CORPORATIONS[1]

  1. PRE-INCORPORATION ISSUES
  2. Liability of promoters
  3. Promoters enter into contracts with prospective shareholders. Also enter into contracts to provide goods and services to the corporation once it is formed.
  4. Promoters are joint venturers and owe each other a fiduciary duty not to take secret personal gain at the expense of other promoters or the corp.
  5. Once corporation is formed promoters have a fiduciary duty to corp. not to retain secret profit. Duty is one of fair disclosure and good faith. Promoter liability to other promoters and corporation can arise from

(1)breach of fiduciary duty

(2)fraud or misrepresentation

(3)obtaining unpaid stock

  1. Promoter cannot profit from sale of property to the corp. unless approved by independent Board after disclosure or shareholders after disclosure.
  2. If promoter acts on behalf of a corporation, knowing there has been no incorporation, promoters are jointly and severally liable for contracts entered into with a third party that is intended to benefit the proposed corporation. Promoters are personally liable for contracts entered into with third parties, even if corporation adopts.
  3. Promoter can avoid liability if vendor knew corporation did not yet exist and vendor expressly agreed to look to the corporation for payment of the debt.
  4. Liability continues after corp is formed absent novation.
  5. Promoter cannot bind corp on agency theory because corp does not exist yet.
  1. Formalities of Formation.
  2. corporation de jure, de facto, by estoppel
  3. All formalities are met, articles of incorporation that satisfy the statutory requirements.
  4. Corporations are formed by filing Articles of Incorporation with Secretary of State.
  5. Must be signed by incorporator. Only one rqd.
  6. Mandatory provisions: Name of corporation, number of authorized shares, name and address of agent for service, name and address of incorporators.
  7. Optional provisions.
  8. Articles can specify any other provisions not inconsistent with law.
  9. Corp is assumed to be formed to carry on any lawful business unless otherwise authorized.
  10. But if Articles have a narrow purpose statement, any act by corp outside of this purpose is ultra vires.
  11. ultra vires is valid unless shareholder sues; corporation sues officer or director; or state brings action to dissolve corp because it acted ultra vires.
  12. Corps may make charitable donations.
  13. Corps may make loans to employees, officers, or directors.
  14. Corporate existence begins when Articles are filed.
  15. After Articles are filed incorporators or initial directors hold meeting to adopt bylaws.
  16. Bylaws can have any provisions that are lawful and do not conflict with Articles.
  17. Bylaws can be amended by either shareholders or directors, unless Articles say only shareholders can.
  18. Articles can only be amended by vote of both shareholders and directors.
  19. If the formalities are not met a De Facto corporation may exist. So if incorporators think there is a valid corporation they will still enjoy the protection of the corporate form—i.e. limited liability.
  20. Only state can attack a de facto corporation.
  21. De facto corporation is bound by contracts. De facto is liable in tort.
  22. Corporation by estoppel. Persons who treat an entity as a corporation will be estopped from denying the entity is a corporation.
  23. Third party will not be able to avoid corporate protections in contract, but will be able to disregard protections in tort. Ex.: Third party seeking to avoid a contract with the corp or the corp trying to avoid a contract.
  1. BASIC CONCEPT--CORPORATIONS CREATE LIMITED LIABILITY AND ARE OF UNLIMITED DURATION
  2. Corp is a separate legal entity.
  3. Shareholders are liable only to the extent of their investment for contracts entered into or torts committed by the corp. Directors are not liable.
  4. Corp is managed by Board and Directors, not by the owners (shareholders).
  5. Shares are freely transferable.

e.Corporations have a perpetual existence.

  1. AUTHORIZED SHARES
  2. Most voting stock is common stock
  3. corporation can only issue shares up to the number of authorized shares in articles of incorporation--shares that have been sold are outstanding.
  4. company may repurchase its shares--called treasury shares. Treasury shares cannot be voted.
  5. If want different classes of stock, must be specified in Articles. Classes may differ in: voting rights, distribution of dividends, preference in distribution.
  6. If there are to be classes of shares, must be provided for in Articles.
  7. Usually voting shares are common stock.
  8. Usually preferred shares cannot vote but have certain privileges such as first distribution of dividends or distribution of assets on dissolution.
  9. Subscription agreements are contracts to buy shares when the corp is formed. Payable on demand from the Board. Board cannot discriminate in demand.
  10. Consideration for shares. Traditionally shares must be paid for by cash, property or services already rendered. Model Act allows any tangible or intangible property or benefit to the corp.
  11. Par value doctrine dead. Idea was that if Articles provided for a par value the corp could not issue shares for less than par value. Under Model Act Directors may issue stock for whatever consideration they consider adequate. The Director's good faith determination as to adequacy of consideration is conclusive.
  12. Thus the issue of watered stock no longer exists.
  13. A minority of states still use par value, which means stock cannot be sold for less than stated par value.
  14. I am going to ignore federal law. An examination of MEE questions from last 9 years shows no issues involving federal law.
  1. PIERCING THE CORPORATE VEIL
  2. Basic Concept--Directors, Officers and/or shareholders do not respect the corporation as a separate entity.
  3. Creditors are then able to pierce the corporate veil of limited liability and reach the personal assets of shareholders, directors, officers.
  4. Signs: treating corporation as alter ego, undercapitalization, inadequate insurance, not respecting the formalities of shareholder meetings, minutes, separate bank accounts, fraud illegality.
  5. A subsidiary will not be treated as a separate entity if the formalities are not followed—i.e. separate Board and Directors meetings, different Directors.
  6. Active/inactive test. Passive investors who acted in good faith will not be personally liable.
  1. PREEMPTIVE RIGHTS
  2. At common law any existing shareholder is entitled to buy as many shares of a new issuance as are necessary to maintain a constant ownership interest
  3. In Colorado there are no preemptive rights unless articles of incorporation so provide.
  4. Does not apply to shares issued as compensation to directors, officers, agents, employees; authorized shares issued within six months after incorporation; shares issued for consideration other than money; shares without voting rights.
  5. Holders of common stock have no preemptive rights with respect to issuance of preferred shares.

