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- Professor relies on volunteers in class discussion (also cold calling); multiple choice final exam; personal outlines are permitted and not commercial on the exam; - Policy themes in this semester ± this is a policy based class as compared to economic theory approach 1) What role should corporations play (as a normative question)? 2) What role should democracy play in American govt? Usually, corporations are very hierarchical; but recently, there has been a change although small. a. Should boards be more representative of society? b. Alternatively should we give community groups more of a say in corporate management? 3) What is the role of Federalism in American law? As to competition between state and the national gov¶t. Partnership Formation: 2 statutes govern partnerships in the US; not all states adopted RUPA (36 states including NJ, CA, Delaware) but still use UPA (like NY); they are very similar (95%); RUPA makes explicit by using case law what is implicit under UPA; i) ii) United Partnership acts - UPA §6(1) (1914) Revised United Partnership act ± RUPA §202(a) (1994, 1997)

UPA §6(1): ³a partnership is an association [(1) voluntary agreement, not K, to associate (like by shaking of two or more persons (or partnerships or corporations like business entities) [(2) at least two persons] to carry on as co-owners [(5) profit sharing and joint control] a business [(3) must be a business, not just an investment] for profit (it does not have to generate profit since many of them unfortunately fail)´ (4) anticipation of profit. The intent is found objectively not subjectively.
hands, it does not have to be explicit)]

RUPA: ³« the association of two or more persons to carry on as co-owners a business for profit forms a partnership, whether or not the persons intended to form a partnership.´ Three policy terms we¶ll encounter in the course: what role corporations should play in society - Comparing the two the acts y y y RUPA modernizes and updates, and states things that were left for case law in the UPA. But no policy difference Revised act explicitly states the relations of the partners to each other regarding loyalty, due care and good faith RUPA makes it clear that the provisions of the partnership are default rules

Fenwick v. Unemployment Compensation Commission (1945) Facts- Lady in beauty salon in Newark wants a raise. Owner says he can¶t afford a raise but if he makes more money he¶ll share his profits. The papers say that both parties will work in the shop, and that they are in a partnership, to be terminable at either party¶s insistence. Lady quits after a while and Unemployment wants its taxes saying that the parties were not partners but just employees Rule ± partnership req 2 or more people intending to carry on as co-owners in a business for profit Analysis ± The following items are needed for a partnership to form: y Intent


The agreement is evidential but not conclusive, seems that the owner promised to pay more in comp if business warranted it y Right to share in profits o That exists here y Obligation to share in loss o Entirely absent in this case y Ownership and control of partnership property and business o Owner kept control to himself y Community of power in administration of business o Owner made all the decisions y Language of the agreement o Ms. Cheshire is called a partner but is excluded from the ordinary rights of a partner y Conduct towards others o Parties held themselves out to UI as Partners but not to the rest of the world y Rights of dissolution o Mrs. Cheshire had the same rights as if she had quit Holding ± The court reversed the Supreme Court¶s finding that a partnership existed between prosecutor and his receptionist because the element of co-ownership was lacking. The agreement was one to share profits resulting from a business owned by prosecutor who contributed all the capital, managed the business and took over all the assets on dissolution. Ownership was conclusively shown to be in him. o

* So the first four of the UPA were satisfied but not the 5th criteria; there is no loss sharing but that is not determinative since all five elements of the UPA can be satisfied; joint control is here a problem; Cheshire did have right to inspect the books which conflicts with the statement to a bit that she did not have control; general partners are personally liable for the debt of the partnership which is one of the main reasons for lawsuits in potential partnerships;
Martin v. Peyton (1927) Facts ± P is a creditor and the D had lent money to a ³partnership´, but P says as that they were partners too. D (explicitly refusing the partnership) had lent Mr. Hall money, to invest in his company (Respondents agreed to loan Hall $2.5 million in securities for Hall to secure $2 million in loans) D does so but insists on three instruments called ³the agreement´, ³the indenture´ and ³the option´. D were to take 40% of the profits but not to exceed 500k. Rule ± Generally Creditors are not to be found Partners Analysis ± Look at each instrument and see whether they as one or in whole point to the D being partners with Mr. Hall Loaned securities are not to be mingled with the other securities of the firm, and that fund is always to be maintained at 2M o This is just a loan agreement so far y D take out 1M life insurance policy on Mr. Hall¶s life till the 2M lent is returned o This is just ordinary caution y D to be kept in loop of everything can inspect books, and can veto any business decision o They cannot initiate txn, only veto them, this is proper safeguard for loan y All members in the firm assign their interest to the D, and no loan is allowed on each¶s interest o Just prudent securing of D interest in the survival of their loan y The ³Option´ allows the partnership to buy into the company later at a given price y D can also fire people if they make a bad decision o This last provision is unusual but not enough by itself to deem this a partnership Holding ± No partnership. y


Why did the court care ± because there is a creditor, and if they are partners then they are personally liable. Policy reasons why the court decided the case in this way ± will injecting capital make creditors liable, i.e. make lenders more likely to lend? * In partnerships, partners are personally liable for any debt of the partnership while in a corporation shareholders are liable only up to their investments in the company. In the class, we analyzed each element of UPA §6(1)! Problem: profit sharing and joint control in order to satisfy joint control: there is a evidence of profit sharing. There is a fair amount of control of the business by the D. However, D cannot positively affect the business or propose new ideas. This is a much closer case than the previous one.

Intent is not determinative under either UPA or RUPA, just in RUPA it is more explicitly stated! In the absence of any agreement, profit sharing is equal but however parties may agree on a different percentage share.
08/25/2010 The Fiduciary Obligation of Partners: Relationship of partners to each other and to the partnership Fiduciary duty ± P.111 RUPA §404 IMPORTANT: new effort to extend fiduciary duty of loyalty; final

dissolution of a partnership does not unfold right away but there is a grey period when accounting etc is settled; section 404 seems to require notice + sharing so long as the partnership continues: if the relationship with the person making the lease, like in the Salmon s case, there seemed that the partner competed against another partner which was enough to trigger section 404 b) 1). Two partners cannot by signing a K decides to circumvent section 404 as to duty of loyalty but certain provisions would be upheld by the court!
Meinhard v. Salmon Facts ± D and P were in a partnership where they leased a part of a building on 42nd and 5th for 20 years. P provides the money and D does the work. They had failure and then success. Then the Owner of the building approaches D to lease the entire block just before the 20 years are up. D agrees and signs before term is over but does not tell his partner. Partner sues saying he wants to be included Rule ± Partners owe each other the duty of utmost loyalty, esp when the new enterprise is an extension and enlargement of the old. Greater loyalty is owed by a Analysis ± D took the opportunity in secrecy and silence He needed to, at least apprise his partner of the opportunity given by their common venture o Hence D had to allow P to compete with him y Since D was the primary person in control of the operation he had a duty of disclosure o DUTY OF LOYALTY FOR SUCH A PERSON IS GREATER y Here the subject matter was an extension and enlargement of the old lease y P to be given half the new lease Holding ± Finds for P Share in losses equally to be shared but was given to D one more share so that he can continue to be the manager. Cardozo calls them a joint venture but what applies to a joint venture will also apply to a partnership, i.e. more fiduciary duties for a partnership than for joint ventures Rule ± u Cardozo says that D had a duty to tell P that i) the new offer had come ii) allow him to participate since the property is the same Why have this high level of honesty and loyal behavior? ± to encourage that people don¶t¶ have to spend lots of time watching their back, especially since partners are personally liable for the partnership debts. General standard of Partners conduct ± * They are not partners (one has a complete control over the property as a real estate agent while the other was a textile merchant), they are labeled as ³joint co-adventurers.´ Joint adventurers are different y y


than partnerships, also look at p.106. If D leased another property or the same 6 months later, the holding would be for the D! PARTNERSHIP PROPERTY: Putnam v. Shoaf, 1981 Facts - Mrs. Putnam (P) owns a business with the Charltons and sells her share in it to D (Ms. And Mr. Shoaf), because it has a lot of debt. In exchange for transferring the business she has to put in some money. After transferring the business, P gets a new book keeper and it is discovered that the old bookkeeper was embezzling. He is fired and 68k recovered. ½ that amount is given to the Charltons and P wants the other half is disputed. Rule ± Your interest in a partnership is like a co-tenant, and undivided part of a whole and once you convey it, you keep nothing of it Analysis ± P conveyed her property rights in the business, which under section 24 of the UPA is Rights in the partnership property o Is a tenancy right and does not exist absent a partnership o Thus the co-partner owns nothing but the partnership owns everything, o The partner owns an undivided interest in the whole o Thus P had to convey all or none of her partnership status y Interest in the partnership y Right to manage the partnership Holding ± Holds for pa; Ms. Putnam did not intend to convey her profit/loss to the D. Courts decision because P Interest in partnership means that you owe the profits stream not the physical assets. # The Appellant is not entitled to the money collected by the business. Although the dishonest bookkeeping occurred while Putnam was still a partner, Putnam signed over her undivided interest in the partnership to Appellees. A partner does not personally own any specific property of the partnership and therefore can not retain any rights to the partnership after she conveyed it to Appellees. If she had an interest in the money, then she had an interest in the partnership y * P.134 UPA §24; partnership does not mean you can take property with you, instead you have the right of share of the profit while property belongs to the partnership; UPA: unanimity: a person becomes a partner only by unanimous decision by all partners; a partner can sell his/her profit share to someone else but not the management rights; 08/26/2010 PARTNER¶S AUTHORITY/LIABILITY Nabisco v. Stroud, 1959 Facts ± D (Stroud) and Freeman´ enter into a partnership and open a grocery store. D tells P (Nabisco) not to sell them bread and that he will not be responsible if bread is sold to them, but Freeman orders some and they get the bread. Partnership went to bankrupt and Stroud (D) did not want to pay to P as a creditor for the bread. Rule ± Every partner is an agent of the partnership for ordinary decisions, unless the acting partner has no authority to act AND the person being dealt with Knows this y All partners are jointly and severally liable for the acts and obligations of the partnership y All partners have equal rights in the management of a partnership, but any difference between them may be decided by a majority of the partners Analysis ± y Stroud could not restrict Freeman to act since this was an ordinary matter and he by himself is not a majority Holding Any extraordinary decision will require unanimous approval, y


partnership is very egalitarian and not hierarchical. irrespective of how much each contributed. holding would not hold today! Analysis ± Holding ± Finds for P Losses were never discussed. Kovacik.e.e. the loss to be split 50/50. p. Creditors other than partners Owing to partners other than for capital and profits Owing to partner for capital Owing to partners for profits d) Partners will contribute amount needed to satisfy liabilities UPA 401(b) expressly states that Kovacik is rejected and that each partner is liable to the losses in proportion of the partners share of profit The default. 1957. P then wants D to contribute to the loss. explicit agreement about not sharing is not an essential element of a partnership. but when one partner contributes skill and the other labor. Stroud¶s argument ± had told P not to ship anymore bread hence not responsible. II. profits. UPA sections 18a) and 40 on p.140: UPA 18 e). as each partner is an agent of the partnership UPA 18(h) says that the majority of partners have decisions that stick but here it¶s a deadlock as its 50/50 split. 5 . and must contribute to the losses. So ordinary decision need majority. Rule ± Partners to share equally in profits and losses. as opposed to a hierarchical structure in a corporation What is someone in Stroud¶s position to do? y y Draft an agreement allocating decision making to one party Arbitration clause for differences Partnerships cannot make a decision that hurts the rights of a 3rd party * Straightforward case.Extraordinary decision would be to cut off the decision making power of a person in a law firm. to remodel Kitchens. and share in the surplus. * This was a voluntary agreement between the parties. in the absence of the agreement. after all liabilities including those to the partners are satisfied. it is called a ³joint venture´ but is very close to a partnership. neither party is liable for the others loss. After the accounting they notice that the enterprise is at a loss. i. i. says he¶ll put up 10k. capital or otherwise § 40 b) Liabilities to be paid in the following order I. IV. III. the parties never discussed potential losses. Reed. profit is shared equally while losses are shared the same way like percentage for profit. UPA §§19(a) ± Rights and duties in a partnership are to be decided between them subject to the following rule a) Each partner is to be paid back his contribution. each looses his own capital this case is an outlier. Facts ± P. if D does all the work. 18 h) «but no act in contravention of any agreement between the partners may be done rightfully without the agreement of all partners. extraordinary decision then need a consensus Partnerships are run in a very egalitarian way.172. They will split profits 50/50. PARTNERSHIP PROFIT/LOSS SHARE Kovacik v. equally. when there is no discussion of profit sharing. though other partner ordered it Argument doesn¶t work.

Hybrids (LLCs and LLPs) People form general partnerships very easily. The goal is to promote the public welfare as primary objective of state regulation 3. 5. bondholders) 6 . Bond posting statute 2. i. Real Entity or Separate Entity (Board of directors Primacy) 1. independent contractors. 2. i. we can make an argument that these also further the profit). Entity created by the state. Customers or consumers. i. Artificial Entity (State legislature primacy Public Welfare).e. sometimes even without the partners knowing about it hence we need to know about and study it. local communities Suppliers. can sell income stream but cannot transfer management rights without the agreement of your partners. maximize profits for the shareholders 2.e. corporation as extension of interest of shareholders 1. Public (publicly traded) 3. General partnership 2. environment Community Employees Governments.TRANSFER OF PARTNERSHIP INTEREST Transfer of Partnership interest Only by agreement by the partners. i. 8-31-2010 CORPORATIONS I Role and Purpose: Overview 1. the Board of directors gives it its direction i. Business Corporation a. Aggregate (shareholder primacy maximize Profits for Shareholders). Close (Closely held) b. 3. Shareholder inspection Statue ³Race to the Bottom´ ± William Carey v. community etc« (although. as a student said. Genius of American Federalism (Roberta Romano) Stakeholders/other constituents influenced by a corporation: 1. Internal Affairs Rule ± law of the state of incorporation governs the conduct of the corporation Exceptions 1. the shareholder as the center of the corporation 2.e whether they want to favor the community or others stakeholders * Professor said that in real life board of directors of a corporation tries to balance the interest not only of the shareholders but also customers. Corporations ± is subject to double taxation hence partnerships are often preferred Theories of Corporation ± 1. 2.e. creditors (among others. corporation as a creation of state 1. as a separate (from shareholders) entity to itself. Sees the corp.e. a privilege. 4. Sees the corporation as an aggregation of the shareholders.

Ford is definitely altruistic and incidental humanitarian expenditure of profits is allowed. Dispute: how profit should be allocated. NJ. Smith Mfg. Ligget v. as a majority shs. various limitations on the ability to own stock in other corporation. Dodge needed money to fund his new company. The plan to reduce price of cars seems like it might make the company slightly less profitable. Dodge 2: 10%. Co. but the business is to be allowed for the profit of the stockholders. 1933 Chain Store taxes ± Rule . Everything changes in the 1900 and states become a lot more lax. He says that the regulating corporation is part of the police powers of the state. 1-9-2010 BJR ± Business judgment rule ± ³a presumption that in making a business decision the directors of a corporation acted on an informed basis. misappropriation of funds or not declaring dividends during items of surplus profits. P sues to get more of the profits released and not invested saying that the board of directors withholding the special large dividends was arbitrary since and that profits could not be used as capital. Dodge. Dodge people established also a new car company. 90¶s. So company asks for a declaratory judgment. Analysis ± When a company has Assets greater than 132 mil. do owe a duty to other shs while other minority do not and they do not have fiduciary duty.P. Lots of special dividends are also released since the company is so profitable. Holding ± release the dividends but plant can go forward Shows the Aggregate theory Each state has a maximum dividend payable to SH. ³Race from the bottom´. in good faith and in the honest belief that the action taken was in the best interest of the company´ ± fiduciary duty Federalism ± will concern ourselves with two kinds of federalism 1) Federalism as competition between states 2) Federalism as interaction between federal regulators and state/local regulators A. i. But a large amount of Profits are kept. was a villain« by relaxing its laws for corporations. he made legislation to repeal those permissive law for corporations so Delaware became one. 1919 Facts ± Ford Company is formed and the P. and that is what the directors must work towards. Corporation can live in Perpetuity. other shs: 22%.Dodge v. So the dividends must be released but the investment in the plant we will not interfere in because of i) the increased capacity ii) expected competition ii) prices may be increased in the future. Company takes off and makes tons of money. so corporations were just on paper in NJ so were subjects under NJ law but kept their operations in other states. not where they located but where they are incorporated (chartered). will diminish the value of shareholders. Directors have powers to declare dividend and courts will not interfere baring fraud. Henry Ford. in 1913. surplus of 112 mil liquid assets of 54 mil and had released special dividends for every year and liabilities < 20 mil. when such refusal is an abuse of discretion. v. because of NJ laws change. among others. invest. saying that such gifts help company 7 . In 1880¶s...e. Woodrow Wilson was to be blamed NJ is not anymore . because when he was a governor of NJ he was anti-trust person. to constitute fraud or a breach of good faith. 1953 Facts ± Company wants to make philanthropic gifts to Princeton University and other schools but a shareholder objects. a majority shs does not have an absolute majority of stocks.Artificial Entity theory. Barlow. Lee ± Brandeis famous dissent. This is essentially a protection for creditors * Dodge 1: 10%. Henry Ford: 58%. Ford Motor Co. for the purposes of i) investing in a new smelting plant ii) humanitarian work such as reducing the price of cars and improving workers conditions. ± Aggregate. * The privilege of engaging in such commerce in corporate form is one which the State may confer or may withhold it as it sees fit. These holding companies could be limited. refusing to pay dividends seems arbitrary. P starts own business. Rule ± Company is required to be run for the profit of the shareholders.

Anonymous donations allowed if its an immaterial amount. A derivative suit is filed when the firm's management will not or cannot sue in the name of the company. corporation should show some probable and not a specific belief there would be some benefit for the corporation. customers and creditors and communities etc. Rule ± Corporations have taken the place of individuals in giving gifts for the pubic good and alteration of the rights of existing stockholders is allowed when such alteration is in the public policy and the directors acting in good faith. Statute limitations might exist. that as corporations are getting bigger they are to replace the philanthropic giving of the old school barons! y Now we rely on the BJR (Business Judgment rule) y Limitations enunciated by the courts o No Indiscriminate amounts o No Pet projects or seeming impropriety Disclosure and ratification.500 to be added onto contributions made by others to P-ton university 2) The holding diminishes shareholder value and increases the likelihood of allowing corporations to contribute more towards ³social programs´ Problem Pg 269 ± Problem is that it¶s a close friend especially in light of the AP smith limitation of ³pet project´. corporation should have a reasonable belief that it may benefit.Every corporation can make donations for public welfare. Must be an reasonable amount. suppliers. y Statutes about giving DGCL 122. Also called derivative suit.e. Corporations do not need to show specific benefit from giving a donation. CA ± allows a very broad grant of authority NY ± Broadest Other constituency statures ± Corp can act based upon consideration of what the effect of the action is on other stakeholders such as shareholders. Shlensky v. i. or for scientific or patriotic donations Ca ± regardless of specific corporate benefit (very generous) NY ± ³irrespective of specific corporate benefit for the public good«´ (broadest) PA ± Balance stakeholders and SH in doing its action Analysis p 268 1) Allows for D to contribute 1. plus cold war is going on and such donations are what we need. often use 10% of taxable income (p. Conflict of interest: mere social relation does not rise to that level but financial conflict of interest does« Stockholder derivative suit . D: Princeton as a private institution (non-G) as an important fact at that time because of the communist threat. employees. Holding ± allows for transfer There is a parallel between the courts public policy interest for corporation and Brandeis¶s dissent in Ligget i. allow yo to go to a pet project.by i) getting it goodwill of locals ii) favorable business operation conditions iii) encourages free flow of well trained peeps for it to employ.e. Wrigley 8 .A lawsuit filed by one or more of a company's stockholders in the name of the company. Analysis ± Does a historic analysis of how Corporations have supplanted Individual donors. disclosure to the board and then not voting yourself. will remove the problems i. But disclosure to the board and then not voting will remove the problems (called ³disclose and ratification´) * Corporations can make and are allowed to give donations by the common law and NJ statute. such as In NJ can¶t be >1% ok with notice. a stockholder may enter a derivative suit against the firm's chief executive officer to recover funds from a questionable or an improper act by that officer. For example. These seem to override Dodge v Ford.269 IRC 170b)2)).e.

Facts ± P. The remedy should be to hold up the status quo. y Analysis p 279 1) His share price is diminished by anticipated future losses and he also has a negligence claim which he would not be able to collect on 2) Yes. Make ethical considerations for responsible corporate behavior c. illegality or conflict of interest y Furthermore the P complaint does not show that the team would have been profitable even if nights were installed y P negligence claim also fails since there is no requirement that the directors follow the herd and install night lights Holding ± finds for D One reason this case turns out diff form Dodge is the BJR. a minority stockholder on the cubs alleges that he Cubs not putting on night lights and playing more night games is causing their operating losses and hence wants damages and an order requiring D to add night lights at Wrigley (D. He never considered the cost of installing light b. the link between the lack of installing the night lights and its incidental loss 3) I would try to show that a. illegality or conflict of interest. i. 280 1) Very slim since there is no showing of fraud. 09-02-2010 9 . That his private beliefs and that is what led him to his decision. Devote reasonable resources to the public good Problems pg.e. and if she can show that she should win per Wrigley. If big profits allowed then she has no cause of action. I think the causal element is what was found missing i.01 of the principles of corporate governance a) Corporate activities should be directed enhancing profit and shareholder gain b) But the Corporation may ignore a) above to a. 80% owner thinks baseball is a daytime sport and lights will deteriorate the neighborhood Rule ± Directors are presumed to have acted in good faith and baring a showing of Directors actions tainted by fraud. P in a derivative suit will not prevail (we¶ve come away from Dodge) Analysis ± When the directors act they have the authority to act absolutely as long as then acted within the law and court cannot substitute its judgment for theirs y When the directors act they are presumed to have acted in good faith baring their judgment being tainted by fraud y Considering the affect of light on neighbors can be considered by directors since: o Considering patron who might not want to come into a poor neighborhood o Property value of the field might go down if the same for the surrounding areas goes down o Motives in complaint has no allegations of fraud. made the directors make their decision hence there was a conflict of interest for the directors §2. This is a strong case for the BJR. the court is overruling Dodge saying that BJR controls here not the maximization of profits as in dodge (absent fraud etc) * Directors now have broad discretion to balance all sorts of interest and not like in Dodge¶s case and profit maximization. 2) Maybe.e. majority owner of 80%). Act in accordance with the law b. Yes she should the causal links between bills making healthier salami and lowering heart disease is sufficiently attenuated. conflict of interest or illegality.

P. Rule ± Can ³pierce the veil´ if i) corporation is a subpart of another business (Enterprise theory) and ii) corporation is a dummy for the stockholders (PCV). D is the shareholder in a corporation with 2 cabs under it each with the min required Liability insurance. respondeat superior (which we¶ll not discuss). means incorporated. P. Prevent fraud 2. the rule should be that if a corporation is undercapitalized given the risk of ordinarily carrying out the business. he may be held personally responsible for any resulting liabilities baring extraordinary circumstances Holding ± No piercing will be allowed Piercing the veil is done for: 1.org/wiki/Walkovszky_v. look at: http://en.189-200 How to form a corporation y y y y y y Fill out forms for incorporation ± from Sec¶y of State Adopt bylaws Elect a board of directors who will issue stock Have to tell the incorporated state who your agent is Have to have Inc._Carlton Facts ± D¶s cab injured P.194: there are three separate legal doctrines that the P might invoke in case like Walkovszky: enterprise liability. Chancery courts are very sophisticated with very talented judges Limited Liability and Piercing the Veils * INC. To hold D personally liable here because he owned several corporations would also allow holding the individual owner corporations personally liable. as there is no allegation that he ran the corporation in an individual capacity. in your name Have to conform to corporate formalities in order to get the benefits of corporation Delaware still preferred as a state to incorporate as: y y Delaware courts have developed a very well body of case law that gives a lot of predictability to potential cases. P alleges that all the corporations are the same and the he should be able to pierce the veil to reach the personal assets of D. but if its not fraudulent for an individual to take out the min required insurance its not so for each corporation y y y Dissent ± Legislature did not intend the Corp rule to allow people to escape liability is such case. Analysis ± y Cannot hold D personally liable. if not clear. 1966. Nor that the corp that hurt P was a part of a larger corporate body for the Agency rule P is relying on a showing of fraud. If there needs to be changes to compensate the P (since each corporation seems to be undercapitalized) it should come from the legislature changing its min liability insurance laws (which happened later on) No showing that the D was shuttling money in and out each individual corp paying no mind to formalities of each corp. Equity damages Undercapitalization is not sufficient to pierce the veil is the point of this case 10 . Carlton.wikipedia. D owns many such companies. and disregard of the corporate entity (³piercing the corporate veil´)! Look for the hypothetical down ± Mogul¶s case! Walkovszky v. Former will result in the larger corporation being liable but not the SH latter in the individual being liable.

adopt and comply with the state law and also the bylaws. 4. officer. comply with statutory capital requirements and insurance requirement even if it is minimal. be careful not to withdraw haphazardly funds or for personal needs (like for the house). reduces monetary oversight cost hence is more efficient 2) Downside ± LLC encourages and harmful and unethical behavior. Not a single one would be determinative« Policy of Limited Liability Company (LLC)± 1) Benefit .Piercing is very hard to do and rare and is easier understood through exceptions to the veil piercing * Inadequate capitalization and insurance do not break ³piercing the corporate veil´ but rather lack of observance of formality (look below!). why reward ppl of draining profits a. «. do appoint the board of directors. undercapitalization standing alone is not sufficient to PCV. the most common element of PCV is not observing corporate formalities Tell your clients to protect their personal assets Do not comingle personal and corporate funds Do issue stock certificates (even if you¶re the sole SH) Do adopt and comply with the certificate of incorporations and bylaws Appoint a board of directors Hold regular board and SH meetings (once a year if its 1 SH. but don¶t¶ let 3 years go by without any meting) 6. and d Cynthia Mogul ± only shareholder PCV look for: y y y y Bank account statements of Ace Personal Account of Moguls Public Statement regarding Corp structure Corporate formalities o Meetings of shareholders o Bylaws o Meetings of Directors ± minutes o Certificate of Incorporations o Stock certificates Examine books to see if Joe Mogul is paying out the debts of the corp.shareholder. 2. ADVICE (important!) for corporation: do not mingle personal and corporate funds. Keep minutes of the meetings 7. officer.In a LLC no problem of looking up your shoulder. be a passive investor. Keep corp financial records separate from personal records 8. 5. 3. issue stock certificates (as formality even if the company is small). i. keep minutes of those meetings. hold regular board and shareholder meetings (at least once a year even for a small corporation). Comply with statutory and insurance requirement 9. y Fraud is not necessarily an element of PCV. 11 . piercing the Corp veil Tom Mogul . keep financial and corporate records and keep it from any personal records. and d. take funds on the regular basis for salaries etc«.e. Undercapitalization issues Class hypo where numerous ACE Company spilled oil onto the farm Sue: Joe Mogul ± shareholder.e. Take funds out of the corporation in the form of salary or dividends paid in a regular basis being careful not to take funds out haphazardly or as needed for personal matters * Discovery: PVC: breaking down horizontal barriers between companies as to show there is no distinction between the main Mogul and his companies«: bank records and financial statements and 1. i.

minutes of the board of directors meetings. When they want to collect the monies owed for it find that the D corp has dissolved. payments (as to whether they violate dividend payments laws). and thus we need to pierce the viel as its inequitable otherwise 2. evidence of stock certificate (where are they issued?). the corp has been set up as a dummy. used the funds interchangeable and for himself However the 2nd portion is harder to show since just the fact that a P might not get its money is not enough. Enterprise liability ± All the corporation are in fact 1 enterprise and all of them should be liable b. Some common sense rule such as of adverse possession undermined 3. They bring suit against the Sole owner of D corp and several of other companies he Owns Rule ± Piercing the veil requires a showing that: 1) Exists a unity of interest & ownership showing that there is no difference between the various entities. Pepper Source Facts ± P sells D pepper. Agency ± The corp that hurt p is an agent of a larger copr and the larger should eb held liable c. Parent corp that caused sub liabilities is made able to escape those liabilities 6. Piercing the veil. Failure to maintain corporate records or maintain corp formalities 2. tax records of ace. Showing more than a creditors inability to collect 2. y Maintaining the corporate formalities of each entity y Common Employees? y Communications between Corporations y Common managers * Difference between PVC and Enterprise liabilities: y Analysis p 194 1. Sea-land Service inc. One corp using the funds of another 2) Adhering to the fiction of the different corp would sanction a fraud. Enterprise liability ± 9 Aces (limited liabilities companies) Bank records and financial statements and transaction records for each of the separate Aces and Moguls y Physical location. Comingling of assets or funds 3. v. Former partners allowed to skirt legal rules 4. certificate of incorporation.transaction records for each of the separate Aces and Moguls. Holding ± reversed and remanded Upon remand the courts showed the Injustice when it found: 12 . profit + loss statement. See: a. Shown by: 1. phone lines. Moving assets to a ³safe liability free´ corp and moving all liabilities into a ³bad´ corp Analysis ± P is able to show the unity of ownership and interest since the D maintained 1 office for all the copr. Unjust enrichment 5. Undercapitalization 4. you want to make sure there are bylaws which are supposed to be followed. However there need not be a showing that the D intended to defraud P. Fraud requires a showing of injustice such as: 1.

