Business Organizations Flashcards
What is agency?
Agency is the fiduciary relationship between a principal, who manifests assent to an agent, who will consent and act in accordance of principal’s behalf with good faith, loyalty and care.
What is a fiduciary relationship?
Relationship wherein an agent owes a principal certain duties, the most common being: good faith, loyalty and care.
How do you form an agency?
By conduct
1. Principal must manifest assent that another person (an agent) shall act on the principal’s behalf.
2. The agent consents
Is a writing required to form an agency?
No.
Quality Cardiovascular Care v. Casey
An employee fraudulently induced into her employment is not absolved of her agency status. Fraudulent inducement may give the employee a separate cause of action against the employer but does not vitiate her fiduciary duties to the employer.
Three Types of Authority in Contract Cases
- Actual (express and implied)
- Apparent
- Inherent
Actual Authority-Contracts
Authority created by some communication by the principal to the agent, and the agent reasonably believes, in accordance with the principal’s manifestations, that the principal wishes the agent so to act.
Express – “go hire lawn maintenance company”
Implied – “I need someone to manage this apartment complex, I need you to take care of it.” Taking care of lawn maintenance is something a manager would take care of.
Apparent Authority-Contracts
Apparent NOT the same as implied
Arises when principal communicates with third party, and third party reasonably believes agent is acting in accordance with the principal’s manifestations.
Manifestations don’t have to be verbal.
Inherent Authority-Contracts
Abolished in Florida; decreed it’s just a form of apparent authority.
An agent’s power to act on behalf of a principal, even though that power has not been specifically or implicitly granted by the principal.
Exists when a person, by virtue of her status, has authority to bind a principal (usually a company) e.g. corporate presidents, someone who’s name is on the door, etc.
Ratification
Occurs when a principal adopts an agent’s contract, even though agent didn’t have authority to enter in to.
Express Ratification v. Implied Ratification
Express:
Principal talks an act formally adopting a contract that an agent entered into without authority.
Implied:
* Conduct
* Principal accepted benefit of contract to haul stone to construction site. Accepting the benefit = implied ratification
Express and implied ratification both require the principal’s awareness of the contract at issue.
Disclosed Principal
Agent Liability is a function of principal disclosure.
Principal is “disclosed” if, at the time of making the contract in question, the other party to the contract has notice that the Agent is acting for a specifically identified Principal.
If Agent acts with actual or apparent authority: Principal and third party are parties to the contract.
Agent is not a party; unless Agent and third party agrees otherwise.
Principal is liable.
Unidentified Principal
If at the time of contract, the third party to the contract has notice that the Agent is acting for a Principal, but the Principal’s identity remains unknown.
Example: works of art (owner wants to remain anonymous)
If Agent acts with actual or apparent authority: Principal and third party are parties to the contract.
Agent is also a party (unless Agent and third party agree otherwise).
Principal is liable; Agent is liable.
Undisclosed Principal
If at the time of making the contract in question, the third party to the contract has no notice that the Agent is acting for a Principal (or that the Principal exists).
If Agent acts with actual authority: Principal and third party are parties to the contract.
Agent is also a party
Principal is liable; Agent is liable.
There can’t be apparent authority
Respondeat Superior (Vicarious Liability)
Two requirements for vicarious liability:
- The principal and agent must be employer and employee (or in older terminology, master and servant).
- The employee must be acting within the scope of her employment.
Independent contractor:
- Hired to do a job
- Not told specifically how to do it
- Principal not vicariously liable or independent contractor’s torts
(generally).
Employer-Employee Relationship
An agent is an employee only when the principal controls or has the right to control the manner and means through which the agent performs work. If a person has no right to control an actor and exercises no control over the actor, the actor is not an agent.
Alms v. Baum (respondeat superior)
An employer is not vicariously liable under the doctrine of respondeat superior for the tortious acts of its employees if the acts are outside the scope of employment and not in furtherance of the employer’s business.
