Land development partnership gone bad, what can 2 partners do to 3rd

7 Replies

I have been hired as a GC to take over the day to day construction, marketing, and sales for a subdivision of new construction duplex's. In short I am 99% in charge of everything. Unfortunately the subdivision is almost in foreclosure with the bank.

The subdivision is owned by 3 partners, 1 was the money man and has 45% ownership, the 2nd is his son, with 10% ownership, and the 3rd partner was in charge of running the subdivision and has 45% ownership.

All of the infrastructure was developed when the subdivision was sold to the partners. Partner #2 was one of the original owners and came with when the subdivision was sold.

OK now it has been some 4-5years later and this project is failing miserably, they have sold about 2 addresses, and turned 2 other addresses into rentals that break even.

This market should support at least 12-14 sales per year minimum. From my forensic research, attempting to create sworn statements, and talking with all of the subs, and suppliers of which I have known oat of them for 15+ years. Partner #2 has no idea what the hell he is doing.

Scheduling was a nightmare, paperwork is a disaster, warranty repairs are not being done in a timely manner, and sometimes not at all. And sales are a joke.

So know the property is very near foreclosure and partners 1 & 3 have hired me. I am sitting down with the bank to discuss a restructuring/sales plan I have put together.

How can we get rid of Partner #2? It is my understanding he did not invest any $ to get his shares. We can prove beyond a shadow of a doubt that he is incompetent, and severely underperformed his responsibilities.

Can the others partners negotiate with the bank to assume their portion of the debt and not his?

Can these partners try to buy the subdivision from the bank at a reduced price, and leave partner #2 responsible for anything?

Any ideas appreciated

Ah, the joys of partnership!

While I'm not an attorney, I do have a lot of experience with partnerships, so I can offer these tips:

1) What does the partnership operating agreement say about a buy-out or the removal of a partner? If the document is explicit, you must follow it, for good or ill. If silent on the matter, state law will say what is permissible, and what is not. States vary greatly on the rights of minority shareholders. AFAIK, simple incompetence or dereliction of duty isn't cause for removal, the partner in question has to be actively trying to harm the partnership.

2) Generally speaking, you can't legitimately negotiate a deal that's self-serving or self-dealing, where one partner does very well at the expense of the others. Contracts, deals, and negotiations must be done with the best interests of the partnership in mind, not just one or two partners.

3) There are a few M&A tricks that could be done, for example, such as a freeze-out merger. This is how it would work in your case: of the three existing partners in ABC Corp (the existing entity you mention), the two allied partners, who happen to have a majority interest in ABC, form another entity called XYZ Inc, of which they are the only two members. They then have XYZ, buy ABC (assuming that majority interest = control, the two partners, acting on behalf of ABC, authorize its sale to XYZ); ABC is now a wholly owned subsidiary of XYZ. The third partner has a stake in ABC, but not in XYZ (since it's the parent that he's not a part of).

XYZ can then make an offer to buy out minor interests in its ABC subsidiary, or "adjust" the accounting and legal standing of ABC such that the third partner in ABC has no voice in anything, and receives no benefits to being a partner. This may of course wind up in litigation, but may be worth exploring regardless. It's a pretty drastic step, and depending on the state of formation, it may not work in your favor.

4) You can seek to have the partnership dissolved by a court. Usually, partnerships are wound up when all the partners agree (or the operating agreement allows for some other condition) that its business has been concluded. However, it may be possible that you could petition the court (chancery, law division, or whatever the proper court/forum is in Indiana) for dissolution and reformation, without the questionable partner.

5) No matter what route you take, pull together a list or narrative of all the partner's wrongdoing, with as much detail as possible. Without it, you'll have a lot of trouble with anything you try to remove him.

You need to tread carefully, or this thread is going to be Exhibit A in the 3rd partner's minority shareholder oppression lawsuit against your new clients.

@Chris Adams , this is a tough case. First the disclaimer, I am not your attorney, I don't practice law there, my advice may not be correct, I may be an alien, etc.

First @Leon D. has an amazing depth of knowledge. It is difficult for me to believe he does not have legal training.

There are many kinds of partnerships and they have different rules on how partners can act and how to dissolve them. It is crucial to read all of the documents relating to structure of the partnership.

Normally partnerships are the easiest type of entity to dissolve. Due to the nature of them they involve a huge amount of trust between each other. When that trust is broken it should be dissolved in an equitable manner. In a corporation you have a fiduciary duty to look out for the corporation. That is not necessarily true in a partnership.

One of the options you might want to consider is to just dissolve the dam thing and buy it at auction. Everyone gets a fair share and the new owners be it partner 1 and 3, or some outsider can try to turn the thing around. I am afraid of partnerships because usually one partner can bind the others.

