business organizations outline full

8/2/2019 Business Organizations Outline Full

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Business Organizations


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I. Agencya. Agency: is the relationship which results from the manifestation of consent by one person to another that

the other shall act on his behalf and subject to his control, and consent by the other so to act. (Restatement

Agency, sec. 1)

b. three principal forms:i. principal and agent

ii. master and servant; and,iii. employer or proprietor and independent contractor

c. The relationship of principal and agent must necessarily involve some matter of business, but only thatwhere one undertakes to transact some business or manage some affair for another by authority and on

account of the latter, the relationship of principal and agent arises.

d. The principal must have control over the agente. Types of Authority

i. Actual Authority (principal expresses authority to agent)1. is expressly granted authority either orally or in writing. (Can be expressed or implied)2. An expression or manifestation from the principal to the agent (can be an individual or

entity) that agent may act for the principal

3. Expressed or Implieda. Implied: manifested indirectly by actions of the principal

4. Key: principal manifests authority to the agent5. Actual Authority: generally requires a three part test

a. Manifestation from a principal that someone else should act on his or her behalfb. the manifestation must clearly indicate that the other person will be under the

control of the principal

c. the other person, called an agent, consents thereto.ii. Implied authority:

1. is a derivation of actual authority and often means actual authority eithera. (1) to do what is necessary, usual, and proper to accomplish or perform an

agents express responsibilities or

b. (2) to act in a manner in which an agent believes the principal wishes the agent toact based on the agents reason-able interpretation of the principals

manifestation in light of the principals objectives and other facts known to the

agent.

2. is actual authority circumstantially proven which the principal actually intended the agentto possess and includes such powers as are practically necessary to carry out the duties

actually delegated.

iii. Apparent authority: (suggestion of agents authority from principal to agent)1. Manifestation of authority from the agent to the 3rd party

a. Is not actual authority but is the authority the agent is held out by the principal aspossessing. It is a matter of appearances on which third parties come to rely.

2. apparent authority is such power as a principal holds his agent out as possessing orpermits him to exercise under such circumstances as to preclude a denial of its

existence.

3. Belief of the 3rd party must be reasonablea. Provable by manifestation of principal holding the agent out with authority

iv. Inherent Authority


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1. Agent has the customary authority by the course of business to carry out the transaction(title)

v. Other Authority1. If agent has no authority and makes transaction on part of the principal, the principal can

ratify (accept) the transaction.

2. must show:a. Principal knowingly accepts the benefits of the dealb. 3rd party had not withdrawnc. Circumstances have not changed to the prejudice of the 3rd party

f. Ratificationi. Ratification is defined as the affirmance by a person of a prior act which did not bind him but

which was done or professedly done on his account. Restatement (Second), 1 Agency 82

(1958).

ii. Ratification re-quires acceptance of the results of the act with an intent to ratify, and with fullknowledge of all the material circumstances. Ansonia v. Cooper, 64 Conn. 536, 544, 30 A. 760

(1894).

iii. The original transaction was not purported to be done on account of the principal, the fact that theprincipal receives its proceeds does not make him a party to it. Restatement (Second), 1 Agency

98, comment f (1958).iv. There must be an opportunity to ratify or repudiate the contract

g. Estoppeli. Estoppel is really apparent agency

ii. 3rd party has detrimentally changed his or her position1. almost always involve a situation where the third party has changed their position

h. Undisclosed Principali. Cannot be a manifestation to the agent, or to the 3rdparty because the agency isnt disclosed

ii. But a 3rd party who discovers the person with whom he is dealing discovers the person is an agentdealing for a principal can prevail if they show an agency relationship existed

iii. Rest. Of Agency 3d. 2.06 Liability of Undisclosed Principal1. (1) An undisclosed principal is subject to liability to a third party who is justifiably

induced to make a detrimental change in position by an agent acting on the principals

behalf and without actual authority if the principal, having notice of the agents conduct

and that it might induce others to change their positions, did not take reasonable steps to

notify them of the facts.

2. (2) An undisclosed principal may not rely on instructions given an agent that qualify orreduce the agents authority to less than the authority a third party would reasonably

believe the agent to have under the same circumstances if the principal had been

disclosed.

i. Applicationi. Burden of Proof

1. The person alleging agency and resulting authority has the burden of proving that itexists.

2. Agency cannot be proven by a mere statement, but it can be established by circumstantialevidence including the acts and conduct of the parties such as the continuous course of

conduct of the parties covering a number of successive transactions

ii. Jenson Farms v. Cargill


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1. A creditor who assumes control of his debtors business may become liable as principalfor the acts of the debtor in connection with the business. Restatement (Second) of

Agency 14)

a. A security holder who merely exercises a veto power over the business acts of hisdebtor by preventing purchases or sales above specified amounts does not

thereby become a principal. However, if he takes over the management of the

debtors business either in person or through an agent, and directs what contracts

may or may not be made, he becomes a principal, liable as a principal for the

obligations incurred thereafter in the normal course of business by the debtor

who has now become his general agent. The point at which the creditor becomes

a principal is that at which he assumes de facto control over the conduct of his

debtor, whatever the terms of the formal contract with his debtor may be.

2. If a person contracts to acquire property from a third person and convey it to another, thatperson is only an agent of the third person if there is an agreement that the person is to act

for the benefit of the third person and not himself. Jenson Farms v. Cargill (309 NW2d

285 (Minn. 1981); p.7)

iii. Factors indicating a party is a supplier and not an agent are1. (1) That he is to receive a fixed price for the property irrespective of the price paid by

him. This is the most important (2) That he acts in his own name and receives the title tothe property which he thereafter is to transfer. (3) That he has an independent business in

buying and selling similar property. Jenson Farms v. Cargill (309 NW2d 285 (Minn.

1981); p.7)

j. Analysisi. Whether the agent reasonably believes because of present or past conduct of the principal that the

principal wishes him to act in a certain way or to have certain authority.

ii. The nature of the task or job may be another factor to consider. Implied authority may benecessary in order to implement the express authority.

iii. The existence of prior similar practices is one of the most important factors.iv. Specific conduct by the principal in the past permitting the agent to exercise similar powers is

crucial.


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Discussion of HUMBLE and HOOVER: Control- who can prevent these occurrences from happening? Here, the courtslooked at where the control was. Must look past the simple terms of the agreement to see how much oversight on theprincipals part is actually occurring. Who had the power to terminate the contract? Did only one party have the power toterminate or did both parties have the option to terminate the state of the relationship. Hoover showed us that just becausean entity offers advice does not itself establish an agency relationship. Control over day-to-day operations is the key testto determining the presence of an agency relationship.

**** Note that when concerned with Tort cases our inquiry will change focus. Level of control must be high to establishtort liability on the part of the superior.

FRANCHISE ISSUES: Keep an eye out for apparent agency as the franchiser. Miller v. McDonalds Corp.Liability is based on control over the instrumentality. Understand that the issue here is really sticky for McDonald's- theycan externalize the costs of these lawsuits by eliminating the standardization and control over the franchisees. But bydoing this they loose the uniformity across the board. - - - - - Liability is the price one pays for standardization.

Ira S. Bushey & Sons, Inc. v. United States

Test ofscope of employmentis whether the principal could have reasonably foreseen that arise out of and in thecourse of agents employment.

Activities of the enterprise do not reach into areas where the servant does not create risks different from thoseattendant on the activities of the community in general.

Turning the wheel did not serve the master, but his returning to the boat served the purpose of the employer (but

the judges did not feel as thought this was adequate). Friendley decided there must be a test of foreseeability. This relatesto actions close in time and close in space to the area where the employee performs their service... there can also be noelement of personal activity.

By opening the water wheels we can say it was foreseeable on the part of the coastguard that a seaman might dothat.. expecially since sailors are notorious for drnking alot.

Say for instance if the seaman shot a guard thinking it was his wifes lover, that would be a personal activity andnot related to any purpose of serving the master.

Another way of saying what friendly did was that its the negligence of the coast guard because they required thesailors stay on the ship and they could have foreseen some of their men would come back to the boat intoxicated.

Manning v. Grimsley Test of whether an employer is liable for an employees assault: did the plaintiffs activity interfere with the

employees ability to perform his duties successfully. If the conduct arises solely because the two parties had to interact with one another on the basis of the master then

there will likely be liability. must be an outgrowth of service for the employer the service must do more than create an opportunity for the servants tort or crime... it must come out of the

relationship between the servant, master, and third party.Magestic Realty v. TotiOrdinarily, if a person engages a contractor, who conducts an independent business by means of his own employees, to dowork not itself a nuisance, the person is not liable for the contractor's negligent acts in performing the contract.

