Corporations Just Big Tests

Question 1

Derivative Lawsuit test

Answer 1

Need

1. STANDING
2. DEMAND (unless DE, “universal non-demand”)
3. Underlying claim of corporation
4. Director or officer failed to sue on corporate claim

Assert claim on behalf of corporation with recovery going to corporation

Question 2

§ 10(b)/Rule 10b-5 Elements (Insider Trading)

Answer 2

§ 10(b)/Rule 10b-5 Elements

1. Material misstatement or omission
   a. Misappropriation Theory
   b. Equal access rule
2. In connection with the purchase or sale of a security (“standing”)
3. Made with intent to deceive (“scienter”) (recklessness enough)
4. Upon which there is reliance ← “fraud on the market” doctrine.
5. Causing
6. Injury (e.g., damages)

Question 3

10b-5 Elements: Material Misstatement

Answer 3

Material: “substantial likelihood reasonable investor would consider it important”

If it’s a misstatement, quick analysis you got a fraud claim

If it’s an omission, need a bigger analysis for fraud or insider trading –> go to Misappropriation Theory or Equal Access Rule

Question 4

Derivative Lawsuit: Standing element

Answer 4

1. Shareholder was shareholder of the corporation at the time of the act or omission
2. Will be a shareholder for duration of action
3. Will “fairly and adequately” represent the interests of the shareholders
4. Took specific action to gain satisfaction from the board or if not, why they did not take this action

Question 5

Derivative Lawsuit: Demand element

Answer 5

Demand is met if:

1. There is actual demand OR
2. Shareholders can argue that demand would be futile.

Question 6

Derivative Lawsuit: if arguing futility of demand

Answer 6

Court must determine whether

1. the complaint casts doubt on the presumption that the directors acted
   (i) independently and
   (ii) free from conflicts (majority of the board was interested or lacked independence or breach of duty to exercise due care)

IF NOT:

2. Whether complaint pleads sufficient facts to overcome BJR

Question 7

10b-5 Elements: Standing

Answer 7

Simple rule: need to be actual purchaser or seller of securities at time of omission or misrepresentation.

OWNING STOCK NOT ENOUGH! (Blue Chip Stamps v. Manor Drug (US 1975))

Question 8

Tipper/Tippee Liability

Answer 8

Original Tipper:

1. Was there a violation of Fiduciary duty?
2. Did he receive a personal benefit? (Financial benefit is the best bet)

Tippee:
3. Knows or should have known of breach? (missapropriation)

Question 9

10b-5 Elements: Scienter

Answer 9

“Mental state embracing intent to deceive, manipulate, defraud” (Ernst & Ernst v. Hochfelder (US 1976))
Most courts treat “recklessness” as enough to constitute scienter for purposes of § 10(b)/Rule 10b-5

Typically, strong inference arises upon showing of possession of information

Question 10

10b-5 Elements: Reliance “fraud on the market”

Answer 10

Misleading statements distort stock price, even if purchasers don’t directly rely on misstatements. This meets this prong.

BUT: Any showing that severs link between misrepresentation and price paid is sufficient to rebut presumption (e.g., privy to information, bought/sold for other reasons)

Question 11

10b-5 Elements: Causation

Answer 11

Seems to require that plaintiffs demonstrate price movements caused by fraud, as opposed to other factors
Note: Very high burden on the plaintiff

Question 12

10b-5 Elements: Injury

Answer 12

Remedy:

Compensation?
Deterrence?

Question 13

BJR

Answer 13

Prohibits courts from interfering in business decisions made by the directors in

1. Not gross negligence
2. in the absence of a conflict of interest.

Question 14

Duty of Care

Answer 14

Directors and officers must:

1. Act in good faith and
2. In a manner a director may reasonably believe to be in the best interest of the corporation

Actions hurt corporation? Duty of care time

Question 15

Duty of Loyalty

Answer 15

1. No self-dealing (even if no injury to corp)

2. Must act without personal economic conflict. (ie. family member has interest in transaction)

Question 16

Safe harbor

Answer 16

Interested director can shield themselves from self-dealing by showing

1. Disclosed material information, and then:
2. fairness, or
3. Approval of disinterested directors or shareholders

Question 17

Material

Answer 17

Substantial likelihood that a reasonable investor would consider it important in making a business decision.

