Corporations Flashcards
How are pre-incorporation transactions treated?
Generally: Sometimes persons will act on behalf of a corporation before the corporation is formed. The question is . . . who is liable?
PROMOTERS - liable for pre-incorporation transactions.
CORPORATION - NOT LIABLE for pre-incorporation transactions UNTIL the corporation ADOPTS THE CONTRACT.
How is a pre-incorporation contract adopted? If it does, what happens to the promoter? What is a novation?
1) Passing a board resolution to adopt the contract; OR
2) Accepting the benefits under the contract.
THE PROMOTER REMAINS JOINTLY AND SEVERALLY LIABLE on the contract along with the corporation UNTIL A NOVATION IS EXECUTED.
A novation is an agreement executed by the corporation, the promoter, and the third party agreeing to release the promoter as a party to the contract.
How is a corporation formed?
The filing of a Certificate of Formation with the Secretary of State brings the corporation into existence. The CoF is prepared by an “organizer” (can be anyone over 18 years old).
The CoF is a contract between the corporation, its shareholders, and the State of Texas.
What are the formalities of a CoF?
The CoF must have basic information (contract provisions) and they are the following:
1) NAME - the corporation’s name must have any of the following after it: “Corporation;” “Incorporated;” “Company;” or “Limited” OR ANY ABBREVIATION OF THESE WORDS (corp., inc., co., ltd.); AND
2) PURPOSE - CoF MUST state a purpose. This can be a broad statement (ex: “the purpose for which this corporation is formed is for the transaction of any and all lawful business for which a for-profit corporation may be organized under the Texas Business Organizations Code.”);
3) AUTHORIZED SHARES - MUST be set forth (number of shares corp. is authorized to issue). Par value is the minimum price for which shares can be issued. If there is no par value, the CoF must state so.
4) IF MORE THAN ONE CLASS OF STOCK - CoF must state so. Each class is “series” designated (Series A / Series B). Further, the number of shares in each class and the par value should be stated if there is one. Lastly, must have the rights, preferences, and privileges for each class of stock.
5) DURATION - By DEFAULT, the corporation’s existence is PERPETUAL. If a specific period of time is desired, the CoF must have it stated.
6) NAME AND ADDRESS OF CORPORATE AGENT - Must be included in the CoF (for service of process purposes).
7) ORGANIZER’S NAME AND ADDRESS - So SoS can contact if CoF has a defect.
8) DIRECTORS - The number must be set out along with their names and addresses.
9) OTHER PROVISIONS - allowed if wanting better customization of corporate governance structure.
What is NOT allowed in a corporation’s name?
May NOT have a name or phrase that indicates corporation is engaged in a business that corporation is NOT authorized to engage in.
“Lotto” or “Lottery” is PROHIBITED.
CANNOT imply that corporation is created to benefit war veterans UNLESS APPROVED TO DO SO.
CANNOT BE DECEPTIVELY SIMILAR TO OTHER CORPORATIONS DOING BUSINESS IN TEXAS.
How long can corporation names be reserved?
Corporate names can be reserved for 120 DAYS or until the application is withdrawn.
What specific combination of business activities can a corporation never be incorporated for?
(1) The business of raising cattle; (2) operating stock yards; AND (3) slaughtering, canning, or packing meat.
When does a corporation come into existence?
When the Secretary of State APPROVES THE CoF. The approved CoF is then issued to the corporation. The corporation comes into existence at this point.
What goes on at the Board Organizational Meeting?
The initial board is required to call an organizational meeting for initial corporate housekeeping matters:
1) Adopting Bylaws;
2) Elect Officers; AND
3) Transact the company business.
What are ultra vires actions? What are the consequences.
“Beyond the Scope”
Corporations can state an express purpose for which the corporation is formed. If the corporation engages in activities beyond this scope, they are deemed to be ULTRA VIRES acts.
