Enforcing the Unenforceable: Limited Partners May be Bound by Unauthorized Conduct of General Partner

In a limited partnership, a general partner runs the business of a limited partnership, with little to no oversight by the limited partners. Thus, limited partnerships are often governed by carefully drafted partnership agreements that set out the general partner’s authority.

But what happens when the general partner goes beyond their authority and enters into agreements it ought not to have? Can the limited partners escape the contractual arrangements? What recourse does the other contracting party have when the partnership refuses to proceed with the contract?

The Saskatchewan Court of Appeal answered these questions in ADAG Corporation Canada Ltd v SaskEnergy Incorporated, 2021 SKCA 74.  The Court of Appeal held that despite the protections provided under the The Partnership Act (Saskatchewan) (the “Act”), limited partners may be bound by the unauthorized conduct of the general partner and the contracting party can enforce the contract.[1]

Background

ADAG Corporation Canada Ltd. (“ADAG”), was the general partner of a limited partnership, Geschlossene Grundstücksgesellschaft GGG 10 (“GGG 10”, ADAG and GGG 10 are collectively referred to as the “Appellant”). The limited partnership owned an office building located in Regina, Saskatchewan. The general partner was only permitted to sell the office building upon a two-third majority vote by the limited partners.

In its role as general partner, ADAG entered into several agreements with SaskEnergy Incorporated (“SaskEnergy”). SaskEnergy agreed to lease the building from GGG 10, and ADAG granted SaskEnergy an unconditional option to purchase the building (the “Unconditional Option”). The Unconditional Option was not contingent upon approval by the limited partners of GGG 10, and accordingly, was outside ADAG’s authority to grant.  When SaskEnergy sought to exercise the Unconditional Option, ADAG asserted that the Unconditional Option was unenforceable since SaskEnergy was aware that it did not have the authority to bind GGG 10 to a sale of the building without approval from two-thirds of the limited partnership. SaskEnergy then sued ADAG and GGG 10 for breach of contract. An initial trial court decision in favour of SaskEnergy was overturned on appeal because the Unconditional Option was unenforceable under certain provisions of the Act, as the appellate court found that SaskEnergy had notice and knowledge of ADAG’s limited authority when it entered into the agreements.[2] The matter was remitted to trial to determine whether the Unconditional Option was nevertheless enforceable based on the doctrines of ratification and estoppel by election.[3] The trial court found that both doctrines did apply and that the Unconditional Option was enforceable against GGG 10. That decision was the subject of this appeal.

Decision of the Saskatchewan Court of Appeal

The Saskatchewan Court of Appeal held that not only were the doctrines of ratification and estoppel by election available to SaskEnergy in order to enforce the Unconditional Option, but the requirements of both doctrines were satisfied and SaskEnergy could enforce the Unconditional Option against GGG 10.

Availability of the Common Law Doctrines

The Appellant advanced the argument that SaskEnergy’s knowledge of ADAG’s limited authority, in combination with sections 7 and 10 of the Act, prevented SaskEnergy from invoking the doctrines of ratification and estoppel by election to enforce the Unconditional Option. Sections 7 and 10 of the Act provide:

7          Every partner is an agent of the firm and his other partners for the purpose of the business of the partnership; and the acts of every partner who does any act for carrying on in the usual way business of the kind carried on by the firm of which he is a member, bind the firm and his partners, unless the partner so acting has in fact no authority to act for the firm in the particular matter, and the person with whom he is dealing either knows that he has no authority, or does not know or believe him to be a partner.

10        If it has been agreed between the partners that any restriction shall be placed on the power of any one or more of them to bind the firm, no act done in contravention of the agreement is binding on the firm with respect to persons having notice of the agreement.

The Appellant contended that if the Court found the doctrines of ratification and estoppel were available, then sections 7 and 10 of the Act would be undermined, as application of these doctrines would allow the exact outcome those provisions were designed to prevent, i.e. enforcement of contracts entered into outside of a partner’s scope of authority, in circumstances where the third party dealing with the partnership has knowledge and notice of that partner’s limited authority.

However, the Court relied on section 111 of the Act, which stipulates that “the rules of common law and equity applicable to partnerships continue in force except to the extent that they are inconsistent with the express provisions of this Act”.[4] The Court determined that the doctrines of ratification and estoppel by election were applicable to dealings with partnerships if they did not contradict the Act.

The Court found that the Sections 7 and 10 of the Act do not prevent a contract that is deemed unenforceable under the Act from becoming enforceable through equity or common law. The doctrines of ratification and estoppel by election may be invoked by a third party when dealing with a partnership in order to enforce an otherwise unenforceable contract.

Applicability of the Common Law Doctrines

Ratification

Ratification occurs where an agent (here, ADAG) acts without the authority of their principal (GGG 10) and the unauthorized conduct is subsequently adopted through affirmative action or acquiescence. Usually, a principal must have full knowledge of relevant facts for the unauthorized conduct to be ratified.

The Court noted that a limited partnership is such that the general partner operates the business, while the limited partners remain passive investors. Due to the nature of the limited partnership, the Court found that limited partners must possess only constructive (and not direct) knowledge of the unauthorized act, which knowledge can be established through circumstantial evidence.

The Court held that although GGG 10 did not have “direct, personal knowledge” of the Unconditional Option, their trustee did possess the requisite knowledge. The trustee was required to share information about the Unconditional Option with the limited partners. As such, the trustee’s knowledge was imputed on GGG 10 and the Unconditional Option was ratified through the inaction of the limited partners.

Estoppel by Election

At common law, estoppel by election occurs when a party is presented with two mutually exclusive courses of action and, by conducting itself in a manner that suggests it has chosen one course of action, effectively waives their rights to choose the other.

The Appellant unsuccessfully argued that estoppel by election was unavailable to SaskEnergy because GGG 10 had insufficient knowledge of the available courses of action, in that constructive knowledge was insufficient and the trustee’s knowledge could not be imputed on GGG 10.

The Court held that GGG 10 had constructive knowledge of the Unconditional Option and had the choice to either repudiate the lease agreement containing the Unconditional Option or adopt the unauthorized actions of ADAG through acquiescence. As GGG 10 took no steps to repudiate the contract, the limited partners were estopped from this course of action.

Conclusion

In specific circumstances, limited partners may invoke the protection of the Act and escape obligations imposed by the unauthorized conduct of the general partner. However, the Act’s protection is not absolute.  Instead, the doctrines of ratification and estoppel by election are available to a party who is looking to enforce a previously unenforceable contract under the Act. In the context of a limited partnership, constructive knowledge established through circumstantial evidence is sufficient to meet the knowledge requirements of both ratification and estoppel by election.

The Court of Appeal found that the trustee of GGG 10 had full knowledge of the Unconditional Option, which was imputed on the limited partners. The subsequent inaction of the limited partners was sufficient for the Court to make a finding of both ratification and estoppel by election. Thus, the Court of Appeal held that the Unconditional Option was enforceable and the appeal was dismissed.

Case Information

ADAG Corporation Canada Ltd v SaskEnergy Incorporated, 2021 SKCA 74

Court File: CACV3511

Date of Decision: May 11, 2021

__________________________________________

[1] The Partnership Act, RSS 1978, c P-3, s 7, 10 [the “Act”].

[2] ADAG Corporation Canada Ltd v SaskEnergy Incorporated, 2018 SKCA 14.

[3] SaskEnergy Corporation v ADAG Corporation Canada Ltd, 2019 SKQB 263.

[4] Act, supra at note 1, s 111.

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