Question 18

Direct Shareholder Suit

Answer 18

Plaintiff’s claimed direct injury must be independent of any alleged injury to the corporation

Breach of fiduciary duty owed to a particular shareholder by an officer or director is a proper subject for shareholder’s direct action against that officer.

Question 19

Failure to Monitor

Answer 19

Shareholders must show:

1. Directors should have known about the activity
2. Directors took no steps to address the activity
3. Failure to address the activity caused losses to the company

Directors knew they were not discharging fiduciary duties

Question 20

Adopting a fundamental corporate change

Answer 20

1. Majority of the board of directors adopts a resolution reccommending change
2. Notice of the change is sent to all shareholders for voting (not less than 10 or more than 60 days before meeting)
3. Change approved by shareholders
4. Formalized in the articles

Question 21

Section 16(b)

Answer 21

enforced by issuer itself or someone suing on behalf of issuer (derivative suit)

Surrender to the corporation of any profit:

1. realized by any director, officer, or a shareholder owning more than 10% of a class of the corporations stock
2. from the purchase and sale, or sale and purchase of any equity security
3. within a six-month period is required.

No proof of insider information is required.

Question 22

Misappropriation Theory (10b - materiality)

Answer 22

Fraud committed “in connection with” securities transaction when one:

1. misappropriates confidential information for trading securities,
2. in breach of duty owed to source of information

Breach of “trust and duty” (not really expanded elsewhere)

Question 23

Equal Access Theory (10b - materiality)

Answer 23

Anyone in possession of material non-public information is liable if they did not

1. disclose the information or
2. abstain from trading the securities while the information remains disclosed.

Question 24

16(a)

Answer 24

Directors, officers, shareholders with 10% shares:

1. Must disclose when they achieve insider status
2. Any subsequent trades
3. By the end of the second business day following the transaction

Question 25

disinterested director

Answer 25

A director who does not have an economic or personal interest in a particular transaction or arrangement requiring board approval.

Question 26

Things to throw at this exam!:

Answer 26

Attacks:

1. Derivative lawsuits (Shareholders want to sue but company won’t)
2. Direct lawsuits (Shareholder(s) directly damaged by fiduciary breach of director)
3. Creditors maybe

using:

1. Duty of Care (good faith, best interest of company)
2. Duty of Loyalty (self dealing, had conflicts of interest)
3. 10b-5 (Insider trading)
4. Failure to Monitor (Directors didn’t keep track of issues in company)
5. 16(a) (Directors, officers, or shareholders (10%+) not disclosing insider status or subsequent trades)
6. 16(b) (Profit by selling and purchasing (or vice versa) within 6 months and not disgorging)
7. Tipper/Tippee Liability (Passing on info)
8. SLC valid?

Defenses:

1. BJR (no gross negligence, no conflicts of interest)
2. § 102(b)(7) (good faith, if applicable in facts)
3. Safe harbor (disclosed, had disinterested approval)

Question 27

Indemnity

Answer 27

Delaware’s statute provides that a corporation may indemnify any director or officer if he or she:

1. acted in good faith
2. acted in a manner reasonably believed to be in or not opposed to the best interests of the corporation, and,
3. had no reasonable cause to believe that his or her conduct was unlawful, in the case of a criminal action or proceeding.