Delaware. States require pretty strong showing of corporate formalities. 1949 Facts ± P wants to sue D. hence could not sue Equity came to the rescue. Difference how to show PVC and enterprise liability * Last class we only mentioned briefly limited liability term: enterprise liability and corporate liability as two exceptions. alleging mismanagement and fraud over 18 years. if board of directors allows. * Although the previous case Walckovsky is a primary case to focus also look at black letter text on p. D will be the Alleged corporation and Corporation. Individual versus Corporate Actions: p. loan corp.org/wiki/Derivative_suit y y y y y Derived form a cause of action that the Corporation only has. has equity court or court of chancery which primarily deals with the corporate law issues so it does not deal only with equity issues! This is a trial court level and is comprised of very knowledgeable judges. There is a NJ stature requiring any small shareholder (less than 5% owner) to put up a deposit to pay for reasonable legal fees for the D. Any monetary benefit goes to the corp. Shareholder can recover whatever harm the corporation suffered.. Demonstrates a tension (prevalent in all of business law) between the authority of directors to run the corp. Bylaws: foundational document for a privately held corporation. We ll talk mostly about common stock unless different is pointed. 9-8-2010 DERIVATIVE ACTIONS: * Conflict between accountability and management actions. y 13 . officers are appointed (not fixed number) like CFO etc and finally stocks are sold to initial stockholders or shareholders makes no difference.0125% or at least $50k in market value. Rule ± States can add in reasonable standards of accountability.214-223 Shareholder Derivative Actions A. then the P was allowed to nominally sue the corp. liability and responsibility in a shareholder derivative suit Analysis ± Constitutionality of the NJ statute y Back in the day there was barely any protection for shareholders who lost tons of money as the directors were not held very accountable o P were held to have no standing at law such cases.wikipedia. and the accountability of the Directors to the SH Cohen v.196 and four factors look at. its an equitable remedy. P owns less than 100 shares which is 0. Introduction Shareholder Derivative Suit ± LOOK: http://en. Second attribute is voting rights as to vote a director of the corporation (one base per share) which is not the same as partnership where voting right is per person also in case of extraordinary change like certificate of incorporation change etc . dividends are paid to sh. the owner. allowing the P shareholder to step into the corporations shows and to demand that the corp stand up for its rights and when the directors blocked this redress. Beneficial Industrial Loan Corp. after that.1) Marchese. engaged in tax fraud and used the business accounts as his personal accounts 2) Marchese assured that P would get the money form an account and then took money out of the account to ensure that no monies would be paid. among other things. Common stock: first attribute is economic in nature sh are entitled to receive residual in case of liquidation (after everyone else is paid) or the corporation is sold.

The plan passes shareholders meeting but the P sues. Classic claim of breach of fiduciary duty (committed waste. The holding company will ³own´ the operations company. NJ statute: 5% or $50k or more. 1971 Facts ± D has a plan to dissolve original company transfer of all the shares of the original company to a holding company. as a representative of the class of shareholders o While the SH have picked the directors they have not chosen the class representative o The Constitution does not require that the state place its litigation and adjudicative process at the disposal of such a person and the state can add standards to protect the interest that the P himself claims to protect Due process argument ± o No unreasonable use of state power by requiring a fiduciary¶s litigation besides the liability and security are reasonable EQ Protection argument o Allowing exceptions for 5% or $50. ± NY.e. i. Flying Tiger Line Inc.y y y y However this method was abused as suits were brought not to right wrongs but for its nuisance value and were quickly settled o Prevent nuisance suits and meritless suits o Thus the individual shareholders were hurt by both the directors malfeasance and the P scurrying away with $ A stockholder who brings a suit derived from the corporation assumes a position of a fiduciary for the other shareholders. $200m in 1949. P: equal protection violation that NJ bond statute imposed ± the Court said (rational decision) y Internal affairs rule ± says that you use the law of the state of incorporation should governs but there is an exception for bond posting statutes as was NJ statute in the case above How to distinguish between a direct and a derivative suit: Benefits of direct suit y y y P gets the damages Direct suits avoid the bond posting statutes Demand requirement not needed in a direct suit Analysis p 218 ± 1) Because the SH was not allowed to sue the directors in law as he had no standing. bond posting requirement: substantive rule imposing liability on litigants rather than substantive law of corporate question and so NJ bond statute applies (kind of Erie doctrine) ± do not worry about this since it is a saddle point. The corporation incorporated in Delaware and the law applied here is Internal Affairs Rule (look below). The case is governed by NY 14 . Delaware has no bond posting statute. and create a new company with all the operations. major claim).000 in stocks is ok as it can stand in as a measure of a good faith P Applicability in fed court P argues that the statute is inapplicable in fed court as the NJ statue is one of procedure and not substantive o Not true as:  Without the statute the case would take the same course  The statute creates a new liability Holding ± The NJ stature applies in fed court * Board of directors are Ds. Thus he sued to get the corporation to enforce its own rights against the directors and when the directors blocked he was given standing against the directors 2) Moral hazard in that a minority Shareholder can enrich himself at the expense of the majority shareholders by filing frivolous suits designed only to get settlements Eisenberg v.

y Analysis Pg 221 1) Eisenberg could only control and be allowed to vote on the operation of the holding company. There are rules in every state demand before the board of directors before suit can be constituted.223-238 B. Who receives the benefit of any recovery. but the operation company was one step removed from any control of the shareholders 2) A suit alleging breach of loyalty to the corporation would be a derivative suit as it¶s a breach of duty of loyalty towards the corporation 3) This is the current test (Tooley test) to see whether a suit is Derivative or Direct. the Court sides with Eisenberg because the suit was not derivative. D ±this is a derivative action and P must put up a security and that SH were only harmed because the og company was dissolved and thus their injury is derived form the Og company being shut down. Who suffered the harm.2 part test: a.In judgment D pays damages unless court determines that the D is entitled to Indemnity * It is important to know difference between a derivative and direct suit. #2) on p. or the SH individually b. or the SH individually If it¶s an injunctive relief that is being sought then the action is direct generally as it¶d show on the second prong of the test DGCL 145(b) . the result for the case would be the same. the suit should not be considered derivative for the purposes of requiring a posting of security for opposing legal expenses. the orginial Flying Tiger merged with the FTL and then to FTC to become a holding company so the Flying Tiger does not exist anymore or actually FTL becomes . corp. His cause of action is not on behalf of the corporation or on behalf of all shareholders. relatively recent Delaware standard: Tooley Test (look above) two prong test KNOW THIS!! With the Tooley test. Plaintiff¶s suit is to prohibit the loss of voting rights in Defendant corporation. Flying Tiger established a subsidiary company named FTC and then FTC formed another subsidiary called FTL.law §627. The Requirement of Demand on the Directors Demand requirement is a very imp procedural requirement necessary before bringing a derivative action Comes from Statute not CL. that is for tomorrow s class.221 (look above). Rule of law: when the injury suffered was personal. huge complications in looking for derivative suit. then. P . corp. his suit is about deprivation of voting rights which is individual to a shareholder. Demand is excused if (look at the chart below!): 15 .says that his action is representative and not derivative as he was deprived of his rights to vote which belongs to the shareholders per se Rule ± Removing of a contractual right owned by the shareholder (such as voting on operation of the company) results in a representative (direct) action not a derivative action Analysis ± Gordon test ± Derivative action when the rights belong to the shareholders or when suits purpose is to compel directors to perform their duty is too broad because: o Later NY cases have limited it to its facts such as in Lazar where the SH managed to get the Co to call a SH meeting o Legislature was concerned with the Gordon holding and changed the statue y Here the reorg took away from the P any voice that he had in the previously operating company y Prior similar case where the P was not required to put down a deposit even though such a law existed Holding ± Plaintiff does not have to post security because the suit is not a derivative cause of action. rather than an injury of the corporation. 9-9-2010 P.

235) 1) A majority of the board has a material financial 1) A majority of the Board is interested in the or familial interest in the challenged txn (as to challenged txn (transaction). DE Test is a touchstone for Demand Excusal so we may focus on that one. NY and DE are similar and the Professor did not see different outcomes applying both statutes although they are not the same. In any case. a very dominant CEO Individuals are employed by the company Blackmailing the board Simply ratifying a txn by the board does not mean that they are no longer independent to look at the issue anew Naming the Directors as defendants is not sufficient to show a lack of independence NY and DE is effectively the same standard 1&2 on the DE side merges into number 1 on the NY side 3 on Del is the same as 2&3 in the NY side 16 .e. i. demand Delaware law: Grimes Particularity No conclusory allegation Use Tools at hand (Grimes case) o News story o Corporate filings with SEC o Statutory rights to inspect corporate records Familial Interest y y y y Personal financial benefit OR Family interest Board incapable of acting independently such as domination y y y y y Ford case. p. OR economic benefit).228) ± majority of cases) NY (from Marx case p. DE does not need security statute because it has a very much protective demand requirement! Demand requirement blocks most of sh litigation but usually 1) or 2) under DE statute sh use. public companies have to file avalanche of information to the SEC. A well advised sh never make a demand on the Board of Directors but rather goes directly to the Court!! ADR is overstated and it very rarely happens in reality.228 like SEC. without access to discovery shs are able to show the Test elements through Lexis Nexis and other sources like footnote 11 on p. books and records of the business (corporate books and records) as statutory right Delaware Rule 220. OR 3) The underlying txn is not the product of a valid 3) The challenged txn was so egregious on its face exercise of business judgment that it could not have been the product of sound business judgment of the directors * You need to show only one of these elements for demand« hard for shs to make excusal. independent directors: do not work for the company per se but are present at the corporate meetings while insider directors are those that are employed by the corporation. Demand excusal v. Claims with particularity which is very strict requirement. OR appropriate under the circumstances.Test for Demand Futility ± Both Need to allege with particularity (no conclusory allegations are allowed) Delaware (from Grimes. OR 2) A majority of the board is incapable of acting 2) Directors did not fully inform themselves about independently for some other reasons such as the challenged txn to the extent reasonably domination or control.

this was just a business decision o BJR applies when a board acts in good faith. waste and excessive compensation claims are derivative and the abdication of duty is a direct claim Abdications claim ± o Directors cannot delegate duties at the heart of management of a corp o The exec pay does not stop the Board from exercising its authority in the future. OR 2) Board deciding demand is incapable of acting independently for some other reasons such as domination or control.L §141(a) ³the business and affairs of every corporation« shall be managed by or under the direction of a board of directors Grimes v. unless the facts show that the $ paid for services received is wasteful or could not be a Business judgment Demand requirement y In a derivative suit the SH/P must say that either that the o Board rejected his pre-suit demand that the board assert the corp claims OR o Show with particularity why the SH/P did not demand board justification (excuse).Delaware -Test for wrongful refusal ± almost will never win 1) A majority of the board has a material financial or familial interest in the challenged txn from deciding demand. P sues both to vindicate his rights and derivative rights saying that the executive is being paid too much and that the board has illegally delegated its function to the executive. 1996 Facts ± P sues corporation because they gave a golden parachute to a CEO plus said that a huge severance would kick in case of termination with or without cause including ³unreasonable interference´ with the Executive doing his job. Donald ± Delaware. OR 3) Rejection of Demand is not the product of a valid exercise of business judgment Part of where demand comes from is D.C. This can be gotten form  Reasonable doubt that he board can make an independent decision based on y Majority of board impaired by familial or monetary ties y Majority of board is unable to act because of domination or control y The txn being sued for cannot be justified under the BJR y If SH cannot met the exceptions above he must. The Due care. HE made such a demand to the board who answered that they studied the situation with compensation consultants and a law firm and they are ok with the executives contracts. after using the ³tools at hand´ make a demand on the board y The purpose of the Demand rule is: o Exhaustion of intra-corporate remedies (ADR in a way) o If litigation is needed the corp can control the proceedings (How?) o If demand wrongfully refused or excused then the SH can control the proceedings y Policy reasons for Demand rule o Deter costly baseless suits o Allow a suit where the Stockholder can articulate particularized fact showing reasonable doubt that either  Majority of the board is independent  Txn is protected by the BJR Wrongful refusal distinguished from Excuse y y Party making a demand is entitled to know promptly what action the board has taken 17 .G. Rule ± Analysis ± Difference between Direct and Derivative claims ± is the nature of the wrong and the relief requested.

Depends how deeply involved I was with that decision. kind of a ³exhausting administrative avenues´ first. 4) Probably. Demand should and is required in this case. You get an outside counsel to do some investigations 5) Maybe if the failure to show recovery in the embezzlement cannot be justified by the BJR. Yes it should> we should always give a chance for the Board to give an answer before going to the courts. Rule ± a Analysis ± Purpose of the demand requirement 1) 2) 3) y y Have corporations handle internal matters not courts Protect Board from harassment on issues clearly in the boards discretion Discourage suits by SH for personal gain Historically courts have been reluctant to substitute its judgment for the boards The methods to balance discretion for Boards and allowing claims by SH is diff by jurisdiction o Delaware approach  The two sides of the Delaware approach are disjunctive as once the directors interest has been established the BJR becomes inapplicable. Marx v. This can be gotten form  Reasonable doubt that he board can make an independent decision based on y Majority of board impaired by familial or monetary ties y Majority of board is unable to act because of domination or control y The txn being sued for cannot be justified under the BJR 3) Its still a waste of the boards time and and possible loss to the corporation¶s reputation as well. Akers .NY Facts ± P brings a derivative suit against IBM saying that the board made waste by awarding excessive compensation to executives and external directors.SH refused can use the tools at hand to get the relevant corp records to see whether there is a basis to assert that the demand was wrongfully refused y SH is not waiving his right to say that he was wrongfully refused by making a claim y If demand is made and rejected the board get the presumption of the BJR unless the SH can create a reasonable doubt with particularity that the board should get the presumption Application to this case y A shareholder who makes a demand cannot say that his demand was excused for other legal theories y Board gets presumption of BJR y No particularized allegations to raise a reasonable doubt that the boards decision was not a product of valid Business judgment Holding ± Holds for Board y Analysis p 231 1) Board can either respond to the demand rejecting it or take up the suit 2) Show with particularity why the SH/P did not demand board justification (excuse).e. Interest can be self interest or loss of independence as a director is ³controlled´ 18 . i. BJR is all you need? o Universal demand  Always need demand before a derivative suit  Unless corp would suffers irreparable harm in the 90 days the corp is given to respond to the demand o NY approach  A demand is futile when complaint with particularity says: y That most SH are interested in the challenged txn.

Demand is probably excused if consciously refused to vote.Board did not inform itself about the challenged txn reasonable in the circumstance y Challenged txn is so egregious that on its face the board did not exercise sound judgment y Current case application of NY law o The matter of the board scratching each other back is not excused since there is no particularized showing that the majority of the board was benefitted from the executive pay raises (only 3 got raises) o The claim of board setting its own compensation as high is upheld as the pay raises for a majority of directors as financial gain is ³interest´ o However the setting of the compensation for the directors is not on its face excessive and does not fail on its face. 9-14-2010 P. not the inside directors y Problems pg 237-238 1) Derivative law suit since P is acting to protect the corp i. Bennett ± NY. usually. The board vests its power to determine what to do with the suit to a committee of independent directors. see p. 144 (c): Any such committee. the court will defer to the recommendation if the committee shows its members were independent.238-263 SPECIAL LITIGATION COMMITTEES (SLC) * DGCL section 141 (a). when challenged by a shareholder derivative litigation. courts are deferential to Board of Directors in close cases! We do not really need this for our course. may appoint an independent special litigation committee to consider whether the corporation's best interest is to pursue or terminate the derivative litigation against the directors. and had a reasonable basis for their conclusions. to the extent provided in the resolution of the board of directors shall have and may exercise all the powers and authority of the board of directors in the management of the business and affairs of the corporation.e. hence the suit is dismissed Holding ± Demand Excused for outside directors. then there is likely NO demand requirement. 1979 Facts ± Ds (Bennett on behalf of General Telephone & Electronics Corporation (GTEC)) corp using outside counsel finds out that members of its management had bribed foreign leaders and taken kickbacks. the injury was to the corp not to the individual 2) Yes in both NY and De its excused as 3 out of 5 directors are engaged in self dealing 3) Required under DE unless Adams dominated the other board members 4) Where there is no action by boards. The board then creates a special 19 . Generally. Auerbach v.228 # A board of directors. Demand Futility Test under Delaware Law see Grimes p. There is no really conflict of interest but it is hard to decide because the Board does not do anything here. such as no voting. The SLC is a last chance for a corporation to control a derivative claim when a majority of its directors cannot impartially consider the demand. if the SLC recommends terminating the derivative suit. P (Auerbach) institutes a derivative action on this finding. 244 fn 6 (statutory fount of BJR). acted in good faith.

shallow or halfhearted effort would show bad faith.litigation committee to form the board¶s decision for any derivative suit litigation. paying bribes would be a violation of federal law and hence not a product of BJR. 20 . Then P files suit. but P has provided no such proof  Good faith as: y Committee engaged as special counsel y Committee reviewed prior work of the audit committee y Reviewed transcript of corporate officers being deposed by the SEC y Interviews with directors o The decision. based on the chosen procedures and data. PR. This Court decides about the dismissal of suits: uses a standard of: Look at the adequacy of the investigation Procedures the committee followed Was the committee independent Good faith of the committee However. and the members are disinterested members of the Bd. Then a Special litigation committee is filed. Then again today. too much time taken from Management. so actually demand would be excused # Defendants appointed a three-person special committee comprised of members who were not on the board at the time of the wrongdoing. which means that the courts are ill equipped to comment on Business judgments BJR Does not mean the court will not look o But the court will only look if the committee is independent and don¶t have any relationships which prejudices their decisions  Nothing in the record showing the above for the three directors y P says that actions of a committee nominated by a tainted board are tainted and hence cannot be used to foreclose derivative suits o Bubkiss since only the board can make decisions for a corp and this board followed proper screening procedures y BJR applies when some directors are accused of wrongdoing but as long as the others are ³disinterested and independent´ y The action against the Special Committee has two components o Were the procedures chose appropriate  Court can look at this as its about procedures and we know procedure Mo fo. Committee recommends that no action be taken and that the company¶s auditors had acted a-ok! Company also said that no D or anyone had really done anything wrong and to not allow any derivative suits to proceed. The committee reviewed the auditor findings and decided that in the best interests of the company that they should not pursue an action against the Board members. will not look at the business judgment of the Bd ± NY courts are the most deferential to the BJR Its the burden of the Corporation to prove the independence of the SLC y y y y y First question is demand excused? No because the test below is not fully met with particularized accusation. not to pursue the derivative suit claims  Not to be touched as this is totally what the BJR is all about Holding ± The findings of the special litigation committee forecloses further judicial inquiry y Management reports to Board who pass onto Audit committee. Rule ± a Analysis ± Basically follow the BJR. but still have to stay away from any business judgments  All a corporate dude has to show is that there was good faith inquiry into all areas and subjects  Proof that a restricted. The committee was formed of three disinterested directors who joined the board after the shenanigans were done. Committee say to not recommend litigation for: Cost.

To a SLC with disinterested members Courts need to balance the foll and BJR is inadequate: o Boards interest from being pestered by frivolous lawsuits o Need to preserve the derivative suit to hold the Bd.´ Ideally. Points ± y y y Corp exist via the Del Code 141(a) ± says that the Bd. The court was not convinced that the special committee was not independent simply because the interested directors appointed them.S. the committee must be composed of independent outside directors with at least one qualifying as a financial expert. Committee members are drawn from members of the company's board of directors. * 4 people listed as Ds. arguing that any committee appointed by the corrupted directors should be considered interested parties. If court is not satisfied it¶ll allow the suit to proceed. so under prong 1 there is no basis that the majority of the board does not have a material or financial. 1981 Facts ± P. To delegate all of its authority to a committee o Interest taint of a Bd is not a per se legal bar to the delegation by Bd. Maldonado ± De. need to consider a balance of many factors in order to dismiss a Derivative suit: o Ethical o Commercial o Promotional o Public relations o Employee relations o Fiscal o Legal Courts can do the same analysis: So the proper analysis in a case where demand is excused is E&E p. is responsible for and controls all actions BJR is a judicial creation that presumes propriety of the corp¶s actions. good faith and reasonable of their investigation.S.228 and Demand Futility Test). o They are passing judgments on fellow directors o And there but for the grace of God it could be me Bd. Audit committees are typically empowered to acquire the consulting resources and expertise deemed necessary to perform their responsibilities. prong 3 is very hard to prove. a member of the SLC is someone from the board but who joined after the wrongdoing appeared! The Court will not look at the BJR of the SLC as to whether the board made a right economic decision but would defer to the SLC. The SLC was appointed because at that time there was no clear rule about« Today. a sh. To qualify. which recommends that the suit be thrown out. else move onto step 2 y y y y y y y 21 . with a Chairperson selected from among the committee members. Says demand is excused. Zapata v. the SCL is appointed when directors believe there is some conflict of interest! Audit committee here: from Wikipedia: ³in a U. Decision to dismiss a case after demand was made will be respected unless it was wrongful o But here demand was never made and the power of the Bd to seek a dismissal is a threshold question §141(c) allows the Bd. there are 15 members of the board of directors.Wallenstein continued the suit after Auerbach declined. Accountable There are also social reasons to doubt the SLC actions as. A qualifying audit committee is required for a U. an audit committee is an operating committee of the Board of Directors charged with oversight of financial reporting and disclosure. familial interest (look at p. Board forms an SLC. publicly-traded company to be listed on a stock exchange.377/78: o Step 1 ± Court sees whether the SLC can prove its independence. publicly-traded company. brings a derivative suit against Zapata corp (fiduciary duty breach). It does not create an authority and does not become relevant till the termination of a derivative lawsuit is dismissed 3 issues here o Right of a stockholder to maintain a derivative action o Power of a SLC to dismiss a derivative suit o Role of the chancery in resolving Derivative suits A Bd. also prong 2 is all right.

the adequacy of the SLC (burden on corp) and if the o Court will allow Limited discovery at this stage o If the SLC does not meet its burden then the case continues y If the SLC meets its burden the Court will use its own judgment relating to the wisdom of continuing the lawsuit o This to make sure that the spirit of the law is upheld y DE courts are less deferential to management o Two reasons:  Policy ± NY went too far in being deferential to the managers  Social pressures. p.e. i.o Step 2 ± Court to apply its own business judgment.e. besides the best interest for the corporation. Also. Oracle forms an SLC with outside directors. De 2003 Facts ± Oracle CEO and Chairman sell Oracle stocks in a period where the earnings come in lower than usual. using the factors noted above. OR 3) The underlying txn is not the product of a valid exercise of business judgment Bd would only form a special litigation committee when demand is excused. whether the SLC was independent and had sound basis for its good faith decision. De Court adds a second test at the discretion of the Court on p. look at the public policy as well like bribery of the US officials! y In re Oracle. that a couple of them worked on SIEPR. Rule ± Higher burden to be placed on an SLC to show that it is squeaky clean.251: the Court would also. SLC says that the D acted fine and that sales came in lower because of a Hockey stick effect. a Stanford research institute. sociological and psychological pressures on the new directors to be empathetic towards the other directors y Comes up with a balancing test o Protect the directors from dismissing meritless suits o Save the derivative suit y If the * Look at p. SH launch a derivative suit charging them with breaching their duty of loyalty by misappropriating inside information and a Good faith violation. Instead on part test of NY (extremely deferential standard). together. Delaware 1) A majority of the board has a material financial or familial interest in the challenged txn.250: flexing of muscles by the Court to a bit showing its expertise. The charged CEO and Chairman are big people in Stanford. OR 2) A majority of the board is incapable of acting independently for some other reasons such as domination or control.e.248 and 244! Look at the note above. the beginning of the class. the board is admitting that the Bd is ³tainted´ in some way Difference in the Delaware approach: Do the first step as the NY step i. i. If not Allow the suit to proceed. after telling everyone that the sales would be fine. that might be enough to impeach your independence Analysis ± SLC has not met its burden to show that it is Independent y Because there are substantial ties between the D and the SLC members 22 . who are professors at Stanford. about section 141 (c): board may delegate its power to a SLC. and even if you associate with the D dir.

