neill v Phillips, p. 1098 (Lord Hoffmann).

[7] Ibid.

[8] See Strahan v Wilcock at [13].

[9] Strahan v Wilcock at [14].

[10] Strahan v Wilcock at [20]-[21] and see Croly v Good [2010] EWHC 1 (Ch) at [9] (HHJ David Cooke).

[11] See for example Sudicka v Morgan [2019] EWHC 311 (Ch) at [193] where a “no partnership” clause did not prevent the judge from finding that a relationship of quasi-partnership had come into existence. See also Re Sprintroom [2019] EWCA Civ 932 at [86].

[12] See Waldron v Waldron [2019] EWHC 115 (Ch) and Fisher v Cadman [2005] EWHC 377 (Ch) at [84].

[13] See Fisher v Cadman at [84].

[14] A point emphasised in O’Neill at 1098, Ebrahimi at 379, and see Strahan v Wilcock at [18].

[15] See Fisher v Cadman at [84].

[16] See Pinfold v Ansell [2017] EWHC 889 (Ch) at [59].

[17] Ibid.

[18] O’Neill. A passage cited and relied on in Waldron v Waldron at [28].

[19] See Ebrahimi at 379.

[20] However, for an exceptional case, see Fisher v Cadman at [89].

[21] Ebrahimi at 379.

[22] Re Edwardian Group Limited [2018] EWHC 1715 (Ch) at [232].

[23] Ebrahimi at 379.

[24] See Re Coroin Ltd [2012] EWHC 2343 (Ch) at [635].

[25] Re Coroin [636]; Strahan v Wilcock at [25]; Cool Seas (Seafoods) Ltd v Interfish Ltd [2018] EWHC 2038 (Ch) at [126]-[127].

[26] Strahan v Wilcock at [26]. Sprint Electric Ltd v Buyer’s Dream Ltd [2018] EWHC 1924 (Ch) at [352].

[27] Fisher v Cadman at [89].

[28] See Sprint Electric Ltd v Buyer’s Dream Ltd at [352].

[29] Ibid.

[30] Croly v Good [2010] EWHC 1 (Ch).

[31] See Croly v Good at [91].

[32] Croly v Good at [50].

[33] Re Coroin Ltd.

[34] See also Wootliff v Rushton-Turner [2017] EWHC 3129 (Ch)at [73]-[78] and Cool Seas (Seafoods) Ltd v Interfish Ltd [2018] EWHC 2038 (Ch) at [129].

[35] See Strahan at [23]-[25].

[36] Ibid.

[37] See Khoshkhou v Cooper [2014] EWHC 1087 (Ch) at [24].

[38] Shah v Shah [2010] EWHC 313 (Ch) at [103], see Re Edwardian at [231]—[242].

[39] Re D.R. Chemicals Ltd. (1989) 5 B.C.C. 39.

[40] Re McCarthy Surfacing Ltd [2008] EWHC 2279 (Ch) at [96]-[99].

[41] For this point, see Shah v Shah at [104].

[42] Ibid.

[43] Re McCarthy Surfacing Ltd, [98]-[99].

[44] Ibid.