Person is not normally liable for the negligent actions of a contractor involving work that is not in itself anuisance. Exceptions are:

When landowner retains control of the manner and means of doing the work which is the subject of thecontract

Where the landowner engages an incompetent contractor Activity is a nuisance per se

Landowner is liable for work that creates an inherently dangerous situationReading v. Regem

If a servant takes advantage of his service and violates his duty of honesty and good faith to make a profit forhimself, he is accountable to the master.

Evidence that servant takes advantage of employment. If cause of the profit is due to: Company assets of which he has control Company facilities he enjoys


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Position he occupiesGeneral Automotive Manufacturing Co. v. Singer

Failure to disclose all material facts of a side business related to ones employment can create accountability toones employer.

the point of singer is that he thought GA couldnt perfom the jobs he was taking.

II. Partnerships:If parties fail to address a specific issue the default rule will apply. Designed to avoidtransaction costs due to varying language in the contract, etc. Designed to induce people to take care of this

stuff in the beginning.

Partnership Formation and Existence

The General Partnership is the only form of business association that people can enter into without filing or

without a written document. Thus, it is the default for business associations.

Entity theory: Partnerships are tax-filing but not tax-paying entities. According to the RUPA, partnerships

can sue and be sued as entities.

Elements to determine the existence of a partnership:1. The intent of the parties (not necessary)

2. Right to share in profits

3. Obligation to share in losses

4. Ownership and control

5. Management (community of power in administration)

6. Conduct of parties towards third persons (hold themselves out as partners?)

7. Language in the agreement (does it exclude a party from the ordinary Rights and Duties?)

8. Rights of the parties on dissolution (Does anything change if one party leaves?)

(these amount to obligations-so look to obligations in the facts)

In effect, partners are principals and agents of each other.Partnerships must be for-profit.

a. Elementsi. Intent of parties

ii. Right to share profitsiii. Sharing of risk or lossesiv. Right to controlv. Contract

vi. Conduct towards 3rd partiesi. Rights upon dissolution

b. Applicationi. Formation

1. Partners v. Employeesa. Fenwick v. Unemployment Compensation Commission

2. Partners vs. Lenders

a. Martin v. Peyton3. Partnership vs. Contract

a. Southex Exhibitions Inc. v. RI Builders Assoc Inc4. Partnership by Estoppel

a. Young v. Jonesii. Fiduciary Obligations

1. Basic Fiduciary Dutiesa. Partners have a duty to make a full and fair disclosure to other partners of all

information which may be of value to the partnership


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b. The essence of breach of fiduciary duty between partners is that one partner hasadvantaged himself at the expense of the firm

c. Partner must account for any profit acquired in a manner injurious to the interestsof his partnership, such as commissions or purchases on the sale of partnership

property

d. A partner cannot without the consent of the other partners, acquire for himself apartnership asset, nor may he divert to his own use a partnership opportunity

e. He must not compete with the partnership within the scope of the business2. Fiduciary Duties

a. Meinhard v. Salmon3. Opting Out of Fiduciary Duties

a. Perretta v. Prometheus Dev. Company4. Leaving

a. Meehan v. Shaughnessy5. Expulsion

a. Lawlis v. Kightlinger & Grayiii. Partnership Property

1. Rights in specific partnership property: is the partnership tenancy possessory right ofequal use or possession by partners for partnership purposes. Does not exist absent the

partnership.2. Interest in the partnership: real interest of a partner is his share of the profits and surplus

and the same is personal property. The interest is the partners pro rata share of the net

value or deficit of the partnership

3. Right to management4. Putnam v. Shoaf: held that partner did not have an interest in settlement from litigation

with bank which occurred after she conveyed her interest to Shoaf

iv. Raising Additional Capital1. No Agreement

a. When there is no provision or agreement concerning raising additional capitali. No partner can be forced to contribute

ii. No new partner can be added without the consent of all the existingpartners

iii. No partners share can be changed without consent2. Approaches

a. Pro Rata Dilution: permits a managing partner to issue a call for additional fundsand provides that if any partner fails to contribute the funds called for, his share

is reduced according to the existing formula

b. Penalty Dilutionc. Pro Rata Loans: managing partner can call for loans from the partners to the

partnership

d. Managing partner can sell new partnership shares to anyone at whatever pricecan be obtained

v. Partner Management Rights1. UPA

a. 18(e) provides that in the absence of agreement to the contrary, all partners haveequal rights in the management and conduct of the partnership business

b. 18(h) provides that any difference arising as to ordinary matters connected withthe partnership business may be decide by a majority of the partners


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2. National Biscuit Co. v. Stroud: held that co-partner acting within the usual course of business couldbind the partnership despite other co-partner contacting supplier and refusing responsibility for the goods. In

a 2 person partnership, 1 co-partner could not restrict the authority of the other.

a. 59-39(1): every partners is an agent of the partnership for the purposes of itsbusiness, and the act of every partner, including in the partnership name of any

instrument, for apparently carrying on in the usual way the business of the

partnershi0p of which he is a member binds the partnership, unleswess the

partner so acting has in fact no authority to act for the partnership in the

particular matter, and the person whom he is dealing has knowledge of the factthat he has no such authority

b. 59-39(4): no act of a partner in contravention of a restriction on authority shallbind the partnership to persons having knowledge of the restriction

c. 59-45: all partners are jointly and severally liable for the acts and obligations ofthe partnership

d. 59-48(e): all partners have equal rights in management and conduct ofpartnership business

e. 59-48(h): any difference arising as to ordinary matters connected with thepartnership business may be decided by a majority of the partners; but no act in

contravention of any agreement between the partners may be done rightfully

without the consent of all the partners

3. Summers v. Dooley: hired a 3rdemployee over s objection. Court held that becauseco-partners have equal rights in management, and Dooley objected to hiring a 3rd

employee, there was no majority agreement and is not entitled to compensation for

expense incurred by hiring employee

a. UPA (1914) 18(h): any difference arising as to ordinary matters connected withthe partnership business may be decided by a majority of the partners

4. Day v. Sidley & Austin: held that where had no contractual right to a particular statusin the firm, concealing information that executive committee would assign as co-

chairman of the Washington office was not a breach of fiduciary dutybecause the

partners did not gain anything financially, did not acquire any more power thanpreviously held, and did not hurt the interests of the firm.

vi. Continuation Agreements: Provision providing that remaining partners will continue as partnersunder the existing agreement

1. UPA (1997) 601: dissociation2. UPA (1997) 801: dissolution

vii. Dissolution1. UPA provides that

a. a partnership may be dissolved by the express will of any partner when nodefinite term or particular undertaking is specified

b. power to seek dissolution must be exercised in good faith (fiduciary)2. UPA 323. UPA (1997) 801(5):4. UPA (1997) 18: each partner is entitled to an equal share of the profits and is

chargeable with a share of partnership losses in proportion to share in profits

5. Owen v. Cohen: court held order of dissolution and sale of partnership assets waswarranted where the co-partner refused to do work, persistently humiliated and

failed to cooperate


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a. General rule: trifling and minor differences or grievances which involve nopermanent mischief will not authorize a court to decree a dissolution of a

partnership

b. Courts of equity may order the dissolution of partnerships wherei. there are quarrels and disagreements of such a nature and to such extent

that all confidence and cooperation between the parties has been

destroyed or

ii. where one of the parties by his misbehavior materially hinders a properconduct of partnership business

6. Owen v. Cohen: where a partner advances a sum of money to a partnership with theunderstanding that the amount contributed was to be a loan to the partnership and was to

be repaid as soon as possible from prospective profits, the partnership is for a term

reasonably required to repay the loan

7. Collins v. Lewis: court held co-partner was not entitled to dissolution where he precludedthe other co-partner from performing his obligations under the partnership agreement

8. Page v. Page: held that implied term must be supported by evidence in the record andco-partner is entitled to dissolution of an at will partnership absent bad faith

9. A partner is not bound to remain in partnership, regardless of whether the business isprofitable or not.

10. Fiduciary Duties in Dissolutiona. A partner may not use adverse pressure to freeze-out a co-partner and appropriate

the business to his own use.

b. A partner may not dissolve a partnership to gain the benefits of business forhimself, unless he fully compensates his co-partner for his share of the

prospective business opportunity

c. Prentiss v. Sheffel: partners are not prohibited form bidding on partnership assetsat a judicial dissolution sale absent bad faith

d. Pav-Saver Corp. v. Vasso Corp.: held that co-partner was not entitled to return ofpatents and trademark contribute to the partnership where they wrongfully

terminated and, statute governs parties rights and obligations over the contractual

arrangement

Partnership @ will- any partner can dissolve

Partnership for term- any partner seeking to dissolve before expiration is dissolving wrongfully.