DIRECTORS. 1976 Facts ± P ± minority shareholders of Am Ex. its unlikely to form a SLC. Shareholder suits are a very effective way to police management. but not the only way. The directors decided to declare a special dividend. the willingness to look at non-financial stuff (directors play golf together. they will not be found independent Holding ± Finds against SLC * Part of the lesson from this case is not to mislead the Court. D . It might also happen if the demand excusal is a close call.e. Also the director could be demoted or fired. Duty of loyalty Kamin v. giving the shares of stock to the shareholders. The standards applied in the Oracle case. SLC has to establish its own Independence.310-34 DUTY OF CARE Generally speaking a SLC will only be created when the shareholder says that demand is excused. v. not for demand cases. Defendant corporation purchased common stock for $29. Stewart ± Unlike Demand Excusal.Asking someone to decide a fellow professor is not a small thing o He would either end up being more strict or less strict. y Martha Stewart Living Omnimedia. CHAPTER 5: THE DUTIES OF OFFICERS. There might be legal violation for which the SEC or DA might file. or faculty at the same school) only applies to SLC. Inc. where the Board is presumed to be independent.9 million. 16-2010 P. American Express Company ± NY. Duty of care (BJR like explained in the Wrigley¶s case 3. Ability of a SLC to terminate a shareholder suit does not mean that the alleged wrongdoers get a free pass form any penalty.9 23 . If the company disagrees that demand is excused.Am Ex and 2 directors of Am ex. and now the stock has a market value of $4 million. i. but that is not the point o The point is that it will affect his decision and absent a showing that they could totally put this aside. AND OTHER INSIDERS SECTION 1: Duty of Care Two major duties that directors owe the corporation: 2. There was interest by pro Structural Independence Inside Outside Transactional Independence Inside Outside 9-15. they¶ll probably ask to dismiss on grounds that demand was not excused. Plaintiff demanded that Defendants sell the stock on the open market and use the $25.

Efficient Capital Market Hypothesis (EFCMH) in three basic versions: weak. The court was highly critical of this decision.L. because they quickly approved the merger without substantial inquiry or any expert advice. The offset would save Defendant corporation $8 million in taxes. * 4 inside and 16 outside directors as Ds (typical for a publicly traded company). Also. Plaintiff then brought suit. look at: http://en. Analysis ± In Derivative actions errors of judgment are not enough for equity interference Paying dividends is an exclusive province of BJR o Courts will only interfere in this unless directors acted in bad faith or dishonestly y Complaint alleging that another course of action is better is not a cognizable course of action y Negligence of a director does give rise to a cause of action but the neglect has to be gross neglect y Directors did consider the moves that P wants but then rejected it. chose a proposed price of $55 without consultation with outside financial experts. arbitrary action or breach of trust Even a decision that is economically unsound such as here is going to be protected under the BJR. directors must act in good faith and have reasonable belief that experts have professional expertise in order to get protection of 141 (e). As such. Van Gorkom ± De. KNOW THESE STATUTORY PROVISIONS ALTHOUGH WE DO NOT FOCUS THAT MUCH ON STATUTES!!! Smith v.org/wiki/Efficient-market_hypothesis ! Presumption that the Bd acted in a good faith by the Court (why the P fails).G. of which $10 million was covered by insurance with Pritzker then paying the remainder of the settlement even though he was not a party to the lawsuit. Neglect is neglect of duties not misjudgment its (nonfeasance). and that consultation was to determine a per share price that would work for a leveraged buyout. classic bad investment.320). After the court's decision to remand the case back to the Court of Chancery the defendants agreed to a settlement. For this reason.million capital gains loss to offset other capital gains. Rule ± §720(a)(1)(A) says that action can be taken against directors for neglect but neglect is not ordinary negligence. great importance are audit committee and compensation committee. Van Gorkam. Also ad hoc committee like SLC. investment bankers and others hired by the company. grossly inflated price. who was the TransUnion's Chairman and CEO. breach of duty by the Board by instead of selling the shares of DLJ. who is the CEO of the company. including the problematic methodology that D used to arrive at the proposed price. 1985 Facts ± D. a number of items were not disclosed. classifying the directors¶ decision as negligent decision-making. The directors agreed to pay $23. Plaintiffs decided not to pursue Plaintiff¶s demand. Van Gorkom. The Board approved the proposal. The case involved a proposed leveraged buy-out merger of TransUnion by Marmon Group which was controlled by Jay Pritzker. also there may be a third. oppression. He only consulted with the company's CFO. Criticism: This criticism stems in part from the fact that the court made independent directors potentially liable for millions of dollars in damages for selling a company for approximately a 60% 24 . maybe special investigation committee which follows from section 141 (c)! 141 (e): board of directors should fully rely on the corporation¶s record« (p. previous objections by management were not discussed. semi-weak (most commonly accepted). but this claim is highly speculative Holding ± Court will not interfere absent a showing of fraud.wikipedia. also outside lawyers.5 million in damages. special meeting etc« y y * D. is neglect of duties or fraud. section 141 (a). the Court was not obviously convinced by the economic decision made by the Board but rather there was activities by the Board as to careful consideration. and a strong one. Defendant Jerome W.C. Judgment: The Court found that the directors were grossly negligent. the protection of the business judgment rule was unavailable. (c). writing that "the record is devoid of any competent evidence that $55 represented the per share intrinsic value of the Company. because of an accounting issue y There is a hint that the 4 of the 20 directors might have taken a hit to their compensation if the company was sold instead of spun off. (e). the board of directors breached the duty of care that it owed to the corporation's shareholders. D and the CFO did not determine an actual total value of the company. nomination committee. At the Board meeting. dishonesty." The proposed merger was subject to Board approval. reasoning that the significant loss would adversely affect the value of Defendant¶s stock. they just distributed them to the shs which is wasteful according to the P.

e. asked no question of how $55/share was calculated. officers o But no report was presented to the Bd beside the foll witch are not really reports  Van Gorkom¶s Oral presentation at the 1st Bd.C. but the board decision in the VG case is the most basic decision that a Bd. Such liability provides a strong disincentive for the best potential directors to serve on the board. thus the Lock up option compensates him for his inability to pursue other deals. Do directors need to get a fairness opinion from an outside party ± this is not required by law but it¶s a really really good idea to get one! 25 .premium its market value. Knew mkt had consistently undervalued their shares  No valuation of company was actually done  Bd. and one would expect such a disincentive to result in worse corporate governance.e. Zamin and Schlensky might be wise or unwise decision but here SH might be disgruntled.oral report of his prelim study y Was immaterial since the statement didn¶t purport to be a valuation study y Bd. Rule ± Gross negligence to be the standard to see whether BJR of a board was informed Analysis ± BJR turns on whether the directors have informed themselves prior to making a business decision.  D and Bd. Members were experts  Dude the Bd.e. Members relied on Chief Counsel¶s advise that they might be sued if they rejected Pritzker¶s proposal Dissent ± Dude the directors are experts and they know what they are doing. §121(e) . So Step! Holding ± Bd breached its fiduciary duty by i) not informing themselves well ii) not releasing all the info that a reasonable stockholder would need y y y The reason to have a lockup option is the its costs a lot of money to set up a deal. i. They have to be stupid to do that o Bd. can make i. that D had suggested the $55 price or the price of the 1M to be sold to Pritzker o Bd. only 20 min presentation y y Practical effect on the board room of this case ± Now there exists all this extraneous process that is attached such as lengthy documents and a long meetings and creating a paper trail. no protection for unintelligent or unadvised judgment y §3251(b) requires that for mergers directors act in an informed and deliberate manner y Directors did not make an informed business judgment as: o Did not inform themselves of Van Gorkoms role in establishing the $55/share price o Were uninformed as to the true value of the company o Were grossly negligent in approving the sale after considering it for 2 hours y 8 Del. Meeting y Not a report as VG was uninformed himself about the essential provisions of the document he was talking about  CFO.Directors are protected in relying on good faith reports by officers. with report including informal investigations by corp. whether they will still be owners of the company There is an argument that the directors might have to take a higher care when they are selling a company Major problems in the courts view o No formal report about the valuation o There was not enough consideration paid i. Used the Spread and market test theories above. Says that they made an informed choice as: o Spread of 38/share (mkt) and $55/share (offered) means informed choice  Premium paid by itself does not mean price is fair. Wanted a 9 day Mkt test period  No evidence that the firm could be put up for sale  Or that a public auction was allowed to occur o Bd.

issues are decided by a simple majority of the votes. or at least consulted an attorney or expert. still the directors are in the best position to judge their company¶s worth 5) Yes it can accept a first offer but only after doing its DD. had a duty of care in managing the business. Who knows? 4) Yes and no. Court: there was a nice premium but that was not that much great. stock price did not have a high volatility (between $35-38). only for monetary damages for breaches of duty of care but not for bad faith or breach of loyalty. While it¶s a good idea to get an independent valuation. Because of the nature of the business (holding assets of third parties). 326 1) The difference between what the Mkt thinks the company is worth and what you as the management think its worth 2) VG might have just needed some money for his shares. to have done its Due Diligence a. Gorkum is a very fact specific case. it may have prevented her sons from fleecing the company. Technicolor. Therefore. If she did not understand the activities. Probably not much since Pritzker stayed around c. then. p. and then dies in 6 mos. She becomes distraught and drinks herself to death while her sons embezzle form client accounts held in trust. however. p. . This is a suit by the creditors to collect from her estate the amounts lost to embezzlement Issue: The issue is whether Lillian Pritchard is personally liable for negligently failing to prevent the misappropriation of P&B funds by her sons. This is one of the most controversial decisions. After finding out about the embezzlement she resigns form the bd. shs can still sue directors for personal liability in case of « Cinerama v. 1981 Facts ± Lady inherits a director position at a re-insurance form after her husband dies.* You need a quorum of the board as to majority of directors are present. the price share was $55.. as a director on the Board. in VG had violated the duty of disclosure Analysis pg. Held: Lillian Pritchard. Injunctive suits are still allowed but only applies to Monetary damages Francis v. her lack of care was a proximate cause of the damages to the company and the third parties who relied upon the company. can remove the personal liability of directors for breach of fiduciary duties of a director.324 Similar to Van Gorkom above. must disclose to SH all material facts before a merger vote Del SC differentiates the two cases by o In VG the failure of the Bd. then she was obligated to consult counsel for advice. a share can have a higher price than a market value if it is possible to buy a majority of shares of the company ± people pay an enormous premium for control over the company (in this case 40%). applies only to gross negligence. I have no idea why the sale of the 1M was an issue 6) Legislative response to Van Gorkom DGCL §102(b)(7) ±A corp. Her absence from the business did not excuse her duties. her sons are the other two directors. 26 . The duty should be one of diligence b. but she needed to have a baseline understanding of the finances and important activities.328: KNOW THIS De section 102 (b) (7). Combo of duty of care and loyalty means the Bd. she was liable to the third parties for any damages. United Jersey Bank ± NJ.P.318: BJR definition. The court determined that if she did intervene in the dubious financial decisions of her sons. to inform itself rebuts the presumption of the BJR o Also the Bd. She did not have to know every detail of day-to-day operations. Dissent: points out that directors were highly qualified and experienced (but that was not enough). But then again the court did seem to want to see more mkt testing. not the MOST money he could get such as the Sh might want 3) I think the court just wanted the Bd.

Discussion: The decision makes it impossible for directors to hide their head in the sand to avoid liability.e the negligence caused the loss Analysis ± The care required depends on the kind of business with a Bank requiring a lot more diligence than a others owing to its public nature . so it will be very fact-specific. Also need to show causation.g. . IDTs: Interested Director Transactions.Directors immune form Liability if in good faith they: o Rely on counsel or o Rely on Written reports created by an independent CPA . and the result is loss to another he may be liable for it NJSA 14A:6-12 o D Is liable as:  She may have cured the issue by Resigning  Nature of the reinsurance business is such that she held clients money in trust Holding ± for P - 9-21-2010 P. interested director transaction IDTs: we don¶t have to memorize them but they are helpful: 1) Dir has a contract with the Corp and that K is at issue. approving salary increase for themselves Disinterested interested Independent Non-independent Types of issues.Causation o Director can let his disagreement know by disagreeing with board and if he agree with Bd. Rule ± NJ std of care ± Director must discharge her duties in good faith and with diligence care and skill as an ordinary prudent person in like situation. i.Duties of directors: o Gain Rudimentary understanding of business o Keep informed of corporate activities o May not shut eyes to corporate misconduct.369 27 . Structural Independence Inside Non-independent Outside Independent Transactional Independence ± e.Lack of knowledge of rudimentary .336-47: DUTY OF LOYALTY SECTION 2: Duty of Loyalty ± Conflict of Interest (as number one issue) Duty of loyalty ± means that he fiduciary must subordinate his personal/private interest to that of the corp whenever the two conflict. i. the other. is duty of care. 2) Dir in one company is a SH in another company. The amount of oversight required will depend on the nature of the business. and then claim that they didn¶t¶ see the misconduct o Must be familiar with the financial status fo the corp. 3) Dir is a dir of two different companies We¶ll be focused on DGCL section 144 (a) and know this for the purpose of the course: p.Inspecting a financial statement gives rise to a duty to investigate more if something seems awry o In such a case a director might be required to seek advice of counsel and take reasonable means to prevent illegal conduct .e. classic scenarios. less important.

.But this case is ok as: o Quality of the show was fine and no assertion that another artist would¶ve made the program better o No showing that the program is inefficient o Wife¶s contract was on a standard form negotiated between the advert agency her agent o Her pay was normal o Wife received no greater prominence or special buildup o Popularity of the program has increased . Camille Dreyfus¶ ties with his wife and his brother. suggested a $1 million radio campaign built around a radio musical program. The duty of loyalty trumps the business judgment rule. i. but such appointment is subject to the strictest scrutiny . Henri Dreyfus. and any competing interests renders the business judgment rule inapplicable. Henri Dreyfus.e. breach their fiduciary duty of loyalty to the corporation by approving the radio deal and employee contract at issue. Requires proof by the company of the level of the fairness of the txn. Discussion: the court emphasized that business decisions that would not typically merit an analysis under the normal business judgment rule will undergo more careful scrutiny when there is a conflict of interest. decision Difference between Duty of loyalty and duty of care is the difference between doing bad and shirking your job although the difference has recently become a vague one. the informal decision making. 1944. The Board also continues to approve an employment agreement for Dr. old one but interesting to ITDs Brief Fact Summary: Plaintiffs. Plaintiffs also argued that Defendants needlessly renew the employment contract of Dr.Burden is on director to prove Good faith of txn and show its inherent fairness from the Corp.Bayer v. Synopsis of Rule of Law: A director has a fiduciary duty to support the corporation¶s interest over his or her own conflicting interests. Analysis ± Character of advertising. contesting their decision to pay for radio advertising that employed a director¶s wife. so what happens in this case. viewpoint . Camille Dreyfus¶ brother. Dr.The fact that the program was not discussed in a formal meeting. Board has a duty to act in the best interest of the SH on matters within the scope of relationship - 28 . One of the stars of the program is also his wife. The Board approved the campaign. Beran et al. Issue: the issue is whether the Board. amount to be spent on it and manner to be used are All matters of BJ and are at the discretion of the board . through Dr. Dr.. Camille Dreyfus. president of the company. Beran ± NY. filed a derivative shareholder action against Defendant directors. Bayer et al. is not ok y Court has concluded that the decision was a reasonable and fair one Exception to where a court will accept an informal process: y y 1) Directors and shareholders are the same party 2) When a 3rd party reliance on the Bd. who was a co-founder with his brother of the technology behind the company¶s products.Not improper to appoint relatives of officers or directors. and it has subsequently been renewed. This is normally bad but ok here as: o Directors were mainly executives of the company who worked in close proximity Holding ± Holds for D The BJR always has to yield to the Conflict of interest Why do the directors who are not married to the wife not get the BJR protection ± as Dreyfuss is the dominating director y Board action must take place collectively per modern statutes.

look at p. believed that it did Holding ± Finds for D Txn between DS and the Corp they control 1) Ratification after full disclosure by majority of minority SH txn valid unless minority SH can prove unfairness (Shifts burden from dominant SH to minority SH) - * The Court decides despite the clear conflict of interest it was properly ratified. Inc.346: problem #1) look in the textbook! 9-22-2010 DUTY OF LOYALTY CORPORATE OPPORTUNITIES P. P. had negotiated terms for BFC. ended up pretty much where it wanted to be . but here the primary purpose was to provide the best financing vehicle which the Bd. Cellular Information Systems Inc (³CIS´) ± De. The parties dicker over the terms and Benihana gets most of the terms that it wanted. Abdo. the company is carrying the burden to prove fairness. After this one of the members of the board. Rule ± § 144(a)(1) ± Safe harbor for interested tx applies if material facts. Analysis ± P argues that the safe harbor doesn¶t apply as when the board approved the txn. on p. Benihana. Inc. The court would be stricter today as they would not accept that some members of the board of directors just met in a hallway! Benihana of Tokyo. They float different ideas and all discuss some terms for a potential stock sale. Owner marries new wife and wants to give complete control to her. comes up and says that a company which he and another control will buy the convertible stock suggested by an outside party and agreed to the by the Bd. it is ok?? * BJR does not apply here because of potential conflict of interest.Bd¶s primary purpose was to dilute BOT¶s voting control o True that an action cannot be taken for the purpose of entrenchment. P.347/57 Tender offer ± is an offer to buy shares at a certain price and a certain number of shares (controlling interest) usually have to be sold for the offer to kick in Broz v. o Court¶s response ± we agree that the board needed to know and the record indicates that it did know . Bayer takes it step forward saying that because the as K is fair even though disinterested directors didn¶t approve. Mgt of D. ther was negotiation and Bd.Bayer rule ± if disinterested majority of directors ratified K and the complaining party could not prove it unfair. they didn¶t¶ know that inside board man. relationships and interest of the K are known to the board who then approve it with a majority of disinterested directors. v.369..369 rule 144. Del 2006 NOT IN THE OTHER OUTLINE! Facts ± BOT ± Parent company owns most of the stock in Benihana. 1996 Synopsis of Rule of Law: The corporate opportunity doctrine holds that an officer or director of a corporation can take a corporate opportunity if the opportunity is presented to them in their individual 29 .Abdo violated his duty of loyalty when he used confidential benihana info to negotiate o Bubkiss as Even if Abdo did know what the Bd¶s position was. In any case the company also needs to raise capital to fix its restaurants. Benihana doesn¶t like this idea and suggest that there might be a way to sell more shares to dilute the owner¶s interest to keep him from stocking the board with his men. courts held K valid. Abdo. the owner in Tokyo sues claiming breach of fiduciary duty. and Ado knew Benihana¶s position because he was on the Bd.

the corporation has no expectation for the opportunity. then he may take it on himself  Presentation to the board just creates a safe harbor o Broz was under no duty to consider what PriCellular¶s interest might be Holding ± For broz y y y If Broz had presented formally to the board and then they don¶t¶ take it then he would have gotten a complete safe harbor If the court had found that this case had been a corporate opportunity. Mackinac. 5) [Whether O or D learned of the opportunity in an individual or corporate capacity] ± relevant factor in the Broz case. tenders an offer for CIS. then Broz would have to formally present to the court to get out. Rule ± Corporate opportunity is when a director is presented a business offer which the company that he¶s on the Bd of is i) financially able to undertake ii) is in the line of the work that the company is in iii) and is one in which the corp has an interest in then iv) the director cannot take that opportunity if his self interest is in conflict with the corp¶s interests. is not dispositive Note that these are factors not elements * The best possible scenario and advice in this types of cases is to fully disclose all information to the board members who will then decide if there is a conflict of interest. CIS is also not able to afford the license at that time. Analysis ± Broz became of the opportunity but not in his corporate capacity The burden is on Broz to show that he kept his fiduciary duties The relevant factors in this analysis are: o CIS was not financially capable of buying the license o This was in CIS line of business but at the time CIS was getting rid of its licenses and this particular license was not of interest to CIS at that time o Only applies when the director takes and opportunity in conflict with the corps interest  Broz did not take any opportunity that CIS was willing to pursue o Formal presentation is not need o Process of what a director should do in such cases:  Director should determine whether the opportunity rightfully belongs to the corp  If the director then sees that the corp is not entitled to the opportunity. They approach Broz to find out if RFBC might want to buy it. PriCellular was eventually successful at acquiring CIS. PriCellular. Pricellular is also interested in the cell license. RFBC tenders a larger offer and the license is sold to it. wants to sell a cell license. Meanwhile. but then tells CIS CEO and other members of the board in an informal setting whether they want to buy the license. has an interest or reasonable expectation and is of practical advantage to it 4) Where the self-interest of the D. Developed in Delaware 30 . claiming he usurped a corporate opportunity belonging to Plaintiff. but only after several delays and shaky financing. is financially able to undertake 2) In the Corp¶s line of business 3) Is one in which the corp. Defendant outbid PriCellular for the Michigan-2 license. be embracing the opp will be bought into conflict with the interest of the corp. now owned by PriCellular. and gets an option to buy it. Another company. and they have not wrongfully utilized corporate resources to take advantage of the opportunity. CIS. the opportunity is nonessential to the corporation. At that time another company. Broz says ok. Corporate opportunity is opportunity that: 1) Corp. They say no. brought this action against Defendant. Facts ± Broz is the Pres and sole shareholder of RFBC. He is also on the Bd of CIS. But the says that the seller can back out if there is another who tenders a larger offer for the license.capacity.

as an agent. while common shs do not. If CIS has the money and hence the were with all. Broz should tell CIS and then back out 3. Same difference. Holding ± Holds for P # investing in various securities was held to be in a line of business of eBay despite the fact that eBay's primary purpose is to provide an online auction platform.356/57 problem we did on a separate sheet of paper look. Yes because PreCellular had not expressed an interest to Broz at that time. y y y y Martha Stewart case ± All 4 factors in the Broz cases have to be balanced and no factor is dispositive Beam case ± An activity is in the corporate line of business when the corporation has fundamental knowledge. This is the days of the Internet irrational exuberance so the stocks increase in value a ton toute suite! eBay also invests in stocks and thus there is a eBay SH derivative action alleging that the directors took eBay¶s corporate opportunities (relying on the Broz¶s case reasoning). Inc. and this is not a corporate opportunity.WE MISSED CLASS 9-28. violates his duty of loyalty by taking a gratuity that belongs to eBay. Dominant Shareholders Dominant shareholders also owe a duty to the corp. I don¶t¶ see how his being an employee alter the dynamic at all.P. practical experience and the ability to pursue Restatement of Agency §388 ± an agent. Goldman Sachs gives them dibs on all their IPO initial offerings. . The law as it¶d apply to the case above would not change 4.357-367. then this would be a CO case! 2. Plus the corporation that broz owes his loyalty to was CIS not Precellular 6. 2004 Facts ± D are the founders of eBay. 673-676: duties of dominant shareholders (parent-subsidiary dealings (by far the most dominant sh problem (parent by definition owns )!)) C. Rule ± Analysis ± Ebay could have financially exploited the situation EBay was in the business of investing Investing in other stock was a ³significant part of eBay¶s business D says that if the court finds against them then all corporate investments opportunity is a corporate investment o Bubkiss since that is not the case here since here Goldman was offering these share sales as an inducement to the D to keep getting business from eBay o Even if we assume that there was no inducement given. a director. Then he would be stuck since he¶d have duties to both companies to tell them of the process. must return any such profit to the principal Restatement of Agency §387 ± Agent must act in all matters only for the principal¶s benefit . Shareholders Litigation ± De. who makes a profit through txn that he does for the principal.Analysis Pg 351! 1. 31 ." A corporation has an interest or expectancy in a business opportunity if the opportunity would further an established business policy of the corporation. Probably too much money 5. The law would still require the 3 elements noted above. Investing was in a line of business of eBay because eBay "consistently invested a portion of its cash on hand in marketable securities. 29-2010 P. In re eBay.

