CORPORATIONS

Choices of Entities: Considerations of Each Entity:

I. Sole Proprietorship A. Non tax considerationsII. Partnership 1. Limited liability

1. general 2. Ease/Expense2. limited 3. Profit/ loss distrib.(deals with

III. Corporations 4. Mgmt. Structure flexibility)

1.C-corp 5. Capital structure-who are the 2. S-corp B. Tax considerations investors

IV. Limited Liability Co 1. Pass Through taxation2. Self employment tax/ SS benefits3. Fringe benefits

I. Sole Proprietorship

A. Non tax considerations:1. Has unlimited liability

-Insurance is a way to address concerns of unlimited liabilityYou’re always liable for your own negligence, so a LL would not protect the sole proprietor (owner) from liability. However, if youhire several employees it will limit liability for their negligence.

2. Ease and Expense- relatively easy to create because you merely start doing business.

3,4 and 5 are N/A

B. Tax considerations1. Has pass through taxation, No double taxation. This is a positive

aspect. It is however subject to SE tax.2. Fringe Benefits- Can deduct 45 % for payments for medical insurance for the sole proprietor, 100% for employees.

-No Café plan, can’t deduct for expenses such as laser surgery not covered on insurance plan.

II.Partnership1. General PartnershipA. Non tax considerations

1.Has unlimited liability for each general partner (Major disadvantage)

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Sec 1-305-all partners are jointly and severally liable for all obligations of the partnership

2.Very easy to formsec 1-202 don’t need a written agreement, you can create a partnership whether or not you intend to. Very flexible. As far as ongoing concerns, you do not have to have meetings etc like corps. So it has very easy ongoing concerns.Sec 1-202 (3) Can have a presumption of partnership when someone is receiving a share of the profits of business

3. Profit/Loss distrib:4. mgmt structure is very flexible. Partners can agree however they want

to structure the mgmt.5. Capital structure- Dos no require a minimum capital

B. Tax considerations1. Pass through taxation. You have to pay taxes on your proportion of

interest in the partnership, even if the profits are not distributed and are kept in the partnership for growth.

2. Partners being self employed do not get employee tax advantages, all partnership income is treated as personal income.

3. Fringe benefits- No Café plan

2. Limited PartnershipA. Non tax considerations

1. There is at least 1 partner who is unlimitedly liable, he is the general partner. The rest of the partners have a limited liability. The general partner can be a corporation, it does not have to be an individual. The owners of the corporation can be the limited partners; However, the limited partners cannot control the management of the limited partnership itself.

2. Ease and expense: fairly complex, probably easier than corp.3. Capital: a limited partner may contribute cash but not services4. Mgmt structure: Limited partner loses “control” of the business.5. Profits and loses are shared according to the partnership agreement

B. Tax considerations1. Has pass through taxation2. If you are a general partner the income acts as self employment. For

limited partners the income is not defined a self employment so it is not taxed as such. For limited partners, no SE tax

3. NO fringe benefits.

54 Sec 81 Filing a certificate of fictitious name. If you filed a cert. Of limited partnership you don’t have to file Sec 81 certificate

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Sec 1-401 (f) P.205 Each Partner has equal rights in the management and conduct of the partnership business

54 Sec 309 Must file cert of LP to form one. Just need to list the name and address of GP’s but not LP’s.

54 sec. 314 Flat fee of $100 for filing certificate of LP

54 sec 320 Liability to 3rd parties for LP. Important Statute. Just sets forth the limited liability of the LP’s and how LP’s are restricted from management control.

Sec 330 W/LP you can share profits however you structured the deal. Set it up in the LP agreement.

III. Corporations

1. C-CorpA. Non Tax considerations

1. limited liability. You can organize under a C-corp to for the sole reason

taking advantage of LL status. You just can’t be undercapitalized etc…

2. Ease/Expense. file a certificate of incorporationUnder OK act the term is shareholder, under Delaware it’s Stock holder

1142 (A)(9) Fee: 1/10 of 1% of authorized capital not issued shares. $50 minimum. Look at the total amt of shares authorized not issued . Want to have no more than $50,000 authorized capital, because anything above this amount would equal a fee greater than $50.So don’t write the certificate with more than $50,000 worth of authorized capital.

3. Capital Structure, flexible. Not restrictions on the # of shareholders or on who can be a shareholder.

4. Mgmt structure- shareholders elect officers to manage day to day operations.

5. Profit loss- A little bit restricted. Must distribute profits in accordance with shareholdings.

B. Tax Considerations1. Double taxation is a very negative attribute. (At corp. level you have

taxes and then when passed to shareholders, they are also taxed)2. Self employment tax- the dividend payments are not subject to SE tax.

There are no social sec tax effects since there is no SE tax.

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3. Fringe benefits- Corp can deduct medical plans for employees . Also has Café plans

2. S-CorpA. Non Tax considerations

1. Has limited liability2. Capital Structure: Can’t have more than 75 shareholders, and can’t

have a second class of stock.-Also can’t have other entities: other corporations, LP’s cannot be shareholders in the S-Corp.

3. Profits and losses- Negative because you can only have one class of Stock.

4. Management structure- same as C –corp5. Capital structure- Can’t have preferred stock so this is negative

B. Tax Considerations1.Fringe benefits- no real fringe benefits, no café plan.2. No SE tax3. Pass through taxation

IV. Limited Liability Co’s (like a partnership with corporate benefits such as LL)A. Non Tax Considerations

1. Has LL- owners of an LLC are called members, they can either manage directly or they can elect managers.

2022 Liability solely as manager or member: Members/managers are not liable for the obligation of a LLC solely by reason of being a member/manager. Can’t be held liable solely for being a member or manager but you can be liable for personal negligence. Not liable for other members negligence.

2. Ease / Expense of organization2004 Articles of organization-Filing2055 Fees $100 flat fee for incorporating

3. Profit loss2025 Allocation of profits and losses: Very flexible. Profits and losses are

distributed in accordance to the capital agreement. (IRS classifies LLC as a partnership)

4. Management Structure2013 Management of Co Managers do not have to be a member of the LLC. Members have membership interests. Unlike S-corp, no restriction on # of members, or on who can be a member. An entity can be a member.

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B. Tax Considerations1. Income tax- can get pass through taxation that a partnership gets. Files partnership tax return.

A single member LLC, for income tax purposes is disregarded. You report the income like it’s a sole proprietorship. Just put it on your own income tax return. Pass through taxation, not double taxation.

Be careful, if you are classified as a corp but don’t act like one you can lose the LL aspect.

2. SE tax / SS benefit3. Fringe benefits- Can deduct 45% of your medical insurance for

members and can deduct 100% of the fee for employees.

(Bar Exam Question)

What are the Clients objectives:1) LL2) Wants to maintain control3) wants to be able to expand the business

Can Rule out1) Partnership2) can’t be a sole proprietorship because he wants LL

Can be:a LLC, S-corp or C-corp. All have LL.

1. HOW SE TAX EFFECTS SSSE Tax:SE is taxed at 15.3% for 1st $72,000, this amount is reduced by salary income2.9% for $ over $72,600

If you have SE income and you’re receiving SS benefits, if you have too much SE income then you can lose your SS benefits. That’s the negative effect of SE income can have on SS

65 year olds can receive $9120 w/o having a reduction in SS benefits. For every $2 made in excess of the $9,120 you lose $1 of benefits. This is on an annual basis.

The older you get the more you can make w/o reducing your SS benefits.

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2) Where to Incorporate?OK patterns itself after the Delaware Act. Wolf v. Fidelity Life All Delaware case law would apply to OK corps.

First rule is that you should organize under the laws where your principle place of business is.

Checklist of Incorporation

1) Certificate of Incorp2) Organizational action of Incorporator3) Organization action of board of directors4) By laws5) Subscription agreements / stock certificates6) shareholders agreement7) voting trust8) S election 9) Employer ID #

I. FORMATION OF CORPORATION (CH 5)

A. Certificate of Incorporation

1005 How a Corp is formed (a) Anyone can organize the corporation. It can be an individual or another corporation

1006 Contents of Certificate of Incorp.A. 1) Name- Must have the word Co, Inc. corp., etc. in the name of the

corp.Name must be distinguishable from the manes of other entitiesIf name is similar you can get consent from the other Co.

2) Registered Agent & Registered Address - need this for service of process. The registered agent must be at the address of the registered office.1022 Deals with the registered agent.

“Every domestic corp” Domestic means an OK corp.3) Nature of the Business- Must include the purpose of the

corporation.-There is no reason to limit your purpose in your certificate of

incorp. Can put “ to be engaged in business”Must make sure that what you’re doing falls w/in the purposes

4) Must list Capitalization -Have to list # of authorized shares

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authorized shares- means co can issue a certain # of shares. Can’t issue more than what’s authorized.

Issued- issued to shareholders

outstanding- once issued it’s outstanding. IF co. buys back the stock the it becomes treasury stock

5) Must have the name and address of the incorporator(s).The above are all requirements.

Permissive provisions (corp May) 1006 B: 1006 (B) Permissive Provisions:

3) Preemptive Right - allows the existing share holders the right to purchase newly issued shares of stock, before they are offered to the public, in an amount proportionate the shareholders current holdings in order to allow the shareholder to maintain the same % of ownership in the corporation.

Unless the preempted right is included you don’t have it because this is a permissive provision. You may have….

4) Provisions requiring a majority vote.

5) Can limit the duration of the corporations life. If you don’t include a limitation then it will have perpetual existence.

6) Can impose liability onto shareholders

7) Can limit liability of the director of the corporation. May want to do this in order to be able to recruit directors. May help to attract qualified directors.

1007 Execution and AcknowledgementA. (1) Incorporator must execute the cert of incorp if a

board of directors has not been named. Must be signed by Incorporator.

B. Must have acknowledgment In Ok you don’t have to have a notary acknowledge your signature, so in OK you don’t have to have acknowledgment.

H. Allows a faxed signature of the certificate of incorporation

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1027 board of directors powers (F) : Says if all directors sign a consent in lieu of meeting then this becomes the action of

the corporation. Must have all the members signatures to do this.

Consent in lieu are decisions made outside of a meeting by a signature of all board members agreeing to the issue @

hand.

1073 Consent of Shareholders in Lieu of Meeting (A) : If you have 5 shareholders, 3 out of 5 can approve a decision by

signature in lieu of meeting . Don’t have to have all of there signatures.

Board members can’t do this . You must have all signatures for directors.

B. ULTRA VIRES ACTS

Ultra Vires- acts unauthorized by a corporate charter.

These are now addressed by statute. Don’t really run into theses anymore.

711 Kings Highway case

FACTS: P leased property to D for use as a movie theater. P is LL. 15 yr lease. The property was to be used as a movie theater so it has a use restriction. D’s corporate charter limited the corp to marine activities. The contract was executory so it had not been fulfilled. P claims that the charter renders the lease invalid and wants D to be enjoined from performing or make the lease invalid.

There was a N.Y. statute which said that ultra vires actions are not invalid except under 3 conditions:

1) an action brought by a shareholder to enjoin a corporate act2) an action against a former officer or director3) Proceeding brought by attorney general

HOLDING : In the case at bar the P brought the action and the above exceptions do not apply, thus the ultra vires act will not be rendered invalid and D can proceed with the lease.

1018 OK’s Ultra Vires statute - Similar to case @ bar. Says that ultra vires actions are not invalid except under certain exceptions of the statute. Same 3 provisions as above.

Theodora Holding Corp v. Henderson: (Delaware 1969)

FACTS: P a holder of stock of D corp (Alexander Dawson Inc)

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brought an action challenging the charity contributions of D Corp (Alexander Dawson Inc) D corp gave $550K of stock to the charity organization of Alexander Dawson foundationTheodora Holding corp (P) was owned by the X-Wife of the Majority shareholder of D corp, HOLDING: There is a Delaware statute which allows for charitable contributions. The statute does not place a limit on the amount of charity to be granted thus it should be limited to a reasonable amount. Since the gift was w/in the IRS tax deduction limit of 5% of income , the court held that the gift was reasonable.

1016 (9) OK statute which allows for charitable contributions to be made by corporations. So the outcome would have been the same in OK.

C. PREMATURE COMMENCEMENT OF BUSINESS

1. PROMOTERS

This section deals with K’s which are entered into before a corp is formed/comes into existence.

Promoters- Puts the deal together to form a corp.

Post Case:Promoters stand in a fiduciary relationship with the corp and to investors of the corp. Must act in good faith and provide full disclosure of all facts which might influence prospective investors in their decisions.

Need to spell out liability of the promoter. Is the promoter as well as the corp liable or is only the corp liable or vice versa. Need to spell this out specifically in the K.

Stanley J How Case:

K to perform architectural services to a corp not yet formed. The promoter entered into the K.

Parties: K was entered into by Boss Hotels Co Inc and the signature block of the K was signed by Ed Boss. He erased the title Boss Hotels and wrote Ed Boss “agent for a corp to be formed”.

K was breached by Boss. The corp was formed under a new name “Hunter Hotel Co.”

General Rule of Promoters liability: A promoter will be personally liable on K’s entered into on behalf of a proposed corp . ([exception to general rule]Unless the parties agree to look to the corp or some other fund for payment)

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4 Possible intentions of the parties (Possibilities governing who’s liable):1) Party is making a revocable offer to the nonexistent corp which will become

a K if the corp is formed and accepts the offer. (normal understanding)No K’s exist in {these 2 only offers {

2) Party is making an irrevocable offer for a limited time. Consideration to keep the offer open may be found in an express promise by the promoter to organize the corp.

3) Present K by which the promoter is bound until the corp becomes an entity. 4) Present K with continued liability on the promoter after formation of the

corp.

HOLDING: Ct held that 3 does not apply,(Not clear why ct held this way)Ct ultimately held that 4 applies. Ct looked @ the oral testimony of the parties to determine what the parties intentions were. So Boss as a promoter is held personally liable. Ct held there was no agreement that P would look solely to the new corp to fulfill the K in the event of breach.

Quaker Hill Case

FACTS Sales K between Quaker Hill and Denver Memorial Nursery, and a promissory note. DMN was the maker of the note and ED Parr is the promoter of DMN. DMN was not in existence @ the time the K was entered into. Later DMN was changed to name to Mountain view Corp MVC. MVC signed a new K w/ Quaker. MVC then went insolvent. P wants to hold promoter to personal liability rather than holding the corp liable.

HOLDING P entered the K with the knowledge that the corp was not yet formed and yet P urged that the K be made immediately and in the name of the proposed corp. There is no evidence that P intended to look personally @ the promoter for performance or payment.

Point by Garbrecht against ct’s decision. The fact that the P looked into promoters personal financial position indicates that P intended to collect and hold the promoter personally liable in the event of default.

Coopers and Lybrand note case

Who has the burden of proving that the exception to the general rule of promoters liability applies?

BOP is on the D promoter to establish that he or she does not have personal liability. To show that the exception applies lies on the party claiming the exception.