7.BYLAWS

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  1. Adopted by BOD at first meeting. Rules that govern the corporation. Not public document. If Bylaws and Articles conflict Articles govern.

8.OPERATION AND MANAGEMENT

  1. Directors
  2. Elected by shareholders. Directors have general responsibility for management of corporation. Number is specified in Articles or bylaws. Elected at first meeting of shareholders and then annually. Can be removed by majority vote with or without cause. Term expires at next shareholders meeting unless Articles or bylaws provide for staggered terms. Staggered terms require at least nine Directors.
  3. Directors may be removed by shareholders with or without cause.
  4. Actions must be taken by majority vote of a quorum at regular annual meetings or announced special meetings with notice of time, place and agenda. Notice does not have to include purpose of special meeting.
  5. Quorum is specified in Articles or bylaws but cannot be fewer than 1/3 of Directors. Quorum must exist for entire Directors meeting.
  6. Directors have right to inspect books.
  7. Directors owe duty of care, duty of loyalty and a fiduciary duty to the corporation and shareholders
  8. duty of care is the care that an ordinary prudent business person would take. Directors must discharge their duties in good faith, with the care that an ordinary prudent person would exercise, and in a manner the Directors reasonably believe is in the best interests of the corporation.
  9. Director protected by business judgment rule. Directors may rely on reports, information, opinions or statements prepared by corporate officers, legal counsel accounts, a board committee of which the director is not a member.
  10. Decisions may be ratified by vote of disinterested shareholders
  11. Duty of loyalty prohibits conflict of interest, taking a corporate opportunity, competing with the corporation and being a creditor of the corporation. Corporation can recover profits made by taking corporate opportunity.
  12. self-dealing OK if fair, fully disclosed and approved by majority of disinterested board members or approved by shareholders.
  13. Corporate opportunity doctrine. Directors are prohibited from taking advantage of business opportunity only if their corp would have an interest or expectancy in the opportunity.
  14. Directors are agents of the corporation.
  15. Officers
  16. Selected by BOD. Their duties are as directed by the Bylaws.
  17. dischargeable at will. If contract might have action in breach.
  18. have express, inherent or apparent authority to bind the company contractually. Officers are agents of the corporation and may bind the corporation in contract.

(1)Actual authority is that granted by the Bylaws, directors, the Articles and statute, and authority implied by the express grants.

(2)When the corporation holds out an officer as having authority inducing others to reasonably believe the authority exists the officer can bind the corporation even though actual authority does not exist.

  1. Officers have duty to act in good faith, with the care an ordinary prudent person in a manner he reasonably believes to be in the best interests of the corporation.
  2. their decisions may be ratified by BOD or shareholders
  3. may be removed at any time with or without cause.
  1. Shareholders
  2. In general, shareholders do not control management of corporation. Shareholders are the owners of the corp but overall control is in the hands of the Board, who select the officers who have day to day management authority.
  3. Shareholder approval is required for merger, sale of assets outside of ordinary course of business, dissolution and any other extraordinary action.
  4. Corporation must have annual shareholders meeting. Shareholders elect new Board. Board can call a special meeting.
  5. Written notice of meeting must be sent to shareholders not less than ten or more than sixty days before meeting. Notice must state time and place of meeting, or if special meeting the purpose.
  6. Shareholders are eligible to vote if they are holders of the stock on the corporation’s books as of the record date. Shareholders list is available for inspection.
  7. Shareholders may give proxies. Proxies must be in writing unless shareholder is present, are revocable and generally are valid for 11 months. If the proxy states it is irrevocable and is coupled with an interest it is irrevocable.
  8. Shares given as security are voted by shareholder.
  9. Quorum must exist before vote can be taken. Once quorum is reached it is not destroyed if shareholder leaves.
  10. Shareholder Agreements
  1. Voting Trust. Shareholders transfer their shares to a trust. Trustee must vote shares in accordance with the trust agreement. I.e., we direct that the shares be voted to elect us as Directors. Not valid for more than ten years.
  2. Voting Agreements. Agreement as to how the votes will be cast. Specifically enforceable. No time limit.

ix.Restrictions on Transfer of Shares. Permissible if reasonable, conspicuously noted on the stock certificate and the transferee has knowledge of the restriction. Shareholder has right to inspect books with five days written notice stating a valid reason for inspection.

