Ostensible Partnerships: The Unintended Legal Consequences of Overusing the Term Partner

by Gianna Geil and Omar Figueroa

July 1, 2019

Many cannabis entrepreneurs are surprised to learn that, in California, general partnerships can be formed and enforced without any formal paperwork or written contracts. All that is needed is two or more people carrying on as co-owners of a for-profit business, whether or not that was their intention and whether or not the parties consider themselves partners. Cal. Corp. Code § 16202(a).

Many cannabis businesses currently refer to “partners” or “partnering with” in reference to other cannabis businesses. Business websites display phrases like “we partner with craft farmers in California” or “partnering with dispensaries across California” on their home pages. While seemingly insignificant, such designations can have massive repercussions, opening up cannabis businesses to civil litigation by creating “ostensible partnerships.” Ostensible partnerships arise when misrepresentations to third parties suggest that a partnership exists. They can be created by the words or conduct of the parties in question or from a party’s consent to being represented as a partner. Cal. Corp. Code § 16308(a).

For example, referring to persons as partners in conversation and writing can be used as evidence that an actual partnership exists. In re Lona, 393 B.R. 1, 14 (Bankr. N.D. Cal. 2008). In the case of In re Lona, an ostensible partner was taken to bankruptcy court and found to be jointly liable for the company’s debt. A significant portion of the evidence related to the conduct of the purported partners, including letters signed as “we” or “us,” references to themselves as “we” in business dealings, and repeated business related interactions between the creditor and the ostensible partner. 

While joint participation in managing a business and sharing in the profits or losses are essential elements of a partnership, they are not the only factors assessed when determining if a partnership exists. When courts assess this question, they simply ask whether a reasonable and prudent person would believe a partnership existed given the course of conduct of the parties. See generally Armato v. Baden, 71 Cal.App.4th 885 (1999). Given the ease with which partnerships can be formed, it is critical that cannabis businesses examine the language they choose to describe other businesses they are associated with. Claiming “partnership” with local dispensaries or growers might accidentally create ostensible partnerships that, while unintentional, are recognized and enforceable by the law.

The implications of partnership status reach beyond liability for all business obligations, including responsibility for the partnership’s debts. Cal. Corp. Code § 15904.04(a). Partners also have the ability to demand accountings of business activities and the financial conditions of the business. Cal. Corp. Code § 15904.07. Additionally, they can hold other partners liable for breach of fiduciary duties. Fiduciary duties encompass loyalty and care, such as refraining from competition and loyalty to partners. Cal. Corp. Code § 15904.08. What this means for cannabis businesses are potential hindrances if companies wish to expand their product sources, as it could be a breach of fiduciary duties, and the potential for lawsuits down the line if ostensible partners want a piece of the pie.  

Luckily there are some limitations on general partnership formation and ways to avoid the finding that an ostensible partnership exits. First, a partnership does not exist when, without other evidence, parties merely own joint property or share gross returns. Cal. Corp Code § 16202(c)(1)(2). Second, while listing business names together may be used as evidence of the existence of a partnership, the presence of separate business infrastructures, such as separate receptionists, points to the contrary. Armato v. Baden, 71 Cal.App.4th at 899. Third, since sharing in portions of the business profits leads to the presumption that a partnership exists, detailed accounting is essential for cannabis businesses. Cal. Corp. Code § 16202(3). If owners do not classify payments to individuals as debt, wages, or payment for services, those payments can be characterized as a share in the profits and thus establish the existence of a partnership. Cal. Corp. Code § 16202(3)(a-f).

To avoid potential liability from ostensible partnerships altogether, cannabis businesses can use other phrases, like strategic alliance as an alternative to partner, which is often used indiscriminately. Strategic alliances are relationships between businesses or joint pursuits of a common goal where each entity is bringing something of value to the other.  This type of collaboration is not to be confused with joint ventures, in which contracting parties form a new and separate entity to carry out the goals of the alliance and they share in control, profits, and ownership. Businesses do not give up their independent status when forming strategic alliances; they simply agree to cooperate and collaborate towards a mutual goal. Many strategic alliances are created through contracts and, as creatures of contracts, they are only subject to contractual provisions. So, entering into strategic alliances protects a budding cannabis business from the downfalls of “partnering” by outlining the rights of each party and ensuring that accidental partnerships are not created. 

Entrepreneurs intent on a partnership structure should consult with experienced counsel to create detailed partnership agreements outlining the rights and obligations of each party. Legally, it’s better to be safe than sorry. 

If there is one thing to take away from this information it is that cannabis companies should avoid the accidental, ostensible partnership by choosing their words carefully.  Many cannabis entrepreneurs use the term “partner” to denote a “business friend”, unaware that “partner” is a legal term of art, and that careless overuse of the term “partner” has led to expensive, stressful, and time-consuming litigation over whether a legal partnership was formed, which would give rise to fiduciary duties, and whether fiduciary duties were breached.  If a disagreement ends up in court, one does not want to be in the uncomfortable position of arguing that there was no meeting of the minds because what was actually said was “pardner” not “partner.”  In order to avoid the rabbit hole of litigation about ostensible partnerships, it may simply be better for cannabis entrepreneurs to avoid the term partner altogether and use the term strategic ally instead. 

Note: Gianna Geil is a law student at the University of California, Hastings College of Law, a graduate of Princeton University, and the 2019 Summer Law Clerk at the Law Offices of Omar Figueroa

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