Corporations

Outlines
11-07
Blue Main Cases
Red Note Cases
Green Cases within main cases
Orange Restatement
I) Principles of Agency Law: Definition
A) Generally
1) Agency is the fiduciary relationship that arises when one person (principal)
manifests assent to another person (agent) that the agent shall act on the
principals behalf and subject to the principals control, and the agent manifest
assent or otherwise consents so to act. Restatement
2) An agent may bind the principal to contract, subject them to tort liability, and
in some circumstances criminal liability
3) Thayer v. Pacific Electric Railway
i) Agency arose in this instance when agent of the defendant annotated bill
of lading on behalf of the plaintiff. Essentially he functioned as the agent
of both
4) Thayer Notes and Questions
i) Fiduciary explored more closely
(a) By fiduciary, the restatement refers to a set of benefits and duties owed
to the beneficiary by the fiduciary
(b) These duties entail a duty on the part of the fiduciary to discharge his
duty with care and loyalty to the beneficiary
(c) The above implies an ongoing relationship, but it may exist for a
single action
ii) The Dual Agency Rule
(a) Generally
(1) An agent cannot act on behalf of an adverse party, with respect to a
transaction involving both parties, without the consent of the
principal
(2) A man cannot serve two masters at the same time; he will obey
the one and betray the other
(b) Voidabililty
(1) If the two principals are unaware of the dual relationship, the
transaction between them is voidable
(2) If one principal, aware of the agents relationship with another
principal, secretly uses that relationship, the unaware party can
either void or affirm the transaction
(c) Resolving conflict with Thayer opinion
(1) Restatement allows that an agent can deal with the other party, so
long as the transaction is not inconsistent with his other duties

(2) Additionally, if both parties consent to the dual agency, the

transaction is valid. Utah State Univer. v. Sutro & Co.
B) Powers and Duties of Agents
1) Contractual Powers of Agents
i) Finding authority in the agent to bind the principal
(a) Actual (Express) Authority
(1) Expressions made to the agent by the principal delineating their
authority
(2) Often times this takes the form of a written document, but need not
(3) E.g., include a contract, written power of attorney, and segment
within corporate bylaws
(4) Restatement An agent acts with actual authority when, at the
time of taking action that has legal consequences for the principal,
the agent reasonably believes, in accordance with the principals
manifestations to the agent, that the principal wishes the agent so
to act
(5) King v. Bankerd
(i) Significant agent powers will not be granted without express
provision
a. E.g., gifting of principals authority
(ii) The main duty of an agent is to act with loyalty in the best
interest of the client
(iii)
If the proposed agency power is greater than that generally
exercised, it should not be read into the agreement
(b) Apparent Authority
(1) Premised on representations made by the principal to third parties
(2) It is characterized upon the premise that the agent appears to the
third party to have a certain authority
(3) Smith v. Hansen
(i) Manifestations of apparent authority will only be binding if:
a. They cause the one claiming apparent authority (third
party) to actually (subjectively) believe that the agent has
authority to act for the principal
b. They are such that the claimants (third partys) actual
subjective belief is objectively reasonable
(ii) Relevant facts
a. Business card but did not title had nothing to do with
sales
b. Check was made out to agent personally instead of
principal
c. Provided him with an office and telephone
d. Insufficient for the third party to reasonably believe such a
relationship existed
(iii)
Hansen Notes
a. Apparent authority may be created by appointment to
position

b. An agent, simply by his words, cannot establish apparent

agency
c. Restatement An agent is sometimes placed in a position
in industry or setting in which holders of the position
customarily have authority of a specific scope. Absent
notice to third parties to the contrary, placing the agent in
such a position constitutes a manifestation that the principal
assents to be bound by actions by the agent that fall within
that scope.
d. If the third party has knowledge that the agency
relationship exists in written form, it has a duty to inspect
the document
e. A principal may be responsible to a third party for a
misunderstanding of agency it fails to rectify
(c) Other types of Authority
(1) Implied E.g., a principal may authorize an agent to borrow
money on its behalf, which may impliedly authorize it to create a
promissory note
(2) Incidental Authority Restatement: If a principals manifestation
to the agent expresses the principals wish that something be done,
it is natural to assume that the principal wishes, as an incidental
matter, that the agent proceed in the usual and ordinary way if such
has been established
(3) Inherent Authority Restatement: Inherent agency power is a
term used to indicate the power of an agent which is derived not
from authority, apparent authority or estoppel, but solely from the
agency relation and exists for the protection of persons harmed by
or dealing with a servant or agent.
(i) It is often difficult to separate from apparent authority
(ii) Additionally, courts question its existence
(iii)
The restatement third, abandons the term entirely
(d) Exceptions
(1) Estoppel
(i) Restatement A person who has not made a manifestation
that an actor has authority as an agent and who is not otherwise
liable as a party to a transaction purportedly done by the actor
on that persons account is subject to liability to a third party
who justifiably is induced to make a detrimental change in
position because the transaction is believed to be on the
persons account if:
a. The person intentionally or carelessly caused such belief, or
b. Having notice of such belief and that it might induce others
to change their positions, the person did not take reasonable
steps to notify them of the facts

(ii) Generally it disallows a person who has, in some way, caused

the agency relationship to be created and failed to rectify the
situation
(2) Ratification
(i) Generally allows a person to ratify the actions of another
undertaken on behalf of the person even though no agency
relationship existed
2) Duty of Loyalty
i) Gelfand v. Horizon Corp
(a) Agent violated his fiduciary duty by failing to disclose all relevant
facts related to a transaction
(b) Generally
(1) An agent occupies a relationship in which trust and confidence is
the standard.
(2) When the agent places his own interests above those of the
principal there is a breach of fiduciary duty to the principal
(3) The agent is bound to make a full, fair, and prompt disclosure to
his employer of all facts that threaten to affect the employers
interest or that might influence the employees actions in relation
to the subject matter of the employment
ii) Gelfand Notes and Questions
(a) Remedies for a breach of fiduciary duty
(1) Restitution of monies gained by agent through breach
(2) Attorneys fees
(3) Recission
(4) Forfeiture of profits may also require the agent to return not only
profits made with respect to the transaction, but all monies paid by
the principal to the agent
(b) Economic Loss Rule
(1) The liability of agent is subject to this rule which provides that a
party suffering only economic loss from the breach of a contractual
duty may assert a tort claim for such a breach only if tort law
provides an independent duty of care
(2) If plaintiff established a contractual relationship, the plaintiff could
recovery only for breach of contract, not breach of duty, as any
duties owed to the plaintiff would be governed by contract and not
independent duty Tuchman v. Pell Rudman
(c) Post Termination Competition
(1) Generally
(i) Refers to what rights and duties exist after the termination of a
relationship
(ii) Common law will not, generally, stand in the way of
competition
(iii)
Cannot feather their own nest at the expense of the
employer while still on the payroll
(d) Contractual Modification

(1) Generally To what extent can the parties contract around the
common law fiduciary duties?
(2) Restatement Principals Consent
(i) Conduct by an agent that would otherwise constitute a breach
of duty does not constitute a breach of duty if the principal
consents to the conduct, provided that
a. In obtaining the principals consent the agent acts in good
faith, makes a full disclosure, and deals fairly with the
principal
b. The principals consent concerns either a specific act or
transaction, or acts or transactions of a specified type that
could reasonably be expected to occur in the ordinary
course of the agency relationship
C) Vicarious Liability Principle
1) Generally refers to the imposition of vicarious liability on the part of the
principal for acts of the agent
2) Two Requirements:
i) Control
(a) The principal must exercise a degree of control or have the right to
exercise control over the agent
(b) The Restatement and courts often refer to this as an employeremployer relationship but this is problematic
(1) There are times when vicarious liability may be established
although in common usage no employer-employee relationship
exists
(2) E.g., a person helping another fix a car
(c) Kane Furniture v. Miranda
(1) Restatement (Second) Factors for Determining if Employee or
Independent Contractor:
(i) In determining whether one acting for another is a servant or
an independent contractor, the following matters of fact, among
others are consider:
a. The extent of control which, by the agreement, the master
may exercise over the details of the work;
b. Whether or not the employed is engaged in a distinct
occupation or business;
c. The kind of occupation, with reference to whether, in the
locality, the work is usually done under the direction of the
employer or by a specialist without supervision;
d. The skill required in the particular occupation
e. Whether the employer or the workman supplies the
instrumentalities, tools, and the place of work for the
person doing the work;
f. The length of time for which the person is employed;
g. The method of payment, whether by the time or by the job;

h. Whether or not the work is part of the regular business of

the employer;
i. Whether or not the parties believe they are creating the
relationship of master and servant; and
j. Whether the principal is or is not in business
(2) Kane Note
(i) Restatement (Third) Sets of factors to consider in
determining agency or independent contractor
a. The extent of control that the agent and the principal have
agreed the principal may exercise over details of the work;
b. Whether the agent is engaged in a distinct occupation or
business;
c. whether the type of work done by the agent is customarily
done under a principals direction or without supervision;
d. The skill required in the agents occupation
e. Whether the agent or the principal supplies the tools and
other instrumentalities required for the work and the place
in which to perform it;
f. The length of time during which the agent is engaged by a
principal;
g. Whether the agent is paid by the job or by the time worked;
h. Whether the agents work is part of the principals regular
business;
i. Whether the principal and the agent believe that they are
creating an employment relationship; and
j. Whether the principal is or in not in business
ii) Scope of Employment
(a) The employee must be acting within the scope of employment at the
time of the tortuous conduct in order to establish liability
(b) Clover v. Snowbird Ski Resort
(1) Three criteria for establishing scope of employment
(i) The employees conduct must be the kind the employee is
employed to perform the employee must be about the
employers business and the duties assigned by the employer,
as opposed to being wholly involved in a personal endeavor
(ii) The employees conduct must occur:
a. Within the ordinary spatial boundaries of the employment
b. Within the ordinary temperal boundaries of employment
(iii)
The employees conduct must be motivated, at least in part,
by the employers interests
(2) Exceptions / Defenses
(i) Abandonment if an employee takes a detour that was such a
substantial diversion from the employees duties that it
constituted an abandonment of employment, there is no
liability
(c) Clover Note

(1) Generally courts will not consider an employee to be within the

scope of employment when coming to and from work
(d)
3) Terminology
i) Vicarious liability actually refers to a very wide set of legal doctrines,
however in this instance we are concerned with a specific kind:
Respondeat Superior
4) Vicarious Liability for Intentional Torts
i) Vicarious liability for intentional torts will not be found unless the
intentional tort has been in furtherance of the business of the employer
Bremen v State Bank v. Harford Accident
ii) Ira Bushey & Songs v. United States
(a) Seaman removed a steering wheel and caused damage to a dry dock
while intoxicated
(b) Given the interrelation between the duties of the seaman and the action
he took, the court found liability
(c) The court believed his actions were not entirely explicable to the facts
of his personal life
II) Corporate Structures
A) Sole Proprietorship
1) Individual undertakes to engage in a business without partners and without
any organizational thought
2) Personal liability will exist for all debts including tort liability
3) Income tax of the individual will reflect loss or gains of the proprietorship
4) No legal requirement exists for separate books
B) General Partnership
1) The default entity of the law forms when two or more individuals join
together to operate a business
2) Each will be jointly and severally liable for all debts including tort liability,
and each is the agent of the other
3) These may be altered by the presence of an agreement to switch outside the
default rules
4) Income tax will be reflected, pro rata, among the partners
C) Limited Liability Partnership
1) General partnership modified so that the partners are not personally liable for
all debts and obligations of the business
2) A document must be filed with the designated state office or order to fall
within this category
D) Limited Partnership
1) In the simplest form it has two classes of partners:
i) General like partners in a general partnership (they have personal
liability)
ii) Limited not liable for the debts of the business and do not have agency
authority
E) Limited Liability Partnership