Special Relationships-Lawyers
The lawyer of the client is not considered an employee (servant) of the client unless employed full or part time as such an employee (general counsel).
Partnership v. Sole Proprietorship
In a partnership:
1. More than one person owns the enterprise
2. State statutes
3. Multiple legal entities
Partnership Pros
Simplicity (as compared to corporation, for example)
More resources than sole proprietorship
Cost sharing
Broader skill and experience base
Perhaps easier to attract investors
Partnership: Most significant disadvantage
Partners are liable for the debts of the partnership
Formation of partnership
[T]he association of two or more persons to carry on as co-owners of a business for profit forms a partnership, whether or not the persons intend to form a partnership.
Indicia of partnership
Bank accounts
Merger Agreement and Operating Agreement
Merger (i.e., a combination of business entities)
Contributions of cash (i.e., “capital contributions”) to the post-merger entity (i.e., the “survivor”)
Salaries
Profits
Partnership v. Joint Venture
Partnership:
Uncertain or undefined period of time; and/or
Uncertain number of transactions
Joint Venture:
Certain period of time; or
Single transaction
What does the court say is required of partnership (or joint venture) formation?
Intent
Intent to form partnership is not required, but intent to carry on as co-owners is.
How to ascertain parties’ intent to form a partnership?
Financial contribution
Participation in management
Profit-sharing creates a presumption of partnership.
How to determine if a partnership is formed?
The question of whether a partnership has been formed is a totality of the circumstances inquiry. Profit sharing and control tend to be the most important factors in this inquiry. Capital contribution is another important inquiry. However, a person need not make a capital contribution to become a partner.
Partnerships: admitting new partners: general rule
In a general partnership, the default rule is that no one may be admitted as a new partner without the consent of all existing partners. However, this rule may be changed by the governing partnership agreement.
Partnership Property
Property acquired by partnership is property of the partnership and not of the partners individually.
Property is partnership property:
If acquired in the partnership’s name
Presumed to be partnership property if:
If purchased using partnership assets (even if not in the partnership’s name)
Presumed not to be partnership property if:
If acquired by a partner w/o an indication in the instrument transferring title that the property belongs to the partnership, even if used for partnership purposes.
Caveat: if however you make a purchase of equipment; large purchases where you have to sign contract, if I sign in my capacity as partner, then it is partnership property.
Partnership: ordinary v non-ordinary course of business decisions
Default Rules:
Ordinary course of business decisions-Simple majority controls
Non-ordinary course decisions or amendments to the partnership agreement- Unanimity required
Partners owe 2 fiduciary duties:
loyalty and care
Actions which may violate the fiduciary duty of loyalty in a partnership:
- Taking a business opportunity away from the partnership
- Using partnership property for private profit
- Competing with the partnership
- Conflicts of interests
Joint Venture key distinctions
“There exists no real distinction between a partnership and a joint venture.”
“partnership law is applicable to joint ventures.”
What does the partnership agreement governs?
The partnership agreement governs the relations among the partners and the partnership, not the relationship among the partners and the outside world.
Partnership most significant advantage
Flow-through taxation (contrary to corporations that has double taxation)
What is a Corporation?
-Creature of state law
-Requires filing documents with the Department of State (or similar government entity)
-One of several business structures that allow certain participants to limit the legal liability that would otherwise flow from their participation in the enterprise.
Types of Corporation
Public - Characterized by a public secondary market in which shares of the company are listed or traded. E.g. Microsoft
Close - Characterized by absence of a secondary market for its stock. Often (but not always) a relatively small number of shareholders who actively participate in the firm’s management. E.g. SpaceX
Key Features of a Corporation
- Legal personality
- Limited liability
- Separation of ownership and control
- Liquidity
- Flexible capital structure
Why creating a business as a corporation “makes it substantially cheaper for investors to commit their capital to risky ventures.”?
Because in the corporation, unlike the partnership, the owners of the business are not personally liable for business debts. The entity itself is liable.
