Corporations

Question 1

Formation of a Corporation

Answer 1

A de jure corporation is formed when (1) one more incorporators; (2) execute articles of incorporation in compliance with state law; and (3) file the articles with the secretary of state.

ExamTip: Corporate existence begins upon filing. A corporation is a legal person that can sue, be sued, hold property, join a partnership, or invest in other companies or commodities.

Question 2

Articles of Incorporation

Answer 2

The articles of incorporation must include:

(1) The name of the corporation [must include a word that indicates the organizational structure. E.g., “corporation”

(2) The name and addres of each incorporator

(3) Registered agent and the street address of the registered office

(4) Information regarding corporation’s stock [classes of stock, voting rights and preferences]

(5) Statement of business purpose [absent such a statement, presumption is that the corporation is formed to conduct any lawful business]

Question 3

Organizational Meeting

Answer 3

Upon filing, initial directors named in the articles, or, if none were named, incorporators, must convene to complete the organization of the corporation. This includes (1) adoption of initial bylaws and (2) appointment of officers.

Question 4

Bylaws

Answer 4

Bylaws: An internal document that provides guidance on management of the corporation. Bylaws can contain any provisions that do not conflict with the articles or the law.

Bylaws are not filed with the state and cannot conflict with articles of incorporation. Bylaws can be amended or repealed by the Board of Directors or Shareholdeers.

Question 5

Internal Affairs Doctrine

Answer 5

Under the internal affairs doctrine, the internal affairs of a corporation are **governed by the law of the state of incorporation. **

Question 6

Limited Liability of Corporate Actors

Answer 6

Shareholder, directors, and officers of a corporation have limited liability. This means that they are not personally liable for the corporation’s debts, torts, or breaches of contract.

SHAREHOLDERS ARE LIABLE ONLY FOR THEIR OWN STOCK

Question 7

De Facto Corporation

Answer 7

For a de facto corporation to exist:

(1) there must be a relevant incorporation statute;

(2) the parties made a good faith, colorable attempt to comply with the statute; AND

(3) there has been some exercise of corporate privileges, meaning the parties were acting as though they thought there was a corporation.

ExamTip: A de facto corporation will shield shareholders from liability. However, party asserting a de facto corporation defense must be UNAWARE of the failure to form a de jure corporation.

Question 8

Corporation by Estoppel

Answer 8

Persons who have dealt with an entity as if it were a corporation will be estopped from denying the corporation’s existence.

ExamTip: Applies only to contracts cases. Not Torts.

Question 9

Promoter Liability

Pre-formation Liability

Answer 9

A promoter is a person acting on behalf of a corporation not yet formed. A promoter’s fiduciary duty to the corporation is one of fair disclosure and good faith.

Anyone who acts on behalf of a corporation knowing that it is not in existence is jointly and severally liable for the obligations incurred. Promoter’s liability continues even after the corporation is formed. However, a promoter may be released from liability IF there is an express or implied novation.

ExamTip: A contract that expressly relieves a promoter from liability is no contract at all. It will be considered a revocable offer to the proposed corporation.

Question 10

Corporation Liability

Pre-formation Liability

Answer 10

Corporation is NOT bound on contracts entered into by the promoter in the corporate name prior to incorporation. The Corporation may become liable only if it expressly or impliedly adopts the promoter’s contract.

Express Adoption: Board of directors takes action to adopt the contract

Implied Adoption: Corporation accepts a benefit of the contract

Question 11

Foreign Corporations

Answer 11

Foreign corporations transacting business in a state must register and pay fees.

• Foreign: A corporation incorporated in another state.
• Transacting Business: Regular course of intrastate business activity.
• Registering: Provide (1) information about its articles of incorporation; and (2) prove good standing in its home state.

Question 12

Stock Generally

Answer 12

(1) Authorized Shares: Shares described in the articles of incorporation
(2) Issued and Oustanding Shares: Shares that has been sold
(3) Authorized but Unissued Shares: Shares that have been reacquired by the corporation through repurchase or redemption.

Question 13

Subscriptions

Answer 13

Subscriptions are written offers to buy stock from a corporation.

** (a) Pre-incorporation Subscriptions** are irrevocable for 6 months unless otherwise provided in the terms of the subscription agreement.

** (b) Postincorporation Subscriptions** are revocable until accepted by the Corporation.

Question 14

Issuance of Stock for Consideration

Answer 14

An issuance of stock is when a corporation sells its own stock. Under the MBCA, stock may be issued for any tangible or intangible property or benefit to the corporation.

Examples of **acceptable consideration **include cash, check, property, services already performed, future services, discharge of debt, or promissory notes.