The problem is that their vote might cause corp to harm the minority SH. is on the both sides of a transaction with its subsidiary (self-dealing). no conflict of interest even if dominant sh is involved. P. cited often: * No matter that only 3% are minority owned. then this would be self dealing and in addition to the Parents fiduciary duty would trigger the intrinsic fairness test o Not applicable here as proportional money received by both parties y Motive is immaterial unless P can show that the dividend pmt here resulted from improper motives and amounted to waste y No showing that Parent took business opportunities form sub This is triggered when: y Std: 32 . BJR ± if the minority SH of the sub cannot show that the sub has taken an action that gives preference to the parent then the court will use the BJR. TC finds for P on both using a std of intrinsic fairness as opposed to BJR Rule ± the intrinsic fairness test should not be applied to business transactions where a fiduciary duty exists but is unaccompanied by self-dealing. Intrinsic fairness test. Intrinsic fairness test as a more serious: when there is a conflict of interest then the burden is on the parent to show that the txn was fair. P has 2 cause of actions i) that D is bleeding out all money from Sinven through giving out big dividends (the company prevented from being developed further although they should be happy by getting big dividends in general) ii) usurping corporate opportunities in Alaska etc and iii) D breached a K with Sinven. ie. Wholly owned sub a. Levin ± De. Facts ± P is a minority SH in Sinven. 1971. Majority owned Sub Std of review (minority SH cases): two cases or basic legal structure: 1. No duty of loyalty problems since no minority SH 2.358: ³the basic situation for the application of the rule is the one in which the parent has received a benefit to the exclusion and at the expense of the subsidiary. Must look out if at least 25% is owned . y y y Can be an individual or group of individuals or a corp. They can use their power over voting to approve or disapprove fundamental issue and to vote for the corp. then more than 50% of ownership (outstanding shares) might be required In a Public company the % owned might be much smaller.Dominant shareholders Definition ± SH with the power to exert control over SH voting. Can elect the board of directors. they were already in trouble« Analysis ± Intrinsic fairness test: o D has burden to prove o That its txn with Sinven were objectively fair o Subject to strict judicial scrutiny y Can be applied in dividend cases o So if two classes of stock. Sinclair Oil Corp. and D (Sinclair oil) is the majority (97%) owner who appoints all the directors for Sinven.´ And it occurs only when a parent. as the parent of another company If an individual privately owned corp. as a dominant figure.358) * Although it was plausible for Sinclair to buy out the rest of the shares. 2. But remember that the minority SH has to show 1st that the txn involved a conflict of interest. where the parent co receives a benefit to the detriment or exclusion of the subsidiary (minority SHs) (p. a very canonical case. v. Two kinds whether a parent owns subsidiary: 1.Parent company usually appoints a guy to the subsidiary company. one owned by parent and another owned by rest and only the parent gets Dividend. All the directors work for D.

Litton std of Corporate fiduciary duty ± A director and a dominating SH are fiduciaries. i. Not to appoint your own board members. Rule ± Majority has a right to control but has to watch out for its fiduciary duty for P Analysis ± Right to call in the Class A stock was with Bd not SH There is a diff between a SH voting as a Sh and as a director o I. at a price of $60 plus accrued dividends. with respect to the Class A shares: y y 33 . independent directors who can then make a decision when there is a conflict of interest (you may not want to do that. as a SH he can vote for his own benefit but as a Director he is a trustee for all SH y Directors may not take corporate action for personal profit y If the Bd was disinterested then it could have called in the Class A stock.e. rather appointing some outside board directors (not a majority) so preserving control of the company) . i.Fiduciary duty of one party AND Self dealing: o Self dealing Is when  The parent through dominance of sub  Causes the sub to act in a way  The Parent gets something from the sub to the exclusion of minority SH o Parent is on both sides of a txn Corporate opportunity ± Bubkiss as only Sinclair had these opportunities. P says that D had inside knowledge about the tobacco. b. Also the owner of Class A stock could convert to Class B if they wanted to. They have to prove that any txn with the sub is done in good faith and its inherent fairness * Problems pg 361 2. Way: a. Then charter of Axton says that Class A stock can be bought out by the Bd. Buy out the minority SH c. to the minority in a majority owned subsidiary? Facts ± D. selfish holder is ok term.e. hence there is a breach of fiduciary duty here.e. Seek ratification from majority of the minority SH Zahn v. in this case Transamerica. Transamerica. Transamerica. Bd had no option to buy Class B stock. No the case could have also been decided in terms of Business Opportunities 3. The price of tobacco increases and Axton has a mess load of it. So Transamerica liquidates the company and makes the board buy out the Class A Stock and then self off the tobacco making a crap load. bought a controlling interest in Axton-Fisher and dominated its board. there was no reasonable expectancy of getting these opportunities y y Breach of K Identifies the conflict of interest when the Sinclair made Sinvin contracted with its sub International then analyze to see if the deal was fair y P says that D breached a K it had with Sinven with min prices and amounts and requiring pmt upon receipt y Sinvens Act of contract with its sub in this case was self dealing as: o If K was Breached D received benefit with the sub/Minority SH getting nothing o Late pmt in contravention of the K is bad as is the amount that D did not buy the min required form the K Holding ± No self dealing in the dividends issue but failure of fiduciary duty in the breach of K issue y Pepper v. 1947: what are obligations of the dominant sh. but not here Holding ± For P Three options to the Bd.

most common. Rule ± Controlling SH may sell their shares for a premium over the Mkt price Analysis ± 34 . esp about common stock.e. (P): Disclose everything i. means that get dividend paid to them before the common stock peeps. P says that he premium price should have been available to everyone. is authorized to issue.e. then preferred. Bd. Zetlin v. when there is a conflict of interest between different groups. can introduce a new class of stock and then they have to go to the SH and get authorization Common stockholders has 2 rights y Voting rights o Limited right by and is limited to:  Electing directors  Voting on major corporate decision Economic rights: o Residual claims on the corp.1. Buy them back (they call class A stock) ± pay $60/ share and without disclosing the appreciation of the inventory and then liquidate. is liquidated they get what¶s left after all outstanding claims have been satisfied (last in line but if the company is successful.e. Preferred usually has no voting rights but many corp. of stock are common stock (which most companies have) and Preferred stock. In this case its class A Two kinds. In liquidation first come creditors. The Board needs to look out for the class with the greatest risk (who is at the end of the line when the company is liquidated). Common stock (we¶ll mostly talk about this): voting (limited right to participate in corporate decision such as mergers etc«) and economic rights. the appreciation of the tobaccer and call the class A shares on 60 days notice and then any Class A SH who is paying attention can convert to Class B shares resulting in Class A and class B share equally 3. class A. and then common. have chosen to elect some or all of the directors in the case if some dividends have been met All state requires that the articles of incorporation specify the number and shares that a corp. each share can get  Dividends (only if the board of directors authorize it)  If corp. Hanson Holdings ± NY. p. (D should do): Decline to call (redeem) the Class A shares and t0 simply liquidate the company (sell inventory) resulting in the Class A SH gets twice as much as the class B SH Court said that the fair thing would have been to call the Class A shares and disclose.673 Facts ± P is a minority SH and sues the D. would have told the price of the tobbaccer Three main points of Zahn from Dennis: 1. for selling his controlling interest to another company at a premium over Mkt price. Common stock. Its another example of the breach of loyalty by a dominant Sh to a Minority SH 2. Preferred stock can be preferred based on liquidation or other ways: Preferred liquidation stock. means that they trump common stock Preferred dividend stock. Have a basic understanding of the attributes of preferred v. voting rights and economic rights and that there are residual claimant in case of liquidation 3. i. resulting in pmt of 60/share and 2. 1979. common stock holders get everything that is left over). controlling majority SH. Court said that a disinterested Bd. and class B stocks. y A control block ± The majority controlling SH * Professor listed characteristics of each preferred. assets i.

sells its share and set up a option for Agau to buy the company if it was successful. Only a 1/3 of the disinterested SH voted and we don¶t¶ know what they said y This statute does not provide immunity. USAC. and when there is fraud). and its directors will not be voided if: 1) The material interest of the director is told and the majority of disinterested agrees 2) The material interest of the director is known and yet the Majority of SH vote to ratify it (says that the majority has to be disinterested SH. P. RATIFICATION OF CONFLICT OF INTEREST This is DGCL §144 a) on Pg 369 (look notes in the book) ± Effects of ratification of interested directors transactions (IDTs): 1) Ratification by majority of Disinterested directors after full disclosure Txn valid unless Challenger can overcome BJR (Burden on P) 2) Ratification by majority of [disinterested ± although it does not say in the statute. even though no so stated in the statue) 3) The K is fair to the Corp. they control: 1) ratification after full disclosure by majority of minority shs transaction valid unless minority shs can prove unfairness (burden shifts from controlling shs to minority shs) Fliegler v. The Shareholders ratify this by a vote. Rule ± 8 Del. §144 ± A ratification shifts the burden to the P to prove that the terms of the K are so unequal to make it a gift or waste A K between a Corp. He then creates the company. When the controlling SH sells to a known looter (seller knows or has a reason to know that the buyer will loot the corp or will abuse the minority) then there is a duty of loyalty to the minority 2. and there was not enough proof that 35 . USCA is successful and Agau buys it by exchanging its shares for 800k of Agau shares. D must show intrinsic fairness (burden on D) Interested director counts for the quorum 4) Dominant SH case There is also ratification of transactions b« controlling shareholders (CS) and Corp. 1976 Facts ± President of gold and silver company.Ch. Agau. Sale amounts to a wrongful sale. P brings suit to recover the 800k shares and asks for an accounting.367-74. but there are a couple of exceptions: 1. it is valid in court! ] SH after full disclosure Txn valid unless challenger can show waste ± look at pg 390 defines waste (burden on P) 3) No ratification or ineffective ratification --. hence the board of Agau refuses. buys antimony-mining lease. * A straightforward ruling! P. in addition cannot sell (rarely happen. Lawrence ± De. which appropriates an opportunity that should have gone to the corp.y Minority SH has protection from Abuse but not to inhibit legit interest of the majority y Premium added is the for the controlling interest y To take this away would be make available only tender offers Holding ± Finds for D Issue is whether the majority SH can sell their shares at a premium.673: there are exceptions: cannot sell to a known looter (a reason to know will abuse minority shs. He offers it to his company but the company was not economically avail itself of that offer. Analysis ± D says that the shareholders ratified so they are fine o Not so since the majority of the SH who voted for the merger were actually the D themselves. Defendants controlled a majority of the shares. The Majority can sell at a premium. the burden of proof that the transaction was fair was still on the Defendant directors because the y shareholder ratification was not legitimate. just removes the ³interested director´ cloud y However the D have proved the intrinsic fairness of the deal for USAC and thus the price paid for USAC was fair Holding ± Finds for D.

? A non ratified K is also void or voidable. Std of review is Entire fairness with Directors with the Burden of proof 3. and its directors 1. Interested txn between a corp. Txn between a corp. Waste and WTI had a close Business relationship so the Bd new about the other company and merging before 2) Duty of Care Claim a. As the reasoning of the case shows. disinterested SH then BJR applies and judicial review is limited to issue of waste with the burden of Proof on P to show that a fair exchange was not made 3. act. They put out a proxy statement explaining the merger and the SH ratify the merger. and after a 3 hour meeting the Bd. But then the question is who acts to make it void? The courts? The SH? The Bd. P sues with foll claims i) A breach of duty of disclosure ii) A breach of duty of care iii) A breach of duty of Loyalty Rule ± a Analysis ± 1) Disclosure claim a. However. P say that the Entire fairness should be applied in this case. If approval by informed. Pg 370 analysis / 1. to disclose all material facts that would have a significant effect on SH vote b. Defendants did offer enough proof to demonstrate that the transaction was fair. Entire fairness requires controlling SH as: 1. P ± Bd only deliberated for 3 hours yet said that they had carefully considered all issues re the merger i. Potential for process manipulation by Controlling SH 36 . i. De law requires the Bd. Same thing happens in the interested txn occurs but is not under §144 ii. Furthermore 1. 3) Duty of Loyalty claim a. Usually about parent.to reach an informed choice is a voidable. ratifies the merger. Failure of the Bd. Bubkiss since this was not a case of merger with and interested and controlling SH ii. wants to buy WTI. it means that it may be void or voidable. not void.Sub mergers conditioned upon a ³Majority of the minority´ SH approval 2. the std is still ³entire fairness´ but burden shifts to P b. There are two kind of ratification issue i. lawyers who agree with the merger. 8 DelCh§144(a)(2) is not voidable if its approved in good faith by a majority of disinterested SH 2. 1995 Facts ± WM. Means that if there are other conflicts then it might make it voidable In re Wheelbrator technologies Shareholder Litigation ± De. P Concede that if the Bd had made an informed decision the negligence/duty of care claim will be extinguished b. as seen in the prior Radio case. WTI board gets some I bankers.disinterested shareholders voted with the directors. Bubkiss as no evidence proving this. and its controlling SH 1. Meeting was attended by I bankers and lawyers who made presentation re the merger 2. The only difference ratification does is it removes the cloud of an interested director and shifts the burden of proof to the P 2. But if a ³Majority of Minority´ SH do give approval. They suggest a merger. Proxy describes in detail what the Board considered in coming up with the merger 3.

and that Would raise 37 . This is a BJR. Problem pg. Derivative Suit Litigations ± De. said that Ovitz would be at the top paid Execs. Controlling SH might influence even an informed SH 3. Compensation 2. The reason for talking about this is that the diff between the highest paid and the avg worker has increased a whole heck of a lot. IN this negotiation. Flinstone has a burden to prove internal fairness because there is needed absolute majority of dis-interested board members.2. Ovitz does a package deal wherein he has ³downside´ protection in case he is fired absent defined causes. they are getting paid to do a poor job. 374 1. i.e. This is not a ratification problem or financial interest. but K is ok more. This is an interested director txn and ratification is not effective since majority did not approve it. in good faith and in the honest belief that the action taken was in the best interest of the company!! A. 2. Russell. assuming no link between Flintstone being hired (1 interested +1 disinterested voted for and 1 disinterested against). Encourages risk taking which means short term over long term 0 might have contributed to the In re the Walt Disney Co. As long as both parties vote then there is the BJR. although the case could go both ways. the head of Disney¶s comp committee. 3. Burden on D to show fairness (intrinsic fairness test). b. Since no de jure or de facto control by WM over WTI the std is BJR with burden on proof on P Holding ± finds for D Ina case of Dominant SH there is an extra possibility of process manipulation and thus will not give the benefit that results from the waste test. 395-403: OBLIGATION OF GOOD FAITH SECTION 3: Obligation of Good Faith y y y y DGCL 145 ± Only directors who act in good faith can get legal expenses indemnified DGCL 141(e) ± Only directors who act in good faith reliance on corporate books and records are fully protected against SH claims DGCL 144(a)(1)-(2) ± Related party txn are partly insulated from judicial scrutiny if approved by disinterested SH in good faith But Good faith was made into a duty in Cede v. This is a classic example of 144 a) 1): there is no majority to vote (1:1 among disinterested parties) (possible breach of loyalty by Flinstone). Hence need additional judicial scrutiny iii. Technicolor which said that in order to rebut BJR presumption the P has the burden to prove that the Directors breached one of their duties of:  Good faith  Loyalty  Due care o If P fails to prove that then the BJR attaches o If P proves that then it is the Directors burden to prove the ³entire fairness´ of the txn o BJR ± a presumption that in making a business decision the directors of a corporation acted on an informed basis. Lack of performance. 4. No lack of quorum since 2/3 of the Bd is there (don¶t¶ need majority) Need a quorum of the total bd to show up but ratifying directors can be less than quorum. Answer a. 3. 2006 Facts ± Disney hires Ovitz upon the insistence of its CEO Eisner. someone not voting is like a vote against the deal! 9-30-2010 P: 375-392. 4.

Comp committee had done similar deals for Eisner and Frank well before ii. Had the Spreadsheet prepare for and had been used and appended to the minutes. This did not occur here Disney Defendants:A. Ovitz was very successful which would lead a reasonable person to think that he¶d be successful at Disney as well d. after an unsuccessful attempt at ³being traded´ to Sony. and he TC said no breach on the other two b) Claim that the Full Disney Bd had to consider and approve K not just he Comp Committee a. the only breach of due care would be if the Committee did not inform itself that in case of Severance Ovitz would get 40M in cash comp and 92M in Accelerated Options. this law suit would not go forward d. This fails if the Bd. The downside protection that Ovitz wanted. 1) Claim against Ovitz ± Breached his duty of care and loyalty to Disney by negotiating and accepting the payment 2) Claim against Disney director a) approving the deal with Ovitz b) approving the severance for Ovitz Rule ± Analysis ± Ovitz claim ± y y Ovitz Breached no claim since he did not become a fiduciary until formal assumed post P say that he was a de facto Pres before o Nein! Because:  De facto Pres assumes the office under color of election or appointment and is fulfilling the duties of the office.e compare best practice with what happened c. Presumption of BJR can be rebutted if P show that Directors breached duty of i. P says that Comp Committee Did not use ³best practices´ hence breached their duty of care b. was not grossly negligent i. DGCL allows bd to delegate all or some of its powers including exec comp! c) Empty d) Comp Committee did not exercise due care in approving K a. Acted in bad faith! b. the Committee was so informed and the Court can tell because i. No Duty of loyalty claim made. Care ii. Bd.criticism.e. knew that it wanted a person c. Loyalty iii. and then the Bd. As far as info. Need to look at this form a process perspective i. was informed of the key terms of the K Good Faith: Three categories of bad faith 38 . IN Sept Comp Committee met for an hour and approved the txn. Ovitz doesn¶t¶ get along with anyone and then. was loss of his earnings from CAA approx 150-200M e) Other Directors did not exercise Due care in appointing Ovitz a. were not fully informed b. elected him pres as well. Seems that though it was not documented. Claims from Approving of the K and electing Ovitz as Pres ± P says No BJR protection as actions were grossly negligent OR not in Good faith Due Care: a) Treating Due care and bad faith as separate grounds for denying BJR a. is fired and gets a 140M comp. SH files derivative suit with claims against Ovitz and Bd. Bd.

there¶s a recent move by Congress to regulate Dodd-Frank executive compensation: requires at least every three year (not one year). need to act to terminate Ovitz y y Corp Bylaws are ambiguous as to whether Eisner could dismiss Ovitz Extrinsic evidence supports that Eisner as CEO could terminate Ovitz as he¶d done so before Waste Claim If P has not rebutted BJR cannot get relief unless the txn constitutes waste Waste require the P to prove that: o The exchange was so one side that no business person of ordinary sound judgment could conclude that that the corp.1) Subjective Bad faith a. Fiduciary intentionally acts with a purpose other than what¶s in the best interest of the corp 2. had received adequate consideration o Claims are rare and in unconscionable case where the directors irrationally squander corporate assets o Waste is a corollary to the idea that where BJR applies. SEC requires ration of the median salary of all of the employees and the CEO (the difference ballooned in recent years) . i.382/83 rules«Professor: State regulation of executive pay has not 39 . but there is shaming language. CFO. not Eisner. boards decision will be upheld unless it cannot be attributable to any rational business purpose y Here the claim is meritless on its face since Disney had to pay its contractual obligations.Proxy statement of accuracy to SE (this statement is useful in assessing how management is paid and potential conflictof-interest issues with auditors). but not with any malevolent intent a. Acts with the intent to violate Positive law 3. p. Classic bad faith 2) Fiduciary action because of gross negligence. such as using language saying that ³you didn¶t¶ use best practices´ * 10 year litigation case. DGCL §102(b)(7)(ii) expressly denies money damages exculpation for acts not in good faith or which involve intentional misconduct or a knowing violation of the law B.e. Some example of such acts 1. there was a trial that really rarely happens. We know that this kind is more culpable than gross negligence. Claims from paying the severance to Ovitz Did board. and contractual pmt cannot be found wasteful o The proper analysis is whether the terms of the NFT was so wasteful i. One way that one way that the De cases exonerate D of liability. So extravagant as to create an incentive for Ovitz to get himself fired o Does not work since the Incentives had a rational business purpose.e. Also. This is non exculpable non indemnifiable for 2 reasons i. and top five others).e. Fiduciary intentionally fails to act in the face of a known duty ii. i. Fiduciary wants to do actual harm b. and thus should be proscribed and Good faith is the method to curtail such actions. each public company to disclose information what they paid their executive officers (CEO. to induce Ovitz to leave CAA! Holding ± Finds for Disney y y If the P satisfies the burden of proving that the then the entire fairness doctrine kicks in. This can be a part of Good faith but gross negligence by itself is not enough to make something Bad faith b. a conscious disregard of one¶s responsibility a. CL decisions and legislative history say so 3) Intentional dereliction. votes are only advisory « will come into effect in 2011 season.

If the directors are monetarily liable per 102(b)(7). y Graham and Caremark y Graham said that there is no duty for the directors to install and operate a corporate espionage system absent cause for suspicion 40 . also elements to fail to monitor on p. on p. 2006 Facts ± Bank directors face a derivative suit in which the bank ee knew that there might be some illegal txn taking place and then the back was found by the Federal Reserve and Alabama banking committee for not having adequate Anti money laundering checks Rule ± Conditions for director oversight liability a) directors utterly failed to implement any reporting controls b) having implemented such controls they failed to oversee its operations Analysis ± for P Demand Futility Rales std for demand futility was used o Could the board have exhibited an independent and disinterested Business judgment in responding to demand at the time of the complaint y Demand is excused need to see whether the Bd. there has been an increasing discrepancy in payments between CEOs and others so federal regulation might be a good step in the right direction! Pg 391-92 1) Brehm v.399: explains what bad faith is READ. Eisner ± Due care in decision making context is process decision making only a. Irrationality is its outer limit of the BJR test or show that the decision was not made in good faith 6) Could have avoided the problem by just being more official. Ritter ± De.400 READ.proved to work over time. which they exculpated for a duty of care violation but not for breach of duty of loyalty * This case clarifies doctrinal points where duty of care is subpart of duty of loyalty. Oversight Directors don¶t need to know everything about the firm on a day to day basis but must have a o Rudimentary understanding of the firms business and how it works o Keep informed of the firms activities o Engage in general monitoring of the corporate affairs o Regular review of financial statements Question remains as to how much rules and procedures are required by the board to ensure that the employees do not do illegal stuff Caremark Case defined the Obligations of the Board o Board must make put in place reasonable information and reporting systems designed to them information sufficient to manage that the corporation is complying with the law and to measure business performance o This is a good faith duty of the directors y y y Only a sustained or systemic failure of the board to exercise oversight. classifies what is and what is not bad faith (procedural gross negligence is not bad faith). is interested. B. Stone v. such as utter failure to assure a reasonable information and reporting system creates the good faith which is needed for liability. and detailed minutes and other good documentation as a message from the Disney¶s case.

Ritter.e. but now its not going to be a failure of duty of care but as a violation of a duty of loyalty.. 623-28 10-5. What if there was a violation of minor laws is it ok for the board to make a considered decision to allow this to continue ± After Stone v. the majority of corporations are said to be closely held. Having made such a. However. well thought out decision to make $0 investment in oversight ± bad decision since you need some oversight and keep up with the oversight.576-588. Not following up. 6-2010 CLOSELY HELD CORPORATIONS VOTING ARRANGEMENTS: p. looking at the results of the monitoring system. Look more at Wikipedia! 41 . The responsibility to monitor this rests with an audit committee. Wednesday: 588-600. Thursday: 614-18. 576 600 # The institution most often referenced by the word "corporation" is a publicly traded corporation. meaning that no ready market exists for the trading of shares. Directors failed to implement any reporting or oversight controls 2. more is needed in the case of Good faith  Now failure to monitor is not a duty of care issue its good faith duty issue and put Good faith under Loyalty. consciously fail to monitor it Class Hypo about having a company is clean in every which way except that it has a well reasoned.g. i. bad faith. although the size of such a corporation can be as vast as the largest public corporations. i. Tuesday: P. Have to look at possible misconduct and an obligation to resolve possible misconduct. the shares of which are traded on a public stock exchange (e. fiduciary fails to act in the face of a known duty o Failure to act in good faith is not in itself sufficient to establish liability. Many such corporations are owned and managed by a small group of businesspeople or companies. 607-14.e.e. i.Caremark ± Can¶t charge Directors for wrongdoing for assuming that the employees are honest in dealing with the company o This is what the directorial std became  Where a claim of liability for corporate loss is predicated upon ignorance of liability creating activity only a sustained failure to exercise oversight is an utter failure to attempt to assure a reasonable information and reporting system exists will establish the bad faith needed for liability o Caremark spoke to the third kind of bad faith enunciated in Disney i.e. Most of the largest businesses in the world are publicly traded corporations. and failure on the latter two always results in liability. no such reasoned decision is not going to be allowed. Pg 403 5. privately held or close corporations. Prior to Caremark. one could have argued that this decision could have been upheld under the BJR.  So now 2 different kind of duty of loyalty y Self dealing y Failure to act in Good faith o Failure to monitor o Duty of loyalty encompasses good faith cases y KPMG found that the Directors did create a method of oversight and then monitored the results of the systems that they had put in place Holding ± Finds for Directors Director fail their oversight requirement: y 1. the New York Stock Exchange or Nasdaq in the United States) where shares of stock of corporations are bought and sold by and to the general public. good faith is not on an equal footing as Duty of care and loyalty.

e. the trustee votes in a specified way and returns the dividends to former trust owners or i. thus SH look to govern the company more a.e.L.* We discussed differences between closed and public corporations (advantages and disadvantages).C. B and C In the Ringling case Different classes of common stock and give each SH all of the shares and say that class of Common Stock can elect a member of the board Ringling Bros. and they each. Barnum & Bailey Combined shows v. Should they not agree as to who will be on the Bd. 218 a). can chose 2 Directors of their own choose but with combining votes they would choose another one (altogether 5).e. i.G. Ringling De. not like in public corporation A closely held Corp (or a closed corp as they are the same) has 2 characteristics 1) Lack of a secondary market (primary is IPO) you can t sell your stocks and move on. they K to resort to binding arbitration. In 1947 42 .C. So if have 100 vote split by 30. 214 You id the number of shares times the number of vacancies and a SH can choose to put all their votes to vote for 1 guy. from up to a complete discretion of the trustee.L.G. 2) Voting for Officers Definitions: Proxy/irrevocable Proxy (D.G.. is more of a K Cumulative Voting D. the trust beneficiaries i. There are 7 directors. Wikipedia is a good source) A statutory mechanism whereby SH (stock holder) formally transfer Stock certificate and the voting right that accompanies that certificate with them to a trustee Pursuant to a trust agreement (can be in various degrees of specificities.G. 218 c) Agreement by SH to vote for themselves or their representatives as directors Not formal in the sense that it needs to be filed. 1947 Facts 2 people with Minority Shares enter into a K to combine their shares and vote for certain directors. 212 e)) A grant of authority by 1 party to the 2nd party authorizing the 2nd (holder of the proxy) to act or to vote shares as a substitute for the 1st party.L.L.C. Desire for active management since they can t sell out 2) Has a small number of SH but this is not necessary and essential feature (majority of closed corp are small) Will look at a couple of voting mechanism 1) Voting for the Bd. 30. the ppl who were the SH It formally separates the voting rights and the economic rights See it a lot in family businesses Vote Pooling Agreement D. number of votes depends on number of shares someone holds. Proxy is normal proxy Irrevocable proxy a proxy is coupled with an interest usually meaning that the transfer of authority and the right cannot be taken back Voting trust (D. can last maximum 10 years as duration). 2 guys or 3 guys.C. 40 for director A. the 5th director. if they vote appropriately.

