Corporations

Question 1

16B

Answer 1

16b: The purpose of 16b is to prevent the unfair use of inside information and internal manipulation of price. Because ___ shares were traded on the national stock exchange, the federal securities laws apply to this transaction.
**Any profit realized by the director, officer, or shareholder owning more than 10% of the shares of the corporation from any subsequent purchase and sale or vice versa within a 6 month period or less must be returned to the corporation. This is strict liability, thus no defense. The remedy is either disgorgement of profits or constructive trust.

Question 2

16B - Profits Realized

Answer 2

Profits Realized: The recoverable profits are determined by matching the highest sale price against the lowest purchase price during any 6-month period.

Question 3

10B

Answer 3

10b: It is illegal for any person in connection with the purchase or sale of any security to use any means of interstate commerce and employ any device or scheme to defraud, make an untrue statement of material fact or omit a material fact or engage in any practice that operates as a fraud, upon which a person relies and suffers damages. Damages are not required in a prosecution by the government.

A fact will be considered material if a reasonable investor would consider it important when making an investment decision. Conduct will be considered fraudulent only on proof of scienter (i.e. intent to deceive a-c). Reliance is presumed in a nondisclosure case, such as the case here, in which [insider] did not disclose information on which he was trading.

Question 4

10b - rebuttable presumption: Reliance

Answer 4

***Rebuttal of Presumption – Reliance: Presumption of reliance may be rebutted by showing that the Plaintiff would have acted the same way even with full disclosure, that the price was not affected by the misrepresentation, or that plaintiff did not trade in reliance on the integrity of the market.

Question 5

10b5: Direct Trading

Answer 5

10b-5: direct trading: Insiders are deemed to owe a duty of trust and confidence to the corporation. Typical insiders are directors, officers, controlling shareholders, and employees of the issuer. Constructive insiders are the securities’ issuer’s CPAs, attorneys, and bankers performing services for the issuers. Constructive insiders also owe a duty. An insider has a duty to disclose information to the public or abstain from trading.

Question 6

10b5 - Controlling Shareholder

Answer 6

Controlling Shareholder: treated as an “insider” for SEC 10b-5. Controlling shareholder must refrain from obtaining a special advantage or causing corporation to prejudice minority shareholder. Causing disadvantage to minority shareholders is a breach of fiduciary duty.

Question 7

10b5: Tipper

Answer 7

Tipper: Insiders are deemed to owe a duty of trust and confidence to their corporation which is breached when an insider gives a tip of material nonpublic information and receives a personal benefit (gift, money, reputational gain), and the inside information is used to trade on.

Question 8

10b5: Tippee

Answer 8

: A tippee may be liable only if the tipper breached a duty and the tippee knew that the tipper was breaching the duty. Remedy: disgorge profits.

Question 9

10b5: Missapropriator

Answer 9

The supreme court held that the government can prosecute a person for trading on inside information in breach of a duty of trust and confidence owed to the source of information. A person will be deemed to owe a duty of trust and confidence when the person receives the information from a parent, atty/client privilege, banker/client etc., unless the recipient can prove that he had no reason to know the information was confidential.

Question 10

10b : non statutory Liability: Misprepresentation

Answer 10

intentionally misrepresented an untrue statement of material fact in order to induce reliance and caused injury. Punitive damages are available under the state law claim of misrepresentation.
10b -Remedy: seller/buyer seeks disgorgement, constructive trust, or rescission.

Question 11

10b remedy

Answer 11

`seller/buyer seeks disgorgement, constructive trust, or rescission.

Question 12

10b remedy: insider trading sanctions - civil penalties

Answer 12

The SEC may pursue persons for 10b-5 violations for a civil penalty equal up to 3 times the profit gained, lost, or avoided.

Question 13

10b criminal penalties

Answer 13

Penalties include jail terms of up to 10 years and criminal fines of up to 1 million for individuals and 2.5 million for corporations.