All partners have the power to dissolve, but it may be that the exersice of that power is wrongful and therefore leads

them to pay damages. Nevertheless, they do have the power to dissolve and that cannot be taken away.

Partners owe each other fiduciary duties and some courts think these extend to not taking advantage of another partne

following a dissolution or sale of the business.

1. UPA 38 38(a) Each partner who has not caused dissolutionwrongfully shall have

a. The right, as against each partner who has causeddissolution wrongfully, to damage for breach of contract

b. (b) the partners who have not caused dissolutionwrongfully if they desire can continue the business in the

same name, either by themselves or jointly with

othersor pay to the partner who has caused dissolution

wrongfully, the value of his interest in the partnership at

dissolution, less any damages


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2. (c) a partner who has caused dissolution wrongfully shall havea. Value of his interest in the partnership, less any damages

causedascertained and paid to him in cash, or the

payment secured by bondbut in ascertaining the value

of the partners share the value of good will of the

business shall not be considered

e. Kovacik v. Reed: where one co-partner contributes money and the other labor,absent agreement otherwise, neither party is liable to the other for losses

sustained by the partnership

i. Generally, in absence of agreement, law presumes that partners intend toparticipate equally in profits and losses in a common enterprise,

irrespective of inequality in amounts contributed. But the general rule

applies where each party contributes capital (money, land, tangible

property) or else was to receive compensation for services rendered to

the common undertaking which was to be paid before computation of

profits or losses

ii. Where one partner contributes the money capital as against the othersskill and labor, neither party is liable to the other for contribution for any

losses1. Rationale: where one contributes money and the other services,

in the event of loss each would lose his own capital

viii. Buyout Agreements1. Buy-out: agreement that allows a partner to end his relationship with other partners and

receive a cash payment, installments, or assets, in return for his interest in the firm

2. G&S Investments v. Belman:a. UPA (1914) 32: authorizes the court to dissolve a partnership when

i. Partner becomes in any other way incapable of performing his part of thepartnership contract

ii. Partner has been guilt of such conduct as tends to affect prejudicially thecarrying on of business

iii. A partner willfully or persistently commits a breach of the partnershipagreement, or so otherwise conducts himself in matters relating to the

partnership business that is not reasonably practicable to carry on the

business in partnership with him

b. Rights and liabilities of partners are subject to the partnership agreementc. Buy-out agreements are valid and binding although the purchase price agreed

upon is less or more than the actual value of the interest at death


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III. Limited Partnershipsa. RUPLA 303(a): a limited partner is not liable for the obligations of a LLP unless the limited partner is

also a general partner or, in addition to the exercise of his rights and powers as a limited partner, he takes

part in the control of the business.

i. However, if the limited partner takes control of the partnership business and is not also a generalpartner, the limited partner is liable only to persons who transact business with the limited partner

who reasonably believe, based upon the limited partners conduct, that the limited partneris a

general partner

b. RUPLA 303(b) a limited partner does not participate in control solely byi. (2) consulting with and advising general partner with respect to the business of the LLP

c. Holzman v. De Escamilla: held that two limited partners that controlled what crops to be planted,controlled the authority to draw partnership funds from the account and forced the general partner to

resign as managing partner were controlling the partnership business sufficiently enough to be considered

general partners and liable to creditors

i. A limited partners shall not become liable as a general partners, unless, in addition to the exerciseof his rights and powers as a limited partners, he takes part in control of the business


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IV. Differences between Partnerships and Corporationsa. Formation

i. Partnership: general partnerships can be formed informally (inadvertently), LP, LLP are moreformal

ii. Corporation: statutorily created and require formalities1. Articles of incorporation (charter)

b. Liabilityi. Partnership: General partners are jointly and severely liable

ii. Corporation: have limited liability (shareholders are not responsible for obligations ofcorporation)

1. Creditors of closely held often required a shareholder or personal guarantee2. Potential to pierce the corporate veil

c. Transferabilityi. Partnership: Under default rules, cannot transfer partnership interest which gives the acquirer the

right to be a partner (can transfer a partnership interest which allows the acquirer to collect profits

at share of partner)

ii. Corporation: freely transferrable interests1. No market for minority interest in closely held2. Not likely a market for 50% interest because all it gives is veto power3. May be a market for majority interest4. Most corporations have agreements which do not allow free transferability of shares

d. Continuityi. Partnerships: tend to be at will unless there is a specified term

1. Business generally can be continued by need an agreement among remaining partnersii. Corporations: continuity of life, will continue to exist if members die

1. Need an exit strategy as a practical mattere. Management

i. Partnership: not centralized, all partners share in management1. Can create an executive committee by agreement, or limit authority of GP by agreement

and give notice to 3rd parties

ii. Corporation: centralized in a board and executives, shareholders are not the managers1. Closely held: shareholders are generally directors and officers so they actually manage2. Freeze outs can occur

f. Flexibilityi. Partnership: great deal of flexibility, almost all default rule can be modified by agreement

1. Allocation of profits/lossesii. Corporation: very difficult to allocate profits, profits generally follow the stock

1. Can modify the capital structure to get more flexibility (priority shares)g. Taxes

i. Partnership: is not a taxpayer, taxed to the partners whether they are distributed or notii. Corporation: subject to double tax regime, income of the corporation is taxed directly to the

corporation. If after tax profits are distributed to the shareholder, the shareholder is taxed

1. Can extract income from the corporation that is deductible from the corporation (rental,salary, loans) to avoid the double tax

2. S-Corp: can elect a status like a partnership for terms of tax so that income is taxed toshareholders

h. Cost of Formation


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i. Partnership: cost is low because formality is absent, can be expensive to get around default rulesii. Corporation: cost is higher because of formality and legal counsel

i. Default Rulesi. Partnership: extensive default rules

1. Can be varied in partnership agreementsii. Corporation: less extensive

1. Can be altered by shareholder agreements


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Imagine X Inc wants to get shares from Y inc.- they have different shareholders.

There are a number of ways X inc can gain control of Y inc

they can purchase the assets of Y inc, can purchase the shares- making Y inc a subsidiary, or it can merge Y inc

into X.

V. Corporate Capital StructureCorp. is an artificial construct- it can only operate through agents. But it is still a person and has rights and responsibilities.

Shareholders are separate, their ownership does not give them any rights in the management of the corp. As a practical matter the management is

vested in a board of directors who are elected by the shareholders. Shareholders liability is limited to their investment in the Corp.

Corps can also last forever.

Shares a freely transferable.

i. Typically made up of debt and equityEquity is broken down into various classifications of stock1. Examples

a. Common stock:b. Preferred:c. Bonds:

ii. Preferred & Common Stock represent equityiii. Bonds represent debt

b. Voting rightsi. Common stock typically has voting power

1. Some classes of common can be non-votingii. Preferred stock typically does not vote, but there is nothing to prevent preferred from having a

vote

1. Sometimes preferred is allowed to vote in the event that a dividends have passed (nodividends for 3 consecutive quarters)

2. Non-voting preferred are likely to have a vote when impact will affect their interest(merger)

iii. Bonds do not votec. Returns

i.