P alleged there was a manipulation of elections. McGraw Vp. Haley However the Court will not frustrate the other voters by the failure of Mrs. 2 Halley plus votes from Mr. Haley to vote. Ringling). Haley s vote. 43 . Dunn was appointed . because Stoneham no longer likes P. A board was to be elected. she brought the complaint because Mr. Dunn. a person determined by the arbitrator to be the fifth member of the board. Edith Ringling sold her shares afterwards. North Ringling got opportunity to elect the fifth member of the board. and the one vacancy which we will not decide on Holding Mrs.they cannot agree and the Arbitrator tells them to vote a certain way. Rule SH may join together to pool their votes to choose directors Analysis The K said that the parties were bound to act as the Arbitrator said. agreement for 10 years which could not be revoked unless there was a mutual consent. TC says that the Agreement was valid as a Stock Pooling agreement and that thus a new election for Bd. McQuade. did not have an irrevocable proxy (he also did not have any interest in the corporation) so it could not bind the shs so the voting agreement was ineffective. but you can have vote pooling agreement which does not have to rise up to irrevocable proxy to become valid! Even though Halley won in voting (5:3. Haley are thrown out and the rest of the votes given effect * Edith Ringling 315 as well as Aubrey Halley while John Ringling 370. as will Mr. All 3 owners strike a K that Stoneham will be voted Pres. D McGraw. Ringling s choice will ascend to Bd. you d add a provision for irrevocable proxy which would prevent successful attempt to revoke the agreement! McQuade v. but not that the arbitrator could vote for them Also the K did not give the voting rights of one of the parties to another Statue does not bar pooling arrangement only pooling trust (is this true?) Owning voting stock does not mean that there is a legal duty to vote. resulting in all choices of Mrs. Mrs. 1945 there was a fire.Enforcing pooling agreement. Haley s votes are nulled and all on Mrs. Mrs. North s Could have given the arbitrator an irrevocable proxy The Pooling agreement could have been terminated in 10 years or by mutual agreement Mrs. P brings this suit challenging their actions. TC won t allow P reinstatement but gives him damages. with the three owners and 4 disinterested who were effectively in the control of Stoneham. both to adjourn the meeting or vote for the chosen candidate and P. should be held. De SC says remedy is that the votes of Mrs. And SH may combine to vote for their common advantage Failure to vote as required by the K was a breach of K by Mrs. brings this suit. Mrs Ringling. thus the election is not invalid o We will only invalidate Mrs. Edith Ringling won the voting by 3:3 which was a deadlock! Ultimately. and P Treasure with all of them getting fixed salaries. 1934 Facts P. At a time. Stoneham NY. Haley s defense for not following the Pooling agreement says that this is a failed voting trust not a vote pooling agreement and that there was no irrevocable proxy either. does not follow his instructions. many deaths at the circus as a backdrop why these two went into disagreement in 1946. Haley. by breaching the agreement. . Halley s votes were tossed out and Mrs. Ringling to rise to the Bd. is a magistrate who bought shares in the Giants owning corp. because of that disagreement. one of the contracting parties. owns 70 shares but majority is owned by D Stoneham. the 2 D refuse to elect P to the board or as treasurer and elect Bondy (another man).

also a contractual mechanism to give him a buyout. but rather to vote them in. Hence. that the agreement was invalid because it required Defendant as a shareholder to usurp the directors judgment. Sh cannot agree to impinge on the directors independence Analysis D K was void as any K which tell directors to Vote for a particular person as an officer is illegal P =. Y. Defendant countered. True? Holding K is void . a K between them making them vote for certain people as directors is OK Analysis NY GCL § 27 says that the business of the corp. then there is no reason to hold it illegal Besides the dicta in McQuade there is no reason to hold this K Invalid §27. is negligibly effected Holding Finds for P McQuade court would probably strike down the following: Electing Clark as a GM Setting dividends and salary 44 . and not to control the action of the directors. Plaintiff entered into an agreement with Defendant wherein Plaintiff agreed to disclose the formulae to the son of Defendant in return for a promise that Defendant would keep Plaintiff as a director and would be entitled to 25% of all net income providing that Plaintiff was competent in his position. Inc. Bell & Company. Afterwards.173/74)!!! P. Defendant did not vote Plaintiff in as director.591: NY business law 620: how directors should manage corporation Clark v. 323).Rule SH can unite to elect directors. or control any of the directors actions. stopped delivering 25% of the income to Plaintiff. P. is the province of the Bd. SH cannot control the judgment of the directors o Bad faith of the parties does not change this since the court will not look to enforce morals Sh may combine to elect directors P says he s looking out for minority SH.What could McQuade have done to protect himself he could have set up an employment contract from the board.. The companies manufactured medicine. McQuade said that the SH cannot tell the directors who to vote into as officers o This provides a simple but arbitrary test o If a K does not damage anybody. others 1194 = 250 shares. this was an illegal K. 2) employment contract like 10 years (as long as possible) which is protection for him 3) and the third protection is buyout arrangement (FORM ON P. Concurrence Agrees with the second statutory provision K was legal since it said that the 3 SH would act with one voice for achieving a particular purpose. citing McQuade v. the formulae that were known only by Plaintiff. Inc. Their duty was to the corp Furthermore. * Stonehan 1166 shares. but cannot untie to control the directors have an agreement to vote in a way that won t allow directors to change officers. and Hollings-Smith Company. Dodge NY.586. were co-owned by Plaintiff (25% of shares) and Defendant (the remaining 75% of shares). Stoneham (263 N.Agreement amongst directors to keep a man in office cannot be broken as long as the officer is working in the interest of the corp. McGraw and McQuade each 70. 1936 Facts: Defendant companies. but he is the only one complaining A trustee would be held to a higher std but D were not P s trustees. the Magistrate was barred by NY law to engage in any other business or profession. you would advice McQuade three options: 1) voting pool agreement. Plaintiff sought reinstatement and money owed from the stopping of payments and money wasted by Defendant. Rule When the directors are sole SH. So the entire Contract is wrong.

Voting trust: A devise specifically authorized by state statutes SH who want to act in concert turn their votes into a trust. let s say. Can the Bd. should be done by the Bd.Note on SH agreements. can still be valid if 1. . . Statutory Close Corp and Involuntary Dissolution: Pooling Agreements: Agreement where SH commit to electing themselves as Directors o Not controversial as does not interfere with the obligation of the director to use his sound judgment Courts have a harder time as to what to do with SH picking officers.NY Business Corporation law §715(b) certificate of incorporation may say that the SH will directly elect the officers California Corporations code §312(b) except as otherwise provided by bylaws. where the trustee votes per prior instructions Often used to maintain control of a corp by a family or group Generally must be made public 0 DGCL §218 Statutory Closely held Group: Allows a corp to elect close corp Status Eg. Advantage: . If shares are then transferred to people who had notice of or consented to the provision * We won t spend too much time on this case but it tells us what happened after the McQuade s case. All SH (regardless of whether they have voting powers or not) have authorized the provision 2. DGCL 342(1) Allows Closely held status if not more than 30 SH 351 Certificate of Incorp may provide that he SH not the directors will manage the corp.Can avoid certain Corp formalities 45 . creditors. future purchasers of stocks NY Section 620 as an updated version: which was not the case in here because it was adopted after these cases p. voting trusts. look differences Part a) would be always valid while at least part b through d would be invalidated if there is a..Setting salary for peeps So far as it does not hurt 3rd parties an agreement whereby directors pick officers is ok.590)! No minority shs to object and no harm to public. but they must take into account any provision in the certificate of incorporation . officers to be chosen by the Bd.Who has the power now to choose officers? DGCL §142(b) b) Officers are to be chosen per by laws or determined by Bd. have its decisions interfered with? Since then the NY Business law has been changed. as it deprives directors use of own judgment o Modern view in Galler case below says that such agreements are enforceable for closely held Corp provided that all SH agree by signing. NY Business Corporation law §620 now says: 1) An agreement between 2 or more Sh may that their votes be voted in a certain way 2) A provision in the certificate of incorporation. otherwise prohibited by law because of restrictions placed on the Bd. McQuade is struck down in here and the K is upheld because there no shareholders were harmed (p. another 3rd party as an minority sh here!!! DGCL §141(a) a) All business of the corp.591 look! Voting pool agreement and others.

because close corporation does not pay dividends because salary and bonuses are deductible expenses but dividends are not. ancillary agreements. may be member managed as opposed to manager managed in a corp. employment agreements and buy sell agreements LLC Issues of control left to the individual s choice. 46 . After one brother dies.e. purpose was valid (taking care of a widow) was not of indefinite duration (life of the widow) did not violate rights of a minority shareholder (5% ownership) Though agreement wasn t unanimous. 12-2010 OPPRESSION AND ABUSE: p. and says that best he can do is allow the dividend be provided. that the spouse will be able to nominate directors in case one dies. Rule Parties can reach an agreement when there is i) no fraud. Enter K. * Check the case on ecasebriefs. following factors o closely held corporation o no objection by any minority shareholder (the one there was sold out) o agreement s terms were reasonable § parties didn t expect agreement to last a long time § dividend payout only if company made up to certain amount § payment to widow was reasonable amount. 1964 Facts Brothers. ii) no complaining minority interest iii) no injury to the public or creditors iv) No statutory prohibition v) i. Galler Illinois. Appeals court finds for D. NY requires unanimity The contract was found valid b/c: it did not violate public policy.Disadvantage Most of the goals of Close corp. Involuntary dissolution by court: Development of provisions allowing for involuntary dissolution Can serve as bail outs for SH who have not entered into effective control or buy sell agreements Galler v. 623-28 There can be squeeze out. can be done by using bylaws. the other reneges on the deal. which provides for appointing directors of the company.com! Very unusual decision for the Court to uphold the K brought not by a unanimous decision! 10-7. i. P sues for specific performance. want to provide for their families until the last passes away.607-19. Thus salaries and benefits and other benefits is the primary way to provide a return on the investment. and a dividend provision.e. reasonable terms Analysis Close Corp defined as stock is held in a few hands and it rarely bought and sold Policy reasons why detailed SH agreements ahead of time are needed: o In a closed corp no market for the aggrieved SH to sell his portion o Without judicial oversight a large minority SH may find himself at the mercy of an oppressive majority o Hard to get independent Board oversight free from the personal motivations The K does not fail for indefiniteness since Emma s life expectancy was ascertainable Holding Finds for P and requires specific performance Would NY come out the same way? No because Rosenberg didn t agree.

* Freeze out, two parts: denial to participate in the management of the company and second part is an economic harm (return to investment). Closely held corporations usually do not pay dividends but rather salaries, bonuses, and retirement benefits. Wilkes v. Springside Nursing home ± Ma, 1976, FAMOUS CASE AS TO FIDUCIARY DUTY Facts ± 4 SH each get 10 chares each and there was an understanding that all 4 would be directors, participate in management and get salaries as long as they participated equally. No dividends paid. It was an informal understanding, i.e. a SH agreement. The income received is in lieu of dividends. Then there is bad blood between the parties after many years. So Wilkes says that he¶d leave, and there was a directors meeting held which took away Wilke¶s salary and didn¶t re-elect him as director. Wilkes was not guilty of any negligence Rule ± Analysis ± Sh in a close corp. have almost the same duty to each other as that in a partnership i.e. a duty of utmost good faith and loyalty y Sh may not act out of avarice, expediency or self interest y In Close corp. Sh may freeze out minority SH resulting in the minority having to sell at below mkt value y An effective freeze out is when minority SH are not given corporate offices and employment in the corp since this is often one of the main ways ppl are compensated for their partnerships o Courts have been unwilling to step into internal corporate operation y Main way ppl get money court of corps is through salaries, bonuses and retirement benefits y However the majority also have certain right which must be preserve, i.e. ³selfish ownership´ which must be balanced against their fiduciary obligations y Balancing test: st o 1 Majority must show that there exists a legitimate business purpose for its action  Groups must have some room to maneuver  Must have discretion in declaring dividends, merging, establishing salaries, dismissing directors with or without cause and hiring and firing officers nd o 2 If Majority meets 1 above then it is up to minority SH to demonstrate that the same purpose could have been achieved in a way that is does not harm the minority as much y Applying these principles here we see that P was frozen out here and for the sole purpose of buying his shares below market Holding ± For P Widely accepted, including NY as opposed to the Wile Two steps WILKES TEST: y 1) Maj SHS have to show a legit business purpose 2) Min has the burden to show that the same objective could have been done in another way. y In this case there was no showing of any legitimate business purpose. i.e the other Sh were greedy and men spirit y Assume that the Majority SH met the Step 1 in this case, how could they have passed under step 2- They could have shown a better way of affecting the same result and being upheld by the court by paying him dividends y They could also have created some legal agreements such as a the buyout agreement in page 173-174 y Give each party an employment agreement, so P would not have to appeal to equity, he could appeal to K law y Get a written SH agreement He is a minority since Wilkes is controlled by the other SH * There was only an understanding between the parties and not employment K or any sh written agreement like in the Ingle¶s case. Salaries were paid out to the parties and no dividends were paid or return on investment. P was even trying to get a higher price for the piece of the corporation¶s property


(no bad faith or negligence that would justify him being kicked out from the job) but in any case the P was not re-elected as an officer. Wilkes Test (look at above); If the P was negligent, like did not come to work and so on, so the first prong of the test would be satisfied but the second part, the P could argue that he could¶ve got a lower position in the company or the Ds could pay him out a fair price of his investment in terms of dividend payments which would buy him out of the corporation. NY follows the Wilkes case which may be surprising« - Also, look at p.627: Nixon v. Blackwell, De, 1993 opinion. Ingle v. Glamore Motor Sales Inc. ± NY, 1989 Facts ± P buys shares from D and there was an agreement that D could buy his shares out if P stopped being an employee for any reason. In return P was to be voted a director and employee. After a while D fires P and buys out all his share. P does not contend that a price paid for his shares were bad, just that he was protected from being fired despite the lack of any employment K. P says that the buyback clause was putin in case he died so that the D could keep the shares. Rule ± Dudes an at will employee and gets no obligation of good faith and fair dealing, duty absent contract Analysis ± y Must distinguish between duty to Sh and duty to employee y Corp could always discharge an employee at will y There was a K between the parties and taking a strict reading that is what happened here Dissent ± Majority took a literal reading of the K P wants to keep his stock not sell it Plus are you really going to tell me that P should be pleased with a return on 96k on a 75k outlay for 17 to 15 yers y Read the plain meaning of the K in light of the entire agreement Holding ± Defendants do no owe Plaintiff a duty to keep Plaintiff indefinitely as an employee as a result of his y y y
minority shareholder status. Traditionally, an employee is an at-will employee if he does not have an employment agreement that gives a duration for the employment. This situation does not change when an employee attains shareholder status, especially when there is a provision in the shareholder agreement that allows the majority shareholder to buy back Plaintiff¶s share if he is terminated for any reason. Plaintiff never asserted that the buyback amount was unfair, and therefore he suffered no harm.

Synopsis of Rule of Law: absent an employment contract, an employee is an at-will employee when his shareholder agreement provides a buyback provision of his shares if they are terminated for any reason. * P ends up with 40% of shares of the company; D, Glamore, kept a little over 50%; NY is one of the most harsh employment-at-will enforced K for whatever reason! Arguments in the case as to D: separate issues of employment K and fiduciary duty towards minority shs, D squeezed out from the corporation. - Next Tuesday: quickly over 623-28, but big thing unit 21; Wed: 467-82; Th: 490-98 plus BB Smith v. Altlantic Properties ± MA, 1981, p.623 Facts ± Wolfson has 25% of corp. but institutes a supermajority (80%) to pass anything, i.e. a veto power in the articles of incorporation. One of the person was that profits kept accumulating because each SH is in diff Tax bracket and Wolfson is n a higher tax bracket, so much that there is a tax penalty charged against the corporation because of Accumulated earnings. P want i) Wilson be removed as a director, ii) Dividends be paid out iii) Wilson pay out the amount of tax penalty for accumulated profit Rule ± Idea that Wilkes ruling does not just apply to the majority, but also to any controlling SH Analysis ± y y y Incurred substantial tax penalty and legal expenses because of wolfson¶s decisions Majority, in case of a deadlock, can normally seek dissolution of corp. with a 40% - what is the point of FN 6? Minority here has an ad-hoc controlling interest


Refusal to minimize losses to the corporation justifies charging Dr. Wolfson for losses suffered by Atlantic. o No relaxation for duty of utmost loyalty and good faith when applied to a minority ad-hoc controlling interest. Analysis to be done on a case by case basis Holding ± A Super majority provision, without a way to break the deadlock, is stupid. Have a way out. The harm to the corporation was the tax penalty; hence the court smacked Wolfson down! There is a difference between the DE line of cases as applied to the squeeze out. * Supermajority voting provision (anything over 50%); D claimed he wanted to reinvest the money but the Court did not believe him. Wilkes kind of cases apply also to minority shs and not only to majority. y Nixon v. Blackwell ± DE std, 1992 Has rejected the Wilke¶s test and has required SH in closely held corp. to bargain for contractual protection, i.e. vote pooling agreement, employment agreement. Will not allow a court-imposed buyout when the party¶s have not negotiated one. No judicially created rules for the minority, when the parties have not negotiated one.

Dissolution: in essence for closed shared corporations: besides breach of fiduciary duty, P can also ask
for dissolution in all 50 states now: court ordered liquidation of corporation assets and distribution of them to creditors and shs; It¶s a statutory remedy for Minority SH who have been unfairly treated by SH and sometimes for deadlock. Look at the state of Incorporation and use that states law 4 typical categories: 1) 2) 3) 4) Deadlock Among directors ± Minority can seek dissolution (like in Smith) Deadlock among SH ± huh? amount or among? I think Among hence changed (like in Smith) Waste of Corporate assets ± corp is so paralyzed by inaction Abuse or oppression of minority SH (like we¶ve seen in Wilkes)

Oppression defined as (NY, NJ also) ± Conduct that defeats the reasonable expectations of Minority SH to management or to get employed by Company; fairly broad definition; Since dissolution is such an extreme remedy, many state courts allow the majority to buy out the minority at fair price. Judges have equitable discretion; Court will step in and help the parties negotiate a provision. Sometimes this is done even without statutory provision, i.e. the court using its power of equity o In DE however, per Nixon vs. Blackwell, courts will not allow dissolution or buy outs, instead shs are required K protection prior investing into a closed-shared company! 10-12-2010


Federal Securities Law
2 statutes passed during the great depression: 1) Securities act of 1933 ± Affects on Primary market transaction (new issues of stocks; wont¶ really study much) 2) Securities exchange act 1934 ± governs secondary market transaction (we¶ll cover: securities fraud, and then insider trading, and then proxy« solicitation«) Purpose: 1) Protect investors 2) Secure public confidence in the integrity of the securities mkt


C. SEC ± Rule 10(b); most important Rule 10(b)-5 (look at p. 438 Professor mentioned)
It¶s a general anti fraud provision; not only to publicly traded securities but also securities of any kind like close-shared company!); SEC: chief G agency, 5 agencies consisted of various specialists; besides protection of interest, also public interest; Actions that you can bring: 1) Private actions ± example the Basic v. Levinson case (individual versus corporation and so) 2) SEC actions ± SEC is charged with enforcing (only on civil level and not criminal) 3) Criminal actions - If its US v. Blank then it¶s a criminal action as opposed to SEC v. Blank then it¶s a SEC civil action (any willful violation of securities law) 1. When there is a conflict then Federal law pre-empts Elements of private COA (cause of action) under rule 10b-5 looks like this: 1) Misrepresentation or omission to state material facts« (from p.438) 2) Materiality ± what Basic is known for, i.e. is applicable for all 10b actions 1. A fact is material when a reasonable SH considers it important in how to vote (i.e. buy, sell and hold) but to be seen in the total mix of information. 2. Balance the probability that the event will occur against the magnitude of the event in light of the totality of the company activity 3. Material facts probability 1) Board resolutions 2) Instructions of I bankers 3) Actual negotiation 4) 4. Magnitude 1) In a merger case ± Going to be easier for the P to establish 5. Materiality is determined at when the statement is made 3) Scienter 1. Intent to defraud, intent to deceive, recklessness will suffice, i.e. making a statement or making a statement with reckless disregard of the effect of the material statement (in
criminal case, there has to be found actual intent and not only reckless!)

4) Reliance 1. Fraud on the market theory - No need to show individualized reliance, just that securities professionals would have relied on these statements (this is presumed) 2. Corp can rebut this presumption 2 ways 1) Rebutt the fraud on the mkt theory ± there is no such thing, things just leak out, so no one was fooled, i.e. no one relied on the statement or omission 2) Individualized rebuttal ± a particular P did not sell based on Mkt price but for other reasons, kids tuition etc. 5) Loss Causation 1. Loss causation i.e. the Fraud or Misrep did cause the P loss (like decline of the value of the stock P hold on to it and so on«) 6) In connection with purchase or sale of securities 1. SC has ruled that the P has to have purchased or sold the security (meaning, thinking of buying is not enough, the SC narrowed the scope of standing for private actions) SEC and Fed Govt only need to prove 1-3 above not the -6 which is only required of Private COA Basic v. Levinson ± US, 1988; look at also ecasebriefs if needed!


e. Then stop stock trading on NYSE as its being take over. Then restart negotiations. efficient capital market theory ECMT (semi-strong«) o Don¶t need individualized reliance in a Class action as it¶d effectively bar a class action suit o D may rebut presumption by:  Showing that no change in price occurred y Mkt Makers were privy to the truth about merger discussions  P would have traded anyway y Sold shares because of political pressures to sell shares of certain business y Antitrust problem Dissent: Justice White: does not accept efficient capital market theory Holding ± a Rejects bright line tests and uses a balancing test. and prove causation as well o Fraud on the market theory (P had reliance on the market price. Materiality is determined at when the statement is made There is no obligation to disclose that they are about to merge. you can say no comment 51 . the only duty is if the Corporate does make a statement it has to be accurate Advise to Corp officers ± y y Don¶t say anything i. Rule ± test noted above in the outline Analysis ± A fact is material when there is a substantial likelihood that a reasonable SH would consider it important in deciding how to vote y Materiality when the disclosure of the omitted information would be found by the reasonable investor to have significantly altered the total mix of info available y P suggests applying the ³agreement in principle´ test ± not material till agreement in principle made. are basic SH who sold their stock alleging violation of 10b.Facts ± Combustion interested in buying Basic but back out because of Anti-trust issues. one that is taken to be true unless someone comes forward to contest it and prove otherwise). Basic Stock is volatile but says that its not being taken over. P. thus misleading statements defraud stock purchasers. average buyer cannot rely because he/she did not do market research but rely on sophisticated investors!) gives rise to a rebuttable presumption (is an assumption made by a court. Policy justification: o Investors will be overwhelmed by information  Bubkiss as y Assumes investors are nitwits y Purpose of SEC act was to have full disclosure o Preserve the confidentiality of merger discussions o Easy bright line test y Materiality depends on a balancing of probability that the event will occur and the magnitude of the event o Mergers Discussion as it deals with birth and death of a company is high magnitude  Size of companies  Potential premiums over Mkt Value o Fact finder needs to look at the indicia of interest as noted by: (Goes to probability)  Board resolutions  Instructions given to I bankers  Actual negotiation between companies y To be actionable the statement must be misleading y Reliance (all buyers and sellers between the first material« and the suspension of trading at the NYSE in this case) o Fraud on the market theory ± In an open market Securities are priced on material information.

