Shareholders

Question 1

What is the Common Law rule regarding shareholder direct control of a corporation?

Answer 1

At common law, shareholders have no right to directly control the day-to-day management of their corporation. Instead, the right to manage is vested in the board of directors, who usually delegate their day- to-day management duties to officers.

Question 2

What is the MBCA rule/approach to direct shareholder control of a corporation?

Answer 2

MBCA still follows the general rule of no direct control. However, the MBCA also allows shareholders to enter into shareholder management agreements, including an agreement to vest the powers that the board would ordinarily have in one or more shareholders.

• This applies when dealing with a close corporation

Question 3

How do shareholders have indirect control?

Answer 3

Even absent a shareholder agreement vesting direct control of the corporation in shareholders, shareholders have indirect control over their corporation through their power to elect directors, amend the bylaws, and approve fundamental changes to the corporation.

Question 4

What are the requirements for piercing the corporate veil and holding shareholders (who are generally not personally liable) personally liable for what the corporation did?

Answer 4

To pierce the corporate veil and hold shareholders personally liable:

1. The shareholders must have abused the privilege of incorporating; and
2. Fairness must require holding them liable.

Normally, only shareholders who are active in the operation of the business will be personally liable. Liability is joint and several.

Question 5

What are the three main situations where the corporate veil is pierced?

Answer 5

1. Alter Ego (Identity of Interests): If the shareholders ignore corporate formalities such that the corporation may be considered the alter ego or a mere instrumentality of the shareholders or another corporation, and some basic injustice results, a court might pierce the corporate veil.
2. Undercapitalization: The corporate veil may be pierced where the corporation is inadequately capitalized, so that at the time of the corporation’s formation there is not enough unencumbered capital to reasonably cover prospective liabilities.
3. Fraud, Avoidance of Existing Obligations, or Evasion of Statutory Provisions: The corporate veil may be pierced where necessary to prevent fraud or to prevent an individual shareholder from using the entity to avoid his existing personal obligations. But the mere fact that an individual chooses to adopt the corporate form of business to avoid future personal liability is not itself a reason to pierce the corporate veil.

Question 6

Who may pierce the corporate veil generally?

Answer 6

Generally, creditors may be allowed to pierce the corporate veil. Courts almost never pierce the veil at the request of a shareholder.

Question 7

What is a derivative suit?

Answer 7

Shareholder sue to enforce the right of the corporation, and recovery generally goes to the corporation (rather than the shareholder bringing the action)

Question 8

What are the requirement for a derivative suit?

Answer 8

1. Standing: To commence and maintain a derivative proceeding, a shareholder must have been a shareholder at the time the claim arose or must have become a shareholder through transfer by operation of law from someone who did own stock at the time the claim arose.The shareholder must also fairly and adequately represent the corporation’s interest.
2. Demand Requirements: The shareholder must make a written demand on the corporation (usually, that means the board) to take suitable action. A derivative suit may not be commended until 90 days after the date of the demand, unless: (1) the shareholder has earlier been notified that the corporation has rejected the demand; or (2) irreparable injury to the corporation would result by waiting for the 90 days to pass.

The corporation must be joined to the suit as a defendant. Even though the suit asserts the corporation’s claim, since the corporation did not do so, it is joined as a defendant.

Question 9

May a corporation move to dismiss a derivative suit?

Answer 9

Yes, the corporation may move to dismiss a derivative suit. The corporation must show that an independent investigation was conducted that concluded that the suit is not in the corporation’s best interest

Question 10

What are the two main types of shareholders meetings?

Answer 10

1. Annual Meetings: Corporations must hold annual shareholders’ meetings. If the annual meeting is not held within the earlier of six months after the end of the corporation’s fiscal year or 15 months after its last annual meeting, a shareholder can petition the court to order one to be held.
2. Special Meetings: Special meetings may be called by (1) the board of directors, (2) the president, (3) the holders of at least 10 percent of the outstanding shares, or (4) anyone else authorized to do so in the articles or bylaws.

Question 11

What are the main notice requirements for shareholder meetings notices?

Answer 11

1. Shareholders must be notified of meetings not less than 10 OR more than 60 days before the meeting.
2. Notice must be in writing (fax or email is fine) to every shareholder entitled to vote. Notice may be waived in writing or by attendance.

Question 12

What contents must a shareholders meeting notice contain?

Answer 12

The notice must state:

• the date,
• time, and
• place of the meeting.

Special Meetings — The notice must also state the purpose of the meeting.

Question 13

True or False: If proper notice is not given to all shareholders, whatever action was taken at the meeting is voidable (maybe void).

Answer 13

True, unless those who were not sent notice waive the notice defect.

Waiver can occur in two ways:

1. Express waiver, meaning in writing and signed any time (fax or email are fine)
2. Implied waiver, meaning the shareholder(s) attend the meeting without objecting at the outset

Question 14

Which shareholders are eligible to vote?

Answer 14

Unless the articles provide otherwise, each outstanding share is entitled to one vote.

• Record Shareholder and Record Date: Shareholders of record on the record date may vote at the meeting. The record date is fixed by the board of directors but MAY NOT be more than 70 days before the meeting.

2 main exceptions to the general rule that the record owner on the record date is who votes:

1. Treasury Stock: The corporation reacquires stock before the record date, so that the corporation is the owner of this treasury stock as of the record. In this case, the corporation does not vote this stock.
2. Death of Shareholder

Question 15

What is a proxy, and how are proxies involved with shareholder voting?