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Daman & Stafford Note Case

You don’t have to have an express agreement to show that promoter is not personally liable. Can prove this by circumstantial evidence. What were the intentions of the parties

Want to make sure your promoter is not going to have continued liabi9lity after the corp is formed. You can eliminate all of this by incorporating first and then entering into K’s.

McArthur Case:

FACTS Have an advertising K. Promoter entered into K with P for advertising services. Times Printing Co became a corp after the K was entered into. The corp adopted the K after its formation. The D corp later tried to argue that the promoter entered into the K , on behalf of the corp, more than a year ago and therefore the SOF applies and the K is void.ISSUE: Whether the SOF applies to this K?HOLDING: Ct says that anything entered into before existence of the corp does not become a K with the Corp. In this case the corp adopted the K, so it became a K of the Corp. All of the officers were aware of the K and allowed it to continue after incorp, thus sucha actions of the board created adoption of the K. As to the SOF argument, the date of the K begins the date which the corp adopts the K not the day that the promoter enters into the K, therefore the SOF does not apply. This is the general rule.

2). DEFECTIVE INCORPORATION

These cases deal with the issue of what happens when you call a corp a corp yet the corp does not meet the requirements of a corp.

De facto Corporation- Courts recognize the existence of a corp even though in actuality the corporation is an incorrectly filed corp. Operates as a defense against personal liability of the owners when they acted in good faith in thinking the business was in fact a corp.

Robertson v. Levy

FACTS: Roberston entered into K with Levy. Levy was to form a corp and purchase R’s record store. K occurred on Dec 22 and Penn records was not yet formed. 12-27 the articles of incorp were submitted. 12-31, lease was signed . Lease was assigned to the future corp. 1-2the articles of incorp were rejected by the state, but Levy, on the same day, began to operate the business under the name Penn records. 1-8 Bill of sale of the store was conducted to Penn records.

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1-17 Certificate of incorp were corrected and articles were approved.6-1 Penn records went insolvent

ISSUE Whether the creditor, who entered into a K prior to the D corp having its articles of incorp accepted, but later doing business with the corp after incorporation, can sue the president of the corp personally for breach of K, or is the creditor estopped from denying the existence of the corp. because he accepted payment after incorporation and thus can only sue the corp.

De jure Corp- A valid corp. It’s valid against everyone. De facto corp - a corp which has been defectively incorporated. Only the state can bring an action against the corp for lack of being a corp.

Requisites of a De facto Corp: (by sup ct)1) there is a valid law under which such a corporation can be lawfully

organized2) has been an attempt to organize under such law3) Actual user of corporation4) Good faith in claiming to be and in doing business as a corporation.5)

A de facto corp is recognized as a legitimate corp. Only the state can fail to recognize the business as a corp in order to bring an action to revoke the corporations charter. All others must acknowledge the existence of a corp.

Corporation by estoppel - concept where if the other company treats you as a valid corporation, then they are estopped from claiming that there is no valid corp in existence. Must recognize the corp.

MBCA Sec 50 & 139 (**NEED TO KNOW FOR TEST**)

50 :States that there is no corp until you’re issued your certificate of incorp. De facto & corp by estoppel do not apply. (this applies to jurisdictions following the MBCA. OK does not)

139 : Unauthorized Assumption of Corporate Powers: All persons who act as a corp with out authority will be held jointly and severally liable for all debts and liabilities incurred or arising thereunder.

HOLDING So under 50 & 139, Levy is subject to personal liability because, before this date, he assumed to act as a corp without any authority to do so . He is not relieved from liability because later the article of incorporation was properly filed and P continued to do business with the corp.

OK is not a MBCA state.

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1010 Commencement of Corporate existence: OK’s comparable provision to 50. However it does not eliminate the concept of de facto and de jure corps. Just states that there is no corporation until you are issued your certificate of incorporation.

Cantor v. Sunshine

FACTS: Cantor entered into K with Sunshine corp (D).11-21 D reserved the name of the corp12-3 Certificate of incorp was signed.12-16 Lease was signed12-18 because of a problem with the mail the articles of incorp were not filed until 18th.ISSUE: Is there a corporation?HOLDING: Ct held that de facto doctrine should apply. All the elements of a de facto corp are present (elements listed in Levy Case.)

Officers of a corporation may be held personally when there charter is revoked for failure to pay franchise taxes.

Cranson case

FACTS: 5/1 Certificate of incorp signed5/17-11/18 bought computers on creditActual certification of incorp file 11/24, the attorney forgot to file it.

Prior to realizing this the president of the corp operated the co as a corp

ISSUE: Whether an officer of a defectively incorporated association may be subjected to personal liability under the circumstances of this case? NO

HOLDING: Ct held that you can have estoppel where some of the elements of a de facto corp are missing. They are distinct concepts. Because IBM treated the D co as a corp and felt that they were in fact dealing with a corp, they are now estopped from denying the existence of a corp.

State Insurance Fund Case (handout)

FACTS: AAA engineering incorporated in Utah so it is a domesticated corp and had a license to do business in OK.5/88-12/88 Made workers comp insurance payments pursuant to a K with Ins. Co.During the above dates their license to do business was suspended for failure to pay taxes.

11/89 they paid taxes and were reinstated to do business12/1 this lawsuit was commenced

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1120 Renewal, revival, extension and restoration of certificate of incorp: (E): When reinstated under E, it’s as if the corporation’s certificate was never expired. It reinstates all K’s entered into during the period when the corps certificate was suspended.

D argued that 1120(E) and ? were in conflict

Ct held that the tax law will prevail pursuant to 1002 (b) tit 18

IF tit 18 is in conflict w/ tit 68(tax title) then tit 68 prevailsD’’s counsel argued 1124 officers and directors who can be held liable you must first bring suit against the corp before e going after the directors personally. This was shot down

D’s counsel also argued that there was not a conflict between 1120 E and tax statute because p 112 of case <> Ct rejected this argument.

II. CH 6 DISREGARD OF THE CORPORATE ENTITY

There is no clear cur rule as to piercing the corporate veil. It’s based on facts of each individual case and is @ the cts discretion.This is very rare situation to come up in practice.

Bartle v. Home Owners Co-op:

Facts:D corp owned a subsidiary which was created to construct housing for low income families.

Home owner Co-op Parent corp ¦¦

Westerley Subsidiary of Home owner Co-op

Westerley filed for Br. Br trustee brought the lawsuit against Homeowners Co-op claiming that the corporate veil of Westerley should be pierced and that home owner co-op should be held liable for debts of WesterleyHOLDING:Ct held that Co-op placed its construction operation into a separate corp to shield the parent corp (co-op) from liability. They were treated as 2 separate corporations at all times, this was legitimate and no fraud existed, thus Plaintiff’s claim that the corporate veil of Westerley should be pierced (to disregard the corporate existence of Westerley) and hold co-op liable for debts should be denied.

Ct held that there was no intent to mislead creditors and the law permits the incorporation of a business for the primary purpose of escaping personal liability.

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Generally Speaking the doctrine of piercing the corporate veil is invoked to prevent fraud or to achieve equity.

Dewitt Truck Brokers v. Ray Fleming:Facts:Ray has a corporation Ray Fleming Fruit Co (RFFC)

RFFC Ray owns 90%The corporation gets produce from farmers, he arranges to have the fruit shipped. He sells the fruit and give the farmers their $ less commissions and transportation fees.

FruitGrowers---------------- RFFC-------------------- End User

$ balance from sell $ Purchases fruit

Growers --------------- RFFC -------------------End User

RFFC pays a transportation Co to transport the fruitDewitt, the transporter was not paid. They sued RFFC and wanted the corporate veil to be pierced. Trial ct allowed the corporate veil to be pierced. Ray was personally taking all of the $ from the sell to the end user, rather than placing it into the corporation to pay the growers and other bills. The corp had no working capital and there were outstanding bills to pay.

Burden of proof falls on the party claiming that the veil should be pierced.

The alter ego doctrine or instrumentality doctrine ( where shareholders are held liable to prevent fraud) is the same concept of piercing the corporate veil.

Factors which should be evaluated in determining whether the corporate veil should be pierced:

1) failure to recognize corporate formalities2) nonpayment of dividends3) siphoning of funds4) non functionality of other officers or directors5) absence of corporate records6) fact that the corp is a façade for the operations of the dominant

stockholder or stockholders.Holding:Ct held that mere failure to disregard corporate formalities alone are not sufficient to pierce the corporate veil.

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In case at bar, the corp was undercapitalized. Need to look at whether there is a profit and ability to pay dividends. Defendant was taking corp $ rather than paying transportation bills. Here we have siphoning of all corporate funds. Here you have the injustice of Fleming taking out the exact amount owed to the transporter and using the funds personally. Furthermore, Fleming stated that he would personally cover the corporate debts should the corp fail. Such a promise is generally sufficient basis for piercing the corporate veil when the corp is closely held.

In the Mursham Shoe case this is the same thing the defendants did. They aid that they would personally stand behind the debts of the corp if the corp were to fail

The decision to pierce the corporate veil only applies to the 1 creditor who brought the suit it does not apply to all creditors. It also does not necessarily apply to all shareholders or directors. So not all shareholders would not necessarily be held liable.

Baatz v Arrow Bar

Facts:Plaintiff injured when hit by a car. Driver was intoxicated and was served alcohol at Arrow Bar Inc. Plaintiff claims that Arrow Bars corporate veil should be pierced and that the shareholders should be held personally liable.

Neroth’s ( Only shareholder’s in the bar)||

Third party bank loan ---- Arrow BarPersonally guaranteed by Neroths

Neroths did not personally serve the driver drinks. Driver had no $ so the plaintiffs were suing corp with deep pockets.

Factors that indicate injustices and inequitable consequences and allow a court to pierce the corporate veil include:

1) fraudulent representation by corporation directors2) Undercapitalization3) Failure to observe corporate formalities4) Absence of corporate records5) Payment by the corporation of individual obligations; or6) Use of the corporation to promote fraud, injustice or illegalities.

Holding:Court held that the fact that the Neroth’s personally guaranteed a loan to the corporation is not sufficient reason to pierce the corporate veil. This indicates that in fact the corporation was in fact a separate entity. So this goes against plaintiffs arg.

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Plaintiff also argued failure to follow corporate formalities because the defendant did not have Inc included in it’s name. However, failure to follow all the forms prescribed by law for being a corp, does not justify piercing the corporate veil. Veil should not be pierced.

Telecom Corp Case:

Facts:Plaintiff injured in a motorcycle accident. Hit by truck owned by Contrux. Contrux is a wholly owned subsidiary of Telecom

Telecom | |Contrux

Contrux is in Missouri. Telecom has no contact with Missouri, so for purposes of jurisdiction, and for purposes of imposing liability against Telecom, the corporate veil would have to be pierced. Generally, an injured party can only look to the assets of the corporation for recovery. The shareholders of the corporation, including the parent corp, are not responsible.

Under Missouri law, to pierce the corporate veil and hold the parent corp liable, must show

1)that the parent corp holds complete domination over the subsidiary such that it controls the financing and any decision making process etc (so that really they are not separate entities, really an alter ego).

2)Such control was used to commit fraud or wrong

3) The control and breach of duty must proximately cause the injury or unjust loss complained of.

Undercapitalization of a subsidiary may be evidence of a wrong. In Missouri, cts will disregard the existence of an undercapitalized subsidiary, because this causes an inference that the parent is either deliberately or recklessly creating a business that will not be able to pay its bills or satisfy judgments against it. Contrux was in fact undercapitalized.

Holding:Although Contrux was undercapitalized, it had $11 million in insurance to cover any liabilities. The second prong of Missouri test, the ct held, was not met. There was no fraud employed. Contrux was not set up to recklessly avoid any tort obligations, or to commit any fraud by being undercapitalized, because the insurance was adequate protection and enough to make the co, in a sense, not undercapitalized.

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Fletcher v. Atex

Facts:

Kodak | |Atex Wholly owned subsidiary of Kodak

Plaintiff sued Kodak for carpal tunnel syndrome from Atex’s keyboard design.

The laws of the state of incorporation controls the piercing of the corporate veil. So if a California company is incorporated in Delaware, then Delaware piercing laws control.

Dealing with a Delaware corporation (Atex). Delaware piercing law requires:

1) Fraud; OR2) For the subsidiary to be an alter ego of the parent corporation.

No fraud is required if the subsidiary is merely an alter ego of the corporation. It’s something less than fraud, just has to be an element of injustice, or unfairness, but not necessarily fraud.

Plaintiff has burden of establishing these factors.

Holding:Ct held that to prevail on an alter ego theory, the plaintiff must show that the two corporations operated as a single economic entity and that it would be unjust treat them as separate legal entities.

Ct also held Using a centralized cash management system does not reveal the presence of an alter ego. Fact that there was interlocking management and the fact that Kodak controlled some of the decisions of Atex is common and is not sufficient to show that it’s an alter ego.

The above factors in the case at bar are irrelevant because the plaintiff never offered any proof that there is an overall element of injustice or unfairness that would result from treating the corporations as separate entities.

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A company can be operated as a subsidiary or as a division/department. With divisions/departments there is no legal separation of the parent corporation and the department/division.Operating as a subsidiary provides a legal separation from the parent company. The parent co will not be held liable for the obligations of the subsidiary.

Ok does not have a statute controlling piercing of corporate veil. TX does.Jurisdictions have different laws controlling piercing of corp veil.

Kayser Roth Case:

Facts:

Kayser Roth | |Stamina Mills (Subsidiary of Kayser)

Staminal Mills had a chemical spill which contaminated a water table. They also had a landfill where they were dumping chemicals on site. Controlling statute is the CERCLA which is a federal law. This holds the owner or operator liable for any violations.

Operator- person/entity responsible for day to day operations

Holding:Ct held that Kayser was in fact an operator because of it’s control over the subsidiaries, financial matters, sharing of officers, and operational decisions including environmental concerns. Also past president of Mills stated that he played no role in major decisions affecting Mills,

Ct also held that state law controls upon issues of piercing the corp veil. Ct said that under CERCLA if it’s found that the co is an operator you don’t have to determine if it’s an owner.

Stark v. Flemming

Facts:Farm owner created a corp out of their family farm in order to receive SS benefits.

Stark---- (assets) New corpStark 100% of stock & $400/month <--------New corp

Holding:

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The intent of Congress does not disallow this. The ct. however did say the secretary of state can attack her Starks salary and determine what a proper salary is and then proportionally decrease the SS benefits.

Roccograndi v. unemployment Bd of Review

Facts:Family owned business. There was a slow down and the corp had a policy were the officers, who were all family members, would take turns being fired. Three were let go because it was there turn, and in fact they voted to let themselves be fired.

Unemployment bd. Denied plaintiffs request for unemployment benefits on the grounds that they were actually self employed and therefore did not qualify.

Holding:Ct held that the corp entity may be disregarded in determining whether the plaintiff was self employed. The fact that they controlled their unemployment allows the corp entity to be disregarded and to treat the plaintiff as if they were self employed in order to deny unemployment benefits.