483-490 Insider Trading and the Use of Inside Information Theories of Insider Trading 1) 2) 3) 4) From rule 10(b)(5) ± Classical Theory (in TGS case): Disclosure or abstain rule (³Classic theory´) From rule 10(b)(5) Misappropriation (O¶Haggan case) Exchange rule 14e-3 (tender offers) Tipping (most complex) Policy justifications to allow insider trading± y y Its compensation for insiders and doesn¶t¶ hurt people with long positions It¶s an additional method for insiders to disseminate information to the mkt Goodwin v. D also was director of another company« Claims he would not have sold shares if he knew about the geologist's theory P sells his stocks at the exchange.y If a company makes a lie but the lie is not material can the officers be held responsible? No because materiality is a necessary element Judicial Limitation on 10b-5 actions Standing . on the Boston Stock Exchange. there are other statutory requirements but we ll not discuss them.Rule 10 b) is a Congressional statute and is very broad which gives authority to the SEC which promulgate rule 10 b) 5). p. Reliance base: look above . Rule ± Dir. In May. Cliff Mining closed down an unsuccessful exploration. Goodwin. although today « (the Court made distinction about fiduciary duty for corporation and shs) Analysis ± y When Directors seeks to buy shares without disclosing material facts courts will scrutinize 52 .443. D bought 700 shares of Cliff Mining Co.444 (silence is not misleading and can be permissible so long as is not misleading statement). FN 17 p. if the merger has never gone through unlike what happened: the P would be able to establish materiality even though maybe not for security fraud Agreement and Principal Test: the Court did not accept this test here because investors are capable of making their own decisions (the Court do not want to paternalize). had closed and sold his shares which are the shares D bought. the following Tuesday. disclosure as soon as possible is the best advice although company officers dislike the idea to disclose information dealing with preliminary negotiations. in newspapers. manipulate or defraud Secondary Liability & Scope of interpretation ± no Liability for anyone who aids and abets. learned that exploratory operations.Bleu Chip Stamps v Manor drugs ± 10b-5 can only be used by buyers and sellers of a stock Scienter ± Person making the false statement did so with intent to deceive. learn about a geologist's theory that there would be copper deposits in an area. Speculative or contingent event that the C adopts on p. Also in May. Courts must use 10b and 10b-5 to see the scope of conduct prohibited * General test out of Rule 10(b)-5 from this case and many others: test for materiality TSC Industry Standard (any fact that is material that a reasonable sh would consider to buy or sell shares). D Agassiz (president of the Cliff Mining Company) and MacNaughton (just a Michigan resident not D). P. Agassiz ± Mass. 1933 Facts ± In March. 10-13-2010 467-482. D did not disclose because D wanted to buy nearby land. have no duty to SH under the common law. then 490-498 in addition to a case on the BB. probability (here is low) and magnitude (high because of the merger here) even a slight rumors about merger negotiation is relevant because of its huge impact. Only D had knowledge about the geologist¶s theory.

e. plus these were short term calls. On April 16 an official statement from TGS announced they had found a mine of at least 25 million tons. y D might trade after a reasonable waiting period i. i.e. i. On April 11 the news of the potentially large mine gets into the newspapers.y Director had duty to Company y No duty to set forth their plans. They HAD never bought options before so they knew it¶d affect mkt shares. While buying several TGS employees and their tippees bought TGS stock and options. or not trade on it y Congress no longer to allow insider to use inside information as a sort of compensation y Material Inside information o Reasonably certain to have a substantial effect on the market price of the security. publicly available. Rule ±Directors should disclose or abstain if they come across material information Analysis ± Anyone with material inside info (doesn¶t have to be a director or management) must either disclose it. that he prices will go up dramatically in the short term y The drilling was unusually good When can insiders trade .TGS says that the information has to be disseminated i. 1969 Facts ± In early November TGS drills an exploratory drill showing high mineral content but keeps the results secret.. will make a reasonable investor buy/sell hold o Balance Probability of event and the magnitude of the event o Application to the case  It was material as it was a bug find and they had to know it¶d affect mkt price  D bought tons of shares and options.e. all the SEC has to show that the information would influence mkt actions Cases against individual defendants for insider trading Assessed materiality suing foll: y The call option was never bought by these people before. i.e.e. i. Company says that the statements made were not fraudulent.e. wait till it appears in a wide circulation y Purpose of act is to protect the investing public Holding ± Remands fto see whether a reasonable investor would find the information material Court says. On April 12 a press release from TGS said the news reports were false and there was no conclusive data on the mine. TGS stops exploratory drilling and buys surrounding land. Texas Gulf Sulphur Co. reasonable waiting period y Directors should disclose or abstain if they come across material information 53 . was still in its nebulous stages y D made no representations to anybody Holding ± a Factors the court found relevant in exonerating D y Legal reasons for the Courts decision o Speculative o Directors do not have a fiduciary duty to stock holder o Since no face to face txn o There was no duty owed to the existing shareholders. then how can there be a duty to people who do not even owe the stock Social policy reason for Courts decision o Directors would also harm cliff mining company with disclosure o Restriction on trading since people are handcuffed form exploiting information y BUT THEN COMES ALONG THE FOLLOWING CASE AS A BIT SURPRISING FOR CORP: there is a duty of directors not to purchase stocks from the corporation shs when directors have material facts others do not have: SEC v.

Chiarella implications: D had material information. lost his job. 1997 54 . US v. not a general duty not to use info Analysis ±Here Chiarella at best had a duty to his Er. There¶s no any specific time period but you have to wait until info is fully disseminated. D was not an insider and he only violated his job policy rules.WHEN CLASSICAL THEORY APPLIES AND WHEN MISAPPROPRIATION APPLIES FOR THE EXAM!!! . SO CHIARELA IS NOT LIABILE UNDER CLASSICAL THEORY BUT TODAY THERE ARE OTHER THEORIES HE MIGHT BE CRIMINALY LIABLE FOR LIKE: RULE 14e)3). duty between the directors and SH with whom they are trading So the imp question is does the D owe a duty to the person with whom they are trading (always ask yourself this question at a 10(b)(5) cases Reasons why TGS did not disclose the information Because they wanted to buy up the surrounding land and wanted to keep the prices down. misappropriation and one more« . returned profits made. but not to the SH or to the market in general Holding ± a We¶d expect that Chiarella would be held responsible under 10(b)(5) but the SC says not guilty of insider trading because he had no duty. Why was there no duty for TGS to tell the landowners to disclose.e. under insider trading. gave back $30k and subsequently got fired by his employer. which is required for liability. by negotiating.y y Based on the trust. no corporate insider. you have to give people not in privity not only to see info but also to absorb them! Usually and typical is 48 hours after public announcement which is probably more than needed so company directors might be in a disadvantaged position. D had a specific duty not to use the stuff. United States. Court compared TGS and this case ± TGS owed duty to corporation and shs while in this case Chiarella did not owe the duty to anyone except indirectly to through his employer to the acquiring company! There was no trust and confidence. D made only $30k and he was not a sophisticated trader but anyway the SEC opened an investigation where D. D also got convicted under criminal charges under Rule 10b)5) which is the first criminal prosecution in history of the U. 1980 Facts ± Tender offer stuff going to a. you cannot affirmatively lie to people * This is a civil action brought by the SEC unlike the previous private action case. share price of the acquiring company goes up so that¶s why it attracts scrutiny by the SEC and others.e. Call: option to purchase stocks at a fix price for a limited time period. Shows that the breaching party has to breach a duty between the insider and the trading partner Famous for undercutting the parity of information concept in TGS * Tender offer (we¶ll cover in detail later in class) is invitation by a bidder (tender offerror) to shs of the target company to submit to tender their shares for purchase by a bidder at a specified price. i.e. D was a blue collar guy and had fewer resources to defend himself like other CEOs etc«. D figures out what the offer is. D: press release was not really deceptive and such deception if existed was not in connection with purchases with the stocks since «. Rule ± Need a Duty to violate. D bought and later sold at a higher price shares. Mergers are often friendly acquisitions but tender offer does not have to since there¶s no requirement of friendliness with the board of directors.e.e.S. between the D and shs of the traded company (no fiduciary duty). i. which company is going to be bought. have to have a relationship of trust Court said that Chiarella had a Duty to his employer.Current policy is that an insider trader violator need to pay back three times as much as profit that person gained. i. D mislead press release. Later. his conviction is overturned but he still is in personal trouble by paying his lawyers. O¶Hagan. i. i. not to the acquiring company. the company that is buying the shares. y y 10-14-2010 Chiarella v. Right at the announcement of the offer.

e. i. at a specific time. I¶ll sell stocks at a specific price. One of the reasons some people objected to this decision was the fear that in essence it was criminalizing a workplace rule. if you then trade on that info then its misappropriation 2) If you have a pattern of trading with your best friend 55 .e. not to mergers) Does not apply to other sensitive information such as drug approval SEC enacted this to overcome the ruling of Chiarella Ginsburg takes a very broad discretion approach to SEC¶s ability to bring such an action Two new ways that the SEC is trying to close down loopholes 1) Rule 10(b)(5)(1) ± responded to an argument that said that SEC must show that the D used the info not just that they had the info. to the company.e. 1. Buthtis is very narrow. Some affirmative defenses to exist 1) If an individual has a trading plan. Only applies to tender offer (i. Rule ± Analysis ± Classical theory arises from Duty of insiders and their agents (temporary fiduciaries) Misappropriation theory o Fraud is committed when a person misappropriates confidential info to trade thereby breaches his duty of loyalty and confidential to the principal by removing form the principal exclusive use of that info  Duty is to the sourse of the information. Not triggered till Offerror has to have taken substantial steps (which is defined pretty broadly). but says that he misappropriated ± saying that you owe a duty to the source of the information.e. and the acquiring company. So here D owed a duty to the law firm and to the acquirer. it would not be unethical and not illegal. sweeping because it dispenses with the duty requirement i. i. This rule specifies 3 situation where the person has a duty of trust 1) If you have a contract to keep something secret.e. Responded to the Chessman decision 1. nto to a trading party o Security must be bought or sold y 14e ± Pg 495 o Applies to tender offers o Only for tender offers o Offeror must have taken substantial steps to commence a tender offer o Applies to anyone in the employ or an agent of the Oferror o No duty requirement Holding ± a O¶Hagan owes no duty to Pillsbury.e. i. has to set the date and the amount traded 2) Rule 10(b)(5)(2) ± About more informal information.Facts ± D firm reps a client who was planning a tender offer for Pillbury.e. a separate section of the exchange act i. Rule 14-e i. D buys shares in Pillsbury. info that you get form family. duty with either the source or the trading partner. That kind of information can allow a cause of action under misappropriation. the target. not 10(b)(5) this is a specific section dealing with tender offers 14e-3 ± y y y y y y y y Forbids trading. He was also was embezzling money from the clients and firm.e. No if he had traded on this information and told his fellow partners. Court says that there was no Duty to Pillsbury. Makes it clear that just possession of the Insider trading info is enough 2. i.

about Rule 10b5-1 MINE: Hypo: if a second patient eavesdrop info from the first patient and the doctor and subsequently trade on that info.e.e.3) Duty exists when someone gets certain info from a spouse. the fraud does come to light. which can be overcome by showing that you betrayed your family all the time) * The D did not owe duty to the target corporation but to his client s corporation! The prosecutor would rely on both 14e)3) and misappropriation in prosecuting the D. see if it fits classical test first! Hypo 4 ± Shrink is treating a Ceo. i. before he got the news! When its insider trading. Usually people look at prong a and c for prohibitions 2) Misappropriation comes from the Exchange Act section 10(b) became the SEC promulgated rule 10(b)(5) 3) SEC Rule 14e-3 comes from Exchange act Section 14(e) and was a response to the Chiarella case ± tender offer. Bill does nothing and then sells the stock. 4) Tipping So if in an exam she will say a SEC rule and we have to know what rule is implicated . no violation under the classical theory. and Alice studies data storage. the only affirmative defense is that he had a premade plan to sell. . and she has decided that Company A is well positioned to receive a large K in the near future.498. do a step analysis where you go down number 1. set amount to sell on asset date. parent or sibling (this is a presumption. also note 10) on p. and the Ceo gets comfort and session. I. If Alice buys the stock and the company gets the deal. will Alice be censured? Answer ± no. Also p. per the classical theory Hypo 3 ± Officer Archie on a public company tells Bill that the company has falsified its financial statement. theories of Insider Trading coming from Rule 10b)-5): 1) Classical theory comes from the Exchange Act section 10(b) became the SEC promulgated rule 10(b)(5) 1. the second patient is not liable under the classical theory.494. and he does not own a duty to disclose or abstain « A priest owns the same duty like a doctor like a psychiatrist! Hypo 1 ± Company in data storage.then 4) timmping. classical theory. child. those people are just treating «. like a lawyer or doctor. as she has no duty to anyone. nor has she misappropriated the info. and then sells his shares in the Ans ± not violating Classical theory since he has no duty to the Company but he is Misappropriating the information per 10(b)(5)(2)! 56 .what if the Company officer does the same as Alice above Answer ± He owes a duty to the buyer of the shares. 2) Misappropriation 3) SEC Rule 14e-3.497: Rule 10b5-2 which names three non-exclusive situations.P. For the next Tuesday: problem solving day and for Wednesday Dirck case 10-19-2010 All these are rules promulgated by the SEC. He defends himself on the ground saying that he would have sold the stock for his child¶s education Ans ± under 10(b)(5)(1) he would be liable where the govt does not have to show that he traded.Keep in mind when a person is seeking help from a professional. SEC tried to extend the rule behind the classic case. The reason for the duty based jurisprudence is to encourage the kind of behavior that Alice just did Hypo 2 .

The patient then sells his share Ans ± Not under classical theory since no duty to the company. Then the fraud is uncovered. you give the tip and expect to get something later on. Discovered that it was fraud. But if it¶s a tender offer (which is an extreme example where people make most money«) then a duty is created but not for merger which is different than a tender offer! Hypo ± Cat burglar breaks into the office of J&J. Ans ± Still owes a confidentiality duty. i. o Can be the continuance of an affair Not a personal benefit y y Desire to expose fraud Analysis ±a Holding ± Question is what happens when an outsides trade 57 . but they don¶t¶ publish it because they did not believe him. and then the priest sells his shares in the stock. went to WSJ. and no misappropriation (he is just a stranger on the plane ± no mutual expectation of confidentiality). But if she does nto know where the info is coming form Hypo . But Dirks does not trade. and while looking sees a memo showing a major breakthrough and takes on his cell and orders stuff from his broker. received material non public info from an inside employee (Secrest) talking about fraud at his company. who liquidate 16 M by selling shares. 1983 Facts ± Dirks is a securities analyst. Does he have a 10(b)(5) Ans ± No classical ± not insider. no fiduciary duty to the patient 1. misappropriation Hypo 7 ± 2nd parishioner finds out from parishioner 1 and then sells his stock Ans ± No duty under the classical theory and no duty under Misap or under 10b52. and how does he know Hypo 6 ± same as above but about a tender offer Ans ± She under 14e-3 applies since it s a undisclosed tender offer coming from an employee. SEC.CEO goes to a priest tells him all the bad stuff he does. No under Misap ± No relationship or trust or confidence! * We¶ve got a handout for this class with problems! 10-20-2010 Tipping Dirks v.e.Hypo 5 ± patient 2 in Shrinks office hears the orig patient 1 telling the shrink about the stock going down. no rule 14e-3 as to tender offer. it can be a delayed benefit y Can be a quid pro quo. no history of trust and confidence. Rule ± Tippee¶s duty is derivative of the insiders duty Tippe knows or should know of Insiders breach Insider Must gain form disclosure for there to have been a breach If Insider no breach then no derivative duty Breach of Duty when there is a direct or indirect personal benefit to the insider How to see what is a benefit Was there any financial gain to secrest? o But doesn¶t have to be an immediate benefit. he does get his clients to listen to him. BUT under 10b5-2: SEC would prosecute the parishioner «! Hypo 8 ± Airline passenger leaves confidential documents while leaving and the other one picks up confidential passenger and sells stock Ans ± No Duty to first guy and no classical duty. even though there is no duty.

such as a lawyer working on the See footnote 14 for a list of people Can dirks be considered a constructive insider Footnote 14± No. only casual acquaintances so no misappropriation. and you represent the client. read p.certain specified major events in a corporation¶s life. PROXY next. so no benefit so no breach of duty of loyalty. what would you say? 1) The tipper didn¶t¶ get a personal benefit Hypo ± Barry Switzer. a football coach. Securities analysts are supposed to be independent. IS Switzer an insider or a constructive insider ± No. PROXY access new developments! I PUT NOTES INTO ANOTHER. NOTES FROM HER! 10-26-2010 PROBLEMS OF CONTROL Proxy Fights Acquisition of Control 1. Did the D breach a duty by discussing the info and gaining a personal benefit? 2. Mergers 3.get to vote only on specified topics. so no classical theory. At some point Switzer overhears the CEO say that the company might be overtaken. at a track sees a CEO that he knew. How tender offers are used to conduct hostile takeover Strategic and economic aspects of Proxy Fights Shareholder voting . otherwise day-to-day management is conducted by company . Breach of duty when there is a personal gain to the tipper 2. Did the Original tipper breach a duty by disclosing the info? a. Proxy fights for control of board of directors 2. 521-531 for the next week. after such events have been proposed by BoD (dissolution and liquidation of assets) . Dirks has no Fiduciary duty to Equity Funding Did Secrist do anything some wrong ± Court says no because he did not use the info for his own personal gain Dirks test for Tipping: Tippee liability ± 1. Did the tippee know or should have known that the info was obtained in breach of duty? Tipper liability ± 1.Secrist ± Tipper st Dirks is the 1 tier tippee Dirks is also tipper #2 Constructive insider ± Someone who get confidential from an insiders. rather than an accountant or a lawyer who is a constructive insider. INNIS. Switzer buys in. * Still a standard case. so the only issue left is tipping CEO got no benefit.vote for directors o default rule is the whole slate of directors will be elected every year 58 .changes to articles of incorporation . but rather he is a Tipee. Was it foreseeable that the tippee in question would trade? Hypo ± Your client give out a hot tip from an insider. no relationship of Confidentiality.

reimbursed which was ratified by SH.o in fact. O'Brien is using MGM resources to solicit proxies. MGM. Is this a purely power contest or is it an effort to inform shareholders about a policy dispute.5 million) Rule ± Bd.NY Facts ± Attny. homeowners¶ association? P. and new Bd. 1967 Facts ± There are two competing groups trying to win a proxy fight for the board of directors (one groups is the incumbents [O'Brien] and the other is the insurgents [Levin]). Fairchild Engine and Airplane Corp . Old Bd. Fight is not personal but for the better direction of the corporation (promotion of business policy). but generally still plurality Proxy regulations come both from federal and state law What about hold-over boards that are intentionally not getting a quorum. certain requirements ± have to have a quorum: a majority of outstanding shares that are entitled to vote (not majority of shareholders ± one vote per share (not one vote per partner. Dispute was over the benefits package for a former director. Can¶t be extravagant or wasteful Rosenfeld v. but not when it¶s a personal power struggle. but also costly o it can be hard and take a long time/ cycles of election to get control of board by voting in the directors you like o for an election to occur. 4) Soliciting proxies is a BJR issue 5) Expenses may not be excessive (as to constitute waste) and must be reasonable. companies have classified boards ± some subset up for election every year ± helps incumbent manager stay in power. 3) Fight is not personal but for the better direction of the corporation (promotion of business policy). Amounts must be reasonable Generally as a right the incumbents can get reasonable reimbursement 59 . for example. can get reimbursed for Proxies if 1) Sums were not excessive and 2) SH fully informed. brings derivative suit to compel the return of the cost to both sides of a proxy fight. got kicked out. not majority (largest number of votes.Incumbent directors hire a PR firm to help find shareholders trying to get elected on the board (because disagree with business strategy) (see Levin case below) . as trying to employ business strategy that involves a director¶s brother) Levin v. Rule ± When it¶s a policy dispute then the amounts spent by the incumbent is reimbursable. 525 PROBLEM .friendship (³soft´ conflict) doesn¶t create conflict of interest (courts say director fights don¶t involve conflict of interest. up to maximum number of vacancies)  One implication is often very unpopular directors get elected  Management will only propose slots that are open for voting  There¶s been a push to get majority voting. NY. like in partnerships) o present in person or by proxy (voter can appoint someone as their agent) o most voting is done by proxies o certificate of incorporation can increase number of quorum to 100% or reduce it to 1/3 o Voting is done by plurality.What if the decision involves hiring one of the shareholders¶ brother this is starting to look more like an interested director situation . SH can ratify this. Levin seeks a court injunction (temporary and permanent) to stop O'Brien from using MGM resources and stop him from voting the proxies he obtained and he seeks damages on behalf of MGM ($2.

i. is by giving out proposals to be included in the proxy cards o 14(a)(8) was made easy to communicate with SH. referee between SH and other Company  2 ways Company to rejects SH proposal: y Procedural defects o Must be $200 o Can¶t be 500 words o Q 2-4 y Other basis ± Q 9 o 13 grounds for exclusions  SEC referees.Insurgents get reimbursement if they win and get SH ratification (because they do not get the presumption of validity that the old boards gets) Analysis ±a Holding ± a Majority sees no conflict on interest and As a general rule. then go to a District court for review  Two categories for SH proposal y Social justice ± Lovenheim case o Brought by church group. But since courts seem to see most things as policy. so that the SH can easily understand the rules  SEC is like a referee in these proposal actions. communicate to the SH. Generally as a right the incumbents can get reasonable reimbursement Insurgents get reimbursement if they win and get SH ratification (because they do not get the presumption of validity that the old boards gets) Nobody gets reimbursed when the courts find the pmts were unreasonable SH carries the burden to show that the Proxy cost was unreasonable The difficulties of this cases. labor unions y Corporate governance o Pension plans.e.e. gives an action or no action letter y If no action letter then SH can go to the ask the commission (usually will not happen). Courts view policies that promote management communication with SH to be more important than a conflict of interest (a soft Conflict) There is an analogy to political campaigns i. the court will say that you can spend this money. i. Policy distinction. Then ask if it¶s a reasonable cost. Geddis can only get reimbursed only if the SH ratify it Federal Rules of Proxy fights y y Proxy rules are a hybrid of State law and Federal law. communicate to the populace However Dissent says that yes the general rule is that when dispute over a policy dispute its reimbursable and when it¶s over a personal dispute then it shouldn¶t be reimbursed makes sense.e. so as long as it¶s a purely a personal power contest. is run. but the court still looks at it as a policy question not a personal issue question Courts usually do not consider proxy fights to be interested director Pg 531 problem Start by asking whether this is a policy issue or a personal issue. NGO. but the reality of the situation is that its impossible to distinguish between personal v. Reimbursement (Rosenfeld above) is a state law issue Proxy statements are a federal Law issue o Need to be prepared when the are looking for SH vote o SH can have a say in the way the corp. is that it¶s about a director getting paid. Institutional investors o Tend to do well 60 .

o Eg:  Say on pay ± allow SH to have their say on the pay for peeps (execs) y Non binding ± since the BJR gives the Directors say o Improper under the law. hence Q1 says to phrase the question as non binding. Rule ± A proxy proposal need not be entered if it accounts for: 1) LT 5% of assets in the prior Fiscal year OR 2) LT 5% of net earnings and gross sale Fiscal year OR 3) Not significantly related to Issuers Business 1. but note that the old blackboard copy of the rule 14a did not reflect this and Dennis has posted a new version.e if you can show that there is a social moral. reason for your proposal. SH cannot say on things that are under the gambit of the Directors  Majority voting for directors instead of plurality  Eliminate Classified Boards and have annual elections (so that take over of companies have less of a proxy« missed this  Proposal for repeal of takeover defenses  All proposals are non-binding. by allowing special interest or a single interest D¶s Discourages innovation and risk taking on board Damages to SH value because ownership threshold is too low and Holding period too short Distractions to mgt team Nominating SH don¶t have a Fiduciary duties to corp and to other SH where as directors on nominating committees do 61 .e doesn¶t¶ have to be exclusively economic. Can Consider ethical and Social significance f related to the Company¶s business Analysis ±a Holding ± a Court agrees with him under rule 5.htm 10/08/09 SEC RULE 14a-8(i)(8) overruled the AFSCME case. relevance. wants to include a proposal to have the corp. ie. For Wednesday Review AFSCME case and read the SEC summary for the proposed Rule 14a-11 www. And that is one of the reason there is a new rule proposed which we will be discussing today Proposed Rule 14a-11 Pros . i. and the new rule allows true outsiders to have a chance Decrease proxy fights since now you¶d have the 3 or 5 percent Increase SH voice. level playing field with respect to costs Limited to substantial SH and 1 year holding requirement ± restrained approach Increase board accountability May help minority SHS Cons Impedes proper functioning of the Bd. Is still the general rule i. study the use of pate making methods. because it is deemed otherwise significant.clubbiness among Nominating committees. the fact tha tits part of a small portion of the corp¶s earning.gov/news/press/2009/2009-116. SEC goes against him since not enough economic effect. Iroquois Brands Ltd. i. Facts ± P.e.SEC. it will not be excluded. Lovenheim v.