1) Akin to a limited partnership, but the general partner does not have personal
liability
III) General Partnerships
A) Definition
1) Generally
i) When two people gather together to carry on as co-owners of a business
for profit (intention is not relevant this might be wrong)
ii) It is also the default entity
iii) Although a default, it is primarily a contractual entity and may be altered
and amended according to the partners desires
(a) However, there are a few unwaivable provisions
2) Ziegler v. Dahl
i) One of the most important tests of whether a partnership exists between
two persons is the intent of the parties
ii) A partnership is created by the association of persons whose intent is to
carry on as co-owners of a business for profit, regardless of their
subjective intention to actually be partners
iii) Participants in a business must intend to be part of an association that
includes all the essential elements of a partnership for that association to
be a partnership
iv) Pertinent Facts:
(a) The parties did not file a partnership tax return
(b) Only one individual handled the administrative activities
(c) Each party provided their own equipment
(d) All the major decisions were made without the plaintiffs input
v) Co-ownership is the second necessary element to prove the existence of a
partnership
(a) An important caveat the person need not control the business, but
simply have the right to do so
vi) The sharing of gross returns does not, per se establish a partnership
B) When a Partner is Not a Partner
1) Serapion v. Martinez
i) Court attempting to discern whether a partner is an employee for Title VII
purposes. It declines to set a hard and fast rule given the liquid nature of
partners
ii) A court must peer beneath the label and probe the actual circumstances of
the persons relationship with the partnership.
iii) There are a number of tests to determine whether a person is an employee
or what the courts term a proprietor:
(a) Simpson (ADEA)
(1) The right and duty to participate in management
(2) The right and duty to act as an agent of other partners
(3) Exposure to liability
(4) The fiduciary relationship among partners
(5) Participation in profits and losses
(6) Investments in the firm

(7) Partial ownership of firm assets

(8) Voting rights
(9) Aggreived individuals ability to control and operate the business
(10)
The extent to which the aggrieved individuals
compensation was calculated as a percentage of the firms profits
(11)
The extent of that individuals employment security
(12)
Similar indica of ownership
(b) Wheeler (Title VII and ADEA)
(1) Participation in firm profits and losses
(2) Exposure to liability
(3) Investment in the firm
(4) Voting rights under the partnership agreement
(c) In Serapion (Title VII case)
(1) Categorical understanding
(i) Ownership
a. Investment
b. Ownership of firm assets
c. Liability for firm debts and obligations
(ii) Enumeration
a. If, and to what extent, the individuals compensation is
premised on firm profits
i. To the extent it is based more on firm profits, the more
likely an individual is to be considered a partner
ii. The converse is also true
b. Fringe benefits an individual who receives benefts of a
kind or in an amount markedly different from other
employees similarly situated is likely to be a proprietor
(iii)
Management
a. The right to engage in policymaking
b. Voting power with regard to firm governance
c. The ability to assign work and direct the activities of
employees
d. The ability to act for the firm and its principals
(2) These categories will overlap and none is determinative but merely
influential
2) Serapion Notes and Questions
i) Courts look at several factors to determine whether a partnership has been
formed McDowell v. McDowell
(a) Receipt or right to receive a share of the profits of the business;
(b) Expression of an intent to be partners in the business;
(c) Participation or right to participate in the control of the business;
(d) Sharing or agreeing to share
(1) Losses of the business; or
(2) Liability for claims by third parties against the business; and
(e) Contribution or agreeing to contribute money or property to the
business

C) Partnership Property
1) Read it in the book, but do not believe we covered it in class (Page 66)
D) The Authority of Partners
1) Generally Partnership law draws heavily on agency law and the two are
quite similar
2) Actual Authority Didnt cover
3) Apparent Authority
i) RNR Investments v. Peoples First Community Bank
(a) Loan obtained by a partner who did not have actual authority to bind
the partners
(b) The extent to which the partnership is bound by the acts of a partner
acting without actual authority but within apparent authority is
governed by statute (in Florida)
(c) Even if a partners actual authority is restricted by the terms of the
partnership agreement, the general partner possesses apparent
authority when he is acting:
(1) In the ordinary course of partnership business; or
(2) In the business of the kind carried on by the partnership;
(3) EXCEPT WHEN:
(i) The third party knew that the partner lacked authority; or
(ii) The third party had received notification that the partner lacked
authority
a. A third party has notice if that party:
i. Knows of the fact
ii. Has received notification of the fact
iii. Has reason to know the fact exists from all other facts
known at the time in question
b. A third party is under no duty to:
i. Inspect the partnership agreement; or
ii. Otherwise ascertain the extent of a partners actual
authority
(d) Purpose of the notice provision:
(1) Attempts to provide protection to third parties against unauthorized
actions of rogue partners
(2) Partnerships should bear the weight of these actions
(e) The analysis of determining if a partner is acting with authority to bind
the partnership involves a two step analysis
(1) Determine whether the partner purporting to bind the partnership
apparently is carrying on the partnership business in the usual way
or a business of the kind carried on by the partnership
(2) The court never clarifies part two
ii) RNR Investments Notes and Questions
(a) RUPA (Revised Uniform Partnership Act) provides that if a statement
of partnership authority is recorded in the appropriate office for
recording interests in land, it can serve as notice of authority or the
lack thereof to persons dealing with partnership real property

(b) UPA (Uniform Partnership Act) has similar, but not identical language
(1) A partner under UPA binds the partner when is his act is for
apparently carrying on in the usual way the business of the
partnership
(2) Courts and the comments have not treated this as a substantive
change
E) Liability for a Partners Fraud
1) Rouse v. Pollard
i) Appeal by complainant from a final decree in chancery dismissing the bill
as to all of the partners formerly of the law firm of Riker and Riker except
Thomas Fitzsimmons against whom the decree ran as a judgment in the
amount of 20.5k with costs
ii) The suit effectively charged all the partners with embezzlement of the
complainants funds
iii) Because the payment of funds to Fitzsimmons was beyond the scope of
what he was doing as an attorney at the law firm, his partners would not be
liable for his actions
2) Rouse Notes and Questions
i) Partnership liability for fraud is not uniform
ii) Partners can incur liability as a result of the imputation of knowledge to
them. Thus if a partner is party to a breach of trust, knowledge of that
breach may be imputed to other partners, rendering them liable
F) Rights and Duties Among Partners
1) Duty of Care
i) Bane v. Ferguson
(a) Partners do not have a fiduciary duty to ex-partners
(b) Courts will apply the business judgment rule to partners actions
(c) Even if defendants had a duty to the plaintiff, the business judgment
rule would protect them from claims of mere negligence
ii) Bane Notes and Questions
(a) Business Judgment Rule - standard by which the judgments of board
of directors are evaluated by the courts
(1) Formulation: when a partner alleges another has violated his
fiduciary duty, the allegedly violating partner must show he acted:
(i) In good faith;
(ii) With the care an ordinarily prudent person in a like position
would exercise under similar circumstances; and
(iii)
In a manner the partner reasonably believes to be in the
best interest of the partnership
(2) EXCEPTIONS
(i) In Delaware the partners are presumed to have the protection of
the business judgment rule
(ii) The rule will not apply if the partner engaged in: self-dealing;
fraud; or other unconscionable conduct

(iii)

If any of the above is shown, the burden shifts to the

partner who made the decision to demonstrate that the decision
was fair to the partner challenging it
(b) According to RUPA, a partners duty of care to the partnership and
other partners is limited to refraining from acting with gross
negligence, recklessly, intentional misconduct, or a knowing violation
of the law (therefore not liable for negligence)
iii) Moren v. Jax Restaurant
(a) A partnership is an entity distinct from the partners and can sue and be
sued in the name of the partnership
(1) A partnership is liable for loss or injury caused to a person as a
result of a wrong act or omission, or other actionable conduct of a
partner acting in the ordinary course of business of the partnership
or with authority of the partnership
(i) A partnership shall indemnify a partner for liabilities incurred
by the partner in the ordinary course of business of the
partnership
(ii) An act of a partner which is not apparently for carrying on in
the ordinary course the partnership business or business of the
kind carried on by the partnership binds the partnership only if
the act was authorized by other partners
(2) A partner has a right to indemnity from the partnership, but the
partnerships claim of indemnity from a partner is not authorized or
required
(b) The conduct of a partner may be partly motivated by personal reasons
and still occur in the ordinary course of the business of the partnership
2) Duty of Loyalty (Partnership Opportunity)
i) Meinhard v. Salmon
(a) Joint adventurers, like copartners, owe to one another, while the
enterprise continues, the duty of the finest loyalty a trustee is held to
something stricter than the morals of the market place Not honesty
alone, but the punctilio of an honor the most sensitive, is then the
standard of behavior
ii) Meinhard Notes and Questions
(a) The duty of loyalty limits the ability of a partner to hire his spouse
(b) Joint ventures are generally thought of as a limited business
undertaking, because of the limited nature courts may limit the duty of
loyalty
3) Contracting Around Fiduciary Duties
i) You can contract around duties if you like, so long as it is not
unreasonable
G) Limited Partners
1) Three applicable standards to determine if a limited partner will be liable for
the debts of the partnership
i) ULPA where limited partner takes part in control of the business

ii) RULPA (1985 amendments) greater activity permitted by the limited

partner (must have had contact with the person seeking to recover from the
limited partner)
iii) Re-RULPA Even wider latitude but not widely adopted
2) Gateway Potato Sales v. G.B. Investment Co
i) Arizona had not adopted 1985 amendments, limited partner therefore
could be found liable if exercised control of the business, regardless of
whether he had had contact with the injured party
IV) Incorporation Process
A) Mechanics of Incorporation
1) MBCA Requires:
i) A corporate name for the corporation;
(a) Must not be too similar;
(b) It cannot imply it will engage in an illegal purpose;
(c) It must express its corporateness in some way (corporation,
incorporated, company, etc)
ii) The number of Shares the corporation is authorized to issue (can be as
little as one);
iii) The street address of the corporations office and agent
iv) The name and address of each incorporator
2) Delaware Requires (in addition to the above):
i) A statement of purpose (is not presumed to be any lawful purpose)
ii) Names of directors
B) Tailored Articles of Incorporation
1) Optional things to include in the articles of incorporation (not exhaustive):
i) Narrower purpose clause (keeps directors in line)
ii) Classes of shares
iii) Limitation on director liability
2) Other possible clauses exist when seeking to create a specific situation for a
client
i) Initial board of directors
ii) Special governance principles
(a) No board of directors
iii) Pre-emptive rights
(a) Newer statutes setup a presumption that pre-emptive rights do not exist
without their creation in the articles or bylaws
3) Filing ministerial these days
C) Choice of State
1) Internal Choice of Affairs Doctrine
i) The law of the state wherever the corporation is incorporated will govern
issues with shareholders, directors, officers, and any other internal matters
of the corporation
ii) Jurisdiction will be presumed for officers, directors
D) Defective Incorporation (?)
1) Occurs rarely in the modern world given the ease of the incorporation process
2) The common law recognized:

i) De jure Good against all the world (youve actually incorporated)

ii) De facto good against all the world, but the state, it required:
(a) The existence of a law under which the corporation could be formed
(b) A good faith attempt to come under the law
(c) Conduct of the business by the putatitive shareholders as if the
corporation existed
3) Thompson & Green Machinery Co. v. Music City Lumber Co.
i) All persons who assume to act as a corporation without authority to do so
shall be jointly and severally liable for all debts and liabilities incurred as
a result thereof
ii) Defendant attempted to assert de facto corporation doctrine was still in
place
iii) Defendant attempted to assert a corporation by estoppel doctrine, which
the court found dubious at best
4) Thompson Notes and Questions
i) De Facto has been effectively eliminated by MBCA
ii) The section however, does not foreclose a person from asserting an
estoppel defense when they have been urged
E) Corporate Death (Involuntary Dissolution)
1) Equipto Division Aurora Equip. Co. v. Yarmouth
i) Failed to make annual payment for incorporation and license fee
ii) Plaintiff attempted to sue Yarmouth for the debts of the corporation
iii) The court found that MBCA 2.04 required actual knowledge of the
corporations dissolution before it would impose personal liability for
actions that incurred debt after the unknown dissolution
2) MBCA 204
i) Everyone who acts on behalf of the corporation, knowing there had been
no incorporation is jointly and severally liable for all liabilities created
F) Pre-Incorporation Process
1) Promoters liability on preincorporation contracts
i) Minority Approach
(a) Look at intent of the parties derived from all facts and circumstances
(b) Did the other party look to the corporation and the corporation alone?
ii) Majority approach Promoter must cross Ts and dot Is
(a) Two things must be satisfied to fall within these rules
(1) The promoter must clearly indicate the non-existence of the
principle
(2) The promoter must indicate their representative capacity
(b) As a general matter, to avoid liability, provide in the contract that the
promoter is not going to be liable
iii) To cover your basis
(a) Indicate the non-existence of the principle
(b) Sign in a representative capacity
(c) Provide that when it comes into existence the corporation will be
bound

(d) Affirmatively state that in that instance, the promoter will no longer be
responsible
iv) ORorke Once a promoter is within the ambit of preincorporation rules,
they can do three things
(a) Act merely as a go-between
(b) Obligate themselves personally
(c) Provide in contract that party will look to corporation for performance
2) Liability on preincorporation contracts the corporations viewpoint
i) Corporations may become bound in two instances
(a) If they accept performance by a party under the contract
(b) Acquiescence if the corporation had knowledge and let time pass
G) Ultra-Vires Doctrine
1) Definition actions which are, or are alleged to be, beyond the powers of the
corporation
i) Any Lawful Purpose
(a) While providing a broad spectrum, a shareholder still might challenge
a general corporation if it goes into banking or insurance on the theory
that it did not exceed the purpose, but would still be an ultra-vires
challenge
(b) An illegal act can also fall within the ultra-vires challenge
(c) Frolic and detours can also be challenged under ultra-vires
2) Reasons stated for its decline
i) Judicial Hostility
(a) Corporations would use it as a means to limit performance of contracts
as outside the scope of purpose
(b) Courts stopped this by not allowing the ultra-vires defense when
substantial performance on the other side had been performed
ii) Broad Purpose Clauses
(a) Any lawful purpose
(b) No purpose clause required
iii) Ease of Amendment
(a) Alteration of voting requirements made it easier to get around purpose
objections
iv) Grants of Implied Power
(a) Judicial and legislative grants of implied powers legitimated activities
even though the corporations purpose did not enumerate it specifically
(b) Necessary and convenient to carry out business affairs MBCA
(c) Any powers incidental thereto DGCL
v) Statutes
(a) Legislatures adopted statutes that forbade the doctrine
(b) All modern corporation statutes have reduced its occasional use
3) Ultra-Vires Statutes
i) Total Access, Inc. v. Caddo Electric Cooperative
(a) A lack of capacity or power of a corporation may be asserted
(1) By a shareholder in an action enjoining the corporation not to do
the act

(2) By the corporation in an action against an officer or director

(3) By the Attorney General
ii) Total Access Notes and Questions
(a) A defendant in a contract action can not raise ultra-vires as a defense
in a contract action
(b) Remedies
(1) Enjoin
(2) Set aside the act (if equitable)
(c) Damages
(1) All jurisdictions allow ultra-vires to be used among participants in
an incorporated venture
(d) Municipal Law
(1) The states delegation to a unit of local government is construed
narrowly
(e) Gifts to Charity
(1) Courts have the power to make reasonable gifts
(2) The question is whether, related to the corporations profitability,
and related in some way to the corporations business, the gift was
reasonable
(f) Guarantee of Debts
(1) Directly Beneficial Standard
(i) In order to be valid, such a guarantee must be intra vires and
directly beneficial to the corporation
(2) Unanimous Shareholder Approval Standard
(i) The voluntary transfer of property by a corporation to secure
the indebtedness of one of its officers is binding only if all the
corporations stockholders assent
(g) Upstream Guarantees
(1) When a subsidiary grants a security interest for its parent, the
minority shareholders of the subsidiary may have a suit under ultra
vires
(2) The minority is entitled to have the cashflow of the subsidiary used
for its own benefit as opposed to the benefit of the parent
corporation
(h) Cross-Stream Guarantees
(1) One subsidiary guaranteeing the loans of another subsidiary
V) Corporate Liability
A) Limited Liability
1) The most attractive feature (?) of incorporation
2) An investor is liable only up to the amount of their investment
3) Policy justifications
i) Encourages expansion
ii) Reduces the costs of managing
iii) Promotes the transferability of shares
iv) Accurately reflects information about the value of firms
B) Limitations to Limited Liability

1) Criminal or civil liability may exist for improper activity

C) Piercing the Corporate Veil
1) General characteristics
i) Exists because of the potential for abuse of limited liability
ii) Is a judicially imposed exception to the limited liability principle
iii) Rationalization for the doctrine is that limited liability is a privilege
iv) Although theoretically possible, piercing has never worked in a publically
owned corporation
v) General Factors
(a) Domination or control by a shareholder (whether an individual or
corporate entity)
(b) Some type of:
(1) Fraud;
(2) Inujustice;
(3) Wrong
vi) By piercing, courts put the interests of creditors over equity holders
2) Factors to Pierce the Corporate Veil
i) There is no uniform set of factors (making even factually analogous cases
difficult)
ii) Courts have typically found two (and often more) of the following:
(a) Lack of Corporate Formalities
(1) One of the most common factors
(2) Corporate formalities:
(i) Holding regular board meetings
(ii) Holding regular shareholder meetings
(iii)
Documenting meeting minutes
(iv)Issuing stock certificates
(v) Electing officers; and
(vi)Documenting corporate transactions
(3) The absence of these formalities evinces a lack of respect for the
corporate form indicate a non-corporate mentality
(4) This reason is insufficient by itself, and courts often require an
equitable reason to enforce liability
(5) Some state statutes (E.g., Texas) foreclose a lack of formalities for
piercing
(b) Commingling of Corporate Affairs
(1) Put another way: failure to keep personal and corporate assets
separate
(2) May occur (between corporations) when:
(i) Two corporate entities use the same bank accounts for business
transactions
(ii) Make money transfers to another; or
(iii)
Make cross-corporate loans; and
(iv)When the corporations share:
a. Office space
b. Employees

c. Real or personal property

(3) Rational creditors should have a clear idea which assets are
going to be available to satisfy their claims
(4) May occur (for an individual) when:
(i) Shareholders skim off the corporate till
a. E.g., by purchasing equipment or raw materials and then
selling them to the corporation at a markup
(ii) Receiving loans or making cash withdrawls from corporate
accounts without interest
(iii)
Utilizing corporate equipment for personal ventures
(iv)Requiring corporate employees to complete tasks unrelated to
corporate employment
(c) Undercapitalization
(1) If the corporation is undercapitalized the court may see this as a
factor for piercing
(2) Justification If either initially incorporated or run without
sufficient funds to cover ordinary risks, then owners should be
liable
(3) Inadequate capitalization alone is rarely sufficient to pierce
(d) Tort vs. Creditor
(e) Misrepresentation
(1) Many courts require comingling or a lack of corporate formalaities
along with another equitable factor like misrepresentation or fraud
(2) Courts vary on:
(i) Whether fraud or misrepresentation alone is sufficient to pierce
(ii) What type of fraud is sufficient to pierce:
a. Constructive; or
i. May be defined as acts or practices that, although
disclosed, are extremely unfair and have the capacity to
mislead
b. Actual
i. Plaintiff must show that the culplable party made a
representation of fact, which was either:
ii. Untrue and known to be untrue; or
iii. Recklessly made and which was offered to deceive the
other party
3) Contextual Issues
i) Two general divisions
(a) Piercing contingent on the type of shareholder for whome personal
liability is sought, whether an individual shareholder or parent corp; or
(b) Whether the alleged injury suffered by the plaintiff stems from a
contract or tort claim
ii) It has no application to passive shareholders
4) Individual Shareholder Liability (Tort)
i) Minton v. Cavaney

(a) Court uses the fact that the corporation was severely (if at all)
capitalized and found the attorney to be an active shareholder
ii) National Labor Relations Board v. West Dixie Enterprises, Inc
(a) Corporate Veil may be pierced when:
(1) There is such a unity of interest, and lack of respect given to the
separate identity of the corporation by its shareholders that the
personalities and assets of the corporation and the individuals are
indistinct; and
(i) Determined by:
a. The degree to which the corporate and legal formalities
have been maintained; and
b. The degree to which individual and corporate funds have
been comingled
c. Here, use of personal checks and credit cards for business
payments, and intermingling of personal property satisfied
this
(2) Adherence to the corporate form would sanction:
(i) A fraud
(ii) Promote injustice; or
(iii)
Lead to an evasion of legal obligations
(iv)The court, here, uses the fact that the husbands rent was paid
with the corporations funds, thereby diverting assets that could
have paid the tort claim
iii) Baatz v. Arrow Bar
(a) Court has sufficient reason to pierce when corporate fiction would
produce injustices and inequitable consequences. These occur when:
(1) Fraudulent representation by corporate directors;
(2) Undercapitalization;
(3) Failure to observe corporate formalities;
(4) Absence of corporate records;
(5) Payment by the corporation of individual obligations; or
(6) Use of the corporation to promote fraud, injustice, or illegalities
(b) Personally guaranteeing the debts of the corporation actually is
evidence that points towards not piercing the corporate veil
5) Individual Shareholder Piercing (Contract)
i) Brunswick Corp. v. Waxman
(a) Corporation was created as a dummy to filter liability, which plaintiff
was fully cognizant of, further plaintiff had full knowledge of
production capacities of the dummy corporation
(b) Court reasoned that the plaintiff received precisely what it bargained
for
6) Piercing Notes and Questions
i) Kinney Shoe Corporation
(a) Totality of circumstances
(b) Two pronged test:

(1) The unity of interest and ownership such that the separate
personalities of the corporation and the individual shareholder no
longer exist
(2) Would an equitable result occur if the acts are treated as those of
the corporation alone
(c) The court here was not in line with Brunswick in both there was a
dummy corporation setup in which no misrepresentation occurred
ii) Actual Fraud Some states expressly require a showing of actually fraud
in order to pierce
7) Business Enterprise Liability Doctrine (Generally)
i) Allege that the corporation in question is part of a larger corporate
organization and that the assets of the other related corporate entities
should be used to satisfy the other corporations debts
ii) Invoked in two different circumstances:
(a) When a corporation owns many subsidiaries (brother and sister
corporations); and
(b) When one corporation owns another in a parent-subsidiary relationship
8) Business Enterprise Liability Doctrine (Tort)
i) Walkovszky v. Carlton
(a) Majority found that in the taxicab industry, which commonly divides
the corporate entity into numerous corporations each with its own cab
or two, the statutory minimum amount of liability insurance would not
support piercing based on undercapitalization
(b) Dissent argues the statutory minimum was insufficient coverage, and
therefore there should be liability
ii) Gardemal v. Westin Hotel Co.
(a) Alter ego doctrine
(1) Subsidiary and parent are closely tied through stock ownership,
shared officers, financing arrangements and the like
(2) (Texas) Law provides that liability may be imposed on a parent
when the subject corporation is organized or operated as a mere
tool or business conduit
(3) When there is such unity between the parent corporation and its
subsidiary that the separateness of the two corporations has ceased
and holding only the subsidiary corporation liable would result in
injustice
(b) One Enterprise Doctrine
(1) Where corporations are not operated as separate entities but
integrate their resources to achieve a common business purpose,
each constitutent corporation may be held liable for the debts
incurred in pursuit of that business purpose
D) Reverse Piercing
1) Many jurisdictions hold that as an equitable remedy that a claimant may reach
the assets of a corporation to satisfy a claim against a corporate director or
officer
E) Deep Rock Doctrine

1) Court may subordinate claims of equity shareholders to those of the general

creditors when the corporation is in bankruptcy proceedings
2) Generally, there needs to be some kind of improper conduct in relation to the
loan in order to invoke this doctrine
3) It is often invoked when a parent corporation has extended loans as a
controlling shareholder to an insolvent subsidiary
4) Courts will often employ a version of the reasonable person standard when
analyzing the level of undercapitalization of a corporation when a shareholder
advanced a loan
VI) Management and Control of the Corporation
A) Social Responsibility
1) Charitable Contributions:
i) Business Judgment Rule Defense favorable publicity accompanying the
announcement of the distribution served a legitimate purpose
ii) Social Responsibility Defense as a general matter corporations have
such a responsibility
2) A.P Smith MFG. Co. v. Barlow
i) President of the company testified that the contribution to Princeton was a
sound investment because:
(a) The public expects corporations to aid philanthropic and benevolent
institutions
(b) That they obtain good will in the community by so doing
(c) That their charitable donations create favorable environments for their
business to operate; and
(d) Contributing to liberal arts institutions further their own self interest by
assuring properly trained personnel
ii) General common law was that corporations management could not
disperse funds unless there was a benefit to the corporation
(a) This is construed broadly
(b) EXCEPTIONS
(1) If the contribution was made indiscriminately; or
(2) If the charity is a pet charity in furtherance of personal, rather
than corporate ends
iii) Relevant factors in this case:
(a) Contribution made to a preeminent institution of higher learning;
(b) It was modest in amount;
(c) It was well within limitations imposed by statute;
(d) It was voluntarily made in reasonable belief that it would aid public
welfare; and
(e) With the reasonable belief that it would advance the interests of the
corporation
3) A.P. Smith Notes and Questions
i) All corporate codes contain provisions allowing corporations to make
charitable donations. E.g., MBCA 3.02(13)
(a) Some codes allow donations irrespective of corporate benefit
ii) Some states have adopted other constituency statutes

(a) Effectively this allows a board to take into account the effects of its
actions on various constituencies of the corporation such as
employees, suppliers, and communities
(b) Approximately thirty states have adopted such statues
B) Corporate Purpose
1) Dodge v. Ford Motor Co.
i) In the most extreme circumstances, the courts might require you to
provide a dividend
ii) In part, the court was not thrilled with Fords, pretty much blatant
disregard of the maximizing profits for shareholders and focusing on the
common man
C) Corporate Governance
1) Generally Refers to the allocation of power between and among the
corporate board and shareholders
i) Stockholders
(a) Right to vote on specific matters, in particular the election of directors
ii) Directors
(a) The power of managing the corporate enterprise
2) Note The articles of incorporation can allocate greater power to the
shareholders such as:
i) Approving particular transactions; or
ii) The exclusive power to amend the bylaws
3) Mount Manor Realty, Inc. v. Buccheri
i) The code required a corporation to have at least three directors at all times
ii) The code also required that a quorum be no less than 1/3 of the entire
board or two directors
iii) Defendant was left as sole director and appointed friendly directors
iv) The court reasoned this was ok given the language of the statute which
said a majority of the remaining directors, whether or not sufficient to
constitute a quorum, may fill a vacancy on the board
D) The Board of Directors and its Committees
1) The Function of the Board
i) The board is responsible for managing the business and affairs of the
corporation
ii) The ordinary rules of agency are applicable in considering the actions of
the board of directors in relation to third parties
iii) The relation of the directors to the stockholders is essentially that of
trustee and cestui que trust
iv) Directors of a corporation are not agents of the corporation unless
specifically authorized by the board of directors to do so
v) Directors can only act in consort with the other directors
2) Board Structures
i) Under NASDAQ Rules a board member is not independent if:
(a) They have been employed by the company in the last three years
(b) The director or any member of their family has received in excess of
120k during any one of the last three years from the company

(c) The director has a family member who is an executive officer of the
company
(d) The director is, or has a family member who is, a partner or controlling
shareholder
(e) The director or family member is employed as an executive officer at a
company where the issuers exucitve officer is on the compensation
committee
(f) The director or family member is a current parner of the issuers
auditor
(g) In the case of an investment company, an interested person under the
ICA
ii) In re Oracle Corp 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
iii) SOX requires publically held companies to have an independent audit
committee that shall be responsible for things such as compensation
E) Removal of Directors
1) Generally
i) At common law, directors could be removed only for cause
ii) Modern statutes permit shareholders to remove directors with or without
cause, unless the articles require cause
2) EXCEPTIONS
i) Classified Board generally directors can only be removed for cause
ii) Cumulative Voting No director may be removed without cause if the
votes against his removal would be sufficient to elect him
3) Superwire.com, Inc. v. Hampton
i) Superwire was a principal shareholder of Entrata and sought to exercise its
voting power to remove directors
ii) Under the applicable Delaware law, if shareholders of the majority of
outstanding shares execute a written consent to a proposed action it takes
effect when the consents are delivered to the corporation
iii) Entrata sought to stop this by issuing additional shares and asking voters
to revoke their consent
iv) A for cause removal of a director requires notice of:
(a) Specific charges for his removal;
(b) Adequate notice; and
(c) A full opportunity to meet the accusation
v) The consequences (E.g., reputation) of for cause removal warrant this
4) Amotion Common law right of courts to remove directors for cause
F) Equitable Restraints on Board Action
1) An action taken by the board of the directors is effective and binding if:
i) A quorum of the board is present; and
ii) The action is approved by the affirmative vote of a majority of directors
present
iii) See MBCA 8.24
2) Note the articles of incorporation may vary these requirements

3) Presuming the board acts consistently with the bylaws, the articles of
incorporation, and statutes, its actions may not be challenged by the
shareholders or third parties, unless, in the case of shreholders, the claim is
made that the action is a violation of the boards fiduciary duties of loyalty
and care
4) One way to justify this is seeing the bylaws and the articles as a contract
between the shareholders and directors
5) Schnell v. Chris-Craft Industries, Inc.
i) Petition of stockholders fo injunctive relief to prevent management from
advancing the date of the annual stockholders meeting from Jan 1972, to
Dec 1971
ii) The conclusions of the trial court amount to a finding that management
has attempted to utilize the corporate machinery and Delaware law for the
purpose of perpetuating itself in office
iii) These are inequitable purposes contrary to established principles of
corporate democracy
iv) Inequitable action does not become permissible simply because it is
legally possible
v) In the absence of fraud or inequitable conduct, the date of a stockholders
meeting and notice thereof, duly established under the bylaws, will not be
enlarged by judicial interference at the request of dissident stockholders
solely because of the circumstances of a proxy contest
6) Blasius Industries, Inc. v. Atlas Corp.
i) Schnell stands for the proposition that directors hold legal powers
subjected to the supervening duty to exercise such powers in good faith
pursuit of what they reasonably believe is in the corporations best interest
ii) Even though the action was taken in good faith, the action constituted an
unintended violation of the duty of loyalty
iii) Although, in other instances a board may act paternalistically against a
shareholders idea, they may not do so with respect to who should
compromise the board of directors
iv) The motivation question is less clear: whether the existing members of the
board did so because they held a good faith belief that such shareholder
action would be self-injurious to the shareholders and they needed to be
protected from their own action
v) Analogous Example: a board may take certain steps such as the purchase
by the corporation of its own stock in defeating a threatened change in
control when those steps are taken:
(a) Advisedly
(b) In good faith pursuit of a corporate interest; and
(c) Reasonable in relation to a threat to legitimate corporate interests
posed by the proposed change in control
G) Board Committees
1) Committees may have broad authority to act

2) Under the MBCA the only authority denied is authorizing distributions,

proposing actions requiring shareholder approval, filling voard vacancies, and
amending bylaws MBCA 8.25(e)
3) Audit committees
i) Given recent scandals there has developed a trend for independent audit
and compensation boards
ii) SEC and SRO promulgated rules for audit committees:
(a) Companies must maintain audit committees composed of only
independent board members
(b) The committee must have three directors
(c) The committees members must be financially literate
(d) At least one director must have financial management or accounting
experience
(e) The company must adopt a written charter outlining the scope of the
committee
H) The Role of Officers
1) The officers run the day-to-day business of the corporation
2) The officers are agents, and therefore, have a duty to act with diligence, in
good faith, and with loyalty. The later includes a duty of candor
3) The authority provided to officers can be found in:
i) The corporation code
ii) The corporations bylaws
iii) The employment contract
iv) Board resolutions
v) The common law of agency
vi) The articles of incorporation
vii) The authorized direction of a superior officer
4) Grimes v. Alteon, Inc.
i) President and Chief XO of the company told plaintiff he could buy 10% of
any new issuing of stock
ii) The company subsequently did not allow the plaintiff to participate in a
private offering of stock
iii) The appeals court will dismiss because the agreement is invalid because:
(a) It was not approved by the board of directors; and
(b) It was not memorialized in a written instrument
iv) The statutes, read together, advance two fundamental policies:
(a) To consolidate in its board of directors the exclusive authority to
govern and regulate a corporations capital structure; and
(b) To ensure certainty in the instruments upon which the corporations
capital structure is based
v) The issuance of stock has fundamental legal significance because it has
direct bearing upon questions of corporate governance, control and capital
structure
vi) The board has exclusive authority to issue stock and regulate a
corporations capital structure
5) Grimes Notes and Questions

