Basic Business Basic Business FormsFormsCorporationsCorporations

Class 6Class 6

Forming a BusinessForming a BusinessThe first question:The first question:

What form should the business take?What form should the business take?Sole proprietorshipSole proprietorshipPartnershipPartnershipCorporationCorporationLimited liability companyLimited liability company

Choosing the FormChoosing the FormConsider:Consider:

Formation issues Formation issues Filing/formation requirements? Filing/formation requirements?

Liability protectionLiability protectionManagement structureManagement structureTaxation issuesTaxation issuesExit strategies/transferability of interestsExit strategies/transferability of interests

CorporationsCorporationsA corporation is a creature of statute, an A corporation is a creature of statute, an

artificial “person.”artificial “person.”The corporation is a “person” for the The corporation is a “person” for the

purpose of conducting a business and canpurpose of conducting a business and canOwn propertyOwn propertyEnter into contractsEnter into contractsSue and be suedSue and be sued

Ownership of corporation is shared by Ownership of corporation is shared by shareholders (or stockholders).shareholders (or stockholders).

Rights of the CorporationRights of the CorporationBecause a corporation is a legal “person,” Because a corporation is a legal “person,”

it has constitutional rights.it has constitutional rights.Equal protection; Equal protection; Access to the courts, can sue and be sued;Access to the courts, can sue and be sued;Right to due process;Right to due process;Freedom from unreasonable search and Freedom from unreasonable search and

seizure and double jeopardy.seizure and double jeopardy.Freedom of speech.Freedom of speech.

Torts and Criminal ActsTorts and Criminal ActsA corporation is liable for the torts A corporation is liable for the torts

committed by its agents or officers within committed by its agents or officers within the course and scope of their employment the course and scope of their employment under the doctrine of under the doctrine of respondeat superiorrespondeat superior..

Corporation can be liable for criminal acts, Corporation can be liable for criminal acts, but only fined. Responsible officers may but only fined. Responsible officers may go to prison.go to prison.

AdvantagesAdvantagesThe personal liability of shareholders (the The personal liability of shareholders (the

owners) for corporate obligations is owners) for corporate obligations is normally limited to the individual’s normally limited to the individual’s investment.investment.

The business has a perpetual existence The business has a perpetual existence

DisadvantagesDisadvantagesComplexity of formation.Complexity of formation.Double taxation.Double taxation.

Corporate PowersCorporate PowersA corporation may act and enter into A corporation may act and enter into

contracts as any natural person, except as contracts as any natural person, except as limited bylimited by::U.S. Constitution.U.S. Constitution.State constitutions.State constitutions.State statutes.State statutes. Its own articles of incorporation.Its own articles of incorporation. Its own corporate bylaws.Its own corporate bylaws.Resolutions by its own board.Resolutions by its own board.

Corporate PowersCorporate PowersThe The expressexpress powers of a corporation are powers of a corporation are

found in the corporation’s articles of found in the corporation’s articles of incorporation, the laws of the state of incorporation, the laws of the state of incorporation, and in the state and federal incorporation, and in the state and federal corporations.corporations.

Corporate by-laws may also grant or limit Corporate by-laws may also grant or limit a corporation’s express powers.a corporation’s express powers.

Corporate PowersCorporate PowersCorporation has Corporation has impliedimplied powers to perform powers to perform

all acts reasonably necessary to all acts reasonably necessary to accomplish its corporate purposes:accomplish its corporate purposes:

Borrow and lend money.Borrow and lend money.Extend credit.Extend credit.Make charitable contributions.Make charitable contributions.

A corporate officer can bind corporation in A corporate officer can bind corporation in contract in matters connected with the contract in matters connected with the ordinary business affairs of the corporation.ordinary business affairs of the corporation.

Ultra ViresUltra Vires Doctrine DoctrineCorporate acts that are beyond the Corporate acts that are beyond the

express or implied powers of the express or implied powers of the corporation are considered to be “ultra corporation are considered to be “ultra vires” and unlawful.vires” and unlawful. Shareholders can bring action for injunction.Shareholders can bring action for injunction.Corporation can recover damages from its Corporation can recover damages from its

officers and directors.officers and directors.Attorney general of state may bring action to Attorney general of state may bring action to

dissolve corporation for dissolve corporation for ultra viresultra vires acts. acts.

Classification of CorporationsClassification of Corporations

DomesticDomestic corporation does business in corporation does business in its state of its incorporation.its state of its incorporation.

ForeignForeign corporation from another state corporation from another state doing business in Washington. doing business in Washington.

AlienAlien Corporation: formed in another Corporation: formed in another country doing business in United States.country doing business in United States.

