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. e du/thir dc ir c uit_1998/40Filed March 9, 1998

UNITED STATES COURT OF APPEALS

FOR THE THIRD CIRCUIT

No. 97-1170

HENKELS & McCOY, INC.

v.

ROBERT ADOCHIO, RALPH ANDERSON, ROBERT BADER, RALPH BARUCH, JOHN BUCK, ALAN

GOLDBERG, FRED GREEN, LEONARD C. GREEN, C. BRUCE JOHNSTONE, HERBERT KAUFER, BILL LUCAS, WILLIAM MILLER, ARTHUR ROTHLEIN, EDWARD ROWAN, JOSEPH SCUTELLARO, CONRAD STRUDLER, BARRY WAGENBERG, ARTHUR WELLMAN, JAMES R. WILLING, and CHESTER DAVIS

Ralph Anderson, Robert Bader, Ralph Baruch, John Bu ck, Fred Green, Leonard C. Green, C. Bruce Johnstone, Herbert Kaufer, Bill Lucas, Arthur Rothlein, Edward Rowan, Joseph Scutellaro, Barry Wagenberg, Arthur Wellman, James R. Willing and Chester Davis,

Appellants

An Appeal from the United States District Court for the Eastern District of Pennsylvania

D.C. No. 94-cv-03958

Argued: October 15, 1997

Before: STAPLETON, ALITO, and ROSENN, Circuit Judge s.

(Opinion Filed March 9, 1998)Robert J. Stern

Stradley, Ronon, Stevens & Young 2600 One Commerce Square Philadelphia, PA 19103 Counsel for Appellee

Roger B. Kaplan Wilentz, Goldman & Spitzer 90 Woodbridge Center Drive

P.O. Box 10 Woodbridge, NJ 07095 Counsel for Appellants

OPINION OF THE COURT

ROSENN, Circuit Judge.

This appeal presents an important question pertaini ng to the obligation of limited partners to return capita l

contributions distributed to them in violation of t heir partnership agreement which required that they esta blish reasonably necessary reserves. The issue is rendere d complex by an interrelated maze of corporations and partnerships devised by the limited partners and th e general partner in their efforts to develop two sep arate real estate projects. One of these, Timber Knolls, was a borted shortly after conception, and the other, Chestnut W oods, became the genesis of protracted litigation and of this appeal.

The defendants-appellants are limited partners of R ed Hawk North Associates, L.P. (Red Hawk) L.P., a New Jersey limited partnership. G&A Development Corporation (G &A) is the general partner of Red Hawk. Cedar Ridge Development Corporation (Cedar Ridge), a New Jersey corporation, and Red Hawk entered into a joint vent ure agreement, the Chestnut Woods Partnership (Chestnut ), to develop, construct, and market residential homes in Bucks County, Pennsylvania. Red Hawk and Cedar Ridge are both general partners of Chestnut Woods. Under the joint venture agreement, Red Hawk would provide the fundi ng and Cedar Ridge would provide the land which it pre viously

2had agreed to purchase. Cedar Ridge would act as th e

managing partner and general contractor.

On December 29, 1989, Cedar Ridge, as general contractor for Chestnut Woods, entered into a writt en subcontract with Henkels & McCoy, Inc. (Henkels), t he plaintiff herein, to have it furnish the labor, mat erials, and equipment for the installation of the storm and san itary sewer systems for the project. Cedar Ridge agreed t o pay Henkels a fixed-price of $300,270 under the contrac t. Henkels completed the installation of the storm and sewer systems but Chestnut Woods defaulted in making the payments due under the contract. Henkels, a Pennsyl vania corporation, then filed three actions in the United States District Court for the Eastern District of Pennsylv ania; Henkels filed the first in December 1990 against Ce dar Ridge and Red Hawk, trading as Chestnut Woods, for the balance due on the contract plus interest. The cour t entered a default judgment which was not satisfied in whole or part.

Henkels then filed suit against G&A in its capacity as a general partner of Red Hawk and obtained a default judgment in the same amount as it had obtained agai nst Cedar Ridge and Red Hawk. Efforts to obtain payment on this judgment also proved fruitless and counsel for the defendants advised plaintiff 's counsel by letter d ated October 26, 1993 that Red Hawk was worthless. Henke ls'

counsel also had been advised that G&A was unable t o pay the judgment out of its assets.

Henkels finally brought this suit against the ninet een limited partners of Red Hawk (the Partners), standi ng in the shoes of the Red Hawk limited partnership; sixteen of the partners are parties to this appeal. Henkels sought , inter alia, to compel replacement of certain capital dist ributions made by Red Hawk to the limited partners aggregatin g $492,000 during the period that Cedar Ridge was obl igated under its contract with Henkels to pay Henkels $300 ,270. Henkels alleged that the capital distributions were made in violation of the Red Hawk limited partnership agree ment and S 42:2A-46(b) of the New Jersey Uniform Limited Partnership Law of 1976 (New Jersey ULPL).

3After the district court denied both Henkels's and the

Partners' motions for summary judgment,1 it conduc ted a bench trial and on January 6, 1997, entered judgmen t in favor of Henkels. The court held each limited partn er of Red Hawk liable to Henkels for his proportionate share of liability in the total amount of $371,101.84 plus i nterest to the date of payment of any judgment. The Partners appealed. We affirm.2

I.

The following facts are undisputed and are based up on the stipulation of the parties and the findings of fact made by the district court. The Red Hawk partnership, co nsisting of 20 (1 deceased)3 limited partners and one corpor ate general partner, G&A, was formed in 1986. Pursuant to their partnership agreement, the Partners contribut ed $3.5 million in capital which ultimately they allocated to two distinct partnership projects, Timber Knolls and Ch estnut

Woods.

In 1987, Red Hawk and Cedar Ridge entered into a jo int venture agreement forming the Chestnut Woods Partnership, with both Red Hawk and Cedar Ridge as general partners. Under the joint venture agreement , Red Hawk would provide the capital funds for the projec t and Cedar Ridge would provide the general management an d assign its contract for the purchase of the land. R ed Hawk funded the Partnership with an initial capital cont ribution of $650,000 (and an additional contribution of $200 ,000 in 1988). Cedar Ridge agreed to act as both the managi ng partner and the general contractor of the Chestnut Woods project. In addition, Cedar Ridge had the right to incur

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1. Henkels & McCoy, Inc. v. Adochio, 906 F. Supp. 2 44 (E.D. Pa. 1995).

2. The district court had jurisdiction over this ma tter pursuant to 28 U.S.C. S 1332, as it is a civil action involving pa rties of diverse citizenship and the amount in controversy at the ti me the suit was filed in 1994 was in excess of the then existing $50,000 jurisdictional amount. This Court has appellate jurisdiction of th e district court's

final order pursuant to 28 U.S.C. S1291.

3. Conrad Strudler, a limited partner, died before trial and was no longer

a defendant.

4liabilities on behalf of the partnership in connect ion with

the partnership's reasonable and legitimate busines s, borrow money in the name of the partnership, and in cur reasonable and legitimate expenses related to the C hestnut Woods property. Work on the Chestnut Woods project subsequently commenced.

