Corporations Flashcards
Corporations are
legal entities which have limited liability protection and are used to promote investment
3 groups involved in corporations
(1) Shareholders
(2) Directors
(3) Officers
A promotor is
someone who enters into contracts on behalf of a corporation (even before it exists)
personally liable for any K entered into and a fiduciary of the corporation (cannot make secret profits)
A novation is a
special agreement that alters default rule of promotor personal liability and shifts liability to the corporation
Requires agreement between promoter, corporation, and third party
Incorporators of a corporation must
sign and file articles of incorporation (and pay fee)
Must include:
(1) Name of corporation (including abbreviation of inc. or corp. or ltd)
(2) Agent of the corporation
(3) Names and addresses of the incorporators
(4) Duration of corporation (generally perpetual)
(5) Purpose of corporation (generally to engage in any lawful activity)
(6) Authorized shares (# and type of stock)
If breaches scope of purpose, may sue under Ultra Vires
Moment of incorporation (when limited liability begins) is when
Secretary of State accepts the fee and files articles of incorporation
Bylaws v. Articles of Inc.
bylaws are easier to amend (articles require shareholder voting)
Articles trump bylaws
De facto corporations are still treated as a corporation if
(1) organizers made a good faith effort to comply with the incorporation process, and
(2) organizers have no actual knowledge of a defect in corporate status
3 factors in deciding whether to pierce the corporate veil
(1) Alter ego (treating corp. like self, co-mingling funds)
(2) Undercapitalization
(3) Fraud
More common in TORT situations than contract ones
Look for siphoning corporate funds or stripping assets, disregarding formalities, self-dealing
Debt v. Equity
Creditors hold debt of corporation (only entitled to loan + interest)
Stockholders have equity (entitled to ALL value that remains in corporation after debts have been paid)
Classes of Stock include
preferred stock (take priority to common stock with regards to dividends and liquidation)
voting / non-voting stock
4 concepts of issuing stock
(1) Authorized shares (outlined in articles of incorporation)
(2) Issued shares (actually sold)
(3) Outstanding shares (still in possession of shareholders - typically only ones that vote)
(4) Treasury shares (bought back by corporation)
Par v. Watered stock
Par = minimum amount share may be sold for
Watered = sold below par value
Stock may be issued in exchange for
any valid consideration (as determined by board of directors)
Stock subscriptions prior to incorporation are
irrevocable for 6 months
Preemptive rights are
rights to purchase newly issued stock first to maintain ownership percentage
NOT the default rule but may be negotiated / added to the AoI
Dividends may be authorized by the
Board of Directors
Dividends may not be issued when
(1) company is insolvent
(2) issuing dividend would make company insolvent
If directors authorize unlawful dividend, they become personally, jointly and severally liable UNLESS done in good faith
“Participating” stock collects dividends as part of
the preferred class AND then collects among the common class
Closely Held Corporations limit sales of stock to
prevent outsiders from being involved and allow shareholders to retain control
Limitations in stock sales for closely held corporation must be
(1) Conspicuously noted
(2) Enforceable (lack of knowledge negates enforceability)
(3) Certain type of restriction
Types:
-Outright prohibition
-Request company’s consent
-Company has an option to buy
-Company has right of first refusal
Challenges to closely held corporation limitations on stock sales are on
the basis of restraint of alienation and the test applied is REASONABLENESS (e.g. to maintain the type of corp)
10b-5 federal cause of action for fraud requires
(1) Fraudulent or Deceptive conduct (untrue statement of material fact or failing to make comment to prevent statement already being made from being misleading)
(2) Materiality (important)
(3) Scienter (intentional or reckless)
(4) Harm (actual causal harm)
(5) Damages (out of pocket)
Note: TLDR Plaintiff relied on fraudulent misrepresentation by D done intentionally or recklessly regarding material fact and suffered loss
Short-swing profits prevent
corporate insiders (directors, officers, shareholders who hold more than 10% of ANY class of stock) from both buying and selling stock within 6 month period
ALL changes in ownership must be registered with SEC
NOTE: only applies to big companies (10 mil in assets and more than 500 shareholders)
Shareholders most important duty is to
elect board of directors and vote on fundamental changes to corporation
Meetings in a corporation may be either
(1) Annual (yearly to elect BoD)
(2) Special meeting for voting on any fundamental changes to corp (e.g. merger, dissolution)
Notice of a meeting requires
No fewer than 10 no more than 60 days before the meeting
Must include:
(1) Date
(2) Time
(3) Location
(4) Purpose (if special meeting)
The record date is
used to determine which shareholders are eligible to vote (must hold on record date)
Must be no more than 70 days before the meeting
Shareholders may make decisions without a meeting if
there’s unanimous written consent
Voting by proxy authorizes an individual to
vote shares in accordance with wishes of shareholder and must be