Kinds of CorporationsKinds of CorporationsPublic and Private.Public and Private.Nonprofit.Nonprofit.Close Corporations.Close Corporations.

Shares held by few shareholders.Shares held by few shareholders.More informal management – similar to a More informal management – similar to a

partnership.partnership.Restriction on transfer of shares.Restriction on transfer of shares.

Kinds of CorporationsKinds of Corporations ““S Corporations” S Corporations” – IRS classification that – IRS classification that

enables corporation to avoid “double taxation” – enables corporation to avoid “double taxation” – only dividends to the shareholders, not only dividends to the shareholders, not corporate profits, are taxed. IRS requirements:corporate profits, are taxed. IRS requirements:Corporation is domestic, with fewer than 75 Corporation is domestic, with fewer than 75

shareholders, only one class of stock, no shareholders, only one class of stock, no shareholder can be a non-resident alien.shareholder can be a non-resident alien.

Professional Corporations.Professional Corporations.

Basics of FormationBasics of Formation

The corporation is created by Articles of The corporation is created by Articles of IncorporationIncorporationThese must includeThese must include

Name of the corporationName of the corporationPurposePurposeList of incorporators and directorsList of incorporators and directorsName and address of registered agentName and address of registered agentShare structureShare structure

The Articles are filed with the Secretary The Articles are filed with the Secretary of Stateof State

First Organizational MeetingFirst Organizational Meeting

After the corporation is “chartered” After the corporation is “chartered” (created) it and can do business.(created) it and can do business.

First, shareholders should have the first First, shareholders should have the first organizational meeting to: approve the organizational meeting to: approve the bylaws, elect directors, hire officers and bylaws, elect directors, hire officers and adopt pre-incorporation contracts and adopt pre-incorporation contracts and activities.activities.

Corporate StatusCorporate Status De Jure:De Jure: substantial statutory requirements substantial statutory requirements

are met; cannot be attacked by state or 3are met; cannot be attacked by state or 3rdrd parties. parties.

De FactoDe Facto: statutory requirements : statutory requirements notnot met, but met, but promoters made good faith effort to comply promoters made good faith effort to comply with corporate law; corporate status can only with corporate law; corporate status can only be attacked by state. be attacked by state.

By EstoppelBy Estoppel: if it acts like a corporation, it : if it acts like a corporation, it cannot avoid liability by claiming that no cannot avoid liability by claiming that no corporation exists.corporation exists.

Piercing the Corporate VeilPiercing the Corporate VeilWhere the corporate form is used solely to Where the corporate form is used solely to

shield individuals from liabilityshield individuals from liabilityGenerally, owner co-mingles personal and Generally, owner co-mingles personal and

corporate assetscorporate assetsSometimes no stock is issued orSometimes no stock is issued orFormation or regulatory rules are ignored Formation or regulatory rules are ignored

Corporate FinancingCorporate FinancingBonds Bonds v. v. Stocks Stocks

DebtDebt Ownership/equityOwnership/equity

Fixed ROI Fixed ROI Dividends (variable)Dividends (variable)

No votesNo votes Vote for ManagementVote for Management

OptionalOptional RequiredRequired

Priority over stockPriority over stock Paid last Paid last

Stocks: Common vs. PreferredStocks: Common vs. Preferred

Merger and ConsolidationMerger and ConsolidationCorporations can grow and expand by:Corporations can grow and expand by:

Mergers.Mergers.Consolidation.Consolidation.Purchase of another corporation’s assets.Purchase of another corporation’s assets.Purchases of a controlling interest in another Purchases of a controlling interest in another

corporation.corporation.

TerminationTerminationTermination of a corporation, like a Termination of a corporation, like a

partnership, consists of two phases:partnership, consists of two phases:Dissolution (voluntary or involuntary); Dissolution (voluntary or involuntary); andandLiquidation.Liquidation.

LiquidationLiquidationVoluntary Dissolution.Voluntary Dissolution.

Board liquidates and acts as trustees of Board liquidates and acts as trustees of assets.assets.

Court will appoint a receiver if:Court will appoint a receiver if:Board refuses; orBoard refuses; orCreditors want a receiver. Creditors want a receiver.

Involuntary Dissolution.Involuntary Dissolution.Court appoints receiver.Court appoints receiver.