  1. Have right to receive dividends if company decides to distribute.
  2. no duties, unless shareholder has enough shares to control company and then has a duty not to loot the company

d.Derivative suits are suits brought by a shareholder against company officers or BOD to protect rights of company.

`i.must own at least one share entire time of suit.

ii.Corporation is the named defendant.

iii.make a demand of the BOD or officers unless demand would be futile.

iv.BOD can in good faith refuse demand or appoint a committee of disinterested Directors.

v.If majority of committee of disinterested Directors decide suit is not in best interests of company, in good faith after reasonable inquiry, Directors may move to dismiss the suit. Usually the shareholder/plaintiff has the burden to show the suit is in the corporation’s interest, but if a majority of directors are interested the corp will have the burden of proof.

vi.Ending suit requires court approval.

e.Distribution of dividends is at the Directors' discretion. If a distribution is made all holders of common stock must receive a distribution.

i.Distribution not permitted if corp is insolvent or would not be able to pay its debts.

f.Generally shareholders have no liability and owe no fiduciary duty to corp or shareholders.

i.Shareholders in a closely held corporation owe each other a fiduciary duty of utmost loyalty and good faith.

ii.If veil is pierced only shareholders who took an active part in management will be liable.

9.CLOSELY HELD CORPORATION

a.Usually a family owned corporation. Issues include freeze out, whereby a shareholder is fired from job and other shareholders votenot to pay dividends. Frozen shareholder has right of judiciallyordered sale.

10.FUNDAMENTAL CHANGES IN CORPORATE STRUCTURE

  1. Amendments of Articles. Directors can make ‘housekeeping’ changes in Articles without shareholder approval. Change number of authorized shares to implement a stock split, extend the corp's duration, delete names of directors or registered agent, change company name.
  2. Must have approval of Board and shareholders to change classes of shares, change number of authorized shares, change rights or preferences of classes, cancel distributionrights.
  3. Fundamental change in corporation must be approved by shareholders and board. Merger, share exchange, disposition of most of company’s assets.
  4. Statutory merger. Both BODS must approve, both shareholders must approve. But no shareholder approval is needed if their will be no significant change to surviving corporation. I.e. Articles will not change, each shareholder will have same number of shares with same rights, voting shares will not increase by more than 20%.
  5. Share exchange. One corporation buys all outstanding shares of acquired corporation. No approval of shareholders needed. Shareholders of acquired corp merely sell their shares.
  6. Disposition of most of all or most of the company’s property. Company continues to exist but has no assets. Must be approved by Board and shareholders.
  7. dissenters can cash out if they object in writing, vote against the merger or abstain and make a written demand
  8. stock sale. Acquiring BOD must approve
  9. asset sale. Both BODS must approve acquired shareholders must approve
  10. dissolution. BOD and shareholders must approve

11.SECURITIES LAW

  1. Is federal law, so it will not be tested.

12.Other forms of business organizations.

a.Sole proprietorship. No organization at all. Individual owner. Unlimited contract and tort liability.

b.Partnership. At least two owners. No formality required. Partners personally liable for obligations of the partnership. Management is not centralized. Partnership interest cannot be transferred. Pship ends when a partner leaves or dies.

c.Limited Partnership. Limited partners have limited liability and cannot participate in management. Must comply with statutory requirements. General partner has unlimited personal liability and management duties.

d.Limited Liability Partnership. Limited liability for all partners. Must comply with statutory requirements.

  1. Limited Liability Company. Limited liability, only need one member, must comply with statute.

13.WYOMING ADDENDUM

  1. LLC. LLC is terminated when a Member becomes insolvent, dies, becomes incompetent, resigns or declares bankruptcy. If the Operating Agreement so provides remaining Members can vote to continue the LLC.
  2. Shareholders may seek judicial dissolution by demonstrating the shareholders are hopelessly deadlocked causing injury to the corporation or inability to function. Court may order liquidation and enter decree of dissolution, which terminates the corporation.
  3. A LLC is a person andthus can be a limited partner in an limited partnership. Limited partnership requires at least one other ‘person’ in a limited partnership. The same entity can be both a limited and a general partner.
  4. In Wyo there is something called a Flexible Limited Liability Company. Looks like a CO LLC. Articles of Organization shall state: duration (if not specified 30 years), purpose, registered agent, contributions of each Member, right to admit additional Members, right to continue LLC on death etc of a Member, if the LLC will be managed by Members, names and addresses of Members.
  5. Wyo statutory close corporation is a business form available if 35 shareholders or less. Allows for less formality, such as no Board or bylaws. Shareholders may manage, need not have annual meetings.

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[1] Copyright 2008 Dan Wilson. Grateful appreciation to Professor John Soma University of Denver College of Law.