Corporations Outline Introduction

o Corporate law is mostly state law. That is what we examine.o History

Starts with East Indies Company Private company w/ monopoly on trade in India Sought private investors to fund 4 elements from this:

o One shift: Limited liability developed... Individual investors did not want to be liable for the debts

o Second shift: centralized management (instead of like in partnership where everyone gets an equal say) so board of directors developed

o Third element: transferability of interest (notion of selling interest to someone else and not affect the entity).

o Fourth Element: Continuity of Life- partnerships, when person dies it dissolves... That didn’t work for corporations... Corporation has life of its own. When they are formed, they are formed in perpetuity (unless agreed otherwise)

o Two types of rules in corporate law Mandatory provisions, §607-0701 “A corporation shall hold a special meeting

of s/h” Default provisions, §607-0824, “Unless the articles of inc. or bylaws require

otherwise Business Forms (chart)

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Form Requires Registration

Limited Liability

Corporate Structure / Capital Structure

Taxation

General Partnership No No Partnership agreement

Pass-through

Limited Liability PartnershipNot a form, it allows general partnership to elect ltd liability status. Must register annually

Yes Yes Partnership agreement

Pass-through

Limited Partnership Yes No for General. Yes for Limited

Partnership agreement

Pass-through

Limited Liability Ltd PartnershipNot a form, allows l. partnership to elect limited liability status. Must register annually

YesYes for both

Partnership agreement

Pass-through

Limited Liability Company Yes Yes Operating agreement can alter default provisions, few mandatoryAllows corporate capital structure

Default is pass-through, but can “check box” and elect corporate taxation

Corporation Yes Yes Default provisions which can be drafted around in articles of incorporation

Corporate (double)

S Corporation Yes Yes Default provisions which can be drafted around in article of incorporation

Pass-through

Business Forms, Cont’do Major issues?

Ownership Rights Personal Liability How finance? How distribute profits? Do owners want managerial control? Tax benefits?

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o General Partnerships Governed by FRUPA (Chapter 620) Fundamental notion is EQUALITY

By default provisions, all partners have equal vote, regardless of money put in

Equal distribution of profits Every partner is an agent of the partnership Partners are personally liable for debts of the general partnership.

Cost savings are good because no registration/filing fees No subject to federal income tax 620.8202: Formation of partnership

Can form a partnership without intending to. Can also make a partnership agreement/formal agreement

Detriments Not entity with identity separate from partners Dissolution with partner's retirement, withdrawal or death.

o This has been changed by the revised act. No limited liability Not very flexible capital structure... Difficult to transfer interests... If planning on bringing new people in,

general partnership may not be good.o Limited Partnerships, Limited Liability Partnerships, and LLLPs

Limited Partnership General partners – subject to general partnership rules Limited partners – no liability, but limited management rights

Limited Liability Partnership, pg 135 Have to file with the state (annually) Not a separate business form, but an option under gen. partnership

statute Typically, partners remain liable for their own wrongdoing or

negligence (and sometimes for persons under their supervision) but are shielded from liability for other partners’ torts, etc. Depending on the statute, may be liable for contractual obligations of partnership, etc.

Limited Liability Limited Partnership – allows for limited partners in LLP Very few distinctions between LLP’s and Corps in structural form – main

differences are in tax consequenceso LLCs

All members have limited liability Non-taxable (pass through entity)

Unincorporated entities are free to elect to be taxed either as a partnership or as a corporation. Pg 460 in stat supp.

o and you can CHANGE YOUR entity status before a new tax year begins without dissolving and reforming

File articles of organization with the state Operating agreement lays out everything 2 varieties

Member-managed general partnership Manager-managed more like a corp

Can have flexible capital structure...put in operating agreement about bringing in new people.

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Transferability of interest? No is the default, but can be overcome by operating agreement.

o CORPORATIONS 2 types:

Publicly held Closely held

Advantages: Limited liability of shareholders - very important Centralized management structure

o Shareholders, directors, and officerso Directors are the centralized management

Flexible capital structureo Various forms of economic interests in the entity

Separate entity statuso Continuity of life = importanto Plus it can do things as an entity on its own

Usual form for most businesseso Common and easy to understand

Transferability of interesto Easier to transfer a share than an interest in a partnership

Many small companies don’t have to worry about double taxation, can reduce profits for tax purposes thru salaries and bonuses and other costs... Plus not pay dividends.

Disadvantages Expense and trouble of formation and maintenance Required initial and continuing formalities Tax treatment

o Type S treatment might be a way around double taxationo Could be deferred at least if no dividends paid.

o S Corporation Some corporations meeting specific requirements below can be S corps:

Less than 75 shareholders Incorporation in the US one class of stock shareholders must be individuals, estates or specified types of trusts No nonresident alien shareholders Corporation may not be a certain type of excluded business such as life

insurance company All shareholders must agree to the type S election Having only one class of stock may be the most troublesome.

S corps are pass-through entitieso Important taxation issues (See handout 2):

Pass-through taxation : biz org (partnership, s-corp, LLC) doesn’t pay taxes, partners pay taxes on their share of the profits at their income tax rate. Still file income tax forms reporting income, just don’t pay anything.

Double taxation : C-Corp (usually large publicly traded company, but not always) pays taxes at the corporate level and at the shareholder level on dividends received from corp. as part of income on income tax return

If the biz org will be distributing gains (usually in the form of dividends)

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pass through entity is better because less taxes are paid. Can manipulate distribution to minimize tax consequences (e.g. pay bigger salaries, which are deducted before taxes are calculated, as opposed to dividends, which come out after taxes).

Note a return of capital surplus will not be taxed because these are not profits, but just a return of capital.

If biz org will be experiencing losses Pass through entity better because each partner’s income tax liability is

decreased. If the biz org will be retaining profits

C-Corp is a better because less taxes are paid because no dividend is going to the shareholders. In pass-through, even if profits are retained, individuals are taxed as if they actually received a distribution . If company is going to retain earnings, c-corporation is the better entity.

Incorporation o Promoter’s contracts

Rights and Liabilities of corporations on promoter’s Ks Ratification – relates back to time of K

o a legal impossibility b/c corp didn’t exist when K was signed Adoption – Board resolution adopting K, or corporation informally

adopts by performing its end of the K with knowledge of the K termso no relation back, binding from adoption forwardo informal adoption is equitable – can be inferred from acts of

acquiescence on part of the corporation Novation clause – change party to K after corp is formed – must be

specific! To what extent is the promoter liable? (607.0204, p.30)

FL deviates from Model Act – promoters are jointly and severally liable for Ks EXCEPT for any liability to any person who had ACTUAL KNOWLEDGE that there was no incorporation

o However, the 3rd party actual knowledge not construed to mean if the 3rd party knows there is no corporation then no liability.

o Promoter is not liable if he mistakenly thought the corporation was formed.

3 options when contracting party knows promoter is acting on behalf of a to-be-formed corp.

o promoter’s liable until corp. adopts it, then relieved of liability thru novation

novation requires clear language in the K relieving the promoter of liability after adoption

o promoter remains liable, creating joint liabilityo promoter is never liable, corporation is sole obligor

courts don’t like this because it contradicts mutuality principles to have no obligor until after adoption

o Where and How to Incorporate Where?

3 major factors:

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o Substantive provisions of state incorporation law. However, there is widespread congruence these days so most often home state.

o Costs of incorporating in a state other than where you will do business. You will have to qualify in own state, too if incorporate elsewhere.

o Whether the company will be privately or publicly held. Must have registered agent wherever you choose. 2 good reasons to go elsewhere:

o Lousy corporate laws in home stateo Something peculiar in your home state’s laws that make

elsewhere good. Why Delaware?

o Very proud of position and work at it. Very in tune with what is happening in business world and react quickly.

o Quality of the judiciary is outstanding. How?

Deliver articles of incorporation to the Department of State - § 607.0201

What must be in articles of incorporation § 607.0202o Must have: name, address, number of authorized shares,

preemptive s/h rights, street address of registered office and name of registered agent, the name and address of each incorporator

o May have: see stuff in subsection 2 Corporation begins when: § 607.0203

o Three options specified delayed date date articles filed up to 5 days earlier if specified in articles

Promoter liability § 607.0204 Required initial director meeting §607.0205 Bylaws (required) § 607.0206

o Applies only to initial adoption of bylaws. Any changes afterward are governed by the amendment provisions of § 607.1020

a.i. Bylaws can be adopted and amended by directors, whereas s/h must vote on changes to the articles of incorporation (bylaws can also be amended by s/h)

a.ii. Bylaws may contain any provision not otherwise required to be in the articles of incorporation Articles of incorporation are public documents, but bylaws are not

o Preincorporation Agreement Good to have to minimize disputes and litigation. May be desirable in these

situations: Where organization will take a long time Where the business bargain contemplates extensive financial

commitments in advance of incorporation Where the participants want to bind one or more of their number to

commitments for possible future financing

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Where one or more of the participants has been induced to engage in the enterprise by considerations other than the prospect of obtaining shares in the projected corporation (e.g. promise of employment)

Where the participants plan to place restrictions on the transferability of stock (close corps)

May contain (documents with these things often called shareholder agreement):

Variations from traditional pattern of corporate management Arrangements among the participants for the corporation to employ

one or more of them Limitations on participants ability to acquire an interest in or

participate in a competing enterprise Restrictions on the transferability of a corporation’s stock Disposition of stock of a s/h who dies or becomes disabled Business insurance issues Requirements to keep others fully informed about business Provisions for arbitration Commitments for future financing

Capitalization o Types of equity

Common Stock Right to vote, right to profits, right to assets if liquidated Could have multiple classes (like with right to vote for directors and

one without) Preferred Stock

Call on corporation’s profits will be limited to stated amount usually. Common stockholders can’t get dividends until preferred stockholders

are paid. Usually callable or redeemable at option of the corporation

Warrants and Rights Warrants = transferable options to purchase stock at a stated price

(Often a sweetener in connection with the distribution of debt or preferred stock issue).

Rights = Short term warrants, expiring within a year. These aren’t really equity... just rights to buy equity.

o Debt (which must be re-paid) 2 differences between debt and equity

Debt holder entitled to periodic period of interest... Equity holder no claim to something like that.

Debt holder has a claim to eventually be repaid (not so with equity holder)

Types Notes

o Loans, long term and short term, can be secured or unsecured, usually has K rights protected in a loan agreement

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Bondso Long term debt instruments, secured by a mortgage or deed of

trust on corporate property Debenture

o Unsecured long term debt instrument Advantages to debt

Debt may be repaid w/o any tax consequences, but if stock is redeemed when the corporation has had profits, the redemption may be taxed as a dividend.

Liquidation preference Interest payments tax deductable. If debt holders are not repaid, they can qualify for a current income tax

deduction in the amount of their loss more readily than can a holder of equity who has suffered an investment loss.

o Authorized shares § 607.0601 Articles of incorp. Must prescribe

classes of shares and rights of each classo at least one class must have unlimited voting rights and full

dissolution rights number of authorized shares of each class

o authorized vs. outstanding § 607.0603 must have full voting and dissolution rights in

outstanding shares at all times Par Value (if desired) (NOT IN FL) Terms of class or series determined by Board §607.0602

o If contained in articles, Board may determine relative rights of classes or series of shares

o Issuance of shares § 607.0621 Powers under this section may be given to s/h instead of board by the articles

of incorporation Section 2 – any tangible or intangible property or benefit can constitute

consideration for shares Section 3 – Board must determine that consideration is adequate. Such Board

determination is conclusive, subject to good faith and due care provisions applicable to all Board matters

o Par Value (not in FL) (See H/O 5 for DE law concerning Par Value) Consequences of par value:

Stock can’t be issued for less than par value Par value of issued shares must remain in stated capital Fees and taxes to state of incorporation may be based on par value

Par Value sets minimum price for which corp can sell its stock Full price paid * shares sold = Paid in Capital Par Value * Shares sold = stated capital (Full price paid – par value)*Shares sold = capital surplus OR

additional paid in capital High par value: par value near the offering price of the stock (common in

preferred stock) Low Par Value: ny amt. you want (low relative to market price) --most have

this

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No par value also an option, but something must go into stated capital. Toms case pg 247 – at least a portion of sales from issuance must go into

stated capital (0 is not an available par value) Not a Bank ACCT – business can still use all stated capital in the business (so

it doesn’t actually have to be there)o Balance Sheet (picture as of a specific date)

Can be audited or unaudited...Unaudited means company doing their own balance sheet.

Includes: Assets Liabilities Shareholder Equity

Assets Current Assets

o Can be turned into cash/likely to be turned into cash within a year.