i) Inherent Authority (although it was rejected by the restatement writers, is

often used to describe the authority of officers
I) Duty to Creditors
1) Whether directors owe a duty to creditors arises often
2) While they could, in theory contract, whatever duties theyd like, some
circumstances will find that directors owe fiduciary duties to creditors
VII) Shareholders
A) The Role of Shareholders
1) The shareholders role in the scheme of corporate governance is limited:
i) They elect directors
ii) They can vote on fundamental changes to the corporation
(a) Mergers
(b) Sale of substantially all of the corporations assets
(c) Amendments to the articles of incorporation
iii) Amend the bylaws (subject to certain limitations)
iv) Propose various resolutions to fellow shareholders (publically-held)
v) Under some circumstances they can remove directors
2) International Brotherhood of Teamsters v. Fleming Companies, Inc.
i) Two questions:
(a) Does OK law restrict the authority to create and implement
shareholder rights plans exclusively to the board of directors; and
(b) May shareholders propose resolutions requiring that shareholder rights
plans be submitted to the shareholders for vote at the next annual
meeting
ii) They find no OK law that gives exclusive authority to a corporations
board of directors for the formulation of shareholders rights plans
iii) Teamsters, as shareholders, proposed an amendment to the companys
bylaws which would require any rights plan implemented by the board of
directors to be put to the shareholders for a majority vote (poison pill)
iv) The board refused to do so declaring the proposal not subject to
shareholder action under OK law
v) The question is ultimately one of corporate governance and what degree of
control shareholders can exact upon the corporations in which they own
stock
vi) Shareholders may, through the proper channels of corporate governance,
restrict the board of directors authority to implement a shareholders
rights plan
3) Teamsters Notes and Questions
i) Under the MBCA the directors and shareholders share the power to amend
the bylaws unless it is exclusively reserved to the shareholders in the
charter
ii) Shareholders have the ability to act by written consent, previously this
required unanimity, but no longer
iii) There are limits on the types of bylaws shareholders may adopt
(a) They must be process based defined broadly
B) Shareholder Voting

1) Proxy Voting
i) Solves some of the problem of widely dispersed shareholders
ii) Proxy Card authorizes someone, generally corporate manager, to vote
their shares
iii) Typically they are revocable and expire after a set time
iv) A shareholder, under SEC rules, may direct how the holder of a proxy is to
vote
2) Schreiber v. Carney
i) Reorganization of TIA into a holding company in which the shareholders
of the old corporation would have substantial shares in the new one
ii) In order to facilitate this, a solution provided one shareholder with funds
necessary to avoid tax consequences
iii) The arrangement was approved by independent directors and a majority of
the unaffiliated shareholders
iv) Plaintiff challenged on vote-buying grounds
v) Was the loan vote buying, and is vote buying, per se, illegal
vi) Defendants contend, in effect, that voting buying is not illegal per se
because the end justified the means
vii) Two principles from case law:
(a) Vote buying is illegal per se if its object or purpose is to defraud or
disenfranchise other shareholders
(1) Fraudulent purpose is classified as deceit which operates
prejudicially upon the property rights of another
(b) Vote buying is illegal per se as a matter of public policy, the reason
being that each stockholder should be entitled to rely upon the
independent judgment of his fellow stockholders
(1) The underlying purpose then is fraud here too, but viewed from the
sense of the duty of all stockholders owed to each other
viii)
Voting agreements, as a general matter, are not illegal per se,
unless the object is to defraud other stockholders
ix) The agreement was not void per se because its purpose was not to defraud
other stockholders, but it was voidable.
x) As a voidable act it was subject to the ratification of stockholders
3) Schreiber Notes and Questions
i) Empty Voting where shares are voted by person who have no economic
interest in the underlying shares they are voting
ii) A corporation may use corporate resources in re-election of incumbent
directors as long as:
(a) The contest posits policy differences and not just personality
differences among the directors
(b) The expenses must be reasonable and proper for solicitation
(c) If the insurgents prevail in election, they can obtain reimbursement for
their expenses from the corporate treasury, subject to shareholder
approval
C) Shareholder Inspection Rights

1) Common law recognized the right of shareholder to inspect corporate books

and records as an incidence of ownership, and that is included, with some
exceptions, in all corporate codes
2) MBCA Recognizes two categories subject to inspection:
i) Information that is readily available and not particularly valuable
(a) E.g., the articles of incorporation, bylaws, board resolutions, relating
classes or series of shares, names and addresses of boards, etc
(b) Shareholders wishing to inspect need only make a written demand 5
days in advance
ii) Information that may ot be easily assembled and that, often, the
corporation wishes to keep private
(a) E.g., director minutes, accounting records, list of shareholders
(b) Shareholders demand for this information must be made in good faith
and for a proper purpose
(c) Additionally, the shareholder must describe with reasonable
particularity his purpose and the records he desires to inspect
(d) Finally, the record sought must be directly connected to his purpose
3) State Ex. Rel. Pillsbury v. Honeywell, Inc.
i) Petitioner bought shares in the company with the express purpose of
opposing the Vietnam War
ii) Prior to trial, the plaintiff submitted two formal demands requesting
Honeywell produce its original shareholder ledger, current shareholder
ledger, and all corporate records dealing with weapons and munitions
manufacture
iii) Plaintiff needed to demonstrate a proper purpose germane to his interest as
a stockholder
iv) The court defines a proper purpose as a concern with investment return
v) Other courts agree that communication with shareholders is, per se, a
proper purpose
vi) A purpose of implementing ones own beliefs on the validity of a
corporations actions is hardly a motivation that can be deemed a proper
purpose germane to his economic interest as a shareholder
vii) His sole purpose was implementing his social and political agenda: this
will not satisfy the common law / statutory requirements
4) Seinfeld v. Verizon Communications, Inc.
i) Brought suit to compel Verizon to produce books and records related to
the compensation of Verizons three highest paid corporate officers
ii) Stated purpose was to investigate corporate waste through excessive
compensation
iii) He had no factual support for his claim that mismanagement had occurred
iv) Can a stockholder seeking inspection (DGCL 220) be entitled to relief
without being required to show some evidence to suggest a credible basis
for wrongdoing
v) A stockholders desire to investigate wrongdoing or mismanagement is a
proper purpose

vi) Conventional jurisprudence on the matter aims to balance the rights of

shareholders to obtain information based on credible allegations of
mismanagement and the rights of director to manage the corporation
without undue interference
vii) There must be some evidence of possible mismanagement as would
warrant further investigation of the matter
viii)
A mere statement of a purpose to investigate possible general
mismanagement, without more, will not entitle a shareholder to inspection
ix) Indiscriminate fishing investigations are not a benefit to the corporation
x) At some point, the costs of generating more information fall short of the
benefits of having that information
xi) Stockholders need only that by a preponderance of evidence, a credible
bassi from which the court of chancery can infer that there is a possible
mismanagement issue that would warrant further investigation
5) Seinfeld Notes and Questions
i) Delaware courts have held that a shareholder has a proper purpose to
inspect the shareholder list if the shareholder seeks
(a) To communicate with other shareholder about joining in a suit against
the corporation (either as a direct or derivative action); or
(b) To solicit proxies from fellow shareholders in an election of directions
D) Shareholders Agreements
VIII) Closely Held Corporations
A) Introduction
1) Definition
i) Corporations having a small number of shareholders;
ii) Who normally expect to be involved in the day to day management and
operations of the corporations business; and
iii) Who have shares that are not registered with the SEC, listed stock
exchange, or otherwise regularly traded on a securities market
2) Alternative Definition
i) A small number of shareholders;
ii) No ready market for its stock; and
iii) Substantial majority shareholder participation in the management,
direction, and operation of the business
3) Theyre incorporated partnerships incorporated primarily to obtain the limited
liability of a corporation
4) Courts have generally held that shareholders of closely held corporations are
not only fiduciaries to the corporation but also fiduciaries to one another
5) Distribution
i) Generally do not distribute cash or other assets to their shareholders;
ii) Instead, they provide compensation to shareholders in the form of salaries
and bonuses as compensation for their services as officers and employees
6) Fractures
i) One or more of the shareholders may be terminated as a corporate officer
or employee, and consequently denied payment because there are no
dividends distributed

ii) Unlike in a normal corporation, the shareholder is unlikely to be able to

simply walk away
7) Lawyers representing closely held corporations
i) Should advise their clients to create a stock purchase plan (set on some
pre-determined valuation formula)
ii) Should advise clients to incorporate transfer-restrictions in the stock to
avoid newcomers to the company
8) Some of things required in this may be anti-statutory, but courts have
recognized the special dynamic of close corporations
B) Fiduciary Duties Among Shareholders
1) Donahue v. Rodd
i) Plaintiff brought suit against shareholders seeking to rescind the purchase
of another individuals shares and to repay the corporation the purchase
price of the shares
ii) Son of the individual whos stock had been bought acting on the
companys behalf bought his fathers shares
iii) When the plaintiff heard of this, they offered to sell a similar amount of
shares to the corporation on the same terms
iv) Plaintiff characterized the sale as an unlawful distribution of corporate
assets
v) Plaintiff argues that because the defendants failed to accord her an equal
opportunity to sell her shares to the corporation, they breached their
fiduciary duties
vi) Close Corporation Definition:
(a) A small number of shareholders
(b) No ready market for the corporate stock; and
(c) Substantial majority stockholder participation in management,
direction, and operations of the corporation
vii) The relationship among stockholders must be one of trust, confidence, and
absolute loyalty
viii)
Reasons:
(a) Fundamental resemblance of the close corporation to partnerships;
(b) The trust and confidence which are essential to this scale and manner
of enterprise; and
(c) The inherent danger to minority interests in a close corporation
ix) They owe substantially the same duty in the operation of the enterprise
that partnerships owe to one another: utmost faith and loyalty
x) Equal Opportunity in a Close Corporation
(a) A corporate act to reacquire shares must be made in good faith and
without prejudice to creditors and stockholders; and, in a close
corporation they must have acted with utmost good faith and loyalty to
other stockholders
(b) To Meet this Test
(1) If the stockholder whose shares were purchased was a member of
the controlling group