Corporate HierarchyCorporate HierarchyShareholdersShareholders

Board of DirectorsBoard of Directors

OfficersOfficers

EmployeesEmployees

Clients/CustomersClients/Customers

Corporate StructureCorporate StructureThe owners of the corporation are the The owners of the corporation are the

shareholders.shareholders.Create the capital of the corporationCreate the capital of the corporation

Have no management authorityHave no management authorityElect board of directorsElect board of directorsMust approve changes in articles of incorporation Must approve changes in articles of incorporation

and other major changesand other major changes

Corporate StructureCorporate StructureThe Board of DirectorsThe Board of Directors

Elected by the shareholdersElected by the shareholdersHave management responsibilityHave management responsibilityAppoint, supervise, remove officers of the Appoint, supervise, remove officers of the

corporationcorporationThe Directors have a fiduciary relationship The Directors have a fiduciary relationship

with shareholderswith shareholderswww.theyrule.netwww.theyrule.net

Corporate StructureCorporate StructureOfficers and ExecutivesOfficers and Executives

Elected or appointed by the board of directorsElected or appointed by the board of directorsResponsible for carrying out board’s policies Responsible for carrying out board’s policies

and directivesand directivesResponsible for management of businessResponsible for management of business

Have a fiduciary duty to act in the best Have a fiduciary duty to act in the best interests of the shareholders and the interests of the shareholders and the corporationcorporation

Duties of Directors and OfficersDuties of Directors and OfficersDirectors and officers are fiduciaries of the Directors and officers are fiduciaries of the

corporation. They owe ethical and legal corporation. They owe ethical and legal duties to the corporation and shareholders:duties to the corporation and shareholders:Duty of Care Duty of Care : They are expected to act in good : They are expected to act in good

faith and the best interests of the corporation.faith and the best interests of the corporation.Duty of LoyaltyDuty of Loyalty: Subordination of personal : Subordination of personal

interests to the welfare of the corporation.interests to the welfare of the corporation.

Conflicts of InterestConflicts of InterestFull disclosure of any potential conflicts of Full disclosure of any potential conflicts of

interest and abstain from voting on any interest and abstain from voting on any transaction that may benefit the director or transaction that may benefit the director or officer personally.officer personally.

Liability of Board/OfficersLiability of Board/OfficersDirectors and officers may be liable for:Directors and officers may be liable for:Their own negligent acts. Their own negligent acts. Crimes and torts committed individually as Crimes and torts committed individually as

well as those committed by employees well as those committed by employees under their supervision.under their supervision.

Shareholder derivative suits where Shareholder derivative suits where shareholders sue directors on behalf of shareholders sue directors on behalf of corporation.corporation.

Regulations and RequirementsRegulations and Requirements

Corporations are required to:Corporations are required to:Hold annual meetings of shareholders.Hold annual meetings of shareholders.Give reasonable notice of meetings.Give reasonable notice of meetings.Provide reasonable access to books and Provide reasonable access to books and

records to shareholders.records to shareholders.

Business EthicsBusiness EthicsWhat is Business Ethics?What is Business Ethics?

Legal compliance is the moral minimum.Legal compliance is the moral minimum.Laws regulating business.Laws regulating business. ““Gray” areas in the law.Gray” areas in the law.

Securities RegulationSecurities RegulationTwo major securities lawsTwo major securities laws

Securities Act of 1933Securities Act of 1933Securities Exchange Act of 1934Securities Exchange Act of 1934

Securities ActSecurities ActThe Act requires corporations to file a The Act requires corporations to file a

registration statement with the SEC and registration statement with the SEC and provide a prospectus to investors before provide a prospectus to investors before offering or selling the security to the public.offering or selling the security to the public.

A security is a transaction in which the A security is a transaction in which the buyerbuyer Invests money in a common enterprise andInvests money in a common enterprise andExpects to earn a profit predominantly from Expects to earn a profit predominantly from

the efforts of others.the efforts of others.

Securities Exchange ActSecurities Exchange ActRequires corporations to file certain Requires corporations to file certain

documents regarding the financial health documents regarding the financial health and the control of the corporation.and the control of the corporation.

Insider TradingInsider Trading““Definition of insider trading: Stealing Definition of insider trading: Stealing

too fast.” Calvin Trillisttoo fast.” Calvin TrillistOccurs when someone with reliable Occurs when someone with reliable

secret information uses that secret information uses that information to benefit from stock information to benefit from stock trades.trades.Is a crime, punishable by fine and Is a crime, punishable by fine and

imprisonment.imprisonment.

Sarbanes-Oxley ActSarbanes-Oxley ActEnacted after the Enron accounting Enacted after the Enron accounting

scandal to require additional protections scandal to require additional protections for investors.for investors.

Additional RegulationsAdditional RegulationsSherman (Antitrust) ActSherman (Antitrust) Act

Prohibits price fixing and illegal monopoliesProhibits price fixing and illegal monopoliesClayton Act Clayton Act

Prohibits anticompetitive mergersProhibits anticompetitive mergersRobinson-Patman ActRobinson-Patman Act

Prohibits price discrimination aimed at putting Prohibits price discrimination aimed at putting small competitors out of businesssmall competitors out of business