Fixed Assetso Not likely to sell within a year.o Balance sheet can be misleading because things like real estate

probably have the historical value rather than current. Assets depreciate

Liabilities Current Liabilities: must be paid within a year Long-term liabilities: not to be paid within a year

Shareholder equity Contributions to capital: Historical, how much has been raised thru

sale of equities? Earnings: Since the company was formed, how much profit has been

earned and retained in the company? (Profit from day 1 minus dividends)

Assets = Liabilities + Equity Assets – Liabilities = Equity (net worth) Assets – Equity = Liabilities Book value = Equity (divided by) Shares outstanding.

o Thin incorporation Refers to situation where ratio of debt to equity is excessive. 2 consequences:

IRS may consider debt to be equity for tax purposes (interest would be nondeductible dividends).

Court may subordinate the shareholders' debt to that of other creditors in the event of bankruptcy or other financial calamity.

Comes into play in insolvency Creditors argue thin incorporation to prevent owners from being

treated equal in bankruptcy. Factors where courts will find thin incorporation:

No due date on the debt, no fixed payment plan, no collateral, insufficient capital.

Fett Case pg 269, factors: nominal paid in capital, debt to equity ratio of 80:1, no repayment plan

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o Pre-emptive rights Enable shareholders to maintain their proportionate ownership interests in a

corporation when a company sells new issues of stock. These owners are given the option to buy a proportionate share of new issues of stock so that their ownership interests won't be diluted.

Mostly important in closed corporations Can be difficult to accomplish the goal:

Implementation often complicated, particularly if there are multiple classes of stock.

Broad grants of preemptive rights may make it difficult or costly for the corporation to accomplish legitimate business objectives, such as merger or acquisition.

Corporate statutes take 3 approaches to preemptive rights: Grant of rights is mandatory Preemptive rights are granted unless the corporate charter provides to

the contrary The rights are granted only if the corporate charter elects them.

Model act uses the opt in approach (#3) 607.0630

FLORIDA-- Need to opt to have pre-emptive rights.o Opt in is the norm in this country.

2(c)- there is no pre-emptive right with respect to: (3)shares authorized within 6 months from the effective date of

incorporationo So if we authorized way more than were decided to sell at the

beginning and we sell those within 6 months it could be bad. (this is not generally known)

Problems in preemptive rights area: Abuse

o See Katzowitz: effort by dominant shareholders to create a situation where Katzowitz (who couldn’t afford them) wound up not being able to buy the shares... Katzowitz ended up with a diminution of his percentage interest... The other people ended up with more money with Katzowitz... Court saw it was an effort on the part of the dominant shareholders to get more shares when Katz couldn’t do it... No valid business justification for this distribution (court saw right through it). (they sold the shares to themselves for less than they were worth).

o Even if no pre-emptive rights, courts might protect.o Share transfer restrictions and buyout agreements

Most commonly used in closely held corporations. Two purposes: Give remaining SHs control over who will become shareholders when

one or more SHs want to liquidate ownership interest Provide a mechanism for liquidating the interests of SHs who die or

want to terminate their relationship with the company. Share Transfer Restrictions

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607.0627o (1)Articles, bylaws, agreement among SHs, or an agreement b/t

SHs and the Corp may impose restrictions on transfer of shares. Doesn’t affect shares issued before the restriction unless voted in favor.

o (2) Enforceable if restriction authorized by this section and existence noted conspicuously on front or back of the certificate or is contained in the info statement. Not enforceable against person w/o knowledge unless so noted.

o (3) Restriction authorized: To maintain status when dependent on # and identity of

SHs; To preserve federal/state securities exemptions For any other reasonable purpose.

o (4) Restriction may: Obligate the SH to first offer to the Corp or other

persons an opportunity to acquire the shares; Obligate the Corp or other persons to acquire the shares Require the Corp, holders of any class of its shares, or

other person to approve the transfer of restricted shares if requirement is not manifestly unreasonable.

Prohibit the transfer of the shares to designated persons or classes of persons, if the prohibition is not manifestly unreasonable

Buyout Agreements Key purpose is to provide a market for shares when a SH dies or wants

to exit. Major issue is with valuation of the shares:

o Valuation should be set forth in detail and with great care. Clearly indicate the time at which the shares are valued.

o Three common ways for valuation: Book Value: based on company’s balance sheet and

equated with net worth (or equity) of the business...the value remaining after liabilities are subtracted from assets. (but doesn’t reflect value going forward or good will)

Liquidation value: net amount remaining after a business is brought to an end, its assets are sold individually, and its creditors are paid. (may be difficult to calculate if lots of assets)

Company Cash Flow or Earnings: Most popular. Based on projections of what its earnings or cash flow is likely to be in the future.

Could use 3rd party valuator. o Denkins v. Zinkan Enterprises

Be careful in drafting your valuation. Specifically, if you are going to use book value, you better say exactly what book value will be.

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o Weigel Broadcasting v. Smith Should put clearly whether minority discount will be

there or not. This court did not err in saying there will be a minority discount.

Securities Laws o Three main questions to ask:

Does the transaction involve a security? Common stock, preferred stock, corporate notes, anything that is

broadly an investment in company (partner interest, limited partner interest, LLC interest)

Is the security being offered or sold? Offer is defined broadly (much broader here than in contract law)

“any attempt, however marginal, to interest somebody to buy a security now or in the future”

Is a registration exemption available? Fundamental rules is that every security needs to be registered, but

since so time consuming and expensive, there are exemptions.o We have concurrent jurisdiction b/t State and Federalo State laws (Blue Sky Laws)

Principal elements: Registration

o Merit review: will examine each offering and if it is too risky will not allow it to be sold. Paternalistic. Many states are getting away from this. FL retains this. No merit review on federal level.

Licensing of sales agents Administrative, Civil and Criminal Antifraud Provisions (sanctions, all

three can bring action for violation of registration or licensing requirements.)

o Federal laws (Securities Act of 1933) (Out of Great Depression, learned that state laws were inadequate).

Does exactly what was required in state law... Registration. Must first register with the SEC.

Specifically left state laws in tact. At the federal level, there is no merit review. Must register at least at the federal level and any state you plan on selling in

(so min. of 2 places) SEC sends deficiency letter if they find them after reviewing. (This is the

process if public offering)o Federal Exemptions (Statutory)

Intrastate exemption (Section 3(a)(11) and Rule 147) Company is incorporated in the state, doing substantial business in that

state, and only selling/offering shares in that state. (idea was local business selling to local people... Not really valid justification today but still have the exemption)... Doesn’t mean an exemption at the state level... (has ambiguous lang like "doing business in state")

Rule 147- totally distinct intrastate exemption that SEC created... Doing business if 80% of revenues are derived from the state... But if no 80% could go back to 3(a)(11)... These are alternatives!

Private offering (sec. 4(2) and R. 506)

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"A transaction not involving a public offering"o SEC v. Ralson Purina leading case. (court totally changed the

concept of public offering... At the time it was whether a distinct group v. general public... Court said way to look at it was are the people it is being offered to able to protect themselves without the registration process) (are they able to "fend for themselves?")

o Limited to Sophistication (sophisticated investors) Who are given full Disclosure No general advertising or solicitation

PPM - private placement memorandum... Don't necessarily have to include all info in registration statement

Rule 506 is a separate [free standing] private offering exemption that gives a definition to things i.e. sophistication. (506 : 147 :: 3a11 : 4(2))

o "Accredited investors"- mostly very wealthy people.. If you are an accredited investor, don’t worry about their specific sophistication... Doesn’t exist in the 4(2)... That one looks at every person)

o Up to 35 non-accredited investors (but they need a representative who is sophisticated)

o Federal Exemptions (Administrative) (Congress allowing the SEC to create additional exemptions)

Regulation D Rule 504 – Up to $1 Million

o No qualifications for who offered to... No requirement of disclosure document delivery... Need to still put together a disclosure document as a lawyer to protect client.

o No general advertising or solicitation Rule 505 – Up to $5 Million

o Has specific disclosure document that is required as a condition.

o Max 35 non-accredited investorso Unlimited accredited investors.o No general advertising or solicitation

Regulation A -- $5 Million (modified registration) First exemption SEC developed... Process under which the company issuing securities creates a

document sent to the SEC... Requirements are less than the full registration statement. Huge cost savings

Less strict financial requirements Major advantage = marketing... Able to sell shares to anyone and can

advertise it. Shied away from... Because don't like clients to get into the radar

screen of the SEC... Want clients out of the SEC as much as possible.o State Exemptions

May be able to satisfy a federal exemption, but still have to satisfy state exemptions

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Rule 506 offering pre-empts state registration laws, though (first and only hole in the concurrent jurisdiction)

ULOE Uniform limited offering exemption. Adopted by 35 states, not

Florida, similar to Rule 504. Adds requirement that issuer believes this investment is “suitable” for the particular investor. Paternalistic

FL Ch. 517.061(11) Private offering exemption; 5 elements:

o No more than 35 purchasers (in the state of FL) in 12 month period

Excluding accredited investorso Required Disclosure for everyoneo No general advertising or solicitationo Anyone who receives commissions for selling must be a

licensed dealero Purchasers have 3 days to demand their money back (most

states don't have) Remember, we have a large senior population and are regressive to

protect.o Prob. should make a chart to understand the exceptions easier.

Corporate Authority o Functions and Authority of SHs

Gashwiller v. Willis Principle issue: Whether the trustees (who were the BOD) could

execute the deed. There was a vote, but only by the SHs. Need vote by SHs and BOD.

o We insist that the board members act as board members. SHs aren’t asked why they voted like they did, the

BOD is. Thus, board required to meet and discuss as a board.

Votes for board of directors and a specified list of things in the corporate code that say there will be a shareholder vote (usually mergers, dissolution of corp., amending articles of incorporation)... Otherwise the shareholders have no voice.

Election of directors is the most important thing they do. Power to elect includes the power to remove.

Some things 2 step where SHs can’t do on own (BOD takes action and SHs vote):

Amending the articles Major transactions

Some things are optional where BOD doesn’t have to ash SHs, but does: For example, compensation for senior officers (kind of a non-binding

statement of support) Hoschett v. TSI International Software, Ltd. (Delaware, FL has no case law on

this) Whether w/ respect to publicly traded corporation, the mandatory

requirement to an annual meeting of SHs could be satisfied by SH written consents removing holdover directors and designating replacements.

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Court decides still need to have meeting b/c important that SHs still come together.

Can use statute like .0704 to fill vacancy, but only filled till next annual meeting.

State ex rel. Pillsbury v. Honeywill, Inc (MN) (Right to inspect corporate records)

SH didn't like that Corp was building bombs and wanted to go to SHs to get them to stop making bombs... Would need to go to .1602(2) in FL stat.

Question whether he had proper purpose:o He only bought the shares to have standing to inspect... Not a

true investor (not a real shareholder)o Don't really have a proper purpose... Your purpose is social

(politically related rather than business related) What would Pillsbury have done?

o Called a special meeting and discuss what company is doingo Shareholders could go to directors and make voices heard

Courts seeing proper purpose as if something can lead to a vote, it will be a proper purpose... (p. 220-21 in Fl stat) Pillsbury case not in effect really anymore (Disapproved by DE in Credit Bureau Reports, Inc.)

o Functions and Authority of Directors Most important thing they do is select the officers. Board has to approve all major transactions (anything out of the ordinary, i.e.,

sale of assets, amendments to articles, dissolution, dividends) There are inside directors and outside directors:

Inside: employees of the corporation; involved in day-to-day operations

Outside: not employees of the corporation; more shielded from liability

.0824: Quorum Quorum of a BOD consists of a majority of the directors prescribed by

the articles or the bylaws (vacancies count). Articles may authorize a quorum of a BOD to consist of less than a majority but no fewer than 1/3 of the prescribed # of directors under the articles or the bylaws.

If quorum is present, the affirmative vote of a majority of directors present is the act of the BOD unless the articles or bylaws require the vote of a greater number of directors.

Unlike SHs, quorum can be lost at any time. Three exceptions to the concept of collegiality (people being there and

discussing) .0821 – written consents .0824 – All members can hear each other (like a conference call) .0825 – Committees

Board creates its own committees. Major Committees: Executive Committee

o Tends to run things (can act as board for almost any kind of decision)

o Important for large board. Made up mostly of insiders. Audit Committee (required)

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o Required to have majority of independent directors. Prepares financial statements of corporation

Compensation committee (who sets compensation of principal officers)

Manson v. Curtis P and D tried to agree to have a passive director and one running

things as BOD. Directors get their powers from the state not from the SHs. .0732 would allow in FL for a closely held corporation.

o Functions and Authority of Officers .08401

Bylaws generally decide the officers; officers appointed by the board; secretary is required (3rd party couldn’t rely if there was not one)

President Greenspon v. Pecos

o Whether a corporation is bound by the K or writing of the president alone where it involves a K for 45 miles of pipe at 61 cents a ft involving $144,936.00 without express authority from the board.

o Office of prez carries with it certain implied powers of an agency.

o w/o special authority or explicitly delegated power, he may perform all acts of an ordinary nature which by usage or necessity are incidents to his office and by virtue of his office he may enter into a K and bid his corporation in matters arising and concerning the usual course of the corporation's business. (implied)

o Plaintiff argued that the power arose because the president had done similar things in the past and they had been approved and ratified.

o Question of fact for jury. Prez generally has power to bind the Corp in the usual course of

business. For matters outside the usual course of business, BOD must generally give its approval.