(2) The controlling stockholders must cause the corporation to offer

each stockholder an equal opportunity to sell a ratable number of
shares to the corporation at an identical price
(c) Benefits Conferred by the Purchase are Twofold:
(1) Provision of a market for the shares; and
(2) Access to corporate assets for personal use
xi) Unless there is an equal opportunity to all stockholders, the purchase of
shares from a member of the controlling group operates as a preferential
distribution of assets
xii) Two Forms of Relief
(a) Remit the money paid to the controlling shareholder back to the
corporation in exchange for the shares; or
(b) Have the corporation purchase shares from the minority shareholder in
a pro rata amount (100 percent of majority bought, so 100 percent of
minority must be purchased)
2) Donahue Notes and Questions
i) Fiduciary duties owed among shareholders in closely held corporations are
not limited to those who are majority or controlling shareholders
3) Smith v. Atlantic
i) Single shareholder (of four) consistently voted not to distribute a dividend
which required a supermajority to approve
ii) Such voting caused the company to suffer damages according to state
corporate law
iii) Court found him to be an ad hoc controlling shareholder due to the
supermajority requirement
4) Merola v. Exergen Corporation
i) Even in close corporations the majority must have a large measure of
discretion:
(a) Withholding/Distributing dividends
(b) Deciding whether to merge or consolidate
(c) Establishing the salaries of corporate officers
(d) Hiring and firing employees
ii) While (d) is true, the termination of a minority shareholders employment
may present a situation where the majority interest has breached its
fiduciary duty to the minority interest
iii) In this instance, the investment of stock was not particularly tied to
employment: there was no testimony that the route to employment
required him to purchase stock
iv) The controlling stockholder must have some room to move
5) Notes and Questions
i) It is important to distinguish the fiduciary duties of shareholders in closely
held corporations from the fiduciary duties owed by majority or
controlling shareholders generally
C) Oppression, Deadlock, and Dissolution
1) Generally

i) If the majority shareholders will not purchase the stock of the minority in
a closely held corporation, the minority can bring suit for involuntary
dissolution on the grounds of oppression. See MBCA 14.30(a)(2)(ii)
ii) The plaintiff shareholder must prove that:
(a) Oppression has occurred
(1) Generally not viewed as a single instance of misconduct but a
course of misconduct intended to harm the shareholder
iii) Dissolution extinguish the corporate existence and require winding up of
the corporate affairs, and liquidation
iv) Given this extreme remedy courts generally condition dissolution on the
majority purchasing the minoritys stock for a fair price
2) Modern Statutes Typically Include the Following
i) The directors are deadlocked in the management of the corporation, the
shareholders are unable to break said deadlock, and irreparable harm is
threatened
ii) The shareholders are deadlocked in voting power and have failed in two or
more annual meetings to elect successor directors
iii) The directors or those in control of the corporation have engaged in
conduct that is illegal, oppressive, or fraudulent
iv) The corporate assets are being misapplied or wasted
3) Gimpel v. Bolstein
i) Plaintiff brought a petition to dissolve the corporation
ii) Family corporation in which family members have always participated
iii) Plaintiff was alleged discharged due to embezzlement allegations
iv) After discharge he received no benefit from the corporation
v) Allegations of oppressive conduct
(a) Excluded from corporate participation
(b) The profits are distributed through salaries, and no dividend is
declared
(c) He was excluded from examination of the corporate books
vi) Oppressive Conduct Defintions
(a) Violation by the majority of the reasonable expectations of the
minority
(1) Has to deal with the expectations of the founders among one
another
(b) Burdensome, harsh and wrong conduct, a lack of probity and fair
dealing in corporate affairs; or visible departure from the standards of
fair dealing
vii) While neither test is satisfied here (given previous conduct) there is a limit
to what a shareholder can be forced to bear
viii)
The court therefore, requires to alter the financial structure or make
a reasonable offer on the dividends
D) Shareholders Agreements
1) Introduction
i) Many of the common difficulties experiences by shareholders can be
either avoided or resolved vy careful corporate planning

ii) However this requires knowing the usual and reasonable expecations of
shareholders and the development of control devices to frustrate those
expectations
(a) Membership in the board of directors;
(b) Voting rights proportionate to investment that can not be diluted by the
issuance of additional authorized shares
(c) The right to veto material changes to the structure and purpose of the
venture
(d) The right to veto or at least approve new owner-shareholders of the
enterprise
(e) Employment by the corporation as an officer or other primary
employee with reasonable salary and bonuses
(f) Liquidity rights that facilitate the fair value redemption of shares by
the corporation or other shareholders upon the occurrence of certain
triggering events
(g) The equal opportunity to participate in corporate benefits
(h) Various limitations on purpose and powers of the corporation
iii) The common control devices include:
(a) Agreements relating to preemptive rights
(b) Supermajority voting requirements
(c) Vote pooling agreements and voting trusts
(d) Irrevocable proxies
(e) Multiple classes of stock
(f) Limitations on purpose and power of the corporation
(g) Provisions facilitating liquidity
2) Preemptive Rights, Supermajority Voting, and Classified Stock
i) Preemptive Rights
(a) Rights to purchase pro rata share of additional shares offered by the
corporation (keeps the status quo)
(b) Under most statutes shareholders do not have such a right by statute
unless the articles specifically grant those rights
(c) Preemptive rights do not apply to shares issued as compensation to
directors, officers, or employees of the corporation, authorized shares
issued within the first six months of incorporation, or shares sold
otherwise than for money
(d) Preemptive rights are waivable by conduct making it necessary for
shareholders to be aware when new stock is issued
ii) Supermajority Voting and Quorum Provisions
(a) Amendments to the charter require a minimum quorum of a majority
of the shares entitled to be cast
(b) I.e., Majority of the voting shares outstanding must be present to
convene a meeting
(c) If this majority is present, therefore, only a plurality of votes need to
be cast to amend the bylaws
(d) This can be avoided by inclusion of supermajority voting or
supermajority quorum provisions

(e) Supermajority voting and quorum provisions for meetings of boards of

directors may also be prescribed in the articles of incorporation
(1) Absent such a directive most corporate statutes set a quorum as a
simple majority
(f) All closely held corporations should consider inclusion of these two
provisions
(g) Consideration should also be given for a supermajority requirement of
amendments to the bylaws
iii) Classification of Stock
(a) A minority shareholders preference for veto power can also be
realized through the issuance of classified stock
(b) Essentially this could allow a classified version of stock to be elected
to vote a certain number of directors thereby assuring a minority the
ability to appoint a director
(c) Additionally, it can be a method to reflect investment disparity but a
desire for equal voting rights
(1) 50% contributed by A, who receives 100 common stock and 100
non-voting
(2) 25% contributed by C and D respectively who receive 100
common stock and 50 non-voting stock
(d) Lehrman v. Cohen
(1) Two families; each controlled an equal quantity of voting stock;
each is entitled to elect two members of the four member board
(2) Modification approved to establish a fifth directorship to avoid
deadlock
(3) New stock to elect director created, and has no rights to profits
(4) New stock distributed to corporate counsel
(5) Plaintiff contends this is a voting trust which requires a court to
find:
(i) The voting of the rights of stock are separated from the other
attributes of ownership;
(ii) The voting rights granted are intended to be irrevocable for a
definite period of time; and
(iii)
The principal purpose of the grant of voting rights is
acquire voting control of the corporation
(6) Such a voting trust cannot exist for more than ten years
(7) Second contention is that the creation of a class of stock with
voting rights only is a violation of public policy
(i) There is nothing in DE law that requires voting rights be
attached to priority interest
(ii) The statute permits the creation of stock with voting rights only
and with proprietary rights only
3) Shareholder Voting Agreements and Irrevocable Proxies
i) Pooling Agreements
(a) Shareholders of like minds may enter into an agreement in which they
pool their shares as a voting block

ii)

iii)

iv)

v)

(b) Generally these pooling agreements set forth an agreement to vote in

board of directors elections for specified individuals or for the
nominees of the parties to the agreement
(c) They may also provide for certain negative or affirmative votes on
certain delegated policies
(d) Generally, these are specifically enforceable given the difficulty in
calculating monetary damages for breach
Voting Trusts
(a) Similar to a pooling agreement, but the shareholders actually transfer
legal title to their shares to the trustee who they designate in the
agreement
(b) Unless extended it is valid for not more than ten years
Irrevocable Proxies
(a) Often these serve to compliment shareholder agreements that relate to
the voting of shares
(b) They are a control device by which shareholders agree to grant another
person or each other binding authority to vote their shares
(c) Under modern corporate statutes, the appointment will be irrevocable
if the appointment form expressly states that it is irrevocable and the
appointment is coupled with an interest
(d) Proxy holders having appointments coupled with an interest
commonly include:
(1) Pledgees
(2) Persons who have purchased or agreed to purchase shares
(3) Creditors who have required proxy appointments in loan
agreements
(4) Employees with employment contracts that require the appoint
appoint
(5) The parties to the voting agreement
Shareholder Agreements Restricting Board Discretion
(a) Many of the expectations of minority shareholders in a closely held
corp can be satisfied by shareholder agreements addressing matters
normally within the discretion of the board
(b) The problem with this is that the boards responsibilities are based on
their authority. When you decrease their authority, you must decrease
their liability
(c) Clark v. Dodge
(1) Action for specific performance of a contract between the plaintiff
and defendant relating to the affairs of two defendant corporations
(2) Where the public is not effected the parties in interest, might by
their original agreement of incorporation, limit their respective
rights and powers even where there is a conflicting statutory
standard
(3) While the agreement was in effect an invasion into the rights of the
directors there was no damage suffered or threatened to anyone
Restrictions on Transfer of Shares

(a) Introductory Note

(1) Restrictions on the transfer of shares in a closely held corporation
may be set forth in a corporations articles of incorporation,
bylaws, or in a shareholders agreement among all or certain
shareholders, or among the corporation and all or certain
shareholders
(2) The purpose, primarily, is to limit third parties and control of the
entry of new partcipants in the enterprise
(3) The other primary purpose is provide liquidity for the shareholders
of closely held corporations
(4) The MBCA provides that share transfer restrictions are authorized
(i) To maintain the corporations status when it is dependent on
the number or identity of its shareholders
(ii) To preserve exemptions under federal or state securities law
(iii)
For any other reasonable purpose
(5) Types Authorized by the MBCA
(i) First offer restrictions that obligate the shareholder to first offer
the corporation or other persons an opportunity to buy the
shares
(ii) Mandatory buy-out restrictions that obligate the corporation to
other person to acquire the shares
(iii)
Consent restrictions that require the corporation or other
persons to approve any proposed transfer of shares, if not
manifestly unreasonable
(iv)Marketability restrictions that prohibit the transfer of the shares
to designated persons or classes of persons if not manifestly
unreasonable
(6) Transfer restrictions do not effect shareholders who purchased the
shares before the trestriction was adopted unless they voted in
favor of the restriction, or are parties to the shareholder agreement
that imposed them
(7) The transfer restriction is valid against shareholder who purchased
shares after the restriction was adopted if the restriction is
conspicuously noted on the share certificate
(b) First Options and Refusals
(1) This includes two basic types of stock transfer restrictions
(i) First refusals prohibition on the sale of shares to third parties
unless first offered to the corporation or its shareholders on the
same terms including price offered to the third party
(ii) First options Prohibit the sale of shares to third party unless
first offered to the corporation at a specific price or price
determined by formula set forth in the restriction
(2) In re Estate of Mather
(i) Restraint on alienation set the sale price of the stock at one
dollar, which at the time the restraint was made, it was a fair
price

(ii) However, by the time the person sough to sell, the share price
was much much higher
(iii)
Great difference between the sale price and the actual value
of the stock is insufficient to invalidate a restriction on
alienation agreement
IX) Fiduciary Duty
A) Introduction
1) Recognition of a relationship denominated as a fiduciary means that credible
legal authority has found that the person (the fiduciary) has control over, and
responsibility for, the will being and destiny of the other
2) Designation as a fiduciary requires that person to exercise a certain degree of
selflessness
i) The degree required varies by law
3) This chapter deals with five types of persons the law invariably denominates
as fiduciaries:
i) Partners;
ii) LLC managers
iii) Corporate directors
iv) Corporate officers; and
v) Controlling shareholders
4) While these people have duties on the up hill they are not equivalent to the
duties owed by people such as trustees or guardians
5) So, fiduciary duties are not the same throughout, but instead exist on a
spectrum
6) For Shareholders though
i) They can pursue their own self interest but could not go so far as to work a
fraud, commit an illegality, or reap a benefit to the detriment or exclusion
of the other shareholders
7) The Duties
i) Duty of care the amount of care exercised by persons in similar
circumstances
ii) Duty of loyalty place the best interests of the corporation over those of
self, family, friends, or other businesses in which they have an interest
8) Even though a director may exercise due care, and believe fervently that they
are acting in the best interest, it may still be against their best interest
9) States have been reluctant to find other duties, but recently they have found
that there may exist a duty of candor (disclosure)
B) Violation of Duty
1) Francis v. United Jersey Bank
i) Whether a corporate director is personally liable in negligence for failure
to prevent the misappropriation of trust funds by other directors who were
also officers and shareholders of the corporation
ii) Essentially, a dummy director should have been aware of fraud that was
being perpetrated by the other directors
iii) They dont need to knowing everything going on, but:

(a) Should maintain a familiarity with the financial status of the

corporation by a regular review of the financial statements; and
(b) They are under a continuing obligation to keep informed about the
activities of the corporation
iv) Reasonable attempts should be made at detection and prevention of illegal
conduct
v) Instances of dissenting director would generally absolve them of liability
vi) Her conduct was such a cause that it was reasonable to find that she was a
proximate cause of the violation engaged in buy her sons
2) Francis Notes and Questions
i) Duties to Whom?
(a) An officer or a director owes their duty to the entire corporation
(b) In most instances, shareholders may not bring an action directly
against an officer or director because they owe no duty to the
shareholders
(1) They may instead use a derivative action assuming they can supply
a number of prerequisites
ii) Duty to Shareholders?
(a) Some judges may mistake this, but it causes few problems because the
interests of shareholders are generally held to be congruent to those of
the corporation
iii) Duties to Depositors?
(a) One subgroup of creditors, depositors in financial institutions may
have responsibilities directly to them
iv) Use of Advisory Boards of Directors
(a) In high tech and very technical fields directors may form advisory
boards
v) Sub-Duties of the Duty of Care
(a) In the case of a public company, the boards oversight responsibilities
include attention to:
(1) Business performance and plans;
(2) Major risks to which the corporation may be exposed;
(3) The performance and compensation of senior officers;
(4) Policies and practices to foster the corporations compliance with
law and ethical conduct;
(5) Preparation of the corporations financial statements;
(6) The effectiveness of the corporations internal controls;
(7) Arrangements for providing adequate and timely information to
directors; and
(8) The compensation of the board and its committees, taking into
account the important role of independent directors
vi) Caremark Duties
(a) In large modern corporations directors must insure that corporations
and their senior managers have in place a preventative law system (an
information and reporting system) which insures that all the

corporations business complies with the law and gives warning

system where danger of noncompliance might exist
vii) Duty to Creditors
(a) When the corporation is on the bring of insolvency, the corporation
may owe duty to creditors
C) Proximate Causation
1) Barnes v. Andrews
i) Plaintiff has the burden of showing that performance of the defendants
duties would have avoided the loss, and what loss it would have avoided
ii) When a business fails to general mismanagement, business incapacity, or
bad judgment, it is difficult to say that a single director could have stopped
such a failing
2) Barnes Notes and Questions
i) Superceding Causes
(a) A defendant may avert liability by demonstrating that an intervening
cause superceded any proximate or legal cause that may have existed
ii) Requirement of Damages
(a) A duty of care case requires the directors actions to have proximately
caused damage to the entity
D) The Business Judgment Rule
1) Smith v. Van Gorkom
i) Class action brought by shareholders of the corporation, seeking recession
of a cash-out merger
ii) Judgment of the lower court was that the merger was entitled to the
protection of the business judgment rule because it was engaged in with an
informed manner
iii) The appeals court did not find that it was not the product of informed
judgment
iv) The lower court thought the three different times the board considered the
proposal entitled it to the business judgment rule because it was enough to
find the decision was made on an informed basis
v) The business judgment rule exists to protect and promote the full and free
exercise of the managerial power granted to directors:
vi) The rule is a presumption that in making a decision the directors of the
corporation acted in:
(a) An informed basis;
(b) In good faith; and
(c) In the honest belief that the action taken was in the best interests of the
company
vii) Thus, the party attacking a board decision must rebut the presumption that
its business judgment was an informed one
viii)
Fulfillment of the fiduciary function requires more than the mere
absence of bad faith or fraud
ix) A directors duty to exercise an informed business judgment is in the
nature of the duty of case, as distinguished from a duty of loyalty

x) Here, where there are no allegations of fraud, bad faith, or self-dealing, it

is presumed that the directors reached their business judgment in good
faith, and considerations of motive
xi) Gross negligence is the standard in determining whether a business
judgment by a board of directors was an informed one
xii) Reasons:
(a) Direcotrs did not adequately inform themselves of the Van Gorkums
role in forcing the sale;
(b) The per share purchase price was uniformed as to the intrinsic value of
the company; and
(c) Given these circumstances, at a minimum they were grossly negligent
in confirming the sale
xiii)
Held the boar breached the fiduciary duties to the stockholders in
their value to inform themselves of all information reasonably available
and relevant
2) Van Gorkum Notes and Questions
i) Reverse Roadmap Case
(a) One can use this case as a guide for what not to do
(b) Advise an attorney ought to give:
(1) Consult internal corporate personnel, requesting copies of any
reports or studies;
(2) Use outside experts;
(3) Meet in executive session
(4) Insist on provision of written documents
(5) Insist on time to consider the decision outside of meetings
ii) Legislative Trump Card
(a) Legislatures responded to this case by enacting things like DGL 102(b)
(7)
(b) This law enables corporations and drafters to add a provisions
eliminating or limiting the personal liability of a director for monetary
damages for breach of a fiduciary duty as a director:
(1) So long as it does not limit the liability of a director for
(i) Any breach of the directors loyalty to the corporation
(ii) For acts or omissions not in good faith or which involve
intentional misconduct or a knowing violation of the law
(iii)
Knowingly authorizing illegal distributions; or
(iv)For any transaction from which the director derived an
improper benefit
E) The Duty of Loyalty
1) Hayes Oyster v. Keypoint
i) Defendant was required to inform the board he was a member of, in his
interest in the transaction that was occurring
ii) This arose from the probability that some controversy might arise between
the two corporations, relative to the numerous provisions of the executory
contract
iii) It is not necessary that an intent to defraud its original corporation

iv) The remedy will be a recission of the issuance of the stock acquired by the
director and given to the corporation
2) Hayes Notes and Questions
i) Harm to the Principal or Illcit Gain to the Director or Officer?
(a) A gain incurred while serving the best interest of a competitor or ones
self may be sufficient ground for an action
ii) Mechanical Rules
(a) Contracts and other dealings tainted with a duty of loyalty violation
are voidable, not immediately voided
iii) Pedestrian Cases
(a) The duty of loyalty also serves to vindicate things such as brazen
thievery, outright conversion, and destruction of corporate property
iv) Non-Shareholder Constituency Cases
3) DGL 144
i) Transactions shall not be void solely because a director who has a
conflicting interest voted for the transaction, if:
(a) The material facts are disclosed and a majority of the disinterested
directors approve;
(b) The material facts are disclosed and made known to the shareholders
who then approve the transaction in good faith; or
(c) The contract or transaction is fair at the time it is authorized
4) Usurpation of a Corporate Opportunity
i) Today Homes, Inc. v. Williams
(a) There must be some kind of corporate opportunity, otherwise there
isnt anything to argue about
(1) If the corporation could not have afforded the opportunity there is
no opportunity
(2) However, be wary however of the corporations ability to obtain
credit
(b) Its seems the courts will find a corporate opportunity when I dont
necessarily think its there
(c) What duty, if any
(1) A corporate officer or director is under a fiduciary obligation not to
divert corporate business opportunity for personal gain because the
opportunity is considered property of the corporation
(2) Good faith alone is not sufficient in the absence of full disclosure
and consent of interested parties to have an exception to the rule
(d) Prima Facie Case
(1) Show a corporate opportunity existed
(2) The corporate fiduciary appropriated it without disclosure and
consent
(e) The burden then shifts to the defendant to show why the taking of the
corporate assets was not a breach of the fiduciary duty
(f) Simple resignation does not stop liability if the opportunity arose while
the fiduciary was employed by the company

(1) There needs to be more than just sort of passing information about
the opportunity though
ii) Brandt v. Somerville
(a) Closely held corporation incorporated to manufacture a patented
bearing puller developed
(b) Four tests established for identifying a corporate opportunity:
(1) Line of business test
(2) Interest and expectancy test
(3) Fairness test
(4) ALI test
(c) Under any test, a corporate opportunity exists when a proposed
activity is reasonably incident to the present or prospective business
and is one in which the corporation has the capacity to engage
iii) Notes and Questions
(a) Unfairly Prejudicial Conduct
(1) Lawyer advice in the instance of a potential usurpation of a
corporate opportunity:
(i) Make full disclosure of both the officer/directors interest and
the corporations potential interest
(ii) Procure Two votes by disinterested directors:
a. That the corporation does not wish to avail itself of the
opportunity; and
b. That it is fair to the corporation for the director/officer to
pursue the opportunity
F) Directors and Officers Compensation
1) Ryan v. Gifford
i) Wall Street released an article about questionable compensation packages
ii) Back-dating
(a) Company issues stock options on one date, while providing fraudulent
documentation asserting the options were actually issued on another
day
iii) Derivative action filed by a shareholder
iv) Backdating of options may be one of those situations where the directors
are not entitled to the shield of the business judgment rule
v) The complaint here alleges bad faith and therefore a breach of loyalty
sufficient to rebut the business judgment rule
2) In re Tyson Foods
i) Spring-loading of options without explicit grant of the shareholders
clearly involves deception
ii) It is inconsistent to ask a shareholder to approve a directors benefit plan
that does not divulge all relevant information which these spring-loaded
options inherently do
iii) There may be some options where this would be ok
3) Notes and Questions
i) Legal Test

(a) Judicial review of compensation decisions is under the duties of care

and loyalty
(b) Before the fact, director/officer compensation plans are treated as an
interested director transaction
(1) Full disclosure and vote by disinterested decision-makers
(2) Usually directors will be assisted by a compensation consultant
ii) Special Rules for Performance Based Compensation
(a) Beard v. Elster
(1) Stock option compensation plans must generally provide for
continued employment, or there is no consideration givn
(b) Rogers v. Hill
(1) There needs to be some reasonable relationship to the
compensation given and the services provided
G) Derivative Litigation
1) Introduction
i) Derivative Litigation presents some unique issues
(a) Multiple lawsuits as there may be thousands of shareholders
(b) Unfaithful champions, that is lawyers intent on reaping a large fee
from corporate fisc rather than insuring justice is done; and
(c) Strike suits in which plaintiffs know little about the underlying suits
merits and attorneys are the true parties in interest
2) Special Litigation Committee and the Scope of Judicial Review
i) Zapata Corp v. Maldonado
(a) Plaintiff instituted a derivative action, but not did first demand the
board bring the action because he alleged it was futile
(b) The directors appointed two independent directors to determine
whether corporation should continue the action
(c) The committee concluded that each action should be dismissed as
immical to the companys best interest
(d) The business judgment rule is a judicial creation that presumes
propriety under certain circumstances, in a boards decision
(e) A stockholder once theyve made a demand, does not have an
individual right to continue a derivative suit for breaches of fiduciary
duty over objection by the corporation
(f) When stockholders after making demand and having their suit
rejected, attack the boards decision as improper, the boards decision
falls under the business judgment rule and will be respected if the
requirements of the rule are met
(g) It cannot be maintained that absent a wrongful board refusal a
stockholder can never have an individual right to initiate an action
(1) A stockholder may, for example, sue in equity in his derivative
right to assert a cause of action in behalf of the corporation without
prior demand on the directors, when it would be apparent that such
a demand would be fuitile
(h) A demand when required and refused (if not wrongfully), terminates
the stockholders legal ability to initiate a derivative action