Using NY Business law 1315.35M shares and requeste list. Honeywell. AFSCME sues seeking court order compelling AIG to include the proposal Rule ± A Sh may not ask to include proxy information relating to election. proposed a question for the AIG proxy statement that would change the bylaws to allow shareholder nominated directors on proxy statement in certain circumstances. Bubkiss says D as not proper purpose Rule ± When State statutes require proper purpose. Pillsbury v. records dealing with weapons and munitions Rule ± Analysis ± Holding ± SH can get access to the SH list and the Corp has the burden to show that the inspection is for an improper purpose for Inspecting a SH list 62 . stock. P against the war and wanted to stop the production of the munitions so buys 100 shares to influence D¶s Affairs by communicating with other SH. Inc. D offers to mail the prospectus for P. Anaconda . places a tender offer for Anaconda. Division issued a no action would be taken by SEC. but charging bylaws to establish a procedural by which SH nominated candidates does not fall within this rule Analysis ±a Holding ± a NY statute on Pg 558 Pg 555 Problems 1. P. Honeywell. cannot be inside directors * the Dodd-Frank Act has changed the balance of power between shareholders and company management by providing a process in which shareholders can require the inclusion of their nominations to the board of directors in proxy statements in the form of new Rule 14a-11 pursuant to the Securities Exchange Act of 1934. Exclude it A.NY Facts ± Crane. Plus it also says that the company shall produce. Inside council will say that this violates inside strategic decision. filing an affidavit saying its request is for a proper request. ± No because you have to propose that the SH recommend this does not do that B. so is it okay under state law? Crane v. and corp. D. P. P wants list for a targeted tender. AFSCME v. NOMINATING DIRECTORS have to be outside directors. P owns no shares of Anaconda. Facts ± D.Encourages investment in companies by holding board accountable and facilitates the ability of SH to vote poor Directors out of office. 220 to demand the shareholder ledger. produced munitions for the US government used in the Vietnam war. AIG Facts ± AFSCME. the Honeywell case Have to declare that it¶s not soliciting for an improper purpose Court equates the economic welfare of the SH with that of the State ex rel. the desire to take control the company is a proper purpose Analysis ±a Holding ± a Internal affairs rule does not apply when the NY state has a law allowing its residents to file such a Don¶t¶ worry about the NY business law statute just the one on pg 561. D refuses. P buy 2. P requests D's SH list. AIG asked the SEC whether there would be any action if they excluded the proposed question under Rule 14a-8(i)(8) (related to an election). Probably okay under Lovenheim C. Used DE statute Sec.

and Signal¶s CEO. This is so as its disruptive to the Corporation. It then elects 6 members to the 13 board members for UOP. but can¶t be improper (steal trade secrets) Note that an improper means harmful. and the secondary purpose can be neutral (social conscious). ± De. and Planning VP to work up numbers to see whether they will buy the company.5% of UOP at $21/share and this is oversubscribed since the market price is $14. All three are Directors on UOP. 1983 Facts ± Signal tenders an offer to buy 50. There are other merger techniques which we¶ll discuss them in probably less extent. and after UOP¶s CEO retires. see section 255). then let the SH have the list as saying that Proper purpose has to relate to investment returns.e. Alpha who needs to approve y y y Freeze out merger ± y Done as a two step process o 1st ± tender offer to gain more than 50% of the target company o Cash out merger where the remaining SH gets cashed out Weinberger v. Triangular merger: Consideration like cash or « forward and reverse triangular merger (just a formal difference). for corporation in De. They come up with a number saying up to 24/share would 63 . UOP Inc. two main points of this merger is to limit shs votes and to limit liability by the Alpha company since a new entity Shell would assume all liabilities of Beta corporation in forward merger. Freeze outs * Classic merger (aka statutory merger. economic returns must the primary purpose. i.e. i. Look at the notes at Innis Traditional/Classic merger! It requires most work for the lawyers under classic merger. Plus there are confidential business records But for the list of the corp. we need as lawyers to look at constitution of both corporations. Two years later Signal still wants to invest and settles on taking over UOP. ask its CFO. i. chooses his replacement.e. For a merger need the following y y y y Need a plan for executing the merger (articles of merger) o State the consideration for the acquiring amount Plan must be approved by the Bd of each company Plan must be approved by the SH of each company o Done by submitting a proxy statement File the articles of merger with the appropriate State companies Note that this is very similar to the formation of a corporation Triangular merger This is a 3 way merger Alpha creates a shell which o If shell merges with the target and the shell disappears its called a reverse merger o If target merges with the shell and the target disappears its called a forward merger Don¶t¶ have to deal with the Alpha SH. The point of this merger. not that it¶s not proper1 11-2-2010 B.SH can get access to the records and the list SH has the burden to show that the inspection is for an proper purpose So harder for SH to get books and records than SH list. shell is a company or corporation that exists without assets or independent operations as a legal entity through which another company or corporation can conduct various dealings. don¶t¶ need their approval o Shell has only 1 SH. Freeze out is usually two step acquisition (we¶ll see in Weinberg).

financial statement. but it was hurried o Most imp the price of 24 was withheld o Fair price ± economic and financial considerations  Must include relevant factors of y Assets y Market value y Earnings y y y y y 64 . does not object. Merger ratified in Sh meeting 2. y How negotiated. they are held to a std of utmost good faith and most scrupulous fairness of bargain Fairness has 2 aspects which must be examined in whole.be ok for Signal. and budget info and the Lehman study. and gets Lehman Bros to do a feasibility study on the price but only gives them 4 days to do the study and they come back with price of 21. burden shifts back to P to show that txn was unfair to minority y However the party relying on the vote must always show that the Material facts were disclosed y Remedy per DGCL §262 Analysis ± y y Primary reason to find against D is that the CFO report was not disclosed to UOP and only used for the benefit of Signal o The diff in price between 21 and 24 was 17M to the minority If UOP had Fully disclosed everything they would be ok or if UOP had appointed its outside directors to have an arms length negotiations with Signal this would be strong evidence of fairness. not adequate) of material fact is required. y How disclosed to directors y How approvals obtained  Includes Duty of candor  Imposed on non officers who are privy as well  Application to this case y How did merger evolve o Totally initiated by Signal under strict time constraints. but they tender offer of between 20-21. CEO of UOP. mkt price info. or other misconduct showing unfairness st y 1 P must show some basis for invoking fairness doctrine y Then Majority must show via a preponderance of evidence that txn was fair y But when ratified by majority of minority. y How structured. UOP Bd. signal could nto escape because their directors did not totally abstain When Directors on 2 bd. considered the proposal. At 21/share. rest of Bd. Misrep. and Material fact is defined as information as a reasonable Sh would consider important deciding whether to sell the shares Since no Arms length transaction. Rule ± In a freeze out merger P must allege specific acts of fraud. but in a non fraud case the price is the preponderant consideration o Fair dealing  Issues of: y When Txn timed. Approves. but not the Signal CFO study. especially in a parent ± Sub context Disclosure (complete. o Structure set up by Signal with no negotiations o All conflicts resolved in Signal¶s favor o Minority given impression that Lehman study was careful. y How Initiated. Crawford.5 mos later with 52% of minority voting for merger. Signal¶s Directors Abstain but say that ³they would have voted yes´.

Should have 1) Used arms length bargaining. 2) Keep Signal people on UOP board out. Legal standard being applying is the duty of loyalty Test is: 1. but can use other generally accepted techniques y 8 DGCL 262(h) says Fair value to be determined all relevant factors except the result of the merger y Fair value includes any damages o Damages ±  In case of fraud Chancery has full discretion and can use: y Equitable y Monetary y And Recissory damages  Should be based here on the fair dealing and fair price ± So what are damages in this situation? o Business purpose test is not to be used Holding ± Finds for P Signal wants to buy out the rest of the SH because then you don¶t¶ have to deal with the SH. rushed bargaining. Weinberg: UOP 7 out of 13 board members controlled by Signal since they acquired 50. Hypo . Candor b. i. and 4) Hire an independent Investment Banker and give them time to do a thorough study and Independent Counsel 5) Have a vote and make sure that the Sh know everything that the UOP directors know. i. plus candor since material information was not given) i. Fair Price i.e.5% of the UOP shares but wanted to get remaining ones (49. Fair Dealing (Signal Flunked the fair dealing part. would that have won the case for the Signal and UOP directors? ± No that just shifts the burden onto the plaintiff. but it would still be a conflict of interest (band-aid solution) * Classic and statutory merger and triangular merger we ll talk and then Weinberg case. decision. Fairness a.y Future prospects y Anything affecting intrinsic value of stock  Valuation method used need not only be the Delaware block or weighted average method.5%) in the absence of any other investment opportunities 65 . The question is. isolate them from the txn 3) Independent committee to study the offer and give them all the resources to negotiate. No specific method.If report had been disclosed in Weinberger (as the most glaring thing that was done in this case). would the price fail the fair price analysis? But there was no negotiation. 710 2. their annoyance. You owe no duty to them and can do what you want to.e. Negotiating ii. it only shows that it was a right price. They do owe loyalty to both Companies and really should have recused themselves 3. but use whatever method is available Questions Pg.

how far can the managers go to resist 4) Should directors be able to consider the interests of non SH stakeholders (anyone that is affected by a corporation like the employees¶ families.e. Consider Motives of looter for the benefit of the creditors. Problems p. but there are some small exceptions (will discuss next week) The proper role for Corporation in US society under the three theories: 6) Aggregate Theory (focuses on corp. So Signal made an error by assigning Arledg-Chiritea (members that sat on the both boards) to do report. not the SH in general. were basically entrapped.e. where the corp is allowed to balance the interest of the SH and various other entities (workers. Thu: 755-766 (Revlon) 11-3-2010 TAKEOVERS The Fiduciary duty of care and loyalty are the bedrock of all Corp law. 2) hold out for a higher bid. For Wed: p.at the time. should be with the state legislature to enhance the general public welfare (including SH as a constituency) 8) Real or Separate Entity theory ± The Corp is a separate entity controlled besides shs and« also by the BD. as property owned by shs) ± Maximize profits 7) Artificial Entity Theory (corp. loss of political and social capital.e. i.733-755 (Cheft + Uncal). 4) psychological self interest: ego ± being in control. Should the response to a takeover bid be a decision for the board of directors or for the SH? Delaware courts have looked at this more as an issue for the Bd. community. conflict of interest. 2) look above also. 5) 66 . can take without violating their duties to existing SH Questions to consider when looking at such decisions. question of ethics which the Court seems to care about. customers etc« anyone who is affected ± holistic approach) When we talk about takeover law we¶re talking about the law of takeover defenses. P. customers. family or similar kind of sentimental attachment. they spent their whole lives building the company and don¶t¶ want to let it go 4) Watching out for other stakeholders (employees. creditors. creditors) 1. 3) financial interest: self-interest (incumbent managers can be pushed out by new guys) ± outside directors fees perks while inside directors compensation.e. and others) and to what degree and under what circumstances Why Directors might want to fight 1) The bid is too low 2) They want to keep their jobs 3) Pride of ownership issue.e. so they. i. protect the creditor. Signal. suppliers. should the courts apply the BJR or the fairness standard or develop some other standard? 3) What types of responses of strategic responses are proper. i. (i. as creation of state)± State has the power i.710: 1) there is no duty to maximize price for the shs but there is a duty of loyalty. Corporate law is the balancing the need to protect the Directors authority and it hold them accountable. * Takeovers defensive action occur because: 1) policy change not in interest of corp. what kind of defenses a Bd. 1) Is there a conflict of Interest between the SH and the incumbent managers in a takeover context 2) How much discretion should the Courts give managers in deciding whether to resist the takeover. i. residents.336 in E&E good! Entire Fairness test: fair dealing and fair price.e.

y Procedure for conducting a tender offer. improper as to perpetuate themselves in office. Note that Maremount tender offer never really got off the ground Greenmail ± When a Company purchases back the stock owned by a potential acquirer. 10) environmental concerns as to harm to community affected by a takeover. should the courts apply the BJR or the fairness standard or develop some other standard? ± Court here says: y There is a conflict of interest but not as high as self dealing. Williams act ± regulates tender offers? 4 elements 67 . acts solely to perpetuate itself in office then the use of corp. i. Company sales had been going down. Maremont. 6) fear of liquidation 7) concern for employees. . has burden to prove that there was reasonable grounds to believe that there is dangerous grounds to see a danger to corporate policy  Satisfied by showing good faith and reasonable investigation o Once this above threshold is met then the BJR applies ± the test is called a Threshold BJR o If you cannot meet the threshold then it¶s the inherent fairness std. (i. Rule ± If Bd. * Publicly traded company where shares had Maremont and his wife. Holland defended by saying that they had a unique Business model and Maremont would ruin their company. 8) hurt to managerial reputation. acts on sincere belief that buying out dissident SH is needed to maintain proper business practice. wants to takeover Holland Furnace Company and change its sales policy. How much discretion should the Courts give managers in deciding whether to resist the takeover.e.e. 3) and 4) do not seem like Court would justify. y But if Bd. Had the Court found a hard core financial interest than inherent fairness standard which did not happen here but BJR.national interest: concern re country of origin. 1964 Facts ± Takeover dude. Derivate SH suit seeks to bar the Holland repurchase of Shares owned by Maremont.Revlon duty « Cheff v. 9) procedural change not in best interest of corporation. the board is not liable. funds is improper y Burden is on the directors to prove that the purchase is in the corporate interest o The greater the ³self dealing interest´ of a director the greater the std of proof required of the directors to show their good faith and reasonable investigations  Honest mistake of judgment is reasonable at the time of the decision is ok  Pecuniary gains to be considered material  Just being a substantial SH is not enough of a gain since all SH would share the benefit of going to the Substantial SH y Buyout premium price is ok since attributable to control premium y BD actions which show its good faith and reasonable investigations: o Direct investigation o Receipt of professional advise o Personal observations of Maremont¶s actions and explanation of corporate purpose Analysis ±a Holding ± Finds for Bd. the company had branches in many states. at a premium over market. so the fairness test will not apply o Yet there is a conflict of interest y So their test is to see if there was: o Bd. Mathes ± De. Directors believe that its sales policy is good and decide to buyout the shares from Maremont at a premium over market Price.

who owns 13% of Unocal. 1985 Facts ± Mesa. a. absent abuse of discretion. and during that 10 days you can still continue to acquire shares 2. A reasonable Directors analysis of the threat can include considering: 68 .No since you¶re buying as a group 3) Can Freddy file his offer on Friday noon. Result . b. The source of their funding. which was substantially subordinated. must be Reasonable in relation to the threat a. The outside directors meet as a committee and recommend to the Bd. . which would i) bar Mesa from getting this and ii) that the tender would only kick in when Mesa had bought his first 50% of shares. with 8 outsiders and 6 insiders meet and get presentations form Goldman Sachs.OK as long as he files within 10 days 2) Can Freddy and each of his pal buy 4.1. Anyone making a tender offer must file a disclosure document (this is expensive to do) which reveals a. De. Acquirer must hold the tender offer open for 20 business days and any one who tenders may withdraw their stock during that period Hypo ± Freddie wants to make slasher movies and wants to acquire a chainsaw company 1) Freddy secretly buys 40% of Texas chainsaw. After acquiring the 5% the acquirer has 10 calendar days to give notice. then they change it to say that they will buy 50M in shares anyway. and accepts stock on a first come first serve basis ± No. makes a 2 tier front loaded tender offer for Unocal at 54/share in cash for the first 37% and Junk bonds for the last 50%. Rule ± If Disinterested Bd. must raise it for any stock already tendered (stocks already received) 4. Bd then meets a week later and approves a defensive buy back of shares at 72/Share. before filing with the SEC. acts in good faith. Unocal¶s Bd. Analysis ± 1) Does the Board have the power to take this defensive action? 1) Board has power under DGCL 141(a) ± to see to the Business and affairs of the corp 2) Board has power under DGCL 160(a) ± to deal in its own shares 2) Thus the directors can selectively purchase shares as long as it is not done to entrench themselves in office. to reject the Mesa offer but do not suggest any defensive measures. The identity of the purchaser and c.. Mesa Petroleum Co. that the company is worth at least 60/share. And can Discriminate against a shareholder in carrying out a reasonable corporate policy. What the acquirer plans to do with the company 3. has a burden to show 1) Reasonable grounds for thinking that there was a danger from the takeover 2) This burden is satisfied by showing good faith and reasonable investigation 3) This is enhanced when outside directors act per this std 3) Defensive measure to come within the BJR. and keep it open till Monday morning ± no since he has to keep it open for 20 days 4) Freddy only wants 51% only. Bd gets BJR as long as Conflict of interest in a case where there is a conflict of interest Bd.99%. Anyone who singly or as part of a group acquires 5% of a stock of a company must identify himself with the SEC (to prevent the creeping tender offer as Maremont was doing in Cheff above) a. They finance the company. its decision will be upheld as an action in good faith and gets the BJR. Acquirer who raise his price. and makes the company less desirable. you have to accept shares on a pro rata basis. 5) Start with low price then raise the price ± yes he can do that but then has to give the same price to everyone Unocal Corporation v. Mesa sues saying that Unocal¶s mesa exclusion violates its fiduciary duty to Mesa. and with due care.

Did the Directors have reasonable grounds for believing a danger to the corporate policy existed? a. Allowing mesa to participate in it would subsidize his effort to buy at 54/share b. for takeovers!! IRS has taken away a lot of defensive measure: Greenmail taxed at 50% Poison Pill ± most popular defensive strategy is the one in the Revlon. It¶s extremely effective measure. generally in business or politics. since still need reasonable in relation to the threat 2) Skip 3) Yes they would since directors can look at other stakeholders and the threat posed to them.1) Inadequacy of the price 2) Nature and timing of the offer 3) Questions of the illegality 4) Impact on other stakeholders such as creditors and customers 5) Risk of non consummation 6) Quality of securities offered b. Mesa was engaged in greenmailing (two-tire offer«). fit in the class of SH being protected form its own coercive and inadequate tender offers 4) Selective Repurchases have been authorized before. ³Self-tender´ offered by the corporation. If Ds show 1+2. then. D satisfies 1) by showing a) good faith to protect the corporate enterprise and b) reasonable investigation. death security «. Poison pills is a term referring to any strategy. said that its specific objective was to defeat the inadequate Mesa offer and if it worked to provide its SH value at 72/Sh in senior debt 1. discriminatory nature against Mesa: it¶d only be offered others excluding Mesa and only if Mesa¶s offer goes through. the corporation bought 50 mil shares at $72 incurring large debt while Mesa was not able to afford to buy at that price and Mesa sued claiming a breach of fiduciary duty by the BD since Mesa is a sh ± breach duty of loyalty (the company picks its favorites) in this case (the other duty is duty of care which is not the case here). Did they conduct a reasonable investigation B. Mesa¶s Participation would thwart these goals as: a. 2) Responsive action is reasonable in relation to threat posed. Two tiered offer ± has a front end and a back end 69 . Analysis Pg 755 1) No still get judicial review. Mesa cannot. the point is that shs would stop selling at $54 hoping they¶d sell it to the company¶s higher offer $72 but «. to increase the likelihood of negative results over positive ones for a party that attempts any kind of takeover. Were they motivated by a good faith concern for the welfare off the corporation and its SH b. by definition. then BJR. Here the threat was that 54/share was not enough 1) We know 2 tier offers are coercive 2) Plus Mesa dude is a known greenmailer ± as found by the TC 3) Bd. Were the Defensive measures reasonable in relation to the threat posed C. If you satisfy this then you get a BJR Here they held the good procedural steps in addition to doing all the step above * UNOCAL TEST: for defensive measure (as basic test which is still valid today as to takeovers): Threshold showing by Ds: 1) they have reasonable grounds for believing there is a danger to corporate policy and effectiveness. this is just the first time that we¶re applying it to a greenmailer Holding ± a Enhanced Scrutiny ± Unocal test A. as compared to the greenmailing which is not.

P ups its offer to $47. then buys up 10M shares by issuing notes. Revlon can buy back the rights at 10 cents a share. TC for P. P. then says that it¶ll bid a fraction more than D2. Bd. meets and rejects offer after getting advise from I Bank that $60-$70 was a better price for the company in pieces and mid 50¶s as a whole. D2 intends to sell off the company. makes hostile offer for D. Ended up buying out the rights. Authorization to look for another buyer y At the $53 a share offer it was obvious that the Bd was up for sale At this time the Bd. Forbes Holdings. Action not to get the same deference as since the majority of the directors are not outsiders. and ii) consideration of other stakeholders is to be done to the extent that it is rationally related to the Sh value Analysis ± Bd. leaving 2 independent Bd. Then the creditors threaten suit against Revlon since they are breaking their covenant. 1985 Facts ± Pantry Pride. Consists of 14. Terms are $56/Sh. 2 significant stockholders. The Bd. whose rights are fixed by contract. at $45. but different in amount or quality of security tendered.Front end ± usually a tender offer Back end ± Same money. 10M Share repurchase y y Bd Acted in good faith when it said that the P offer of $47. D2 agrees to final deal with Revlon at 57.5 was inadequate and its responsive defensive actions were also reasonable Decisions after $53 Pantry Pride offer and Bd. duty changes form preservation of a corporate entity to the maximization of the value for SH o Directors are now to become auctioneers charged with getting the best price for the company Lock up with D2 Fortsmann y y y y y y Directors made support of the Notes. upon advise form Lazard y This was done to protect SH from a takeover at a price below market y These seem action done in good faith and upon reasonable investigation y All this made moot by the fact that the Bd. 4 with Business dealings with Revlon. with 6 Snr managers. Bd.25/Sh with terms: i) Discounted price on a couple of units of Revlon ii) No shop provision iii) 25M cancellation fee iv) Notes to be supported by D2. P increases Offer to 42. and covenant that Revlon with not incur more debt.50. is reached. Bd. P increases bid. D takes defensive measures and repurchases 5M shares of its 30M outstanding shares and issues Note Purchase Rights (³Rights´) that let SH trade shares for 1 note with $65 face value. Revlon to waive Notes covenants. Found that the $45 was inadequate. as a price for a ³bust up takeover´ (buying and selling the company for its parts). authorizes negotiating with other peeps and deal with D2 Forstmann. Rule ± i) When a company is being sold for its pieces the fiduciary duty of the Bd. as they were subject to a suit by the Notes creditors. Rights plan Main point is whether the rights action was reasonable and what was its purpose Bd. agrees to the deal. Inc. Rights become active if another company buys more than 20% of the shares but at lower than $65/sh. Revlon. over the Sh. Management will buy shares using their golden parachutes. an integral part of their deal with Fortsmann Selective dealing to fend off a hostile bidder is not a proper objective when the company is being broken up Revlon cannot show good faith by preferring the Notes creditors. D Bd. P sues to enjoin the deal. usually a cash out merger Held t Revlon v. sell assets or pay dividend unless approved by independent Directors. ± De. members. to whom they owe a duty of Loyalty Consideration of other constituencies is inappropriate when company getting auctions 70 . Earning 12% maturing in a year. is ensure that the Sh get the max money.

e. Think of joining Warner.760 to 766). i. with a modern Board. Defensive measures set up. to present its proposals directly o Favoritism to a White knight is ok. but then it doesn¶t pan out because of tax consideration. Time Incorporated. Finally work out a deal that the Warner CEO will leave in 5 years.Note holders were ok. we¶ll know more about cases coming up. i. saying that the 175 is inadequate and as disturbing Time¶s culture. not those that end an active auction y No Shop Provision is not per se illegal o Not permitted when the Bd. i. including i) automatic share exchange (kind of like a cancellation fee.e. when fending the corp.465 giving 62% of the New company. not when its being auctioned off. assume affirmative duty to find a better buyer? We don¶t know «. Then Paramount comes in with a bid for Time at $175/share contingent upon cancellation of the Warner merger. Del 1989 Facts ± Time.e. Time only wants to merge with Warner if it can maintain Board control as a way of mainlining their journalistic integrity. make it impossible to take over the company. there would be no need for SH approval. These are the most difficult cases to understand so pay close attention. Court doesn¶t¶ really say when a bust up becomes inevitable. * How did it change BD duty ± part II and III or the Court¶s argument (p. Poison pill here is mute because « What does maximizing price mean? Should Revlon be passive. just that it occurred here. Unanswered question form Revlon y 1) When does the auctioning duty come into play? Is it when the company is put up for sale? Answered in the next cases 2) What does maximize price mean? ± Does it mean that the Revlon Management just steps out of the way? More than 30 states have rejected the Revlon holding that it is inappropriate to consider the interest of non SH stakeholders when there is a CIC. heavily outside directors. wants to expand into entertainment. The other issue is the share trade price with Warner hoping for a . Now defensive measures put into thwart Paramount such as it¶s two tier securities and cash acquisition (Since its not a takeover. I. Both boards approve the merger.e. a journalistic public company.e each company can take advantage of an increase at price.793 Paramount Communications v. Time board sends a strongly worded letter to Paramount. Paramount raises its offer to $200. since they were accepted by creditors on an understanding that covenants could be waived if there was a purchase of the company at a fair price y Lock up not per se illegal o Since ³white knights´ will only come if they get some compensation to cover their costs o However lock ups that draw in bidders (when the company is being auctioned) are ok. They create a committee to consider corporate strategies in the 90¶s. but the Time Bd. Rule ± a Analysis ± 71 . no new stock being issued which would require Time¶s SH approval. it¶s not a defensive strategy that is pushing people away form a deal. The fear being that the Sh would prefer the $175 deals from Paramount hence veto the merger). Proportionality test ± Was the defensive measure a showstopper. Holding ± Finds for P Point of a golden parachute is to incent the managers to be more neutral in the case of a takeover.45 per Time share. rejects it saying that the Warner merger gives it better value. Time wanted to do all cash or a cash plus securities deal (makes it clear that Time is in charge). End up getting . but a merger for cash.¶s duty is to sell to the highest bidder y Fortsmann was dealt with preferentially throughout the entire deal and given all negotiating advantage  Cooperation from management  Access to financial data  Access to the Bd. In this case the rights offer was such as to raise the price. FOR TUESDAY through 776! And then Paramount case 776-790 and then from p. hence want to look for potential partners. i.

Holding ± a y First the Board of both companies have to merge. since there was no shift in control as the market. full board and shs of both companies must approve the deal (proxy. after the Paramount offer was revealed. cashout merger: no-cash securities at $70 (it¶s not coercive unless for example it¶s backed up with junk bonds with so-called faced value).Time recast its offer from stock to stock offer to first 51% cash for shares in the rest. i. Take home message . and Revlon duties attach. Paramount bid at the last moment was poor. there is not change of control in Time because 62 % of those people are unaffiliated with each other (there are many of them) which was before and after the merger as the same and therefore no Revlon duty for the Time board. millions of shares publicly shared. Warner is a better fit. in addition the response to the treat was not coercive even though shs deprived to vote but in fact all defensive measures do not preclude Paramount to buy both Time Warner (which was insane at the time because the new merged entity was colossal). Warner shs have to vote and Time. and if one of the management is being forced out. 62% of shs became in ownership by the Warner shs. pre Paramount Bid and post y Pre Paramount Bid o Court applies the BJR y Paramount Bid On o Court acknowledges that the Bd found that the price was too low. and also the price was inadequate with all which the Court deferred to as well. then Revlon case kicks in: even though 62% of the merged company would be owned by the Warner. the Time shs needed to be asked for the merger! But under the second offer which eliminated stock offer also eliminated Time shs approval! BJR gives the Time board discretion to maximize profit for shs. . was fluid and un-aggregated y Del SC agrees but adds: o Revlon duties are triggered when  Company initiates a bidding process for itself. or a bidding break up  Or if in response to a takeover it abandons its long term strategy and seeks another transaction seeking a break up Unocal claim ± Broken up into two pieces. Unicon rule would apply besides BJR for the Court! Paramount offered went up from 175 to 200 dollars. was trying to protect them. journalistic heritage. where Warner shs would own shares of Time but New Time would be a wholly-owned subsidiary of Time. then its like the company is being sold. second tier. Total Shift in control can be seen as a merger however when a Smaller comp is bought out. Time created New Time where Warner would merge as a triangular merger. will vote for approved merger. informing shs). 72 . although not a constituent party is a sole shareholder of New Time.As a general rule an agreement for a stock/stock merger for 2 public companies pursuant to a strategic plan do not trigger Revlon duties to maximize returns to SH. Unicon argument: the board was right that the offer was a treat to the company¶s effectiveness and ignorance of the benefit of the merger etc«. So the Bd. clause: no shopping around while the merger is ongoing (negotiation with companies C. * Pretty independent board with 75% outside directors.465 or 3. C: something sneaky was going on since Paramount offer came two weeks before the shs approval after merger negotiations has been ongoing for 2 years. C: before Paramount.P Revlon argument ± Since time was up for sale when it i) 62% of the combined company going to the WB ii) Discussions with WB was outing it up for sale Ch court rejects that there was no CIC. Time would incur in this case billions of dollars of debt.e. Time shs would not be able to vote for the merger (billions of dollars) but because Time issued huge amount of new stock. Paramount came with an all cash offer only for Time which is $50 more than the current market price. the world of Unicon two prong test kicks in ± tow separate suits: Time shs since the think 200 dollars was a good deal and the Paramount suit. «. after the merger. under the first stock-for-stock option. when the SH have the proxy votes and trying to vote.3% more than «. so the first prong was satisfied. Time worth almost twice as much as Warner but offered to give . Time: company¶s culture and integrity. no takeover and no conflict of interest so BJR governs even if the merger turns out to be disastrous. D etc«) ± typical in these situation.

