corporations Flashcards
1
Q
Corporations - preincorporation promoters
A
owe the fiduciary duties of loyalty and care to the to-be-formed entity, their copromoters,
and the to-be-formed entity’s investors
2
Q
Pre-incorporatoin to-be-formed entity
A
a promoter is allowed to make a profit so long as, once the corporation
is formed, the promoter fully discloses to the board of directors all material facts regarding the transaction. A corporation may waive disclosure of secret profits by the promoter, either expressly
or impliedly
3
Q
Pre-incorporation issue - copromoters
A
where there are multiple promoters, they will have a joint venture relationship with
each other. Defrauded promoters may sue the fraudulent promoter rather than the future corporation.
4
Q
Pre-incorporation issues investors
A
a promoter who fails to disclose or omits material facts when offering or selling
shares to subscribers will be liable for a breach of her fiduciary duties.
5
Q
Pre-incorporation contracts
A
a promoter is personally liable and jointly and severally liable for
preincorporation contracts unless:
(1) The contracting party agrees to hold only the future corporation liable;
(2) The contracting party contemplated performance solely from the future corporation;
(3) The corporation has adopted the contract (i.e., express approval by the board of directors or
implied adoption by accepting or acknowledging the benefits of the contract); or
(4) There was a novation (i.e., an agreement between the parties to release the promoter from liability and substitute the corporation; can be express or implied).
6
Q
pre-incorporation third party liabilty
A
a third party will be liable for any preincorporation contract it forms
with a promoter. After the corporation is formed, the promoter can enforce the contract against
the third party, but the corporation cannot enforce it unless the corporation has specifically adopted the contract or there has been a novation.
7
Q
Corporation formation - distinct entity
A
once created, a corporation becomes a business entity that is legally distinct and
separate from its owners (i.e., shareholders) and can own property, enter into contracts, and sue and be sued in court.
8
Q
Corporation formation - centralized management
A
: ordinarily, a corporation acts through agents, who may
purchase property, sign contracts, and bring lawsuits in the corporation’s name. While
shareholders own the corporation, directors manage the corporation, and officers manage the corporation’s day-to-day operations.
9
Q
Corporation characteristic - limited liabilty for shareholders
A
shareholders cannot be held personally liable for the corporation’s acts.
10
Q
Corporation characteristics taxation
A
: depending on the corporate structure, corporations are subject to “double taxation”
because the corporation pays income tax, and the shareholders pay tax on any dividends they receive from their shares.
11
Q
Corporation characteristics trading of shares
A
corporations may be publicly traded (i.e., their shares are traded on
a public stock exchange) or they may be privately held (i.e., their shares are not traded on a public stock exchange).
12
Q
Corporation characteristics
A
(1) distinct entity; (2) centralized management; (3) limited liability for shareholders; (4) taxation; (5) trading of shares
13
Q
Types of corporations
A
C corp, S corp, Close corp,
14
Q
C corp
A
: is subject to double taxation because both the corporation and the
shareholders pay taxes (i.e., income tax and tax on dividends received from shares)
15
Q
S corp
A
avoids double taxation because profits and losses are passed directly to
shareholders and the corporation does not pay federal taxes. An S corporation (1) has no
more than 100 shareholders, (2) its shareholders are all natural domestic persons (no entities
may hold shares), and (3) all its shares are of the same class of stock.
16
Q
Close corp
A
a corporation whose stock is not publicly traded. Shares typically are
nontransferable or have restricted transferability to preserve selectivity in bringing new people
into the business
17
Q
De jure corp
A
is formed by filing articles of incorporation with the secretary of state. In CA,
the articles of incorporation must include:
(1) The corporation’s name (the words “corporation,” “incorporation,” or “limited” do not need to
be included unless it is a close corporation);
(2) The corporation’s purpose;
(3) The name and CA address of the corporation’s agent for service of process, which can be a
natural person or another corporation; and
(4) The total number of shares the corporation is authorized to issue and, if applicable, the total number of shares and the designation of each class or series as well as the rights, preferences,
privileges, or restrictions granted to or imposed upon each class or series.
18
Q
Amendments to articles of incorporation
A
a corporation may amend its articles of incorporation at any time to add
or change a provision if the following steps are met: (1) board approval, (2) shareholder
approval, and (3) filing of the amendment with the secretary of state
19
Q
Bylaws requirements
A
are not required, but if the articles of incorporation do not state the number of
directors, the bylaws must include that information or the minimum and maximum number of
directors. The bylaws may also contain provisions relating to the management and conduct of
the corporation’s activities.
20
Q
Ultra vires act doctrine
A
prohibits a corporation from being required to undertake any
activity, contract, or transaction that is beyond the scope of its purpose as stated in its articles of incorporation.
21
Q
De facto corporation
A
: a business may be granted de facto status if:
(1) There was a good-faith attempt to comply with the incorporation statute;
(2) The business meets the statutory requirements for incorporation; and
(3) The business’s principals acted in good faith as though a corporation was formed.
22
Q
Corporation By estoppel
A
a party treating the business as a corporation will be estopped from arguing that no
corporation existed, even if the business fails to meet the requirements for de jure or de facto status.
