Corporations

Question 2

Corporation

Answer 2

A distinct legal entity that can conduct business in its own right.

• limited liability
• capable of lasting forever
• taxed twice

Question 3

Promoters

Answer 3

Fiduciary of the corporationn who enters into contracts on behalf of corporation

• continuing personal liability for contracts prior to corporation’s existence
• corporation is not liable
  
  • unless corporation expressly (board resolution) or impliedly adopted the contract by accepting benefits or accepting liability for debts
• novation: promoter, corporation, and 3rd party can enter into an agreement to shift liability to the corporation

May be liable to corporation for breach of fiduciary duty, even tho no principal-agency relationship (corporation doesn’t exist yet)

Can seek compensation and reimbursement from corporation, but cannot compel.

Question 4

Incorporator

Answer 4

Signs and files the articles of incorporation, pays fee.

• not liable for contracts by the promoters

Question 5

Articles of Incorporation

Answer 5

Must include:

• name of the corporation, including “corp.”, “ltd”, etc
• name and address of agent within state
• names and addresses of incorportators
• duration (usually perpetual)
• purpose (usually “to engage in lawful activity”)
• max. number of authorized shares for each class of stock

May include:

• corporate powers

Question 6

Incorporation

Answer 6

Occurs when the secretary of state accepts the fee and files the articles.

• moment when limited liability begins

*** Where these do not occur, an improperly formed corporation might still be a de facto** **corporation

Question 7

De Facto Corporation

Answer 7

Where corporation was not properly formed but has entered into obligations, a de facto corporation sometimes exists

• organizers must have made a good faith effort to comply with the incorporation process
• organizers must have no actual knowledge of a defect in the corporate status

Will be treated like a corporation with limited liability

Question 8

Veil Piercing

Answer 8

A court might pierce the corporate veil and deem shareholders personally liable to avoid fraud or unfairness.

Factors test:

• alter ego: investor or shareholder failed to observe corporate formalities and treats the corporation like himself
• undercapitalization: failed to maintain funds sufficient to cover foreseeable liabilities
• fraud: the parties engaged in fraud

Question 9

Stocks

Answer 9

Representation of ownership.

• voting rights
  
  • every corporation is required to have stocks that vote on matters of corporate governance
• economic rights
• may have as many classes as desired in charter
• generally freely transferable
  
  • any restrictions must be conspicuously noted
  • restrictions must be reasonable
    
    • look for unreasonable restriction on alienation issues

Question 10

Authorized Shares

Answer 10

• Maximum number of shares that directors of a corporation can sell
• determined by articles of incorporation
  
  • need shareholder approval to sell more

Question 11

Issued Shares

Answer 11

• shares from authorized shares that have actually been sold

Question 12

Outstanding Shares

Answer 12

• shares that were once issued to shareholders and have not been reacquired by corporation
• only these shares vote (usually)

Question 13

Treasury Shares

Answer 13

• shares that have been issued but re-acquired

Question 14

Par Value Stock

Answer 14

A corporation may (but is not required) to set a minimum value for its stock.

• usually nominal

If it does not set a par value, it may receive any valuable consideration in exchange for stock.

• at discretion of directors

Question 15

Watered Stock

Answer 15

Stock sold below par value.

• buyers of watered stock are liable to the creditors of the corporation for the difference between par and the value they paid

The Revised Model Business Act does not recognize watered stock as an issue because it deems stock to be validly issued, paid in full, and non-assessable once the corporation receives consideration, as determined adequate by board.

Question 16

Stock Subscriptions

Answer 16

Pre-incorporation agreements to buy stock are irrevocable for 6 months.

Question 17

Preemptive Rights

Answer 17

Where shareholders have the right to acquire additional stock in order to maintain percentage of ownership.

• majority jurisdictions: default rule is that there are no pre-emptive rights
  
  • may state differently in charter or be negotiated
• common law: preemptive rights were automatic
• shareholders may irrevocably waive in writing
• preemptive rights do not apply to shares:
  
  • issued as compensation to board/officers/agents/employees
  • authorized under articles and issued within 6 mos of incorporation
  • sold for payment other than money

Question 18

Dividends

Answer 18

Cash dividends constitute a distribution by the corporation to its shareholders

• Directors **cannot **authorize if corporation is insolvent or would become insolvent
  
  • directors who vote to authorize unlawful dividend are personally jointly and severally liable to corporation for amount in excess of lawful amount
    
    • defense: relied in good faith on financial statements

Question 19

Shareholders

Answer 19

Owners of the corporation through shares

• no personal liability
• attend meetings
  
  • elect directors to board
  • vote on major decisions that affect fundamental changes in corporation
  • may also take any action by unanimous written consent
• shareholders with a controlling interest may have a fiduciary interest to other shareholders
  
  • ​sale to outsiders might violate

Question 20

Meetings

(Corporations)

Answer 20

Shareholders must have 10-60 days notice of meetings

• includes time, date, location
• insufficient notice permits shareholder to challenge actions taken at meeting (waived by attendance)

**annual **meetings: every corporation must hold annual meeting to elect directors and conduct shareholder business

**special **meetings: called to vote on fundemental changes

• state law specifies who calls meeting
• notice for special meetings must include purpose

Question 21

Record Date

Answer 21

Date that determines ovnership of stock for purposes of voting.

