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Business Organizations > Close Corporations > Flashcards

Close Corporations Flashcards

1
Q

What are the shareholders expectations in a close corporation? (3)

A
  1. Shareholders generally serve as directors and officers and expect to work for the corporation
  2. Shareholders expect to receive money from close corporations (salary or dividends)
  3. Shareholders expect to have management rights
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2
Q

What are the characteristics of a close corporation? (3)

A
  1. Not publicly traded – no liquidity of investments and no check on those in control
  2. Small number of shareholders
  3. Lack of separation between ownership and control
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3
Q

What is the New York “No Harm, No Foul” Approach to shareholder agreements limiting board discretion?

A
  1. No separate registration required for statutory close corporations
  2. If it has the characteristics of a close corporation, courts will treat it as such
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4
Q

What is the majority rule on limiting board discretion from Clark v. Dodge?

A

“A shareholder agreement that restricts board discretion is valid if the restrictions are so slight as to be negligible and there is not damage suffered or threatened to anybody”

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5
Q

What is the test for the New York Approach for shareholder agreements limiting discretion?

A
  1. Does the agreement sterilize the board (if YES, struck down)
  2. Will creditors and other shareholders be harmed? (if YES, struck down)
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6
Q

What is the Delaware Approach to shareholder agreements limiting board discretion?

A

No special rules/protections for closely held businesses unless they are registered as such in the C/I

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7
Q

What are the three characteristics a corporation must have to be a statutory close corporation under DGCL § 342?

A
  1. No more than 30 shareholders of record
  2. Stock certificates must have restrictions on transfer
  3. No public offering of stock
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8
Q

When does Delaware law allow contracts to limit board discretion?

A
  1. The corporation registers as a close corporation in its C/I
  2. The corporation specifies in the C/I that such agreements are allowed?
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9
Q

What is the danger of shareholders entering into agreements to ensure they are employed by the corporation or receive a salary?

A

Violating DGCL § 141 - provides that the business and affairs are to be managed by the board of directors except as otherwise provided in this chapter or in the C/I

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10
Q

What are the three ways to ensure board representation?

A
  1. Cumulative voting (DGCL § 214)
  2. Different classes of stock - each class elects a different board member
  3. Vote pooling agreements
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11
Q

What is a vote pooling agreement?

A

Shareholders agree in advance of a vote to vote their shares a certain way to ensure they will be on the board

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12
Q

What are the (3) characteristics of ownership and control of stock in a vote pooling agreement?

A
  1. You still own your stock
  2. You still receive dividends on your stock
  3. You still vote your stock
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13
Q

What are the requirements of a vote pooling agreement as laid out in DGCL § 218(c)?

A
  1. Has to be an agreement between 2 or more shareholders
  2. In writing
  3. Signed by the parties
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14
Q

What are shareholders two options for enforcement of vote pooling agreements?

A
  1. Breach provision in the contract

2. Irrevocable proxy (DCGL § 212(e))

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15
Q

What is a “freeze out?”

A
  1. Shareholder loses job
  2. Shareholder receives little or no economic return on investment (no job, no salary, no dividends)
  3. Shareholder not elected to or removed from board
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16
Q

What is the traditional approach to freeze outs?

A

Courts defer to the majority’s decision. See Zidell v. Zidell (applying business judgment rule)

17
Q

What is the modern approach to freeze outs laid out in Donohue v. Rodd Electrotype Co.?

A

Stockholders in the close corporation owe one another substantially the same fiduciary duty in the operation of the enterprise that partners owe to one another.

18
Q

What is the balancing test of the modern approach laid out in Wilkes v. Springtide Nursing Home, Inc.

A
  1. Control group demonstrates a legitimate business purpose
  2. Burden shifts to the minority shareholder to demonstrate same objective could be achieved through less harmful alternative
  3. If P makes the showing, court will weigh the legitimate business purpose against the practicability of the less harmful alternative
19
Q

What are the additional factors in Wilkes?

A
  1. Was the action in disregard of a long-standing policy
  2. Was the shareholder a founder of the corporation?
  3. Would the action mean that the shareholder would receive no return at all from the corporation?
20
Q

How does the NY involuntary dissolution statute work?

A

Allows the holders of shares representing 20% or more of the outstanding votes of the corporation to petition for dissolution b/c the directors or those in control have been guilty of illegal, fraudulent, or oppressive actions toward the complaining shareholders.

21
Q

How does the MBCA allow defendant corporations to avoid court-ordered involuntary dissolution?

A

By electing to repurchase the complaining minority’s shares at a fair value.

22
Q

What makes the acts of directors “oppressive”?

A
  1. Violates the minority shareholders’ reasonable expectations
  2. Burdensome, harsh, or wrongful
23
Q

What are the three judicial options in a dissolution action?

A
  1. Court has the DISCRETION to dissolve the corp
  2. Court can grant alternative relief: buyback or payment of dividends
  3. Court can make dissolution conditional on a majority buyback first
24
Q

What is a share repurchase agreement?

A

Agreement to repurchase stock held by a minority shareholder when certain triggering events occur since there is no market for shares available

25
Q

What are the terms in a repurchase agreement?

A
  1. Price (fixed vs. fair value)
  2. Triggering event (death, firing, resignation/retirement)
  3. Who buys the stock (corp or other shareholders)
  4. Obligation to buy the stock (shall vs. may)
  5. Payment (life insurance vs. payment plan)
26
Q

What is an LLC?

A

Limited Liability Corporation

27
Q

What are the characteristics of an LLC?

A

Combines the best aspects of GPship and corp:

  1. Limited liability of owners/members
  2. No double taxation (i.e. only individual managers income = taxed)
  3. Flexible management structure (centralized in Manager-Manager; decentralized in Member-managed)
  4. Permanent duration
  5. Formed by articles of formation with state and non-public operating agreement specifies rights/duties/obligations of those involved
28
Q

What is the difference between first and second generation LLCs?

A
  1. First gen: resembled partnerships for tax purposes

2. Second gen: default rules now resemble corporations

29
Q

What are the provisions of DLLCA § 18-109(d) regarding the terms of operating agreements in an LLC?

A
  1. Parties can’t waive the right to bring suit in DE court except by arbitration agreement
  2. Parties can have a non-exclusive forum selection provision, but DE still has jurisdiction
  3. Parties always have the option to bring suit in DE (outside arbitration)
  4. BONUS: DE legislature wanted to avoid having other courts interpreting DE law and diluting its rep for certainty
30
Q

What is the posture of the DLLCA regarding the enforceability of Operating Agreements?

A

OAs are generally upheld, especially where the parties are sophisticated

31
Q

What are the basic terms of an Operating Agreement?

A
  1. Profit allocation
  2. Distributions
  3. Loss allocation
  4. Management rights
  5. Expulsion
32
Q

What are the DLLCA default rules regarding operating agreements?

A
  1. LLCs must have an operating agreement
  2. No default rules for expulsion or retirement
  3. No default rules for resignation, but if OA allows for resignation it provides that resignee gets fair value of ownership interest
  4. Operating agreement should provide for terms not covered by default rules
33
Q

What is the current state of fiduciary duties for members and managers of LLCs in Delaware?

A
  1. By statute, no fiduciary duties – common law says there may be some
  2. Members and managers can expand, reduce, or eliminate FDs, but can’t eliminate contractual duties of good faith and fair dealing

Business Organizations (5 decks)

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