23
Q
Ways corporations are formed (3)
A
By AOI (de jure); de facto; by estoppel
24
Q
Corporations issuance of stock - equity and debt securities
A
Types of Securities: a party usually invests in a corporation through equity or debt securities.
* Equity Securities: comprise an ownership stake in a business. Typically, three rights are
granted to equity owners:
(1) The right to vote on certain matters relating to the business;
(2) The right to receive dividends and distributions when declared by the business; and
(3) The right to a proportional share of the business’s assets if the entity is dissolved.
* Debt Securities: do not create an ownership interest in the corporation. Thus, the holder
does not have any voting rights in the corporation.
25
Rules for classes of stock
corporations can issue different classes of stocks, divide any class of stock into
series, and give different rights to each. All classes or series of shares, and their rights, preferences, privileges, and restrictions, must be stated in the articles of incorporation. Typically, shares are classified
as either common stock or preferred stock
26
Common stock
: may not be issued as redeemable (i.e., where the corporation can elect to
repurchase the shares) unless there is at least one class of common stock that is not redeemable.
The rights usually include (1) one vote on any matter submitted to the stockholders for a vote,
(2) the right to receive a dividend when declared by the corporation’s board of directors, but
common stock owners will be paid after preferred stock dividends are issued, and (3) the right
to a proportional share of any remaining assets upon liquidation, but creditors and preferred
stockholders get priority.
27
Preferred stock
: carries special rights, such as priority in distributions and rights to fixed
dividends that must be declared each year. A preferred stockholder may be entitled to (1) more, or fewer, than one vote per share; (2) a special dividend not available to common stockholders, or no dividend at all; or (3) a greater, or smaller, proportional share of the corporation’s assets in
liquidation.
28
Stockholder's preemptive rights
must be granted in the articles of incorporation. If a shareholder’s
preemptive rights are violated, the shareholder may:
(1) Purchase shares on the open market and sue the corporation for the difference between the
purchase price and the offer price; or
(2) Sue to enjoin the sale and recover the shares, provided that the purchaser knew the purchase was in violation of preemptive rights
29
Corporation's redemption rights
: must be stated in the articles ofincorporation
and usually refer to the corporation’s ability to require shareholders to sell their shares back to the corporation.
30
Dividends
generally, there is no shareholder right to dividends, and the decision to declare dividends is at the board of directors’ discretion, subject to the articles of incorporation. If a board decides to make
a distribution, then it must treat all shareholders in the same class of stock equally. A shareholder can seek a court of equity to compel the board to declare dividends if the shareholder can demonstrate that the board’s refusal to declare a dividend is in bad faith, an abuse of discretion, or due to fraud.
31
Limitations on issuance of dividents
: generally, courts will not second-guess a board’s decision whether
to pay a dividend or make a distribution unless one of two scenarios applies.
(1) Cash Flow Insolvency: a corporation may not make a distribution if it would render the
corporation unable to pay its debts as they come due in the usual course of business.
(2) Balance Sheet Insolvency: a corporation may not make a distribution if it would result in a reduction of the corporation’s assets to less than the sum of the corporation’s total liabilities, including contingent and prospective liabilities
32
Effect of improper dividend distribution
Shareholders who knowingly receive an improper dividend
distribution are liable for the amount received, including interest and costs. Directors who vote
to authorize a dividend that is in violation of the articles of incorporation or that jeopardizes the corporation’s fiscal health are also held personally liable and jointly and severally liable for the amount of the distribution that exceeds what could have been properly paid.
33
Shareholder annual meetings
a corporation ordinarily is required by law to hold a shareholder meeting
once a year where the shareholders vote to elect individuals to serve on the corporation’s
board of directors, among other matters.
34
Shareholder special meetings
if the shareholders want to take action before the annual meeting is set to
occur, they may call a special meeting. Any meeting other than the annual meeting is known as a special meeting.
35
Corporation shareholder written consent (no meeting)
a director may be elected by unanimous written consent
of all shareholders entitled to vote on the election of the director. For any other business, the
action can be taken without a meeting if there is written consent from enough outstanding
shares that, according to the bylaws, would constitute the minimum number of votes necessary
to authorize that action at a meeting.
36
Notice and quorum requirements for shareholder meeting
Notice: must be given no fewer than 10 days (30 days if by mail) and no more than 60 days
before the meeting date. Notice may be by mail, electronically, or, if the corporation has fewer
than 500 shareholders, personally.