Elblum Holding Corp. v. Mintzo New Jersey court held that President may hire attorney to

preserve corp. and protect assets just as he can defend a lawsuit to protect assets of Corp.

Lee v. Jenkins Brotherso Plaintiff alleged that President promised him a lifetime pension

at age 60 o 2nd Circuit held that because generally Presidents may hire, fire,

and fix compensation of employees on regular basis, but that employment commitments for a lifetime may be deemed extraordinary reasonable minds could differ on whether President would have the apparent authority to bind the corp. to such an agreement

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o Dissent Felt that the President did not have the apparent authority to make such a promise binding on the Corp

Yucca Mining (Cohn says benefit to the corporation NOT the standard...case wrong)

o Holding a corp. liable for a contract entered into by the President because corp. was to have benefits of the contract as modified, so it must also have the burdens since the corp. would have profited if the drilling had been successful.

Bresnahan v. Lighthouse Missiono P entered into an agreement with Lighthouse to purchase real

estate. Agreement signed by prez of lighthouse. Signature didn’t specify whether prez of Lighthouse. Lighthouse refused to sell.

o There was no manifestation of authority by the principal to a 3rd party, so no apparent authority.

o No evidence from Lighthouse that clothed Pinkerton w/ apparent auth.

o Prez of a corp doesn’t, by virtue of his office alone, have authority to K in its behalf, although being the alter ego of the corporation he may be presumed to have power to act for it in matter within the scope of its ordinary business

Chair of the Board Most corporations don't have one. Most largest corporations do,

though. Usually also the CEO. (In that case, prez almost always COO) Chair of the board probably has same powers to bind corporation as

prez if CEO. Not unusual for chair of the board to be ceremonial. In that case,

probably no implied powers Vice President

One inherent power: serve as the president's replacement in the event of death, incapacity, or absence.

Certain VPs get additional implied authority by virtue of their specialized titles.

Anderson v. Campbello Prez was absent and VP executed a deed where president was

listed. Did not add vice to president.o P wanted deed to be void...o Certain cases where VP assumes prez' duties and the most

usual would be in his absence.o Under those circumstances he is w/in the authority extended to

the prez. to make the conveyance

Secretary Only officer required. Secretarial powers relate to the internal affairs of corporation, not

anything to do with business operations, so usually cannot bind corp. to outside transactions

Certification of records (BOD resolutions, officer signatures) and minutes.

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In Re Drive In Developmento Secretary authenticated certification that person signing

guarantee had authority of BOD to act. But when testifying, secretary admitted he didn’t remember and there was no evidence of a BOD resolution

o Corporation was estopped from denying the validity of the secretary’s authentication.

o Apparent Authority: Principal held person out as secretary, allowed people to believe agent had authority

Treasurer Treasurer's power relates to the internal affairs of a corporation. Power to care for the funds of the corporation. That includes

depositing the funds in proper depositories and dispersing them in accordance with orders from the board of directors or a proper officer, maintaining records of the funds, and rendering reports on the corporation's funds to the board.

Jacobus v. Jamestown Mantel Co.o A treasurer of a manufacturing corporation has no power to

make promissory notes in its name unless such power is expressly given to such officer by the by-laws of the corporation or by resolution of its board. No presumption existed that the D's treasurer had power to make or endorse business paper.

o Treasurer hadn't done it in the past. If he had and the trust company knew and relied on it then a question of estoppel would have arisen. No estoppel here though.

Distributing Corporate Control o Cunulative Voting, Classification of Directors, and Class Voting

Straight Voting (.0728 provides for this): Shares are voted in blocks. If five director spots, someone with 100

shares could vote those 100 share five times. Shareholder or shareholder group w/ majority of shares could elect all

directors. Cumulative Voting (.0728(3)...has to be in articles)

Increases likelihood that minority shareholders can get someone in. Shareholders "are entitled to multiply the number of votes they are

entitled to cast by the number of directors for whom they are entitled to vote and cast the product for a single candidate or distribute the product among 2 or more candidate.”

Model act provides that a director elected cumulatively "may not be removed if the number of votes sufficient to elect him under cumulative voting is voted against his removal.”

Formula for determining number of shares needed to elect a director: o X = S x N + 1o D + 1o X = number of shares needed to elect N directorso S = number of shares to be voted by all shareholderso N = number of directors a shareholder/group is trying to electo D = number of directors to be elected at meeting

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o * Assumes that all shareholders vote (100% participation, so circumstances can change on voting day if less people vote. The more shares that do not vote, the easier it becomes for a minority group to elect one more directors.

Formula for determining number of directors who can be elected with a certain # of shares:

o X = (N-1) (D+1)o So X = Number of directors who can be elected with N shareso N = Number of shares controlled by shareholder or shareholder

groupo D = Number of directors to be elected at the meeting o S = Number of shares voted by all the shareholders o * Again, this assumes that all the shareholders participate and

vote

When cumulative voting, three ways to defeat minority shareholders: o Reducing number of directors on board (requires a larger

percentage of votes to get one elected) o Staggered boardo Executive committee (has most of the power of whole board

vested in committee – Cohn thinks could be against public policy as a “freeze-out” of minority shareholders)

Classification of Directors (break directors down into groups up for election on staggered years)

Can be used to counter cumulative voting b/c reduces # of directors elected at each meeting.

Could be used as an anti-takeover devise...also for continuity. Class Voting and Weighted Voting

Class voting- breaking SHs up into classes and certain # of directors elected by each class.

o SHs in close corporation can use to ensure they will be director if all get diff. class.

Weighted voting- some stock gets super voting power (more than one vote per share)

o This can be used as an anti-takeover devise if it is allowedo Providence and Worcester Co. v. Baker (Delaware): Court held

that different voting rights of shareholders within the same class (shareholders with more shares had different voting rights than those with less) was okay because it restricted the voting rights of the shareholder but did not create variations in the voting power of the stock, itself.

o Ascaro Inc. v. Holmes A. Court (New Jersey): Court held that the same class of shares must have the same voting rights (in contrast to Providence)

o Florida: would likely go in favor of New Jersey decision because of 607.0601(1) – stating that all shares must have identical rights within the same class

o Removal of Directors 607.0808-

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Shareholders have right to remove directors without any reason Do it at shareholder meeting (shareholders can call a meeting) If cumulative voting, only need the number of votes required to elect

to vote against the removal in order to keep them Auer v. Dressel (NY)

Shareholders have the inherent authority to remove directors. Removal requires notice, specific charges, opportunity to meet

accusations Campbell v. Loew’s, Inc.(DE)

Also said court had inherent power to remove directors. SHs could fill open director spots (FL has a statute on point –

607.0809) Give procedural due process answer for process to remove:

Corporation cannot send out proxies until opportunity to defend self. Corp pays for materials to defend!

o Contractual Agreements Lehrman v. Cohen (DE)

2 families each owning 50% and realizing that there would be deadlock possibility... Created 3 classes of stock: AC for Cohen; AL for Lehrman; and AD for their attorney who would be tiebreaker.

Special AD share had nothing but the voting class... Worked well for 14 years. Danz gets elected as president and starts shutting out the Lehrmans. Fundamental element of Lehrmans is that the share given to Danz is

empty shell and thus not permissible. Gotta have something more than just a class that only elects director.

Court said nothing in DE law that precludes the empty shell share. (stock not covered by voting trust statute)

Learn that tiebreaking provisions can backfire... If drafting, may want to think about term limit or other provision that protects parties from something they had not anticipated

Voting Trust (not really common these days) Covered by 607.0730 Shareholders give shares to trustee and trustee gets to vote for those

four people. Beneficial interest still in the hands of the original SH. Might work well where 3rd party wants to make a loan or something

and doesn’t want to be a SH. During pendency of loan the 3rd party gets to hold some shares in trust.

Shareholder/Pooling Agreement (most common form of voting together) 607.0731: Two or more SHs may provide for the way in which they

will vote their shares by signing an agreement for that purpose. Enforceable.

o Transferee of shares subject to agreement bound if takes shares w/ notice. Has notice if existence is noted on face or back of certificate.

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Ramos v. Estradao SH voting agreement...one party upset with how it was going

and went to court. Court says this is what you agreed on and the sanction you agreed to (forfeiting shares)

Ways to deal with deciding what happens when someone doesn’t go along:

o Sanctions (like in Estrada)o Cross irrevocable proxies (more common)- parties agree that if

don’t go along, the other parties have irrevocable right to vote those shares with the agreement.

Shareholder Agreements Allocating Control 607.0732

o SH agreement for things contrary to the statutory norm. Must have 100 or less SHs and agreement must be in writing and unanimous (incl. non-voting shares).

o Agreement remains valid even if go over 100 after adoption.o Gives traditional BOD powers to shareholders—such as

controlling election of officers, determine amount of dividends, and govern major corporate actions.

o Only a few things you can't do which violate public policy: eliminate derivative suits, reduce fiduciary duty, abrogate dissenters rights etc.

o What if agreement doesn’t fit technical requirements, e.g. oral agreement, 99% agreement? Last paragraph of Author Commentary – no clear Florida case law on it, might be upheld if reasonable and did not affect minority shareholders or corporate interests.

Galler v. Galler (IL)o Bros. owned close corp. and decided to provide fro financial

protection of families by giving widows equal control over the corp. upon the bros. death - widow can nominate a new director in place of bro. and receive a sum equal to twice bros. salary monthly over a five year period

o P sued D for specific performance of agreement and accountingo Court upheld the agreement because there was no objecting

minority interest and no public policy reasons not to enforce. o Galler forward looking opinion, court recognized close

corporation don't always do things by book.  No harm no foul Employment Ks?

o Since one thing an officer/owner of a close corporation may want and expect is continued employment, an employment contract may provide some protection

o Usually person will not get specific performance, but rather liquidated damages

o Another way a corporation tries to force someone out is with a change of duties. To protect against that, have contract describe job in terms of duties, opposed to title.

Deadlocks

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Can happen at either director or SH level. Sometimes results in the Corp being unable to act. President can usually operate relatively unfettered when there is a

deadlock. Prob worst scenario: SHs are deadlocked and cannot replace a BOD

that is dominated by one SH faction. Hall v. Hall (MO)

o 2 bros in business ... One dies... New person gets frozen out and only owns 50%. Survivor is still running the business. Should have been resolved in advance.

o How could avoid? Shareholder agreement?

Salary continuation? Classified board? Provide for buy-out in case of death, disability,

termination is one option.o You would need a formula to calculate

the value. What if widow might want to buy out? How

make it not limited to one side?o Cross buy out provision:o Allows either side to buy out the other.

One side offers a price and then you can either accept the offer or buy them other at that price.

Preferred stock buyout?o Wife would like a continuing financial

interest but don’t want to give salary b/c not doing any work:

o When the action happens, stock converts into preferred stock... So she is getting the annual dividends and still has the equity.

Oppression and Dissention When majority conduct substantially defeats expectations that,

objectively viewed, were reasonable under circumstances and central to petitioner’s decision to join in venture.

Death, termination, retirement, forced retirement are all foreseeable. Court may not have sympathy for these.

Problems that may occur include:o Freeze-outso no dividends, increase salaries and bonuses to majorityo deprive minority of offices and employmento cause corporation to sell assets at inadequate price

Donahue v. Roddo When Rodd retired, the corporation bought back shares.

Donahue sought similar repurchase and was denied.o The court described close corp. as similar to a partnership with

one distinct difference: In a partnership, an unsatisfied partner

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may leave partnership and force dissolution to get his share. In a close corp., because the shares are illiquid there is no option to “cash out” if you are unhappy.

o Court holds shareholders in closely-held corporations to substantially the same fiduciary duties that partners owe each other (duty of loyalty) This is a higher std. than fiduciary duties of shareholders and directors acting in best interest of corp.

o Reasoning that shareholders in close corps. are more akin to partners and must adhere to “more than morals of marketplace”

o Rule: When controlling group repurchases shares from a member of controlling group, must offer everyone opportunity to sell ratable portion at same price otherwise it is a breach of fiduciary duty.

o Even though the price set was fair, allowing one to sell, but not others, disadvantages the minority. Creates a market for shares where none previously existed and gives person opportunity to use corporate funds for personal use.

o CAVEAT: Remember, this decision is strictly limited to shareholders in close corps

Tillis v. United Parts (FL)o Close corporation purchased shares from controlling

shareholder without making buyback available to otherso Court: controlling shareholder used position to get preferential

distribution of assets. All shareholders should have equal opportunity.

o Similar result, but maybe not as broad (because not directly imposing same fiduciary duties of partner upon shareholders in close corp.)