Articles of Incorporation must contain…
Non-conflicting name
Principal place of business and mailing address
Registered office and registered agent within the state of Florida
Purpose for which corporation is organized
Number of authorized shares
Name and street address (and signature) of initial registered agent
Name and street address (and signature) of incorporator
Articles of Incorporation may contain…
-Limitations on purpose (otherwise, corporation exists for any legal purpose)
-Shareholder preemptive rights (otherwise, none)
-Share transfer restrictions (otherwise, none)
-Initial directors (if not listed, then the initial directors named by the incorporator)
-Initial officers (if not listed, the initial officers usually elected by the board at an organizational meeting
-Limitations on directors authority to amend bylaws (otherwise, directors retain authority)
-Notice of regular BoD meetings (otherwise, no notice of regular meetings required)
-Notice of special BoD meetings (otherwise, 2 days’ notice required)
-Notice to non-voting shareholders (otherwise, only shareholders entitled to vote on a matter are also entitled to notice)
-S status selection (otherwise, C status is the default)
What is a “promoter”?
A “promoter” is someone acting on a corporation’s behalf pre-incorporation.
Once articles have been filed, two additional steps are taken to complete the organization:
- Appoint initial officers
- Adopt bylaws
Is there a principal-agency relationship between a corporation and a promoter?
No. The principal does not yet exist. Thus, the promoters are liable.
Once a corporation is formed, is the corporation liable for pre-incorporation liabilities?
No, but the corporation can become liable by express or implied adoption.
Does the promoter remain liable after a corporation adopts a pre-incorporation liability?
Yes, unless the corporation executes a novation with the promoter.
Novation-the substitution of a new contract in place of an old one.
De Jure Corporation
A de jure corporation is formed in accordance with all filing requirements. If a de jure corporation has not been formed, then the promoters are presumed personally liable.
2 exceptions: de facto, corporation by estoppel
De Facto Corporation
Applicable to contract and torts.
If promoters come close to forming a De Jure corporation, acting in
good faith and reasonably believed they formed a corporation, a
court may find the existence of a de facto corporation and hold only the corporation liable.
Corporation by Estoppel
Only applicable to contract issues (not torts)
When a third party deals with a person (or persons)
believing they are a corporation, the third party may be
estopped from later denying the existence of the
corporation.
Raised by the promoter as a defense.
What is “stock”?
The units of ownership in a corporation.
What are “shares”?
“Shares” means the units into which the proprietary interests in a corporation are divided.
A share represents an equity or ownership interest in the corporation
Issuance
A corporation’s sale of its own stock is a stock “issuance.”
Authorized Shares
A corporation’s articles of incorporation must provide the number of shares a corporation MAY issue, i.e., “authorized shares.”
Issued Shares
Shares a corporation actually issues are “issued shares.”
Outstanding Shares
Issued shares that a corporation has not reacquired are issued and “outstanding shares.”
Classes of stock
Corporations can have more than one type or “class” of stock:
Preferred stock
Common stock
Preferred Stock
A class of stock treated more favorably than another class of stock
Typically has no voting rights!
Must be authorized in the articles of incorporation.
Generally, preferred stock entitles holders to:
-Dividend rights;
-Liquidation rights; or
-Redemption rights
Common Stock
Stock treated NOT more favorably than another class of stock
Dividens
A sum of money paid by a corporation to its shareholders
-Can be expressed as a dollar amount
-Can be expressed as a percentage of profits
-Can be expressed as a ratio to another class of stock’s dividends
In what business context(s) are liquidation rights common?
New businesses
High-risk enterprises
Businesses saddled with debt
Liquidation Rights
A shareholder’s right to be paid first in the event of company liquidation.
Par Value
The minimum price for which a corporation can issue its shares.
Par value is a price “floor”
Shares may be issued at a price exceeding the par value
Not required under the FBCA or Delaware Law
Consideration for Shares
FBCA:
The board of directors may authorize shares to be issued for consideration consisting of any tangible or intangible property or benefit to the corporation, including cash, promissory notes, services performed, promises to perform services evidenced by a written contract, or other securities of the corporation.
