Formation, Mergers, and Fundamental Changes

Question 1

what is a corporation

Answer 1

A corporation (“corp”) is a legal entity that is separate from its owners

Question 2

what are the general characteristics of a corporation

Answer 2

• centralized management
• limited liability
• transferability of ownership
• continuity
• personhood

Question 3

what does it mean that a corporation has centralized management

Answer 3

management rights are centralized in a board of directors (“BoD”) who delegate day-to-day management to corporate officers
- Unlike partnerships, management is generally not spread among owners (i.e., shareholders)

Question 4

what does it mean that a corporation has limited liability

Answer 4

only the corporation itself can be liable for its obligations
- Shareholders, board members, and officers are generally not liable for corp’s obligations, although note exceptions

Question 5

what does it mean that there is transferability of ownership in a corporation

Answer 5

shareholders can freely transfer their ownership interests (i.e., shares) unless prohibited by articles or bylaws

Question 6

what does it mean that a corporation has continuity

Answer 6

corps can exist in perpetuity; changes in ownership do not affect the corp’s existence

Question 7

what does it mean that a corporation has personhood

Answer 7

corps are considered “people” for most intents and purposes and are entitled to certain constitutional protections

• E.g., corps are entitled to due process and equal protection

Question 8

how is a corportation formed

Answer 8

A corp is formed when articles of incorporation are filed with the state
- Corp formed in accordance with applicable laws = “de jure” corp

Question 9

what info needs to be included in the articles of incorpotion (AOI)

Answer 9

1) corp name
2) # of shares
3) name/address of incorporators
4) name/address of registered agent
5) statement of purpose (only some states)

Question 10

what is involved with the statement of purpose that some states require be included in the AOI

Answer 10

some states require a statement regarding the corp’s purpose; most corps use boilerplate language allowing it to take any action necessary to carry out its business or affairs
- A corp that includes a narrow purpose cannot take action unrelated to that purpose

Question 11

what are bylaws

Answer 11

written rules for managing the corp, which provide for ordinary business conduct (e.g., election of board members, meeting times, etc.)

Question 12

what are some of the general characteristics of a corp’s bylaws

Answer 12

• Must be adopted by incorporators or BoD
• Shareholders can amend initial bylaws
• Can contain any provision for managing and regulating the corp’s affairs as long as it is legal
• If it conflicts with articles of incorporation — AOI controls

Question 13

what is a promoter and what do they do

Answer 13

acts on behalf of a not-yet-formed corp to get capital commitments (i.e., funding), usually by forming Ks with parties interested in becoming shareholders upon corp formation
- Promoters may also work on corp planning and formation and usually become incorporators

Question 14

what kind of liability is a promoter exposed to

Answer 14

promoter is personally liable for Ks he enters into on behalf of the corp and remains liable after formation

Question 15

what are the exceptions to promoter liability

Answer 15

Promoter is not personally liable where:
- Novation — agreement between parties releasing promoter and substituting the corp (i.e., third party releases promoter), or
- Indemnification — promoter may be indemnified by the corp if he is held liable on the K after formation

Question 16

what is the corp’s liability in pre-formation Ks made by promoters

Answer 16

corp generally has no liability based on pre-incorporation Ks entered into by promoters

Exception — corp will be liable if:
- it expressly adopts the K
- it impliedly adopts it by accepting a benefit of the K

Question 17

during the pre-formation process, what is a subscription agreement

Answer 17

agreement whereby one agrees to buy a specified number of shares from a corp at a given price

Question 18

what are ultra vires acts

Answer 18

where a corp acts outside of its stated purpose (as stated in articles of incorporation) it takes ultra vires acts

Question 19

what are the potential consequences of a corp making ultra vires acts

Answer 19

Three possibilities:
- Shareholder suit — shareholders may sue corp to enjoin the ultra vires act
- Corp suit — corp may sue an officer or director responsible for the ultra vires act for resulting damages
- State action — state may bring action to dissolve the corp

Question 20

what is a de facto corporation

Answer 20

where a corp’s formation fails to adhere to proper formalities but it carries itself on as a corp; it may still be treated as a properly formed corp

Question 21

what are the requirements to be considered a de facto corp

Answer 21

Requirements:
- A corporate law exists under which the entity could have become legally incorporated;
- A good faith effort to comply with the state’s incorporation laws; and
- The business acted like a corp (e.g., conducting business in its corp name)

Question 22

what is a corp by estoppel

Answer 22

persons who treat an entity as a corp are estopped from denying the entity is a corp, particularly in order to avoid liability

Question 23

what does piercing the corporate veil (PCV) mean

Answer 23

Generally shareholders, directors, and officers are not personally liable for corp obligations, but they can be held liable under the doctrine of piercing the corp veil

• Consequence — when the corp veil is pierced, the corp entity is disregarded in order to hold shareholders, officers, directors, etc. liable

Question 24

what are acts that justify PCV

Answer 24

1) ignoring corporate formalities
2) inadequate capitalization
3) fraud or illegality

Question 25

when does a corp ignore corporate formalities such that it can lead lead to the veil being pierced

