Chap 18

Question 1

Corporations Nature and classification

Answer 1

A corporation is a legal entity distinct from its owners. Formal statutory requirements, which vary somewhat from state to state, must be followed in forming a corporation. Under U.S. law, a corporation is recognized as an artificial legal person and enjoys the same rights that U. S. citizens enjoy.

Question 2

Corporate personnel

Answer 2

Shareholders, whose liability is limited to the amount of their investments, own the corporation. They elect a board of directors to govern the corporation. The board of directors hires corporate officers and other employees to run the firm’s daily business.

Question 3

Corporate taxation

Answer 3

The corporation pays income tax on net profits, and shareholders pay income tax on the disbursed dividends that they receive from the corporation (double-taxation feature).

Question 4

Corporation Torts and criminal acts

Answer 4

The corporation is liable for the torts committed by its agents or officers within the course and scope of their employment (under the doctrine of respondeat superior). A corporation can be held liable (and be fined) for the criminal acts of its agents and employees.

Question 5

Corporation Domestic, foreign, and alien corporations

Answer 5

A corporation is referred to as a domestic corporation within its home state (the state in which it incorporates), as a foreign corporation by any state that is not its home state, and as an alien corporation if it originates in another country but does business in the United States.

Question 6

Public and private corporations

Answer 6

A public corporation is formed by a government (for example, a city or town). A private corporation is formed wholly or in part for private benefit. Most corporations are private corporations.

Question 7

Nonprofit corporations

Answer 7

Corporations formed without a profit-making purpose.

Question 8

Close corporations

Answer 8

Corporations owned by a relatively small number of individuals, often members of the same family. Transfer of shares usually is restricted.

Question 9

S corporations

Answer 9

Small domestic corporations that receive special tax treatment under Subchapter S of the Internal Revenue Code. Shareholders enjoy limited liability while avoiding double taxation.

Question 10

Professional corporations

Answer 10

Corporations formed by professionals (such as physicians and lawyers). For liability purposes, some courts disregard the corporate form and treat the shareholders as partners.

Question 11

Benefit corporations

Answer 11

Corporations formed to benefit the public as a whole and have a material positive impact on society and the environment.

Question 12

Promotional activities

Answer 12

A person who enters contracts on behalf of the future corporation is personally liable on all preincorporation contracts until the corporation is formed and assumes the contracts by novation.

Question 13

Incorporation procedures

Answer 13

Procedures vary among the states, but the basic steps are as follows:
a. Select a state of incorporation
b. Secure an appropriate corporate name.
c. Prepare the articles of incorporation. The articles must include the corporate name, the number of shares of stock the corporation is authorized to issue, the names and addresses of the registered office and agent, and the name and address of each incorporator.
d. File the articles with the secretary of state. The state’s filing of the articles authorizes the corporation to conduct business.

Question 14

First organizational meeting

Answer 14

The main function of the meeting is to adopt the bylaws, or internal rules of the corporation, but other business, such as election of the board of directors, may also take place.

Question 15

Improper incorporation

Answer 15

A corporation that has complied with the conditions for incorporation has de jure status. A minor defect in formation generally does not affect this status. If a defect is substantial, courts in some states may hold that the corporation has de facto status and treat it as a corporation despite the defect.

Question 16

Corporation by estoppel

Answer 16

If a firm is not incorporated but represents itself to be a corporation and is sued as such by a third party, it may be held to be a corporation by estoppel.

Question 17

Corporate financing

Answer 17

Corporations normally are financed by the issuance and sale of securities. Bonds are debt securities representing funds borrowed by the firm, and stocks are equity securities representing ownership in the firm.

Question 18

Corporate powers Express and implied powers

Answer 18

The express powers of a corporation are found in its articles of incorporation, in the law of the state of incorporation, and in the state and federal constitutions. Barring express constitutional, statutory, or other prohibitions, the corporation has the implied power to perform all acts reasonably appropriate and necessary to accomplish its corporate purposes.

Question 19

Corporate powers Ultra vires doctrine

Answer 19

Any act of a corporation that is beyond its express or implied powers is an ultra vires act and may lead to a lawsuit by the shareholders or the state attorney general.

Question 20

Corporate powers Piercing the corporate veil

Answer 20

To avoid injustice, courts may “pierce the corporate veil” and hold a shareholder personally liable. This usually occurs when the facts show that great injustice would result from the use of a corporation to avoid individual responsibility.

Question 21

Directors

Answer 21

Directors are responsible for all policymaking decisions necessary to the management of corporate affairs. Directors are elected by the shareholders and usually serve a one-year term. Compensation is usually specified in the corporate articles or bylaws. The board conducts business by holding formal meetings with recorded minutes. Directors’ rights include the rights of participation, inspection, and indemnification.

Question 22

Corporate officers and executives

Answer 22

Corporate officers and other executive employees are normally hired by the board of directors and have the rights defined by their employment contracts.

Question 23

Duty of care

Answer 23

Directors and officers are obligated to act in good faith, to use prudent business judgment in the conduct of corporate affairs, and to act in the corporation’s best interests. A director who fails to exercise this duty of care can be answerable to the corporation and to the shareholders.

Question 24

The business judgment rule

Answer 24

This rule immunizes directors and officers from liability for honest mistakes of judgment or bad business decisions made in good faith.

Question 25

Duty of loyalty

Answer 25

Directors and officers have a fiduciary duty to subordinate their own interests to those of the corporation in matters relating to the corporation.

Question 26

Conflicts of interest

Answer 26

To fulfill their duty of loyalty, directors and officers must make a full disclosure of any potential conflicts between their personal interests and those of the corporation.

Question 27

Liability

Answer 27

Directors and officers are liable for their own crimes and torts, and may be liable for the crimes and torts committed by corporate employees under their supervision.