Two kinds of return1. Annual return: dividends or interest

a. Common: dividend return is variable (generally not required)b. Preferred: usually fixed rate of return, can sometimes get 2nd dividendc. Bonds: return is fixed

2. Growtha. Common: participates in growthb. Preferred: typically does not (sometimes preferred participates in growth by

virtue of convertible-to-common feature)

c. Bond: doesnt participate in growthd. Board Seats

i. Common: typically get board seatsii. Preferred: typically does not get board seats (but can get vote if dividend is not paid)

iii. Bond: no right to vote on board seatse. Veto Power

i. Common: no veto power over board actionsii. Preferred: typically no veto power over board actions

iii. Bond: frequently exercise indirect veto power (covenant requiring corporation to refrain fromdoing something or meet conditions otherwise the bond gets called in)


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f. Rights on liquidationi. Bond

ii. Preferrediii. Common

g. Durationi. Common: unlimited

ii. Preferred: usually unlimited (often there is a redemption date with slight premium)iii. Bonds: limited by term (right to redeem before expiration date)

VI. Corporationsa. Corporation: an entity, generally for business, having the authority under law to act as a single person

[distinct from the shareholders] who own it and have rights to issues stock and exist indefinitely1. When sued, corp. will only loose the investment, no personal liability2. Divorces ownership from management [defined hierarchy]3. Ma requires:

a. Presidentb. Treasurerc. Clerkd. Director [number of directors depends on the number of shareholders, more than

3 shareholders=3 directors]4.

One person can be all positions and still escape personal liability for negligence ofemployees5. CANNOT commingle funds with personal accounts6. Process to form corp.

a. Get a Federal Tax IDb. Form bank accountc. Sell stock

b. Close Corporation: a corporation whose stock is not freely traded and is held by only a few shareholders[similar to partnerships]

1. Freeze out: process by which majority shareholders oppresses minority shareholders inefforts to force minority to liquidate in favor of majority

2. Minority shareholders can demand fair market value for shares in freeze-out situation3. Ct will examine how much the majority offered to pay for minority shares [majority can

avoid by not making any offers]c. Application

i. Promoters and the Corporate Entity1. A promoter owes a fiduciary obligation to the corporation, similar to that of agent to

principal

a. Promoter: a person who identifies a business opportunity and puts together adeal, forming a corporation as the vehicle for investment by other people

2. Rest. Of Agency 2d 388: unless otherwise agreed, an agent who makes a profit inconnection with transactions conducted by him on behalf of the principal is under a duty

to give such profit to the principal.

3. Southern-Gulf Marine Co No. 9, Inc. v. Camcraft, Inc.: held that who signed a contractwith individually and as president of a corporation to be formed could not avoid thecontract on the basis of lack of corporate existence. ratified the contract in a signed

letter after the initial agreement.

a. One who contracts with that he acknowledges as being and treats as acorporation, incurring obligations in its favor, is estopped from denying its

corporate existence, particularly where the obligations are sought to be enforced.


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b. Where a party has contracted with a corporation, and is sued upon the contract,neither is permitted to deny the existence, or the legal validity of such

corporation

ii. Parent & Subsidiary1. Parent: corporation who owns all the shares of common stock in another corporation2. Subsidiary: corporation whos common stock is held by another corporation3. Businesses choose the parent-subsidiary relationship because the parent is not liable for

debts of the subsidiary, which allows the parent to undertake activity without putting its

own assets at risk, beyond those it commits to the subsidiary

4. Frigidaire Sales Corp. v. Union Properties: parties may form a limited partnership with acorporation as the sole general partner

a. When shareholders of a corporation, who are also officers and directors,conscientiously keep corporate affairs separate from personal affairs, no fraud or

manifest injustice is perpetrated upon third parties who deal with the corporation,

the corporations separate entity should be respected

iii. Limited liability (Piercing the Corporate Veil)1. Corporate veil: formalistic procedures used to demonstrate acts and conduct of corporation

and its business transactions, affords directors of corp. immunity from liability

i.

Piercing corp. veil: judicial act imposing personal liability on otherwiseimmune corp. officers, directors, shareholders, for the corp. wrongful actsii. In order to pierce corp. veil, ct must find:

1. unity of interest2. fraud or injustice

iii. Ct will disregard corp. form and pierce corp. veil whenever necessary toachieve equity or prevent injustice

iv. Factors Ct will examine when deciding whether or not to pierce corp. veil:1. insufficient capitalization to carry out business [not enough money to

make transactions]2. failure to observe corp. formalities3. non-payment of dividends4. insolvency or debt at time of transaction in question5. siphoning of funds by dominant shareholder6. non-fixing of directors and officers7. absence of corp. records8. existence of corp. as merely a faade for individual dealings

2. Walkovsky v. Carlton: cannot pierce the corporate veil where the owner does not conductbusiness of the corporation for personal use. Corporate entity cannot be disregarded merely

because assets of the corporation, together with mandatory liability insurance, are insufficient

to satisfy recovery.

a. Courts will disregard the corporate form or pierce the corporate veil whenevernecessary to prevent fraud or to achieve equity

b. Whenever anyone uses control of a corporation to further his own rather than thecorporation's business, he will be responsible for the corporation's acts upon principleof respondeat superior applicable even where the agent is a natural person, and suchliability extends not only to the corporation's commercial dealings, but to itsnegligent acts

3. Sea-Land Services v. Pepper Source: must show both prongs of the test to pierce the veiland merely alleging an unpaid judgment is insufficient to satisfy the second (fraud or

injustice) prong

a. A corporate entity will be disregarded and the veil of limited liability pierced when


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i. There is unity of interest and ownership that the separate personalities of thecorporation and the individual no longer exist

ii. Adherence to the fiction of separate corporate existence would sanction afraud or promote injustice

1. Promoting injustice means something less than an affirmativeshowing of fraud

b. Factorsi. failure to maintain adequate corporate records or to comply with corporate

formalitiesii. commingling of funds or assets

iii. undercapitalizationiv. one corporation treating the assets of another corporation as its own

iv. Alter Ego Theory1. Roman Catholic Archbishop of San Francisco v. Sheffield

a. Alter Ego Theoryi. Where there has been an abuse of privilege, because equitable owner is

held liable for actions of the corporation

ii. Elements1. Corporation is not only influenced and governed by that person

(or other entity), but that there is such a unity of interest and

ownership that individuality of such person and corporation

ceased

2. Adherence to the separate corporate existence would promotefraud or injustice

iii. Factors1. Commingling of funds and assets2. Holding out by one entity that it is liable for the debts of another3. Identical ownership between the two entities4. Use of same offices and employees

iv.

Alter ego theory makes the parent liable for actions of the subsidiarywhich it controls, but there is no respondeat superior between subagents.

2. In Re Silicone Gel Breast Implants Product Liability Litigationa. Alter Ego (pierce the veil)

i. When a corporation is so controlled as to be the alter ego or mereinstrumentality of its stockholder, the corporate form may be disregarded

in the interests of justice.

ii. Court cannot disregard the fact that a parent is expected and required toexert some control over its subsidiary

iii. Totality of circumstances approach to evaluate whether a subsidiary maybe the alter ego of parent

iv. FactorsWhen attempting to pierce the veil of 3 companies with common shareholders look for similar bank accounts,

shareholders, etc.

All of these corporations should be melded together to compensate the plaintiff because they are such a similar

unit. Shareholders should not pay personal debts out of the accounts.

1. Common directors or officersCommon business departments2. Consolidated financial statements and tax returns3. Parent finances sub


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4. Parent caused the incorporation of sub5. Sub operates with grossly inadequate capatial6. Parent pays salaries and other expenses of sub7. Sub receives no business other than that given by parent8. Parent uses subs property as its own9. Daily operations are not kept separate10. Sub does not observe corporate formalities, such as separate

books, shareholder and board meetings


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v. Business Judgment Rule1. Business judgment rule: presumption insulating business decisions not involving self

interest or self dealing, that corporate directors actions are informed, in good faith w/bestinterest of corp. in mind

a. decision must be extremely gross for ct to overlook business judgment ruleb. One CANNOT challenge business judgment of board unless it is acting against

the best interest of the corp.c. To insulate business decisions corp. can get outside analysts reports supporting

transactiond. Majority shareholder can use business judgment rule to insulate decisionsconcerning:

i. Overcompensation of certain directorsii. Failing to pay dividends

iii. Keeping minority off board2. Test: Whether a board has validly exercised its business judgment must be evaluated by

determining whether the directors exercised procedural (informed decision) and

substantive (terms of the transaction) due care

vi. Corporate Opportunity Doctrinea. If youre acting in corp. capacity you CANNOT take the opportunity for yourself

as individual

b. If youre acting in individual capacity, you make take the opportunity foryourself

c. Ct will examine, time, nature, setting of when the opportunity arisesd. CAN take opportunity when:

i. Presented in personal capacityii. Not essential to the corp.

iii. Corp. has no interest or expectancyiv. Not wrongfully using resources of corp.

e. CANNOT take opportunity when:i. Corp. is financially able

ii. Opportunity is within corp. line of businessiii. Corp. has interest and expectancyiv. By taking, party will be placed in conflict of interest

vii. Direct Liability1. Rest. Of Torts 324A: one who undertakes, gratuitously or for consideration, to render

services to another which he should recognize as necessary for the protection of third

persons or things, is subject to liability to the third person for physical harm resulting

from his failure to exercise reasonable care to perform his undertakings if

a. His failure to exercise reasonable care increased the risk of harmb. He has undertaken to perform a duty owed by the other to the third personc. The harm suffered is because of reliance of the other or the third person upon the

undertaking

2. Existence of a parent-subsidiary relationship is a defense to such claimviii. Shareholder Derivative Actions

ix. Direct (representative): shareholder is personally harmed buy acts of corp. and brings actiondirectly against corp.

x. Derivative: suit asserted by shareholder on behalf of corp. b/c the corp. failed to take actionagainst wrong by 3rd party [generally against a director of corp.]