* Quorum: unless provided otherwise by the articles or bylaws, a quorum exists when shares
representing a majority of the votes entitled to be cast on a particular issue are present.
o Maintaining a Quorum: once a quorum is established, if enough shareholders leave so
that quorum would be broken, the board can still validly transact business so long as the
actions are approved by a majority of the shares that were necessary for a quorum
37
Shareholder voting types
proxy, voting trust, voting agreements
38
Shareholder proxy voting
hareholders can appoint someone to vote their shares for them at shareholder
meetings. In some cases, the shareholder instructs the proxy how to vote. In other cases, the
shareholder tells the proxy to vote the shares at the proxy’s discretion.
o Authorization: requires a signed writing or electronic transmission, but oral authorization
is acceptable if it was verified that it was given by the shareholder.
o Validity: a proxy is valid for no more than 11 months, unless stated otherwise on the
proxy. A proxy without a stated expiration date is effective until properly revoked, or until it expires at 11 months, whichever is earlier. Death or incapacity does not revoke a proxy unless, before the vote is counted, written notice is received by the corporation.
o Revocability: an appointment of a proxy is generally revocable, and the shareholder can
take back the proxy and vote the shares herself at any point. If the appointment from states that the proxy is irrevocable, it must also be coupled wiht an interest
39
Shareholder voting trust
is an arrangement by which one or more shareholders agree to transfer their
shares to a trustee. The trustee is assigned the power to vote the shares. The shareholders retain
all other rights of ownership, including the right to receive dividends. The trust can vote and represent the shares for a period not to exceed 10 years.
40
Shareholder voting agreements
it is common for shareholders who own shares in the same corporation
to enter into contracts with one another with respect to shareholder voting. To be valid, the
agreement must be signed and in writing.
41
Corporation shareholder rights
shareholders have rights to information about the corporation, including:
(1) The right to receive the annual report no fewer than 15 days before the annual meeting with
information about the corporation’s business and fiscal condition,
(2) The right to review the bylaws, and
(3) The right to inspect certain corporate records upon written demand. The inspection and copying of
the record of shareholders, account books, records, and minutes of proceedings must be completed
(1) during business hours, (2) at the corporation’s principal executive office, and (3) for purposes reasonably related to the shareholder’s interest. These rights cannot be limited by the articles of
incorporation or bylaws and may be conducted in person or through an agent or attorney.
42
Corporation shareholder duties and liabilities - fiduciary duties (rare)
: shareholders do NOT owe fiduciary duties to directors, officers, or the corporation, or,
in most circumstances, to other shareholders. However, sometimes in close corporations, the controlling shareholders in a corporation owe fiduciary duties to the minority shareholders.
43
Controlling shareholder
is a shareholder who owns more than 50% of the corporation’s
shares or otherwise has the power to elect the board or exert control over the corporation
44
Controlling shareholder duties to minority shareholder
easonable Expectations Test: the court determines whether the majority shareholder’s
actions toward the minority shareholder were inconsistent with the minority shareholder’s
reasonable expectations when initially deciding to invest in the corporation. If so, then the
minority shareholder is likely to prevail. Courts generally apply this test when the minority shareholder-plaintiff was one of the corporation’s original shareholders.
o Alternative Test: where the minority shareholder-plaintiff was not one of the corporation’s original shareholders, many courts will examine whether the majority shareholder’s conduct toward the minority shareholder was burdensome, harsh, or wrongful. If the court concludes that it was, the court likely will find that the majority shareholder breached fiduciary duties or engaged in oppression.
45
Controlling shareholder duties when selling controlling interests
: a majority or controlling shareholder who sells control to
another (i.e., sells enough shares to grant the buyer a majority or controlling interest) is liable if that shareholder had reason to know the buyer intended to loot the corporation, causing detriment to the minority shareholders. The selling shareholder will be liable for negligence unless that shareholder engaged in reasonable efforts to investigate the buyer and the buyer’s
intentions.
46
Controlling shareholder duties when selling at a premium
where majority or controlling shareholders sell their shares at a
premium price (i.e., a price above market value), they will not be liable unless doing so causes detriment to the minority shareholders.
47
Controlling shareholder duty breach remedy
the remedy for a breach of a majority or controlling shareholder’s duty is
damages in the amount of damages suffered by the corporation or minority shareholders,
or disgorgement of the majority or controlling shareholder’s profit or premium. The court
may require the majority or controlling shareholder to take action to improve the minority shareholders’ position or to buy out the minority shareholders’ stake in the corporation.
48
Reasons to pierce the corporate veil
altar ego, inadequate capitlaziation at formationx fraud at formation or continuing fraud
49
Piercing the corporate veil
shareholders are not liable for the corporation’s debts unless one of
the three situations below applies. If this occurs, the individual shareholders with active responsibilities,
parent corporation, or those active in management can be held personally, and jointly and severally,
liable for the corporation’s obligations. Whether to pierce the corporate veil is determined on a case-bycase basis, but a court will not disregard the corporate entity simply because one or more individuals
owns all the stock and executes control and management of the corporation.
50
Piercing the corporate veil altar ego
: requires (1) a disregard for the corporate formalities where there is unity of interest
and ownership between the corporation and its owners and (2) an inequitable or unjust result
(i.e., bad faith, but no actual fraud needs to be proved).
o Factors: there was likely a disregard of corporate formalities if (1) the owners’ and
corporation’s funds are commingled, (2) there is a failure to maintain adequate records,
(3) shares are not issued upon incorporation, and (4) the owner holds out that the owner
is personally liable for the corporation’s debts.