In 1988, Red Hawk and Cedar Ridge entered into a second and distinct joint venture agreement to form the Timber Knolls partnership, under which both Red Haw k and Cedar Ridge were also general Partners. Red Haw k contributed $2.3 million to the Timber Knolls partn ership and Cedar Ridge again agreed to act as both the man aging partner and the general contractor of the project. Unlike the Chestnut Woods project, the Timber Knolls project n ever commenced operations. Therefore, in 1988, the Red H awk Partners entered into an agreement with Cedar Ridge requiring the latter to return Red Hawk's $2.3 mill ion capital contribution. As evidence of this obligatio n, Cedar Ridge executed promissory notes aggregating $2.3 mi llion with interest and principal payable quarterly.4 Ced ar Ridge made quarterly payments to Red Hawk on the notes, a nd G&A distributed these payments to the individual Re d Hawk Partners, as follows:

Payments by Distributions b y Cedar Ridge G&A to the

to Red Hawk Red Hawk

Date On the Notes Partners

(1) Jan. 1989 $ 78,750 $ 76,200 (2) April 1989 $215,000 $207,900 (3) July 1989 $215,000 $207,900 Totals $508,750 $492,000

Meanwhile, on December 29, 1988, Cedar Ridge, in it s role as general contractor of Chestnut Woods, bound itself to a $300,270 fixed-price contract with Henkels, un der which Henkels agreed to furnish and install storm a nd

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4. Each note initially called for quarterly interes t of $78,750 only, with balloon payments of principal due on the third quar ter of each year. In addition, the $2.3 million due was subsequently red uced to $2.1 million, with $200,000 transferred to Red Hawk's stake in Ch estnut Woods, thereby increasing its investment to $850,000.

5sanitary sewer systems for the Chestnut Woods

development. The contract identified Cedar Ridge as the "General Contractor," Henkels as the "Subcontractor ," and Chestnut Woods as the "Property Owner." The contrac t did not mention the relationship between Cedar Ridge an d the Chestnut Woods Partnership, and made no reference t o Red Hawk. It provided that the General Contractor, Ceda r Ridge, was obligated to pay Henkels, payments to be made against billed invoices 30 days after approved insp ection. At that time, Henkels was unaware that Cedar Ridge and Red Hawk were partners in Chestnut Woods.

On January 16, 1989, Henkels commenced the

installation of the Chestnut Woods storm and sewer systems and completed the work according to the con tract in late 1989. Under the contract, Cedar Ridge was r equired to pay Henkels in progress payments as invoiced. Accordingly, Henkels invoiced Cedar Ridge and recei ved payments as follows:

Invoice Invoice

Date Amount Invoice Status (1) Feb. 24, 1989 $ 37,632 paid in full 4/4 /89 (2) May 24, 1989 $ 33,421 paid in full 7/6/ 89 (3) Aug. 14, 1989 $215,175 only $25,000 paid on 10/19/89 (4) Sept. 28, 1989 $ 37,183 no payment (5) Nov. 9, 1989 $ 10,586 no payment

$333,996 Total amount paid = $ 96,053 Total amount unpa id = $237,943

Thus, Henkels received a partial payment in October on its August invoice and no payments on its September and November invoices, leaving a total unpaid balance o f $237,943. G&A, the general partner for Red Hawk, fa iled to establish any reserves from the cash receipts of th e limited partnership.

On March 16, 1990, Cedar Ridge sold its assets to R ed Hawk. Shortly thereafter, in April 1990, G&A agreed with Henkels to pay Cedar Ridge's outstanding obligation s to it, including accrued interest. However, Cedar Ridge pa id only two small payments aggregating $8,000.

On December 19, 1990, Henkels sued Cedar Ridge and Red Hawk, trading as Chestnut Woods, claiming breac h of

6the installation contract and the April 1990 agreem ent,

unjust enrichment, and conspiracy to defraud. Henke ls obtained judgment against Cedar Ridge and Red Hawk in the amount of $282,421.55, including interest. Ceda r Ridge and Red Hawk were unable to satisfy this judgment, in whole or in part.

In June 1992, Henkels sued G&A in its capacity as general partner of Red Hawk for the amount of the judgment previously obtained against Cedar Ridge an d Red Hawk. On August 12, 1992, the Henkels obtained a de fault judgment against G&A in the sum of $282,424.55 plus interest at 6% per annum from October 15, 1991. Whe n Henkels learned that G&A was unable to satisfy this judgment in whole or in part, it filed the instant suit seeking to have the Partners return to Red Hawk the cash capital distributions they received in 1989 as limi ted partners so that Red Hawk could satisfy the judgmen t obtained by Henkels against it.

The parties stipulated in the district court that t he distributions made to the Red Hawk limited partners constituted a return of capital and that the distri butions did not violate the New Jersey Limited Partnership Act. The district court concluded, however, in a careful and thorough opinion, that Paragraph 12(a) of the Red H awk agreement of limited partnership governed the distr ibution of all cash receipts, except those derived from the operation of the property, and found that the payments on the promissory note from Cedar Ridge to Red Hawk did no t constitute cash receipts derived from operations. I t therefore held that the general partner was obligat ed to follow the mandate of Paragraph 12(a)(iv) of the pa rtnership agreement which required the establishment of reaso nable reserves prior to distributing cash receipts to the limited

partners.

The district court found that the general partner i n Red Hawk failed to establish any reserves and that Red Hawk had knowledge of its contingent obligations in the Chestnut Woods project and knew or should have known of the strong potential that the assets of Chestnut Woods would not cover the expenses it continued to incur for si te improvements by Henkels and for which Red Hawk was

7ultimately responsible. Accordingly, it held that R ed Hawk

violated the partnership agreement by failing to es tablish

reasonable reserves to cover the cost of the site improvements made by Henkels.

The court accordingly entered a verdict in favor of Henkels and against the Partners individually for t heir proportionate share of liability in accordance with the monetary sums set forth in its conclusions of law i n the total amount of $371,101.84 to date plus interest t o the date of payment of any judgment.

The Partners appealed.

II.

On appeal, the Partners contend that the district c ourt erred in holding that at the times of the distribut ions by Red Hawk to its limited partners, Henkels was a cre ditor of

Red Hawk and that the distributions were made in vi olation of the partnership agreement. They also argue that even if Henkels were a creditor of Chestnut Woods, Red Hawk , as a Chestnut Woods partner, was not jointly and sever ally liable for the partnership debts (as a guarantor of payment) but rather only contingently liable as a guarantor of collection, and then only in the event Henkels obta ined a judgment against the Chestnut Woods Partnership and failed to collect on such judgment.

This Court reviews a district court's construction and application of the New Jersey Uniform Limited Partn ership Law de novo. See Salve Regina College v. Russell, 4 99 U.S. 225, 231 (1991); Schreiber v. Kellogg, 50 F.3d 264, 266 (3d Cir. 1995). However, whether Red Hawk and G&A breac hed the Red Hawk limited partnership agreement by faili ng to establish reasonably necessary reserves, and thus t he Partners ultimately received the distributions in v iolation of the agreement, is a mixed question of law and fact. Accordingly, this Court exercises plenary review of the legal operation of the partnership agreement, but will va cate the district court's contract interpretations and subsi diary factual findings only if they are clearly erroneous . See Cooper Lab., Inc. v. International Surplus Lines In s. Co., 802 F.2d 667, 671 (3d Cir. 1986); Ram Constr. Co., Inc. v.

8American States Ins. Co., 749 F.2d 1049, 1053 (3d C ir.

1984).

As a preliminary matter, we must first address the Red Hawk Partners' argument that Henkels was not a cred itor

who had extended credit to Red Hawk at the time of the 1989 capital distributions, and therefore the Partn ers were not liable to Henkels. The Partners base their argu ment on Section 42:2A-46(a) of New Jersey's ULPL, entitled "Liability upon return of contribution," which provides

a. If a limited partner has received the ret urn of any part of his contribution without violation o f the partnership agreement or this chapter, he is liable to the limited partnership for a period of one year thereafter for the amount of the returned co ntribution, but only to the extent necessary to discharg e the limited partnership's liabilities to credito rs who extended credit to the limited partnership d uring the period the contribution was held by the part nership.