Cargill Case

Facts:Family farm was incorporated. Plaintiff bought farm equipment and the co. who sold it did not know that the Plaintiff was a corp. Plaintiff went bankrupt and there was a scheduled sale of the farm.Plaintiff argued that the homestead exemption of Br should apply.

HoldingCt held that they would apply reverse piercing of the corp veil. Here Plaintiff is trying to pierce their own veil, hold that their farm is not a corp, and that therefore the homestead exemption of Br applies. Ct agrees with this and held that the close identity between the plaintiff and their corporation justifies disregarding the corp entity.

Really this case was based on policy considerations. The court did not want to take away their home and leave them with nothing.

Reverse piercing is very rarely applied. Individuals should be very careful when incorporating their real estate property. The ct. may not let you pierce your own veil and you could loose your homestead exemption.

Pepper v. Litton (Supreme Court of United States)

Facts:Litton |

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Dixie (subsidiary)Pepper sued the Dixie Co for $ owed under a lease. While the Pepper suit was pending, Litton caused Dixie to confess, in Litton’s favor, a claim of back pay owed to Litton. After Pepper obtained a judgment in their favor, Litton then executed on the back pay suit which they had received the judgment on. Dixie then gives Litton the assets to satisfy the judgment and then files for Br.

Holding:Ct held that the suit against the subsidiary by the parent corp was a plan to defraud creditors by taking away all of the assets and then forcing Dixie into Br, thus the ct disallowed the claim of the parent corp against it’s subsidiary.

Some courts have disregarded the subsidiary as a separate entity and held that the parent corp. and the subsidiary are one in the same. Here they just disallowed the claim.

II. Ch 7 FINANCIAL MATTERS & THE CLOSELY HELD CORPORATION

A. Sources of Financing: 1) Capital (Equity) Contributions2) Borrowings (Debt)3) Retained Earnings

Capital (Equity) Contributions:

B. Rights of Shareholders:1) Entitled to dividends from earnings2) Entitled to a net distribution upon a liquidation of assets3) Entitled to control (ability to elect officers)

§ 1039 Stock Certificates, uncertificated shares- It allows OK corps to have uncertificated shares (Doesn’t require stock

certificates)- Certificates shall be signed by the chairman or vice chairman of the board of

directors, or the president or vice president, and by the treasurer or an assistant secretary of the corporation issuing the certificate. (Can be signed and sent by fax)

- The certificate shall identify the # of shares owned by the shareholder

Authorized Shares = the number of shares which a corp may issue

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Issued shares = the number of authorized shares which are outstanding (in hands of shareholders)

Must list par value, if there is no par value you must disclose this.

1142 Filing & Other Service Fees(A)(9): The rate for filing authorized stock is 1/10 of 1%; however there is a minimum fee of $50. Since you have to pay $50, there is no reason to authorize more than 50,000 shares because you pay an unnecessary filing fee.

50,000 shares x 1/10 of 1% = the minimum required fee of $50.

C. Issued/OutstandingTreasury Stock- It’s issued but not outstanding

D. Attributes of Stocks

§ 1032 Classes and Series of Stock; rights, etc. (A): Must list the attributes of each class of stock

Blank Stock Preferred - Directors can by resolution set the attributes of a particular class of stock as long as the certificate of incorporation allows the board to set the attributes. Must grant the board this power

1) Preferred Stock Can Have/Be:a) Dividend Preference – Receive your dividends before common

shareholders do. § 1032 (C)Eg: $100 per share, dividend preference of 8% ( = $8/share). Means that preferred shareholders will get an $8 dividend before any payments are made to the common shareholders.

b) Cumulative Preferred – The 8% dividend preference will carry over from years when no dividend was paid. So the following year the preferred shareholders would receive a dividend of 16%

c) Non Cumulative Preferred – If the dividend preference is not paid within the applicable year then it goes away, does not carry over to the next year.

d) Participating Preferred – This is where after the preferred shareholders are paid their dividend preference, any funds left over are shared equally between the common shareholders and the preferred shareholders.

You can set this up however you want.

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e) Liquidation Preference – After all the creditors are paid then the preferred shareholders are paid and the rest goes to the common shareholders. If the preferred holde3rs have participating preference, then the left overs could go to both the common shareholders and the preferred shareholders.

2) Redemption Option- the corporation has the option to redeem the shares outstanding. Or the shareholders may have the right to force the corp to buy back the shares. This is usually at a stated price.

1032 (B): Can have a redemption option in all stocks. The stocks can be redeemed at the option of the corporation, the shareholder, or at the occurrence of a specific event.

1032 (E): Authorizes the convertibility of a share of stock to any other class of stock.

3) Par Value:-has no relation to the stocks value-It’s best to keep the par value low because of filing fees, and because of watered stock concept.

1006 (A)(4) Certificate of incorp must include class and # of shares

1034 Consideration for Stock(A): Can’t issue shares for less than par value

Hanewald v. Bryan Inc

Facts:Keith and Joan Bryan Incorporated Bryan Inc. a retailer. Keith was the president and Joan was the Secretary. The corp had 100 authorized shares @ a par value of $1,000 per share. Each owned 50%. Keith and Joan paid no consideration for their shares in Bryan Inc. corp. They bought a dry goods store from the plaintiff Hanewald and signed a $45 K note for the inventory and signed a 5 year leas on the store. The business only lasted 4 months. They tried to rescind on the lease. Plaintiff sued to hold the two personally liable for the breach.

Holding:Because they did not pay par value for the shares they received, they therefore can be held personally liable for the difference between the par value amount of all shares and the amount actually paid. Here the debt does not exceed the difference between the par value of their stock and the amount they actually paid.

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If they had a par value of $.50 they would not have had this problem because they would have paid this amount and would not have been held liable. This is one reason why you should have a low par value.

3) Watered Stock:a) Watered Stock – Stock issued for property less than par. }All three areb) Discount Shares – issued for cash less than par value referred to asc) Bonus Shares- When nothing is paid for the shares Watered

Stock

When a stock certificate specifies a par value, then the price per share of the stock must be equal to or greater than the par value amount.

1037 Partly Paid Shares-Can have partly paid shares, where you for eg only pay ½ price. However, you only receive ½ of the dividends.

Cts/statute does not address the issue of voting (would you have ½ voting power). Garbrecht feel that you would get full voting rights.

1043 Liability of shareholders for stock not paid in full(A): When full consideration was not paid for shares of stock, and the assets are

insufficient to satisfy the claims of creditors, each holder of such shares must pay the difference between amount paid and the par value of the shares.

(C): When a shareholder purchases shares at full price and the original owner did not pay full consideration for the shares, the original owner is liable for the difference between the par value and the $ amount paid. The new owner is not held liable.

1044 Payment of stock not paid in full- Directors may demand payment for each share of stock not fully paid.

Directors must give written notice of the time and place of such payments, and such notice must be mailed 30 days prior to the date of payment.

Stokes v. Continental Trust

Facts:Corp was authorized to issue 5,000 shares @ $100 par value under their certificate of incorp. In order to issue new shares they would have to amend their certificate of incorp.Corp wanted to issue 5,000 more shares @ $100 par to Blair Financial at a price of$450 per shares.

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Plaintiff, who held 221 shares, demanded that he be able to exercise his pre-emptive right and be able to purchase 221 shares at par in order to prevent dilution of his shares. His request was denied and he brought this action.

HoldingAt this time pre-emptive rights were not controlled by statute. However, the court held that plaintiff had an inherent right to a proportionate share of newly issued stock. This court set the damages at: # of shares P was going to purchase (221) x Amount P was going to pay, Par, ($100) = $22,100.

Katzowitz v. Sidler

Facts:

Sulburn Corp is a closely lheld corp K S L } each owned 5 shares @ $100 per share | | | Sulburn corp K,S, & L were all on the board. The board wanted to get rid of K. corp owed the directors $2,500 each. S&L wanted to use the $2,500 owed and lend it to another Co rather than pay the debt owed to them.

So S&L had a meeting where they approved decision to issue new shares. The book value of the shares (Assets-liabilities / by number of shares = book value) was $1,800.

Board offered new shares to K, which K declined. S&L bought new shares and got an additional 25 shares instead of getting the $2,500 owed to them. S&L sent K a check for $2,500.The board later decided to dissolve a co. which was destroyed by fire. S&L each got $18K for the dilution. K only received $3K because the newly issued shares which he declined to purchase caused dilution of ownership in the corp.

Holding:Ct held that the stocks were issued well below FMV and that no business justification was given. The only reason for doing this was to place K in a compromising situation where failure to purchase more shares would be very detrimental. Plaintiff should receive 1/3 the amount of the dissolution less the $5,000 S&L put into the co. He should not receive $ based on his diluted ownership caused by the sale of the securities well below the FMV. This was an equitable decision The problem was that the shares were sold well below fmv. Ct would probably not have interfered otherwise.

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1006 Certificate Of Incorp contents(b)(3): In Ok to have preemptive rights this must be included in the cert of incorp.

Ok is an opt in state. If not included in articles of incorp you don’t have them.

D. DISTRIBUTIONS BY A CLOSELY HELD CORPORATION

Gottfried Case:

Facts:Suit brought by minority shareholders. Plaintiffs brought suit for action to compel the payment of a dividend on common stock. Plaintiff claims that the majority shareholders of the board are not paying dividends in order to freeze out the plaintiffs and to get them to give up their shares in the corp. Holding:Court held that to force a dividend the plaintiff must show:

1)that there are sufficient funds to pay dividend; AND2)There must be bad faith on the part of the directors.

Ct held that there was no evidence of bad faith and that dividends were in fact paid on preferred stock which the Plaintiffs own. Courts are very reluctant to second guess the business decisions of a board.

Dodge v. Ford

Facts:Dodge a shareholder of Ford brought action to compel payment of dividend. Ford planned on lowering price of cars and increasing wages of workers and decreasing dividend payments. This plan was an expansion plan. Holding:The court held that the board’s actions must benefit the shareholders. However the court also held that it should not interfere with the boards expansion plan.

Wilderman Case (Delaware Case)

Facts:Corporation formed by husband and wife. Marble Craft.

Ellen Joe Each 100% joint ownership||

Marble craft Co.

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Joe is the president and Ellen is the Vice president and Secretary. Ellen brought the suit against her now X husband. She want the husband to return unauthorized payments, which were made to him, to the treasury of Marble Co and then have the $ distributed as a dividend. The corporation was avoiding dividends, and paying bonuses to avoid double taxation. After the divorce the Defendant increased his bonuses and his earnings.

A custodian was appointed to the corp to try and work out the differences. The custodian approved a dividend payment and authorized a compensation formula for the Defendant’s salary. Defendant went against the proposed payment plan and derived a compensation formula which was unauthorized. Holding:Court held that the defendant husband had the burden of proving that his salary was reasonable. An expert testified as to what would be a reasonable salary would be. Ct held that defendant did not meet his burden as to proving his salary was reasonable.

Relevant factors were: What did other executives in his position earn. Whether or not the IRS has allowed the corporation to deduct the amount of salary alleged to be unreasonable. Whether the salary bears a reasonable relation to the success of the corporation, amount previously received as salary, Are salary increases a result of increases in the value of services rendered. ETC……..

Court held that Defendant must return the $ which was in excess of the amount allowed to be deducted as income with the IRS. Court then ordered that these funds be paid as dividends.

Financial Matters:

a) Redemption- repurchase of stock

Amount Realized (Amount paid by the corp to repurchase the stock)-adjusted basis (What shareholder paid for the stock) =

Recognized Gain By the shareholderx Capital gains rates =

Equals the tax owed by the shareholder

b) Dividend

Take the amount distributed in the dividend x Ordinary income tax rates =

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Tax owed from the receipt of the dividend.

A B C Each own 100 shares in Foster corp.

FOSTER CORPRATION

A,B,C turn in 10 shares of stock to the Corporation for $10k each ($1k per share)

Now they each own 90 shares of Foster. For tax purposes:$10k- $2k (assumed adjusted basis, paid $200 per share x 10 shares repurchased by corp) $8k (recognized gain from redemption)x The applicable capital gains tax rate = REDEMPTION TAX

The corporation is now $30k poorer and each shareholder is $10k richer, they all still own 1/3 of the corporation, their interests have not been diluted.

They originally bought 100 share at $20k. So by doing this they are getting a $2,000 reduction in there gains tax because you subtract out the adjusted basis for a redemption tax.

This however is not a legitimate Redemption because A,B, & C all own equal proportions in the Corporation. They still each own 1/3 of the company. Since they all own the same proportions as they did before the redemption, this will not be treated as a redemption but will be treated as a dividend payment. It must be a disproportionate redemption of shares; for eg the corp buys back the 20 shares of A but not of B&C to be regarded as a redemption. IS THIS CORRECT????

With a dividend payment the shareholders do not get the benefit of subtracting out an adjusted basis when calculating the applicable gains tax.

p. 377 foot note “ If the sale is essentially equivalent to a dividend, the redemption is treated as a dividend giving rise to ordinary income.”

Donahue v. Rodd

Facts:Plaintiff, Euphemia Donahue, a minority shareholder brought action against the board of Rodd Electrotype, to compel the board to rescind it’s purchase of Harry Rodd’s (Former

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director and current majority share holder) shares of stock and require Harry to repay the corporation the purchase price of the shares ($36K).

1935 Rodd Electrotype was a subsidiary corp, at the time called Royal Electrotype. Joseph Donahue and Harry Rodd purchased shares in the subsidiary. Joseph purchased 50 shares and Harry bought 200 shares of the 725 outstanding shares.

1955 The subsidiary purchased the remaining 725 shares owned by the parent corporation. Total price was $135k, $75k was paid in $, and the subsidiary issued a promissory note for the remaining $60k. The majority of the $ came from Harry who mortgaged his home to pay for the shares. Harry Rodd was now the majority shareholder.

1970 Harry resigned and the corporation purchased 45 shares of Harry rodds remaining 81 shares, at $800 per share ($36k).

Plaintiff learned of the repurchase of Harry Rodd’s shares and sought to compel the corporation to repurchase her late husbands shares under the same agreement given to Harry Rodd. The corporation refused and plaintiff brought the current action claiming that the purchase of Harry Rodds shares was an unlawful distribution of corporate assets to a controlling stockholder.

Holding:Court found for plaintiff. The court limited it’s holding to closely held corporations.

Courts definition of closely held corporation:1) Small # of Shareholders2) No ready market for the corporate stock3) Majority shareholders on the board of directors/in management

The court analyzed the potential injustice which can occur in closely held corporations. The minority share holders are subject to freezing out by the majority shareholder directors refusal to pay dividends. This forces the minority to sell their shares to the majority at a substantially lower price then what the stock is worth. Since there is no ready market for the minorities shares, he/she is in no real position to bargain.

Main holding; The majority shareholder directors must act in good faith and loyalty to other shareholders. To meet this requirement, when a closely held corporation offers to

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repurchase a controlling shareholders stock, it must also offer the same opportunity to the minority shareholders. The majority is under a fiduciary duty to do so.