Answer 15

A shareholder may vote her shares in person or by proxy executed in writing.

A proxy is:

1. A writing (fax and email are fine),
2. Signed by the record shareholder (email is fine if the sender can be identified)
3. Directed to the secretary of the corporation,
4. Authorizing another to vote the shares.

Question 16

Are proxies generally revocable or irrevocable?

Answer 16

Proxy is generally revocable and may be revoked by:

• Writing to corporate secretary OR
• Subsequent appointment of another proxy.

A proxy will be irrevocable only if:

1. The proxy says it’s irrevocable
2. The proxy holder has some interest in the shares other than voting.

Question 17

What are the two main methods that shareholders might use to pool their voting powers?

Answer 17

1. Voting Trust: A voting trust is a written agreement of shareholders under which all of the shares owned by the parties to the agreement are transferred to a trustee, who votes the shares and distributes the dividends in accordance with the provisions of the voting trust agreement.
2. Voting Agreement: Shareholders can enter into voting (or “pooling”) agreements providing for how they’ll vote their shares.

Question 18

What are the requirements for a voting trust?

Answer 18

The requirements are:

1. A written trust agreement, controlling how the shares will be voted
2. A copy of the agreement is given to corporation
3. Legal title to the shares is transferred to the voting trustee
4. The original shareholders receive trust certificates and retain all shareholder rights except for voting.

Question 19

What are the requirements for a voting agreement?

Answer 19

The agreement must be: 1) In Writing AND 2) Signed

Question 20

What are the two main things that shareholders get to vote on?

Answer 20

1. To elect or remove directors AND
2. Fundamental Corporate Changes

Question 21

How is quorum calculated with shareholder meetings?

Answer 21

Determination of a quorum focuses on the number of shares represented, NOT the number of shareholders.

• KEY DIFFERENCE FROM DIRECTOR MTGS — A shareholder quorum will NOT be lost if people leave the meeting.

Question 22

Does the election of a director require a majority or plurality of shareholder votes?

Answer 22

The election of a director only requires a plurality of shareholder votes

Question 23

Are shareholders allowed to restrict the transferability of their stocks?

Answer 23

Yes, but restrictions are valid if they are not an undue restraint on alienation

Enforcing Restriction Against Transferee — A permitted stock transfer restriction is enforceable against the holder of the stock or a transferee of the holder only if:

• The restriction’s existence is noted conspicuously on the certificate (or is contained in the information statement, if the shares are uncertificated)
• The holder or transferee had knowledge of the restriction.

Question 24

What are Shareholders’ Inspection Rights?

Answer 24

Shareholders’ Inspection Rights: A shareholder has the right, personally or by an agent, to inspect (and copy) the books and records of the corporation.

• Standing: Any shareholder can demand access
• Procedure: Under the MBCA, the procedure followed depends on whether it is non-controversial or controversial things

Question 25

What inspection rights does a Shareholder have with Non-Controversial Things?

Answer 25

Shareholders have an unqualified right of access. Any shareholder may inspect the following records regardless of purpose:

1. The corporation’s articles and bylaws
2. Board resolutions regarding classification of shares
3. Minutes of shareholders’ meetings from the past three years
4. Communications sent by the corporation to shareholders over the past three years
5. A list of the names and business addresses of the corporation’s current directors and officers
6. A copy of the corporation’s most recent annual report.

Question 26

What inspection rights does a Shareholder have with Controversial Things?

Answer 26

Shareholders have a qualified right of access for more controversial things and the shareholder must state a proper purpose for the demand.

Controversial Things

1. Excerpts of the minutes of board meetings
2. The corporation’s books, papers, accounting records
3. Shareholder records

Proper Purpose: It’s one that’s reasonably related to the person’s interest as a shareholder.

Question 27

What are Distributions?

Answer 27

Distributions are payments by the corporation to shareholders. Distributions can take the form of:

• Dividends
• Redemptions (a forced sale to the corporation at a price set in the articles) of shares
• Repurchases of shares
• Distribution of assets upon liquidation, and so on

Question 28

Who has a right to distributions?

Answer 28

At least one class of stock must have a right to receive the corporation’s net assets on dissolution.

The shareholders have NO general right to compel a distribution because distributions generally are discretionary decisions solely within the board of directors discretion (subject to solvency limitations and any provisions to the contrary in a shareholders’ agreement or the articles).

Question 29

When is a corporation forbidden from authorizing distributions?

Answer 29

1. The corporation would not be able to pay its debts as they become due in the usual course of business (corporation is insolvent in the bankruptcy sense)
2. The corporation’s total assets would be less than the sum of its total liabilities plus the amount that would be needed, if the corporation were to be dissolved at the time of the distribution, to satisfy the preferential rights on dissolution of shareholders whose preferential rights are superior to those receiving the distribution (the corporation is insolvent in the balance sheet sense)

Question 30

True or False: A director who votes for or assents to a distribution that is forbidden (by the two insolvency limits explained above) is personally liable to the corporaton for the amount of the distribution that exceeds what could have been properly distributed.

Answer 30

True, but the director is not liable for distributions approved in good faith:

• Based on financial statements prepared according to reasonable accounting practices, or on a fair valuation or other method that is reasonable under the circumstances
• By relying on information from officers, employees, legal counsel, accountants, etc., or a committee of the board of which the director is not a member.

Question 31

Can a shareholder be personally liable for improper distributions?

Answer 31

Shareholders are personally liable only if they knew the distribution was improper when they received it.