In Re Kemp & Beatley, Inc. (NY)o No longer getting the money that they understood they would

get.o Had money invested, but no longer getting salary or any

compensation... Frozen out!o NY had a statutory provision dealing with oppression...o Oppression defined as the reasonable expectations of minority

shareholders in committing their capital to the particular enterprise.

o Oppression Were the expectations reasonable Did they have the expectations initially Were they substantially defeated

o Statute called for dissolution, but the court had broad powers to craft a better remedy.

o So even though statute says that the action is one for dissolution, but the understanding is that the court can order something other than dissolution.

o FLORIDA has no statutory provision for oppression (maybe bring action for breach of fiduciary duty?)

Remedieso Dissolution (§ 607.1430)(an UNPOPULAR remedy)

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Kemp court used conditional dissolution – told corp to buy back minority shares, if no settlement, go back to court & get an outside appraisal

creditors, license agreements, lease, etc. might be lost in dissolution

o Other remedies (§ 607.1434) (still suing under § 1430) appoint a receiver or custodian pendent elite as

provided in § 1432 appoint a provisional director as provided in § 1435

can order a tiebreaking director order a purchase of complaining s/h shares pursuant to

§ 1436, or if minority s/h sues under § 1430, corporation

and then shareholders get OPTION to buy you out – minority s/h can’t force a buyout

Any other equitable remedy Courts have broad equitable powers in this area

SH agreements could fix everything!o If you don’t have an agreement, 3 options. Court might:

give you statutory remedies (35 states – not FL – have oppression statutes to protect minority s/h)

o Courts may be open (Donahue pg 398) – recognize fiduciary obligations

o Court could require S/h to protect themselves DE approach taken in Nixon v. Blackwell (pg 414)

Ct took the position that minority shareholders should protect themselves with shareholder agreements. If they don't do so, then they get no sympathy from the courts

Piercing the Corporate Veil o Intro:

Normally, Shareholder’s liability is limited to capital contribution. Creditors cannot attack shareholders’ personal assets. However, under some circumstances, courts will disregard corporate entity and hold shareholders personally liable for corporation debts.

Important idea underlying piercing the corp. veil is fraud, misleading 3rd parties in contract cases, not carrying enough insurance to cover accidents in tort cases

Empirical study also showed the courts are more likely to pierce the corp. veil in contract cases than tort cases (Cohn: this is counter-intuitive, but thinks courts are more appalled by corps. entering into transaction they know they cannot adhere to)

o Situations where piercing the Corporate Veil Comes up: Sole SH

Often difficult to tell difference between individual and corporation Can be a few shareholders, important thing is that it is a small,

identifiable group But more shareholders = more difficult to pierce veil Baatz v. Arrow Bar

Parent-subsidiary

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Subsidiary doesn't have funds so plaintiff going after the parent Same as sole shareholder just instead of person have corp as sole

owner Radaszewski case and CERCLA case

Multiple corporations owned by single parent or single shareholder Plaintiff has claim against one of the corporations but it does not have

enough money to satisfy Sea-Land case and Walkovsky case

o Courts always start with fundamental presumption Shareholders are not liable Plaintiff must overcome by pleading equity

Unfair under these circumstances to not permit recovery from shareholder

o No statutes in this area Totally court-developed

o What you have to show Not just that corp can't pay That corp is being used in a manner that is inequitable

o Tort based claims Baatz v. Arrow Bar (SD)

Baatz alleged Arrow Bar served alcohol to McBride while already intoxicated, who hit Baatz with a car afterward.

Baatz claims that the corporate veil should be pierced and the shareholders held individually liable.

Corporation shall be considered a separate legal entity until there is sufficient reason to the contrary. When continued recognition of a corporation as a separate legal entity would "produce injustices and inequitable consequences" then a court has sufficient reason to pierce the corporate veil. Factors that indicate injustice and inequities are:

o Fraudulent representation by corporate directors;o Undercapitalizationo Failure to observe corporate formalitieso Absence of corporate recordso Payment by the corporation of individual obligationso Use of the corporation to promote fraud, injustice, or

illegalities When an indiv. Treats a corporation "as an instrumentality through

which he is conducting his personal business" a court may disregard the entity. No evidence of that here.

Walkovsky v. Carlton Π injured by taxicab. Π sues corporation owning cab and stockholder

of 10 corporations, each of which only own 2 cabs. Each corporation had statutory minimum insurance of $10,000

Πs theory is that although each corporation may seem independent, they are really operated as a single entity and just made separate to avoid liability. (fragmentation argument)

Even though Δ may have organized, dominated and controlled a fragmented corporate entity, no evidence he conducted business in his individual capacity. This isn’t to say Π couldn’t do so, he just hasn’t done so.

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Even if the taxis had been owned by a single corporation Π would have a difficult time trying to establish personal liability of shareholders.

Court held that it was no sufficient to pierce corp. veil based on fragmentation of corps., but gave the plaintiff leave to amend the complaint

Court also held that holding minimum insurance is not evidence of undercapitalization (min. ins. is all that is required by law)

The plaintiff’s amendment will likely argue the enterprise entity theory holding the larger parent corporation liable as running one big subsidiary instead of a bunch of small subsidiaries. This is in contrast to original complaint which sought to hold the individual shareholder (Carlton) of the parent corporation liable for fragmenting his subsidiaries.

Dissent: abuse of corporate form to intentionally undercapitalize companies such that they will be unable to meet their obligations

o Contract Based Claims Sea-Land Services, Inc. v. Pepper Source (7th Cir)

Sea-Land shipped peppers for Pepper Source and PS stiffed them on the bill

SL sued and got default judgment. However, when it tried to collect, PS had been dissolved, and even prior to that, it had no assets

SL sues Marchese (individual sole shareholder of PS) and 5 other entities he owns under enterprise entity theory. Π argues all entities and Marchese are alter egos of each other

Corporate entity disregarded when 2 elements:o Such unity of interest and ownership that the separate

personalities of the corporation and the individual [or other corporation] no longer exist; and

Focusing on 4 factors: Failure to maintain adequate corporate records

or to comply with corporate formalities The commingling of funds or assets; Undercapitalization; and One corporation treating the assets of another as

its own.o Circumstances must be such that adherence to the fiction of

separate corporate existence would sanction a fraud or promote injustice.

Court says for the 2nd element, can’t just prove that a bill will go unpaid... Perhaps they could est. that he used the corporate facades to avoid its responsibility to creditors; or that PS, Marchese, or one of the other corporations would be unjustly enriched.

o Statutory Claims United States v. Bestfoods

US brought action for cost of cleaning up industrial waste under CERCLA. Statute imposed obligations on owner or operator.

Can parent that actively participated in management of sub be held liable as an operator of a polluting facility owned or operated by sub?

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The fact that the parent selected BOD and officers of sub and some overlapped with parents is not enough. Must show injustice.

However, parent that operated/actively participated in management may be held as an operator in its own right (as opposed to derivative liability for the sub).

A parent corp. that goes beyond normal supervisory control may be deemed to be the operator or owner and then held liable to clean up pollution

o Pg. 8-10 in Supplement Corporate veil will not be pierced unless P proves that the Corp was organized

or used to mislead creditors or to work fraud against them. (Dania Jai-Alai Palace, Inc. v. Sykes)

3 factors that must be proven by a preponderance of evidence (individual person)(Seminole Boatyard):

SH dominated an controlled the Corp to such an extent that the Corp’s independent existence was in fact non-existent and the SHs were in fact alter egos of the Corp;

Corp form was used fraudulently or for an improper purpose; and The fraudulent or improper use of the Corp form caused injury to the

claimant. Parent subsidiary context, party seeking to hold the parent liable has to prove

(Johnson Enterprises): The subsidiary was a mere instrumentality of the parent and That the parent engaged in improper conduct through its organization

or use of the subsidiary. Plaintiff creditors, including tort victims, have the burden of overcoming the

presumption of SH immunity. Thin capitalization is relevant only if it can be shown that corporation was

inadequately funded in order to mislead or defraud creditors. (Barkett v. Hardy)

However, in another case the combination of undercapitalization, misuse and inequitable result could result in piercing the corp. veil when the condo corp. continued to distribute funds to shareholders after knowing about defect in condo’s windows. (Sanctuary IV)

Investors to whom the corp. reveals its thin capitalization have no grounds to argue fraud or misrepresentation. Becherer v. Merrill Lynch

Of a subsidiary: undercapitalizing a sub justifies presumption that parent is creating a business that cannot pay its bills or satisfy judgments

Look at capitalization at time corporation was initially formed Shareholders will not be liable simply because they exercise dominant control

over corp. affairs and are paid most or all of the corporate net profits. (Ally v. Naim)

Division by Corp of related operations into two or more corporations is not by itself fraudulent or improper. (Dania Jai-Alai v. Sykes - where the fronton and parking were divided into two different subsidiary corps. of the parent corporation)

Corp.’s sole shareholder improperly converted corp. property into personal property on multiple occasions not sufficient to pierce the corp. veil because it could not be proved to have been done with a deliberate intent to mislead creditors. (Mason v. E. Speer & Associates, Inc)

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Every Fla. case holding for shareholder liability has involved either a sham corporation or use of the corporate form in a way that misled or defrauded creditors

Shareholder treated corp. as sham. Corp. billing statements were fraudulently inflated. Parent corp. caused creditors to believe that they were dealing with the

parent rather than a subsidiary Parent corporation used a sham, non-operating subsidiary solely to

insulate itself from leasehold obligation Parent corp. caused subsidiary to enter into $1.5 million contract

knowing that subsidiary had no assets, bank accounts or operating income

Reverse piercing When a creditor seeks a judgment from a personal debtor’s corporate

entity on theory that individual attempted to make himself “judgment-proof” by placing all his assets in a corporate thereby insulating him from paying judgments stemming from persona liability

Creditors can reach these assets when the controlling person of corporation uses the corp. to perpetrate a fraud on creditors of such person (usually it will be found that the corp. is the alter-ego of the shareholder)

o SEE HANDOUT 15!!! Dividends (see H/O pg 17)

o Distributions = broader than dividends Dividends = distribution of profits, subset of the broader concept of

distribution. Distributions = defined in the statute - any cash or property that is distributed

to SHs for any purpose.o Dividends in Cash or Other Property

Board of directors declares dividends and a dividend may not contravene a restriction placed on dividends contained in the corporate charter.

Shareholders' legal right to receive dividends arises only when dividends are declared.

Preferred stock, the charter usually contains provisions designed to force the payment of dividends.

i.e. cumulative dividends or if not paid for four consecutive quarters, the right to elect directors.

Subject where lot of tension between interests of shareholders and interests of creditors.

Creditors was safety on their investment, every dollar that goes to shareholders is less safety

Shareholders are not liable to creditors and don't care about them.. They just want a return.

Resolve antagonism by attempting to develop standards for when shareholders can obtain dividends.

Creditors have no control over the board, so they need the protectiono 607.06401 Distributions to SHs

TWO tests, must meet both: Equity insolvency test: if after paying the $, you would not be able to

pay debts as they become due in the usual course of business

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o Kind of a (current assets)-(current liabilities)...but note that long term liabilities could be due in 13 months!

Balance Sheet Surplus Test: if after paying the $, total assets would be less than the sum of its total liabilities plus the amount that would be needed, if the corporation were to be dissolved at the time of the distribution, to satisfy the preferential rights upon dissolution of shareholders whose preferential rights are superior to those receiving the distribution.

o (assets)-(liabilities)-(amount due to preferred shares on dissolution)

o 607.0834 Directors are liable for unlawful distributions to the extent a distribution

exceeds permissible standards.o Various tests:

Earned surplus test- dividends only paid from earned surplus (accumulated retained earnings)

Balance-sheet test- dividends only if assets exceed sum of liabilities and stated capital

Nimble dividends test- dividends if has current profits even if no earned surplus.

Net worth test- dividends to extent that assets exceed liabilities (net worth = total value of equity)

Insolvency test- corporation may not pay a dividend if the corporation is insolvent at the time the dividend is declared or if the payment of the dividend would make the corporation insolvent

2 definitions of insolvent: (1) balance sheet sense= liabilities greater than assets and (2) focuses on company's inability to pay its debts as they come due in the usual course of business.

DE: dividends may be declared and paid either from the company’s surplus or, in the absence of surplus, out of its net profits for the current and preceding year.

Retained Earnings + Paid in Capitalo Repurchase of a Corporation’s Own Shares

BOD decides this...Might repurchase if think their shares are undervalued or have excess cash (price increases for shares if buy back shares because the earnings per share is going up). The corporation could re-sell those shares later at a higher price.