1. Corp. forms special litigation committee, composed of disinterested individuals, whichdecide whether or not it is in the best interest of the corp. to proceed w/suit

2. Business judgment rule applies where some directors are charged w/wrongdoing, so longas remaining directors making decisions are disinterested and independent


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3. Ct may properly inquire into adequacy and appropriateness of the committeesinvestigative methods and procedures

4. When board receives recommendation from committee, then votes against suit, it isterminated UNLESS there is self-dealing

5. Generally shareholder must make demand of board [one making claim must pay forreceipt of stock list]

6. Test: Under Delaware law, court applies two part test to determine whether the suit isderivative or representative

a.

Who suffered the alleged harm, the corporation or the shareholders individuallyb. Who would receive the benefit of any recovery or other remedy, the corporation

or the shareholders individually

7. Structural Bias: b/c shareholders on the board have interest in pursuing derivative suit,and hiring the special litigation committee, there is an inherent bias

8. Proxy: one who obtains votes from voluntary minority holder [i.e. Director gets votes asproxy b/c minority shareholder doesnt feel their vote is substantial in business decisions]

9. Cohen v. Beneficial Industrial Loan Corp., 337 US 541 (1949): held that state statuterequiring bond for derivative suit must be applied in federal court

a. Derivative suit: stockholder can step into the shoes of the corporation andexercise its rights, but the shareholder must first demand the corporation

vindicate its own rights (internal procedure)10. Eisenberg v. Flying Tiger Lines, Inc.: held that shareholder in a representative suit is notrequired to post bond

a. Under Cohen, a federal court sitting in diversity must apply state law providingsecurity for costs if the state court would require security in similar

circumstances.

xi. Settlements and Attorney Fees1. If a derivative action is settled before judgment, the corporation can pay the legal fees for

both the and (officer)

2. If there is a judgment for money damages imposed on (officers), the corporation isrequired to pay the judgment and MAY be required to pay the cost of defending if the

(officers) is fairly entitled to indemnity from the corporation3. Generally, a officer will be relieved of personal liability if the corporation pays large

fees to the s attorney in exchange for a settlement

4. Individual recovery: sometimes a court will award individual recovery in a derivativeaction, where corporate recovery would return the money to the hands of the wrongdoers

xii. Demand Requirement1. Complaint: NY Business Corporation Law 626 (c) provides that in any shareholders'

derivative action, "the complaint shall set forth with particularity the efforts of the

plaintiff to secure the initiation of such action by the board or the reasons for not making

such effort."

2. Presumptiona. Demand required: more clear that board is independent because by nature, the

board is not accused of failure to be independent that is why demand is required

b. Demand excused: judges would be more likely to scrutinize committee decisionwhen demand is excused, board isnt presumed independent

3. Demand Requirementa. A shareholder filing a derivative suit must either allege (1) the board rejected his

pre-suit demand or (2) allege with particularity why the shareholder is justified in

not having made a demand


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b. requiring plaintiffs to demand that the corporation initiate an action, unless suchdemand was futile, before commencing an action on the corporation's behalf

(Marx v. Akers)

4. Demand excused: if there is a reasonable doubt that board is incapable of making anindependent decision

a. Majority of board has a material financial or familial interestb. Majority of board is incapable of acting independently for some other reason as

domination or control

c. Underlying transaction is not the product of a valid exercise of business judgmend. A shareholder who makes a demand can no longer argue that demand is excusede. Purpose: deter costly baseless suits by creating a screening mechanism while

permitting the shareholder to bring suit when they can articulate particularized

facts

f. NY Demand Futility Exception (Marx v. Akers)i. (1) Demand is excused because of futility when a complaint alleges with

particularity that a majority of the board of directors is interested in the

challenged transaction.

1. Director interest may either be self-interest in the transaction atissue (receipt of "personal benefits"), or a loss of independencebecause a director with no direct interest in a transaction is

"controlled" by a self-interested director.

ii. (2) Demand is excused because of futility when a complaint alleges withparticularity that the board of directors did not fully inform themselves

about the challenged transaction to the extent reasonably appropriate

under the circumstances.

1. The "long-standing rule" is that a director "does not exempthimself from liability by failing to do more than passively

rubber-stamp the decisions of the active managers"

iii. (3) Demand is excused because of futility when a complaint alleges withparticularity that the challenged transaction was so egregious on its face

that it could not have been the product of sound business judgment of the

directors.

5. Self Interesteda. Directors are self-interested in a challenged transaction where they will receive a

direct financial benefit from the transaction which is different from the benefit to

shareholders generally

b. A director who votes for a raise in directors' compensation is always "interested"because that person will receive a personal financial benefit from the transaction

not shared in by stockholders

6. Corporate Wastea. Thus, a complaint challenging the excessiveness of director compensation must--

to survive a dismissal motion--allege compensation rates excessive on their face

or other facts which call into question whether the compensation was fair to the

corporation when approved, the good faith of the directors setting those rates, or

that the decision to set the compensation could not have been a product of valid

business judgment

7. Wrongful Refusal


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a. Shareholder who makes a demand is entitled to know promptly what action theboard will take

b. The shareholder, by making a demand, does not waive his right to a wrongfulrefusal claim

c. If the demand is made and refused, the board is entitled to the presumption of thebusiness judgment rule unless the stockholder can allege facts with particularity

creating a reasonable doubt that the board is entitled to the presumption

8. Abdication (Grimes v. Donald (Del. Sup. Ct 1996))a. If a contract would have the practical effect of preventing the board from

exercising its duties, it would amount to a de facto abdication of directorial

authority

b. A director may not delegate duties which lie at the heart of the management ofthe corporation

c. A court cannot give legal sanction to agreements which have the effect ofremoving from directors in a very substantial way their duty to use their own best

judgment on management matters

d. An informed decision to delegate a task is a business judgmentxiii. Role of Special Committees

1. Special Committee: a group of persons given by the board, the task to investigate a matteron the corporations behalf

a. Generally, corp. will use directors who were not on the board when the allegedmisconduct occurred and give them the authority to investigate OR will appoint

new members to the board

b. Board can act through the committee, and business judgment rule protects thedecision of the committee whether or not to pursue the action

c. Process: corp generally willi. Hire big name law firm

ii. Hire big name accounting firmiii. Hire former judge (preferably in the court where action is)

2. Auerbach v. Bennett: The court found that the decision of defendant's committee wasbeyond judicial inquiry under the business judgment doctrine. The court acknowledged

that it could inquire as to the disinterested independence of the members of that

committee and as to the appropriateness and sufficiency of the investigative

procedures chosen and pursued by the committee. However, the court concluded that

there was no basis to warrant either inquiry

a. Business judgment rulei. rule does not foreclose inquiry by the courts into the disinterested

independence of those members of the board chosen by it to make the

corporate decision on its behalf -- here the members of the special

litigation committeeii. the rule shields the deliberations and conclusions of the chosen

representatives of the board only if they possess a disinterested

independence and do not stand in a dual relation which prevents an

unprejudicial exercise of judgment

iii. While the court may properly inquire as to the adequacy andappropriateness of the committee's investigative procedures and


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methodologies, it may not under the guise of consideration of such

factors trespass in the domain of business judgment.

