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Breaking up is hard to do

Looking into what really happens once you’ve decided to end a business partnership

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The idea of owning and operating a veterinary practice with a 50-50 business partner can be pretty enticing. The two of you will share the financial burden, split the profits, and offer clients complementary professional services. You will become the closest of colleagues and the best of friends. And when difficult decisions need to be made, you will be each other’s trusted sounding boards.

But what if circumstances change and it becomes clear this arrangement must come to an end? Will the two of you be able to wind up business operations fairly and move forward without controversy or dispute? All too often, this is easier said than done.

A recent decision from the Supreme Court of Vermont, Kotsull v. Knutsen, illustrates this conundrum and underscores the importance of planning for this day. The facts of the case, as described in this article, have been drawn from the court’s opinion.

Off to a good start

Things started out smoothly for Nancy J. Kotsull, DVM, and Raymond E. Knutsen, DVM, who co-owned a veterinary practice in the Green Mountain state. They operated the business first as a partnership and later as a limited liability company (LLC). Drs. Kotsull and Knutsen were the LLC’s only members, and they each owned a 50 percent interest.

Better yet, Kotsull and Knutsen also owned the building in which the practice operated. The practice rented the building from them for $30,000 per year, and they shared the profits. That was a nice arrangement.

Wisely, the veterinarians had an LLC operating agreement in place that contained an “escape hatch.” Under this provision, either of them could leave the practice upon 180 days’ written notice and require the practice to buy him or her out. The buyout price would be set by a business valuation firm designated in the agreement, and its appraisal would be final and binding.

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A buyout gone bad

In June 2010, Kotsull notified Knutsen that she intended to leave the veterinary practice. She contacted the agreed-upon firm and began the process of appraisal. Knutsen, however, refused to cooperate.

Kotsull later retained the appraisal firm a second time, and it issued its report. The report concluded the business (not including certain tangible assets that the parties had agreed to divide) was worth $177,588. Kotsull paid the bill for the appraisal, although the business was responsible for it.

Knutsen did not reimburse Kotsull for any portion of the appraisal bill. Nor did he pay Kotsull for her interest in the business.

Kotsull eventually opened her own practice approximately 20 miles away. As for Knutsen, he simply continued to practice in the same location.

In February 2011, Knutsen purported to terminate the parties’ LLC. He then created a new entity, Raymond E. Knutsen, P.C., to operate the veterinary clinic under a brand new name.

Lengthy litigation

In October 2013, Kotsull sued Knutsen on various claims stemming from the breakup of the practice.

On the eve of the trial, Knutsen filed a complaint with the police, alleging Kotsull had embezzled money from him. According to court papers, Knutsen told the police that he hoped a criminal investigation would lead Kotsull to drop her lawsuit. This substantially delayed the proceedings.

Eventually, the lawsuit got back on track. The case proceeded to trial, and the court issued a judgment.

Relief at last

The court concluded Knutsen breached material terms of the parties’ operating agreement by refusing to cooperate with the proposed buyout. As Kotsull had followed the contract, the court reasoned, the appraisal was binding on Knutsen. However, he failed to pay Kotsull half the appraised value and half the cost of the appraisal, violating the contract’s terms.

The court also found Knutsen breached the duty of good faith and fair dealing. In the court’s view, Knutsen had no good-faith argument for not paying the value established by the appraisal or for not cooperating in the appraisal process.

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What about the rental payments the practice had made to Kotsull and Knutsen for use of the facility they owned together? Kotsull had not been paid her half of the rental payments since she left the practice in 2010. Accordingly, the court found Kotsull was entitled to receive $100,000 for her share of the rent owed on the building.

Finally, the court awarded Kotsull $20,000 in punitive damages based on Knutsen’s report to police on the eve of trial. The court found Knutsen had acted maliciously and with no legitimate purpose in making the report, which, in the court’s view, was intended solely to pressure Kotsull to drop the case.

The court did throw Knutsen a bone, though. It awarded him $5,138.05 for some bills that Kotsull left unpaid, or unreimbursed, when the practice split up.

Knutsen appealed to the Supreme Court of Vermont, which on June 15, 2018—approximately eight years after Kotsull had asked to be bought out—affirmed the trial court’s judgment.

Lessons learned

This case illustrates the importance of planning for a partnership to end as an essential part of going into business with somebody else.

A contract term known as a “prevailing party attorney fee provision” might help to avoid a protracted fight in cases like this. As the name implies, this provision basically says that if a lawsuit arises from the parties’ contract, the prevailing party (i.e. the winner) will be entitled to reimbursement of its attorney fees and costs from the nonprevailing party (i.e. the loser).

This tends to keep both sides honest. In this respect, a business partner may be less inclined to initiate a weak lawsuit if he knows he may be required to pay his partner’s attorney fees if he loses. By the same token, the other partner will have an incentive to avoid conduct that might give his adversary a winning claim, for the same reason.

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Don’t be afraid to address the worst-case scenario when planning your business arrangement. Merely resolving to work things out later can lead to turmoil.

Todd A. Newman, a Cornell Law School alum, works closely with veterinary practices. He is president and owner of a Salisbury, Mass., law firm (toddnewmanlaw.com) that focuses on business, employment, labor, and litigation matters.

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