607.0631 Corporation’s acquisition of its own shares Distributions and thus subject to the tests of .06401 What happens when re-purchased?

o If articles prohibit the re-issue of acquired shares, the # of authorized shares is reduced by the # of shares acquired

o Statute authorizes treasury shares...issued, but not outstanding until cancelled or disposed of by the corporation.

o Stock Dividends and Stock Splits Stock dividends are dividends payable to a corporation's shareholders in the

corporation's own stock rather than in cash or other property. Stock splits have much in common with stock dividends, in that both have the same effect of getting a greater number of a corporation's shares into the hands of its shareholders without their paying for shares.

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3 primary reasons to issue stock dividends or do stock splits: Most common is to force down a too high trading market price. Could be small stock dividend to communicate the company is

prospering and would be in a position to pay dividends but for the management decision to re-invest profits in the business.

May occur as a necessary financial expedient when corporation is planning to sell its shares to the public for the first time.

o Don't really need to worry about this one 20% or less is a stock dividend... 20% or more is a stock split. Accounting differences between stock split and stock dividend:

Stock split: Stated capital remains the same. Must reduce par value. In a no par value state like Fla. nothing changes on balance sheet except number of shares outstanding because there is just one line for money received for the stock which has not changed.

Stock dividend: Par value stays the same. Stated capital increases. Capital or earned surplus gets reduced by the amount that stated capital increase. (no real change in no par value states like Fla., just number of shares outstanding changes again)

Duty of Care (GROSS NEGLIGENCE STANDARD PROBABLY! BJR=presumption that good faith and overcome by interestedness/fraud/bad faith)

o Directors and officers must meet certain standards of diligence, accountability, and propriety to serve the corporation and its SHs properly.

o General Standard of Care and the Obligation to Monitor Francis v. United Jersey Bank (NJ)

Charles, Jr. and William were taking out sums from the corporation in the guise of "loans"

Mrs. Prichard (defendant) was not active and knew nothing of the corporate affairs. Never read or obtained the annual financial statements, unfamiliar with reinsurance and made no effort to assure the policies and practices of the corporation complied with industry custom. She simply didn't pay any attention to her duties as a director of the corporation.

Determination of the liability of Mrs. Prichard required findings that she had a duty to the clients of P&B, that she breached the duty and she was proximate cause of their losses.

As a general rule, directors should acquire at least a rudimentary understanding of the business (THIS IS A VERY MINIMAL STANDARD) of the corporation. They must exercise ordinary care. They are under a continuing obligation to keep informed about the activities of the corp.

Directors may not shut their eyes to misconduct. Directors must regularly attend meetings, maintain familiarity w/

financial status of the Corp A director may have a duty to take reasonable means to prevent illegal

conduct by co-directors Director is held to the standard of care that an ordinarily prudent

director would use under the circumstances P had to prove causation too (so both burdens on P here)

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Cohn says insiders are expected to have a higher understanding and outsiders who are lawyers. Minimum standards are not going to protect someone coming in w/ more skills.

o Duty to Inquire and Monitor In re Caremark International Inc. Derivative Litigation (DE)

This is an approval of a settlement. 2 contexts for liability for breach of duty to exercise appropriate

attention:o Loss because a decision was ill advised or negligent.o Circumstances where a loss eventuates from an unconsidered

inaction Failure to act in cases where they should have acted. Director's obligation includes a duty to attempt in good

faith to assure that a corporate information and reporting system, which the board concludes is adequate, exists, and that failure to do so under some circumstances may, in theory at least, render a director liable for losses caused by noncompliance with applicable legal standards

This was a reversal of Graham, which said there needed to be cause for suspicion.

“Generally where a claim of directorial liability for corporate loss is predicated upon ignorance of liability creating activities w/in the corporation, . . . only a sustained or systematic failure of the board to exercise oversight . . .will establish the lack of good faith that is a necessary condition to liability.”

ALI 4.01(a)(1) on the duty to inquire: “The duty of care includes the obligation to make, or cause to be made, an inquiry, when, but only when, the circumstances would alert a reasonable director or officer to the need therefor. The extent of such inquiry shall be such as the director of officer reasonably believes to be necessary.

Reliance on Others Both the MA and the ALI allow directors to rely on a wide range of

types of info from a wide variety of persons when the directors reasonably believe that such reliance “merits confidence” and as described in MA 8.3(c) and (d), when directors do “not have knowledge that makes reliance unwarranted.”

o Business Judgment Rule Starting point still duty of care...doesn’t matter about BJR if didn’t breach

duty of care. Once directors make conscious corporate decisions, thereby exercising the

business judgment, their conduct is generally subject to the “business judgment rule.”

Joy v. North (2nd Cir.) Liability rarely imposed upon corporate directors or officers simply for

bad judgment and this reluctance to impose liability for unsuccessful business decisions..

Some of the bases:

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o Shareholders to a very real degree undertake the risk of bad business judgment

There are bad decisions are people undertake that risko After the fact litigation imperfect device to evaluate corporate

decisions Court second guessing a decision that had been made

years ago. The decisions are made with lots of complex cross-currents that sometimes don't come out in court.

o Potential profit often corresponds to potential risk and don’t want overly cautious decisions

Expect board members have to be risk takers...want them to.

Rule doesn’t apply where corporate decision lacks proper purpose or is so egregious as to amount to a no-win decision.

Applicability and Exceptions BJR only applies when directors have made “conscious” decisions.

Prolonged inattention and failure to monitor business activities (like in Francis) would not be included.

Courts have recognized at least 2 exceptions:o Directors and officers who are ”interested” in the corporate

decision may be subject to a different standard of conduct (see duty of loyalty)

o If decision itself constitutes illegal conduct, directors will not be protected.

Remember that BJR is not the standard, duty of care is the standard. BJR = safe harbor.

o Informed Decisionmaking Smith v. Van Gorkom (DE)

Shareholders seeking rescission of cash out merger or damages from BOD

CEO/BOD member approached a takeover specialist, Pritzker.  Arbitrarily picked $55 per share.

At BOD meeting, there were no documents presented to the directors.  The CFO told the board that he did not have enough knowledge to support the $55 per share price.  The meeting itself was hastily called.  Van Gorkum made a 20 minute oral presentation

BOD did not satisfy duty of care, therefore no protection from business judgment rule = BJR

Takeawayo Main defense BJR applies: no fraud, illegality or conflict of

interest.  o C: most important part of case, distinction between BJR and

duty of careo BJR protects directors from being second-guessed.  BJR does

protect bad decisions.o Predicate to BJR is BOD informed themselves prior to making

a business decision.o P → failure of due care → if due care, then BJR, unless

illegality, fraudulent or conflict of interest → if no due care, no BJR

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o Defense also raises shareholders overwhelmingly approved merger.  Ordinarily this is a valid defense.  However, shareholders were not fully informed because proxy statement said directors were informed and approved the merger

See Handout 16 and answers in onenote re: Van Gorkom Lyondell (DE)

Lyondell – large, publicly traded chemical company; Basel – Cash-rich, foreign buyer – interested in buying a major US chemical company

Real World – Deals can present themselves, and require action, in very short periods of time; time is often the enemy of shareholder value maximization

April 2006 – Offer of $26.50 to $28.50 pso Lyondell – Low Ball / Inadequate / Not interested

May 2007 – Basel affiliate 13D – right to acquire 8.3%; interested in possible deal; Lyondell stock - $33 to $37 ps (“in play”)

o Lyondell Board Met – “Wait and See”; no decision to sell; co not on the market

Side-show: Basel also pursuing Huntsman; enters into merger agreement; deal eventually dies (terminated in early July)

July 2007: Deal discussions ensue; Basel offers $40, then $44-45, and ultimate (when asked to give “best offer”) $48

o All Cash; No Financing Contingency; $400 mm (superior deal) break-up fee; Must act/sign merger agreement quickly

Lyondell CEO and Board Engage in Processo Initial Meeting – Study; Valuation; Status – get written offer

and details on financingo 2d Mtg (after more details and urgency request from Basel) –

Interested, engaged investment bankers, and instructed CEO to negotiate

The Deal: July 16 Lyondell Board Meeting: Board approves and recommends to SHs

o SHs Mtg (11/20/07) - > 99% approve 3 different standards of conduct DE courts have laid out:

o Std for duty of care Ordinary business decisions... Business judgment rule applies to these...

o Unocal standard Defensive measures (what defensive measures can a

board take to avoid a takeover) If do take defensive measures, have to be reasonable

under the circumstances.o Revlon standardso Maximize shareholder profito When board decides company is for sale... Role is to maximize

price for shareholders...don't d o things to negate 3rd parties coming along and making a better offer.

Lyondell turned on Revlon...when does duty go from business judgment rule to get best price kick in?

o Trial court had said kicked in when 13d was filed...

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o Supreme court disagreed... Didn't kick in at that point... Kicked in when board made decision to sell.

They did satisfy Revlon...o 2thingso Characterization of Revlon duty...question is have you utterly

failed in your efforts to attract another buyer (have you done very little?)

o Legislative Response to Liability Types of Stautes:

DE: opt-in. shareholders can limit or eliminate director liability in charter provisions (except for duty of loyalty, good faith, illegal payment of dividends or improper personal benefit)

VA: lower the standard of fiduciary duty. All that is required is good faith business judgment, e.g. procedure, not substantive merits of decisions (Tyson)

FL: 607.0831 Liability of Directors: not personally liable for monetary damages unless (note that it is automatic...opt out state):

o Breach duty as directoro Breach constitutes: (and then 5 times itll be applied):

Violation of criminal law. Personal benefit Unlawful distributions Derivative action brought by

shareholders/corporation ... Standard = conscious disregard for the best interest of corporation or willful misconduct

o Corporate Objective and Social Responsibility Shlensky v. Wrigley (IL) (See H/O 18)

Pathetic attendance because games only played during the day. Shlensky (shareholder) sued to put in lights at Wrigley. Corporation

acting adversely to interests of shareholders in refusing to install lights, something that every other park had done.

Wrigley said “baseball is a daytime sport” and “ baseball at night is bad for the community

Lost this case because of BJR. The court held that the BJR applied except the directors did not make a judgment

Cohn argued that similar to Dodge v. Ford Motor Company, where corp. directors were held liable for lowering price of Ford cars because founder thought that Ford made too much money. Directors breached duty to shareholders by sacrificing profits.

Dodge v. Ford Motor Co. Couldn’t lower price of Ford cars because Ford makes too much

money. Corp organized and carried on primarily for the profit of the SHs.

o Charitable Contributions Duty of care implications...are the directors acting in the best interest of the

corporation when they give money to charity. Is it corporate waste?? § 607.0302(12) general powers. Allows contributions for public welfare,

charitable, scientific or educational purposes. Codifies case law

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Courts have justified it as a non-material benefit... Good will... Cohn says this is BS.

If not getting a material benefit, should they keep giving to charity? NJ Supreme Court (1915) said corps get a lot of benefits from society, and

like any citizen if they want to give to charity, they should be able to... If shareholders thin giving to much, decide on the grounds of corporate waste.

Issue now decided in articles Corp codes directly permit charitable corporations...

Shareholder recourse: Limited to amount and reasonableness of the contribution. Internal revenue code allows up to 5% and few give even close. Pet charity could be a problem where it doesn’t have broader

implicationso Companies where location depends on them:

Decision to move or stay... If decide to stay to help the community, shareholder might say you aren't maximizing...

Company discharging waste into rive and meets minimal standards ... Can spend half million more and put out cleaner water or just meet EPA standard with no more... Waste to spend the extra? Not maximizing value

COHN thinks these are future issues Duty of Loyalty (See H/O 19)

o Duty of loyalty requires directors to exercise their powers in the interests of the corporation and not in the directors' own interest or in the interest of another person or organization. Directors shouldn’t use their corporate position to make a personal profit or gain or for other personal advantage.

o FLORIDA... Supplements pgs. 3-5: Duty of loyalty generally requires that a director or officer act at all times to

further the corporate interest. Even if a director or officer learns of a business opportunity in an individual

capacity, the opportunity must first be offered to the corporation, if it is one within the corporation's realm of possible business interests.

If business opportunity would serve a present or prospective corporate purpose:

Must first disclose the opportunity and give disinterested directors or shareholders the chance to decide whether the corporation should act.

This is even if get the opportunity in a personal capacity. Financial capacity = relevant to whether a viable business opportunity

exists. Financial uncertainty is often not, however, an adequate basis for not presenting the opportunity to the corporation.