1. At the same time those responsible for the procedures by whichthe business judgment is reached may reasonably be required to

show that they have pursued their chosen investigative methods

in good faith

3. Zapata Corp. v. Maldonado: court established two-prong test to determine if theCommittee should be permitted to dismiss the action

a. Board members, owing a well-established fiduciary duty to the corporation, willnot be allowed to cause a derivative suit to be dismissed when it would be a

breach of their fiduciary duty

b. a board decision to cause a derivative suit to be dismissed as detrimental to thecompany, after demand has been made and refused, will be respected unless it

was wrongful

c. A demand, when required and refused (if not wrongful), terminates astockholder's legal ability to initiate a derivative action. But where demand is

properly excused, the stockholder does possess the ability to initiate the action on

his corporation's behalf.

d. Dismissing Derivative Claim Testi. (1) the Court should inquire into the independence and good faith of the

committee and the bases supporting its conclusions. Limited discovery

may be ordered to facilitate such inquiries.

1. Burden: The corporation should have the burden of provingindependence, good faith and a reasonable investigation, rather

than presuming independence, good faith and reasonableness

ii. (2) Court should determine, applying its own independent businessjudgment, whether the motion should be granted.

1. where corporate actions meet the criteria of step one, but theresult does not appear to satisfy its spirit, court can weigh how

compelling the corporate interest is in dismissal

4. In re Oracle Corp. Derivative Litigation: SLC has not met its burden to show the absenceof a material factual question about its independence. I find this to be the case because

the ties among the SLC, the Trading Defendants, and Stanford are so substantial that they

cause reasonable doubt about the SLC's ability to impartially consider whether the

Trading Defendants should face suit

a. Independence Testi. The question of independence turns on whether a director is, for any

substantial reason, incapable of making a decision with only the best

interests of the corporation in mind. That is, the independence test

ultimately focuses on impartiality and objectivity.b. In order to prevail on its motion to terminate a Delaware derivative action, a

corporation's special litigation committee (SLC) must persuade the Delaware

Chancery Court that (1) its members are independent; (2) they acted in good

faith; and (3) they had reasonable bases for their recommendations. If the SLC

meets that burden, the Chancery Court is free to grant its motion or may, in its

discretion, undertake its own examination of whether the corporation should

terminate and permit the suit to proceed if the Chancery Court, in its oxymoronic


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judicial business judgment, conclude that procession is in the best interests of the

corporation. This two-step analysis comes from Zapata.

5. Beam ex el Martha Stewart Living Omnimedia, Inc. v. Steward, 845 A.2d 1040 (Del.2004): addressed when a director is deemed independent of alleged wrongdoers

a. To render a director unable to consider demand, a relationship must be of a biasproducing nature. Allegations of mere personal friendship or a mere outside

business relationship, standing alone, are not sufficient to raise a reasonable

doubt as to the directors independence

xiv. Role and Purpose of Corporation1. Intra vires: within the power2. Ultra vires: beyond the powers3. Modern courts seem to be recognizing a broader corporate purpose (socially responsible)

than previously required

4. Gifts and Donationsa. Show the corp. has

i. Power to give donation (essentially all state statutes allow gifts)ii. Some Corporate benefit/purpose

1. Make sure corp can express a business purpose2. If challenging the decision, try to show it was motivated by

personal reasons and/or did not properly investigate the decision

b. Corp. should be careful of making donations that could be viewed asi. Indiscriminate

ii. Pet charity of a director or officeriii. For personal motivations rather than corporate

c. Generally, corp can avoid problems by disclosing details to the board and gettingthe board to ratify the donation

5. A. P. Smith Mfg. Co. v. Barlowa. Corporations are permitted to make substantial contributions which have the

outward form of gifts where the activity being promoted by the so-called gift

tends reasonably to promote the goodwill of the business of the contributing

corporation.

6. Del. Gen. Corp. Law 122: every corporation created under this chapter shall have thepower to (9) make donation for the public welfare or for charitable, scientific or

educational purposes

7. Cal. Corp. Code 207(e): power to make donations, regardless of specific corporatebenefit, for the public welfare or for community fund, hospital, charitable, educational,

scientific, civic or similar purposes

8. NY Bus. Corp. Law 202(a)(12): power to make donations, irrespective of corporatebenefit, for the public welfare or for community fund, hospital, charitable, educational,

scientific, civic or similar purposes9. PA provision: directors may, in considering the best interests of the corporation, consider

the effects of their actions on any or all groups and no single consideration is the

dominate factor

10. Dodge v. Ford Motor Co: held that Henry Ford owed a duty to the shareholders of theFord Motor Company to operate his business to profit his shareholders, rather than the

community as a whole or employees


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a. The directors of a corporation, and they alone, have the power to declare adividend of the earnings of the corporation, and to determine its amount.

b. Courts of equity will not interfere in the management of the directors unless it isclearly made to appear that they are guilty of fraud or misappropriation of the

corporate funds, or refuse to declare a dividend when the corporation has a

surplus of net profits which it can, without detriment to its business, divide

among its stockholders, and when a refusal to do so would amount to such an

abuse of discretion as would constitute a fraud, or breach of that good faith which

they are bound to exercise towards the stockholders.

11. Shlensky v. Wrigley: courts should not interfere in a corporation's management unlessfraud or a breach of faith existed. The decision (not to put up lights) was one properly

before the corporation's directors, and the motives alleged in the amended complaint

showed no fraud, illegality, or conflict of interest in their making of that decision.

a. Business Judgment Rulei. it is not the Courts function to resolve for corporations questions of

policy and business management.

ii. The directors are chosen to pass upon such questions and their judgmentunless shown to be tainted with fraudis accepted as final.

iii. The judgment of the directors of corporations enjoys the benefit of apresumption that it was formed in good faith and was designed to

promote the best interests of the corporation they serve.

b. There must be fraud or a breach of that good faith which directors are bound toexercise toward the stockholders in order to justify the courts entering into the

internal affairs of corporations. This is made clear when the court refused to

interfere with the directors' decision to expand the business


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VII. LLCa. Key attributes of LLC

i. Limited liabilityii. Can be managed by members or by professional manager (more like partnerships for governance)

iii. Flow through taxes (profits taxed to members)1. IRS created option to be taxed as a corporation (better off being a corp anyways)

iv. Flexible by way of agreementb. Formation

i. Water, Waste & Land, Inc. d/b/a Westec v. Lanham: held that acting on behalf of an LLC couldbe held personally liable where he failed to disclose he was acting on behalf of LLC and filing of

articles of organization is not constructive notice sufficient to displace agency law

1. When a third party sues a manager or member of an LLC under an agency theory, theprinciples of agency law apply notwithstanding the LLC Act's statutory notice rules.

2. LLC Agencya. Undisclosed principal: an agent is liable on a contract entered on behalf of a

principal if the principal is not fully disclosed.

i. an agent who negotiates a contract with a third party can be sued for anybreach of the contract unless the agent discloses both the fact that he or

she is acting on behalf of a principal and the identity of the principalb. Partially disclosed principal: where the principal is partially disclosed (i.e. the

existence of a principal is known but his identity is not), it is usually inferred that

the agent is a party to the contract.

c. Test: Whether a principal is partially or completely disclosed is a question of fact3. LLC Act 7-80-208: The fact that the articles of organization are on file in the office of

the secretary of state is notice that the limited liability company is a limited liability

company and is notice of all other facts set forth therein which are required to be set forth

in the articles of organization.

c. Operating Agreementi. LLC Operating agreement: any agreement, written or oral, of the member or members as to the

affairs of a limited liability company and the conduct of its business (Elf Atochem N. Am., Inc. v.