Answer 25

where a shareholder dominates the corp to the extent that the **corp is not being treated as a separate entity** - I.e., the corp entity is being **used as an alter ego or “mere instrumentality”** of the shareholder(s), resulting in some basic injustice

Question 26

when does inadequate capitalization give rise to piercing corp veil

Answer 26

corp was **undercapitalized** (i.e., underfunded) **at the time of incorporation** - Not established by virtue of insolvency alone, but insolvency that occurs shortly after formation is a prime indicator of inadequate capitalization

Question 27

when does fraud/illegality give rise to piercing the corp veil

Answer 27

corp entity may be disregarded: - if there **is** fraud or other illegality, - to **prevent** fraud or other illegality, or - to prevent a shareholder from using the corp to avoid existing personal liabilities

Question 28

who is liable after the corp veil is pierced

Answer 28

once the corp veil is pierced, all persons composing the corp may be held personally liable, but usually only those involved in active management will be held liable

Question 29

what is a merger

Answer 29

A merger occurs where two or more corps blend into a new corp; often arises where one corp absorbs another

Question 30

what is required for a merger to be approved

Answer 30

mergers are **considered fundamental corp changes** and, as such, generally require each corp to get approval of: - **Board**—need a board vote by whatever vote authorizes board action (e.g., majority, supermajority) - **Shareholders** — majority approval required

Question 31

what is the exception to needing SH approval for a merger

Answer 31

Surviving corp’s shareholders need not approve of a merger **where the surviving corp has no significant changes** (e.g., articles do not differ post-merger, shareholders’ shares and rights do not change, etc.)

Question 32

what is the effect of a merger

Answer 32

surviving corp owns all property and assumes all obligations of prior separate entities

Question 33

what is a short-form merger

Answer 33

where a **parent corp owns at least 90% stock of a subsidiary**, the subsidiary can be merged into the parent corp **without approval of either corp’s shareholders**

Question 34

what are the rights of SHs who dissent to a merger

Answer 34

Dissenting shareholders can **challenge the merger** or **demand payment** for their shares at a fair market value **Mutual notice required** — before a vote is taken on the merger, corp must give shareholders notice and shareholders must give notice of their intent to demand payment - If approved, corp must pay dissenters fair market value for their shares

Question 35

what is dissolution and what are the different types

Answer 35

termination of the corp’s existence **Effect** — corp continues to exist while it winds up and liquidates its affairs, but no other business may be carried out **Types of Dissolution**: - Voluntary - Administrative - Judicial

Question 36

what happens when there is a voluntary dissolution of a corporation

Answer 36

considered a fundamental change and requires both board and shareholder approval

Question 37

what is an administrative dissolution of a corp

Answer 37

**action brought by state** to dissolve corp - Usually occurs **due to failure to adhere to statutory requirements** or formalities, but can be remedied by corp

Question 38

what is a judicial dissolution of a corp

Answer 38

action by either attorney general or shareholders to terminate the corporation

Question 39

when would the attorney general bring an action to for judicial dissolution of a corp

Answer 39

**Attorney general** — can act to dissolve a corp - usually on the ground that it ***abused its authority, committed fraud, etc***.

Question 40

when would the shareholders bring an action to for judicial dissolution of a corp

Answer 40

**Shareholders** — can seek judicial dissolution where: - ***Deadlock*** among BoD or shareholders threatens irreparable injury to corp, - Corp has ***abandoned its business*** and failed to dissolve, or - Corp’s ***assets are wasted/misused*** for non-corp purpose

Question 41

what happens to a corp's property when they disolve (dissolute?)

Answer 41

**Disposition of property** — where corp sells, leases, or otherwise disposes of all or substantially all property outside the regular course of business - Deemed a **fundamental change** requiring shareholder/board approval - “**Substantially all**” = sale or disposition leaves corp without significant continuing business activities - “**Outside regular course of business**” = disposition is not considered a normal business activity for the corp

Question 42

what are the different types of fundamental corporate changes

Answer 42

1) amending the AOI 2) merger or consolidation 3) transferring substantially all assets 4) converting to another business form 5) dissolving

Question 43

what is required to do any fundamental corporate change

Answer 43

1) board action adopting a resolution of the fundamental change 2) board submits the proposal to SHs 3) shareholder approval (majority of shares entitled to vote)

Question 44

what is the dissenting SH right of appraisal and who can exercise it

Answer 44

SHs who did not vote in favor of a fundamental corporate change may have the right to force the corp to buy their stock for fair value - note only applies to fundamental changes - only applies to **close corporations**

Question 45

what is required for a corporation to amend it's AOI

Answer 45

fundamental change; requires: - majority of shares entitled to vote to vote in favor

Question 46

what is required for corporation to do a merger or consolidation

Answer 46

1) BoD action (by both corporations) - i.e., need a quorum (majority of all directors, unless bylaws says otherwise) and a majority vote of those present 2) notice to SHs 3) SH approval (majority of shares entitled to vote)

Question 47

what is required for a corporation to transfer all or substantially all of their assets

Answer 47

1) BoD action (by both corporations) - i.e., need a quorum (majority of all directors, unless bylaws says otherwise) and a majority vote of those present 2) notice to SHs 3) SH approval (majority of shares entitled to vote)