The basic holding in Donhaue, that fiduciary relationships exist within closely held corporations, has been widely accepted. However, Delaware does not follow the Donahue test. Remember OK follows Delaware law.

E. LEGAL RESTRICITONS ON DISTRIBUTIONS

1052 Declaration and payment of dividends -Dividends may be paid in cash, in property, or in shares of the corporation’s stock.

1049 dividends;(a)-Can pay dividends out of 1) Surplus; or

2) net profits of this year and last year.

Nimble Dividend- a dividend paid out of current earnings when there s a deficit in the account from which dividends may be paid.

So even when there is no surplus in the dividend account, you can pay dividends out of net profits for this year and last year.

1035 net assets definedAlso known as stockholders equity. Assets – liabilities

**Surplus = Net assets – Capital (amount determined by the board. A portion of the consideration from the sale of stocks.)

Calculations:

500k shares 10cent par value200k shares are issued for $1 per share

This years profit in the Corporation is $50k

The corporation want to pay $70k in dividends.

If the articles of incorporation include a par value amount, then the board must declare a capital amount of at least par value.

Default rule- w/o a board resolution to determine the amount of capital in the corp, tthen the amount of capital is the par value of the issued stock.

Here, under the default rule, the amount of capital is $20k. (.10 par value x 200,000 shares issued.)

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Paid in Surplus- the amount paid in excess of par. Here it would be .90 cents per share.

§ 1035 Determination of amount of capital; capital , surplus and net assets defined.The board declares what the amount of capital is going to be. Capital will be a portion of the consideration earned from the sale of stock. If the board does not declare the amount of capital, then the amount of capital is the par value of the stock.

In this scenario it’s $20K.

Under §1035 : Net assets – capital = Surplus

WHAT IF THERE IT IS NO PAR VALUE STOCK AND THE BOARD DOES NOT DETERMINE WHAT THE AMOUNT OF CAPITAL IS GOING TO BE ???? I know that the statute says that where the stock is no par value stock then the capital amount shall be the stated capital of such shares. What does this mean.??

Board of directors may declare dividends from:1. Surplus2. (nimble dividends) from earnings for this year and last year.

**Need to be able to work following for the exam**:500,000 shares of .10 cent par value stock. So total par value = $50K. Remember you should never have authorized shares with a total par value above $50K. You are required by statute to pay additional fees to have authorized shares above a total par value of $50K. No reason to do this.

500,000 authorized shares of .10 cent par value stock. 200,000 shares are issued for $1 per share.

1) SCENARIO #1 ASSUME THE FOLLOWING:

Assets = Cash $200,000 from sale of authorized shares

Liabilities = assume $0 liabilities

Capital = $20,000 (200,000 shares issued x .10 par value)

Earnings = $50,000 ( the corporation had earnings of $50K)

Can the corporation pay dividends of $70,000Remember the corp can pay from surplus, or from earnings.

Total assets ($250,000) = Assets ($200,000) + Earnings ($50,000)

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Net Assets ($250,000) = Assets ($250,000) – Liabilities ($0)

Capital = $20,000 (see above calculation)

Net Assets – Capital = Surplus $250,000 - $20,000 = $230,000

Surplus = $230,000 So the corporation can easily pay a $70,000 dividend out of its surplus.

2) SCENARIO # 2 ASSUMING THAT PAR VALUE IS NOW $1

If board does not declare a capital amount, then capital amount will equal the par value of the issued stock. Here we have 200,000 shares issued at $1 par value.

Capital = $200,000 ( par value $1 x issued shares 200,000)

Net Assets – Capital = Surplus $250,000 - $200,000 = $50,000

Surplus = $50,000. Under this scenario the corporation will not be able to pay a dividend from the surplus in the amount of $70,000. The max the corp can pay from their surplus is $50,000. Can pay 100% of your surplus as a dividend.

3) SCENARIO # 3 ASSUME CORP HAS A LIABILITY OF $100K AND A PAR VALUE OF $1 and shares are sold at $1.

Assets = Cash $200,000 from sale of authorized shares

Liabilities = assume $100,000 liabilities

Capital = $200,000 (200,000 shares issued x $1 par value)

Earnings = $50,000 ( the corporation had earnings of $50K)

Net Assets ($150,000) = Assets ($250,000) – Liabilities ($100,000)

Net Assets – Capital = Surplus $150,000 - $200,000 = (-$50,000)There is no way the corporation can pay any dividends out of the surplus because the surplus is negative.

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3. SCENARIO # 3

500,000 SHARES 200,000 issued for $1.10 cent par value($300,000 deficit in Earned Surplus)$150,000 bank debt$100,000 in current earnings

Assets Liabilities Stock EquityCash $150,000 bank debt $150,000 Stk capital $20KCurrent Earnings $100,000 Pd in surp $180K

Total of $200K

Net Assets ($150,000) = Assets ($250,000) – Liabilities ($100,000)

Debt Financing:

Debenture – Unsecured bond

Usually carries a fixed interest rate.Interest payments on debt are tax deductible; whereas, dividends for equity stock is not.

CH 8 MANAGEMENT AND CONTROL OF THE CLOSELY HELD CORPORATION:

McQuade v. Stoneham N.Y (1934)

Facts:

Stoneham McQuade McGraw they created Nat corp(owned 1166 shares) (70 shares) (70 shares)

created National Corp

There were other outside directors. A stockholders agreement was entered into which stated: 1) All 3 were to continue as directors

2) All 3 were to continue as officers of the corp

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3) All must provide their best efforts to retain each other

There was a vote to remove McQuade as director and officer. Stoneham and McGraw chose not to vote. As a result of not voting , the other directors voted McQuade out.

C/A:McQuade brought action for the breach of the shareholders agreement.

Holding: Ct held that any Contract with shareholders which restricts the directors ability to discharge an employee, is against public policy. Can’t contractually restrict the directors control of the business. The directors must be free to elect officers and fix salaries.

So even if , as plaintiff argues, the director is loyal to the corp, you can’t enter into a contract with the stockholder’s to keep that director. This is a limitation of the boards power.

It’s Ok for the shareholders to combine to elect directors. This power to unite and vote is limited to the election of directors and is not extended to contracts where limits are placed on the power of directors to manage the business.

Shareholder (elects)board of directors (elects) }Hierarchy of who elects whoOfficers (run day to day operations)CORPORATION

Clark v. Dodge NY (1936) (Note Case)

This case goes against the McQuade strict interpretation.

Ct says that if the shareholder agreement or contract between the shareholders and the directors damages nobody, then it should not be held illegal even if it impinges slightly on the provision which requires the directors to control the business of the corporation.

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So this case allows for some exceptions. Here the directors were also the sole stockholders. So the court stated that “Where the directors are the sole stockholders there seems to be no objection to enforcing an agreement among them to require the directors to vote for certain people as officers”.

In such a scenario who would get hurt? Nobody. There are no outside 3rd party shareholders. Here all of the directors are the sole shareholders who agree to the contract.

Long v. Park NY (1948) (note case)

In this case only one shareholder was given full authority to supervise and direct the operation and management of the corp. (through shareholders agreement)

The directors could not change the management. Only the one shareholder held this power. Thus the court held that the powers of the directors over the management were completely sterilized.

This contract did more than impinge slightly on the directors ability to control the business, it sterilized all of the directors power. The directors had no control. Clearly this is an illegal contract and is void against public policy. You can’t contract away all the directors ability to control the business activities of the corporation. This type of contract was far beyond the exceptions of the Dodge case.

Galler v. Galler (Illinois 1964)

Facts:Here there was a shareholder agreement which required the board to make certain dividend payments (as long as there was a certain amount in surplus), required the election of certain persons to specified offices for a period of years, also had a salary agreement for officers.

Holding:Ct looked at the Clark case and held that if there is no public injury and the minority shareholders are not injured, then the agreement would be upheld.

Here all the shareholders were members of the board. The shareholders elected officers, as well as other requirements which are really in the power of the board to decide not the shareholders’; however, here all of the shareholders were members of the board so it’s ok for them to have this agreement in the shareholders agreement. If there were other shareholders then there might have been a problem.________________________________________________________________________

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OK Section 1055 (A) Can have restrictions on the transferability of shares. You would want this provision with a closely held corporation. Want to control who is going to own shares in the closely held corporation)

Zion v. Kurtz (NY 1980)

Facts:

Zion (put assets as collateral to Kurtz (acquired the corp)secure the loan for the

Corporation)

2 of them created Group Corp under Delaware Law

In return for Zion’s placing of assets he got all the class A stock, and Kurtz got all class B.

Zion and kurtz agreed that all business transactions had to be approved by the class A stockholders (Shareholder’s agreement)

Zion brought suit when the corporation entered an agreement which he did not consent to.

Section 350 of Delaware allows agreements of majority shareholders which would restrict the activity of the board. This provision only applies to close corporations. This is Delaware law, don’t have this is not OK law. Not a similar provision in OK.

Problem was that the corporation did not follow Delaware’s closely held corporation statute when forming the corporation. OK does NOT have a close corporation statute. Delaware does.

The contract entered into had a further assurance clause in it that stated, if the corp fails to follow correct procedures, this would not render the contract void. Ct held that the further assurance clause allows the corporation to make any necessary correction and to file the necessary amendments to make the corporation a proper closely held corporation, thus section 350 applies even though the corporation was not formed properly under the closely held corporation statute of Delaware.

Remember this is a NY court interpreting the laws of Delaware. The corp was incorporated in Delaware.

Nixon v. Blackwell (Delaware 1993)

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Same facts as above, however the Delaware courts did not agree with NY’s interpretation of Delaware law. Ct held that section 350 only applies to closely held corporations which are properly formed under the closely held corporation statute of Delaware. Thus the court would not allow a corporation to enter into a shareholder agreement which would restrict the control of the board of directors, to a corporation which failed to properly follow the closely held corporation statute of Delaware. (So 350 would not apply)

You shouldn’t name your directors in your certificate of incorp.

1027 Board of directors(B): The board of directors shall consist of one or more members. The number is fixed in the bylaws, unless the certificate of incorp sets the number, in which case a change in the # of board of directors would require an amendment to the article of incorp.

Directors need not be shareholders unless required by the bylaws or the certificate of incorp. The certificate of incorp or the bylaws may require other qualifications for directors. A majority of the total # of directors shall constitute a quorum for the transaction of business unless the certificate of incorp or the by laws require a greater #.

Neither the certificate of incorp or the bylaws may provide that a quorum may be less than 1/3 of the total # of directors.

The vote of the majority of the directors present at a meeting at which a quorum is present shall be the act of the board of directors unless the bylaws or the certificate of incorp require a vote of a greater #.

So the board in OK can set the # for what constitutes a quorum, as long as it is not less than 1/3 of the total # of directors.

1061 Quorum and required vote of shareholders: A quorum shall never consist of less than 1/3 of shareholders entitled to vote at a meeting.

1) Unless the bylaws or the certificate of incorp state otherwise, a majority of the shareholders present in person or represented by proxy, at a shareholders meeting ,who are entitled to vote, constitute a quorum.

2)In all matters other than the election of directors, an affirmative vote of a majority of the shareholders, present in person or represented by proxy, at the meeting and entitled to vote, shall be the act of the shareholders

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4) directors shall be elected by a plurality of the votes of the shares present in person or represented by proxy at the meeting and entitled to vote on the election of directors

5) 1068 Vacancies and newly created directorships:

A.1. Unless otherwise provided in the certificate of incorporation or bylaws:a. Once directors are removed, the vacant spots can be filled by a

majority vote of the directors currently in office, even if such vote is less than a quorum.

Proxy- giving someone else the right to vote for the 5 of shares you own.

Record owner- The person who is listed as the owner of the shares on the corporate books.

Beneficial owner – Person who has all of the real and actual ownership rights.

The record owner and the beneficial owner may be a different person. For eg. If you by stocks from a clearing house, they hold the certificate yet you are the real owner who reaps the benefits of the stocks (dividends etc)

Salgo Case:

Facts:The election inspector blew off the plaintiff’s shares and his right to vote because the shares were held by a Br trustee.

Holding:The court held that the trustee was merely the beneficial owner and the record owner was the plaintiff. The rule is that eligibility to vote at a corporate election is determined by the corporate records rather than by who the beneficial owner is.

The beneficial owner can protect his interest by requiring a transfer on the books or by demanding a proxy from the record owner.

In this case the trustee, the beneficial owner did nothing. So Defendant cannot assert that the trustee held the right to vote.

1057 B Authorization of Proxy: Each shareholder entitled to vote at a meeting of shareholders, or to express consent or dissent of corporate action in writing, may authorize another person to act for the shareholder by proxy, but no proxy shall be voted or acted upon after 3 years from its date unless the proxy provides for a longer period.

1064 Shareholders entitled to vote:C: Look to the stock ledger to determine who is entitled to vote.

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1039 Stock Certificates and Uncertificated sharesShares of stock shall be represented by shares unless the board of directors

determines that some or all of any class shall be uncertificated shares.

Every holder of stock in a corporation is entitled to have a certificate signed by the chairman or vice chairman of the board of directors, or the president or vice president, and by the treasurer or an assistant treasurer or the secretary or an assistant secretary of such corporation, certifying and representing the number of shares owned by him. Such entitlement shall apply equally to a holder of uncertificated shares.

The signatures may be by facsimile.

Cumulative voting- when electing directors, this allows a shareholder to multiply the # of his shares by the # of director’s to be elected, and to cast the total # for a single candidate or for a selected few candidates.

1059 Cumulative VotingThe certificate of incorp may provide for cumulative voting

So you must opt in to have cumulative voting. If not in certificate of incorp, you don’t have it.

It’s designed to allow minority shareholders some representation the board.(Enables them to elect a few directors)

EG: #1A owns 18 sharesB owns 82 shares

Non Cumulative(Straight voting)

If it’s straight voting for 5 directors then B, the majority shareholder would be the one to elect all of the directors. Under straight voting, you are allowed to cast as many votes for each candidate equal to the # of shares you have. So B would cast 82 votes for each director of his choice, thus electing the entire board. The minority would have no say.

Cumulative: With cumulative voting A would have 90 total votes which he can cast for one single candidate or he may distribute the votes out how he likes. (18 shares x 5 directors = 90)

B would have 410 (82 x 5)

Say A uses all 90 votes for candidate #1.

If B straight votes, meaning that if B gives each of his candidates 82 of his votes, then A is assured to be able to elect 1 director by voting his 90 votes for one candidate.

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EG #2 : A has 300 votes B has 200 votes5 directorship positions to be filledAssume A votes straight (gives each candidate 60votes [300/5])

B knows that A is going to vote straight, so B uses his cumulative voting right and distributes his votes as follows

67 votes for candidate #1, 66 for #2, 65 for #3, 1 for #4, and 1for #5. Under this scenario, B is guaranteed to elect #1, #2,and #3 and now has control on the board. So a minority shareholder may be able to elect a majority of the board.