14 if no merger at a set price o Includes a Put feature letting Viacom Sell to Paramount the 20% at Market collecting a profit of the diff between Market and Put price o No max amount set hence profit to Viacom form Put could reach unreasonable levels QVC tenders for $80 a share. Viacom ups its 2 tier to $85 and QVC then to $90.. Diller wants an auction process. Paramount studies and then wants a merger with QVC. Para does a due diligence by seeing which company makes more sense for it to merge with. QVC wants to buy Paramount. 790-793.P. Paramount and Viacom do due diligence including Lazard for Para. QVC then files an action enjoining merger with Viacom and gives a 2 step tender offers with 51% at cash and the second tier with stock valued at current stock price but who know what the cost will be when the merger comes through. v QVC Network Inc. Rule ± Analysis ± Enhanced judicial scrutiny triggered by: y y y y Change in control of Corp. Viacom Controlled by Redstone who owns almost 85% of the company. Term fee and Option plans not really changed. Viacom insists on: No shop provision with 3rd party offer is real and Directors have a fiduciary duty out.793-811. SKIM only Omnicare p. Del 1994 Facts ± 15 directors are on Paramount¶s Bd. which can then effectively: o Elect directors o Cause a break up of Corp o Merge with another o Cash out Public SH o Amend Certificate of Incorporation o Sell out Corp¶s assets y Once control Shifts current Sh will have no leverage to demand another control premium o Thus current Sh should get a good control premium and/or protective devices Obligations of Directors in a CIC y y y In a CIC situation Directors must reasonably get the best value possible for SH There is no blue print to accomplish this but Bd should compare the alternatives available and consider: 73 . The No shop. Para Bd. including 11 outsiders. but focus on to read cts p. Tentative agreement breaks down over price. whose effective voting position will go to Majority single entity. in QVC stock and cash.775 3): Paramount Communications Inc. decides that QVC offer not in its best interest. Viacom and Para renegotiate but only price increased to 80 in a two-tier offer with cash for the1st 51% and stock and bonds for the rest. 1st agreement is a merger with a combo of Viacom stocks and cash offered. y Adoption of defensive measures in response to a threat of a takeover Significance of a CIC Need to uphold stockholders vote meaning something o Since minority SH can be deprived of a continuing equity with a cash out merger (how does this work) y In a Viacom deal transfer will occur from a fluid aggregation of unaffiliated SH to becoming Minority SH. Trial Ct finds for QVC. 823-836 ..As a general rule stock-for-stock exchange between two public companies pursuing strategic vision or plan does not constitute sale of change of control and therefore not trigger Revlon duty to maximize « to shs! This is a huge revelation * For next Tuesday 11-16: skip pp. as QVC offer excessively conditional plus Booze Allen says that merging with Viacom better for them. Term fee of a 100M Stock Option ± Viacom can buy 20% of Paramount¶s shares at 69. but Para says its not being auctioned and that it has contractual duties to Viacom.

The defensive provisions here were bad for maximizing the value of SH. had a duty to: o Critically examine Viacom merger and QVC deal o Act in good faith o To obtain and act on material info available o Negotiate in Good faith with Both Viacom and QVC y Paramount D says that No shop stopped them from seeking alternatives o Bubkiss as any provisions that is inconsistent with a Directors fiduciary duties are unenforceable Breach of fiduciary duty by Paramount Board y Deal with Viacom Provided a modest control premium to SH Sale of CIC plus Defensive measures plus disparate treatment of bidders triggered judicial scrutiny y Stock Option plan was draconian y Term fee made paramount less attractive to others y No Shop stopped them from considering others even though QVC had expressed and interest in Paramount y QVC¶s offer gave the Directors opportunity to renegotiate with Viacom. since they had decided to sell control of the corp. Holding ± For QVC Revlon duties are triggered the moment that the Viacom merger started. y y 74 . but they didn¶t. o This arises since the deal with Viacom will shift the control to a controlling Sh Viacom Breach of Fiduciary Duties by Paramount Obligations of the Directors: y Paramount Directors.o Fairness and feasibility o Financing of the offer o Risk of non consummation o Bidders identity o Bidders business plans for the Corp and its effect on SH y Goal is always to see what is the bet reasonably available value for Sh Enhanced Judicial Scrutiny in a CIC case The scrutiny is triggered by  Threatened diminution of SH voting power  An asset is being sold (such as a control premium)  Impairment of SH voting rights o The Judicial Tests key features are:  Adequacy of decision making process  Reasonableness of directors action in the circumstances  Court should keep in mind the complexity of the directors task  Decision of D has to be reasonable. not perfect Distinguishing Revlon and TW o Revlon o Break up doesn¶t have to be present and become inevitable o Can occur when Bidders make similar offers  Then Directors cannot play favorites y Time Warner o Facts were diff as there TW would be owned by a fluid aggregation of Unaffiliated SH before and after  Hence no voting powers issue o Txn consummated was not a merger but buying of Warner y Para Misread Time Warner since maximization of Sh value duties arise in 2 cases o CIC o Break up of Corp.

i. adopts a strategy that makes the break up inevitable Protective statutes ALI¶s §602 Action of Directors that blocks Unsolicited Tender Offers a) Board can take a reasonably response to blocking a tender offer b) In considering whether an action is a reasonable response 1. not perfect) REVLON Duties to maximize value for SH apply when: 1) There is a CIC (new added). can consider matters relevant to the best interest of the SH including. to remove the pill o Dead hand pill was preclusive and coercive  Preclusive ± Added deterrent effect made takeover very expensive  Coercive ± Pill Forced Sh to re-elect directors so that they could have a Bd.e. Bd.because this is the one chance that they have to get a control premium for their shares. the Unocal test softened test 1) Adequacy of the decision making process 2) Reasonableness of the Directors actions (has to be reasonable. American General Corp.Whys is the court so tied into the CIC analysis getting higher duties? . Quickturn Design ± SC decision briefed here only y y y y y No hand pill invalidated No Hand Pill said that a new Bd. Role of the court i.e. has the burden to prove that Bd. i. but an auction is a good way. legality of offer. o Disenfranchised Sh who might want to elect a Bd. if its sold to a dominant SH (even if its an effective control. But you do have to do an objective comparison of the analysis. authority to be set out in the certificate of incorporation 75 . Toll Bros y Dead Hand Poison pills ± Pill could only be redeemed by directors who approved it Struck down by Ct as: o Per De Statutes Directors have the power to Control corp. 1995 Court Approved a Defensive Repurchase allowing it if it was not draconian o Draconian means nto coercive or preclusive Carmody v. could not approve a sale to another Corp for 6 mos ostensibly to give them time to study it 141(a) requires any limitation on the Bd. Bd. that could fully execute its full statutory power Mentor Graphics v. since any future bidder will only go to Redstone to Std of performance for the Para Directors: y Directors must get the price reasonably available So the question is then do you need to have an auction ± No since there is no Blueprint.e. Corporations economic prospects 2. Can consider other stakeholders c) A person challenging the action of a Bd.. small amount of Shares) 2) Company is put up for sale 3) When a Bd. action were unreasonable d) Directors who authorize actions under a) above are not personally liable unless their conduct violates the BJR Subsequent Delaware Developments Unitrin v.

790-793. whereby the CEO and Chairman had to agree to vote for the merger even if the bd. both shares are identical. By now NCS is starting to do better. but insist on an exclusivity agreement and lock ups in any potential transactions. Two step analysis that the measures were not: y Coercive ± Aimed at forcing onto the SH a Management sponsored alternative to a Takeover o When the Bd. v. to deal with Genesis. y y 76 . but that an agreement had to be approved by midnight the next day.5/share. but the Genesis agreement says that the Bd. SKIM only Omnicare p. but the full bd. NCS Defaults and a Creditors Committee is formed. Omnicare then comes back in and says it¶ll pay off all the debt and pay $3/Share. Bd gets a waiver to discuss deal with Omnicare who then irrevocably commit to the transaction. Agrees to give more of its stock in its Stock for stock portion of the deal. NCS Healthcare. ± De.793-811. D. agree to the merger. asks to buy D in Bankruptcy. Genesis offers to take up most of the Credit obligations and give 20M to SH. Omnicare then files a suit seeking to enjoin and makes a tender offer at $3. 823-836 Omnicare.o o No hand pill would stop them from doing this for 6 mos Esp in the fundamental are of negotiating a sale of the corp. class A share are one vote per share while class B is 10 votes per share ± in other respects. y Preclusive ± Deprives the SH the right to receive all tender offers or precludes a bidder from seeking control by fundamentally restricting proxy contests. Then the Bd withdraws its recommendation that SH vote for the genesis deal. Inc. retained legal control. Genesis. at 270M. Inc. The Inside members own Class B stock with gives them voting control of the company. Merger is done on effectively these terms and Genesis gets an exclusivity agreement. Genesis then ups its bid and i) agrees to pay off all the debt. later changed its mind. has 4 members. and to authorize the voting agreement. Bd. must put this up for vote even if they disagree. The Independent committee and the full Bd. which gave Noteholders some money and SH none. In this case. Rule ± Defensive measures cannot be draconian (preclusive or co-ercive) or limit the Directors fiduciary duties Analysis ± y Ordinary decision to enter into merger that doesn¶t not involve a CIC gets BJR but when CIC is involved there applies an enhanced Judicial Scrutiny o Enhanced Scrutiny when:  Defensive measures in a hostile Takeover proposal  Enters into a CIC and starts and active bidding process Here deal Protection Devices require enhanced Scrutiny o Conflict of interest arise when the Bd. D can¶t talk to Omnicare because of the exclusivity agreement with Genesis and then Independent Board considers the risk of loosing the Genesis bid. forms an committee of outside Board members. 2 inside and 2 outside. 11-16-2010 Tuesday 11-16: skip pp. or another party causes the SH to vote in favor of the txn for a reason other than the merits of the txn. Omnicare. who had lost a bidding war to Omnicare. but focus on to read cts p. prevents them form exercising SH their rights to vote o SH ability to reject a txn has an inverse relationship to the strength of the devices to protect the transaction o Hence deal protection devices get enhanced scrutiny Test: o Had reasonable grounds for believing that a danger to the corporate policy existed (threat here was loosing the Genesis deal)  Satisfied by acting in good faith and reasonable investigation o Defensive response was reasonable in relation to the threat posed. 2003 Facts ± NCS is in financial trouble and is looking for a buyer but no one wants to buy. contacts D. and lower the termination fee to 6M.

Alter the Williams Act basic neutrality btw tender offers and basic management 2. and that is why that aspect of Revlon did not apply y Bust up of company ± wasn¶t¶ an issue at all y When there is a CIC. when a superior offer came in. i. Impose burden that would conflict with the Williams act regulations The state statute will survive judicial scrutiny 77 . even when the Merger txn does not result in a CIC. whether or not the Revlon Duties were triggered ± assume arguendo Longer answer Court of Chancery decision says Revlon only applies when there is an active bidding process. but they quickly tied themselves to the deal with Genesis. Federal) Williams act. and assuming that they were working in concert. In this case the deal protection is unreasonable because it results in a fait accompli. does not recommend txn  Absence of a fiduciary out clause  Voting agreements o Hence it was mathematically impossible for Omnicare to succeed.Did the Williams Act preempt state regulations about takeovers So long as state Legislations does not change the basic neutrality 1. but also because they left the Directors unable to perform their fiduciary duties to minority SH y The BD does not have the power to accede to a Lock up y Bd. perhaps they wanted to tet to this other issue y Bankruptcy does not count as a bust up since the directors did not want bankruptcy and the attitude of the directors is what you need to focus in on Anti-Takeover Regulation (State v. y Defensive measures cannot be draconian or limit the Directors fiduciary duties Holding ± Finds against Genesis. removed itself when it¶s judgment was really needed. If either are met then the defensive measures are draconian and not permissible Application of the test: o Here the following defensive measures were Coercive:  The section 215(e) ± requiring vote even if Bd. exclusivity provision adopted by a bd to protect a merger must withstand Enhanced scrutiny Greater extension of the Unocal std. perhaps they thought the arguments were weak. because here this is snot a CIC because there is movement from being a Dominant SH scenario to becoming a dominant aggregation of Unaffiliated SH. and Company controlled by 2 dominant SH. y The defensive measures are unenforceable not only because they are coercive. since it is preclusive and coercive Here the court found the combination of the three measures to be preclusive and exclusive since it accomplished a fait accompli You can¶t lock up an agreement so much that there always has to be an out clause. hence the formalistic CIC does nto matter Who knows why the Delaware SC didn¶t get into this.e. Even when there is no Revlon duties the Board must be abel to get out of the deal y Why Revlon duties do not apply Short answer ± y SC assumes that Revlon duties dos not apply. Takeaway. by not negotiating a fiduciary out clause.

i. Dynamics Corp of America 78 . diff laws in diff states this is not a question here as i. Pike balancing tests ± Ct of appeals invalidated on the pike test shouldn¶t do so as the balance comes out in the local interest. Likes all of the ideas except for the Pike Analysis i. Just cause it happens to fall on an external business more does not establish the claim that it discriminates c. Not an area for the Judiciary to balance this White ± Dissent f. must get approval of majority shareholders in order to for another corporation to acquire control of it Issue ± Dynamics says that the act authorizing this violates the commerce and Williams act Analysis ± Majority a. corporations created in the local interest d.Since tender offers have a national impact the Illinois statute was unduly burdensome st So the 1 attempt to regulate met with failure 2nd generation statute was the control Share acquisition act which survived in the CTS case y Bidder acquires a company and it could not vote those shares over 3rd generation statute (Moratorium statute) y y y y y y Popular in DE and Ny Follow the Indiana Don¶t¶ restrict a bidder to acquire. 1987 Facts ± Indiana has a law saying that any corporation incorporated in Indiana and with Indiana shareholders. Undermines the Williams Act which preempts the Indiana Statute g. Dynamics says that Tender offers should be encouraged as its better allocation of resources in the hands of managers better able to use them i. US. We need to have corporations governed by one jurisdiction and historically this has been in the state where it is incorporated b. ii. Any law that permits majority to stop minority (including out of staters) to sell to an out of state tender offer is interference in Commerce clause Class notes: CTS Corp v.e. You might think that this is a conflicting state regulation regimes. i. Statute in question is not discriminatory as it affects internal and external acquisitions the same way. Indiana admits that part of its decision is Motivated by protecting Indiana corporation. just prohibit merger Is an effective anti takeover device as it stops the acquirer from using the assets of the acquired company to finance the takeover Exception when tis a friendly takeover Other condition when the moratorium can be called off when you buy 85% of the target shares. SC responds ± Constitution does not require the state to subscribe to any economic theory so we won¶t second guess the legislature Scalia ± concurring e. Dynamics Corp of America. then no moratorium CTS Corp v. Historic prevalence of state regulation of business means if congress wanted to preempt such regulation it would¶ve by now.e. Burdens the market in interstate ownership esp if other staters follow Indiana¶s lead h.

Officer or insider Director can exercise If you buy the shares and the SH say no.Facts Statute operation ± If a corp meets certain Indiana related qualifications then if there is an acquisition of control share then you can get the economic benefit but not the voting benefit. from the decision Posner says that he market for takeover was an interstate nature and hence the states were interfering with National and international owners If Posner¶s holding was upheld then a slippery slope would result and the states would have no control over Court says the primary purpose of the act is to Protect the SH of the Indiana y y But the it also protect companies headquartered in Indiana Court says that its there to protect SH form the 2 tier front end loaded offer. read the first three cases under LLC Limited Liability Company Formation LLC y y y y y y Resembles general partnerships Provides some liability shield though Investors are called members May be managed by members or by managers (like a corp. Flexibility in internal management of the business 79 .) Requires paperwork foiling with a state agency plus fees and taxes Advantageous tax treatment o Taxed once as opposed to corps. Interested Sh are acquirer.e. the business is not taxed. 830 para b * p. just the distribution is taxed 2. then the company can buy them back but they don¶t¶ have to. including authority to define the voting rights of shareholders. o Members can have losses flow through to their personal income tax returns LLP y y Requires filing with the state Limited liability for torts (negligence and other similar misconduct) but not for contractual debts o Few states provide protection from both LLC provides 3 attractive features: 1. Partnership like Tax treatment. so you remove the BD. Good for Acquires in a way since normally acquirers want the SH the right to vote on the acquisition. 11-16-2010 Wed. i.830: very pro-state statement by the Court: No principle of corporation law and practice is more firmly established than a State s authority to regulate domestic corporations. unless you make a request and then you have to get a majority of the pre existing disinterested Sh to a. Limited Liability 3. Study it because it¶s about federal state It¶s a very states right decision in the area of corporate law pg.

And oral agreement between Clark and Westec was reached. Col. i. hence all states have a hodgepodge of statutes because all states passed this before this act was passed How to form an LLC: y y Have to file a document with Sec¶y of state o The foundational document is like the corporation¶s articles of incorporation. 1998 Facts ± Ds. Appellate reversed saying that filing the articles of organization gave Westec constructive notice of status as an LLC. which was the principal for PII. d/b/a Westec v.c. The company¶s name was not on the card but PII. Lower court finds for P. Gives his Business card to Westec which has Lanham¶s Address. Water & Land. o Can decide if you want a member managed LLC or a manager managed one o Default rule is the Partnership model o Default rule is that your voting is proportional to the percentage of profits you get. Rule ± Agent is personally liable for a K when the existence AND identity of the principal are not fully disclosed y Notice requires that the parties use the word Limited Liability Corporation or LLC as part of their names y LLC opens 2 bases for individual liability of members o Alleged improper action o Failure to observe the formalities coupled with a wrongful act Analysis ± y Notice of Agency exempting liability only apply when they are sued as a LLC. Westec does the work and bills but is never paid and sues the members individually and as a company. Lanham. o Can make the members more passive if you take the manager managed model Particular LLC statute are pretty bare bones o Hence need to get lawyers to develop contractual structure y Waste. kept simple Most of the stuff is added in the operating agreement Management structure: y Whether LLC will have a centralized structure (corp) or a decentralized one (partnership) o The beauty is that you can elect for yourself. not as managers or members y When 3rd party sues a manager or member under an agency theory then ageny law applies y Agency theory o Agent is personally liable for a K when the existence AND identity of the principal are not fully disclosed y Brad interpretation of Constructive notice would allow fraud as then Lanham could mislead 3rd party to think that he was personally liablerrrrrrrrrrrrrrrrrrrrr y Notice requires that the parties use the word Limited Liability Corporation or LLC as part of thei names y LLC opens 2 bases for individual liability of members o Aleged improper action o Failure to observe the formalities coupled with a wrongful act Holding ± Finds for Westec y Must provide notice to 3rd parties 80 . Lanham and Clark are a managers and members of a LLC and Clark goes and K¶s with Westec to do some engineering work for them. the short name of the company was.There is a lot of diversity in practicing since the Unified act was passed in 1995.

De is a leading jurisdiction because of De respects your freedom of K. in a LLC called Malek LLC. the public policy preference of De: y 1) Freedom of K 2) Preference of Arbitration Q is what other statutory provisions you could you not waive: 11-18-2010 * I m not sure if we covered Kaycee. Hence there are two policy issue highlighted here.e. i. whether they hold themselves out to the world as LLC or not Kaycee land and Livestock v. Owned by a man Jaffari. 297 Other factors courts tend to look at: y y Comingling of assets (personal use) Ambiguity in their identity. Rule ± Analysis ± Policy of the act is to allow parties the freedom to K. Elf would be 30% owner and distributor for the product and Jaffari would manger and CEO of Malec LLC. derivatively and for itself. Flahive . 3. enter into an agreement for the governance of Malek LLC. arbitration will be held in Ca The derivative suit is statutorily determined There is default jurisdictional language in the De statute The Ct is very deferential to the operating argument as a K. 1999 Facts ± P. 285 Unified Limited Liability Act ± mere failure to follow formalities will not be the basis for PCV Pg. Chancery finds for Jaffari saying that it had no jurisdiction given the forum selection clause. check! Piercing the Veil LLC Statutes about PCV 4 ways the statutes fall 1. Elf and Jaffari have a falling out and Elf Sues in Chancery court.Those that say nothing Montana ± Use Corporate principles Colorado ± Other wrong plus failure to follow LLC formalities pg. Jaffari and Malek Inc. 4.Wy 81 . the following case.e. i. Wyoming . Del. Elf. The agreement has a forum selection clause in CA and an arbitration clause. Court also shows the preference for ADR. Inc. 2. becomes a member with Malek Inc. but only when the agreement allos it Holding ± For Jaffari. v. broad discretion in drafting partnership agreements o Who will manage o Establish classes of members o Voting procedures o Procedures for meetings y Statute fills in when members agreement is silent y Only an inconsistency with statutory mandatory provision will result in invalidation of agreement o Only those protecting 3rd parties are such agreements y De will allow Derivative suits in the name of LLC. i. Jaffari. Then Elf.Operating Agreement Elf Atochem North America.e.

Then Nationwide says that it¶ll build an arena and lease it to them. at law or in equity. has used the Corporate mechanism y However the list of factors for Piercing the viel in an LLC context are not identical. Rule ± In a LLC fiduciary duties. and the determination should be fact specific Holding ± Finds Piercing allowable and DC to make a fact specific determination on whether Piercing is equitable in this context y * ONLY 103 IN INNIS OUTLINE!!! ULLCA section 103 (b) (b) the operating agreement may not: (2) eliminate the duty of loyalty . Fiduciary duties ± Fiduciary duties exist in relationship where special confidence and trust is placed in the integrity and fidelity of another and there results a position of superiority or inferiority o Normally this precludes competition Tortious interference ± y y Exists when a person induces another to not get into a business relationship with a 3 party y No evidence the McConnell acted in a secret manner y McConnell said he¶d lease if D didn¶t y McConnell got the lease after he was approached by Nationwide y Nationwide only approached McConnell after being rebuffed by D y Plus McConnell had a right to Compete with D P¶s breach of K claim y y No evidence that D was Operating member of Party If anything the breached the K by representing themselves as such rd 82 . but can be limited by the agreement document Analysis ± K Interpretation ± K is unambiguous in stating that the members may compete with one another. establishes minimal requirement and was made before much was known about LLC y Since piercing the veil is a remedy at equity. a member or manager or other person has duties (including fiduciary duties) and liabilities relating to a L-L-C or to another member or manager: (2) The member or manager s or other person s duties and liabilities may be ex or restricted by provisions in a L-L-C Fiduciary Duties McConnell v. P wants to pierce the corporate veil to get to D¶s assets. Hunt files suit in NY. They negotiate with city to get an arena with the city but it¶s shot down in a referendum.Facts ± Flahive has a K with Kaycee to use the surface of his property and leaves it Contaminated. and LLC. to bring Hockey to Columbus Ohio. the lack of statutory authority should not be considered a barrier to its application y Moreover. CL doctrine is not found to be abrogated absent unambiguous language in a statute y Every state that has enacted piercing eh LLC veil. McConnell files suit seeking a declaratory judgment. NHL agrees to open a franchise. if not manifestly unreasonable.Oh Facts ± Hunt and McConnell along with others form CHL. Rule ± Same rules apply to piercing the LLC veil. Hunt Sports Enterprises . Hunt disagrees with the terms. as to Corporations Analysis ± Wy statue is short. Then nationwide goes to McConnell to get a lease okayed. LLC section 18-1101(c)(2): (c) To the extent that. Del. which is a remedy at equity. Lower court files for McConnell. but the agreement may: (i) identify specific types or categories of activities that do not violate the duty of loyalty. McConnell does. such as not to compete apply.

i. A member or managers Fiduciary duties and liabilities may be expanded or restricted by provisions in an LLC Operating Agreement i. She never paid P. B 2. unlike partnerships are not personally liable for the debts of the LLC Hack is still liable but not on the PCV charge but because of the Dissolution statute o Insufficient procedure for following the procedure Take home ± there are procedures of procedures for dissolution o Then distribute the assets as Statutorily required Here the court was not clear as to what assets remained 83 . Rule ± Dissolve a company by i) filling articles of dissolution (Optional?) and ii) giving written notice to known creditors with information regarding the filling of claims Analysis ± Being taxed as a partnership for tax purposes is not dispositive to treating her as a partner or piercing the corp veil y However D is liable since she didn¶t¶ properly dissolve y She was part of LLC as she testified and showing that the dpt of revenue recognized Kickapoo as an LLC y However you have to sheild your member from liability upon dissolution y Filing of dissolution is optional however Creditors have to be notified and are first in line to get the dough y Creditors must be paid out of corp. Bare boned b. Kickapoo valley freight.Holding ± Finds for P Other models for Fiduciary duties 1. Incorrect dissolution Take home ± y y y y y Members of LLC. Wants members to develop agreement about various issues d. however Op agreement may ID certain duties to be overwritten if not manifestly unreasonable ii. Haack Facts ± Haack. She also said that her brother and member of her LLC had suffered a breakdown hence she might have to sell the company¶s asset. fell in arrears and several times she told the card people that she¶d make payments.e. Corporate duties are mandatory While Partnerships and LLC duties are not. Her company. Its ambiguous whether she signed as herself or as a representative. Effective operating Agreement i. can be somewhat changed Dissolution of LLC New Horizon v. De Model a. Op Agreement may not eliminate the duty of loyalty. who sued in small claims court. was part of a corporation and personally signed for a gas card for her company. assets before the members can collect Holding ± Holds for P. Freedom of K c. Uniform Limited Liability Company act a. btu was never able to offer conclusive proof that they had formed a partnership she was a partner and hence personally liable. Small claims court found since she had been taxed as a Partnership.

Q3 ± The statute says that she has to payout the $500 to the creditor but nothing over the assets received in distributions REVIEW Wed: Dec 1st: 1-2:30 pm and Mon: Dec 6th: 1:30-3 pm if you have any question for the professor! 84 .

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