N.J. Stat. Ann. S 42:2A-46(a) (emphasis added). The Partners' reliance on this section is, however, mis guided for several reasons: first, and most importantly, Henke ls brought suit under Section 42:2A-46(b) not (a); sec ond, subsection (b) is not in any way dependent upon nor does it even make cross reference to subsection (a); thi rd, subsection (b) does not require that Henkels have e xtended credit or have been a creditor, nor does it even me ntion the word "creditor." Finally, subsection (b) addresses an entirely different concern than subsection (a): contribution s made in violation of a partnership agreement or the New Jersey ULPL as opposed to distributions made without such violations but to the prejudice of creditors. Accor dingly, Section 42:2A-46(a) is irrelevant to the issues rai sed on this appeal.

Our analysis does not end with this conclusion, how ever, because as just mentioned, Henkels does allege that the distributions made by G&A to the Partners were ille gal under Section 42:2A-46(b) of the New Jersey ULPL. H enkels specifically alleges that the distributions violate d the New Jersey ULPL because they were made in violation of the Red Hawk partnership agreement. Accordingly, we confine our

9analysis to the relevant sections of the partnershi p

agreement in conjunction with Section 42:2A-46(b) w hich, in its entirety, reads as follows:

b. If a limited partner has received the ret urn of any part of his contribution in violation of the partnership agreement or this chapter, he is liable to t he limited partnership for a period of six years therea fter for the amount of the contribution wrongfully return ed.

(emphasis added). Section 12(a) of the Red Hawk partnership agreement specifically provided that ca sh receipts be used for the establishment of reasonabl e reserves (for creditors) before such receipts be di stributed

to the Partners.5 The Partners contend that the distributions were not made in violation of the par tnership agreement because Henkels, under the sewer subcontr act, at most was a creditor of only Cedar Ridge, not of either Chestnut Woods or Red Hawk. Thus Red Hawk, they arg ue, was not required to establish reserves. Pursuant to this reasoning, the Partners assert that because Henkels was not a creditor, they did not receive the 1989 distr ibutions in violation of the partnership agreement and thus did not violate the New Jersey ULPL.

The district court, however, committed no error whe n it

found that Henkels was a creditor of Red Hawk even though Henkels was not in direct contractual privit y with

either Chestnut Woods or Red Hawk. The Partners con tend that this was in error and that they could not be l iable to Henkels because Cedar Ridge was acting solely in it s capacity as general contractor and not as a partner in Chestnut Ridge when it entered into the contract wi th Henkels. Thus they contend that the contract did no t bind Chestnut Woods or Red Hawk in any way.

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5. Section 12, in pertinent part, provides that:

(a) Application of Cash Receipts. Cash rec eipts shall be applied in the following order of priority:

. . .

(iv) to the establishment of such reserves as the General Partner shall reasonably deem necessary; and

(v) to distributions to the Partners . . .

10In support of their argument, the Partners note tha t the

Subcontract Agreement with Henkels identifies Cedar Ridge as the "General Contractor," Henkels as the "Subcontractor," makes no mention of Red Hawk, and merely lists the Chestnut Woods Partnership as the "Property Owner." The contract, signed only by Henk els and Cedar Ridge, also states that Henkels shall invoice and be paid by Cedar Ridge, and provides that the Chestnut Woods property shall not serve as security for payment or be subjected to liens. The Partners also consider sign ificant that Henkels acknowledged that the contract was wit h Cedar Ridge only and that Henkels had no knowledge that Cedar Ridge or Red Hawk were partners in Chestnut Woods. The Partners argue that these facts conclusi vely establish that Cedar Ridge entered into the contrac t solely in its capacity as general contractor, not as a gen eral partner of Chestnut Woods, and therefore Cedar Ridg e is solely liable under the contract.6

This "two hats" argument, although creative, is mer ely one of form over substance, ignoring the essence of the Chestnut Woods partnership agreement as well as fundamental principles of agency and partnership la w which largely control the outcome of this case. Fir st, the essence of the Chestnut Woods partnership agreement was that Red Hawk would "fund the PARTNERSHIP" by providing the capital with which to develop the pro perty, while Cedar Ridge would contribute its development expertise by "act[ing] as the MANAGING PARTNER and GENERAL CONTRACTOR." (App. 76a, "Joint Venture Agreement, Chestnut Woods Partnership"). Thus, when Cedar Ridge signed the contract with Henkels as Gen eral Contractor, it simultaneously also was acting as a partner in the joint venture pursuant to its express author ity to

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6. The Partners cite in their brief, In Re Moserbet h Assoc., 128 B.R. 716 (E.D. Pa. 1991), as support for this argument. Mose rbeth, however, is inapposite. In Moserbeth, the general contractor wa s not itself a partner in the limited partnership, but instead was a separ ate and distinct corporation owned 100% by a partner in the partners hip. This separate and distinct corporate identity was critical to the Moserbeth court holding that the partnership was not liable for the debts of the general

contractor.

11"act as the . . . GENERAL CONTRACTOR" as provided i n

the Chestnut Woods partnership / joint venture agre ement. Second, it is elementary that "[e]very partner is a n agent of the partnership for the purpose of its business, an d the act of every partner . . . binds the partnership, unles s the partner so acting has in fact no authority to act f or the partnership in the particular matter." N.J. Stat. A nn. S 42:1-9(1); see also Eule v. Eule Motor Sales, 170 A.2d 241, 243 (N.J. 1961); Restatement (Second) of AgencySS 1 2, 140 (1958). This principle holds true even when, as her e, the principal is undisclosed and the agent signs the co ntract in his individual capacity for the benefit of the part nership. But when a third party creditor ascertains an agenc y relationship, it may hold the partnership as princi pal liable (and ultimately the individual partners) even thoug h the creditor was unaware of the agency relationship at the time that he extended the credit to the agent. See Looma n Realty Corp. v. Broad St. Nat'l Bank of Trenton, 161 A.2d 247, 255- 56 (N.J. 1960) ("The principal, if discovered, may also be a party to the contract."); Levy v. Iavarone, 154 A. 527 (N.J. 1931) (seller can recover from partner, although se ller did not know at the time credit was extended to the par tner's agent that a partnership relationship existed betwe en the partner and the agent); Yates v. Repetto, 47 A. 632 , 633 (N.J. 1900) (when credit is given to an agent, and the principal is unknown, the creditor may elect upon disclosure of the principal, to hold either the age nt or the principal liable); Moss v. Jones, 225 A.2d 369, 371 (N.J. Super. Ct. App. Div. 1966) ("If the existence of th e principal is not known until after [a judgment against the ag ent goes unsatisfied], then the undisclosed principal may be sued, notwithstanding the judgment against the agent."); Restatement (Second) of Agency SS 186, 190, 194, 19 5 (1958).

Here, it is undisputed that Red Hawk was a partner with Cedar Ridge in the Chestnut Woods Partnership, that Cedar Ridge had actual authority to enter into the contra ct with Henkels,7 that the sewer systems were being install ed for

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7. Paragraph 13.1(b) of the Chestnut Woods partners hip agreement delegated to the managing partner, Cedar Ridge, gen eral management

12the benefit of the Chestnut Woods Partnership, and that

Cedar Ridge was entitled to reimbursement from Ches tnut Woods for all monies paid by Cedar Ridge to Henkels

. Accordingly, the district court committed no error when it ruled that, although indirect, a creditor relations hip existed

between Red Hawk and Henkels based on the contract signed by Red Hawk's partner in the Chestnut Woods Partnership, Cedar Ridge.

