LEGAL UPDATE

Banking law

By Simon Sugar, barrister, 36 Bedford Row, London

Liability of partners

Governor and Company of the Bank of Scotland v Henry Butcher & Co & Others [2003] EWCA Civ 67; (2003) TLR 20 February

In this case, Mr Hopkins entered into a consultancy agreement with a firm, Henry Butcher & Co.

Under the agreement, the firm would receive a share of profits on mutual business deals with Mr Hopkins and would guarantee his indebtedness to the Bank of Scotland up to a maximum of 200,000.

His indebtedness to the bank arose under an overdraft.

Four partners of the firm signed the bank guarantee.

The guarantee was expressed to be given by the firm and by the four executing partners 'as partners and as individuals'.

After execution, two of the four executing partners initialled an amendment to the guarantee.

In its unamended form, the guarantee appears to have covered any indebtedness of Mr Hopkins to the bank.

The effect of the amendment was to limit the guarantee to indebtedness arising under one particular account.

Mr Hopkins got into difficulties with his indebtedness to the bank, who called in his overdraft and then sought to enforce the guarantee.

At first instance, the defendants to the action on the guarantee were the firm and the four partners of the firm who executed the guarantee.

They argued unsuccessfully that the guarantee was not binding on them.

On appeal, three main issues arose for determination, two of which warrant further consideration.

These two issues are whether the guarantee was binding on the firm and then, whether the amendments made to the guarantee after execution operate to invalidate it.

As to whether the guarantee was binding on the firm, the Court of Appeal upheld a finding of fact that there was 'actual authority founded upon consent'.

However, the court's decision that the guarantee was binding on the firm as a consequence of the application of section 5 of the Partnership Act 1890 is more interesting and of wider significance.

Section 5 provides that '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'.

It was argued that a partner at least in a professional partnership does not have implied or ostensible authority to give a guarantee.

This argument was supported by four 19th century cases including Sandilands v Marsh (1819) 2 B & Ald 673.

The court stated that old authorities as set out for example in Halsbury's Laws of England and Halsbury's Statutes 'are to be regarded with caution today when they lay down that it is not within the ordinary authority of a partner to give a guarantee'.

However, the court did not have to determine whether a professional partner had implied or ostensible authority to execute a guarantee.

Instead, the court was able to decide the issue of whether the guarantee was binding by relying on the ratio in the Sandilands case, which was held to be consistent with and explanatory of section 5 of the Act.

The court held that the judgments in Sandilands make it clear that 'where a contract entered into by a partnership for the purpose of its business requires an act to be done, that act (when done) is itself to be regarded as done for the purpose of the partnership business, notwithstanding that (absent the contract) the act would have been outside the usual business of the partnership'.

On the facts of this case, the existence and acceptance of the consultancy agreement was partnership business and the guarantee, since it was given in respect of the consultancy agreement, was therefore given in the course of the partnership's business.

From a bank's perspective, this part of the decision of the court is to be welcomed.

If the guarantee were held not to be binding, a bank or anyone acting as a creditor in a contract of guarantee with a partnership would be required to obtain the consent of each and every partner, or risk enforcement of the guarantee against the executing partners only.

From a commercial point of view, the decision enables banks to continue to deal with partnerships and make capital available to them without having to introduce complex compliance procedures to protect their security interests.

The second issue for consideration in this case was whether the amendments to the guarantee after execution rendered it void.

On this issue, the court followed Pigot's Case (1614) 11 Co Rep 26b and the recent Court of Appeal case of Raiffeisen Zentralbank Osterreich AG v Crossseas Shipping Ltd [2000] 1 WLR 1135.

A material alteration after execution without the approval of all the parties to the document renders it void.

A material alteration amounted to an alteration which affects the nature and character of the instrument and where the alteration is 'potentially prejudicial' to the obligor's legal rights and obligations.

On the facts of this case, the amendment, far from being potentially prejudicial to the defendants' rights, was in fact beneficial since it narrowed down the sources of their potential liabilities.

In so holding, the court reinforced the view that a guarantee will not lightly be avoided as a consequence of amendments made post execution.

It also appears that amendments made, which are beneficial to the guarantors and which do not affect the nature of the document as a guarantee, may not vitiate a guarantee even without the approval of all the executing guarantors.