Question 28

Shareholders’ powers

Answer 28

Shareholders must approve all fundamental changes affecting the corporation and elect the board of directors.

Question 29

Shareholders’ meetings

Answer 29

Shareholders’ meetings must occur at least annually. Special meetings can be called when necessary. Notice of the date, time, and place of the meeting (and its purpose, if it is specially called) must be sent to shareholders. Shareholders may vote by proxy and may submit proposals to be included in the proxy materials sent to shareholders before meetings.

Question 30

Shareholder voting

Answer 30

Shareholder voting requirements and procedures are as follows: a. A minimum number of shareholders (a quorum) must be present at a meeting for business to be conducted. Resolutions are usually passed by simple majority vote. b. Cumulative voting may be required or permitted. Cumulative voting gives minority shareholders a better chance to be represented on the board of directors. c. A shareholder voting agreement (in which shareholders agree to vote their shares together) is usually held to be valid and enforceable.

Question 31

Rights of shareholders

Answer 31

Shareholders have numerous rights, which may include preemptive rights, the right to dividends, inspection rights, the right to transfer shares, and the right to sue on behalf of the corporation (bring a shareholder’s derivative suit).

Question 32

Duties of shareholders

Answer 32

A majority shareholder may be regarded as having a fiduciary duty to the corporation and to minority shareholders. A breach of fiduciary duties by those who control a close corporation normally constitutes oppressive conduct.

Question 33

alien corporation

Answer 33

A corporation formed in another country but doing business in the United States.

Question 34

articles of incorporation

Answer 34

The document that is filed with the appropriate state official, usually the secretary of state, when a business is incorporated and that contains basic information about the corporation.

Question 35

benefit corporation

Answer 35

A for-profit corporation that seeks to have a material positive impact on society and the environment. It is available by statute in a number of states.

Question 36

bond

Answer 36

A security that evidences a corporate (or government) debt.

Question 37

business judgment rule

Answer 37

A rule under which courts will not hold corporate officers and directors liable for honest mistakes of judgment and bad business decisions that were made in good faith.

Question 38

bylaws

Answer 38

The internal rules of management adopted by a corporation at its first organizational meeting.

Question 39

close corporation

Answer 39

A corporation whose shareholders are limited to a small group of persons, often only family members.

Question 40

commingle

Answer 40

Mixed to such a degree that the individual parts (such as funds or goods) no longer have separate identities.

Question 41

common stock

Answer 41

Shares of ownership in a corporation that give the owner a proportionate interest in the corporation with regard to control, earnings, and net assets. Common stock is lowest in priority with respect to payment of dividends and distribution of the corporation’s assets on dissolution.

Question 42

corporation

Answer 42

A legal entity formed in compliance with statutory requirements that is distinct from its shareholder-owners.

Question 43

crowdfunding

Answer 43

A cooperative activity in which people network and pool funds and other resources via the Internet to assist a cause (such as disaster relief) or invest in a venture (business).

Question 44

dividend

Answer 44

A distribution of corporate profits to the corporation’s shareholders in proportion to the number of shares held.

Question 45

domestic corporation

Answer 45

In a given state, a corporation that is organized under the law of that state.

Question 46

foreign corporation

Answer 46

In a given state, a corporation that does business in the state but is not incorporated there.

Question 47

inside director

Answer 47

A person on the board of directors who is also an officer of the corporation.

Question 48

outside director

Answer 48

A person on the board of directors who does not hold a management position in the corporation.

Question 49

piercing the corporate veil

Answer 49

The action of a court to disregard the corporate entity and hold the shareholders personally liable for corporate debts and obligations.

Question 50

preemptive rights

Answer 50

The rights of a shareholder in a corporation to have the first opportunity to purchase a new issue of that corporation’s stock in proportion to the amount of stock already owned by the shareholder.

Question 51

preferred stock

Answer 51

Stock that has priority over common stock as to payment of dividends and distribution of assets on the corporation’s dissolution.

Question 52

private equity capital

Answer 52

Funds invested in an existing corporation by a private equity firm, usually to purchase and reorganize it.

Question 53

proxy

Answer 53

In corporate law, formal authorization to serve as an agent for corporate shareholders and vote their shares in a certain manner.

Question 54

public corporation

Answer 54

A corporation owned by a federal, state, or municipal government to meet a political or governmental purpose.

Question 55

publicly held corporation

Answer 55

A corporation whose shares are publicly traded in securities markets, such as the New York Stock Exchange or the NASDAQ.

Question 56

quorum

Answer 56

The number of members of a decision-making body that must be present before business may be transacted.

Question 57

retained earnings

Answer 57

The portion of a corporation’s profits that has not been paid out as dividends to shareholders.

Question 58

S corporation

Answer 58

A close business corporation that has most corporate attributes, including limited liability, but qualifies under the Internal Revenue Code to be taxed as a partnership.

Question 59

securities

Answer 59

Generally, stocks, bonds, and other items that represent an ownership interest in a corporation or a promise of repayment of debt by a corporation.

Question 60

shareholder’s derivative suit

Answer 60

A lawsuit brought by a shareholder to enforce a corporate cause of action against a third party.

Question 61

stocks

Answer 61

Securities that evidence an ownership (equity) interest in a corporation, measured in units of shares.

Question 62

stock certificate

Answer 62

A certificate issued by a corporation evidencing the ownership of a specified number of shares in the corporation.

Question 63

ultra vires acts

Answer 63

Acts of a corporation that are beyond its express and implied powers to undertake (the Latin phrase means “beyond the powers”).

Question 64

venture capital

Answer 64

Financing provided by professional, outside investors (venture capitalists) to new business ventures.