(i) Where the demand is properly excused, the stockholder does possess
the ability to initiate the action on his corporations behalf
(j) When, if at all, should a board committee be permitted to cause
litigation properly initiated by a derivative stockholder, in his own
right, to be dismissed
(k) Two phases:
(1) The stockholders right to compel the corporation to sue
(2) The corporations actual suit against itself (directors)
(l) Balancing point where a bona fide stockholders power to bring a
corporate cause of action cannot be unfairly trampled by the directors,
but the corporation can rid itself of determinmental litigation
(m)The question becomes simply, whether the committee had
independence, good faith, and conducted a reasonable investigation
(n) So, demand refers to the shareholders demand on the board to
initiate a suit
(o) This is a demand excused case
(1) A demand excused case is one where the demand need not be made
because it would be futile to do so
(p) When then, may a committee of the directors end the derivative suit
being brought by the shareholder in his own capacity?
(1) When the corporation can prove that the committee who deemed
the suit to imminicalble to the corporations interests can prove:
(i) The board was independent;
(ii) The decision was made in good faith; and
(iii)
There was a reasonable investigation conducted by the
committee
(2) This is counter to the standard business judgment rule which
presumes these things
(3) The next step (that no one has ever followed) is that the court must
make a decision using its own business judgment to determine if it
was a decision made in the best interests
(q) So, in a demand excused case, a corporation may end a shareholders
suit (brought in his own capacity) when:
(1) The company can establish business judgment standards
(i) The board that made the decision was independent;
(ii) The decision was made in good faith; and
(iii)
There was a reasonable investigation conducted by the
committee
(2) The court must then apply its own business judgment to the
situation and determine if it was in the best interests of the
company
(i) No one has ever done this
ii) Thompson v. Scientific Atlanta, Inc
(a) Discovery rights as to the Modified Business Judgment Rule laid out
in Zapata is not guaranteed by right but must be sought by the
shareholder

(b) Essnetially, plaintiff shareholder has to ask for rights to conduct

discovery of the SLC
iii) Notes and Questions
(a) Three Branches
(1) Demand Accepted Corporation will pursue the derivative action
(2) Demand Excused Plaintiff need not request the board pursue the
action because itd be futile; and
(3) Demand Refused The board refuses to pursue the derivative
action
(b) Demand Excused
(1) Here the plaintiff alleges a demand would be futile, in the main
because he alleges that a majority of directors are implicated in the
wrong-doing
(2) Other reasons:
(i) Lack of response from the corporation
(ii) Inability of the directors to take a position
(iii)
Threat to the corporation of irreparable harm
(iv)It is a closely held corporation with 2-3 stockholders
(c) Demand Refused
(1) In this scenario the plaintiff contacts the board
(2) For colorable allegations the board may form an SLC at this earlier
stage (what?) and follow a procedure similar to demand excused
cases
(3) Some jurisdictions (DE) hold that if you make a demand you
acknowledge the disinterestedness of the directors
(d) Demand Accepted
(1) There is no requirement that the board get a court to approve the
settlement it makes with directors in a demand accepted case
(2) Though, it might be wise to do so
3) When Demand is Excused as Futile
i) Aronson v. Lewis
(a) When does one demand a request would be futile?
(b) Where facts create a reasonable doubt that the directors action was
entitled entitled to the protections of the business rule
(c) Challenged transaction Between corporation and a director owning
47% of the outstanding stock
(d) Complaint alleged futility for the following:
(1) All directors in office are named as defendants and they
participated in, voted for, or acquiesced to the alleged transaction
(2) The director the transaction was to had selected every other
director
(3) Institution of the action would require the directors to sue
themselves
(e) A corporation can move to dismiss for a shareholders value to make a
demand on the board prior to suit

(f) A test suggested for futility whether the board, at the time of the
filing of the suit, could have impartially considered and acted on the
demand
(g) The business judgment comes into play in a number of areas in
derivative litigation:
(1) In addressing a demand;
(2) In the determination of demand futility
(3) In the efforts by independent disinterested directors to dismiss the
action as inimical to the corporations best interests; and
(4) As a defense to the merits of the suit
(h) In determining demand futility a court should decide whether, under
the facts alleged a reasonable doubt is created that:
(1) The directors are disinterested and independent; or
(2) The challenged transaction was otherwise the product of a vlid
exercise of business judgment
(i) The mere threat of personal liability, standing alone, is insufficient to
challenge either independence or indifference
(j) Independence is decided by the care attention, and sense of individual
responsibility to the performance of ones duties, not the method of
election
4) Avoiding Derivative Characterization Direct Versus Derivative
i) Tooley v Donaldson
(a) The issue of whether it is direct or derivative hinges on:
(1) Who suffered the alleged harm?
(i) The corporation?
(ii) The stockholders individually?
(2) Who would receive the benefit of any recovery or other remedy?
(i) The corporation?
(ii) The stockholders individually?
(b) Other available test Were they denied rights in conjunction with
shareholder ownership?
H) Dividends and Other Distributions to Shareholders
1) Most courts arent going to question a boards decision not to distribute
shares. Gottfried
i) These concerns may be especially pressing in close corporations, but
absence a reason to go around the businesss judgment. Miller v. Magline
ii) There does exist special common law to protect shareholders in closely
held corporations
2) However, in public corporations its going to be very rare for a court to require
the distribution of a dividend. But See Dodge v. Ford Motor
3) Limitations on Corporate Distributions Under Corporate Statutes
i) Policies Supporting Limitations
(a) Creditors have an interest in how much a corporation provides to its
shareholders through dividends because it will limit their available
recovery

(b) Corporate statutes, therefore, exist that place restrictions on how much
a corporate may distribute in dividends
ii) Balance Sheet or Capital Impairment Restrictions
(a) Delaware follows this and it addresses both share repurchases and
dividends respectively
(b) Distributions cannot generally exceed the amount of the corporations
surplus
(c) Shareholders equity or net worth is the amount of the difference
between total assests and liabilitys
(d) Shareholders equity is composed of three primary components
(1) Stated capital the arbitrary set par value, and an amount
arbitrarily allocated by the board to the stated capital account
(i) Under DE law it is this category of shareholders equity that
provides the equity cushion for creditors and cannot be
impaired by distrubtions
(2) Paid-in Surplus
(i) The consideration paid for the shares in excess of stated capital
(3) Earned Surplus
(i) The amount of earnings from operations retained by the
corporation
(e) The sum of these last two components is the surplus available for
distribution under DEs balance sheet approach
iii) Earned Surplus Restrictions
(a) This approach provides that a corporation may make distributions out
of its earned surplus which refers to the sum of its net profits and gains
over the years, less its losses and prior distributions to shareholders
iv) Solvency Restrictions
(a) The current version of the MBCA follows a double insolvency test:
(1) Distributions are prohibited if their payment would render the
corporation insolvent under equity or bankruptcy definitions
(2) Equitable Insolvency
(i) Whether the corporation is able to pay its debts as they come
due
(3) Bankruptcy Insolvency
(i) Whether a corporations assets at least equal the amount of its
liabilites
(b) Under the MBCA a corporation may not make a distribution to its
shareholders if, after giving it effect, the corporation would not be able
to pay its debtors during the usual course, or if the corporations total
assets would be less then the sum of its liabilities
4) Director Liability for Improp Distributions
i) Most corporate statutes set forth specific provisions imposing direct
personal liability on directors who voted for or assented to an improper
distribution

ii) Strict liability is not imposed an entity claiming liability must establish
that the directors did not comply with the statutory standards including:
good faith and due care
iii) Klang v. Smiths Foods
(a) Question of the actions of a corporate board in carrying out a merger
and self-tender offer
(b) Plaintiffs allege the corporations repurchase of shares violated the
statutory prohibition against impairment of capital
(c) Corporation hired an investment firm to calculate the transactions and
render a solvency opinion
(d) In cases alleging impairment of capital, the trial court may defer to the
boards measurement of surplus unless the plaintiff can show the
directors failed to fulfill their duty to evaluate the assets on the basis of
acceptable data and standards
5) Shareholder Liability for Improper Distributions
i) Shareholders are generally not liable for illegal distributions unless they
had knowledge
ii) Under the common law they may be liable to the extent of the distribution
X) Basic Corporate Changes
A) Overview
1) Changes to structure and governance of the corporation necessary or desirable
are alterations that typically enable, effectuate, or represent major corporate
transactions
2) Some are so fundamental they will require filing with the secretary of state
3) Basically the general changes available are:
i) Charter / Bylaw amendments;
ii) Statutory business combination transactions like mergers, consolidations,
share exchange transactions and dispositions of all or substantially all of
the corporate assets; and
iii) Dissolutions
4) Typically, the right to intiate amendments under modern statutes lies solely
with the board and shareholders cannot implement these basic corporate
changes on their own
B) Charter and Bylaw Amdendments
1) Charter (AOI) is the corporations constitution
i) As a general matter, both shareholder and director approval are required
ii) DE
(a) Requires the board first approve the amendment and declare its
advisability
(b) Amendment then put to shareholder vote
(c) Class voting of shareholders is required if the amendment would
increase or decrease the aggregate number of authorized shares of such
class; or increase or decrease the par value of the shares of such class,
or alter or change their powers and rights
iii) MBCA
(a) Proposed amendments to the articles be adopted by the board; and

2)

3)

4)
5)

(b) Then submitted by the board to the shareholders

iv) Ministerial Changes
(a) In some instances just the directors may vote under the MBCA
Bylaws Certain rules for the corporations ongoing operation as an entity
i) DE
(a) Shareholders have the right to amend
(b) Board may also may be afforded that right by express provision in
certain instances in the certificate of incorporation
ii) MBCA
(a) May be amended or repealed by the shareholders and the board unless
the articles of incorporation or a shareholder-approved bylaw
provision provides
Charter Amendments
i) Legally valid changes made to chaters and bylaws may be invalidated if
directors breach their fiduciary duty in approving the changes
ii) Farahpour v. DCX
(a) Whether a corporation may make fundamental changes in its structure
and purposes through amendment to its articles of incorporation?
(b) Whether the changes may be accomplished without notifying the
corporations nonvoting members?
(c) Two exceptions to general rule that shareholders vote on changes to
the charter
(1) When the corporation has yet to receive payment for its ahres; or
(2) When the corporation has no capital stock
Bylaw Amendments
i) Bylaw amendments often occur in the context of restructurings taken
along with change in control
Notes and Questions
i) Accountability of the majority to the minority in making fundamental
corporate changes comes principally through the fiduciary duty analysis
rather than through shareholder voting
ii) Hierarchy
(a) The corporate statute and related decisional law
(b) Corporate charters
(c) Bylaws
(d) Contracts among corporate constituentices