Board’s valuation of stock is conclusive if made in good faith. The stock is considered fully paid and nonassessable once the corporation receives the consideration authorized by the board.

Question 15

Watered Stock

Answer 15

Par means minimum issuance price. Under the traditional rule, stock could not be issued for less than par value. If par value stock is issued for less than its par value, this is called watered stock.

Corporation can recover the difference on issuance of watered stock. Both approving directors and the buyor (charged with notice of par) can be held liable.

Question 16

Preemptive Rights of Shareholders

Answer 16

A preemptive right is the right of an existing shareholder of common stock to maintain her percentage of ownership in the company by buying stock whenever there is a new issuance of stock for money (i.e., cash or cash equivalent) ONLY!

ExamTip: Preemptive rights only exist if provided for by the articles of incorporation. Preemptive right will not be triggered by an issuance (1) for consideration other than cash; (2) within 6-months of incorporation; or (3) preferred shares without voting rights.

Question 17

Board of Directors Generally

Answer 17

Any adult natural person with legal capacity is eligible to become a director.

There must be one OR more directors. Number is set in the articles or bylaws.

Initial directors are elected by incorporators. Later directors are elected each year by shareholders.

Removal Shareholders may remove a director with or without cause.

Board of Directors must act as a group. Individual directors are NOT agents of the corporation and CANNOT bind the corporation.

Question 18

Staggered Board

Answer 18

Generally, the entire board of directors is elected each year. However, if there is a staggered board, the board is divided into clusters that serve for a set number of years without election (e.g., Directors serve 3-year terms).

Question 19

Actions by Board of Directors

Answer 19

Board of Directors must act as a group. Individual directors are NOT agents of the corporation and CANNOT bind the corporation.

A board of directors may act by (1) unanimous agreement in writing OR (2) at a meeting that satisfies quorum and voting requirements.

Question 20

Types of Board Meetings

Answer 20

Regular Meetings: Notice is NOT required

Special Meetings: Written notice must be given at least two days prior to the meeting. Notice must detail date, time, and place of the meeting. Does not have to provide the purpose of the meeting.

Question 21

Special Meetings

Failure to Provide Notice

Answer 21

Failure to give required notice means that whatever happened at the meeting is voidable. Directors who were not given notice may waive the notice defect (1) in writing any time; or (2) by attending the meeting without objection at the outset of the meeting.

Question 22

Quorum and Voting Requirements

Board of Directors

Answer 22

There must be a quorum for any meeting of the board. A quorum is a majority of all directors. In the absence of a quorum, the board cannot act.

If a quorum is present at a meeting, passing a resolution only a majority vote of those PRESENT.

ExamTip: Quorum can be lost during the meeting if some of the board members leave.

Question 23

Fiduciary Duties Generally

Duties of Loyalty and Care

Answer 23

A director must discharge her duties in* good faith* and with the reasonable belief that her actions are in the **best interest of the corporation. **She must also use the care that a person in like position would reasonably believe appropriate under the circumstances.

Question 24

Nonfeasance

Answer 24

A director can violate the duty of care by nonfeasance. Nonfeasance occurs when a director basically does nothing.

Nonfeasance cases are difficult to prove because director’s actions MUST cause loss to the corporation.

Question 25

Misfeasance

Answer 25

A director can violate the duty of care by misfeasance.

Misfeasance occurs when the board makes a decision that hurts. the business. Causation is clearly established in misfeasance case. However, directors are entitled to deference under the business judgment rule

Question 26

Business Judgment Rule

Applies only to Duty of Care

Answer 26

A rebuttable presumption that a director reasonabl believed that his actions were in the best interest of the corporation.

ExamTip: Plaintiff bears the burden of proving that the business decision was not made in good faith, was not informed, and did not have a rational basis.

Question 27

Duty of Loyalty

Answer 27

Any self-dealing transaction that is between the corporation and (1) one of the directors; (2) that directors’ close relatives; or (3) another business of the director is a conflicting transaction.

A self-dealing transaction is entitled to business judgment deference IF

(1) It was approved by a majority of the disinterested directors [must be at least 2/3rds]
(2) It was approved by a majority of votes entitled to be cast by disinterested shareholders OR
(3) It was fair to the corporation at the time of the transaction

ExamTIp: Director or Shareholder approval must occur following the disclosure of all materail facts.

Question 28

Corporate Opportunity Doctrine

Answer 28

A director cannot usurp a corporate opportunity until the director (1) tells the board about it; and (2) waits for the board to reject the opportunity.

ExamTip: Usurpation happens only if a director takes advance of a business opportunity in which the corporation would have an interest or expectancy.

Question 29

Presumption of Concurrence

Director Liability

Answer 29

A director is presumed to concur with board action unless her dissent or abstention is noted in WRITING in the corporate records.

