Stock and Other Corporate Securities

Question 1

What is the difference between common stock and preferred stock?

Answer 1

Preferred stock has preference for distributions

Question 2

When can stock be sold?

Answer 2

Only if listed in the articles of incorporation as authorized shares

Question 3

Does the board have the authority to determine the number of shares of any class of stock?

Answer 3

Yes, unless restricted by the articles

Question 4

What consideration can pay for shares of stock?

Answer 4

1. Cash;
2. Property;
3. Promissory notes;
4. Services to the corporation;
5. Future services; or
6. Other shares of stock or securities

Question 5

What is par value?

Answer 5

The minimum value assigned to the stock by the AOI (not required).

Question 6

Does par value need to be FMV?

Answer 6

No; it can be nominal

Question 7

What consideration is adequate for par value stock?

Answer 7

Anything the board finds is adequate

Question 8

If a shareholder fails to pay consideration for stock, what may the corporation do?

Answer 8

The shareholder is liable to the corporation, and if such stock has been issued, it may be canceled

Question 9

Are pre-incorporation stock subscriptions revocable?

Answer 9

No, unless the consent of all subscribers is obtained

Question 10

When are post-incorporation stock subscriptions revocable?

Answer 10

At any time before acceptance by the board

Question 11

When do shareholders have a preemptive right to purchase voting shares?

Answer 11

1. In a statutory close corporation, unless the bylaws provide otherwise
2. In a corporation, if expressly listed in AOI

Question 12

Can shareholders force distributions?

Answer 12

No, unless a court orders it for abuse of discretion by the board

Question 13

Who authorizes distributions?

Answer 13

The board, unless restricted by the bylaws

Question 14

When may a corporation NOT make distributions?

Answer 14

If the corporation is insolvent or if the distribution would cause the distribution to be insolvent

Question 15

What are the two tests for corporate insolvency for purposes of distributions?

Answer 15

1. Equity insolvency test

2. Balance-sheet test

Question 16

What is the balance-sheet test?

Answer 16

A corporation’s total assets must exceed its total liabilities, plus liquidation preferences of senior securities

Question 17

What is the equity-insolvency test?

Answer 17

A corporation must be able to pay off its debts as they come due in the ordinary course of business

Question 18

What is the relevant period of time for measuring insolvency for purposes of distributions?

Answer 18

The date the divided is declared, or the date the purchase price is paid for a stock purchase

Question 19

When are directors liable for unlawful distributions?

Answer 19

Directors are personally liable for violating the duties of care or loyalty to the corporation for the amount of the distribution in excess of a lawful amount

Question 20

From whom can a director seek contribution if they are also liable for an unlawful distribution?

Answer 20

1. Other directors; or

2. Shareholders that knowingly accept unlawful distributions

Question 21

What is outstanding stock?

Answer 21

Stock authorized and issued by the corporation

Question 22

When may a shareholder sell her stock?

Answer 22

Generally always, unless:

1. Limited as a shareholder of a closely held corporation; or
2. if restricted by penalties imposed on transactions that violate federal securities laws

Question 23

How may owners of a closely held corporation restrict the number of shareholders?

Answer 23

1. Outright prohibition on transfers;
2. Transfers requiring consent from the corporation or shareholders;
3. Options;
4. Rights of first refusal;
5. Right to buy back; or
6. Buy-sell agreements

Question 24

When are stock transfer restrictions unenforceable?

Answer 24

When unreasonable, but may be justified by the particular circumstances

Question 25

What are the elements of a Rule 10b-5 action?

Answer 25

A private person may sue under 10b-5 if:

1. Purchased or sold a security;
2. used in interstate commerce;
3. from a defendant engaged in fraudulent or deceptive conduct;
4. that the plaintiff relied on;
5. Suffering harm as a result

Question 26

When would a transaction not satisfy the interstate commerce requirement for a Rule 10b-5 action?

Answer 26

Face-to-face transactions

Question 27

Is insider knowledge sufficient to give rise to Rule 10b-5 liability?

Answer 27

No, unless the insider also trades stocks or other securities on the basis of such knowledge

Question 28

What are the four types of traders who may be liable under Rule 10b-5 for a failure to disclose information?

Answer 28

1. Insiders
2. Constructive insiders (lawyers, etc.)
3. Tippees who have knowledge of the insider’s violation
4. Misappropriators who use confidential information

Question 29

What is the scienter requirement for a Rule 10b-5 action?

Answer 29

Intentionally or recklessly

Question 30

What damages are available for a Rule 10b-5 plaintiff?

Answer 30

“out of pocket” losses, i.e., the difference between the stock’s value at the time of the fraud and the price plaintiff paid

No punitives

Question 31

What are the elements for a Section 16(b) action for the return of short-swing profits to a corporation?

Answer 31

1. The plaintiff must be a corporation trading on a national securities exchange and with assets of $10M or more AND more than 500 shareholders
2. The defendant must be a corporate director, officer, or shareholder with more than 10% of stock; and
3. During a six month period, any insider who buys and sells the corporation’s stock is liable for any profits made