Plaintiff has initial burden to show that a corporate opportunity existed. If that is met, fiduciary must prove that the fiduciary standards were

met. Can only be done by showing that the opportunity was offered to the corporation in a timely manner and with full disclosure and that a majority of the disinterested directors or shareholders determined not to accept the opportunity for the corporation.

o Can't do things that harm the corporation even if voted not to accept.

.0832 Director Conflicts of Interest (sets forth the conditions for validating conflict of interest transactions that might otherwise be void or voidable at common law)

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Only provision on director conflict of interest. Identical to DE provision.. NOT model act provision

Read commentary (1) is talking about 2 situations:

o contract between corporation and director (business transaction i.e. leasing property)

o Director stands on 2 side... Director of 2 different corporations No K/transaction void of voidable just because of relationship IF: (a)

or (b) AND (c)o (a) Disclosed to BOD and approved by majority disinterested

directors Quorum = majority of disinterested directors... cannot

be approved by one disinterested directoro (b) Disclosed to SHs and approved by majority of disinterested

SHso (c) Transaction is fair and reasonable to the Corp at the time it

is authorized Needing C no matter what is what has been decided in other

jurisdictions and is what FL would probably do... no case law on point.

DE and other jurisdictions: Burden shifts to plaintiff if director can prove (a) or (b)... this is what FL would likely do because it’s DE. Other places have kept the burden on the director.

(2)- there are situations where interested directors votes count. 2-1 vote (out of 5 TOTAL directors) by disinterested passes even

though less than quorum...but doesn’t approve merger...not a majority of board... The interested directors can vote for other purposes...vote doesn’t count with conflict question but does of other stuff.

o Common Law Test Lewis v. S.L. & E., Inc. (2nd Cir.)

Defendants were directors/shareholders of SLE and LGT, P was shareholder of SLE. Said lease given by SLE to LGT was not enough and was waste.

Burden on defendant directors to demonstrate that transactions between SLE and LGT were reasonable.

Here, this was because the directors of SLE were also directors and/or shareholders of LGT.

Business judgment rule presupposes that directors have no conflict of interest. When a shareholder attacks a transaction in which the directors have an interest other than as directors of the corporation, the directors may not escape review of the merits of the transaction.

When the transaction is challenged in a derivative action, the interested directors have the burden of proving that the transaction was fair and reasonable to the corporation.

Here the defendants failed to carry their burden. Did not show it was fair rental.

o Safe Harbor Statutes Statutory Interpretations

Marciano v. Nakash (DE)

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o Guess and Jordache, together formed Gasoline 50/50 ownership.

o Deadlock. Nakash loaned money to Gasoline ($2.3 million), Gasoline becomes insolvent and Nakash tries to get money back as a creditor.

o Loan was not approved by directors or shareholders, so Marciano argues that it’s invalid. If the loan is invalid then it’s considered equity and Nakashes have no priority as creditors.

o Statute is not exclusive, court goes back to intrinsic fairness common law standard.

o Nakashes met burden to prove that the transaction was intrinsically fair and were allowed priority as creditors.

o Intrinsic fairness is actually a higher standard than the statue... seems like (c).

Procedures and the Fairness testo Cookies Food Products held: they are convinced the legislature

didn’t intend by statute to enable a court in a shareholders' derivative suit, to rubber stamp any transaction to which a board of directors or the shareholders have consented. Thus require directors who engage in self-dealing to est. the additional elements of good faith, honesty and fairness... this case doesn’t let the burden ever shift.

o Compensation Agreements (598-99)o Corporate Opportunity Doctrine – FL book pgs. 3-5

A fiduciary (director, officer, or controlling SH) cannot take advantage personally or through another company of a business opportunity that would serve a present or prospective corporate purpose.

In such cases, a fiduciary must first disclose the opportunity to the Corp and give the disinterested directors or SHs the chance to decide whether the Corp should act.

Fiduciary’s obligation to the Corp arises even if the fiduciary learned of the opportunity in a personal capacity, as the fiduciary cannot divorce himself or herself from the constant obligation to act in the best interests of the Corp.

What is corporate opportunity? FL Sup. Ct. has referred to an interest that serves a “valid and

significant Corp purpose” More recently, business opp defined as one “which fits into the present

activities of the Corp or into an est. Corp policy which acquisition of the opp would forward.

Not necessary that Corp have a pre-existing desire to pursue the particular opp, nor is it necessary that the opp be central or of the utmost importance to the welfare of the Corp

Financial capability is relevant. However, financial uncertainty often not adequate basis for not presenting the opp to the Corp (should assume $ can be raised).

Plaintiff has initial burden to prove that a corporate opportunity existed. If burden met, the fiduciary who appropriated the opportunity must

then prove that fiduciary standards were met. That can be done only by showing that the opp was offered to the Corp in a timely manner and

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w/ full disclosure, and that a majority of the disinterested directors or SHs determined not to accept the opportunity for the Corp.

However, corporate rejection doesn’t necessarily free, because have to consider other things like the prohibiton against directly competing w. or engaging in activities that harm the Corp

Generally a constructive trust if improperly taken opp.o Corporate Opportunity Doctrine – Book

Line of Business Test: Guth v. Loft, depends on interpretation. Narrow would preclude fiduciaries only from direct competition, broad would prevent fiduciaries from getting involved in anything the corporation could reasonably do. Financial ability of corp. can be taken into account, but should not preclude fiduciary’s disclosure to corp. because the corp. could find financing.

Interest & Expectancy: does corporation have protectable expectancy to the opportunity? Often depends on definition of expectancy. Serves valid and significant corporate purpose or fits within present activities or would further corporate policy. Corporation doesn’t need a previous desire to enter into the particular activity, could be something the corporation just might consider.

Fairness Test: Durfee v. Durfee; is if fair to the corporation for fiduciary to take opportunity? Look at relationship between corporation and opportunity, fiduciary and opportunity and corporation and fiduciary. Did corporation have actual capacity to develop opportunity?

ALI test: NE Harbor. Strict requirement of full disclosure before taking advantage of any corp. opportunity. The corp. then must formally reject the opportunity. A “good faith but defective disclosure” by the corporate officer or director may be ratified after the fact only an affirmative vote of the disinterested directors or shareholders.

Corporate opportunity defined in ALI test: broadly defined, “any opportunity closely related to the business in which the corp. is engaged.” It also encompasses any opportunities that accrue to fiduciary as a result of her position in the corp. (clear in NE Harbor because realtor approached Harris b/c he thought as President of corp. she might present it to corp. if they were interested)

o N.E. Harbor Golf Club, Inc. v. Harris Harris was prez of a golf club. She purchased real estate surrounding the club

and decided to develop it. The board members decided that wasn't good for the club and challenged it.

Court must determine the scope of the corporate opportunity doctrine in Maine.

Reject line of business test ... 2 weaknesses: Question of whether a particular activity is within a corporations line

of business is conceptually difficult to answer. The Guth test includes an element of the financial ability of the

corporation to take advantage of the opportunity. Fairness test (619): provides little guidance to corporate officers/directors to

measure obligations. Combination of fairness and line of business: worst of both worlds. ALI approach (620-21): this court adopts this.

Key element is full disclosure. Corporate opportunity includes opportunities closely related to a

business in which the corporation is engaged and also any

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opportunities that accrue to the fiduciary as a result of her position with the corporation.

Changes in Control Introduction

o Two type: Negotiated and Non-Negotiated Negotiated: Acquirer negotiating in a friendly manner with Target Non-Negotiated: T doesn’t want to be taken over. Hostile takeover could

result.o Consideration:

Cash: Many takeovers are cash. Clean and fast. Don’t have to go thru securities laws.

Stock: Could be common stock or preferred stock.o Four principal questions to ask:

What is the type of merger or acquisition that will be used? Has the proper process been used to effect that type of legal transaction What are the fiduciary obligations of the directors? What is the role of the SHs; what rights do they have?

Examining Forms:o Statutory Merger (.1101): Agreement b/t parties is called a plan of merger. At a

minimum, both BODs and SHs of target company must approve. A < ------------- T..... T is now out of existence and liabilities of T go to A by

operation of law. T’s SHs are given consideration from A (If cash, they are now gone; if stock,

they are now SHs of A. Could be forward or reverse:

Forward: A is the remaining Corp; Reverse: T is remaining Corp, but T’s SHs get consideration and then are gone.

.1103 =the process that is followed. (7) says SHs of surviving corp don’t need to vote unless articles of

incorporation requires, change in articles of incorporation, or number of shares/rights of shares change (see 7b) (got to give right to vote on superior class of stock)...(no numerical test about shares of stock just about the rights)

o FL different than other states-MA and DE has a provision that if issue more than 20% of outstanding common stock, need to get approval.

o Saving $not having vote...proxy = expensive...no s/h vote, no appraisal rights.

(5) requires a majority of votes entitled to be cast (by each class entitled to vote)... Absolute majority... Not easy to get if a lot of people who throw the materials away.

o Contrast with what is necessary for ordinary shareholder resolution: start by asking what quorum is (need majority to be present...) then need majority of quorum.

o Triangular Merger: Acquirer forms a subsidiary (which it owns 100% of) and transfers $ or stock to subsidiary to use in the merger. Target them moves into the subsidiary. T has now gone out of business and end up with A owning Newco, but with everything of T’s going to Newco.

Would do this to keep the liabilities separate.

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Who votes? Acquiring Corps board to form Newco. Target Corps board and SHs. Newco’s BOD and Newco’s SHs if required (but Newco’s SH is A, although SOME states say A’s SHs should get a vote.

o Reverse Triangular Merger: A forms a subsidiary and transfers $ or stock for use in the merger. Target is going to be the survivor. Plan provides that once Newco merges into T, and T's shareholders shares are given to A in exchange for consideration... Result is that A will now own 100% of T.

This is the most common form of merger. BOD and SHs of T vote; BOD and SHs of Newco will vote (which

presumably are A) Do this to keep Ks and things that T has.

o Consolidation: Corp1 and Corp2 come together and form Newco. 1 and 2 both cease to exist. Not very common in the US, either Corp1 or Corp2 will want to survive. BOD and SHs of both vote.

o Short form merger (.1104): Called this because parent owns minimum amount of subsidiary (80%). Parent can merge out the other 20% without a SH vote. Not looking at the entire fairness doctrine.

De Facto Merger: Designed to circumvent SH approval, dissenters rights or assumption of liability.

o Functional approach: (Pennsylvania) Acquisition transaction has the functional effect of statutory merger, but has not followed statutory merger procedures – the ct. will hold the transaction is a merger to uphold shareholder’s rights.

o Equal Dignity doctrine: DE has rejected this doctrine and adopted the equal dignity doctrine which means that if transaction could be sale of assets or merger then court won’t hold that the transaction was a merger thus allowing for more shareholder’s rights.

o No case in FL, although FL has recognized the de facto merger doctrine in cases it has not been applied. FL courts do follow the “mere continuation doctrine” where there is no merger, but successor business is a reincarnation of the predecessor corp. under a new name…the change is in form and not substance.

o Farris v. Glen Alden (PA) Target company’s SHs ended up having the majority interest in Acquiring

company. Stock purchase, but court found de facto plan for merger

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Merger can be defined in two ways: in accordance with statute (by that definition, no, this transaction does not meet requirements of merger statute.) Alternatively, although not nominally a merger, its purposes and effect were the same as a merger. (functional approach)

Question to ask is : Does transaction fundamentally change interest of shareholders such that it essentially forces him to give up shares in one corporation and accept shares in another without dissenters’ rights?

o Hariton v. Arco Electronics, Inc. (DE) Sale of assets in which seller gets shares of buyer and seller is dissolved.

Same effect as a merger. Π: stockholder forced to accept investment in new company without right of

appraisal granted in merger statute. Sale of assets/dissolution/distribution statutes are independent from the

merger statute and each has equal dignity (corporation can choose format, and as long as it is allowed by statute, court will not call it something else.)

DE rejected de facto mergero Knapp v. North American Rockwell Corp (3rd Cir)

Knapp injured using a machine manufactured by TMW.  TMW previously sold substantially all its assets to Δ, retaining only stock in Δ and 500k.  TMW was dissolved.  Knapp filed suit against TMW.

Rules for successor liability: purchaser expressly or impliedly agreed, consolidation/merger of seller with or into purchasing, purchasing corporation merely continues business of seller, transaction fraudulently designed to avoid liabilities.

Knapp argues sale of assets was de facto merger.  Δ argues not merger because TMW continued to exist independently for 18 months and retained assets - Δ stock and cash

Rule in other jurisdiction: look to whether selling corporation continued to exist and whether seller possessed substantial assets to satisfy creditors

TMW technically existed, but it had no substance and was required to dissolve.

Public policy dictates Δ is better able to bear loss than single injured individual.  C: this is dumb reason.  Better reason is that successor is mere continuation of seller.

Parent Subsidiary Mergero Weinberger v. UOP, Inc. (DE)

Facts : Parent wanted to do cash out merger with wholly-owned subsidiary to get rid of unwanted minority interest.