The Partners also argue that the district court err ed in finding that Henkels was a creditor of Red Hawk, be cause, even assuming arguendo that a contractual relations hip existed between Red Hawk and Henkels, Henkels had n ot extended any credit to Cedar Ridge, Chestnut Woods, or Red Hawk. The unpaid invoices at issue here are fro m August, September, and November 1989, whereas the distributions to the Red Hawk Partners were made pr ior, in January, April, and July 1989. Therefore, the Partn ers claim that this is in itself prima facie proof that Henkels was not a creditor -- i.e., Henkels was not owed an y money at the time of the distributions. These arguments, however, take a very narrow and ultimately erroneous legal v iew of the contractual relationship with Henkels and even a more constricted view of the definition of creditor.

Although the term creditor is undefined in the New Jersey ULPL and there is no New Jersey case law interpreting the term in this context, the term cre ditor is not foreign to New Jersey law. For instance, many N ew Jersey statutes define creditor very broadly to inc lude "the holder of any claim, of whatever character, . . . w hether

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authority and decision making power, including: "[t ]he right to incur liabilities on behalf of the [Chestnut Woods Partne rship] in connection with the reasonable and legitimate business of the [Chestnut Woods Partnership]." In addition, Paragraph 13.1(n) deleg ated the right and power "to enter into such contracts or agreements d eemed necessary or appropriate on behalf of the [Chestnut Woods Partne rship]." It is significant that these provisions, unlike paragraph s 13.1(d), (g), (j), (l), & (m), allowed Cedar Ridge to incur "on behalf of the [Chestnut Woods Partnership]," and did not require that it incur li abilities and enter contracts only "in the name of the [Chestnut Woods Partnership]." (emphasis added).

13secured or unsecured, matured or unmatured, liquida ted or

unliquidated, absolute or contingent." See N.J. Sta t. Ann. S 14A:14-1(b) (Business Corporation Act); N.J. Stat . Ann. S 15A:12-18(c) (Nonprofit Corporation Act); and N.J . Stat. Ann. S 25:2-7 (Uniform Fraudulent Conveyance Act) (repealed), & N.J. Stat. Ann. S 12A:6-109 cmt. (UCC Bulk Transfers) (repealed). Cf. City of Philadelphia v. Stepan Chem. Co., 713 F. Supp. 1491, 1493 n.3 (E.D. Pa. 19 89) (to qualify as creditor, a party's claim must be based on "some legal foundation, such as an underlying debt, a con tract, or a lawsuit"). Also, the statute is remedial in natur e, "designed to protect creditors and should be interp reted with this purpose in mind." Henkels & McCoy, Inc., 906 F. Supp. at 252-53. In addition, the generic common la w definition of creditor is very broad and

includes every one having [the] right to req uire the performance of any legal obligation [or] con tract, . . . or a legal right to damages growing out of [a] contract or tort, and includes not merely the holder of a fixed and certain present debt, but every one having a right to require the performance of any legal obligat ion [or] contract, . . . or a legal right to damages growing out

of [a] contract or tort.

Black's Law Dictionary 368 (6th ed. 1990) (emphasis added). Finally, the failure of the statute to defi ne creditor is indicative of the New Jersey legislature's inten t that the

term "creditor" be construed consistent with the Ne w Jersey ULPL's broad remedial purpose and its common usage. See N.J. Stat. Ann. S 1:1-1 (General rules of construct ion). The district court cited many of these reasons and foun d them sufficiently persuasive, as do we, to adopt a broad definition of creditor which includes unmatured pay ments of a debt upon performance under a contract such as

Henkels's.

Pursuant to the subcontract agreement, Henkels had a claim to payment for a fixed contract price to be p aid in installments upon progressive completion of the sew er work. Although the Partners argue that Henkels did not have a claim at the time of the 1989 distributions, the contract between Henkels and Cedar Ridge was entere d into on December 29, 1988. Thus Henkels and Cedar R idge

14had definite obligations to each other under the co ntract

over a week prior to the first distribution by the general partner to the Red Hawk limited partners. Those obl igations required Henkels to make the site improvements and Cedar Ridge to make scheduled payments as performance was rendered. In addition, G&A made the bulk of the

distributions after Henkels had commenced work and was incurring costs and expenses in fulfilling its comm itments

under the contract. Thus Chestnut Woods and Red Haw k had incurred liability as early as December 29, 198 8, although the bulk of the payment matured the month after the last distribution by Red Hawk to the Partners. The Partners' overly narrow definition of creditor is i nconsistent

with the obvious financial realities that existed a t the time, the generally accepted common law meaning of the te rm, the broad definition used in other New Jersey statu tory contexts, and the broad remedial purpose of the sta tute. Accordingly, we hold that under this broad definiti on and consistent with the principles of agency and partne rship law previously discussed, Henkels was not only a cr editor of Cedar Ridge, but of Chestnut Woods, and thus Red Hawk and its partners.

The Partners further argue that even if we conclude that Henkels was a creditor of Chestnut Woods, Red Hawk was not "jointly and severally" liable for the partners hip's debts, but only "jointly" liable, as it was only a partner in Chestnut Woods. The Partners find this significant and contend that as a partner Red Hawk was only conting ently liable as a guarantor of collection, not as a guara ntor of payment. Furthermore, the Partners contend that eve n then

Red Hawk was not liable until Henkels had obtained a judgment against the Chestnut Woods partnership, wa s unable to collect, and then sought payment from Che stnut Woods's partner, Red Hawk. Therefore, the Partners conclude, Henkels was not a creditor of Red Hawk un til this eventuality ultimately did occur in October 19 91-- more than two years after the distributions. Thus, they assert there was no violation of Section 42:2A-46(b ) or the partnership agreement. Although the Partners make m uch of the distinction between "joint" and "joint and s everal liability," and between "guarantor of collection" a nd

15"guarantor of payment," the distinctions between th ese

terms are illusory here and are not dispositive.

Under the New Jersey ULPL, partners are only jointl y liable for contract obligations of the partnership, and thus a contract creditor of the partnership must first e xhaust the partnership's assets before it can pursue the a ssets of the individual partners. See N.J. Stat. Ann. S 42:1 -15(b). The Partners dwell on their argument that joint lia bility means that partners are merely guarantors of collec tion rather than guarantors of payment, citing Seventy-T hree Land, Inc. v. Maxlaw Partners, 637 A.2d 202 (N.J. S uper. Ct. App. Div. 1994). They contend that this distinc tion

means that Henkels was not a creditor of Red Hawk u ntil after it obtained a judgment against Red Hawk's ass ets in October 1991, "long after the distributions to the limited partners were made."

This argument is without merit, however, because th e Partners overly emphasize the distinction between guarantor of collection and guarantor of payment by ignoring the sentence in Seventy-Three Land, Inc. immediately preceding the courts' discussion of thi s distinction; that sentence actually supports an opp osite conclusion. The court in Seventy-Three Land, Inc. m erely stated that "[p]artners are liable for partnership contract debts, but their assets are not at risk until it is shown that the partnership cannot discharge the debt." Id. at 204 (emphasis added). This language, consistent with th e broad definition of creditor previously discussed, clearl y demonstrates that jointly liable partners such as R ed Hawk do have a present liability. The significance to th e Red Hawk Partners is that payment of that liability out of their individual assets is contingent, rather than fixed, until the partnership's assets are first exhausted. Although the Partners' individual assets were only contingently at risk,

the Partners nonetheless were liable to Henkels fro m the time the contract was signed and, as ultimately did happen,

their assets did become available when the Red Hawk partnership's assets proved insufficient to meet it s debt

with Henkels.

