When it comes to accounting firm partnership agreements, governance is a key component. In this article, we discuss various governance provisions to consider when drafting an accounting firm partnership agreement.
Note: References to “partnership agreements” in this article refer to traditional partnership agreements, as well as shareholder agreements and LLC operating agreements. Similarly, when we refer to a “partner” in this article, this also applies to a shareholder of a corporation and a member of a limited liability company.
All partnership agreements have some basic form of governance. Absent an agreement to the contrary, partners have authority to act on behalf of the partnership. In most partnership agreements, however, partners chose 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 matters like the election of a managing partner, election of members of the executive committee, mergers, new partner admissions, partner expulsions, borrowing funds over a specific amount, capital expenditures that exceed a designated amount, and other major transactions and expenditures.
Role of the Executive Committee
In most firms, aside from 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 the day-to-day management of the firm.
If, however, a firm has a strong managing partner position, the partnership agreement may set forth certain things that the managing partner has the authority to do beyond day-to-day business decisions. For example, the partnership agreement may provide that the managing partner has authority to bring in lateral partners or consummate small mergers without a partner vote. This additional authority for a managing partner is often seen when the managing partner is also the founding partner of the firm.
As firms 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 way to manage, but it means that partners have less autonomy.
As a firm grows, the election process often becomes more complex so there may be a nominating committee for executive committee positions and the managing partner role. The partnership agreement may also include procedures for a run-off election process and requirements for department representation.
In a recent agreement, for instance, the firm allowed self-nominations, but required prior approval by the executive committee.
More complex partnership agreements may also include provisions on term limits and staggered terms.
The most common approach is voting by percentage ownership. Other voting mechanisms include the following: (i) per capita voting (one vote per partner), (ii) voting by capital account balances, and (iii) voting by last year’s compensation amounts.
Firms 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 approval of major expenditures, may be made by a simple majority, but decisions such as the removal of a partner may require a supermajority of 75% of the partnership.
Other Key Components of a Partnership Agreement
Governance is just one of the key components to be addressed in the partnership agreement. Other important aspects of a partnership agreement include retirement and restrictive covenants.