Before the corporation issues shares, the board of directors must determine that the consideration received or to be received for shares to be issued is adequate.
The Board’s Adequacy Determination of Consideration
If the board makes a determination that consideration is “adequate,” the determination is conclusive as to the validity of the share issuance.
This does not mean that the directors can’t be held liable for a careless determination. It just means that an adequacy determination establishes that shares were validly issued.
What is a Creditor?
Any party with a legal or equitable claim against the
business (i.e., the debtor)
Creditors: General Rule 1
Creditors may recover from the corporation’s assets.
A creditor may garnish (seize of money) the corporation’s bank account(s).
A creditor may levy (seizure of property) on a corporation’s assets.
Creditors: General Rule 2
Shareholders are not personally liable to the corporation’s
creditors.
Exceptions to Shareholder’s liability
Contractual exception:
* Personal guarantees
Judicial (equitable) exceptions:
* Piercing the corporate veil (and alter ego theory)
* Enterprise liability
Exception to Shareholder’s liability-Personal Guarantees
A shareholder may agree to be personally responsible for the liabilities of a corporation. This is known as a “personal guaranty.”
Exception to Shareholder’s liability-Piercing the corporate veil
The corporate structure with its attendant limited liability of stockholders may be disregarded and personal liability imposed on
stockholders, officers and directors in the case of fraud or other wrongful acts done in name of corporation.
Not a common remedy; every case is to be regarded as “sui generis” (decided with its own underlying facts)
Veil piercing factors
- Undercapitalization
- Concentrated ownership
- Failure to observe corporate formalities
- Insolvency of the corporate debtor at the time of the transaction in question
- Siphoning of funds
- Non-functioning of corporate officers or directors
- Absence of corporate records
- No payment of dividends to shareholders
- Corporation is mere façade of a dominant shareholder (alter ego theory)
- Fraud
veil piercing determination cannot be made based on a single factor
What is “undercapitalization?”
Undercapitalization usually is said to mean something
like “the shareholders did not put enough funding into the
corporation to cover prospective liabilities.”
At what point is undercapitalization determined?
c) Most courts focus on capitalization at the outset of the
venture.
Parent company
A corporation that owns a controlling interest in another
Subsidiary company
A corporation that is majority-owned or wholly-owned by another corporation
Veil piercing: What if the dominant shareholder is a corporation?
Courts apply the same analysis as if it was a natural person.
Exception to Shareholder’s liability-Enterprise Liability
Disregarding the corporate form to permit a creditor to
collect from a corporate affiliate
Sometimes called horizontal veil piercing
Who is a shareholder?
A shareholder, also known as a stockholder, is a person or institution that owns stock in a corporation in exchange for a share of ownership..
Shareholders
-Own the company
-Participate in the profits of the enterprise.
-Elect the board of directors
-Approve by-laws and changes
-Residual interest
-Vote on fundamental corporate changes such as changes to the company’s constitution, declaring dividends, or reducing capital.
Board of Directors
-Elected by shareholders
-Manage business and affairs of the corporation
What are business and affairs of the corporation?
-Select, evaluate, replace senior management.
-Oversee: Strategies, management of corporate resources.
-Review, approve major plans and actions.
-Other functions prescribed by law.
Officers
-Appointed by the board of directors
- Key management executives who carry out the daily work of the business (CEO, CFO, etc.)
-Hire managers and employees
Public Corporation: How many directors?
- 1 or more NATURAL persons
“The number of directors may be increased or decreased from time to time by amendment to, or in the manner provided in, the articles of incorporation or the bylaws.” FBCA §607.0803
Public Corporation: Can a Director be a shareholder?
Yes
-But owning shares in the corporation may create a conflict of interest (a breach of the fiduciary duty of loyalty).