Generally cannot be invalidated, but these acts can be challenged in the following situation: A pending contract that has not commenced or been executed yet–a shareholder can file suit to enjoin the corporation from executing the ultra vires action.
Court will grant the injunction ONLY if all parties are present and granting the injunction would be equitable. The court will grant damages caused by the injunction, BUT NOT for loss of anticipated profits.
Issues relating to deficiencies in the formation process.
EXAM TIP: Not clear whether Texas follows these doctrines. If discussing them, start with “assuming the doctrine has not been abolished,” and discuss the descriptions below:
1) De Jure Corporation - CoF accepted by the SoS creates a De Jure Corporation. At this point, the corporation (instead of the promoter) can incur liability.
2) De Facto Corporation - A corporation for whatever reason fails to complete the statutory protocols to receive the legal designation of a corporation. But, the agents for the unformed entity incur liability on what they think is the corporation’s behalf. Who is liable? Make the De Facto Corporation” argument. MUST PROVE THE FOLLOWING:
a) There is statutory law for the formation of the corporation;
b) There was a good faith attempt to comply with that law; and
c) The owners and directors were operating under the corporate name.
3) Corporation by estoppel - When third party has dealt with corporation believing it to be a corporation, the third party is estopped form later claiming that the corporation did not exist *usually limited to contract cases, not tort cases).
If the Certificate of Formation is inconsistent with the company by laws, what prevails?
The CoF prevails.
Who are the shareholders?
The presumptive owners of a corporation. They exercise their ownership rights through voting. In addition to voting rights on certain matters, there are also certain types of rights that come with share ownership.
Where are shareholder votes exercised?
Annual and Special meetings.
ANNUAL MEETING - Required by law to be held EACH YEAR. Time and place shall be specified in the by laws. General purposes are to (1) elect directors, (2) approve proposed amendments to the CoF, (3) vote on shareholder proposals, and (4) consider any other business subject to shareholder consideration.
SPECIAL MEETING - Called when something significant has transpired between annual meetings and shareholder consideration is required. These are held to approve: (1) mergers or consolidation, (2) sale of all or substantially all of the corporations assets, and (3) a dissolution or termination of the business.
What notice is due for shareholder meetings (timing, contents, method)?
Proper notice MUST be given for BOTH the annual and special meetings. The notice must include the matters to be addressed and must b e sent to EACH shareholder, REGARDLESS OF WHETHER THEY CAN VOTE.
TIMING - Must be given at least 10 DAYS PRIOR to the meeting but NO EARLIER THAN 60 DAYS PRIOR to the meeting. IF FOR A MERGER OR OTHER FUNDAMENTAL TRANSACTION, MUST GIVE AT LEAST 21 DAYS NOTICE.
CONTENTS - Place, day, and time of meeting. If for a special meeting, must include the purpose. If remote communication, must include instructions for access. If merger, conversion, or interest exchange plan is the subject, must include a copy or summary of the plans.
METHOD - First-class mail, personal notice, OR electronic transmission (if shareholder consents to such service).
Which shareholders are eligible to vote?
Shareholders of record AS OF THE RECORD DATE are eligible to vote at an annual or special meeting. This is to prevent confusion when shares are sold or traded throughout the year.
The record date may not be more than 60 DAYS prior to an annual or special meeting.
11 DAYS PRIOR to the meeting, an officer must make an alphabetical listing of eligible voters; this list must be kept on file at the registered office. This is prima facie evidence of entitled voters.
How many shareholders are needed to pass a corporate action?
GENERALLY - Actions needing sharehold approval are done when a QUORUM is present (whether by person or proxy) and the action is approved by a MAJORITY (more than half) of those shareholders PRESENT at the meeting.
QUORUM - A majority of the shares entitled to vote constitutes a quorum (more than half of the entitled shares).
Can “quorum” requirements be adjusted up or down?
Yes. If quorum requirements are adjusted down, they CANNOT BE LOWER THAN 1/3 of the eligible voters.
Where are quorum requirements located?
Either in the CoF or the by laws.
