Corporations and LLCs

Question 1

Basics of Incorporation

Answer 1

• Articles of incorporation are filed with the state.
• If in conflict with bylaws, articles of incorporation control.
• Generally, a corporation is not liable for a contract entered into prior to the incorporation unless the soon-to-be corporation expressly or impliedly adopts (ratifies) the contract.
• Prior to incorporation, the promoter (person entering the K on behalf of the corporation) is liable for the K

Question 2

Basics of Shareholders

Answer 2

• Shareholders are just owners with annual meetings
• Shareholders do not manage the corporation (no day-to-day oversight)
• Entitled to prior written notice of meeting, and meeting’s time, place and purpose 10–60 days in advance
• Can vote by proxy (someone else can vote with their shares)
• Can vote by voting agreement
• Requires quorum (majority of all shares required to vote) to hold a vote
  
  • CANNOT “break quorum” by leaving

Question 3

Basics of Directors

Answer 3

• Manage the corporation
• Act as a body by voting
• Hired and fired by shareholders
• Notice not required for every meeting (only for a “special meeting”)
• Directors CANNOT vote by proxy
• Directors CANNOT vote by voting agreement
• Majority of directors (quorum) needed for a vote to occur
  
  • Can “break quorum” by leaving

Question 4

Whether the director of a corporation or member of an LLC breached their duty of care or duty of loyalty is a question of ________.

Answer 4

whether the director of a corporation (or member of an LLC) has breached their duty of care or loyalty is a question of fact.

Question 5

True/False: Usually when the duty of loyalty is at issue on the MEE, the director or member HAS NOT breached the duty.

Answer 5

False; when a director/member’s duty of loyalty is at issue on the MEE, they HAVE USUALLY BREACHED the duty owed.

Question 6

Business Judgment Rule of duty of care

Answer 6

when making a business decision, there is a presumption that the directors acted:

• on an informed basis
• in good faith; and
• with the honest belief that the action taken was in the company’s best interest

Question 7

Directors must be informed to what extent?

Answer 7

to the extent that the directors reasonably believe is appropriate

Question 8

Directors are entitled to rely on what information in making a business judgment?

Answer 8

• information / opinions / statements / reports from
  
  • corporate officers
  • legal counsel
  • public accountant

Question 9

True/False: the party claiming that the director(s) breached their duty of care has the burden of proof

Answer 9

Yes. BOP is on the party claiming that the director(s) breached.

Question 10

Duties of directors:

Answer 10

• Duty of care (business judgment rule)
• Duty of loyalty (unless LLC’s waiver or defenses apply)

Question 11

Duty of loyalty can be waived

Answer 11

in an LLC, the operating agreement can waive the duty of loyalty (AKA allow members to open competing businesses) if the waiver is not “manifestly unreasonable”

Question 12

Defenses to liability for breach of duty of loyalty

Answer 12

• Approval by disinterested directors (if all relevant info is disclosed)
• Approval by disinterred shareholders
• Transaction is judged fair at the time it was entered into

Question 13

Duty of loyalty

Answer 13

• a director must act in good faith with a reasonable belief that what he does is in the corporation’s best interest.
• if the duty of loyalty is at issue the business judgment rule does not apply!

Question 14

Duty of loyalty issues arise in 3 ways:

Answer 14

(“both sides, director competes, corporate officer takes”)

1. Director is on both sides of a transaction (material financial interest in a contract + knows of that interest + yet still votes to approve the contract)
2. Director competes with the corporation
3. Corporate officer takes corporate opportunity: a corporate officer may not usurp a corporate opportunity.

Question 15

Voting requirements for shareholders

Answer 15

• for a resolution to pass = quorum present + majority of votes in favor of the resolution
• shareholders of record on the record date are entitled to vote
  
  • unless: shareholder’s death (executor votes) or valid proxy (proxy votes)
• every outstanding share gets 1 vote per matter voted on at meeting, unless articles of incorporation say otherwise

Question 16

Voting by proxy

Answer 16

a shareholder can appoint a proxy by signing an appointment form OR making verifiable electronic transmission

• CANNOTorally ask someone to serve as proxy
• proxy is generally revocable (unless claimed irrevocable + gives interest eg. sale of shares) and any action inconsistent with the grant of a proxy works to revoke it.
  
  • when 2 or more revocable proxies are given, the last-given proxy revokes all previous proxies.

Question 17

When can shareholders sue?

Answer 17

Shareholders can sue to address harm:

1. caused by breach of duty owed to shareholder personally (direct suits)
   * EX of direct suits: denial of shareholder’s preemptive rights, payment of dividend owed to shareholder, or oppression of shareholder in close corporation
2. to the corporation/ LLC (derivative suits)

• requirements of derivative suit (can’t commence unless all 3 are met)
  
  • standing to bring a lawsuit
  • adequacy (shareholder represents interests of the corporation)
  • demand filed 90 days before filing suit unless demand futile or irreparable injury is risked by waiting
• recovery goes to the corporation
• the derivative suit can be dismissed with court approval if it is not in the best interest of the corporation to continue with it.

Question 18

When can shareholders be sued?

Answer 18

Generally, corporation is separate entity from its shareholders, even where one individual owns all of the corporate stock.

• In closely held corporations and LLCs, court can “pierce the corporate veil” (hold a shareholder personally liable for corporate debt if that shareholder participated in the wrong), if plaintiff shows that shareholder/LLC member abused the privilege of incorporating and that fairness requires finding liable.

Question 19

Examples of when the court should find shareholders who participated in a wrongdoing personally liable (“pierce the corporate veil”)

Answer 19

Plaintiff shows:

• Undercapitalization of the business,
• Failure to follow formalities,
• Commingling of assets,
• Confusion of business affairs, or
• Deception of creditors.

Question 20

Liability of LLC members

Answer 20

Generally, LLC members are not individually liable for losses unless

1. Court decides to pierce the LLC veil (find LLC members who acted bad personally liable)
2. Proper procedures for dissolution and winding up have not been followed (creditors can enforce claims against each LLC member but member’s liability cannot exceed total value of assets distributed to that member in dissolution)

Question 21

Effect of LLC member leaving/ dissociating from the LLC

Answer 21

When member leaves, LLC dissociates from that only member

LLC remains intact otherwise unless the other members unanimously agree to dissolve the LLC

Question 22

Formation of LLCs

Answer 22

articles of organization must be filed to create LLCs.

• Courts analyze LLCs in the context of corporate or partnership law.

Question 23

Rights and Duties of LLC members

Answer 23

• Members of an LLC have fiduciary duties
• Members of Member-Managed LLCs are treated as agents of the LLC (actual + apparent authority to bind the LLC in ordinary affairs)
  *