2. Where profits are to be shared in the same ratio as capital, the agreement should specify whether the basis of division is to be the original investments or the capitals as shown at the beginning of each period, which would be the original investments plus profits left in the business. This latter interpretation would usually result in a changing ratio for succeeding periods, whereas under the former interpretation the ratio of profit-sharing would be always the same.
3. Provision should be made, either in the original articles or at a subsequent time, for a change in the profit-sharing ratio in the event of a partner’s withdrawing some portion of his original investment if such withdrawal is allowed. It may be stated here that an agreement between the partners as to any ratio for division of profits can be made at any time and will govern such ratio, but must be on a determinable basis.
4. Where the articles are silent as to the division of losses, the profit-sharing ratio governs. Where a different ratio is desired, specific statement of it must be made. Of course, upon the inception of an undertaking losses are not contemplated, but the experience of others should cause provision to be made for apportionment of losses in order to avoid possible difficulties or disputes.
5. Unless the articles—or subsequent agreements—provide for the payment of salaries to any or all of the partners, none are allowed.
6. The conditions governing the partners’ drawings should be explicit as to the amount to be drawn during a given period. It should be stated explicitly whether excess drawings shall be regarded as a charge against capital, or as the basis for an interest charge, or simply as an excess drawing standing in the partner’s current account without penalty other than a disallowance of future drawings until lapse of time brings the total amount drawn within the agreed limitations.
7. The manner of handling undrawn profits should be made definite. Are they to be transferred to the capital account and so be made a part of capital, resulting in changing capital ratios; or are they to be carried as open balances in the drawing accounts and thus take on the nature of temporary loans subject to withdrawal at any time?
Average Investment as a Basis for Profit-Sharing.—Attention should be called to a basis for profit-sharing sometimes employed for special partnerships, entered into for the performance of a specific contract or for doing any special work. In these cases the capital needed may not be known at the start, or if known may not all be required then but is to be furnished by whichever partner may have available funds at the time of need. In such cases the basis of profit-sharing may be made the amount of capital furnished by each partner and the length of time of its use in the enterprise. Two methods of determining the ratio may be employed.
First Method. Each investment may be multiplied by the number of days occurring between the date on which the investment was made and the date of profit determination, giving a result which may be called “day-dollars” of investment in a sense similar to the term foot-pound in physics. From the total day-dollars of investment must be subtracted the day-dollars of withdrawals, arrived at similarly, thus showing net investment in terms of day-dollars. The sum of all the investments in day-dollars becomes the basis on which to prorate profits, each partner’s share being the part which his individual net investments bear to this total net investment.
Second Method. The original investment of each partner may be multiplied by the time it remains unchanged, i.e., until it is added to or some portion is withdrawn. Similarly, this changed capital is multiplied by the time it remains fixed, and so for every change. The total of these items constitutes each partner’s net investment, from which the profit-sharing ratio is determinable as above. In the problem given below, for purposes of illustration the dates are so taken that the calculation can be made on a month-dollar instead of a day-dollar basis, thus shortening the operation. The capital accounts of the partners, showing investments and withdrawals, are as follows:
| A. B. Card | |||
| 19— | 19— | ||
| Jan. 15 | 2,500.00 | Jan. 1 | 10,000.00 |
| Apr. 1 | 4,500.00 | Mar. 15 | 7,500.00 |
| June 15 | 1,500.00 | June 1 | 5,000.00 |
| D. E. Folwell | |||
| 19— | 19— | ||
| Feb. 1 | 3,000.00 | Jan. 1 | 5,000.00 |
| May 15 | 2,000.00 | 15 | 5,000.00 |
| Apr. 1 | 5,000.00 | ||
| June 15 | 2,500.00 | ||