Can voting requirements be made higher than a majority?
Yes. In fact, some matters are required by law to have greater voting requirements. Also, a corporation may require higher voting requirements for specific matters.
If the corporation elects to do so for specific matters, they must be specified either in the CoF or the by laws.
What is cumulative voting and how does it work?
A voting method that allows shareholders to accumulate all the votes they are entitled to cast and allocate them in a manner they see fit.
Example - A owns 30 shares. B owns 70 shares. They are voting on three director positions. Thus, A has 90 votes (30 X 3) and B has 210 (70 X 3). A can blow all 90 votes on one director. Without cumulative voting, B would simply outvote A every time 70 to 30 on each director spot.
When is cumulative voting available to a corporation?
For Corporations FORMED AFTER SEPTEMBER 1, 2003, cumulative voting is an OPT-IN provision. Corp. must make a specific election in its CoF to provide for cumulative voting.
For Corporations FORMED BEFORE September 1, 2003, cumulative voting is an OPT-OUT election; the corporation is entitled to cumulative voting UNLESS the corporation makes a specific election not to have cumulative voting in its CoF.
What may have a negative effect on cumulative voting?
STAGGERED TERMS - hinders the effective use of cumulative voting because it will then require more votes to elect each director.
REMOVING DIRECTORS - If using cumulative voting, a corporation may not remove a director if the votes cast against the director’s removal would be sufficient to elect the director in a general election when cumulative voting was utilized.
What is a proxy?
A process used to facilitate voting where shareholders voting in person would not be feasible or practical. Allows a shareholder to authorize someone else to vote on shareholder’s behalf.
Can a proxy be revoked?
Shareholders can revoke a proxy, UNLESS the proxy states that it is irrevocable AND is coupled with an interest.
Example - Creditor extends corporation credit and one of the credit terms is a requirement that the lender be apportioned a proxy right for a set number of shares. In this instance the proxy would be irrevocable because creditor gave consideration for the proxy rights.
What are Pooled Shareholder Voting Arrangements? What are voting trusts?
At times, SHs or a faction of SHs will want to vote as a group to maximize their collective voting power. This can be accomplished through voting pools or voting trusts.
VOTING POOL - A contractual agreement between a group of SHs regarding how they will collectively vote their shares. These decisions are based on the desired vote of the majority of the voting pool participants. Voting pool agreements are SPECIFICALLY ENFORCEABLE. THE POOLING AGREEMENT MUST BE DEPOSITED WITH THE CORPORATION AT ITS PRINCIPAL OFFICER OR REGISTERED OFFICE.
VOTING TRUSTS - A separate legal entity to which the SH’s stock is transferred. The trust, through its trustee, votes in a collective block. The trustee votes in accordance with the terms set forth in the trust. TRUST AGREEMENTS MUST BE FILED WITH THE CORPORATION AS WELL.
Do SHs have a right to inspect?
Yes
Commensurate with share ownership is the right to inspect the corporation’s BOOKS AND RECORDS AS LONG AS THE REASON FOR INSPECTION IS PROPER.
To qualify for inspection rights, the SH MUST have been a SH for ATLEAST 6 MONTHS, OR OWN AT LEAST 5% of the outstanding shares.
Do SHs have a right to sue?
Yes, share ownership also gives the SH the right to sue in his capacity as a SH. There are two types of suits that a SH may bring:
1) DIRECT SUIT - Used to address a situation in which the SH is being deprived a legal right commensurate with share ownership. The key is direct suits are suits in which the SH is addressing harm suffered by the shareholder.
2) DERIVATIVE SUIT - Brought by a SH but derived from some type of harm being exacted upon the corporation. The most common types of derivative suits are ones being brought against corporate directors for fiduciary duty breaches.
What damages are available in a derivative suit?
Damages from a successful derivative suit will go to the corporation (since the corporation is the one being harmed).
What are the procedural requirements of a derivative suit?