51
Piercing the corporate veil inadequate capitalization
ccurs when, at the time of formation, the corporation’s funds
and assets would be insufficient to meet its future needs or debts. However, where a corporation is underfunded at inception but meets all other formalities, the court may opt against piercing
the corporate veil.
52
Piercing the corporate veil-fraud
occurs if the corporation is formed or used to commit fraud or avoid existing liabilities
or obligations.
53
Who can move to pierce the corporate veil
Creditors are the primary parties that bring actions to pierce the corporate veil. Generally,
shareholders are not permitted to pierce the veil, but if a shareholder made a loan to the
corporation and thus is a creditor, the shareholder’s debt may be subordinated to other creditors’ debts, including unsecured debts, if the shareholder acts in bad faith or if there is a justification for piercing the veil.
54
Corporation board composition
the corporation’s articles of incorporation or bylaws should set the number of
directors, or the minimum and maximum numbers of directors, in the corporation.
55
Corporation board elections
directors are elected by the shareholders at the annual meeting and typically serve a term of one year, unless provided otherwise in the articles of incorporation or bylaws.
56
Corporation board vacancies
if a director is removed, the vacancy must be filled by a vote of the shareholders,
unless the articles or bylaws permit the board to fill the vacancy. Other vacancies on the board can be filled by the remaining directors, unless stated otherwise in the articles or bylaws.
57
Corporation board of director removal
a director may be removed by:
(1) The board if the director has been declared of unsound mind by a court order or is convicted of a felony;
(2) Shareholders holding at least 10% of the outstanding shares of any class; they must file a suit to remove the director for fraudulent, dishonest acts or gross abuse of authority; or
(3) A majority of shareholders, without cause, except where a director is elected by a
particular class of shares, in which case the director may be removed by a majority vote
of that class of shares.
58
Corporation board of director meetings
(1) Organizational Meeting: after incorporation, the initial directors must meet to complete the
necessities of forming a corporation.
(2) Regular Meeting: the board of directors is not statutorily required to meet. However,
typically the board holds an annual meeting or regular meeting after the shareholders’ annual meeting to elect directors, appoint committees, and conduct other regular business. The articles
or bylaws may require regular board meetings.
(3) Special Meeting: all other meetings that are not regular meetings.
59
Corporation board of director actions at board meetings
require (1) the chairperson of the board, certain corporate officers, or any two directors to call the board meeting; (2) notice to all directors of the time and place of the meeting
unless the bylaws or article specify this information; (3) a quorum (i.e., a majority of the authorized directors); and (4) a sufficient vote
60
Interested director
a director is interested if the transaction may cause personal benefit or detriment. Interested directors are counted for purposes of achieving a quorum even if
they cannot vote in the subject matter of that meeting, except where the meeting concerns
indemnifying the directors.
61
Board of directors maintaining quorum
once a quorum is established, the board can still validly transact business even if a director leaves and breaks quorum so long as any action is approved by a
majority of the number of directors necessary for a quorum.
62
Board of directors voting presence
directors must be present to vote; they cannot vote by proxy. Presence includes
presence by phone or electronic medium, as permitted by the bylaws. A director who is present at a board meeting when corporate action is taken is deemed to have assented to the action unless she dissents or abstains and that is entered into the meeting minutes.
63
Board of directors compensation
Directors are not ordinarily entitled to receive compensation for their services unless
the bylaws say otherwise. Where no compensation structure is in place, a director may be entitled to compensation for extraordinary services performed beyond the director’s ordinary duties.
64
Dual role for corp board of director
a director also may act as an officer of the corporation, and officers are
compensated for their services. If a person serves as both a director and an officer, that person might receive a salary as an officer and a bonus or incentive as a director.
65
Corporation board of director right of inspection
directors have an absolute right at any reasonable time to inspect (and make
copies of) the corporation’s books, records, and documents, either in person or through an agent or attorney. A corporation may prohibit inspection if it determines the inspection will be used for improper
purposes, and a court will determine whether the failure to allow inspection was justified.
66
Corporation officer roles
a corporation must have (1) a president or chairperson of the board, (2) a secretary, and (3) a chief financial officer. Corporations may have additional officers as provided by the articles or bylaws, and a person can hold multiple positions unless prohibited by the articles or bylaws.
67
Corporation officer resignation and removal
a corporation must have (1) a president or chairperson of the board, (2) a secretary, and (3) a chief financial officer. Corporations may have additional officers as provided by the articles or bylaws, and a person can hold multiple positions unless prohibited by the articles or bylaws.
68
Agency rules for corporation officers
: the scope of an officer’s authority to act on the corporation’s behalf is governed by agency law. See Agency and Partnership Helix Core Concepts.
* Position of Power: giving an officer a particular title (e.g., chief executive officer) creates apparent authority that the officer has the power to sign contracts that generally will bind the corporation, even if there is no board resolution expressly authorizing the officer’s action. That the corporation gave the title to the officer makes it reasonable for a third party to believe the
officer is authorized to act on the corporation’s behalf.
69
Corporation duty of care
requires a fiduciary to perform the fiduciary’s duties:
(1) In good faith;
(2) In a manner the fiduciary believes to be in the best interests of the corporation; and
(3) As an ordinarily prudent person in a similar position would under similar circumstances.