Signal (parent) purchased 50.5% of UOP(subsidiary) and placed 6 of 13 directors on board. A few years later, Signal wanted to acquire the rest of the outstanding shares. Signal proposed $21 per share and merger had to be approved by a majority of the minority interest of UOP.

Raises duty of care (of UOP directors) and duty of loyalty (conflict because Signal on both sides of UOP).

Two overlapping directors prepared feasibility study for acquirer using target’s data stating fair range was $21-24. This report was used by acquirer and was never shared with outside target directors or minority shareholders.

Rules : The defendant (parent) had the burden of proof to prove that the transaction was fair.

Where there is conflict, defendant directors must establish entire fairness.

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Fairness has two aspects: fair dealing (procedure) and fair price (all financial considerations)

Fair dealing: When transaction timed, how initiated, structured, negotiated, disclosed to directors, & how approval of directors/ SH obtained.

Fair price: Relates to economic and financial considerations of proposed merger; including all relevant factors: assets, market value, earnings, future prospects, and other elements affecting value. Should take into acct all relevant factors. Ct. shifted analysis of fair price from DE block (which looks at historical earnings) to discounted cash flow and other forward-looking analysis.

Duty of candor - one possessing superior knowledge can't mislead SH by use of corp. info that SH doesn't have. (here directors of both corp. had feasibility study w higher price)

Reasoning : Fair dealing can be proven by showing each party exerted bargaining power against the other at arm’s length (footnote 5) by employing independent negotiating teams with independent advisors such as lawyers and accountants.

Approval of BOD and shareholders was meaningless because directors had a conflict of interest and shareholders did not get full disclosure of information.

There was no fair dealing because the merger was entirely initiated by Signal; short time for approval; not enough negotiations; Signal directors on both sides of transaction.

The price was not fair because the $24 feasibility study was not disclosed to UOP shareholders (usually if there is fair dealing there will be a fair price)

Note: That if the $24 feasibility study had just been prepared by Signal (parent) then it would not have a duty to disclose it to UOP (subsidiary), but here the study was conducted by people on both sides

Holding : The transaction did not meet entire fairness test because there was no fair dealing or fair price

Note: if complaint is just about price, remedy is in appraisal rights. If also alleging fraud, misrep, self dealing...then can bring a damage action.

o Kahn v. Tremont Corp Ordinarily, burden of proof is on conflicted insiders to prove entire fairness of

deal.  Approval by a committee of disinterested directors/s/hs switches the burden to the plaintiffs to prove the transaction wasn't fair

To switch burden, committee must (pg 657):o Approve by a majority of disinterested directorso Must vote in an informed manner (full disclosure)o Exercise real bargaining power (arm's length negotiations)

"appearance of objectivity" Appraisal Rights

o If a minority SH objects to a transaction, can get “fair value” for his shares. Covered by .1301 and .1302

o SH doesn’t get the $ from the merger, they get what fair value is in cash. Designed to protect SHs from having to accept a merger price.

o FAIR VALUE DETERMINED W/O CONSIDERING AFFECT OF MERGER. Considered independent of transaction.

o .1302(1)(a)-need the SH vote in order to have appraisal rights.o .1302(1)(b)- appraisal rights where share exchange and SH entitled to vote on the

exchange

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o .1302(1)(c)- appraisal rights where disposition of assets and SH entitled to vote.o .1302(2)(a)- Exceptions to appraisal rights:

1. Class or series of shares listed on NYSE or NASDAQ 2. if company has at least 2000 s/hs and outstanding shares have value of at

least 10Mo PROCESS:

Corporation sends out notice of meeting and purpose of meeting. The corp. indicates whether shareholder has appraisal rights.

Shareholder must give notice to corporation of intent to dissent. This notice must be given before shareholder meeting to vote on merger.

Meeting: the transaction is approved. The dissenting shareholder must vote against or abstain from merger vote in order to keep appraisal rights. If dissenter votes for the merger then he has waived his appraisal rights.

Corporation sends notice to dissenters advising them they can assert appraisal rights and giving them a number for what the corporation thinks is the fair value of each share (usually same number used in merger; shareholders must be careful because they can only get fair value and sometimes this is lower than merger price because acquiring corp uses a premium to get target’s shareholders to vote for merger)

Shareholder must send corporation notice of asserting appraisal rights within certain time frame and places in notice the number they think is fair value.

The two parties negotiate on price (usually group negotiation). If no agreement can be reached within a certain number of days then shareholder can initiate lawsuit. Court will decide the fair value based on modern valuation methods. Both sides will retain experts to argue over fair value.

Different types of acquisitions... (No merger, A acquires control over T)o Share exchange: A wants to acquire T... And in such a way that it now will control T

(either by controlling majority of shares or all of the shares)... A makes offer to shareholders of T...

Can be done in 2 ways: Friendly where board of A recommends SHs accept offer. (not bound

to accept).. SHs who don't take it still SHs of T. Mandatory situation where SHs vote, and if they do A gets 100% of

the shares. 607.1103- SHs of A don't vote. Ends up with same result as reverse triangular merger... This is simpler

way...but this wasn't always available by the statuteso Asset transaction (quite common)

Not a merger at all...basically a situation where acquiring company gets the assets of a company its wants incl. name... Now basically has the business of the target.

A forms subsidiary...T gives all assets A wants to Newco and usually also transfers all liabilities...in return, Newco gives either $ or shares of A...then you have old T that either has lots of $ or A's stock...doesn't have to result in the elimination of T or give anything to T's S/hs... But plan itself calls for T to dissolve and transfer to the SHs the consideration that T received.

Who approves? 607.1202 (company selling all or substantially all of its assets)- BOD and S/H approval from the transferor. (usually voting on sale of assets and dissolution of T)

Acquiring SHs have not vote.

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In DE, s/hs of T have no appraisal rights, even if they vote.o Hostile tender offer (no statute for this)

Acquirer wants to take over T and T's board says no. Bypass board and go directly to SHs. Make tender offer to SHs... Offer cash/stock/or combination...

No formal role for T as a corporation. Doesn’t involve s/h voting or board approval

Shareholder Derivative Litigation Derivative suit is brought by a SH, technically on behalf of the Corp, seeking recovery for

the Corp. Derivative Suits vs. Personal Direct Actions

o Personal direct actions brought by SHs to enforce their own rights or to remedy their own injuries.

o Derivative actions brought by SHs in the name of the Corp to enforce a right of the Corp or to remedy a Corp injury.

o Grimes v. Donald (DE) In the instant case, the shareholder-plaintiff sought a declaration that the

contract with the CEO was invalid. Monetary recovery would not accrue to the corporation. Plaintiff was allowed to pursue the declaratory relief as a direct action

The distinction depends on the nature of the wrong alleged and the relief, if any, which could result if P were to prevail.

To pursue a direct action, a SH must allege more than an injury resulting from a wrong to the Corp... P must state a claim for an injury which is separate and distinct from that suffered by other SHs or a wrong involving a contractual right of a SH which exists independently of any right of the Corp.

Courts are more prepared to permit plaintiff to characterize the action as direct when the plaintiff is seeking only injunctive or prospective relief.

The Demand Requiremento Differences b/t FL and DE:

Universal demand/demand futility; MTD tests; independence of Dir.o Universal Demand: Florida

Bring to managements attn. (maybe it is a good idea); prevent unnecessary litigation; maybe can easily be resolved; Corp is party in interest, so they should know and hear about it first.

However, the SH might not want to tip their hand. Only excused if P makes a specific showing that irreparable injury to the Corp

would otherwise result.o Demand Futility: DE, Federalo Aronson v. Lewis (DE)

Test applied here: Π must show BOD is not independent and cannot be trusted to act in good faith or underlying transaction was improper under BJR

Large ownership percentage of stock by defendant is not enough because the plaintiff must plead specifically that the directors are beholden to the controlling shareholder/s.

It is also not enough to charge that the director was nominated by or elected at the behest of those controlling the outcome of the election of BODs.

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It is the care, attention, and sense of individual responsibility to the performance of one’s duties, not the method of election that touches on independence.

It is also not enough that the directors have been named as defendants (otherwise demand would always be excused)

Mere directional approval of the transaction, absent particularized facts supporting a breach of fiduciary duty claim, or otherwise establishing a lack of independence, is insufficient to excuse demand

Do not apply test when BOD considering the demand is not the BOD that approved the action challenged in suit

Proper test then = whether the board that would be addressing the demand can impartially consider its merits w/o being influenced by improper considerations

o NY Approach (Cohn doesn’t see much difference)- Excused for futility when: Complaint alleges w/ particularity that a majority of the BOD is interested in

the challenged transaction. A complaint alleges w/ particularity that the BOD didn’t fully inform

themselves about a challenged transaction to the extent reasonably appropriate under the circumstances.

Complaint alleges w/ particularity that the challenged transaction was so egregious on its face that it couldn’t have been the product of sound business judgment of the BOD.

o Termination of Suits and Special Litigation Committees This is after the suit has been filed and a special litigation committee has

recommended dismissing. Auerbach v. Bennett (NY)

Looks at:o Were the members of the committee independent

(independence)o Did they do a reasonable job investigating (diligence)

Business judgment rule applies here and P has burden. Zapata v. Corporation v. Maldonado (DE)

Uses the same to elements as Auerbach:o Independence and o Diligence

But adds a third:o Court determines, applying its own business judgment, whether

the motion should be granted. Corporation has burden of showing independence and diligence.

Procedure of a Florida derivative action o 1) Is the action a direct or derivative action? - A derivative action is where the

corporation has been injured and the SH injured indirectly. In a direct action the SH has a personal injury (i.e. failure to pay dividend that has been declared or refusal for shareholder to exercise certain rights). The distinction is difficult especially when shareholders are all injured equally. Florida courts have allowed a direct action even when all SHs have been affected by the wrongdoing. There is also a possible close corporation exception to bring a direct action, but Florida has not decided on this issue.

o 2) Does the SH have standing to sue? – Determine if person was a SH or transferee of SH when challenged act took place. Statute silent as to whether person must remain a

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SH throughout litigation. A Florida court has held that plaintiff would not have standing if no longer a SH because he does not have a continuing legitimate interest in the lawsuit. (see Timko) Under this theory, SHs who cash out with appraisal rights would no longer have standing to sue. One Florida case recognizes that a SH of a parent corp. can bring a derivative action against the subsidiary under “double derivative theory.” There must be two demands on parent and subsidiary, but allowed because there is indirect stock ownership.

o 3) Did the SH make the proper demand on the corporation before initiating the action? The complaint must state with particularity the demand made to obtain action by the board of directors and that corporation turned it down.

o 4) Was the litigation committee independent? Court may order evidentiary hearing to determine the independence of committee and reasonableness of investigation.

o 5) Was the investigation done in good faith and reasonable? Again evidentiary hearing may be ordered. Was there a careful examination of the books and facts? Did the committee hire separate special counsel?

o 6) Can the court dismiss the action if corporation meets the burden of proof? Unclear if court is required to dismiss action if it accepts the report of the litigation committee or if it can not dismiss if there are some other holes, but generally accepts the litigation committee’s report. There is no statutory mandate for courts to act like DE court in Zapata and exercise own business judgment; however, Fla. courts will likely act more like Zapata court than Auerbach court.

o A court is likely to dismiss the case if the corporation meets its burden of proof, litigation committee was independent and conducted a reasonable investigation, unless the plaintiff can show the report’s conclusions are unreasonable and there is no rational basis for them.

607.07401 SH derivative actions (modeled after MA, but there are differenceso (1) standing provision. Have to be SH when the transaction occurred.

What if you sold your shares? The statute doesn’t say... Courts have generally denied standing to a SH who no longer has the shares.

o (2) "brought in the right of the corporation"- on behalf of the Corp. Corp nominally served as a defendant to get them in the case. So listed as a

defendant, but in fact, is party in interest if recover.o (2) demand must be made. Cannot begin a derivative action unless made a demand to

the corporation... Universal demand state. All other MA states are universal demands, but not DE.

DE permits no demand only on the grounds that making the demand is futile.

o But should always make a demand even if in demand futility state.

Why don't bring demand all the time? Tactical, don't want to tip their hand...plus might want to win race to courthouse because the suits are P's lawyer driven (P gets nothing, P's attorney gets a lot)

o (3) may dismiss derivative proceeding on corporations motion if after reas investigation they have determined the maintenance of derivative action is not in the best interests of the corporation... Determination can be made by (a) (b) or (c)... (b) is the most common way (special litigation committee).

(complaint has been filed)... And Corp files motion to dismiss.

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MA says shall... This says may. This gives court more flexibility. Very important difference.

Court has to find one of the groups did the things listed. Burden on Corp to prove independence and good faith of group.