-And directors with significant holdings may be deemed a “controlling shareholder” (more about this later in the course)
Public Corporation: Can a Director be an Officer?
Yes
-But serving as an officer may create a conflict of interest (a breach of the fiduciary duty of loyalty).
-A director who is also an officer is not an “independent director” and certain decisions should (or in some cases must) be approved by independent directors.
-Other factors may render a director not independent, but serving as an officer is perhaps the most common factor.
Location and participation of Director’s meetings
Can be located anywhere
Directors can participate remotely, unless restricted in the Articles of Incorporation or bylaws, and their presence will be counted for purposes of quorum
Directors: Action without meeting
Unless restricted in the AOI or bylaws, action may be taken by UNANIMOUS signed, written consent describing the action to be taken and delivered to the corporation.
May Directors meetings be held without notice?
Yes, unless restricted in the AOI or bylaws.
Board of Directors Special Meetings-Notice
Special meetings must be noticed, and such notice must include the date, time, and place of the special meeting. The purpose need not be included in the special meeting notice, unless required by the AOI or bylaws.
Unless restricted in the AOI or bylaws, special meetings require 2 days’ notice.
Board of Directors: What is Quorum?
Unless restricted in the AOI or bylaws, quorum = simple majority of all directors.
Quorum may not consist of less than 1/3 of directors.
If no quorum, the BOD cannot act.
Majority of directors present rules!
If acting without a meeting (i.e., by written consent), all directors must participate.
Shares - Ground Rules
FBCA:
At least one class with unlimited voting rights
At least one class with residual claim
May be the same — but need not be!
Non-voting stock is okay!
What is Residual Claim?
A residual claim entitles shareholders to the proceeds of a liquidation.
Example:
Delta Corp. files bankruptcy and liquidates all of its assets. After the corporation’s creditors are paid, at least one class of Delta shareholders must be entitled to the residual proceeds, i.e., the proceeds left over after creditors are paid.
What are shareholders entitled to vote on?
Election of directors
Fundamental corporate changes
Anything a shareholder is entitled to vote on by virtue of the stock she holds
Shareholder’s Annual Meeting Location
Annual meeting of shareholders is required!
Can be anywhere
May be affixed in the AOI or bylaws, or stated in the notice of annual meeting, if not inconsistent with the AOI or bylaws.
If no place is stated in or fixed in accordance with the bylaws, or stated in the notice of the annual meeting, annual meetings shall be held at the corporation’s principal office.
Shareholder’s Annual Meeting Primary Purpose
Elect directors
Shareholder’s Special Meeting
May be called by Board of Directors or other persons authorized by AOI or bylaws.
May be called by shareholders holding at least 10% of all votes entitled to be cast on the matter, if such holders deliver a written, signed, and dated demand on the corporation.
Shareholder’s Annual Meeting: Notice
“no fewer than 10 or more than 60 days before the meeting date”
Notice only required to those shareholders entitled to vote on a matter, unless the FBCA or AOI require otherwise
Notice must include “record date”
Notice need not describe purpose, unless AOI state otherwise
Shareholder’s Special Meeting: Notice
Same as Annual Meeting Notice requirements with the exception that:
Notice must describe purpose.
Shareholder voting: Who is entitled to vote?
Only those shareholders who are “record owners” on the “record date”
The directors will fix the record date prior to a meeting, and only those shareholders holding shares on that date may vote.
Record date may be fixed in the bylaws.
May not be more than 70 days before the meeting or action.
Proxy Voting
A shareholder may authorize another person to vote her shares. This practice is known as proxy voting.
Directors cannot delegate their voting power.
Duration of proxy authority
For the term provided in the proxy appointment form
If no form provided, then 11 months
Is Proxy voting revocable?
Generally, yes, even if revocability not addressed in the proxy form.
*However, a proxy may be made irrevocable if “coupled with an interest.”
What does “coupled with an interest” mean
Being coupled with an interest means that the owner gives the proxy to the proxy holder to benefit the proxy holder, not just for the convenience of the owner.