70
Corporation's officer's permissible reasonable reliance on others
a director may reasonably rely on any of the following individuals and the information these individuals provide if it relates to that individual’s performance.
When a director or officer reasonably relies on any of the following individuals or information
in performing the director’s or officer’s functions, the director or officer generally will be held to have satisfied the duty to act as an ordinarily prudent person in a similar position would reasonably believe appropriate under similar circumstances:
(1) An individual the director or officer delegated to perform one or more of the director’s
functions;
(2) Information, reports or statements prepared by a professional employed by the corporation;
(3) An employee the director or officer believes is reliable and competent in the matters
presented; or
(4) Legal counsel, an accountant, or another individual who advises the corporation on various
matters
71
Business judgment rule for officers (duty of care ONLY)
is a rebuttable presumption that immunizes directors and officers
from liability for their business decisions if the director or officer:
(1) Was disinterested and independent (i.e., the transaction will not cause personal benefit or detriment, and the actor’s decision was based on the merits of the transaction rather than
outside or extraneous considerations or influences);
(2) Acted in good faith; and
(3) Reasonably informed herself of the facts (lack of knowledge is not a defense if the director or officer could have gained knowledge by acting reasonably).
o Rebuttal: To rebut the presumption of immunity, the plaintiff must demonstrate that
there was a conflict of interest, bad faith, or breach of the duty of care.
o Effect: if the business judgment rule applies, the director or officer will not be personally liable for mistakes or errors of judgment, and the court will not review the business decisions.
72
Corp. officer duty of loyalty
requires the fiduciary to subordinate the fiduciary’s own interests to those of the corporation and to act in a manner that the fiduciary reasonably believes to be in the corporation’s best interests
73
Corp officer duty of loyalty interested transaction
f a director, or a director’s close relative, has a personal interest
in a transaction involving the corporation, creating a conflict of interest, the transaction is an interested transaction. Such transactions are void or voidable unless approved by the directors or a committee, the shareholders, or a court
74
Corp officer duty of loyalty - common director issues
: the fact that two corporations share a director does not necessarily
give rise to an interested transaction if:
(1) The material facts of the transaction and the director’s other directorship are fully
disclosed to the board or committee, and the board, committee, or shareholders
authorize, approve, or ratify the transaction in good faith; or
(2) A court finds that the transaction was just and reasonable to the corporation at the
time it was authorized, approved, or ratified
75
Effect of director/committee approval on an interested transaction
an interested transaction is not void if:
(1) The material facts of the transaction and the director’s interest are fully disclosed to
the board or appropriate committee;
(2) The board or committee authorizes, approves, or ratifies the transaction in good faith; and
(3) The transaction is just and reasonable to the corporation when approved or ratified
76
Effect of shareholder approval on an interested transaction
1) The material facts of the transaction and the director’s interest are fully disclosed to
the shareholders; and
(2) The transaction is approved by the shareholders in good faith (shares owned by the interested director(s) may not vote).
77
Effect of court approval on an interested transaction
an interested transaction is not void if a court finds that the transaction was
just and reasonable to the corporation at the time it was authorized, approved, or ratified.
78
corp. officer duty of loyalty - usurping a corp opportunity
: fiduciaries are prohibited from taking for themselves an opportunity that may benefit the corporation without first disclosing the opportunity to the corporation and giving the corporation a chance to decline it. If the corporation declines to take the opportunity, the fiduciary typically can act on the opportunity.
79
Corporate opportunity (duty of loyalty violation) and remedies
is one that reasonably falls within the corporation’s line of present
or prospective business and that the corporation has the capacity in which to engage. Courts construe this definition rather broadly to include anything in the corporation’s line of
business.
o Remedies: if a fiduciary usurps a corporate opportunity, then the corporation is entitled
to all profits from the transaction, through a constructive trust or a suit for damages.
80
Duty of loyalty - competition
: fiduciaries may engage in business that is similar to, but independent of,
the corporation if they do so in good faith. However, a fiduciary may not engage in a
competing business while employed by the corporation without violating the duty of loyalty unless disclosures are made to and ratified by the board (i.e., informed consent is obtained).
o Remedies: if a fiduciary violates the duty of loyalty by competing with the corporation, the
corporation may sue the fiduciary for secret profits and damages or seek a constructive
trust for the fiduciary’s assets
81
Violations of duty of loyalty for corp officer
Interested transactions, usurping corp opportunity, competition
82
Right to indemnification
corporation must indemnify for any expenses incurred a director, officer,
employee, or agent of the corporation who has been sued for violating fiduciary duties and has successfully defended a claim, issue, or matter on the merits.
* Permissive Indemnification: a corporation may indemnify a director, officer, employee,
or agent of the corporation for actual and reasonable expenses, judgments, fines, settlements, or fees incurred in settling or unsuccessfully defending an action if the person acted in good faith and in a manner the person reasonably believed to be in the corporation’s best interests.