Accordingly, we hold that the district court's find ing that

Henkels was a creditor of Red Hawk was correct. See

16Henkels & McCoy, 906 F. Supp. at 252-53. At the tim e of

the 1989 distributions, Henkels was a creditor of R ed Hawk and the individual Red Hawk partners were liable fo r that

debt.8

III.

Although Henkels was a creditor of Red Hawk, the 19 89 distributions were in violation of the partnership agreement only if, as Henkels argues, Red Hawk's distribution s constituted a failure to abide by the partnership agreement's requirement to establish reasonably nec essary reserves. The Partners, however, contend that the d istrict court made several errors in interpreting the Red H awk partnership agreement which resulted in its finding that the distributions were in violation of the agreemen t by failing to establish such reasonable reserves.

Section 9(b) of the partnership agreement grants th e general partner, G&A, certain rights and powers, in cluding, under subsection (ix), the power "to establish reas onable

reserve funds from income derived from the Partners hip's operations to provide for future . . . debt service or similar requirements." The Partners argue that this subsect ion is the only subsection of the agreement that permits o r authorizes the general partner to reserve funds. Th us, according to the Partners, all reserves had to be ( 1) authorized by this subsection, (2) taken from incom e derived from operations, and (3) used for debt serv ice. Therefore, had G&A reserved funds against the Henke ls

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8. The dissent would extend our holding far beyond its limit. It concludes that the majority holds "by necessary implication. . . that a distribution could not be made to Red Hawk partners unless cash reserves had been established to fund the payment of all anticipated future liabilities of

the joint venture partnerships (owned in part by others ) that might accrue over some unspecified period of time . . . ." Disse nt at p. 30. We are not called upon in this case to decide whether reserves are required for "all anticipated future liabilities" and therefore the m ajority does not decide that question, either directly or by implication. T he focus of our holding is merely that when there is clear liability under an existing contract,

the equity partners cannot ignore that liability, recap ture their capital investments, and leave the creditor spinning in the wind.

17contract, the Partners contend that such reserves w ould

have been taken in violation of this subsection of the partnership agreement because the funds would not h ave been derived from operations but from distributions of capital.

The Partners' argument fails, however, because it selectively presents the language of Sections 9 and 12 and omits other relevant language which demonstrates th at the Partners greatly overemphasize the significance of subsection (ix). First, the express language of Sec tion 9(b) provides that the general partner possess all "righ ts and powers required for or appropriate to its managemen t of the partnership's business which, by way of illustratio n but not by way of limitation, shall include the following: . . . (ix) to

establish reasonable reserve funds from income deri ved from the partnership's operations to provide for fu ture . . . debt service or similar requirements." This unambig uous language demonstrates that G&A had the right and po wer to establish reserves, even if not expressly author ized under subsection (ix), if it deemed them required or appr opriate for the management of Red Hawk's business. The list of rights and powers in subsection (ix) is merely illu strative and is not an exclusive limitation on the general p artner's rights and powers.

Equally important, as the district court properly f ound,

the distributions at issue here were not taken from income derived from operations, but were merely returns of capital of the aborted Timber Knolls partnership, which, as Red Hawk admits, "never got off the ground." Income fro m "operations," as used in this subsection, refers to income derived from the active, normal, on-going activitie s of the partnership. Timber Knolls never functioned, and th us there never was any income from operations. Therefo re, subsection (ix) is not applicable to the distributi ons at issue here.9 It is completely irrelevant because the dist ributions

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9. This point is significant in interpreting Sectio n 12(a) as well. Following the order of priority for the distributions of cash receipts in Section 12(a)(i)-(v) is a provision which prohibits the gen eral partner from "retain[ing] and invest[ing] any Cash Receipts deri ved from the operations of the Property, except . . . (2) for investments o f reserves permitted to be established under clause (ix) of Paragraph 9(b). " (emphasis added). Because the cash receipts used to fund the distribu tions were not derived from income from operations of Red Hawk pro perty, this prohibition is not relevant to this appeal.

18constituted capital funds retrieved by Red Hawk fro m its

abandoned project, Timber Knolls. Although the Part ners emphasize that the funds were derived from the Timb er Knolls project, Subsection (ix) only addresses the reserving of funds derived from operations; the germinating p roject is

immaterial.

Finally, as previously discussed, Henkels qualified as a creditor of Red Hawk at the time the distributions were made. Therefore, pursuant to Section 12(a) of the R ed Hawk limited partnership agreement governing the distrib ution of all cash receipts, the Red Hawk general partner was required to establish reasonable reserves from the cash received on the Timber Knolls promissory notes to m eet its ongoing liability before distributing such cash to the individual limited partners. We, therefore, turn to the issue

as to what would constitute a "reasonable" reserve to meet the outstanding liability under the Henkels subcont ract.

Although neither party provided the district court with any case law or treatise defining reasonable reserv es, the court used the Black's Law Dictionary definition of

"reasonable" and of "reserves" in the insurance con text to

define reasonable reserves in the business context before us. We agree with them that the insurance context i s inappropriate for analysis because the nature of th e insurance business differs significantly from that of an ordinary business partnership. Unlike an ordinary b usiness partnership, an insurance company essentially is re quired to meet future, contingent obligations, and these r eserves are required. The Partners instead propose that the highly deferential corporate "business judgment" standard is the appropriate standard. However, as Henkels correctly argues, the business judgment rule also is inapposi te in the partnership context because it is a function of a u nique corporate setting. See 3A William Meade Fletcher et al., Fletcher Cyclopedia of the Law of Private Corporati ons SS1036-37 (perm. ed. rev. vol. 1994).

Although the New Jersey courts have not yet address ed the issue of what constitutes reasonable reserves, we do not need to expressly define reasonable reserves in the context of this case because it is unnecessary to the dispo sition of this appeal. See Rush v. Scott Specialty Gases, Inc ., 113

19F.3d 476, 486 (3d Cir. 1997) (declining to decide i ssues

unnecessary to the appeal); Georgine v. Amchem Prod ucts, Inc., 83 F.3d 610, 623 (3d Cir. 1996) ("[W]e believ e it prudent not to decide issues unnecessary to the dis position of the case."). Regardless of what standard the New Jersey courts will ultimately adopt, under any standard an d using any definition of reasonable reserves, the Red Hawk general partner's failure to establish any reserves in the face of the fixed obligation and imminent payments due under th e contract with Henkels and the operations of the Che stnut Woods development was callous and not reasonable.

It is undisputed that of the approximately $500,000 monies received by Red Hawk in 1989, the Red Hawk general partner (G&A) did not set aside any of thes e funds to establish reserves, even in the face of a contra cted liability. Red Hawk argues, however, that this was not unreasonable because (1) the Red Hawk partnership h ad no liabilities and $3 million in assets at the time of the distributions; (2) Henkels had not yet invoiced Che stnut Woods; (3) the financial outlook of Red Hawk (& Che stnut Woods) was healthy; and (4) the express terms of th e partnership agreement prohibited the taking of such

reserves. Each of these contentions is without meri t.