Question 14

Promoter

Answer 14

Prior to formation of a corp, a promoter engages in activites, such as entering into ks, to bring the corporation into existence.

Question 15

Promoter Liability

Answer 15

Promoter Liability: Any person who enters into a contract on behalf a corporation, knowing the corporation has yet to be formed is jointly and severally liable for any obligation incurred, Unless there is clear and convincing evidence the parties did not intend for the promotor to be liable or there has been a novation. A novation occurs when the promotor, contracting party and corporation agree that the corporation will replace the promotor on the contract. An adoption does not relieve the promotor of liability.

Question 16

Corporate Liability for Preincorporation Contract

Answer 16

As a general rule, corporations are legal entities separate and apart from their shareholders, thus, corporations are not liable for preincorporation contracts until corp adopts K. Adoption may be express by the resolution of the board of directors, or Implied by accepting the benefits of the contract.The promoter may have a right to reimbursement based on Quasi contract for the value of the benefit received by the corporation.

Question 17

Preincorporation liability: Novation

Answer 17

Novation: A novation occurs when the promoter, contracting party, and corp agree that corp will replace the promoter on the K.

Question 18

Promoter Right to Reimbursement

Answer 18

While a promoter can seek reimbursement for pre-incorporation expenses, undertaken on the corporation’s behalf, the promoter cannot compel the corporation to make payments. The promoter’s acts, while done to benefit the corporation are not undertaken at the corporation’s direction.

Question 19

Corporation

Answer 19

Corporations: legal entity that exists sep. from its owners, thus shielding owners & managers from personal liability.

Question 20

De Jure Corp

Answer 20

De Jure Corp: properly formed corp by filing AOI with SOC. (shares, purpose, addresses, incorpator name).

Question 21

De Facto Corp

Answer 21

De facto Corp: improperly formed, DFC enjoys benefits & powers of properly formed corp, but through some error, is not legally inc. exists where: (1) entity made good faith attempt to inc, (2) inc statute exists, (3) entity took action indicating it considers self inc. (4) only person whose unaware corp not properly formed may assert DFC defense.

Question 22

Corp by Estoppel

Answer 22

Corp by Estoppel: Any person or entity that treated business as corp may be later estopped from denying buss. Is corp.

Question 23

Fundamental Corporate Changes

Answer 23

Fundamental Corporate Changes: Generally, approval of a fundamental corporate change requires the board to adopt a resolution, written notice to shareholders, shareholder approval by quorum, changes in the form of articles filed with the state.

Question 24

Piercing the Corporate Veil

Answer 24

Piercing the Corporate Veil: Generally, active shareholders are not liable for corporate debts unless under the totality of the circumstances, limited liability is unfair. Factors that allow a court or creditors to pierce the veil are: (1) the corporation is the alter ego, (2) undercapitalization, (3) incorporation to perpetrate fraud, (4) ignoring corporate formalities and injustice has resulted, (5) harm caused by torts.

Question 25

PCV: Alter Ego

Answer 25

Alter Ego: When shareholders use the corporation as their alter ego, such as when they take corporate funds for personal use and the corporation does not have funds to pay creditors, or corporate formalities were ignored, the court will often pierce. The shareholder’s failure to respect the corporate entity must adversely affect the third party’s ability to recover from the corporation.

Question 26

PCV: Undercapitalization

Answer 26

Courts look to whether the corporation had adequate funds to cover potential liabilities at the time of formation.

Question 27

PCV: contract/Tort

Answer 27

Contract/Tort: Courts are more likely to pierce the veil in a tort claim rather than a contract claim because tort creditors are involuntary and have limited opportunities to protect themselves from a corporation causing them a loss.

Question 28

PCV: Fraud

Answer 28

Fraud: It might also be argued that the corporation was being used to perpetrate a fraud. Intentional misrepresentation requires a false representation, scienter, intent, causation, justifiable reliance and damages.