For example, suppose that the stockholder appoints a proxy because she has a conflict so that she could not attend the shareholder meeting. The stockholder could revoke the proxy, even if the proxy stated that it were irrevocable. This is because the proxy is for the benefit of the stockholder, not for the benefit of the proxy-holder.
Fundamental Changes: Approval Process in the corporation
1-Board must approve (watch out for duty of care and loyalty!)
2-Board notifies shareholders of recommendation
3-Special meeting noticed and held to conduct shareholder vote.
4-If fundamental change approved, some shareholders who voted “no” may have buyout rights (dissenting shareholders)
5-File documents with the Department of State
Duty of Care of a Director
Each member of the board of directors, must discharge their duties in good faith; and in a manner he or she reasonably believes to be in the best interests of the corporation. They shall discharge their duties with the care that an ordinary prudent person in a like position would reasonably believe appropriate under similar circumstances.
Directors must act on an informed basis, taking into account reasonably available information and alternatives. They are held to Gross negligence standard. (extreme departure from ordinary care)
Duty of Care: Burden/Burden Shifting
3 steps:
- plaintiff-shareholders proves that a fiduciary duty exists.
- plaintiff-shareholders shows that a director (or directors) failed to engage in a deliberative decision-making process by failing to take into account all reasonably available information.
- plaintiff-shareholder shows that the harm suffered by the corporation was proximately caused by the defendant-director’s conduct.
If the plaintiff-shareholder fails; business judgment rule; it’s over.
If plaintiff-shareholder meets initial burden; burden shifts to director-defendant: fairness review (plaintiff most likely wins)
The business judgment rule:
The business-judgment rule is a presumption that in making a business decision, the directors of a corporation acted on an informed basis, in good faith, and in the honest belief that the action taken was in the best interests of the company.
Effects of the business judgment rule:
-The court will not substitute its views for the board’s.
-Decision upheld if the board’s decision has any rational business purpose.
-The court will almost always leave the challenged transaction undisturbed.
Overcoming the business judgment rule often turns on:
Whether directors obtained and considered reports from
management and guidance from outside advisors.
The FBCA Authorizes (see FBCA §607.0830(2)):
Reliance on information, opinions, and reports provided by
corporate officers and employees and legal counsel, public
accountant, and other experts, so long as the directors
reasonably and in good faith believe them to be reliable and
competent.
Caremark rule
Directors owe an affirmative duty to implement and monitor corporate information or reporting systems (a.k.a. corporate oversight systems). The duty to implement and monitor corporate oversight systems is often referred to as Caremark duty, which is a subset of the fiduciary duty of loyalty.
A director breaches his Caremark duty when the director (a) utterly fails to implement any reporting or information system; or (b) having implemented such a system, consciously fails to monitor or oversee its operations.
Are Caremark duties related to the duty of care or loyalty?
If Caremark means anything, it is that a corporate board
must make a good faith effort to exercise its duty of care.
A failure to make that effort constitutes a breach of duty
of loyalty.
Marchand v. Barnhill, 212 A.3d 805, 824 (Del. 2019)
Duty of Loyalty
A director breaches the duty of loyalty when she puts her own financial interests ahead of the corporation’s. A director is likely NOT acting in the best interests of the corporation when she:
Competes with the corporation;
Takes an opportunity that rightfully belongs to the corporation;
and/or
Sits on both sides of a transaction (self-dealing)
Duty of Loyalty: Competing with the corporation
Forbidden, unless:
Authorized in advance or ratified following disclosure by the disinterested directors
If a senior executive is involved, then authorization by disinterested superior required.
Or may be authorized or ratified disinterested shareholders
Disinterested director or shareholder
No financial interest or familial ties to the challenged transaction.
What happens if Directors or Officers improperly compete?
Any profits owing to the improper competition may be recoverable (constructive trust).
Injunctive relief may also be available to stop the competition.