(1) in writing
(2) be signed by the shareholder as of the record date
(3) be sent to secretary of corporation
(4) authorize another to vote for shareholder’s shares
(5) cannot be valid for more than 11 months unless otherwise specified
A quorum is
required for a vote to be effective
a majority of OUTSTANDING shares (not shareholders) must be represented at the start of a meeting
In shareholder voting, a quorum requires
more votes in favor than against (abstentions are ignored)
Cumulative voting gives
shareholders a number of votes equal to the amount of shares owned x number of director positions being voted on
Must be permitted in AoI, used to vote for BoD
Shareholder inspection rights are limited to
a proper purpose related to shareholders financial interest in the company (not to harass corporate officers)
5 days notice, during normal business hours
Direct lawsuits are
lawsuits against a corporation brought by an individual shareholder in their own hame for personal damages (e.g. denied voting rights)
damages to to the individual
Derivative lawsuits are
lawsuits against a corporation on behalf of the corporation
Claim is made in corporation’s name and recovery belongs to the corporation
Derivative lawsuits require
(1) Standing
-contemporaneous stock ownership
-owned stock at the time of harm
-hold stock thru litigation
-fairly and adequately represent the interests of the company
(2) Demand requirement
-first demand BoD take action within 90 days and bring suit (exception: would be futile)
Duties of a controlling shareholder
Duty to minority shareholders when
(1) Sale of stock to an outsider / looter (looter has done this before / reason to know that’s intention of purchaser)
(2) Controlling shareholder transacts with corporation (has own benefit)
A controlling shareholder may be identified either by
50+1 percent or high degree of ownership (look to nature of the company)
The Board of Directors governs
the business and affairs of the corporation
Appoint officers, oversee officers, make high level corporate decisions
typically 1 year, voted every year
Removal and Replacement of BoD may be done
with or without cause
exception: staggered board (elected at offsetting years), may be removed only for cause if specified in AoI, different classes of shareholders may vote for specific directors
If there’s a vacancy on the board or the board is expanded new directors may be chosen by
shareholders at special meeting or by the BoD
Notice for directors must be given for
special meetings but not regular meetings (at least 2 days notice)
note: attendance waives notice unless objected to promptly
Voting requirements for BoD
(1) Quorum (default = majority)
(2) Affirmative vote (majority present at meeting)
(3) OR Unanimous written consent
Dissent (to avoid liability for directors) may be done by
(1) entering dissent into the meeting minutes
(2) filing written dissent before meeting is adjourned
(3) provide written dissent by certified or registered mail to corporation’s secretary immediately following adjournment
Officers are selected by
the BoD and owe duties of care and loyalty
Business Judgement Rule
in the absence of (1) fraud, (2) illegality, or (3) self-dealing, courts will not disturb the good-faith business decisions of directors
Generally must show D did not act in good faith, failure to be informed to the extent necessary, D had material interests and failed to timely deal with matters of material concern
Duty of Care for officers
Act with care that a person in a like position would reasonably believe appropriate under similar circumstances (but special skills are obligated to be used)
Exception: reliance on expertise of other officers, employees, experts and committees of corporation
Duty of loyalty for officers prevents the officers from receiving
an unfair benefit to the detriment of the corporation without effective disclosure and ratification
Disclosed and ratified by either (1) majority of disinterested shareholders, or (2) majority of disinterested directors OR court concluding that transaction was fair
Ratification of self-dealing transactions does not
always win (may only shift burden)
Required / Mandatory Indemnification
corporation always required to pay costs of defense if the director or officer successfully defends the case
Prohibited indemnification
Corporation cannot indemnify a director or officer who is liable for receiving an improper benefit from the corporation or otherwise loses a lawsuit
Permissive indemnification
Corporation may but is not required to indemnify director or officer for costs of suit if the director or officer
(1) Acted in good faith with no intent to harm corporation
(2) Had no reasonable cause to believe the conduct was illegal
Fundamental changes of a corporation require
(1) Board to adopt resolution proposing the change
(2) Notice sent to shareholders of special meeting
(3) Majority vote of shareholders and directors
Merger v. Consolidation
merger = combination of 2 corporations where one survives and assumes assets and liabilities of the other
consolidation = combination of 2 corporations to form new entity (assumes assets and liabilities of both corporations)
Dissolution of a corporation may be
either voluntary or involuntary
involuntary = by disgruntled creditors showing debts aren’t being paid
by shareholders if assets are being wasted, or directors are acting fraudulently
Appraisal rights of a shareholder may be authorized if