Minor exception: A director who is absent cannot be liable.

ExamTip: Directors may be liable for (1) improper distributions; (2) improper loans; (3) ultra virest acts; and (4) breaches of fiduciary duties.

Question 30

Corporate Officers

Answer 30

Officers of a corporation are agents of the corporation. Officers can bind the corporation if they have actual or apparent authority OR the corporation ratifies the actions later on.

ExamTip: Officers are hired and fired by directors NOT shareholders.

Question 31

Indemnification of Officers and Directors

Answer 31

No Indemnification: A corporation CANNOT indemnify a director who is (1) held liable to the corporation; or (2) received an improper benefit.

Mandatory Indemnification: A corporation MUST indemnify a director or officer who was successful in defending a proceeding on the merits.

Permissive Indemnification: A corporation MAY indemnify a director for reasonable litigation expenses incurred in unsuccessfully defending a suit IF they (1) acted in good faith; and (2) believed that their was in the best interest of the corporation.

Question 32

Shareholders

Answer 32

Generally, shareholders do not owe any fiduciary duties to the corporation and do not exercise any management powers.

Shareholders CANNOT be held liable for corporate debts.

Question 33

Close Corporations

Answer 33

A corporation that has only a few shareholders and whose stock is not publicly traded is known as a close corporation. Under the MBCA, close corporations may vest management power in shareholders. In that case, managing shareholders would owed duties of loyalty and care to the corporation AND their fellow shareholders.

ExamTip: A close corporation is similar to a partnership. Thus, it makes sense to impose duties between SH.

Question 34

Duties of Controlling Shareholders to Minority Shareholders

Close Corporations

Answer 34

Controlling shareholders cannot use their power to benefit at the expense of minority shareholders.

If there is oppression of minority shareholders, they can sue the controlling shareholders who oppress them for breach of this fiduciary duty.

Question 35

Piercing the Corporate Veil

Close Corporations

Answer 35

Courts will pierce the corporate veil IF the shareholders abused the privilege of incorporating; AND fairness requires holding them liable.

(1) Alter Ego: Shareholders ignore corporate formalities such that the corporation is an “alter ego” of the shareholder (e.g., using corporate credit card for personal purchases)

(2) Undercapitalization: Corporation is inadequately capitalized at the time of formation AND there isn’t enough capital to cover future liabilities.

(3) Fraud: Necessary to prevent fraud or to prevent an individual shareholder from using the entity to avoid his existing personal obligations.

Question 36

Derivative Suits Generally

Answer 36

In a derivative suit, a shareholder sues to assert the corporation’s rights rather than her own rights. In case the corporation prevails in its claim, damages are paid to the corporation.

ExamTip: ASK could the corporation have brought this suit? If so, derivative suit.

Question 37

Direct Suits

Answer 37

A direct action may be brought by a shareholder who suffers an immediate and direct damage.

ExamTip: Directors owe duties of care and loyalty to the corporation, not the shareholders.

Question 38

Requirements to Bring Derivative Suits

Answer 38

o maintain a derivative suit, a shareholder must have:
(1) Standing: SH must owed the shares at the time the claim arose OR became a SH by operation of law through transfer from another person who was a SH at the time.

(2) Adequate Representation: SH must fairly and adequately represent the corporation’s interest.

(3) Demand Requirement: Shareholder MUST make a written demand on the corporation to take suitable action unless the demand would be futile.

Question 39

Dismissal of a Derivative Suit

Answer 39

Parties to a derivative suit can settle or dissmis only with court approval.

Dismissal MUST be based on independent investigation that concluded the suit is not in the corporation’s best interest. The investigation must made by special litigation committee of independent directors.

Question 40

Shareholders of Record

Shareholder Voting

Answer 40

Shareholders “of record” on the record date may vote at the meeting. Each share is entitled to one vote, unless otherwise provided.

Question 41

Voting by Proxy

Answer 41

Shareholders may vote their shares by proxy. A proxy is a (1) writing; (2) signed by the record shareholder; (3) directed to the secretary of the corporation; (4) authorizing another to vote the shares.

ExamTip: A proxy is effective for **11-months ** unless stated otherwise.

Question 42

Irrevocable Proxies

Answer 42

Generally, proxies can be revoked by (1) shareholder’s personal attendance; (2) in a writing to the secretary; or (3) by appointment of a new proxy.

However, a proxy will be IRREVOCABLE if (1) the proxy says it is irrevocable and (2) the proxy holder has some interest in the shares other than voting (e.g., option to buy the shares)

Question 43

Shareholder Voting Trusts

Answer 43

A voting trust controls how shares will be voted. To be valid, a voting trust (1) must be in a written trust agreement; (2) a copy must be given to the corporation; and (3) legal title to the shares must be transferred to the voting trustee.