Damages may also be available if the corporation suffered injury.
Duty of Loyalty: Corporate Opportunity
Directors and officers may not usurp a business opportunity that belongs to the corporation.
To take a corporate opportunity for herself, a director must first present it to the corporation and wait for the corporation to reject it.
When does a corporate opportunity exists?
- Corporation is financially able to take the opportunity
- Opportunity is in the corporation’s line of business
- Corporation has an interest or expectancy in the opportunity
- Embracing the opportunity would create a conflict between director’s self-interest and that of the corporation.
Corporate opportunity remedies:
-The corporation may claim all of the benefits of the transaction
for itself.
-This holds true whether the officer or director spent his personal money or corporate money.
-However, the officer or director “is entitled to the costs of acquiring the property.
-If the property has been sold, the officer or director’s profit is
delivered to the corporation.
Corporate opportunity: Line of business caveat
Buying / selling stock is within a public corporation’s line of
business.
Duty of Loyalty: Self-Dealing
Sitting on both sides of a transaction. Self-dealing occurs when a fiduciary puts their own interests above those of the entity.
Safe Harbors
Sitting on both sides of a transaction authorized if:
(1) The material facts known / disclosed to the BoD or the committee + authorization by majority of disinterested Ds (even if disinterested Ds do not constitute quorum); or
(2) The material facts known / disclosed to the Shareholders + authorization by majority of disinterested Shareholders
Safe Harbor only applies to self-dealing
Safe Harbor Burden Shifting
Shareholder-plaintiff has the burden of proving the
entire fairness of the transaction if either of the two safe harbors
are present:
- P must prove existence of duty and that D owes the duty
- P must allege and produce evidence showing that a director breached her duty of care or loyalty
- If P succeeds, D must prove entire fairness of transaction or if the D is conflicted, ask whether any “Safe Harbors” apply
- If D can establish a Safe Harbor, then P must prove that transaction not entirely fair
Entire Fairness components
- Fair dealing
- Fair Price
Derivative Action v. Direct Action
Derivative:
Lawsuit brought by a shareholder on corporation’s behalf. The cause of action belongs to the corporation as an entity and arises out of an injury done to the corporation.
Direct:
Lawsuit brought by the shareholder in his or her own name in her individual capacity. Arises from an injury directly to the shareholder.
Derivative Action Test
An action may be brought directly only if:
(1)Direct harm to the shareholder, and
(2)Special harm distinct from harm sustained by other shareholders
Derivative Action Procedure
To bring a derivative action:
1. The Plaintiff-Shareholder must have standing to bring the action, and
- The Plaintiff-Shareholder must make a written demand on the corporation and wait 90 days for the corporation to investigate the matter OR explain why making such a demand would be futile or waiting 90 days would cause material injury to the corporation.
Derivative Action: Standing
- Plaintiff must be a shareholder at the time the action is commenced; and
a) Plaintiff was a shareholder when the challenged transaction/conduct occurred; or
b) Plaintiff became a shareholder by operation of law from one who was a shareholder when the challenged transaction/conduct occurred.
How does one become a shareholder “by operation of law”?
Inheritance
Divorce settlements
Demand (derivative actions)
Must be:
-In writing
-Served on the Corporation
-Identify alleged wrongdoers, factual basis of wrongful acts, harm caused to corporation and request of remedial relief.
What is a demand to be futile?
Demand deemed futile = No purpose, if:
-Majority of directors share a familial tie, or
-Majority of directors lack independence
Plaintiff may bring the action w/o a demand if it’s futile.
What documents may shareholder inspect without demand?
-Articles of Incorporation
-Bylaws
-Shareholder Notices
Shareholder may inspect other documents upon written demand to the corporation if:
-Demand is made in good faith and for a proper purpose (no fishing expeditions)
-Demand describes with reasonable particularity the shareholders purpose and the records the shareholder desires to inspect; and
-Records are directly connected with the shareholder’s purpose.