Formula for determining the # of shares necessary to elect at least one director: SX= ------ + 1 D+1

S= the # of shares outstandingD= the # of directorsAssume there are 100 shares outstanding, and 5 director positions.

100 shares outstandingX= -------------------------------- + 1 = 17.67 shares are required to elect at least one 5 directors + 1 director.

If you have a certain # of directors you would like to elect the formula is as follows:

NSX = ------------ +1

D+1 2 (100)

So say you want to elect 2 directors: -------------- +1 = 34.33 shares5 + 1

So X would need 34.33 shares to be able to elect 2 directors.

Humphreys Case

Facts: In this case under the statute, you don’t have to have cumulative voting rights in your certificate of incorporation. You have to give 24 hour notice of intent to vote this way. Here the election is for 3 directors to be elected in successive years. Year 1 elect 1st director, so on and so forth.

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If there was only one director to be elected at a time then the minority shareholders had no chance to elect anyone because the majority shareholders merely cast all of their votes for their candidate and will win.

Thus this case illustrates that cumulative rights do not necessarily give rise to an assurance that the minority shareholders are guaranteed representation on the board of directors.

1027 Authority to removeH. 1. Any director or the entire board may be removed by a majority vote of shares entitled to vote at an election of directors, except as follows:

a. Unless the certificate of incorporation otherwise providesb. If the corporation has cumulative voting, and if less than the entire

board is to be removed, no director may be removed without cause if the number of votes to remove are less than the number of votes which initially elected the director.

If however the entire board is to be removed then you do not have to show cause.

1027 (d): Staggered Board:Allows for a staggered board, first 3 directors up for election this year, next 3 up for election the following year.

With a staggered board, you must have cause to remove a director. (Even if you are removing the entire board)

This will thwart the efforts of a corporate raider who wants to take over the corporation, and sale off the assets. The raider will not be able to get rid of the board of directors unless there exists cause for removal.

Ringling Bros case (Sup Ct of Delaware)

Facts:2 Owners of stock grouped together and entered an agreement that before they vote they would consult with each other to determine how they would both cast their votes. Both had to be in agreement. IF the parties disagreed then the matter would be subject to arbitration. Parties were in disagreement of how to vote so they brought the matter to arbitration to solve the matter. Arbitrator required the shareholders to both vote a certain way. One of the shareholders, Haley, went against the resolution of the arbitrator. Mrs, Ringling brought action. Haley argued that the agreement was void as against public policy.

Holding:Ct held that the agreement is valid and not against public policy. A group of shareholders may , w/o impropriety, vote their respective shares so as to obtain an advantage on concerted action.

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So shareholders may contract with each other to agree to vote the same at elections. Hoft note case addressed the issue of whether an irrevocable proxy may be granted. Generally, like other grants of authority to an agent, a proxy is revocable. There are however situations where a proxy is irrevocable. These situations involve a proxy coupled with an interest. Examples of an interest sufficient in law to support an irrevocable proxy are as follows:A proxy may be made irrevocable if the proxy is granted under an employment contract or for example in the situation where a company extends credit to another company in consideration for the irrevocable proxy.

1057E: Proxies A proxy shall be irrevocable if it states that it is irrevocable and if, and only as long as, it is coupled with an interest sufficient in law to support an irrevocable power.

172 F.2d 495: OK case which held that the defendant’s granting of proxy to an insurance company, which he held a majority interest in, was not sufficient consideration to support the company’s agreement to pay defendant 10% of proceeds of co. In other words granting of a proxy is not sufficient consideration for a contract.

OK cts. will likely follow this decision.

****NOT REAL SURE I UNDERSTAND THE ISSUE OF AN IRREVOCABLE PROXY what do we need to know????? (see above Brown Case:

Facts:Under a reorganization agreement, voting rights were vested solely in the hand of the preferred and common stock holders. The plan also called for a voting trust of all the preferred and common stock of the reorganized Co for a period of 10 years. All of the common and preferred stock were granted to 8 voting trustees and shares of the voting trust were issued to those who were entitled to distribution under the plan. The voting rights were to revert, on termination of the trust to the certificate holders in proportion to the number of shares they held. Right before the rights were to be given back to the holders of the trust shares, the trustees passed a resolution which would entitle bond holders to voting rights. Holders of the preferred and common stock brought suit to rescind the resolution

Holding:Court held that a trustee may not exercise powers granted to him in a way that is detrimental to the holder of the trust. The sale of the voting trust certificates by the corporation vested equitable rights to the holders of the shares and we cannot say that one

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might sell the equitable rights of preferred stock to a bona fide purchaser and after the sell destroy the rights vested in the certificates to the benefit of the original seller.

1063 Voting trusts and other voting agreementsA. One or more shareholders by agreement in writing may deposit capital stock

or transfer capital stock to any person authorized to act as trustee, who may be designated voting trustee, for the purpose of granting the trustee the right to vote with the shares for any period of time determined by the terms and conditions of the agreement.The voting trustee may vote the stock so issued or transferred during the period specified in the agreement.

C. 2 parties may enter into an agreement in which they agree to vote their shares of stock in a certain manner. (Similar to situation in Ringling Bros. Case)

A. This § shall not be construed to invalidate any voting or other agreement among shareholders or any irrevocable proxy. ( So shareholders agreements are not necessarily given up by this statute)

1073 Consent of shareholders in lieu of meeting:Consent in lieu of meeting does not have to be unanimous consent. Must have

consent in writing by not less than the minimum number of votes that would be necessary to authorize action at a meeting at which all shares entitled to vote were present and voted and shall be delivered to the corporation by delivery to its registered office in this state its principal place of business, or an officer or agent of the corp- having custody of the book in which proceedings of meetings of shareholders are recorded.

So shareholders can consent to corporate action in lieu of a meeting if the number of shareholders consenting is not less than the number of votes required to authorize the action at a meeting were all shareholders entitled to vote were present.

1056 B: Unless directors are elected by written consent in lieu of meeting of an annual meeting as permitted by this subsection, an annual meeting of shareholders shall be held for the election of directors on a date and at a time designated by the bylaws. Shareholders may, unless the certificate of incorp provides otherwise, act by written consent to elect directors.

Lehrman Case ( Sup ct of Delaware)

Facts:This case addresses the Delaware voting trust statute. Two series of voting stock were issued and outstanding AL stock and AC stock. The AL stock was owned by the plaintiff Lehrman and the AC stock was owned by Cohen. To prevent a deadlock between the two series of voting stock (each held equal voting rights) the board of

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directors came up with a resolution to issue AD stock which would only carry voting rights and would not be entitled to any distributions. Both AC and AL stock approved the resolution. The AD stock was issued to Mr. Denz. The board later decided to vote on the employment of Mr. Denz which would include granting non voting shares in addition to an annual salary. Both the AD and the AC stock voted Yes and the AL stock voted no.

Plaintiff owner of the AL stock brought action claiming that the AD stock 1) is a voting trust that is illegal because it is not limited to the 10 year period as required in the Delaware voting trust statute. 2) if it is not found to be a voting trust the stock is illegal as against public policy because it only grants voting rights and no other rights.

Holding:The test for determining whether a voting trust is created is:

1) Are the voting rights of the stock separated from the other attributes of Ownership

2) the voting rights granted are intended to be irrevocable for a definite period of time; and

3) the principal purpose of the grant o voting rights is to acquire voting control of the corporation.

The court held that the arrangement does not meet the test for a voting trust. The AD arrangement did not separated the voting rights of the AC or the AL stock from the other attributes of ownership of those classes of stock. Each AC and AL stockholder retained complete control over the voting of his stock.

It is true that the creation of the separate class of AD stock may have diluted the voting power which had previously existed in the AC and AL stock, however this is the normal consequence of adding additional voting stock. The creation of the new class did not divest and separate the voting rights which remain vested in each AC and AL shareholder.

As to the plaintiffs 2nd argument that the arrangement is against public policy because the stock only granted voting rights, this is invalid and not against public policy. There is nothing in Delaware law which requires a corporation to issues stock which grants both voting rights and a right to distributions of the corporation.

Ling Case Facts:Trinity savings is trying to collect shares which were used as collateral for a loan granted by trinity. Ling Co is arguing that there are transferability restrictions and the shares could not be transferred to Trinity..

The articles of incorporation for Ling state that

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1) NYSE must give approval prior to the sale of the stock2) The company must be given first opportunity of the purchase. If the

corporation elects not to buy the shares, then the sock must be offered to the other shareholders

Trinity claims that these restriction are invalid and have no effect. Texas law requires the restriction of transferability to be on the face of the certificate with a description on the back

Holding:The certificates complied with Texas law and the transferability restriction is non the articles of incorp. In addition to the requiring the restrictions to be on the certificate, it must be written in conspicuous terms( The terms must be written in a manner which could be seen by a reasonable person)The court held that the terms were not noted consciously, they did not stand out. Here however the ct held that if their is actual knowledge o the restrictions then they will apply even if the terms of the restrictions are not written conspicuously. Additionally the terms may not unreasonably restrict transferability. CT held that the restrictions were not unreasonable. The requirement of notice to all shareholders would be unreasonable if for eg there are 1,500 shareholders. Here there are only 20 shareholders in the co. Corporation may want to get rid of the requirement of informing all shareholders because a court may find that this is an unreasonable limit on transferability. With very small corporations it’s ok to leave it in.

Buy Sell agreements1) cut throat buy sell agreement. This is when you don’t know which side of the deal

you’re going to end up on. YOU may be the purchaser or the seller. It’s called a cross purchase agreement where each shareholder agrees to buy the other shareholders shares at a specified price if another shareholder dies. You want to set the price a fairly as possible.

You could 1)set an agreed upon value of the share and then update the price periodically. 2)Or you can create a formula to use to determine the value of the stock at the time of death of one of the shareholders. 3) Could use book value of the shares as of the date of death of the shareholder. 4) and you could have the shares appraised for value after the death.

C. DEADLOCKS

Gearing v. Kelly

Facts:There are four directors: Meacham

Kelly Sr.

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Kelly Jr.Margaret

Board meeting in ’61 and Margaret resigns. Meacham did not go to the meeting ( she had knowledge of the meeting, but chose not to go. There was an election held at the meeting and the Kelly’s elected there daughter in law to be a director and take Margarets place. A quorum was required to hold an election. The issue is whether the election is valid.

Holding:The court held that the election was valid because Meacham know of the meeting and that even though there was not a quorum at the meeting the court held that the election was valid based on the fact that even if Meacham did show up at the meeting the Kelly’s would have out voted her, thus Meacham cannot prevent the election by purposely not showing up to prevent there being a quorum. By not showing up she tried to freeze the action of the board.

1068 Vacancies and newly created directorships:a) Vacancies and newly created directorships may be filled by a majority of the

directors then in office even if it is less than a quorum; or can be elected by a sole remaining director.

1070 Contested elections of directors; Proceedings to determine validityA. A shareholder, director or officer may bring an application to the court for

the court to determine the validity of any election of any director.B. Any shareholder, or any member of the corporation w/o capital stock, may

bring an application to the court to determine the validity of any business matter which requires an election. The court will determine whether the election was valid.

Neidorff CaseFacts:David and Henry operated a corporation. Henry died and his wife took over his position. David did not get along with the old hag. David brought action to compel dissolution of the corporation. ( want to terminate the corp)

Dissolution may occur when you have an even 3 of directors who are equally divided and cannot resolve their differences, they will dissolve the corporation. Also can occur where the votes of shareholders are so divided that they cannot elect a board of directors, the holders of ½ of the voting shares may petition for dissolution of the corporation. Have it seize to exist.

Holding:Ct held that there were not adequate grounds to allow for a dissolution. The ct said it is a balancing factor. Must look at the damage to the public compare to the benefit to the owners.

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Ct held that dissolution is not an absolute right. It is only granted when the competing interests “ are so discordant as to prevent efficient management and the primary purpose of the corp is not being achieved.

The primary question is whether judicially imposed dissolution will be beneficial to the stockholders/directors and not injurious to the public.

D. MODERN REMEDIES FOR OPPRESSION, DISSENSION OR DEADLOCK

Davis Case

Facts:Plaintiff owned 45% of shares. The plaintiff brought suit for oppressive conduct toward him as a minority share holder. Plaintiff further claimed that there was a breach of fiduciary duty owed to the corporation.

Plaintiff asked to see the books of the corporation and was denied access and was told that he must produce his stock certificate. The defendant, Davis said that Plaintiff was not a shareholder and that he gave away his shares as a gift in 1960. However there was evidence to disprove this and plaintiff was in fact a 45% shareholder.

Holding:The court demanded a buyout of Plaintiff’s shares. Texas does not have a statute dealing with liquidation as a remedy for oppressive acts against a minority shareholder, however other jurisdictions do and Texas turned to these jurisdictions. The court held that Texas may, under their general equity power, order a buy out in an appropriate case where less harsh remedies are inadequate to protect the rights of the parties.

Ct held that oppressive acts are a very common violation which would justify a buyout in a closely held corporation where the shareholders do not have a ready market to sell his shares in.

Oppressive conduct is given a very broad definition and does not require fraud or illegal activities. What the defendant was doing was trying to freeze out the minority by not pay in him dividends. Court held that the actions were oppressive.

1094 Dissolution of joint venture corporation having two shareholdersA. Here the court does not have to rule on the dissolution. One of the

shareholders merely files intent to have the corporation discontinued and the assets liquidated. If both parties cannot agree upon the method of disposal of the assets, the court shall dissolve the corporation.

1096 Dissolution; procedure

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This section deals with the procedure for voluntary dissolution, where you want to dissolve the corp. It’s not mandated by the court. (In other words it’s voluntary dissolution not court mandated dissolution) A. Board, by majority elects to dissolve the corp. Board must then mail intent to

dissolve the corporation. There shareholders entitled to vote shall vote upon adoption of the resolution to dissolve the corp.

B. At a meeting, if a majority of the outstanding stock of the corp, entitled to vote, votes for the dissolution, then a certificate of dissolution shall be filed with the secretary of state.

C. Dissolution of a corp may also be authorized w/o action of the directors if all the shareholders, entitled to vote, consent in writing to dissolution. A certificate of dissolution shall then be filed with the Secretary of state.

D. If dissolution is authorized according to the above provisions, then dissolution shall be acknowledged and filed and shall become effective. The dissolution certificate shall include:

1) Name of the corporation2) date dissolution was authorized3) authorization is according to sections B & C4) names and addresses of the officers and directors of the corp.

E. A proposed resolution, not withstanding authorization by the shareholders, may be abandoned by the board of directors w/o further action by the shareholders or members.

F. Upon a certificate of dissolution becoming effective the corporation shall be dissolved.

Abreu Case:

Facts:Abreu Foods(Ab) 50% owned by Abreu plaintiff

50% owned by through La Preferida which is owned by 2 brothers. Ralph and William (both on the board of Ab.)

La Pref was the distributor for AB. Ralph,(defendant) one of the brothers created a company which directly competed with Ab. Ralph was removed from the board of directors for Ab and the lower court appointed a provisional director to take his place. The provisional director was the son in law of plaintiff.