Question 29

PCV: Equitable Subordination

Answer 29

Equitable subordination: Usually, shareholders would be entitled to a pro rata share with unsecured creditors if the company went bankrupt. However, a court might subordinate shareholder claims if any kind of wrong doing is attributable to them. This is known as the deep rock doctrine or equitable subordination.

Question 30

Directors

Answer 30

Directors: A BOD may act by (1) meeting or (2) unanimous written consent. BOD can define actual express authority for officers.

Question 31

No Inherent Right to Dividends

Answer 31

Dividends

The decision to declare distributions of a corporation’s assets to shareholders is solely within the directors’ discretion, subject to articles of incorporation limitations and statutory solvency requirements.

Question 32

D&O: Fiduciary Duties

Answer 32

Duty of Care
Duty of Loyalty
Not commit waste
Accounting

Question 33

D&O - Duty of Care

Answer 33

Breach of Duty of Care: The duty of care requires directors to act in good faith and in the best interests of the corporation, using the care exercised by a reasonably prudent person in a like position.

Question 34

D&O - Duty of care - Business Judgment Rule

Answer 34

: A court will not second guess a business decision if it was informed, had a rational basis, made in good faith and without a conflict of interest. In making decisions, directors are entitled to rely on the opinions and reports of other directors, corporate officers, employees and outside experts making reports within their competence.

Question 35

D&O : Duty of Loyalty

Answer 35

Breach of Duty of Loyalty: A director must act in the best interest of the corporation without a personal conflict. They may not receive an unfair benefit to the detriment of the corporation unless there has been a material disclosure and independent ratification. The duty prohibits directors from competing with the corporation and from usurping a corporate opportunity for a personal benefit. An undisclosed transaction may be rescinded or the director liable for damages.

Question 36

D&O : Duty of Loyalty - Controlling Shareholder

Answer 36

The controlling shareholder must refrain from obtaining a special advantage or causing the corporation to prejudice minority shareholders or the controlling shareholder may be liable for a breach of fiduciary duty.

Question 37

D&O : Duty of Loyalty - Ratification

Answer 37

Where the director sits on both sides of the transaction, the contract is voidable at the option of the corporation. However, under modern law, the contract is invalid unless a majority of disinterested directors approves the contract after disclosure by the director, and the director does not vote, or the shareholders approve the contract after disclosure, or the contract itself is fair.

Question 38

D&O : Duty of Loyalty - Competing Interest

Answer 38

Directors and officers may not engage in personal business in direct conflict with the corporation.

Thus, [director] breached his duty by engaging in a competing venture.

Question 39

D&O : Duty of Loyalty - Usurping

Answer 39

Usurping/corp opportunity doctrine: Director may only pursue corp oppor if they 1st present it to corp & board decides not to pursue. Usurp occurs if: (1) oppo W/in the corps line of business, (2) corp has interest or expectancy in oppo, (3) corp is fanciailly able to take oppo (not a defense alone). Remedy: disgorge profits D made through constructive trust or force D to convey oppo to corp.

Question 40

D&O : Duty of Loyalty - Failing to Act

Answer 40

Where directors fail to act in the face of a known duty to act, thereby demonstrating a conscious disregard for their responsibilities they breach the duty of loyalty by failing to discharge that fiduciary obligation in good faith.

Question 41

Breach of Fiduciary Duties Remedies

Answer 41

: rescind unlawful transactions, disgorge profits, constructive trust and possibly an injunction(specific performance).

Question 42

Breach of Fiduciary Duties - Personal Liability of Directors

Answer 42

Directors can be personally liable for action taken, or failure to take action as a director. No Articles of Incorporation provision can eliminate or limit a director’s personal liability for breach of duty of loyalty. Here, all three directors breached their duty of loyalty as analyzed above. If the asset sale was rescinded then there would no longer be damages and the directors would not be personally liable. However, if the transaction is not rescinded, the directors are liable for compensatory damages including any consequential and incidental damages.