First, the $3 million of assets included on Red Haw k's January 1, 1989 balance sheet is somewhat illusory. Of the $3 million in assets, a scant $22,000 was in the fo rm of cash or other liquid assets. The remaining were alm ost exclusively illiquid: the $800,000 investment in th e Chestnut Woods project itself which consisted of la nd and infrastructure and the $2.1 million Timber Knolls n otes receivable from Cedar Ridge -- which were substanti ally distributed to the limited partners. Neither of the se assets were readily available to satisfy Red Hawk obligati ons, especially not after the payments on the notes were distributed to the partners. Moreover, Red Hawk rep eatedly left almost no money in its checking account after each distribution to the Partners, other than several th ousand dollars to cover incidental operating expenses. Add itionally, the absence of any formal liabilities from its bala nce sheet and the failure of Henkels to physically invoice Ce dar Ridge did not mean that Red Hawk had no liabilities; it s imply

20was an "off-balance sheet" liability. In the accoun ting

profession, an "off-balance sheet" liability is a f inancial obligation that is not formally recognized in an en tity's accounting statements because no "accounting" oblig ation arises until the exchange transactions is completed ; nonetheless, they do have real current and future c ash flow consequences. See Accountant's Handbook, 10.29 (7th ed. 1991). Under the broad definition of creditor estab lished above, Red Hawk had an unmatured, fixed, off-balanc e sheet liability to Henkels.

Although by itself this may be not determinative, m ore telling is the Partners' failure to identify any ot her source of funds from which the Red Hawk Partnership would be able to meet its obligations, including its contract obl igation to Henkels. The Timber Knolls project never got off th e ground, literally and figuratively, and based on th e record, Chestnut Woods generated no earnings during the 198 9 tax year and Red Hawk generated none during both 1988 a nd 1989. Because the Chestnut Woods property was under development at the time, Chestnut Woods reported a loss during 1989 and Red Hawk reported losses on both it s 1988 and 1989 tax returns, and both Chestnut Woods and Red Hawk appear to have had negative cash flows dur ing these years. Without any other source of cash or li quid assets, short of liquidating the Chestnut Woods pro perty itself, it clearly was unreasonable for G&A to dist ribute to the Partners Red Hawk's only available source of pa yment without setting aside any reserves to meet the Henk els debt.10

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10. As we noted above, see supra p. 10, under the N ew Jersey partnership statute and fundamental principles of a gency law, every partner is an agent of the partnership and the act of every partner binds the partnership for the purpose of its business. Ac cordingly, the liability of the Red Hawk partnership to Henkels was committe d by written contract between Henkels and Red Hawk's partner, Ce dar Ridge, in December 1988, before any retrieval by the Partners of their capital investment in Timber Knolls. In addition, Red Hawk' s project, Chestnut Woods, had current liabilities as of January 1, 198 9, according to its tax returns, which disclosed debts of over $1.7 million . These liabilities

also were in place prior to the retrieval of the Partner s' investments in Red Hawk. Nevertheless, the dissent would relieve the P artners of any liability under the contract to creditor Henkels on the theory that from January to August 1989, Red Hawk "had no significan t liabilities of any kind." Dissent at p. 29.

21Second, and equally telling, G&A knew, or at least had

ample notice, that the financial outlook of Red Haw k and Chestnut Woods was not as rosy at the time of the distributions as the Partners attempt to assert now . 11 For example, the Partners fail to mention or accurately state many of the following facts: (1) Red Hawk and G&A, in December 1988, received notification from Cedar Rid ge that four separate and distinct types of delays in the C hestnut Woods project were resulting in additional financia l burdens to it; (2) Cedar Ridge also informed Red Ha wk that these financial burdens were worrisome given the de cline already experienced in the housing market; (3) Red Hawk had a scant $22,000 in cash or other liquid assets on hand as of January 1, 1989; (4) Chestnut Woods had an eq ually scant $12,000 in cash or other liquid assets on han d as of January 1, 1989; (5) Chestnut Woods' January 1, 198 9 balance sheet showed over $1.7 million in current liabilities, with the land and construction in prog ress of Chestnut Woods comprising over 90% of its $2.4 mill ion in assets, leaving meager resources available to pay f or the planned 1989 site improvements, such as the $300,00 0 of sewer systems from Henkels;12 (6) as of March 7, 19 89, Red Hawk had, at a minimum, imputed knowledge from its

bank's written notice that interest on the Chestnut Woods mortgage would no longer be paid out of the interes t reserve fund and that Cedar Ridge was responsible t o pay

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11. Even assuming arguendo that Red Hawk and G&A di d not have actual notice or knowledge of the precarious financ ial condition of Chestnut Woods, "[t]here are many cases stating the general rule that knowledge of one partner [(Cedar Ridge)] will be im puted to the others." Harold Gill Reuschlein & William A. Gregory, The La w of Agency and Partnership S200 at 304 (1990); see also N.J. Stat. Ann. S 42:1-12 ("Knowledge to any partner of any matter relating t o partnership affairs . . . operate[s] as notice to or knowledge of the p artnership . . . .");

Claflin v. Wolff, 96 A. 73, 79 (N.J. 1915) ("If any of [the partners] had notice

or knowledge . . . they would all be affected by it.")

.

12. Red Hawk states, and its 1989 tax return shows, that Chestnut Woods' assets were $2.4 million, not $1.8 million. Although the district court found the number to be $1.8 million, this dif ference is inconsequential; either amount consisted almost exc lusively of the project's land and work-in-progress -- i.e., illiqu id assets, leaving next

to nothing to pay its $1.7 million in current liabilit ies.

22interest out of its own funds due to "the past unfo rtunate

circumstances [which] caused slower than expected [progress on the Chestnut Woods project,]" and whic h caused the remaining interest reserve to become substantially depleted and potentially "insufficien t to carry this loan;" and (7) the August 1989 $2.7 million ap praisal of the Chestnut Woods project was merely a potentia l future retail estimate and contained the express caveat th at this "value estimate[ ] assume[s] that all site improvem ents will be completed in a workmanlike manner and within a reasonable period of time."13

Finally, as previously discussed, the Red Hawk partnership agreement did not prohibit G&A from res erving funds for the payment of Henkels. Section 9(b)(ix) is merely an illustration of G&A's rights and powers and, bec ause the funds at issue were not derived from operations, ul timately was irrelevant to the funds at issue. More importan tly, Section 12(a) expressly required that the available cash funds be used to establish reserves before they wer e distributed to the Partners.

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13. The dissent ignores the foregoing realities of Red Hawk's and

Chestnut Woods' financial straits while the Chestnu t Woods project was still under development, and already beset by a neg ative cash flow in the project, while at the same time the Partners were r etrieving all of their total capital investments in the Timber Knolls proj ect. The dissent, again, would permit the Partners to escape liabilit y in the face of Henkels' 1988 contract on the infirm premise that a t the end of August 1989, when all partner contributions had been repai d, Chestnut Woods had the project appraised at $2.7 million and Red H awk "had significant net worth throughout this period." Dissent at p. 30 . In the first place, the appraisal obtained by Chestnut Woods was merely an optimistic, potential, retail figure dependent on the market pr ice for the lots, when and if sold, and the completion of the project "in a workmanlike manner and within a reasonable period of time." Second, ev en if the appraisal of the project were accurate, the frozen nature of the real estate -- not yet marketable -- provided no liquid source for payment of ongoing obligations. To illustrate, it could not meet the p ayment due of $215,175 for the August delivery by Henkels. Further signifi cant, Red Hawk and Chestnut Woods both reported losses during 1989, an d both appear to have had negative cash flows. Both had meager sums of cash on hand, and Chestnut Woods had significant current liabilit ies with 90% of its

assets frozen.