83
Direct lawsuit against corporation
if a breach of fiduciary duty or harm occurs against or is suffered directly by the
shareholders or their interests as shareholders, the shareholders may enforce their rights through a
direct lawsuit. They may seek redress for wrongs committed by the corporation, board, officers, or majority shareholders. Such redress may include enforcing voting rights, compelling declared dividend
payments, enforcing preemptive rights, and inspecting documents.
84
Corporation derivative lawsuit
: if a wrong is committed against the corporation itself, the corporation may sue
to enforce its rights. However, when the individuals who normally decide if a corporation should bring a
lawsuit (i.e., the directors and officers) are accused of corporate wrongdoing, the shareholders may sue
on behalf of the corporation through a derivative suit (i.e., compel the corporation to bring the lawsuit)
85
STanding requirement for derivative lawsuit against corporation
to bring a derivative suit, a shareholder must satisfy four requirements:
(1) Contemporaneous Ownership: the shareholder bringing the suit must have owned shares in the corporation on the date when the wrongful conduct occurred
(2) Continuous Ownership: the shareholder bringing the suit must continue to own shares
throughout the litigation;
(3) Fair and Adequate Representative: the shareholder bringing the suit must fairly and
adequately represent the interests of all the shareholders in the corporation; and
(4) Demand Was Improperly Refused or Is Excused as Futile: a shareholder cannot file a
derivative suit without first demanding that the board of directors initiate suit on behalf of
the corporation against the persons alleged to have caused it harm.
86
Additional rquirements for shareholder demand for derivative suit:-improperly refused, futility, making a demand , timing
Improperly Refused: the shareholder must demonstrate to the court that the board’s
decision to reject the shareholder’s demand was improper for one of the following reasons:
(1) The board did not act in good faith;
(2) The board did not conduct a reasonable inquiry; or
(3) The directors who made the decision were not disinterested.
o Futility: if the shareholder did not make a demand on the board, the shareholder must
provide a sufficient reason for failing to do so. Such reasons include that the board had an
interest in the transaction or that the transaction ran afoul of the business judgment rule.
o Making a Demand: the shareholder must inform the board in writing of the facts of
each cause of action or deliver a copy of the complaint the plaintiff intends to file. In
response, the board must, in good faith, conduct a reasonable inquiry as to whether
it would be in the corporation’s best interests for the board to bring the suit on the
corporation’s behalf. The decision must be made by disinterested directors.
o Timing: after delivering the demand, the shareholder must wait 90 days before filing the
derivative action, unless the corporation rejects the demand before the 90-day period
has passed, or waiting 90 days would cause irreparable harm to the corporation.
87
Corporation reorganization
are considered fundamental changes and require action by the board of directors
and shareholders.
88
Corporation merger
: the entities involved must agree to a plan of merger, and the plan of merger must
be approved by the relevant actors in each entity (e.g., board of directors and shareholders).
89
Corporation reorg- share exchange
ccurs where (1) one corporation acquires equity securities in another
corporation (2) in exchange for equity securities in its company, and (3) the exchange results in the acquiring organization obtaining a controlling interest in the other corporation. The two
companies must prepare a plan of share exchange. This plan must be approved by the board and shareholders of the acquiring company.
90
Corporation reorg sale of assets
: if a corporation’s sale of corporate assets would leave it without a significant
continuing business activity, the corporation must obtain approval for the sale from the board of directors and shareholders of any class whose control, priority, or rights would be altered by the transaction
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Corp reorg - conversion
the board must draft a conversion plan detailing the terms and conditions of the
conversion, the name and jurisdiction of the new entity, the manner of converting shares, and the new documents necessary for the new business entity. The plan must be made available to all shareholders
upon request and be approved by the board and the outstanding shares of each class of stock.
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Types of corporation reorgs
(1) merger; (2) share exchange; (3) sale of assets; (4) conversion
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Shareholder dissenting rights to reorganization
: shareholders who dissent from the reorganization have the right to
have the corporation purchase their shares at fair market value, if their share rights include the right to
dissent. Shareholders cannot sue to rescind a merger, attack the validity of a merger, or obtain damages
for a loss of interest in the reorganized organization resulting from the reorganization. However,
the shareholder may be entitled to damages if the corporation engaged in fraud or misconduct that
negatively impacted the fair market value of the shareholder’s shares.
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Corpation voluntary dissolution
a corporation may voluntarily dissolve and wind up by vote of
shareholders holding 50% or more of the voting power. Alternatively, the board of directors
can vote to voluntarily dissolve and wind up the corporation without shareholder approval if the corporation has filed for chapter 7 bankruptcy, has disposed of all its assets and has not
conducted business in the preceding five years, or has not issued any shares.
* Revocation: a dissolution and wind up can be revoked by the vote of shareholders holding a
majority of the voting power, or approval by the board if it initiated the dissolution, so long as no assets have been distributed. A certificate evidencing the revocation must be signed and filed.
