When it comes to partnership agreements with accounting firms, governance is key. In this article, we discuss various governance arrangements to consider when drafting a partnership agreement with an accounting firm.
Note: References to “partnership agreements” in this article refer to traditional partnership agreements, as well as shareholder agreements and LLC operating agreements. Likewise, when we refer to a “partner” in this article, it also applies to a shareholder of a company and a member of a limited liability company.
All partnership agreements have some basic form of governance. Unless otherwise agreed, the partners have the power to act on behalf of the company. In most partnership agreements, however, the partners have chosen to delegate authority on certain matters to an executive committee and/or a managing partner.
Even when authority is ceded to an executive committee or managing partner, partners often retain approval rights regarding such matters as election of a managing partner, election of executive committee members, mergers, admissions of new associates, expulsions of associates, borrowing of funds over a certain amount, capital expenditures that exceed a designated amount, and other major transactions and expenses.
Role of the Executive Committee
In most firms, in addition to the aforementioned major transactions and expenditures for which partners often retain approval authority, the executive committee has the authority to make or delegate all decisions and the managing partner is responsible for day-to-day management. of the firm.
If, however, a company has a strong managing partner position, the partnership agreement may spell out certain things that the managing partner has the power to do beyond day-to-day business decisions. For example, the partnership agreement may provide that the managing partner has the authority to bring in side partners or effect small mergers without a partner vote. This added authority for a managing partner is often seen when the managing partner is also the founding partner of the firm.
As companies grow, governance tends to become more centralized. In other words, there will be less authority for the partners and more authority for the executive committee. Centralized governance is a more efficient means of management, but it means that the partners have less autonomy.
As a company grows, the election process often becomes more complex, so there may be a nominating committee for executive committee positions and the role of managing partner. The partnership agreement may also include procedures for an election process and requirements for departmental representation.
In a recent agreement, for example, the company allowed self-nominations, but required prior approval from the executive committee.
More complex partnership agreements may also include provisions on term limits and staggered terms.
The most common approach is to vote by percentage ownership. Other voting mechanisms include: (i) voting per capita (one vote per partner), (ii) voting by capital account balances, and (iii) voting by prior year compensation amounts.
Companies decide which voting mechanism is right for them, and in some cases there will be different voting methods depending on the decision. For example, some decisions, such as approving major expenditures, may be taken by a simple majority, but decisions such as withdrawing a partner may require a 75% qualified majority of the partnership.
Other Key Elements of a Partnership Agreement
Governance is just one of the key elements to be addressed in the partnership agreement. Other important aspects of a partnership agreement include retirement and covenants.