a shareholder doesn’t want to participate in an authorized merger, asset sale, share exchange, or amendment of AoI
Procedural requirements for appraisal rights
(1) Shareholder must send written notice to corporation prior to vote of intent to dissent
(2) At the meeting shareholder must abstain or vote “no” (dissent AT the meeting)
(3) Shareholder must make prompt written demand for fair market value after the action has been approved
If there’s a dispute about fair market value as to appraisal rights, a court may
appoint an expert appraiser to issue a binding appraisal of the value
Characteristics of closely held corporations
(1) Shareholders are often also directors and officers
(2) Typically not publicly traded
(3) Relaxation of rigid rules of corporation
Can form voting agreements, default rule prohibiting preemptive rights may be relaxed
An S corporation is really just
a corporation for state tax purposes
Pass thru taxation, limited to number of shareholders it may have
Limited Liability Company (LLC) differs from S corp in that
there’s no limit to number of shareholders or residency/natural person requirement
Characteristics of an LLC
file articles of organization and an operating agreement with the state
owners are called members
presumption that it’s managed by ALL members
Treated like a corporation
Duty of loyalty for directors prevents
(1) Self dealing (unless one of 3 safe-harbor provided apply)
(2) Usurping corporate opportunity (must first prevent opportunity to the corporation)
(3) Competition with corporation
Duty of care for directors
(1) Act as ordinarily prudent person
(2) Duty to investigate and ask questions
Note: CAN rely on reports and outside experts
Order of distribution of assets during winding up
(1) Creditors of corporation
(2) Shareholders of corporation with preference
(3) Other remaining shareholders of stock
Failure to incorporate properly results in
a partnership (absent creation of de facto corporation or corporation by estoppel)
If a parent corporation causes its subsidiary to participate in a business transaction that prefers the parent at the expense of the subsidiary, it
can involve self-dealing and a breach of loyalty
Under the “interest or expectancy” test (for usurping corporate opportunities), the key is whether
the corporation has an existing interest or an expectancy arising from an existing right in the opportunity
(Note: an expectancy can also exist when the corporation is actively seeking a similar opportunity)
Under the broader “line of business” test, the key is whether
the opportunity is within the corporation’s current or prospective line of business
Note: look to how expansive corporation’s business is
During the winding up process of an LLC, members must
notify creditors and distribute assets to satisfy outstanding debts otherwise may face personal liability
In addition to proving either fraud, undercapitalization, or alter ego, to piece corporate veil a party must show
injustice /fraud if veil isn’t pierced
If a shareholder successfully rebuts the business judgement rule, a director may still escape liability if they can show
the transaction was fair to the corporation (arguing substance as opposed to decision process)
Business Judgement Rule is relevant to directors’ duty of
care
A director’s duty of loyalty can be aptly summarized as
putting the corporations interests ahead of their own
The ending of a corporation requires
filing articles of dissolution with Sec of State
There is no mandatory buyout provision in the dissociation from
an LLC (must go to court to compel)
A conflict-of-interest transaction, or “self-dealing,” is any transaction between a director and his corporation that
would normally require approval of the board of directors and that is of such financial significance to the director that it would reasonably be expected to influence the director’s vote on the transaction
Whether a self-dealing transaction is fair to a corporation is assessed by looking at
(1) the substance of the transaction, and
(2) the procedure of the transaction
With respect to the duty of care, directors have a duty to
act with the care that a person in a like position would reasonably believe appropriate under similar circumstances
Note: Must apply any specialized knowledge or training
Generally must rebut BJR first before arguing director violated duty of care
Members of a member-managed LLC have broad authority
to bind the LLC similar to that of partners in a partnership (equal right to management)
Dissolution of an LLC may occur based on
consent of all members, passage of 90 days without members, court order, or happening of a dissolution-causing event per the operating agreement
A dissociating member of an LLC is entitled to receive
distributions authorized by the LLC but cannot force the LLC to prove a buyout of interest (as opposed to mandatory buyout of a partnership)
Shareholder-approved bylaws can amend or repeal existing bylaw provisions, regardless of whether
the bylaw was initially approved by the shareholders or the board of directors
A shareholder-approved bylaw dealing with director nominations may not
limit the board’s power to amend, add, or repeal to ensure an orderly nomination process.
(Directors may NOT repeal SH approved bylaws)
A corporation’s bylaws may be amended by either
the BoD or SH so long as they do not conflict with state law or the Articles of Incorporation