Question 28

§ 102(b)(7)

Answer 28

Can basically eliminate liability for directors provided that such provision shall not eliminate or limit the liability of a director:

1. For any breach of the director’s duty of loyalty to the corporation or its stockholders
2. For acts or omissions not in good faith or which involve intentional misconduct or a knowing violation of the law

“lack of good faith standard”, very hard to meet

Question 29

Wealth effects of mergers

Answer 29

TARGET SHAREHOLDERS: 15-20% returns

ACQUIROR SHAREHOLDERS: -2% to 2% returns

Question 30

Key components (elements I guess) to Williams Act (Buyer’s Duties: Tender offers)

Answer 30

When a tender offer is made to shareholders of public companies:

1. Public disclosure if acquire more than 5% of voting stock, typically within 10 days of acquiring shares (Offeror must disclose identity, financing, future plans)
2. Target board must comment on bid
3. Corporation must make similar disclosures if tendering for own shares
4. No insider trading
5. Offers must be left open for at least 20 business days
6. Tender offer must be open to all shareholders at the same price

You can set conditions! But can’t change among shareholders

Question 31

Looting Rule (Harris v Carter)

Answer 31

If circumstances surrounding a sale of control would alert a reasonably prudent person to a risk that the buyer is dishonest, the seller has a duty to make a reasonable inquiry to ensure that the buyer does not intend to defraud the other shareholders.

Breach of Duty of Care

Question 32

Waste

Answer 32

Exchange of corporate assets for consideration so disproportionately small as to lie beyond the range at which any reasonable person might be willing to trade

Question 33

Executive Compensation (for Public Policy q)

Answer 33

Median pay of S&P 500 firm CEO approximately $12M (2018)

Estimates suggest 300-400 times median employee compensation in their firms

Question 34

Corporate Opportunity Doctrine

Answer 34

Fiduciary takes an opportunity and unilaterally preempts corporation (opportunity brought to them and they didn’t tell corp)

1. Is the opportunity “corporate”?
   - -Taken within corporation duties
2. If so, can the fiduciary still take it?
   a. Corporation financially unable to do so
   b. Board pursued already in good faith

Unlike self-dealing, no transaction with the corporation

Question 35

3 Categories of defendants

Answer 35

Directors
Officers
and controlling shareholders

Question 36

Approving a merger

Answer 36

Need majority consent of shareholders to approve

Question 37

Special Litigation Committee Rules

Answer 37

SLC moves to dismiss (or settle) litigation underway (after demand and first timeframe)

1. Inquire into the independence and good faith of the committee; if met, then court may “in its discretion”
2. Apply its own independent business judgment to see if the motion should be granted

Question 38

Creditor liability: fraudulent conveyance law

Answer 38

Actual fraud: “present or future creditors” can void transfers made with

1. “actual intent to
2. hinder, delay, defraud any creditor of the debtor”

Constructive fraud: “creditors” can void transfers made “without receiving a reasonably equivalent value” if the debtor is left with “remaining assets.

Question 39

Piercing the Veil Test

Answer 39

1. Unity of interests and ownership
   (i) if the corporation fails to observe corporate formalities;
   (ii) if the business fails to keep its assets separate from those of shareholders and each other; and
   (iii) if the business is undercapitalized.
2. Injustice or fraud

Question 40

Board changes in middle of derivative suit (Rales)

Answer 40

1st prong analyzed at time complaint is filed

2nd prong determined not to be applicable

Question 41

Market Rule

Answer 41

Allowed to sell controlling shares at a premium without any kickback to minority shareholders (“not yours to sell”)

Question 42

When to bring: Direct Claims/Derivative

Answer 42

Direct:
Dilution of shareholder voting power,
suits to undo merger transactions ( Flying Tiger Line, Inc., 2d Cir. 1971), 
voting rights, 
dividends, 
anti-takeover measures, 
inspection rights, 
protection of minority shareholders, 
proxy fights (probably, today).

Derivative Claims
When to bring: (i) Violation of fiduciary duties (duty of care, duty of loyalty, etc.) including (a) nonfeasance, (b) self-dealing, (c) excessive compensation, (d) usurpation of corporate opportunity; or (ii) waste.