Question 43

D&O : Doctrine of Waste

Answer 43

Under the doctrine of waste, directors have a duty to not waste corporate assets by overpaying for property or employment services.

Question 44

Shareholder : Direct Suit & Derivative Suit

Answer 44

A shareholder may bring a direct action for a breach of a ficudciary duty owed to the shareholder. A shareholder may bring a direct suit for a breach of fiduciary duty on behalf of the corporation for harm done to the corporation when the corporation itself has failed to do so itself. If successful in the direct suit, the shareholder may be awarded personal damages. If successful in the derivative suit, the shareholder is entitled to reimbursement for the expense of litigation.

Question 45

Derivative Suit Procedure

Answer 45

To bring a derivative suit, a shareholder must have standing, make a demand to the board unless futile or irreparable harm will result, the board must accept or reject the demand, and file the suit on behalf the corporation to recover for the harm and litigation expenses.

Here, [s/h] likely has standing since s/he owned the shares when the breach occurred and so long as s/h continues to own the shares through litigation. Further, [s/h] must make a demand on the board for the [directors] to cease their unlawful activity, unless the demand is futile. If the board does not respond then [s/h] has 90 days before filing suit unless waiting would cause irreparable harm.

Question 46

Remedy - Shareholder Action for Involuntary Dissolution

Answer 46

A shareholder may apply to a court for liquidation of the corporation where the directors are deadlocked and the corporation is threatened with irreparable injury or where oppression and waste are occuring.

Question 47

Partnership Authority

Answer 47

Each partner has equal rights in the management and conduct of the partnership. A partner is an agent of the partnership for the purpose of its business and can contractually bind the partnership where the partner acts with actual or apparent authority.

Question 48

partnership: Actual express authority & Actual Implied authority

Answer 48

Actual express authority & Actual Implied authority

Express authority manifests from the partnership agreement, authorization from the partners, or statement of authority filed with the secretary of state. Implied authority is based on the partner’s reasonable belief that an action is necessary to carry out express authorization.

Question 49

Partnership: Apparent authority

Answer 49

Apparent authority

An unauthorized partner’s acts may bind the partnership if the act is performed in the course of apparently carrying out the partnership business or business of a kind carried on by the partnership. A third party cannot hold a partnership liable where the person knows or receives notice the partner lacks authority.

Question 50

Partnership: ratification

Answer 50

Ratification

Actions taken by a partner that are outside the ordinary course of the partnership do not bind the partnership unless the other partners unanimously authorize the action (ratify).

Question 51

Partnership Obligations

Answer 51

Obligations
Partners are jointly and severally liable for obligations of the partnership, meaning each may be held liable to a third party for the entire obligation. However, a partner cannot be held liable unless personally served in the lawsuit in addition to the partnership and the judgment against the partnership was not fully satisfied out of the business assets. WHere one partner pays the obligation they are entitled to indemnification and may require the other partners to contribute their pro rata shares if the partnership cannot indemnify.

Question 52

Partnership: Tort Liability of Partners

Answer 52

Tort Liability of Partners
General partners are jointly and severally liable for ALL obligations of the partnership arising from wrongful acts or omissions of any partner acting (1) within the ordinary course of the partnership business, or (2) with the authority of all other partners. The plaintiff must exhaust the resources of the actual tortfeasor before collecting from innocent general partners.

Question 53

Enterprise Liability
(2 entitites - same owner)

Answer 53

Enterprise Liability

When the same shareholders own the stock of two corporations engaged in the same enterprise, one corporation’s creditor can reach the other corporation’s assets to satisfy the debt.

Question 54

Partnership

Answer 54

Partnership
A partnership is two or more persons association as business co-owners for profit (they do not need to share losses). A formal writing is not required and the partners are equally liable unless a writing states otherwise.

Question 55

Limited Partnership; Limited Liability Partnership

Answer 55

Limited Partnership; Limited Liability Partnership

A limited Partnership forms when 1 or more persons (at least 1 General and 1 Limited), file with the Secretary of State to notify third parties their sources for loss recovery is limited. A limited Liability Partnership forms when a Statement of Qualification is filed with the Secretary of State to notify third parties their sources for loss recovery is limited.