• set by directors
• 10-60 days prior to meeting
  *

Question 22

Corporate Powers

Answer 22

May be enumerated in Articles; usually statutes gives corporations broad powers

• sue and be sued
• buy and sell property

Also restrictions:

• federal law prohibits corporations with stock listed in national security exchanges from making personal loans to directors or executive officers
• state law may place similae restrictions

Question 23

Ultra Vires Actions

Answer 23

Where a corporation acts outside of the state purpose in its Articles. May be challenged in 3 situations, if equitable to do so:

1. shareholder may file suit to enjoin the action
2. corporation may take action against director/officer/employee
3. state may initiate proceeding to enjoin the action

A 3rd party cannot escape liability by asserting that its contract with a corporation was ultra vires

Question 24

Defective Incorporation

Answer 24

Where a person, without good faith, fails to comply with the statutory incorporation requirements, will be personally liable for all obligations incurred by the non-existent corporation.

Alternatives: **De Facto **incorporation and corporation by estoppel

Question 25

Corporation by Estoppel

Answer 25

A 3rd party is estopped from seeking the personal liability of a business owner where

• the 3rd party had business dealings and entered into contractual agreements with the business as though that entity was a corporation, and
• the owner of the business made good faith efforts to comply with incorporation requirements and was unaware that they had not been met

​** only applies to contractual obligations

Question 26

Civil Liability for Non-Compliant Stock Registration

Answer 26

If a corporation has not complied with SEC stock registration requirements, purchaser may sue for rescision or compensatory damages caused by material misrepresentation or ommission. Must not have had knowledge but need not have relied. Liable individuals:

• issuing corporation (strictly liable)
• signatories of registration statement
• director of corporation at time of filing
• an expert whose opinion is used in registration statement
• corporate underwriters

Aside from corporation, other defendants may raise reasonableness (due diligence) defenses.

Question 27

Distribution

Answer 27

A transfer, usually cash dividends, to shareholders. Power to declare a distribution rests with the directors.

• dividends: cash payments
  
  • stock dividends are not a distribution
• stock repurchase
• indebtedness: bonds or promissory notes

If the directors refuse a distribution, a shareholder may sue; must show:

1. there were legally available funds to distribute
2. the directors refused distribution in bad faith

Question 28

Stock Dividends/Splits

Answer 28

Where a corporation issues stock to its shareholders without charge in lieu of a distribution.

• do not alter a corporations assets or liabilities
• do not constitute a distribution

Question 30

Rule 10b-5 Action

**affected traders: insiders, constructive insiders, tippees, misappropriators**

Answer 30

Arising out of fraudulent sale or purchase of any security or stock. Each of the following requirements must be met:

1. plaintiff purchased or sold a security
   
   • unless SEC is plaintiff
   • forced sales in mergers count
2. transaction involved use of interstate commerce
3. defendant engaged in fraudulent or deceptive conduct
   
   • does not have to sell or buy
   • “disclose or abstain”
4. conduct related to material information
5. defendant acted with intent or recklessness
6. plaintiff justifiably relied on defendant’s conduct
   
   • ​​or fraud on the market (press release, etc)
   • plaintiff’s negligence alone will not preclude recovery
7. plaintiff suffered harm caused by defendant’s conduct

Question 32

Rule 10b-5 Damages

Answer 32

Plaintiff may recover:

• damages:
  
  • out-of-pocket losses: difference between value at time of fraud and price plaintiff paid/recieved for sale
  • no punitive damages
• recission: if defendant was buyer or seller

Defendants who act intentionally are jointly and severally liable

Defendants who act recklessly are proportionately liable

Question 33

Cumulative Voting

Answer 33

When more than one director is going to be elected, corporations can allow shareholders to cumulate their votes and cast them all for only one (or more than one) representative.

• multiply # of shares by # of positions

Question 34

Inspection of Corporate Records

Answer 34

A shareholder has a right to inspect and copy corporate records, books, papers, etc. on 5 days written notice stating a proper purpose.

• proper purpose is one that relates to a shareholder’s interest in the corporation
• some jurisdictions restrict access to shareholders who have minimum amount of stock or have held for minimum amount of time
• enforcement under the RCMBA is an expedited court proceeding
  
  • ​shareholder can get costs of litigation
• beneficil owners of stocks also have inspection rights