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Corporation involuntary dissolution
proceedings may be initiated by:
(1) 50% or more of the directors;
(2) Shareholders holding at least one-third of all outstanding shares or common shares, or
any shareholder of a close corporation; or
(3) Any person authorized by the articles of incorporation to initiate dissolution proceedings
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Reasons for corporation involuntary dissolution to be iniciated
1) The business has been abandoned for more than a year;
(2) There is an even number of directors who are deadlocked such that business cannot
be advantageously carried out or there is danger that business or assets will be
impaired or lost, and the voting shareholders are too divided to elect a board
consisting of an uneven number;
(3) Two or more factions of shareholders are deadlocked such that business can no
longer be advantageously carried out, and the shareholders have failed at two
consecutive annual meetings to elect directors for existing vacancies or to replace
directors whose terms are ending;
(4) Those in control of the corporation have engaged in or failed to prevent persistent and
pervasive fraud, mismanagement, abuse of authority, unfairness toward shareholders, or
mismanagement or waste of corporate property by directors or officers; or 5) The period of existence stated in the articles of incorporation has lapsed without extension.
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State proceedings to dissolve corp
the state attorney general can bring an action for dissolution where the
corporation has:
(1) Seriously offended against a statutory provision regulating corporations;
(2) Fraudulently abused or usurped corporate privileges or powers;
(3) Violated any provision of law that constitutes grounds for forfeiture of corporate existence;
or
(4) Failed to pay for a period of five years any taxes imposed by the Franchise Tax Board.
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Creditor action to dissolve a corp
a judge may order dissolution where a creditor with a claim against the
corporation brings an action and establishes:
(1) The claim has been reduced to judgment, execution on the judgment was returned
unsatisfied, and the corporation is insolvent; or
(2) The corporation admitted in writing that the claim is due and owing, and the corporation
is insolvent.
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Distribution to shareholders after dissolving
after the corporation’s creditors have been paid in full and the company
has wound up, any remaining assets must be distributed to the shareholders in accordance with the liquidation
rights set forth in the articles of incorporation. If the articles are silent on this issue, the corporation’s assets will
be divided by the number of shares outstanding and distributed to the owners of those shares.
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Corporation securities regulations
10b-5; Insider trading rules, section 16b; sarbanes oxley
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Corp 10b-5
: prohibits fraud in connection to the purchase or sale of securities in interstate commerce,
including any type of stock, bond, or note. Rule 10b-5 prohibits:
(1) Any device, scheme, or artifice to defraud;
(2) Misstatements, misrepresentations, or omissions of material fact; and
(3) Any act, practice, or course of business leading to fraud or deceit.
* Fraud: Rule 10b-5 prohibits the intentional misrepresentation of material information in
connection with the trading of securities. To prevail, a plaintiff must prove six elements:
(1) The defendant made a material misrepresentation or omission. A fact is material if it is the
type of fact an investor would rely upon or find important.
(2) The misrepresentation or omission must be made with an intent to deceive, manipulate, or
defraud. Knowledge of the misstatement or omission and reckless disregard for the truth
also have been found sufficient for liability.
(3) There must be a connection between the misrepresentation or omission and the plaintiff’s
purchase or sale of a security.
(4) The misrepresentation or omission was made using an instrumentality of interstate
commerce (e.g., the mail or telephone).
(5) The plaintiff justifiably relied on the defendant’s misrepresentation or omission in buying
or selling securities.
(6) The plaintiff suffered economic loss.
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Insider trading
to be liable for insider trading, the defendant must (1) possess material information
that is not public knowledge and (2) trade securities on the basis of that knowledge. There are four
categories of people who may be liable for insider trading: insiders, tippers, tippees, persons with duties of trust or confidence
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People subjec to insider trading
1) Insiders: directors, officers, attorneys, accountants, or other employees of the corporation
who trade for personal gain.
(2) Tippers: insiders who share nonpublic information. Tippers are liable if they share the
information for an improper purpose and the person who receives the information (the tippee)
trades securities on the basis of it.
(3) Tippees: individuals who receive information from an insider (the tipper). Tippees are liable if
they knew or should have known that the tipper was breaching a fiduciary duty to the company
and shareholders.
(4) Persons with Duties of Trust or Confidence (Misappropriation Theory): individuals
who obtain nonpublic information from a source to whom they owe a duty of confidentiality.
Such persons are liable if they use the confidential information to trade securities.
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Securities rules - section 16b
is intended to prevent insiders at publicly traded companies from making short-term
profits or engaging in internal stock price manipulation by using material information to buy and then
sell, or sell and then buy, their company’s stocks in a short period of time. Structural reorganizations and
reclassification of stocks transactions are exempt from this rule
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Section 16b is triggered if
(1) Director, Officer, or Large Shareholder: section 16(b) applies to directors, officers, or
large shareholders (i.e., who hold at least 10% of the corporation’s stock) that (1) trade on
any national stock exchange or (2) have over $10 million in assets and either 2,000 record
shareholders of any type or 500 or more non-accredited shareholders.
(2) Purchase and Sale within a Six-Month Period: the individual must purchase shares
of stock and subsequently sell those same shares within a six-month period. The purchase and
sale must be of the same class of stock. There is no violation if an insider purchases shares of one class of stock and, within six months of the purchase, sells shares of another class of stock.