23Although neither Henkels nor the district court att empted

to determine what level of reserves was reasonable, no determination was needed because Red Hawk and G&A failed to establish any reserves. It is patently ob vious that at least some level of reserves was reasonably nece ssary, and that the general partners' distributions and fa ilure to reserve any money for the Henkels contract obligati on, in light of Chestnut Woods' and Red Hawk's precarious financial condition, was unreasonable. Thus, the di strict

court did not need to determine what level of reser ves was reasonable; it clearly had an ample factual basis u pon which to determine that the complete failure to est ablish any reserves was a violation of the Red Hawk partne rship agreement's requirement that G&A establish some lev el of reserves before making distributions to the Partner s. Accordingly, we hold that Red Hawk's failure to est ablish any reserves in light of both partnerships' then ex isting

financial condition was not reasonable.

IV.

In conclusion, we find no merit to appellants'

contentions. We see no error in the district court' s conclusion that Henkels was a creditor of Red Hawk, and therefore the 1989 capital distributions to the Par tners and failure to establish any reserves to fund its contr act obligation to Henkels was a violation of the Red Ha wk partnership agreement. The Partners are therefore o bligated to return the improper capital distributions to Red Hawk. Because the plaintiff stands in the shoes of Red Ha wk for the purpose of recovering these funds on behalf of the partnership, In re: Sharps Run Associates, 157 B.R. 766, 772-73 (D.N.J. 1993), and because of the multiple s uits it already has been compelled to undergo to enforce co llection of its debt, judicial resources will be conserved a nd economies of time and expenses effectuated, to hold the Partners directly liable to Henkels.

Accordingly, the judgment of the district court wil l be affirmed. Costs taxed against the appellants.

24STAPLETON, Circuit Judge, Dissenting:

The critical issue posed by this appeal is one of i ntent - the intent of the Red Hawk partners when they negot iated their partnership agreement. Given the text of that agreement and the context in which it was executed, I believe the district court clearly erred when it in terpreted Section 12(a)(iv) as precluding the three challenge d payments to Red Hawk's limited partners.

The relevant facts are documented and undisputed. R ed Hawk is a limited partnership organized under the N ew Jersey Uniformed Limited Partnership Law to facilit ate the investment of its corporate general partner and its individual limited partners in two specific real es tate developments. The sole declared purpose of the part nership was to participate in two joint ventures pursuant t o identified, previously executed joint venture agree ments, each of which would independently develop a parcel of real estate in Bucks County, Pennsylvania. The Timber Kn oll joint venture was to develop the Timber Knoll prope rty; the Chestnut Woods joint venture was to develop the Che stnut Woods property. In each instance, management of the joint venture was placed in the hands of an unrelated corporation with experience in the business of real estate development, the Cedar Ridge Development Corporatio n. The partners of Red Hawk contributed to it capital of $3.5 million. Of this capital, $2.3 million was committe d to the Timber Knoll joint venture, and $850,000 was commit ted to the Chestnut Woods joint venture. It was understood that Cedar Ridge would be simultaneously involved in oth er real estate development projects in New Jersey, Pennsylv ania,

and other states.

Under the Chestnut Woods joint venture agreement, Cedar Ridge, as the "Managing Partner," was authori zed to borrow money and to mortgage and sell assets. Red H awk was to receive a Preferred Minimum Return on Capita l prior to any distribution of profits to Cedar Ridge. The preferred return was equal to 15% "per annum based on simple interest payable quarterly on the amount of capital outstanding and not returned." J.A. at 91. However, "in the event the net cash working reserve of the [joint ve nture fell] below $500,000, the quarterly preferred return [cou ld] be

25deferred by the MANAGING PARTNER until the net cash

working reserve has sufficient cash in excess of $5 00,000 to pay the unpaid preferred return." J.A. at 91-92. The agreement further provided that no partners would h ave "the right to compel a distribution of profits or c ash, unless the [joint venture] has accumulated an unwarranted amount of cash not reasonably needed for future bus iness activities." J.A. at 93-94. Red Hawk's capital cont ribution was to be returned at the minimum rate of $12,400 p er lot

sold after the sale of the first 20 lots. In additi on, the managing partner committed itself to "make a good f aith effort to make minimum annual cash distributions eq ual to thirty-five percent (35%) of the distributive share of profits allocated to each PARTNER" for tax purposes. J.A. a t 94. Distributions could be made in cash or property.

It was in the context of this joint venture agreeme nt and the similar Timber Knoll joint venture agreement th at the Red Hawk Partnership Agreement was negotiated. Sinc e the Red Hawk partners understood that cash flow would b e coming to Red Hawk from the managing partner of the joint ventures only after Cedar Ridge had established res erves to service the only business operations in which Red H awk would ever have an interest, the Red Hawk limited p artners understandably sought assurance that joint venture profits and return of capital would not be accumulated in t he Red Hawk partnership by its general partner, G&A.

The Red Hawk Partnership Agreement thus provided fo r a mandatory pass-through of cash receipts, whether generated by the joint ventures in the regular cour se of business or otherwise, after the general partner ha d paid all of the currently due debt obligations of Red Hawk a nd had set aside specifically limited reserves. Any reserv es were expressly limited to such revenue from operations a s the general partner, in its discretion, considered appr opriate for the purpose of paying anticipated administrative ex penses and, in the event of the distribution of joint vent ure property in kind, anticipated property management expenses. Section 12(a) of the agreement thus provi ded:

(a) Application of Cash Receipts. Cash Recei pts shall be applied in the following order of priorit y:

26(i) to the extent required, to the creditors of the

Partnership, except to any Partner or any Affiliate thereof;

(ii) to the extend required, to the payment of any debts or liabilities to any Partner or any Affiliate thereof (other than a loan to the Partnership by the Partner);

(iii) to the payment in full of any loans to the Partnership by a Partner;

(iv) to the establishment of such reserves a s the General Partner shall reasonably deem necessary; and

(v) to distributions to the Partners in acco rdance with Paragraphs 12(b) and (c) hereof.

Notwithstanding the foregoing, the General Partner shall not retain and invest any Cash Receipt s derived from the operations of the Property, except (1) to defray expenditures for any repair or improvement t o any Property, which it, in its sole discretion, deems appropriate or (2) for investments of reserv es permitted to be established under clause (ix) of Parag raph 9(b) hereof, nor shall the General Partner invest the net proceeds derived and retained by the Partner ship from the sale or other disposition of any Propert y (including any total condemnation or destruction of any portion of the Property) except as otherwise provided h erein.

J.A. at 274.

The term "Property" is defined in the Red Hawk Agreement to mean "the Buildings and Land in Bucks County, Pennsylvania." J.A. at 261. "Cash Receipts" means "all cash receipts of the Partnership from whatever source derived." J.A. at 259. Section 9 of that Agreement is entitled "Rights and Duties of the General Partner." It impo ses no duty on the General Partner to set aside reserves f or any purpose. In subsection (b)(ix), the subsection refe renced in Section 12(a), the general partner is given the aut hority "to

establish reasonable reserve funds from income deri ved from the Partnership's operations to provide for fu ture

27maintenance, repair, replacement, debt service or s imilar

requirements." J.A. at 265.

Read in the context of the Agreement and the expectations of the Partners, it is apparent that t he dominant portion of Sections 12(a) is the paragraph commencing with the clause "Notwithstanding the foregoing." Indeed, that lead clause requires that this paragraph be given controlling significance over th e preceding text. It mandates disbursement to the par tners of all cash whether received by Red Hawk in the course of the normal operations of the joint venture properties o r whether received by it from dispositions of joint v enture property other than in the course of its regular bu siness operations. The two exceptions recognize that the G eneral Partner, in its sole discretion, should have the ab ility to retain cash derived from operations to establish re asonable reserves for property repairs and improvement, debt service, and other operating expenses.