Question 56

General Partnership

Answer 56

General Partnership

An entity that does not qualify as a limited liability partnership or limited partnership transforms into a general partnership.

Question 57

Limited Partners Liability

Answer 57

Limited Partners: are not personally liable for obligations of the limited partnership arising from the wrongful acts or omissions of other partners. However, limited partners are always liable for their own misconduct.

Question 58

LLP - Liability to 3p

Answer 58

LLP - Liability to 3p: A LLP eliminates a partner’s personal liability for partnership debts, which are solely the partnership’s obligation.

A limited partner in a LLP is personally liable for his/her own misconduct.

Except - malpractice: A partner in an LLP remains liable for professional malpractice if s/he: (1) committed the malpractice himself or was directly involved in the activity that resulted in the malpractice; or (2) supervised or directed the person who committed the malpractice.

Question 59

Partner Fiduciary Duties

Answer 59

Partner Fiduciary Duties: A partnership may maintain an action against a partner for the violation of a duty to the partnership and recoup any loss.

Question 60

Partnership: Dissociation & Dissolution

Answer 60

Dissociation & Dissolution: GP may Dissociate or Dissolve @ any time by express will, agreed event, cont. Would be unlawful, death, judicial order. Only duties of loyalty & care re matters prior to disso (i.e. confidentiality) continue.

Question 61

Partnership: Dissolution

Answer 61

Dissolution: req business to be wound up (sell & settle the GP affairs) before termination. May waive disso by unanimous vote.

Question 62

Partnership : Asset Distribution

Answer 62

Assets distribution: When assets dissolved & assets reduced to cash, $$ must be used to pay P liability in following order: (1) outside creditors, (2) inside creditors (partners who made loans to P), (3) partners’ capital contributions, and (4) profits for distribution. If assets insufficient to pay liabilities, loss will be divided among partners unless LLP.

Question 63

Ultra Vires Act

Answer 63

Under the Ultra Vires Act (UVA), a corporation can’t be obligated to enter into a contract or activity that is outside the scope of its powers in the AOI or bylaws ( or activities unrelated to achieving the stated business purpose). Under common law, EVAs are void and unenforceable. Modernly, UVA contracts are valid as to third parties, shareholders can seek an injunction to stop an UVA, the corporation can sue the responsible managers for losses and the state attorney general can seek dissolution with evidence of unlawful actions.

Question 64

Close Corporation

Answer 64

A close corporation is a corporation that is not publicly traded, has few shareholders, and less corporate formalities or governance.

Question 65

S/H Election of Directors

Answer 65

Shareholders elect the directors at the annual shareholder meeting

Question 66

S/H Share Transfer Restrictions

Answer 66

Share Transfer Restrictions
Share transfer restrictions, are enforceable against a transferee when the share transfer restrictions are 1) reasonable, and 2) conspicuously noted on the share certificates, or 3) the transferee purchases shares with the knowledge of the restriction.

Question 67

S/H Shareholder Agreements

Answer 67

Shareholder Agreements
Shareholders may enter into agreements concerning the management of a corporation as long as the agreement is set forth in the articles, bylaws, or a written agreement signed by all shareholders at the time the agreement is made known to the corporation.

Here, Ali and Bow owned sufficient shares to elect one of three Corp directors so they were shareholders. Because they had to pool votes in order to elect one director through cumulative voting, Ali and Bow were minority shareholders, not all the Corp shareholders. Though Ali and Bow stamped “Subject to Agreement” on the backs of all their share certificates, they did not make the agreement known to Corp. The voting agreement was between Ali and Bow, and could not bind other shareholders’ (e.g. Daya) rights.

Question 68

S/H Voting Agreement

Answer 68

Voting Agreement
Shareholders may enter into a written and signed agreement providing for the manner in which they will vote their shares.