There are many options, buyouts, file bankruptcy reorganization, get court injunctions or court appointed receivers, post a superseadas bond to get an injunction. etc. Unless you have some authority in the formation papers I am not sure you can limit partner 2s ability to keep operating as a full member. That is the way partnerships usually work.

You absolutely need to talk to an attorney licensed in the state where the partnership or property is located as state law varies a lot from one state to the other, and sometimes even from judge to judge, so knowing the predeliction of the local bench may be helpful. You may even want to have partner 1 and 3 each consult their own attorney. There are many good reasons that will take too long to explain why that is a good idea. You also need to do it as soon as possible. Sadly the amount of money available to each partner may play a roll in this. If the project is auctioned off then the one with the big bucks can buy it and do as he wishes.

Partnerships are scary things, my personal opinion is that advising someone to form one is almost malpractice, especially if there are multiple partners. Its like being married to multiple people all at once, it might seem good for awhile but when it goes bad its hell. Feel free to call me, but I assure you a local attorney who knows the local law will be a better source. You might want to get a second opinion after you consult the first one just to make sure, especially if the stakes are very high. Best of luck bud.

@Leon D. @Jerry W. Thanks for such detailed responses.

I want to make it clear, I am not a partner. I am the GC, being paid a fee just like a plumber or electrician.

As of yesterday the partner in question has informed the bank they may no longer contact him and must go thru his attorney. This partner has essentially quit, and does not return any of the phone calls or emails to the partners, bank, or residents of the subdivision.

He is also in charge of the HOA, and it seems he has stopped performing those duties also. Bills to the HOA are going unpaid, HOA dues are not being invoiced and so on. My guess is that when we look deeper into this we will find embezzlement. This is something I will have to prove.

This partner wants out, the only problem with buying him out is that if this development does not succeed and the bank does foreclose, he will no longer have any liability for a subdivision that failed due to his mismanagement.

About 2 months ago the bank started dialogue with the partners about "Deed in Lieu" and was even negotiating a release price with the partners.

In the mean time I sold 2 units in the subdivision, and created a 3 yr restructuring plan that will sell out the development and repay all bank debt. Now the bank is open to moving forward with the restructuring plan with the other 2 partners. I have a meeting today with the 2 partners and the bank regarding financing for a Model unit and Spec unit.

All of this new business with the bank will be done under a different entity, owned by 2 other partners that will be doing the construction, but the land will remain in the name of the trust which contains all of the partners.

Due to the amount of time that has gone by there is just no way the land development can make any profit. All of the profits will come from the construction company. Since this company is owned by 2 of the land partners they will reinvest these profits back into the land trust in order to keep the land from foreclosure. From an investor point of view the returns really suck, but this keeps them from foreclosure, and returns about 70% of their invested funds back to the money partner.

Can anyone find big holes on this idea?

All comments appreciated.

Originally posted by Account Closed:
You need to tread carefully, or this thread is going to be Exhibit A in the 3rd partner's minority shareholder oppression lawsuit against your new clients.

I can appreciate this advice. I don't feel that the partners are doing anything malicious to destroy the 3rd partners equity. The 3rd partner is the reason for the current failure of the development. This can be proven beyond a shadow of a doubt by testimony from Subcontractors, Suppliers, and Residents of the development.

The partners and the bank have tried on numerous occasions to contact this partner and discuss options to rectify the problems leading up to this disaster, and he has not responded with any of the information requested.

That being said I do not have a copy of any operating agreement, so I am simply going by what the other partners have informed me of.

Thanks for the input.

Originally posted by @Chris Adams :
@Leon D. @Jerry W. Thanks for such detailed responses.

This partner wants out, the only problem with buying him out is that if this development does not succeed and the bank does foreclose, he will no longer have any liability for a subdivision that failed due to his mismanagement.

They could buy out his equity/partnership interest without altering his liability on the bank debt. His liability on the note or guaranty is independent of his ownership. Sounds like that may be the way to go.

Here is an update

Had a meeting with the 2 owners and the bank. The 3rd partner has decided to sign off releasing his ownership to the 2 remaining partners. He is going to have to pay the bank to release his personal guarantee on the project.

During the meeting the bankers gave 3 options to the partners to keep this project alive. The project consist of 23 duplex lots, and the note to the bank is $690k. Then the banker looked at me and said he would sell the project to an interested 2nd party for $506k.

I have no interest in buying this property from the partners unless there is no other option since they are extended family. But if push comes to shove and the current partners can't hold onto this project I am very interested.

So at this point the partner in question seems to be cooperating allowing the 2 remaining partners to move along.

Thanks for the advice

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