Jaffari)

ii. Any of the rules contained in a partnership or LLC statute can be altered by agreement1. LLCoperating agreement2. Some default provisions cannot be removed, but almost all can be altered (raise or lower

the bar)

a. duty of loyalty can be altered by allowing competition by members with the LLCb. reduce the duty of care

iii. Elf Atochem N. Am., Inc. v. Jaffari: held that members of LLC can use forum selection and ADRclauses in the LLC agreement and agreement provisions will control over default Act provisions

1. 17-1101 of the LP Act, provides that it is the policy of [the Act] to give themaximum effect to the principle of freedom of contract and to the enforceability of

limited liability company agreements

2. only where the agreement is inconsistent with mandatory statutory provisions will themembers agreement be invalidated

iv. Limitations on Terms1. LLC Act 103(b) The operating agreement may not:

a. (1) unreasonably restrict a right to information or access to records under Section408;


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b. (2) eliminate the duty of loyalty under Section 409(b) or 603(b)(3), but theagreement may:

i. (i) identify specific types or categories of activities that do not violate theduty of loyalty, if not manifestly unreasonable; and

ii. (ii) specify the number or percentage of members or disinterestedmanagers that may authorize or ratify, after full disclosure of all materialfacts, a specific act or transaction that otherwise would violate the dutyof loyalty;

c. (3) unreasonably reduce the duty of care under Section 409(c) or 603(b)(3);d. (4) eliminate the obligation of good faith and fair dealing under Section 409(d),

but the operating agreement may determine the standards by which theperformance of the obligation is to be measured, if the standards are notmanifestly unreasonable;

e. (5) vary the right to expel a member in an event specified in Section 601(6);f. (6) vary the requirement to wind up the limited liability company's business in a

case specified in Section 801(a)(3) or(a)(4); org. (7) restrict rights of a person, other than a manager, member, and transferee of a

member's distributional interest, under this [Act].d. Piercing the LLC Veil

i. Since LLC is unincorporated but formal, there are still statutory requirements to maintainformalities

ii. Kaycee Land & Livestock v. Flahive: not prevented from piercing the LLC veil if LLCmembers fail to treat it as separate legal entity

1. Liability: Neither the members of a limited liability company nor the managers of alimited liability company managed by a manager or managers are liable under a

judgment, decree or order of a court, or in any other manner, for a debt, obligation or

liability of the limited liability company.

2. If the members and officers of an LLC fail to treat it as a separate entity as contemplatedby statute, they should not enjoy immunity from individual liability for the LLC's acts

that cause damage to third parties

iii. Some states have express statutes allowing a to pierce the LLC veil1. Minn. Stat. 322B.302(2):Case law that states the conditions and circumstances underwhich the corporate veil of a corporation may be pierced under Minnesota law also

applies to limited liability companies.

2. ULLCA 303. LIABILITY OF MEMBERS AND MANAGERS.a. (a) Except as otherwise provided in subsection (c), the debts, obligations, and

liabilities of a limited liability company, whether arising in contract, tort, or

otherwise, are solely the debts, obligations, and liabilities of the company. A

member or manager is not personally liable for a debt, obligation, or liability of

the company solely by reason of being or acting as a member or manager.

b. (b) The failure of a limited liability company to observe the usual companyformalities or requirements relating to the exercise of its company powers or

management of its business is not a ground for imposing personal liability on themembers or managers for liabilities of the company.

c. (c) All or specified members of a limited liability company are liable in theircapacity as members for all or specified debts, obligations, or liabilities of the

company if:

i. (1) a provision to that effect is contained in the articles of organization;and


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ii. (2) a member so liable has consented in writing to the adoption of theprovision or to be bound by the provision.

e. LLC Fiduciary Obligationi. McConnell v. Hunt Sports Enters: held that although LLC members owe the same fiduciary duty

as partnerships, the LLC agreement may alter the duties among members to allow for

competition.

1. Fiduciary Dutya. Fiduciary relationship: a relationship in which special confidence and trust is

reposed in the integrity and fidelity of another, and there is a resulting position of

superiority or influence acquired by virtue of this special trust

2. An operating agreement of a limited liability company may, in essence, limit or definethe scope of the fiduciary duties imposed upon its members

3. Tortuous interference: when a person, without a privilege to do so, induces or otherwisepurposely causes a third person not to enter into or continue a business relationship with

another. The elements of tortious interference with a business relationship are a business

relationship, the wrongdoer's knowledge thereof, an intentional interference causing a

breach or termination of the relationship, and damages resulting therefrom

f. Dissolving the LLCi. Recovery is limited to the assets of the LLC (or intial investment) and the first priority is to pay

off debts owed to 3rd parties, then members, then profits distributed to members

ii. New Horizons Supply Coop. v. Haack : held that LLC member could be held personally liablewhere she failed to properly dissolve the LLC and pay creditors upon liquidation of LLC assets

1. Wis. Stat. ch. 183 expressly permits the importation of concepts such as "piercing theveil" from business corporation law into limited liability company law.

2. Members of an LLC can be held personally liable for the debts of their LLC if they fail toproperly dissolve the LLC under the relevant statutes.

3. Although it appears that filing articles of dissolution is optional, Wis. Stat. 183.0906,the order for distributing a limited liability company's assets following dissolution is

fixed by statute, and the company's creditors enjoy first priority. Wis. Stat. 183.0905.

4. A dissolved limited liability company may dispose of known claims against it by filingarticles of dissolution, and then providing written notice to its known creditors containing

information regarding the filing of claims


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VIII. Duties of Officers, Directors & Insidersi. Duty of loyalty: cant be self interested

ii. Duty of care: cant be negligentb. Duty of Care

i. Duty of Care: Directors have an ordinary duty of care in managing the corporation. Corporatedirectors owe that degree of care that a businessman of ordinary prudence would exercise in the

management of his own affairs. The nature and extent of reasonable care depends upon the type

of corporation, its size, and its financial resources.

ii. Information: Directors have duty of care to stay informed about the activities of the corporation,monitor corporate affairs, maintain familiarity with financial statements

iii. Illegal Action: Upon discovery of an illegal course of action, a director has a duty to object and, ifthe corporation does not correct the conduct, to resign.

iv. Financials1. directors are immune from liability if, in good faith, they rely upon the opinion of counsel

for the corporation or upon written reports setting forth financial data concerning thecorporation and prepared by an independent public accountant or certified publicaccountant or firm of such accountants or upon financial statements, books of account orreports of the corporation represented to them to be correct by the president, the officer ofthe corporation having charge of its books of account, or the person presiding at a

meeting of the board.2. Director may have a duty upon examination of financials to investigate further

v. Creditors: Directors generally do not owe creditors a duty of care absent insolvency, but wherethe corporations business holds funds in trust for third parties, they owe a duty to the third

parties

vi. Proximate Cause1. Usually a director can absolve himself from liability by informing the other directors of

the impropriety and voting for a proper course of action

2. Conversely, a director who votes for or concurs in certain actions may be "liable to thecorporation for the benefit of its creditors or shareholders, to the extent of any injuries

suffered by such persons, respectively, as a result of any such action

3. A director who is present at a board meeting is presumed to concur in corporate actiontaken at the meeting unless his dissent is entered in the minutes of the meeting or filed

promptly after adjournment

vii. Application1. In order for shareholders to prevail, they must show directors have acted in bad faith or

for dishonest purpose (Santoro)

2. Business judgment rule will apply to immunize poor decisions, so long as they are notcompletely unreasonable (Santoro)

3. Duty: All directors have an obligation, using sound business judgment, to maximizeincome for the benefit of all persons having a stake in the welfare of the corporate entity

a. Kamin v. American Express Company: held that where directors decided not tosell shares and take capital gains loss to offset gains it was not negligent and fell

under the business judgment rule

i. In actions by stockholders, which assail the acts of their directors ortrustees, courts will not interfere unless the powers have been illegally or

unconscientiously executed, or unless it be made to appear that the acts

were fraudulent or collusive and destructive of the rights of the

stockholders. Mere errors of judgment are not sufficient as grounds for


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equity interference; for the powers of those entrusted with corporate

management are largely discretionary.

ii. N.Y. Bus. Corp. Law 720(a) permits an action against directors for theneglect of, or failure to perform, or other violation of his duties in the

management and disposition of corporate assets committed to his charge.

iii. Neglect1. This does not mean that a director is chargeable with ordinary

negligence for having made an improper decision, or having

acted imprudently.

2. The "neglect" referred to in the statute is neglect of duties (i.e.,malfeasance or nonfeasance) and not misjudgment.

4. Business Judgment Rulea. Two conceptions of the rule

i. Majority View: An abstention doctrine, the rules presumption of goodfaith is also a presumption against judicial review

ii. Minority View: Treats the rule as having substantive content (comes intoplay as a standard of liability) and raises the bar from simple negligence

to gross negligence or recklessness

b. Francis v. United Jersey Bank: BJR doesnt apply to nonfeasance (more of apiercing the corporate veil case than a BJR case)

i. Generally, directors are given broad immunity and not consideredinsurers of corporate activity

c. Rule itself "is a presumption that in making a business decision, the directors of acorporation acted on an informed basis, in good faith and in the honest belief that

the action taken was in the best interests of the company."

d. The party attacking a board decision as uninformed must rebut the presumptionthat its business judgment was an informed one.

e. Informed decision standard: determination of whether a business judgment is aninformed one turns on whether the directors have informed themselves "prior

to making a business decision, of all material information reasonably

available to them

i. Reports1. Under 8Del.C. 141 (e), "directors are fully protected in relying

in good faith on reports made by officers.