Question 44

Shareholder Voting Agreement

Answer 44

A voting agreement is a written and signed instrument that controls how shareholders will vote their shares.

Question 45

Notice of Shareholder Meetings

Answer 45

SH must be notified of meetings within 10 to 60 days before the meeting. Notice must be provided to every shareholder entitled to vote in writing.

Annual Meetings: Notice must include date, time, and place.

Special Meetings: Notice must include purpose of the meeting.

Question 46

Failure to Give Notice

Answer 46

If proper notice is NOT given to shareholders, any action taken at the meeting is voidable, unless notice is waived.

Notice can be waived either (1) expressly in writing; or (2) impliedly when shareholders attend the meeting without objection at the outset.

Question 47

What do Shareholders vote on?

Answer 47

Shareholders vote to:
(1) Elect directors
(2) Remove directors
(3) On fundamental corporate changes

Question 48

Quorum of Shareholders

Answer 48

There must be a quorum represented at every shareholder vote. A quorum is a majority of outstanding shares entitled to vote.

ExamTip: If no quorum is present, shareholder action can only be valid IF they provide unanimous written consent.

Question 49

Votes Necessary For Various Resolutions

Answer 49

Generally, if a quorum is present and votes in favor exceed votes against the matter, the matter is approved.

However, the following matters are subject to special rules:

(1) Election of a Director: Plurality vote
(2) Fundamental Corporate Change: Majority of shares entitled to vote (NOT votes present).
(3) Removal of Director: Majority of shares entitled to vote
(4) All Other Matters: Majority of shares that actually vote on the issue.

Question 50

Restrictions on Stock Transferability

Answer 50

Generally, stocks are freely transferable by shareholders. However, a corporation may impose reasonable restrictions on alienation (e.g., right of first refusal)

If a reasonable restriction is violated, the restriction will be enforced against the TRANSFEREE only if: (1) the restriction is noted on the stock certificate; and (2) the transferee had actual knowledge of the restriction at the time of purchase.

Question 51

Shareholders’ Inspection Rights

Answer 51

A shareholder has the right, personally or by an agent, to inspect the books and records of the corporation.

Unqualified Right to Access with Demand Made 5-Days in Advance: (1) Articles and bylaws; (2) Board resolutions regarding stock classifications; (3) Minutes of shareholder meetings; (4) Communications by the corporation to shareholders; (6) Most recent corporate annual report; and (7) Names and address of current directors and officers

Qualified Right to Access with Demand Stating a Proper Purpose: (1) Board meeting minutes; (2) Corporation’s books, papers, and accounting records; and (3) Shareholder Records.

Question 52

Declarations of Distributions

Answer 52

The decision to declare distributions is solely within the directors’ discretion.

ExamTip: A direct suit for distributions will succeed only if abuse of discretion by directors is proven.

Question 53

Improper Distributions

Answer 53

A corporation CANNOT make a distribution if it is (1) insolvent or (2) if the distribution would render it insolvent.

Directors are personally liable for improper distributions. However, directors may raise a good faith reliance defense, provided that they relied on financial statements prepared by accountants and presented by officers.

Question 54

Fundamental Corporate Changes

Answer 54

Any fundamental corporate change requires (1) adoption of a resolution by the board; (2) proposal to the shareholders with written notice; and (3) shareholder approval.

Fundamental Changes Include: (1) Amending the articles; (2) Mergers; (3) Asset or Stock sales; (4) Conversion to another business form; and (5) Dissolution.

Requisite Vote: Majority of the shares ENTITLED to vote.

Question 55

Dissenters’ Right of Appraisal

Answer 55

Shareholder who dissent to a fundamental change may force the corporation to buy their stock for fair market value.

ExamTip: Appraisal is inapplicable for publicly traded companies because shareholders have a “market out” (i.e., sell and get out)

Question 56

Short Form Merger

Answer 56

If a parent corporation (1) owns 90% of a subsidiary; and (2) subsidiary merges into the parent, there is no need for shareholder approval.

Question 57

Involuntary Dissolution

Answer 57

Secretary of state may dissolve a corporation if there has been fraud.

Shareholders may petition for a dissolution IF:
(1) Director abuse, waste, or misconduct
(2) Directors are deadlocked in the management of corporate affairs and irreperable injury is threatened to the corporation.
(3) Shareholders are deadlocked and have failed to elect one or more directors for two consecutive annual meetings
(4) The corporation has abandoned its business

Creditors may petition for dissolution if the corporation is insolvent.