There are several alternatives to judicial dissolution of a corporation:1) appoint a provisional director (what they did here)2) appoint a custodian 3) In an action by a shareholder, order a purchase of the complaining

shareholders shares.

Holding:

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Ct held that the provisional director must be impartial and that he is put in place as an alternative remedy to judicial dissolution in times corporate strife. If there is no traditionally impartial 3rd party with the skills and abilities necessary to fulfill the provisional director position within an urgent time frame, the court may use its discretion in appointing a provisional director, as long as the appointment is in the best interest of the corporation, even if that person seems to be aligned with a certain group of shareholders of the corporation. Thus the court held that appointing the son in law was in the best interest of the corp and allowed the lower courts discretion in appointing him.

There are several factors which a trial court should balance in evaluating candidates for the provisional director position:

1) degree of quality and past involvement in the corporation2) Understanding of corporations history and current situation3) need for immediate appointment4) degree of impartiality5) no allegiance to one of the deadlocked factions6) true concern for the best interest of the corporation

Court held that Ralph’s action were a breach of fiduciary duty owed to Ab, and that creating a corporation which directly competed with Ab, and that took Abs potential clients, was usurping corporate funds. Such action is a taking corporate opportunities and using them for oneself.

Court reversed the provisional directors vote to reimburse the plaintiff for attorneys fees, because the provisional director was instructed by the court, when he was appointed, to only vote when a deadlock arises, and there was no deadlock on this issue.

E. ACTION BY DIRECTORS

Baldwin Case

FactsKing, a director in Ag corporation sold corporate land to Baldwin. The execution of the deed to the land was never authorized at any board meeting. King merely had the directors approve and sign the deed at different times. There was never any proposal or approval at a board meeting. The issue is whether the sale is valid.

Holding:Court held that the action by each individual board member at separate times was not action of the board. Thus the action executing the deed is a nullity. They could not bind the corporation by their separate and individual action. The deed is ineffective and there has been no sale.

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In OK no corporate seal is required when selling corporate property. In Ok the president must sign sale of real estate. It must be an acknowledgment by the president. Should use the statutory form of acknowledgment. The statute has a standard acknowledgment form.

The above case is an old case and you would not see this today. A court would hold that the sale was valid. Today you could call a meeting or you could have a consent in lieu of meeting.

Mickshaw v. coca cola:

Facts:Feinberg, manager of Coke published a statement in the newspaper that those employees drafted in the war wold be paid the difference in what they received at coke and what the army was paying them. Plaintiff went off to war. After duty served he returned to work and sought the difference in what the army paid him and what he would have received at work. The directors never had a meeting regarding this policy, and never expressly approved.

Holding:The other directors had knowledge of the statement when it was published and never disregarded it. The court held that the directors inaction constituted an implied ratification of the policy and thus upheld it.

Cooke Case:Facts:A resolution was passed by the board enabling the president or vice president of the corporation to enter into K’s in the name of the corporation. The president, prior to takeover through the purchase of all the shares of the corporation, drafted an employment contract for himself and had the vice president sign it. Purchase of all the stock in the company would cause the purchaser of the corporation to be bound by all contracts validly entered into prior to purchase. Issue is whether the employment K is valid.

Holding:The employment contract was never presented to the board for approval. The court held that the resolution of the board enabling the president / vice president to enter into K’s on behalf of the corporation does not apply to agreements entered into with insiders. The resolution was referring to K’s with outside 3rd parties. The court held that the contract is invalid and was entered into in violation of fiduciary duties owed to the corporation.

Black Case

Facts:502 Shares of Harrison Corp owned by Mr Harrison, 498 owned by sister. Sister died w/o heirs and was never married. Mr. Harrison sold some corporate property, and then

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later decided to get out of the deal by claiming that he had no authority to sell the corporate property in his own capacity.

HoldingThe court held that a president of a corporation has no power to buy sell or contract for the corporation. A resolution may be passed by the board which empowers the president to enter into K’s in the name of the corporation. (was not the case here). The court held that in reality Mr. Harrison was not the sole owner of the corporation based on the fact that his sister probably had creditors who may be paid off by her shares of stock, and that it cannot be said that he is the sole owner until administration of her estate is complete. Thus the transfer was held invalid.

This case would be decided very differently today.

1028 Officers titles and dutiesA. The duties of each officer shall be stated in the bylaws or in a resolution of the board

of directors. Any number of offices may be held by the same person unless the articles of incorporation or by-laws state otherwise

B. Officers shall be chosen in the manner prescribe in the by-laws. Any officer may resign at any time upon written notice to the corporation.

D. A failure t elect officers shall not dissolve or otherwise affect the corporation.E. Any vacancy occurring in any office shall be filled as the bylaws provide. In the absence of any provisions, the office shall be filled by the board of directors or other governing body.

Lee Case

Facts:Crane co was bought out by Jenkins co. Jenkins president offered a former Crane employee, Lee, employment with Jenkins prior to the buyout. Jenkins orally stipulated that irregardless of what happens, whether he gets fired or quits at anytime, he will be awarded his pension which was accruing since being employed with Crane. Lee was later fired by Jenkins Co and they would not pay him his pension.

Holding:The lower court held that Jenkins president did not have the authority to enter into the pension agreement with Lee. The agreement was never presented to the board and there was nothing in the certificate of incorporation granting such power. Since the president did not have the actual authority to grant the pension K, this court held that it must analyze whether he had the apparent authority to enter into the K.

The general rule is that the president may bind the corp by acts arising in the usual and regular course of business but not for K’s which are extraordinary.

Whether called apparent authority or an “estoppel to deny authority”, many courts have recognized the injustice caused by the practice of a corporation to act through their

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executives and then later deny the action based on lack of authority of the contracting officer. This court held that whether an officer has the apparent authority to enter into extraordinary K’s is essentially a question of fact. Must look at the reasonableness of the K, the officer negotiating, corps usual method of conducting business etc…... This court held that it would not adopt any hard and fast rule against applying an apparent authority analysis to a pension agreement on the theory that they are in the same category as lifetime contracts and thus are extraordinary and beyond scope of Presidents authority.

Again, whether the officer has the apparent authority to enter into an extraordinary contract is a question of fact and must be analyzed on a case by case basis.

Reasonable men could differ on whether the president had the apparent authority to enter into the K, thus the case must be remanded and given to the jury. It was error for the judge to decide the case as a matter of law. (Must be analyzed on case by case basis)

This case is more modern.

Drive in Case:

Facts:Tastee Freeze Parent Corp Loan to Tastee Freeze National BankDrive in Corp Subsidiary Guarantee by Drive in for Tastee Freeze

Drive In executed a guarantee of payment to National bank for a loan made to Tastee Freeze. Drive in want the guarantee to be disallowed claiming that the officer who made the guarantee did not have the authority to make the guarantee

There was no resolution to the board dealing with the guarantee. However the bank did receive a copy of a certified resolution which had a corporate seal attached. This copy was issued by the Secretary of Drive in.

It seems that the secretary made up the document because there were no records in the corporate minutes dealing with the resolution.

Holding:the court held that the secretary gave the certification to the bank and such action was in the scope of the secretaries job. He was acting in his role as secretary and it was reasonable for the bank to rely on the document. Court held that Drive in is estopped from denying the guarantee because of the certificate. The secretary is the person who would certify the documents and it was within his power to do so. Even though there was no record of approval of the board, the guarantee, In absence of knowledge by the bank that the certificate was false, is binding.

1016 Specific Powers

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Every corporation shall have the power to:1. Have perpetual succession by its corporate name, unless a limited period of

duration is stated in the certificate of incorp.2. Sue and be sued3. have a corporate seal4. own lease rent sell real and personal property5. Appoint officers and agents and provide compensation6. Adopt, amend and repeal bylaws7. Power to dissolve itself8. Conduct its business within the state9. Make donations for the public welfare and in time of war or emergency10. Be an incorporation, manager, or promoter of another corp11. Participate with others in any corporation or other association12. Transact in business which will be of aid to any governmental authority13. Make contracts, including contracts of guarantee, incur liabilities,

borrow money, issue notes, bonds and other obligation, and secure any obligations by mortgage, or pledge of any other property

14. Lend money15. pay pensions, implement profit sharing or stock options etc16. Provide insurance for employees. Acquirement of shares of stock of a

shareholder at his death

On an upstream guarantee, as found in the Drive in case, even though OK law allows this, if the subsidiary can’t show a benefit received for guaranteeing the loan the guarantee may be disallowed under the fraudulent conveyance statute. (similar to Br’s avoidance of fraudulent transfers power)

The question would be, what did the subsidiary gain by guaranteeing the loan? Generally hard to show a benefit.

Modern day analysis of authority of Actions of the Board:

1) Actual Authority of the boarda) express authorityb) implied authority

2) Apparent authority- this is estopping a corporation from denying the actions of the board who have apparent authority to enter into agreements (Drive in Case)

3) Ratificationa) Express ratification- Where the board collectively meets and decides

to ratify actionb) Implied ratification- Where the board has knowledge of the action but

does not do anything to prevent the action. The action is not objected to or expressly approved of. (McShaw v. Coke)

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IV. DUTY OF CARE AND THE BUSINESS JUDGEMENT RULE; CHAPTER 10

A. Business Judgment Rule-The business judgment rule is controlled by case law.

Litwin v. Allen (Sup ct of NY) :

Facts:Shareholders derivative suit brought by a minority shareholder seeking to impose liability of defendants for losses incurred as a result of certain transactions. The defendant directors of Guaranty Trust purchased unsecured debentures from Allegheny corporation. The debentures pay 5% interest. Allegheny sold the sold the debentures and had a clause which stated that within the next 6 months they have the option to repurchase the debentures at the price they were sold to Guaranty for. So if within that 6 month interim, if the price of the debentures increases, then Allegheny can repurchase @ the price for which they sold the debentures for.

After Guaranty bought the bonds the value continued to decrease.

Plaintiffs contend that this was an irrational business decision and the fact that Guaranty bears all the risk and that Allegheny gets all the benefits of the deal, for the 6 month period, indicates that no sound business person would enter into such a deal

The issue of the case is whether Fiduciary duties were breached by the directors choosing to purchase the debentures?

Holding:Ct held that the directors of Guaranty Trust bank are held to a standard of a reasonable banker. So they are held to a higher standard then laymen. Ct also held that the directors are not liable for mistakes while acting with reasonable skills and prudence. If the decision which they enter into using prudence and sound business skills turns out to be a bad decision, this is allowed and not against any fiduciary duties.

Here, the court held that in light of the substantial risk entered into, and that the investment was an unnecessary risk, liability should attach to the directors. There was no sound reason for entering into the investment. The investment goes beyond the prudent banking practices and decisions.

The defendants were held liable for the losses incurred during the 6 month repurchase option period. Because during the 6 month period the Trust couldn’t get rid of the securities when they were incurring a loss, based on the repurchase clause in the K. Thus the losses in that period are directly attributable to the directors poor decisions.

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The problem in this case was that no prudent banker would enter into such a risky deal and to do so constitutes negligence and thus liability should be imposed.

Shlensky v. Wrigley (Illinois ct of appeals)

Facts:this is a derivative stockholders suit by Minority shareholders. Plaintiff was a minority stockholder in the corporation who owned the Cubs. The cubs weren’t playing night games because Wrigley field didn’t have lights. Night games were the growing trend in the league at the time of this case.

Because of failure to put up lights, plaintiff claims that this is causing financial losses and that the condition will continue to deteriorate if lights aren’t put up. His claim is that more people would go to night games then day games and by failing to put up lights is causing losses to be incurred.

Holding:Ct looked to the business judgment rule and held that as long as the directors are acting in good faith, courts will not interfere with the business decisions of directors. Courts will only interfere with the business decisions of directors when there exists an element of

1) fraud2) illegality 3) or a conflict of interest.

Not wanting to have night games based on concern for the community is a sound business decision which will not be interfered with. There is no fraud, illegality or any conflict of interest in the decision not to have night games. Unless one of those 3 elements exists, courts should not interfere.

P679 notes THE DECISION MAKING PROCESS:5) Except in the most egregious case of bad judgment, or when there is evidence of bad

faith, the courts will not attempt to second guess directors business decisions.

Under the business judgement rule, where a director employs due care in the decision making process (due care in ascertaining relevant facts necessary to make an informed and sound decision) no liability will be imposed if the decision turns out to be a mistake/poor one.

So you only look for due care employed in the decision making process ( what facts did the director analyze in making his decision) not to the results of the decision.

What’s important is the decision making process used in making the decision. If the director uses due care and exercises good faith in the research process, no liability will exist for the decision reached by the director.

Van Gorkom Case (Sup ct Delaware)

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(very important case)Facts:Trans union is a leasing co of Railcars. It’s a publicly held company. The co is having problems using investment tax credits which allow the corporation to decrease their income tax. The corporations taxable income is too low to use income tax credits.Van Gorkum is the director/CEO. He’s approaching 65. The company is acquiring companies to try and increase their taxable income.

As an alternative to the acquisition program, Van Gorkum (VG) discussed the possibility of a leveraged buyout with the CFO, Romans. At a later meeting, VG and a Chief Operational Officer ran the numbers to determine a feasible price per share which would allow the corporate cash flow to service the debt within so many years.. They were not trying to determine the FMV of the stock they were only concerned with determining whether the cash flow of the corporation could service the debt at various prices per share. They determined at the meeting that they could cash flow the deal at $50 per share but not at $60 per share.

VanGorkum then met with the controller and asked him to calculate the feasibility of a $55 per share price. This was a figure chosen solely on the availability of a possible leveraged buy out and did not represent the FMV of the shares in Trans Union. VG then met with Pritzker (Pritz) who is a takeover specialist and proposed the leverage buyout to Pritz at $55 per share. VG did not inform the board of his actions.

One of the main questions is how did VG ensure that $55 per share is a fair price. Pritzker had his attorney draft a merger document and required that the board make its decision in 3 days. VG finally disclosed the deal to the board. At the meeting there was some negative reactions, especially by CFO Roman who thought that the price of $55 per share was too low. At the meeting VG outlined the deal but never disclosed how the $55 price per share was reached. The board also never asked how the price was reached/calculated. The proposal was given to the shareholders to vote on. The shareholders approved the LBO.

This is when the lawsuit is brought claiming that the corporation was undervalued by VG.

HoldingAt the time of the LBO Trans unions stock was selling on the mkt for $39-$24 per share. The court held that just because three was a premium in the purchase price over the market price does not mean that the price was fair. There was no evidence at all about the intrinsic value of the Co. The board/VG could have taken steps to ensure that $55 per share was a fair price which represented the intrinsic value of the corporation. They could have had ousted consultants determine the value of the co. Could have also performed an internal analysis to determine the FMV.

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The premium has nothing to do with the value of the co. The value of the co was never addressed or researched, thus this is not an informed/sound business decision and will not be covered by the business judgment rule.