2. Report: has been liberally construed to include reports ofinformal personal investigations by corporate officers

f. Standard: gross negligence is the proper standard for determining whether abusiness judgment reached by a board of directors was an informed one.

g. Smith v. Van Gorkom: violation of duty of care where board failed to makeinformed decision by relying solely on representations of the CEO which did notqualify as a valid report

5. Proposed Merger of Corporationsa. a director has a duty under 8Del.C. 251(b), along with his fellow directors, to

act in an informed and deliberate manner in determining whether to approve an

agreement of merger before submitting the proposal to the stockholders.

b. Certainly in the merger context, a director may not abdicate that duty by leavingto the shareholders alone the decision to approve or disapprove the agreement.


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c. Only an agreement of merger satisfying the requirements of 8Del.C. 251 (b)may be submitted to the shareholders under 251 (c).

d. Director must disclose to shareholders all material facts bearing upon a mergervote.

e. Lockoutsi. Where buyer gets option to purchase shares at a set price if the deal falls

through, so that buyer can sell out to the buyer who actually wins

6. Fairness of Transactiona. Factors that must be considered in a analysis of the entire fairness of a transaction

i. The timingii. Initiation

iii. Negotiationiv. Structure of transactionv. Disclosure and approval by directors

vi. Disclosure and approval by shareholdersc. Duty of Loyalty

i. Directors & Managers1. Business judgment rule yields to rule of undivided loyalty

a. Business decisions that would not typically merit an analysis under the normalbusiness judgment rule will undergo more careful scrutiny when there is a

conflict of interest. The duty of loyalty trumps the business judgment rule.

2. Directors transactions with the corporation are reviewed with rigorous scrutiny3. Burden: burden is on the director to prove good faith of the transaction and inherent

fairness from the viewpoint of the corporation and those interested (shareholders)

4. Test: whether the action of the directors was intended or calculated 'to serve some outsidepurpose, regardless of the consequences to the company, and in a manner inconsistent

with its interests

5. general rule is that directors acting separately and not collectively as a board cannot bindthe corporation

6. Applicationa. Bayer v. Beran: held that where directors bought radio ad campaign that featured

presidents wife it was not a violation of duty of loyalty because it served a

legitimate corporate purpose and the ads were a benefit to the corporation

b. Shareholder Approvali. Benihana of Tokyo, Inc. v. Benihana, Inc.

ii. 144(a)(1) Approval1. 144 safe harbor for interested transactions, like this one, if

"[t]he material facts as to the director's . . . relationship or

interest and as to the contract or transaction are disclosed or are

known to the board of directors and the board in good faithauthorizes the contract or transaction by the affirmative votes of

a majority of the disinterested directors."

c. Dilution of Voting Poweri. corporate action may not be taken for the sole or primary purpose of

entrenchment

ii. entrenchment helps prevent hostile takeovers by making stock lessattractive to 3rd party buyer


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iii. Preemptive Rights: When shareholders, usually a majority shareholder ora shareholder committing large amounts of capital to a startup company,

purchase shares, they want to ensure they have as much voting power in

the future as they did when they initially invested in the company. By

getting preemptive rights in its shareholder's agreement, the shareholder

can ensure that any seasoned offerings will not dilute his/her ownership

percentage.

d. Corporations repurchasing sharesi. If corp repurchases shares on the open market, it can increase the

per/share price by reducing the number of outstanding shares

1. Can also increase the option value of officersii. A repurchase can benefit shareholders because they get taxed less, but

now dividends are taxed equally so there is no longer the legitimate

business decision of stock repurchase tax incentive

iii. Now analysis must include whether the directors are interested ordisinterested

e. Corporate Opportunitiesa. If director comes across opportunity in personal capacity, they should at least

disclose to the board to avoid liability but it would be better if the directoralso made a formal presentation to the board

i. If you disclose and board says no, the director essentially has a safeharbor

ii. It there is a conflict because director is a member of two boards inthe same line of business, director should disclose to both and stay

out of the transaction

b. Capacity is not dispositivec. Broz v. Cellular Information Systems, Inc.

i. Corporate Opportunity Doctrine1. A corporate fiduciary agrees to place the interests of the

corporation before his or her own in appropriate

circumstances

2. Director may not take the opportunity ifa. (1) the corporation is financially able to undertake,b. (2) is, from its nature, in the line of the corporation's

business and

i. An activity as to which the corporation hasfundamental knowledge, practical

experience and ability to pursue

c. (3) is of practical advantage to it, is one in which thecorporation has an interest or a reasonableexpectancy,

d. (4) and, by embracing the opportunity, the self-interest of the officer or director will be brought into

conflict with that of the corporation

3. corporate opportunity doctrine is implicated only in caseswhere the fiduciary's seizure of an opportunity results in a

conflict between the fiduciary's duties to the corporation and


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the self-interest of the director as actualized by the

exploitation of the opportunity

d. In re Ebay, Inc. Shareholders litigation: where directors of eBay receivedIPO investments from Goldman Sachs while serving on eBay board, it was a

violation to acquire those investments for themselves

i. Corporate opportunity doctrineii. Dominant Shareholders

1. The majority has the right to control; but when it does so, it occupies a fiduciary relationtoward the minority, as much so as the corporation itself or its officers and directors

2. Duty: Majority shareholder of the stock and of the board of directors of a corporationoccupies a fiduciary relation towards the minority stockholders, and is charged with the

duty of exercising a high degree of good faith, care, and diligence for the protection of

such minority interests. Every act in its own interest to the detriment of the holders of

minority stock becomes a breach of duty and of trust (Zahn v. Transamerica Corp)

a. Dividend: directors may not declare or withhold the deceleration of dividends forpurpose of personal profit, or take any corporate action for such a purpose

b. Voting: When voting as a stockholder he has the legal right to vote with a view ofhis own benefits and is representing himself only; but, a director represents all

the stockholders in the capacity of trustee for them and cannot use his office asdirector for his personal benefit at the expense of the stockholders

3. Intrinsic Fairness Standard (Sinclair Oil Corp v. Levien): The motives for causing thedeclaration of dividends are immaterial unless the plaintiff can show that the dividend

payments resulted from improper motives and amounted to waste

a. standard of intrinsic fairnessi. The standard of intrinsic fairness involves both a high degree of fairness

and a shift in the burden of proof.

ii. Under this standard, the burden is on the parent company to prove,subject to careful judicial scrutiny, that its transactions with the

subsidiary were objectively fair.

iii. basic situation for the application of the rule is the one in which theparent has received a benefit to the exclusion and at the expense of the

subsidiary.

4. Applicationa. 8 Del.C. 170, authorizing payment of dividends out of surplus or net profitsb. Pepper v. Litton, 308 US 295 (1939): A director is a fiduciary. So is a dominant

or controlling stockholder or group of stockholders. Their powers are powers in

trust. Their dealings with the corporation are subjected to rigorous scrutiny and

where any of their contracts or engagements with the corporation is challenged

the burden is on the director or stockholder not only to prove the good faith of the

transaction but also to show its inherent fairness from the viewpoint of thecorporation and those interested therein. The essence of the test is whether or not

under all the circumstances the transaction carries the earmarks of an arms

length bargain. If it does not, equity will set it aside.

c. Zahn v. Transamerica Corp: directors failed to disclose that increase in valuemade the conversion price higher than the call price and failed to disclose that

company was going to liquidate. Mere fact that corp called does not indicate to

the investor that conversion price was higher or lower.


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i. Unlike a director, a shareholder, majority or otherwise, is entitled to votein a manner that is most beneficial to their interests.

d. Ratificationi. ratification decisions that involve duty of loyalty claims are of two kinds:

1. interested transaction cases between a corporation and itsdirectors or between the corporation and an entity in which the

corporation's directors are also directors or have a financial

interest, and

2. Cases involving a transaction between the corporation and itscontrolling shareholder.

ii. Fliegler v. Lawrence1. Shareholder ratification of an "interested transaction" (a

transaction between a director or officer of the corporati

business organizations outline full

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