The subordinate portion of Section 12(a) that prece des the "notwithstanding" clause establishes the priori ties among various interests that may compete for distri butions of cash receipts. The purpose of subsection 12(a)(i v), in particular, is (1) to recognize the possibility tha t the General Partner may wish to withhold some funds pursuant to the two express exceptions from theflow through mandate; and (2) to emphasize that the Gene ral Partner's authority to do so is limited to such res erves as it might "reasonably deem necessary." Thus, subsection 12(a) is designed both to recognize the possibility of re tention of cash receipts for authorized reserves at the discre tion of the General Partner and, at the same time, to assure th e limited partners that there will be no accumulation of even funds for reserves when the general partner, in the exercise of business judgment, could not reasonably regard t hem as necessary for the designated purposes.

The Timber Knoll project never got off the ground. The requisite governmental approvals for development we re not obtained by the owner of the Timber Knoll site, and the property was never purchased by the joint venture. When it appeared that the objective of the joint venture wo uld have to be abandoned, an amendment to the joint venture

28agreement was executed that called for the conversi on of

Red Hawk's $2.3 million capital contribution into promissory notes of Cedar Ridge. Pursuant to these notes, payments were received by Red Hawk in January 1989, April 1989, and July 1989. These payments represent ed a return of the capital contribution made by Red Hawk to the Timber Knoll joint venture and interest accrued the reon after the conversion.

The Chestnut Woods project did get underway in late 1988. Cedar Ridge served the Chestnut Woods joint v enture not only as managing partner, but also as "general contractor" for the site improvements. The site improvements were to be financed, at least in part, through bank borrowing. Among these improvements were, of course, storm and sanitary sewer systems. Cedar Rid ge, in its capacity as "general contractor," contracted wi th plaintiff Henkels & McCoy in December of 1988. Henkels

commenced its work at the Chestnut Woods site on January 16, 1989, shortly after Red Hawk received t he first payment on the return of its capital contribution t o the Timber Knoll joint venture.

In January, April and July of 1989, Red Hawk's gene ral partner made the decisions that gave rise to this l awsuit. When each return of capital from the Timber Knoll p roject was received, G&A decided to deposit a few thousand dollars in Red Hawk's checking account to cover anticipated administrative expenses and to return t he remainder to the limited partners. Henkels seeks to compel return of those distributions to Red Hawk for appli cation to a default judgment it later obtained against Red Ha wk.

During the period from January to August 1989, Red Hawk had satisfied its entire capital commitment to the Chestnut Woods joint venture, and it had no signifi cant liabilities of any kind. It was receiving reports f rom Cedar Ridge that site improvements, after some initial de lays, were progressing. Cedar Ridge estimated at the star t of this period (i.e., December 1988) that, even without improvements, the entire property could be sold for approximately $78,000 per lot, i.e., $1.8 million. At the end of this period (i.e., August 1989), the Chestnut Wo ods

29project was appraised at $2.7 million. It is undisp uted that

Red Hawk had significant net worth throughout this period.

The district court found it significant that Red Ha wk and its partners understood that site improvements were ongoing during the period from January to July 1989 a nd that the Chestnut Woods joint venture was, accordin gly, incurring liabilities. It did not find, however, th at this joint venture was insolvent during this period. To the co ntrary, the record relevant to this period indicates that t he liabilities of the Chestnut Woods joint venture did not exceed $1.7 million, that it thus remained solvent, and that trade creditors were being paid on a current basis. In particular, all invoices that were submitted to Ced ar Ridge by Henkels during this period were paid in full.

New Jersey's Uniform Limited Partnership Law provid es that a partner may not receive a distribution from a limited partnership "to the extent that, after giving effec t to the distribution, all liabilities of the limited partne rship, other than liabilities to partners on account of their pa rtnership interests, exceed the fair value of the partnership assets."

N.J. Stat. Ann. S 42:2A-45. This is the sole mandat ory restriction in the law for the benefit of partnersh ip creditors on distributions to partners. Any additional restri ction for

the benefit of creditors must thus be one voluntari ly undertaken by the Red Hawk partners in their partne rship

agreement.

Our court today holds that the Red Hawk partners, although mandating a pass-through to themselves of cash receipts, intended in Section 12(a) of their partne rship agreement voluntarily to impose on themselves a ver y significant restriction for the benefit of joint ve nture creditors. This voluntary restriction, the court ho lds by necessary implication, was intended to be sufficien tly broad that a distribution could not be made to Red Hawk p artners

unless cash reserves had been established to fund t he payment of all anticipated future liabilities of th e joint venture partnerships (owned in part by others) that might accrue over some unspecified period of time, even t hough those other partnerships were expected to pay their own liabilities with their own or borrowed funds. The r ecord suggests no reason, however, why the partners, when

30setting up the Red Hawk partnership, would have imp osed

such an unnecessary and ill-defined burden on thems elves, and the text of Section 12(a) does not require such a conclusion that they did.

The court resolves the central issue in this appeal in one sentence: Section 12(a)(iv) "of the Red Hawk partne rship agreement specifically provided that cash receipts be used for the establishment of reasonable reserves (for c reditors) before such receipts be distributed to the [limited partners]." Slip opinion at 10. Because Red Hawk's general partner had reason to believe that Henkels might su bmit invoices in the future for site improvement work, t he court accordingly concludes that the three challenged distributions violated Section 12(a)(iv).

In my view, the court errs for at least five reason s: (1) In context, Section 12(a)(iv) was intended for the pro tection of the limited partners, not as a creditor protection device even for creditors of Red Hawk; (2) Section 12(a)(i v), even if viewed as a creditor protection provision, was not intended for the protection of joint venture creditors for w hom the joint ventures were to make other provision; (3) th e challenged distributions were a return of capital t hat the partners had agreed to devote to an abandoned ventu re, and it is not reasonable to find an intent in Secti on 12(a)(iv) to commit that capital contribution to the creditor s of a different, fully capitalized venture; (4) Section 1 2(a)(iv) permits the general partner to retain reserves only from "Cash Receipts derived from the operations of the P roperty" and the challenged distributions did not come from funds generated by operations;1 and (5) even if Section 1 2(a)(iv)

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1. The district court correctly found that the thre e payments representing a return of the capital committed to t he Timber Knoll joint venture did not constitute a "cash receipt from the operations of the Property." It inexplicably concluded from this, how ever, that the general partner was thus "plainly obligated" to follow the terms of Section 12(a)(iv) and establish a reserve for anticipated f uture liabilities to Henkels. At the time the Red Hawk partnership agree ment was negotiated, the parties were not, of course, antici pating the abandonment of the Timber Knoll venture, and the"no twithstanding" clause does not literally read as applying to a ret urn of capital that

does

31could reasonably be read to require Red Hawk's gene ral

partner to set aside funds for creditors in Henkels ' position whenever a reasonable general partner exercising bu siness judgment would do so, this record provides no basis for a conclusion that the failure of Red Hawk's general p artner to set aside funds for Henkels in January through July of 1989 was a decision beyond the bounds of business judgment.

I would reverse and remand with instructions to ent er judgment for the defendants.

A True Copy:

Teste:

Clerk of the United States Court of Appeals

for the Third Circuit

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not result from a sale of the joint venture propert y. Nevertheless, I believe the intent behind the provision governing s uch sales, and the provisions strictly limiting the objectives of the partnership to participation in specified joint ventures with spec ified capitalization, required a pass-through of the payments from the Ti mber Knoll joint venture. But whether or not this is the case, Ifind no authority in the agreement for the establishment of reserves other t han out of operating

revenues. 32