The board lacked valuation information necessary to reach an informed business judgment. Trans union acted with gross negligence for failure to make an informed/sound decision. There was not enough relevant information to make such a decision.

The court remanded the case to lower court to determine the FMV of the corporation and to allow an award of damages for any value which exceeds the $55/ per share price.

1006 Certificate of incorporationA. The certificate of incorp shall set forth (mandatory provisions):

1. the name of the corporation which shall include one of the words, association, company or inc. etc…. Such name shall be distinguishable from

a. names of other corporations in the state which exists or existed during the preceding 3 years, or

b. names of foreign corps registered in the statec. names of then existing limited partnerships registered pursuant to the

laws of this state or registered as a foreign partnership in the state, ord. trade names or fictitious names filed with the secretary of the state, ore. corporate limited liability co or limited partnership names reserved

wit the sec of state2. The address of the corporations registered office in the state, and the mane of the corporations registered agent at the address;3. The nature of the business or purpose to be conducted or promoted. It is sufficient to state that the purpose of the corporation is to engage in any lawful act. By such statement all lawful acts and activities shall be within the purposes of the corporation, except for express limitations, if any;4. The total number of shares of stock which the corporation shall have

authority to issue and the par value of each share, or a statement that all such share s are to be w/o par value. For non profit organization the article of icorp shall state that they are unable too issue capital stock.

5. The name and mailing address of incorporators;6. IF the powers of the incorporator is to terminate upon the filing of the

certificate of incorp, the names and mailing addresses of each person who is to serve as directors until the first annual meeting of shareholders;

B. In addition, the certificate of incorporation may contain (permissive provisions)1. Any provision regulating the powers of the corporation, it’s officers,

management, the shareholders etc..; 3. a provision which grants shareholders or a certain class of shareholders, the

preemptive right to any or all additional issues of stock of the corp of any or all classes. No shareholder shall have a preemptive right unless such right is granted by the certificate of incorp. Preemptive rights if granted shall not extend to fractional shares.

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4. Provisions requiring , for any corporate action, a larger proportion of votes by holders of voting stocks, or a larger number of the directors, than is required by the provisions of the OK General Corporation act;

5. A provision limiting the duration of the corporations existence to a specified date; otherwise the corporation shall have a perpetual existence;

6. a provision imposing personal liability for the debts of the corporation on its shareholders or members to a specified extent and upon specified conditions; otherwise the shareholders or members of a corporation shall not be personally liable for the payment of the corporation debts, except as they may be liable by reason of their own conduct or acts;

7. a provision eliminating or limiting the personal liability of a director to the corporation or its shareholders for monetary damages for breach of fiduciary duty as a director , provided that such provision shall not eliminate or limit the liability of a director for:

a. for any breach of the directors duty of loyalty to the corp or its shareholders; or

b. for act or omissions not in good faith or which involve intentional misconduct or knowing violation of law; or

c. under 1053 of this title; or d. for any transaction from which the director derived an improper

personal benefit.No provision shall limit or eliminate the liability of a director for any act occurring prior to the date when such provision becomes effective.

C. It shall not be necessary to set forth in the certificate of incorporation any of the powers conferred on corporation by the provisions of the OK general corp act.

1006 B. (7) a-dThe differences between a&d: a) is dealing with breach of duty of loyaltyb) is dealing with improper personal benefitSo you can eliminate liability in all areas other then those listed in a-d.

Cede and Co (Delaware case):Once the business judgment rule is shown to be violated then the BOP is no the defendant to establish fairness of the transaction which was entered into.This is the rule in OK as well.

Gall v. Exxon:A special committee was put together to determine whether suit should be filed on behalf of Exxon for alleged channeling of funds to Italian officials by certain directors. The committee investigated the allegation and determined that a lawsuit would not be in the best interest of the shareholders or of Exxon. Plaintiff filed this action claiming that the committee was not independent and unbiased.Holding:

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Court denied defendants motion for summary judgment in order for plaintiff to show that the committee did not act with bona fide independence and good faith in determining that the action should not be pursued.

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The Aronson Test merely determinesWhether demand is futile. If the Aronson test is met, demand is excused and you then apply the Zapata test.

If it is not met then demand is not excused andthe business Judgment rule is applied to the directors decision to dismiss.The Aronson test is the boldportion below.

Is demand on board to file suit in the Aronson Business Judgment Test name of the corp futile(YES)(Bop On party bringing the suit)

(apply Araonson test) Zapata business judgment test:Is there reasonable doubt (BOP on corporation) use when demand is futilethat the board is YES demand is Assume the special committee disinterested/independent excused decides to dismiss the suit

NO Should the court respect the Then Demand on the committees decision to dismissboard to file suit is not excused. Must bring (apply Zapata test)demand to file suit to the board.

Make demand on the board

Board Was the board/special committee of directors independent and acting in gooddon’t make their Proceed faith and was there aproceed decision with the NO reasonable basis for the

with suit lawsuit decision to dismiss the suit(dismiss suit) YES Apply business apply balancing test; does the judgment rule to court , after exercising it’s own boards decision to business judgment test, believe proceed or not to that the decision is correct? proceed with suit

NO YES

Don’t dismiss the action Dismiss the actionProceed with suit

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Zapata Case ( Sup Ct Delaware):

Facts:Stockholder brought derivative suit. Directors were given stock option and could buy shares @ $12.15 per share. The board voted to move the option date up by a couple of months so that they could pursue the option prior to a tender offer announcement. By having the option date mode prior to the tender offer, this would save the board members $ in income taxes. The current price of the stock is $18 per, after the announcement the stock price will rise to $25 per. So the taxes prior to the announcement would be the difference between the option price and the market price which would be 18-12= tax on $6 gain. After the tender offer the tax on gain would be $13 per share. Stockholder is upset and claims that this is a breach of fiduc9iary duty and brought this action in the name of the corporation (stockholders derivative suit).

The plaintiff did not place a demand on the board to file suit because he felt that demand would be futile based on the fact that the board members were the defendants.

In June the board created a special committee to determine whether the litigation should be continued. The committee was independent and consisted on all new directors, so none were the defendants of the suit.

In OK as well as Delaware you can create a committee 1027 C: Committees; Board may designate one or more committees consisting of the directors of the corporation. The bylaws may allow, if one of the committee members is disqualified or absent, the members present whether it constitutes a quorum may elect a new committee member. The committee may exercise all powers and authority of the board. (except they can’t adopt, amend or repeal any bylaw of the corp)

The committee felt that the suit was not in the company’s best interest. Zapata corp then filed a motion to dismiss the suit.The issues of the case is whether a special committee has the power to cause a stockholder derivative action to be dismissed.The business judgment rule is controlled by case law in Delaware as well as OK.

Holding:Can the stockholder continue suit even though the board decided to dismiss the suit?Court held that the board may create a committee to decide whether to pursue the action. The Stockholder does not have a right to independently pursue the action without the boards approval. There are however exceptions to the boards refusal to continuing a derivative action:

1) When the refusal to continue the suit is a wrongful decision; or2) When the board is not independent and are influenced by other factors

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Thus you don’t just apply the business judgment rule to the boards decision. To determine, in a no demand stockholders derivative suit, whether the board/committees decision to dismiss the action is correct the court must decide:

1) Whether the board was acting in good faith and whether there was a reasonable basis for the decision to dismiss the suit; and

2) Does the court after applying it’s own business judgment test believe that the decision to dismiss was correct.

Aronson Case( sup ct of Delaware):

Facts:Issue is when is a stockholders demand for suit futile and thus not required in bringing a stockholders derivative suit?Derivative suit is filed by a shareholder. A consultant received a salary and interest free loans. The shareholder claims that this is a waste of corporate assets.

Holding:Demand can only be excused where the facts are alleged with particularity, create a reasonable doubt that the directors action was entitled to the protections of the business judgment rule. Here plaintiff failed to allege facts with particularity indicating that demand would be futile.

Summary of Zapata and Aronson:Zapata: Only applies in cases where demand on the board to bring the action is futile. In other words it applies to cases where the shareholder is not required to make demand to the boardAronson: Used to determine whether demand on the board is futile. If it is then you apply the Zapata test, if not, the court applies the business judgment rule to the boards decision to dismiss the action.

Aronson makes it clear that demand will almost always be required unless a majority of the board is so directly self interested/independent that the business judgment rule would not protect the interests of the shareholders/corporation.

1027 Board or directors; powers; number; qualifications; terms ; and quorum; committees; classes of directors; not for profit corporations; etc

A. Board of directors; Business affairs of every corporation shall be managed by a board of directors. Except as may be provided for otherwise in the certificate of incorp.A. Number, qualifications, terms and quorums; The board of directors shall

consist of 1 or more members. The number of directors shall be fixed by the bylaws or by the certificate of incorp. If fixed by the certificate of incorp, the a change in the # of directors shall be made by amending the certificate. The certificate of incorp may prescribe qualification for directors.

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Any director may resign at anytime by written notice to the corporation. A quorum consists of a majority of the total # of directors, for the transaction of business, unless the certificate of incorp or the bylaws require a larger #. A quorum may not be less than1/3 of the total # of directors.

A vote of the majority of the directors present at a meeting at which a quorum is present shall be the act of the board of directors, unless the certificate of incorp or bylaws require a larger #.

B. Committees; Board may designate one or more committees consisting of the directors of the corporation. The bylaws may allow, if one of the committee members is disqualified or absent, the members present whether it constitutes a quorum may elect a new committee member. The committee may exercise all powers and authority of the board. (except they can’t adopt, amend or repeal any bylaw of the corp)

D. Staggered Board: Allows for a staggered board, first 3 directors up for election this year, next 3 up for election the following year.

E. reliance upon books; any director or committee member created by the board shall be fully protected in relying in good faith upon the records of the corporation and upon information opinions, reports or statements presented by any of the corporations officers, employees or committees of the board.

F. Action without meeting; Unless otherwise restricted by the bylaws or the certificate of incorp:

1)Any action to be conducted at a meeting of the board of directors may be conducted without a meeting, if all of the board members consent in in writing and the writings are filed in the minute book for corp meetings2) The board may conduct and have it’s meetings in an office outside of state.3) board shall have the power to fix the compensation of directors4)Members of the board may participate in a meeting by telephone asas long as all of the board members can hear and communicate witheach other.

G. Corporations not authorized to issue capital stock, can include in their articles of incorp, that a quorum is less than 1/3 of the directors.

H. 1Any director or the entire board of directors may be removed with or without Cause, by a majority vote of shareholders entitled to vote at an election of directors, except as follows:

a. shareholder may only remove directors for cause in corporationsthat have staggered board voting as provided for in § D, unless the certificate of incorporation provides otherwise.b. if the corporation has cumulative voting, if less than the entire board

is to be removed, no director may be removed without cause if the votes cast against the directors removal would be a sufficient number of votes to place the director in office.

2. When holders of a specific class of stock were entitled to elect one ormore directors, removal without cause of a director elected by that class

shall be based on the vote of removal of that class or series and not by the vote of the entire outstanding shares.

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Culker Case (Pennsylvania Case)Facts:PECO filed a motion for summary judgment to dismiss shareholder derivative suit. State requires a yearly audit of PECO. The audit revealed several problem areas in the electric co. As a result of the audit a stockholders derivative suit was filed for wrongdoing of certain directors. The Shareholder did not bring demand, deciding that demand was futile. The board created a committee to investigate the allegations. The committee consisted of 12 non defendant board members and 3 new outside directors. The corp also hired a law firm and CPA to investigate the matter. The committee found no evidence of bad faith dealing, concealment, or other breaches of duty and voted unanimously to dismiss the suit.

Holding:Court held that the business judgment rule should be used and that the committee does have the power to dismiss the suit. Here the court did not like the Zapata test and used their own independent business judgment analysis. The court uses the ALI test, which is basically the same as the BJR, ad found that the corporations decision to dismiss was ok. So the analysis used will depend on the jurisdiction you are in.

V. DUTY OF LOYALTY AND CONFLICT OF INTEREST CHAPTER 11

A. SELF DEALING

Marciano Case (Delaware sup ct):

Facts;The appeal is to dispute the lower courts validation of certain corporate debt. Marciano owned 50%Nakashes owned 50%Nakashes lent $2.5 M to the corporation which the lower court held that this loan was a valid debt owed by the corporation, notwithstanding it origin and the possibility of self dealing. The controlling Delaware statute is § 144 which is the same as OK 1030

1030 Interested Directors; quorumA. No contract between a corporation and one or more of its directors, or between a

corporation and any other corporation where one of its directors are directors or officers of, shall be void solely for this reason, or solely for the reason that the director is present at or participates in the meeting of the board which authorizes the K, if:

1. the material facts as to the directors relationship or interest as to the K are disclosed or are known to the board of directors, and the board in good faith

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authorizes the K by an affirmative vote of a majority of disinterested directors, even if the disinterested directors are less than a quorum;

2. The material facts as to the directors relationship or interest and as to the K are disclosed or are known to the shareholders entitled to vote, and the K is approved in good faith by vote of the shareholders; or (if don’t meet 1 or 2)

3. The K is fair as to the corporation as of the time it is authorized, approved or ratified, by the board of directors, or by the shareholders.

B. Common or interested directors may be counted in determining the presence of a quorum at a meeting of the board of directors which authorizes the K.

An example under 1 is say you have 7 directors and 4 are interested, then 2 out of the 3 disinterested directors must vote to authorize the K.

The plaintiff in case at bar is stating that the loan K by Nakashes is void, so the issue is do we meet 1, 2, or 3 of § 144 (Delaware)1030(OK)

1 does not apply here because the board did not approve the loan K. 2, also does not apply because there was no vote by shareholders. So the issue is whether the loan is fair as to the corporation. Here it may have been a fair contract but it could not have been voted on by the board because the board is deadlocked, thus because the board is unable to vote on it the plaintiff is claiming that it is impossible to comply with 144 (3) {1030 (3)} and that therefore the loan is void. Defendant, Nakeshes says that an intrinsic fairness test should be applied to the loan. Must analyze the fairness of the deal.

Holding:Court held that “just as the statute does not allow unfairness, neither can it invalidate fairness, and if upon judicial review the transaction withstands an intrinsic fairness test it should not be found void. The terms of the K were found to be fair and should be upheld.

This case illustrates the limitations to 1030 and how courts will uphold fair contracts. Here the board was deadlocked so it would have been impossible to comply with 1030.

Note 10 p. 761 Most state statutes contain provisions prohibiting loans to employees or directors.

1029 (does the exact opposite of statement above) A corporation may make a loan, or guaranty a loan, to an employee or director, provided that it is expected to benefit the company.

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Hellen case (NY case):

Facts:Minority shareholder derivative suit(brought by 7 of 62,000 minority shareholders) claiming that the bonus plans in place for the directors are improper payments and constitute a waste of assets. (directors received 1% of profit)The plan was approved by the shareholders several years ago. The plaintiffs current claim is that the salaries bore no rational relation to services rendered.