Question 69

Agency

Answer 69

In order to determine if the principal is bound by the contract, the agent must have had the authority to enter into the contract and bind the principal.

Question 70

Agency Formation

Answer 70

An agency relationship exists if there is an agreement between an agent and a principal whereby agent’s conduct is for the benefit of the principal and the principal had the right to control the agent. Contract formalities are not required.

Supervision is sufficient – the amount of control may be limited) (P must have contractual capacity, appointment of an agent by a minor is voidable, consideration is not required).

Question 71

Agency Formation by Estoppel

Answer 71

Formation by estoppel
An agency may be created through estoppel, which requires 3p reliance on Principal’s communication.

Question 72

Agent Duties

Answer 72

Duties owed by Agent.
Fiduciary duty of loyalty for the principal’s sole benefit, duty of obedience to reasonable directions, duty of care under the circumstances (e.g. disclose all relevant information), express contractual duties.

Loyalty: Agent must act for principal’s benefit, no self-dealing or personal enrichment, may not represent adverse party, agent may not compete with principal, may not use principal’s property or confidential information to self-serve or serve others.

Question 73

Duties owed by Principal

Answer 73

Duties owed by Principal
Duty to reasonably compensate or reimburse expenses, duty to cooperate (unreasonably interfere with A’s performance), express contractual duties, good faith and fair dealing, duty to indemnify the agent if the agent incurs expenses or suffers other losses in carrying out the principal’s instructions.

Question 74

Agency Breach of Duties Remedies

Answer 74

Breach of Duties – Remedies
Principal: withhold compensation, seek damages for breach of contract, seek damages in tort, bring an action for an accounting(force agent to return all money and property owed to principal), bring an action to recover secret profits(equitable, P recovers personal profits derived from agents fiduciary breach)
Agent: An agent may seek all remedies available in contract, plus a possessory lien for any money due from the principal.

Question 75

Respondeat Superior

Answer 75

A Principal is liable for its own acts and acts of its agents under the doctrine of respondeat superior. The principal is liable only for torts committed within the scope of employment, by agent who is an employee, not an independent contractor. If the agent is not liable, the principal is not liable. However, an employer may still be liable for the negligent hiring, supervision or entrustment of employee. The principal may still be liable for an independent contractor if the activity involved was inherently dangerous, duty was nondelegable, or principal was negligent in hiring IC.

Question 75

ER/EE v Independent Kr

Answer 75

Employer/employee v. Independent Contractor
In determining whether an employer/employee relationship exists, the most important consideration is the extent of control that the principal exercises over the details of the agent’s work. Courts look to many factors: principal’s control over the manner and method of agent’s performance, characterization by parties, customs of locality regarding supervision of work, degree of skill required on the job, whose tools and facilities are used, length of employment (short more likely to be IC, long more likely to be employee), basis of compensation (project basis vs. time basis), understanding of parties, whether hired to further P’s business (nonbusiness purpose more likely IC e.g. moving lawn).

Question 76

Agency - Respondeat Superior - Relationship by estoppel

Answer 76

Relationship by estoppel
If principal creates the appearance of employer-employee relationship that 3rd party relies on, principal is estopped from denying the relationship and will be liable under respondeat superior.

Question 77

Partnership Management

Answer 77

All partners have an equal right to participate in the management and control of the partnership, unless there is agreement providing otherwise. Decisions re “ordinary course of business” are controlled by a majority vote; matters outside the “ordinary course of business” require unanimous consent of all partners.

Question 77

Agent’s intentional torts

Answer 77

Generally, employers are not liable for the intentional torts of employees unless: the intentional tort was authorized by the employer or force is within the scope of employment in the employee’s work (e.g. security guards) or a misrepresentation made for the benefit of the employer or principal.
The negligence of one business partner can be imputed on other business partners if it is committed within the scope of the business’s purpose.

Agent is personally liable for his own tort even when acting through a corporation.