The key with derivative suits is to ensure that the statutory protocols have been met for bringing the suit in the first place.
STANDING - SH must have been a SH at the time the alleged conduct occurred.
BOARD DEMAND - SH must make a WRITTEN DEMAND on the corporation prior to filing a derivative suit to give the corp. the opportunity to address the situation first. SH must give company 90 DAYS TO DECIDE what action, if any, it will take. SH may file suit SOONER BUT must plead in complaint why waiting the 90 days would cause IRREPARABLE HARM.
IF DEMAND IS REJECTED - If suit is still filed, the complaint must contain a statement demonstrating that the board’s rejection of the suit was NOT PROPER due to the decision not being made by the requisite number of disinterested directors.
IF BOARD DISMISSES SUIT - BOARD MUST FOLLOW PROPER PROTOCOL. Must be made by a majority vote of disinterested directors at a meeting comprising a quorum of disinterested directors.
Must a court grant a corporation’s dismissal of a derivative suit?
A court shall dismiss a derivative suit on motion of the corporation IF the corp. determines in good faith, after reasonable inquiry and based on factors the person or group considers appropriate under the circumstances, that continuation of the derivative proceeding is NOT in the corporation’s BEST INTERESTS.
What is the general rule regarding SH liability?
SHs are generally NOT PERSONALLY LIABLE for obligations the corporation incurs. BUT THERE ARE EXCEPTIONS.
What is “piercing the corporate veil?”
Common law doctrine that allows third party tort victims or third party contract claimants to pierce the corporation’s protective veil and hold offending SHs personally liable for contract or tort claims that the corporation incurs.
How does one pierce the corporate veil?
DECIDED ON A CASE-BY-CASE SUBJECTIVE ANALYSIS. The following factors (not elements) are considered:
1) Under Capitalization - When forming the corporation, did the SHs infuse enough capital into the corp. to cover reasonably foreseeable obligations? (there is a $1,000 minimum required by law but that is only the minimum).
2) Disregard of Corporate Formalities - Failure to issue stock, hold board meetings, and keep separate books and records. The idea here is if you want to be treated like a corporation, you have to ACT like a corporation.
3) Commingling of Corporate Assets with Personal Assets - A corporation is supposed to be a separate “person” or separate legal entity. Personal and corporate assets should NOT be commingled.
4) Self-Dealing with the Corporation - Transactions with corporation should be “arms-length” transactions.
5) Fund Siphoning - SHs draw money out of the corporation that should go to paying pre-existing obligations.
6) Use of Corporate Form to Avoid Legal Obligations - ex: former employee in a non-compete agreement can’t create a corporation to hide behind and compete with former employer.
7) SHs in Impermissible Control or Domination Over the Corporation - SHs with equal ownership but one SH controls, runs, and dominates the operation sometimes to the other’s detriment.
8) Wrongful, Misleading, or Fraudulent Dealings with a Corporate Creditor - In other words, the presenceof some untoward behavior that strikes as fundamentally unfair or not right.
EXAM TIP 1 - PCV questions are never clear cut, you will need to apply the factors to the facts.
EXAM TIP 2 - Always ask what type of plaintiff you are dealing with. An argument for piercing in the instance of tort claimants should be stronger since their involvement with the corporation was not voluntary.
If the corporate veil is pierced, which SHs are liable?
Generally, those shareholders that ACTUALLY PARTICIPATED in the conduct that incurred the obligation are liable. Passive investors who acted in GOOD FAITH will not be vulnerable to a veil piercing case.
LIABILITY IS JOINT AND SEVERABLE for those SHs who actively participated in the offending conduct.
What does the Board of Directors do?
Generally, the board oversees HIGH LEVEL corporate activities; sets policy; hires and fires the corporation’s CEO; sets compensation levels for executive officers; etc.
What is the number and makeup of a board of directors?
Can have as few as one director; the actual number must be specified either in the by laws or the CoF.
T/F - Directors are required to be SHs or Texas Residents.
False. Neither.