Holding:Court held that the fact that a small number of shareholder brought the action is not reason in itself to dismiss the action. The majority can’t give away corporate property @ the detriment of the minority.Here however the minority shareholders did not show how the bonus was a waste of asstes. The court felt that they were not in a position to challenge the bylaw which were approved by shareholders. There is no way for the court to determine a fair salary. The courts are not in the position to determine salaries of directors. It is for the shareholders to vote and change the bonus plan.

Note 12 p. 770 The SEC adopted a rule requiring the corporation to include the salary of the CEO and the top 4 salaried executives in the corporations prospectus.

C. IRS Code; For publicly held companies and only for the CEO and the 4 highest paid executives, you cannot take out tax deductions for salaries above $1M.

A major exception to this is that you can deduct for compensation based on performance goals. Corporations have merely modified their compensation plans so that they are based on “performance goal”, this is how they get around the code.

Sinclair Case (Delaware sup ct):

Facts:Sinvin is a sub of Sinclair. Sinvin was established for operations in Venezuela. Sinclair 97% owner |Sinvin Sub

Action by the minority shareholder is complaining that Sinclair caused Sinvin to pay excessive dividends and that it restrained Sinvins ability to grow. At the time of the dividends Sinclair was in need of $. The dividend was paid to all shareholders. Sinvin paid out more than their earnings, which is allowed if there is an income surplus, which they did have a surplus so it was lawful to do this.

There are two tests, the intrinsic fairness test and the business judgment rule.IF it is self dealing then you apply the intrinsic fairness test and the BOP shifts to the other party.

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The standard under the intrinsic fairness test involves a high degree of fairness and a shift in the burden of proof. Self dealing- where the parent receives a benefit at the expense of the subsidiary and to the exclusion or detriment of the minority shareholders.A parent corporation owes a fiduciary duty to a subsidiary. Holding;Dividend Complaint: Here the minority also received also received dividends so there was no action taken to the detriment of the minority, so here the intrinsic fairness test should not be applied because we are not dealing with self dealing. The test used should be the business judgment test.K Complaint: the K complaint dealt with a situation where the parent benefited @ the expense of the minority shareholders so you must apply the intrinsic fairness test to this portion of the claim. Sinclair must prove the intrinsic fairness of the contract.

Winberger Case( Delaware sup ct)

Facts:Signal Originally owned 50.5% of shares in UOP. Bought out minority @ $21 per share |UOP subsidiary

6 of the directors of UOP were nominated by the Signal shares. 5 directors are on both the UOP and the Signal board. Signal had excess funds and needed to find an investment and decided it wanted to acquire all of UOP. Crawford is a director of both UOP and Signal.Signal directors conducted a study and determined that it would be feasible/fair to buy out the minority shares at $24 per share. They were planning a cash out merger. With a cash out merger the minorities shares are purchased at a certain price and now all the shares are owned by Signal. A financial analyst was brought in to issue a fairness opinion and stated that the price is fair.The buyout must be approved by the minority shareholders who are entitled to vote. Signal decided to offer $21 per share instead of $21 per share. Signal never disclosed that their board, which includes directors of both Signal and UOP, had determined that it would pay up to $24 per share and that such price was a fair price.

Holding:When there are directors on both sides of a transaction, they are required to demonstrate their utmost good faith. Signal owes a fiduciary duty to there subsidiary. Here the issue is whether the board, which contained both Signal directors and UOP directors, disclosed all relevant information about the deal to the minority shareholders? Signal has the burden of proving that the transaction was fair.

2 aspects of intrinsic fairness (for self dealing):1)fair dealing3) fair price

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Here the majority used knowledge which the minority was not privy. So it’s an issue of fair dealing with the minority. The majority Parent co had knowledge of the feasibility study and what they determined a fair price to be ($24 per share), yet they did not disclose this to the minority. So the fact that the majority of minority shareholders approved of the deal is irrelevant because there was deceit and because there was not full disclosure. Thus the vote is not an informed decision.So court held that Signal failed to prove that the deal was intrinsically fair. The problem here is that there was no full disclosure.

In the above case Signal could have offered the minority shares in Signal as opposed to paying them cash for there shares (cash out merger). Merger is where to companies merge and keep the name of one of the companies.Consolidation is where 2 corporations combine to form an entirely new corporation. Drop both names and come up with a new one.

The plaintiff could exercise his appraisal rights or as in the above case, the plaintiff can bring a breach of fiduciary duty action. So appraisal rights are not your only remedy.

If you have a poorly organized corporation you may be able to cure problems by merging the corporation with a well organized corporation. Can cure the improper aspects of the old corporation.

Can’t have a minority holder discount on the rice. Eg; decreasing share price of minority shareholders in a cash out merger. This is controlled by case law not statute

W/O bad faith, a shareholders exclusive remedy is an appraisal action.

In the past case the directors kept the fair price to themselves and this is a breach of fiduciary duty to the minority shareholders, thus appraisal rights were not their exclusive remedy. They sued for breach of fiduciary duty.

MERGER STATUTES:

1141 Requires a filing with the county clerk following a merger or consolidation, or a change of corporate name

Merger of 2 or More Domestic (OK) corporations1081 (long regular form)B. The board of each corporation desiring to merge shall adopt a resolution approving the agreement of merger or consolidation. The agreement shall state: (agreement of merger or consolidation)

1) terms and conditions of the merger or consolidation

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3) In the case of a merger, the changes or amendments of the certificate of incorporation of the surviving corporation, if no changes are to be made then it must state that the certificate of incorporation of the surviving corp is to be the certificate of incorp of the resulting corp.4) In the case of a consolidation, must include the certificate of incorp for the

new corp.5) Allows for a cash out merger. If you have majority shares then you get

shares of new corp. If you have minority shares then you get cash.6) Other details as are deemed desirable

C. The merger or consolidation agreement shall be submitted to the shareholders of both corporations at an annual or special meeting. Notice shall be mailed to all shareholders whether voting or nonvoting at least 20 days prior to the meeting. At the meeting the shareholders shall vote for it’s adoption or rejection by the voting shares. If the agreement is adopted by both corporations, the merger or consolidation shall become effective.

In lieu of filing an agreement of merger consolidation (found in B), the consolidated or merged company may file a certificate o merger or consolidation which states: (certificate of merger or consolidation)

1) The name and state of each corporation2) Consolidation or merger was approved by each of the corporations3) The name of the surviving o9r resulting corporation4) Changes to certificate of incorp for surviving corp (for a merger)5) In case of consolidation, the certificate of incorp for the new corp6) The agreement of consolidation or merger is on file at the principal place of

business of the surviving corp, stating the address7) That a copy of the agreement of consolidation or merger will be furnished by

the surviving corporation, on request and w/o cost to any shareholder of either corp.

1082 Merger of 1 Ok corp and 1 foreign corp(Corp outside of OK)A. Any domestic corporation may merge or consolidate with a corporation of

another state as long as the other states laws permit a merger or consolidation. The surviving corporation or the consolidated corporation may become a corporation of the state of either of the constituent corporations. Additionally, an OK corporation may merge or consolidate with a corporation organized under the laws of any jurisdiction not within the United States, so long as the surviving corporation or consolidated corporation remains in OK, and so long as the laws of the jurisdiction of the other corporation permit this.

B. The merger or consolidation agreement shall state:1) The terms and conditions of the merger or consolidation2) The manner of converting the shares of each corporation into shares of the

surviving corporation. Also must provide for the method of a cash out merger, if the agreement provides for this.

3) Other details deemed desirable

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4) Other provisions required to be included in the certificate of incorporation by the laws of the state which are to be the laws which shall govern the surviving corporation.

C. The agreement must be approved by each of the constituent corporation in accordance with the laws under which they were formed. Under OK corps, the agreement must comply with 1081. If the corporation does not file an agreement of merger or consolidation, the resulting corporation may file a certificate of merger or consolidation which must include basically the same things found in 1081 C 1-7.

D. IF the surviving corporation or resulting corporation is going to be a corporation of another state, then the surviving corp or resulting corp shall agree that it may be served process in the state of Oklahoma, and the Secretary of state is appointed as agent to accept service of process

Usually you will be required to file a certificate of merger in both jurisdictions. 1082 is pretty much set up the same as1081

1083 Merger of parent into subsidiary/Sub into Parent (short form)A. In any case where the parent corporation owns at least 90% of the subsidiary,

this § will apply to the merger of the parent with the sub. If the sub or the parent corporation are subs or corporations of another state the

other states laws must permit the merger. Must file a certificate of merger pursuant to 1007. If parent corp does not own all

the shares of the sub, the agreement must include whether there is a conversion of shares or a cash out merger.

If the Parent corporation is not the surviving corporation, the resolution shall include the method of conversion of stock of the parent corp into the surviving corp, and the merger shall state that the proposed merger has been approved by a majority of the shareholders of the Parent corporation at a meeting for which notice was given 20 days in advance of the meeting, if the parent corp is a corp of the state. If the parent corp is a corp of another state the resolution must state that the laws of that state were complied with.

B. If the surviving corp is an OK corp it may change it’s corporate name, and state new name in the resolution

C. 1081 D appliesD. In the event that the parent corporation does not own all of the stock of an

Oklahoma subsidiary, the minority shareholders of the subsidiary shall have appraisal rights as set forth in 1091.

E. Can merge with a corporation outside of the united states if there laws permit.

1083 is the short merger process which requires 90% ownership by the parent. If parent doesn’t have this then the corp must merge in the regular manner under 1081. The parent corporation is the only one who decides to do the merger and is the only one who must approve the merger. This is a difference between the short form and long form under 1081.

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1088 Rights and liabilities of corporation following merger/consolidation:Following a merger or consolidation, all property/liabilities become part of the newly formed corporation. Any tort against the disappearing corporation is now a tort against the surviving or resulting corporation

1091 Appraisal rightsA. Any shareholder of a corporation of this state who holds shares on the date of

making of a demand pursuant to subsection D, and who has complied with § D, and who has neither voted in favor of the merger or consolidation nor consented in writing, shall be entitled to an appraisal by the district court to determine the fair value of the shares

B. No appraisal right shall be available for any shares of stock of the surviving corporation if the merger did not require for its approval a vote of the shareholders of the surviving corp.For holders of shares in a subsidiary, which do not require the minority shareholders approval, then immediately prior to the merger, appraisal rights shall be available for the shares of Th OK subsidiary.

D. Appraisal rights shall be perfected as follows:1) if a proposed merger or consolidation is submitted for approval by the

voting shareholders, the corporation must inform each of its shareholders entitled to appraisal rights that appraisal rights are available. This must be done 20 days in advance of the meeting. Each shareholder wanting appraisal rights shall deliver to the corporation, before the vote on the merger or consolidation, a written demand for appraisal of the shares of the shareholder. The demand shall be sufficient if it reasonable informs the corp of the identity of the shareholder and that the shareholder intends to demand appraisal. A proxy or vote against the merger or consolidation shall not constitute a demand for appraisal.(You will lose your appraisal right if you vote).

2) If notice of merger or consolidation is given after the date of the merger or consolidation, then any shareholder entitled to appraisal rights may, within 20 days , demand in writing for the surviving or resulting corporation the appraisal of the holders shares.

E. within 120 days after the merger or consolidation the shareholder who complied with § C & D, and who are entitled to appraisal rights, may file a petition in district court demanding a determination of the value of the stock; provided, however, at any time within 60 days after the effective date of the merger or consolidation, the shareholder may withdraw his demand for appraisal and accept the terms offered by the surviving or resulting corporation. G. The court will hold a hearing on the petition to determine who has complied with the provisions of this § an who have become entitled to

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appraisal rights, and may dismiss the action as to any shareholder who does not comply with the courts request to provide their stock certificates for those shares represented by certificates.

D. After determining the shareholders entitled to appraisal rights, the court shall appraise the shares, determining there fair value. The court may also account for a fair interest rate to be paid to the shareholders. The court in determining the a fair interest rate may consider the rate which the corporation would have had to pay had they borrowed the money during the pendency of the appraisal proceeding.

E. The court shall direct the payment of the fair value of the shares, together with interest, if any, by the surviving or resulting corp to the shareholders. Interest may be simple or compound, as the court may direct. For shareholders holding uncertificated shares, payment will be made immediately. With certificated shares, the shareholder must first surrender the certificates to the corporation before they will be paid.

F. Upon application of a shareholder the court may order the payment of costs including attorney fees of the shareholders.

G. After the effective date of the merger or consolidation, no shareholder who has demanded appraisal rights shall be entitled to vote the stock for any purpose or to receive payment of dividends or other distribution on the stock, except those dividends which arose prior to the effective date of the merger or consolidation. No appraisal proceeding in the district court shall be dismissed without the approval of the court.

H. The shares of the surviving or resulting corporation into which the objecting shareholders would have been able to convert to, had they approved, shall have the status of authorized and unissued shares of the surviving or resulting corporation.

B. CORPORATE OPPORTUNITY

Northeast Harbor Golf Course (Maine Case)

Facts:President of club agreed to purchase abutting property to golf course. She did not disclose the deal to the board until after she purchased the property. She later purchased more property and told that club that they were protected and that she wouldn’t develop the property. She later decided she wanted to develop. The Board are upset with this and asked her to resign as president. Lawsuit was later filed against Harris, ex president, claiming that she breached her fiduciary duty and took advantage of corporate opportunity.

At the trial court level the line of business test was used and the court found that she did not breach her fiduciary duty. Under the line of business test, the opportunity has to be one which the corporation is involved in and they must be financially able to purchase the opportunity. So the trial court held that the Golf Club was not in the business of buying property and thus the action of president did not meet the line of business test and there was no breach.

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The court here does not like the test used by the trial court and uses the ALI test.

Holding:Under the ALI (American Law Institute) test the executive may not take advantage of corporate opportunity unless:

1) there is disclosure to the board of the opportunity2) the corporate opportunity is rejected by the board; and 3) Either;

a) the rejection of the opportunity is fair to the corporation; b) the opportunity is rejected by a vote of disinterested directors; orc) the rejection is by disinterested shareholders and the rejection is not a

waste of corporate assets.

If the corporate opportunity was rejected by a majority of disinterested directors, then the plaintiff who claims it’s a corporate opportunity has the burden of proving it was not a proper rejection.

If however, the corporate opportunity was rejected by a majority of the board which includes interested and disinterested board members and was not rejected by disinterested shareholders, then the burden of proving that the rejection is proper, shifts to the defendant. In other words if 3 b or c are not met then the burden is on the defendant to prove that the rejection and taking of the corporate opportunity was fair to the corporation.

1092 Sale, lease or exchange of assets, consideration, procedureA. At any meeting of the board, the corporation may sell, lease or exchange all

or substantially all of its property and assets for consideration including $ or property, shares in stocks, for the best interest of the corporation. Such resolution must be adopted by the holders of a majority of the stock entitled to vote.

B. Notwithstanding a proposed sale, lease or exchange of a corporation’s property and assets approved by the shareholders, the board may abandon such proposed action w/o further action by the shareholders.

Foreign corps must qualify to do business in OK.

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