Usually courts will examine the report and the people making it and will accept it if they are satisfied

Indemnification MANDATORY INDEMNIFICATION

o In FL, covered by 607.0850(3) To the extent that a director, officer employee, or agent of a Corp has been

successful on the merits or otherwise in defense of any proceeding referred to in (1) or (2), or in defense of any claim, issue, or matter therein, he or she shall be indemnified against expenses actually and reasonably incurred by him in connection therewith.

“to the extent” means might get partially indemnified.o Waltuch v. Conticommodity Services, Inc. (2nd Cir)

Case discusses on the merits. Talks about vindication. Guy was sued and suit was dismissed w/o his paying a settlement. Court says

“it is not our business to ask why this result was reached. Seems to cover termination of claims without payment or assumption of

liability. Cohn says FL would probably follow this.

o Settlements: Appears that settlement that is w/ prejudice and results in the dismissal of the

case w/o any payment or assumption of liability may be considered a success w/in the provision. Seems that settlements w/o prejudice to a claimants right to assert further claims are not successes under DE statute.

o “Wholly” and “Otherwise” DE and FL say to the extent a director is successful for mandatory; however,

the MA requires that the director be wholly successful. Both DE and the MA say “on the merits or otherwise”

PERMISSIVE INDEMNIFICATIONo Most Corps will put in bylaws that they indemnify to the fullest extent of the law.o In FL, covered by 607.0850(1)-(2)

(1) provides indemnification from 3rd party suit where acted in good faith and in a manner he reasonable believed to be in, or not opposed to, the best interests of the corporation + with respect to criminal stuff get indem if no reasonable cause to believe your conduct was unlawful.

(2) provides indemnification against amounts paid in settlement not exceeding, in the judgment of the BOD, the estimated expense of litigating the proceeding to conclusion, actually and reasonably incurred in connection w/ the defense or settlement of such proceeding. Only if good faith and in manner reas believed to be in, or not opposed to, the best interests of the Corp except no indemnification if adjudicated to be liable unless a court determines upon application that the person is fairly and reasonably entitled to indemnification despite adjudication of liability.

o 607.0850(4)

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Good faith determinations made by: (a) BOD with majority vote of quorum consisting of directors who were not parties to such proceeding; (b) majority vote of committee w/ 2 or more directors who not party to proceeding; (c) independent legal counsel selected by (a) or (b); (d) SHs by majority vote of quorum consisting of SHs not party to proceeding or if no such quorum by majority vote of SHs not party to proceeding.

o Heffernan v. Pacific Dunlop GNB Corp. (7th Cir) Statute says: "a corporation may indemnify any person who was or is a party

to any suit by reason of the fact that he is or was a director . . ." These people's provision said "the corporation shall, to the fullest extent

permitted by the DE General Corporation law . . . Indemnify and hold harmless any person who is or was a party to any suit by reason of his status as, or the fact that he is or was or has agreed to become, a director of the Corp or of an affiliate and as to acts performed in the course of the director's duty to the Corp.

This court held that it did not appear beyond a reasonable doubt that Heffernan could prove no set of facts in support of his claim that would entitle him to the advances or indemnification he requests.

Cohn says facts aren’t really important, but realize a person could go into court and get judicial relief based on statutory rights.

o 607.0850(7) Indemnification provided for in this section not exclusive, and Corp may

make any other or further indemnification or advancement of expenses of any of its director, officers, employees, or agents, under any bylaw, agreement, vote of SHs or disinterested directors, or otherwise, both as to action in his or her official capacity and as to action in another capacity while holding such office.

NO indemnification where judgment or other final adjudication establishes that his actions, or omissions to act, were material to the COA so adjudicated and constitute: (a) a violation of criminal law unless reason to believe lawful orno reason to believe unlawful; (b) improper personal benefit; (c) .0834 is applicable; (d) willful misconduct/conscious disregard for best interests of a Corp in derivative action or SH direct action.

o 607.0850(6) Can get advance expenses upon receipt of an undertaking if it is determined

he is not entitled to indemnification.

Short Swing Trading: Section 16 of the Securities Exchange Act of 1934 1934 Exchange Act 16(b)

o There to true to overcome the possibility of abusive trading... Profits to be recovered by the corporation (if Corp doesn’t bring, derivative action possible).

o Applies to directors, officers, 10% SHs of publicly traded companies.o 16(a) requires reporting buying shares in own company. Immediate reporting of

transactions.o 16(b) looks @ 6-month period... Any sale followed by a purchase or purchase

followed by sale w/in 6 month period we will look at...any profit made as a result of that transaction is profit automatically given to Corp simply by Corp demanding.

o Irrebuttable presumption...doesn't matter if evidence of cheating or not.

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o Sell at $10 and then buy back at $8 in 6 months... 1000 shares... Owe $2,000 to corporation.

Certain exceptions where you are forced to have to make a trade. Smolowe v. Delendo Corp.

o Defendants did trading w/in 6 month period in conceded good faith and without any "unfair" use of inside information.

o Court determined that there did not need to be unfair use of inside information.o Where an insider purchases one certificate and sells another, the purchase and sale

may be connected, even though the insider contends that he is holding the purchased security for sale after six months.

o "Lowest price in, highest price out" within 6 months should be the rule. Lowest price in, highest price out sometimes results in confusion on 3 points:

o To find a match for any particular purchase or sale, one looks at transactions w/in 6 months before and after the sale (so it covers a whole year, rather than simply 6 months)

o Multi share transaction may be split as needed for purposes of matching 100 share purchase in July could be matched w/ a 50 share purchase in Feb

and another 50 share purchase in Dec.o Any losses during the period are ignored.

Could have profits under 16(b) but losses for the period. Blau v. Lehman (US)

o Thomas was a member of Lehman Bros. (who was a securities broker) and also on the Tide Water BOD.

o Complaint alleged that LB was advised by Thomas in a six month period to buy and sell Tide Water for a profit.

o Evidence did show they made short swing profits. District court found there was no evidence that LB had deputed Thomas to represent its interests at Tide Water and that there had been no use of inside information.

o District court did make Thomas pay back his part of the profits, though.o Court found that it was Thomas, not LB as an entity that was a director of Tide Water.

Court did not allow the connection to be enough to make LB covered under the statute. Congress could change if it wanted.

If it was LB as a partnership that was a director and Thomas was just performing the director duties for LB, then LB would have to give back the $.

o Thomas doesn’t have to pay the full amount either, because he did not realize all that profit, only a portion.

o Can’t say the denial of interest was so unfair to reverse it.o DISSENT sayd this was not good and LB people could just help each other out by

getting on different boards. Court should have done it rather than waiting for the legislature.

Insider Trading and Other Securities Fraud Insider trading and other securities fraud under state law

o Freeman v. Decio (7th Cir) WHETHER under IN law, the P may sustain a derivative action against

certain officers and directors of Skyline for allegedly trading in the stock of the corporation on the basis of material inside info.

The court needed to determine whether IN would follow NY’s Diamond or FL’s Schein.

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Diamond allowed derivative action for profits from agents selling shares on insider info. Based on agency law, didn’t need damages.

Schein said no injury to the Corp so no derivative action. (Cohn says this is wrong

This court determines that there is no harm to the Corp, so no violation of fiduciary duty.

This is the prevalent view (Freeman v. Decio and Schein) Insider trading and other securities fraud under federal law

o 10b-5 It shall be unlawful for any person, directly or indirectly, by the use of any

means or instrumentality of interstate commerce, or of the mails, or of any facility of any national securities exchange,

(a) to employ any device, scheme, or artifice to defraud, (b) to make any untrue statement of a material fact or to omit to state

any material fact necessary in order to make the statements made, in light of the circumstances under which they were made, not misleading, or

(c) to engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person, in connection with the purchase or sale of any security.

o The underlined part goes with all.o SEC v. Gulf Sulphur (2nd Cir)

Anyone who, trading for his own account in the securities of a corporation has "access directly or indirectly, to info intended to be available only for a corporate purpose and not for the personal benefit of anyone" may not take "advantage of such info knowing it is unavailable to those with whom he is dealing"

Don’t have to be insider; just need to be in possession of inside info. Duty to disclose or abstain arises only in "those situations which are

essentially extraordinary in nature and which are reasonably certain to have a substantial effect of the market price of the security if the extraordinary situation is disclosed.

Basic test of materiality = whether a reasonable man would attach importance in determining his choice of action in the transaction in question. How did people who knew react?

In connection with the purchase or sale of any security meant that the devise would be of a sort that would cause reasonable investors to rely thereon and in connection therewith, so relying, cause them to purchase or sell a corporation's securities. So Corp didn’t have to trade.

Court concluded that the release was issued in a manner reasonably calculated to affect the market price of TGS stock and to influence the investing public, and they needed to remand to the district court to decide whether the release was misleading to the reasonable investor and if found to be misleading, whether the court in its discretion should issue the injunction the SEC seeks.

Would not have violated if they had kept quiet. Damages?

Say 100,000 shares were traded during that time... Say went up $25 a share...

2.5M in damages.o Causation and Reliance; Materiality

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Basic Inc. .v Levinson (US) Merger negotiations b/t Basic and Combustion. Continued for 2 years.

During that period, stock of Basic steadily rising even though it never disclosed it was a target. Basic issued 3 separate press releases to discount the rumors.

Finally come thru that there is a merger agreement and price jumps and now have a class of plaintiffs (sellers).

Materiality:o Arguing their denials were not material.o Material fact: material if substantial likelihood a reasonable

investor would consider it important in deciding whether to invest.

Also, substantial likelihood that the disclosure of the omitted fact would have been viewed by the reasonable investor as having significantly altered the 'total mix' of info made available.

o How does standard apply to speculative contingent info? Court adopts TGS test... Probability/magnitude

balancing test: Balance probability of occurrence w/ magnitude of that even on the company.

Extraordinarily important may be material even though small probability.

o FN 7 (946)- Statements must be misleading to be actionable Court suggests they could have kept their mouth shut. No comment could be silence depending on the

circumstances.o Company can sit on material info and not disclose it... But if

made prior disclosure that is not going to be totally true because of what you are not saying, then there is a 10b-5 COA. Pure silence is okay as long as not ever said anything.

Presumption:o Fraud on the market doctrine. People relied on the market who

didn’t read.o Efficient capital market hypothesis- that in efficient market,

price of stock immediately reacts to publicly available info.o Presumption that they relied.

o Standing Blue Chip Stamps (US)

Plaintiffs were "putative buyers" (offered chance to buy shares) Court took literal reading. Those who bought or sold a security. So putative buys don’t have standing, nor do people who held onto

shares.o Fault Required

Ernst & Ernst v. Hochfelder (US) Auditing company suing for failure to pick up a Ponzi scheme

negligence alleged. This was at a time where aiding and abetting charges were allowed.

NO LONGER. That is a substantial narrowing. Must go after primary violators now.

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Court says you need scienter. This means the willful intent to deceive. Court doesn’t decide whether includes recklessness.

o Every court of appeals has said recklessness is included in scienter.

o Persons Subject to Trading Constraints Chiarella v. US (US)

Chiarella not an insider. He was a printer. Figured out on his own at job who the target was.

Court determined that he didn’t have a duty to the Corp and he needed a duty to be liable.

Dissent by Berger develops the misappropriation theory, which lower courts start adopting.

SEC v. Materia (2nd) 2nd Cir adopts the misappropriation theory and applies it to a printer! Breach of duty to employer in a situation where info is to be kept

confidential... Has to be this notion that the info is CONFIDENTIAL and that you breached your duty by disclosing.

US v. O’Hagan (US) Supreme Court approving misappropriation theory. Lawyer who got inside info about tender offer from law firm and

bought shares. Liable because he misappropriated the firms confidential info.

Dirks v. SEC (US) In order for a tippee to be liable, the tipper needs to breach a duty to

the Corp and tippee needs to know it. Here the tipper was trying to expose a fraud. We applaud the

whistleblower. NOTE: This can go down the chain and eventually someone isn’t

going to know that there was a breach. Barry Switzer thing. No liability for overhearing.

-Co liable for entire timeframe where omission/misrep occurred through when it has been revealed...

-Everyone in that period who has suffered losses b/c sold or bought is a P in a civil action against the Co.

-Company's defense? We did not act w/ scienter (same with accounting firm or attn'y who give misleading opinion of counsel)

Insider trading review:o TGS- anyone w/ inside info engaging in trading violateso Ciarella- No, got to have a duty (ciarella didn't)o O'Hagan- we buy the duty theory, but misappropriation

Class of insiders, consultants, etc. under abstain or disclose.o Can be a civil cause of action... People trading in the mkt at the same time who lost

money can sue the person. Outsiders=O'Hagan

o If suing on misappropriation, no civil cause of action. No violation of duty to SHs or company, but to their own printing company.

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