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Sarbanes oxley act
: applies to all publicly traded companies under the Securities
Exchange Act of 1934 and any person signing a corporate audit report, including directors, officers, attorneys, or accountants, may be subject to liability. SOX creates three major requirements.
(1) Audit Committees: SOX requires the corporation’s board of directors to establish an audit committee comprised of board members. The committee is responsible for hiring an auditing company certified by the oversight board and for overseeing the auditing process.
(2) Financial Reports: companies that fall under SOX must file financial reports. A corporation’s chief executive officer and chief financial officer, or other persons performing similar functions, must certify that:
(1) They have read and reviewed the corporation’s financial report;
(2) The report does not contain any untrue or misleading fact or any omissions;
(3) The report accurately represents the company’s financial condition;
(4) The signing officers reviewed the controls within the 90 days preceding the report and
discussed the effectiveness of those controls in the report; and
(5) The signing officers disclosed to the auditor and the audit committee any deficiencies in the controls, any fraud involving management or other employees involved in the internal
controls, and any changes to the internal controls.
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Loans under sarbanes oxley
companies that fall under SOX are prohibited from making new personal loans to
directors and executives, except for such loans made in the ordinary course of the company’s
business and under terms no more favorable than those available to the general public.
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Limited liability company formation
LCs blend elements of partnerships (e.g., pass-through taxation) and corporations (e.g., limited
liability). To form an LLC, the organizer must sign and deliver the articles of organization to the secretary of state
and pay a fee. Most courts apply corporate formation doctrines to LLCs. For example, the de facto corporation
and corporation by estoppel doctrines have been applied to recognize “de facto LLCs” and “LLCs by estoppel.”
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Limited liabilty mebership
after an LLC is formed, a person becomes a member as provided in the operating
agreement or with the consent of all the members. LLC owners are called “members,” and unlike partnerships, an LLC can have just one member.
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Management of LLC
: ordinarily, LLCs are operated either by the owners (i.e., member-managed LLCs where
the owners/members typically operate the entity on a day-to-day basis) or by a separate group of managers (i.e., manager-managed LLCs where members hire a manager to operate the LLC for them).
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Agency requirement for LLC
Each member/manager, depending on the structure of the LLC, has the ability to
bind the LLC unless the member/manager has no authority to act in that manner and the third party dealing with the member has actual knowledge that the member has no such authority
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Manager-managed LLC
managers have exclusive control over the LLC’s activities, and
decisions in the ordinary course of business require approval of a majority of the managers.
However, the consent of all members is required for:
(1) Any activity outside the normal course of the LLC’s activities, including the sale, lease,
exchange, or other disposal of all or substantially all of its property;
(2) A merger or conversion; or
(3) Amending the operating agreement
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Fiduciary duty LLC
the general fiduciary duties and business judgment rule that apply in the partnership
and corporate contexts also apply to the individuals tasked with managing and overseeing an LLC.
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Ricghts of LLC members
members and managers have certain rights to information, indemnification, contributions, and distributions. The ability to transfer such rights in an LLC is largely the same as in a limited partnership
and is limited to economic rights. If a transferee becomes a member with respect to the transferred interest, then the transferee is liable for the transferor-member’s obligations to creditors of the LLC and for
any improper distributions.
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Liabilities of LLC member
any debts, obligations, or other liabilities of an LLC, whether arising in contract, tort, or
otherwise, belong solely to the LLC and will not be imputed to the members or managers simply because the member or manager was acting on the LLC’s behalf. However, members and managers may be liable
to third parties for their own tortious conduct or contract obligations. Members also may agree in the operating agreement to be personally liable for debts, obligations, and/or liabilities.
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LLC member alter ego liability
he limited liability protection of an LLC may be pierced much like that
of a corporation. A member will be personally liable for any debt, obligation, or liability to the
same extent a shareholder would be liable under alter ego liability.
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LLC member litigation
like the shareholders of a corporation, members of an LLC can file lawsuits
against the entity in which they own equity, directly or as a derivative lawsuit. The rules relating to direct
and derivative suits are similar in the corporate and LLC contexts.
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LLC dissociation
a member can dissociate from an LLC in writing upon the occurrence of any of the events for which a partner may dissociate from a general partnership.
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LLC wrongful dissociation
member’s dissociation is wrongful if it is in breach of an express provision
of the operating agreement, or if it occurs before the LLC terminates and the person:
(1) Withdraws by express will;
(2) Is expelled as a member by judicial order;
(3) Is dissociated by becoming a debtor in bankruptcy; or
(4) Is expelled or otherwise dissociated because it willfully dissolved or terminated (this applies
where the person is not an individual, a trust other than a business trust, or an estate).
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LLC Dissolution and winding up
an LLC will dissolve and wind up upon:
(1) The happening of an event specified in the operating agreement or articles of organization;
(2) The vote of 50% or more of the voting interests of the members, or more if specified in the
operating agreement or articles of organization;
(3) A judicial decree of dissolution; or
(4) The passage of 90 consecutive days during which the limited liability company has no members
(except following the death of a sole member).
