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BUSINESS ASSOCIATIONS OUTLINE – SPRING 2006 THE LIMITED LIABILITY COMPANY
I. INTRODUCTION
A. Allows for the exercise of managerial powers without the risk of personal liability for the debts of

the business. 1. No Double Taxation (like a corporation) 2. Management allowed by everyone 3. Organization and operation are less restricted: better than an S corporation a. S Corps: A purely tax term, but you have to limit the corp to no foreign shareholders, 1 class of stock, and 75 or fewer shareholders 4. Full shield against tort and K liability (an LLP is just a shield against tort creditors)

II. TAX MATTERS
A. Kitner Regulations: were used to determine whether something was a partnership or a corporation:

Characteristics 1. Continuity of Life: a. Partnership: die routinely b. Corporation: takes a lot to kill 2. Centralized Management: a. Partnership: not present in a general partnership because each has right to manage b. Corporation: Usually centralized management c. LLC: can be member-managed OR manager-managed (1) ULLCA §101(11): manager managed company- where agency authority is vested exclusively in the managers and not the members. 3. Transferability of Interest: a. Partnership: dies when this happens b. Corporation: Can be freely traded c. LLC: Can put restrictions on the ability to trade- creates an overlap 4. Limited Liability B. Check the Box Regulations: Can choose on a tax return whether to be taxed as a partnership OR a corporation just by “checking the box” III. SECURITIES LAWS ISSUES A. Definition: when a membership interest in an LLC depends largely on whether members rely upon the efforts of others to generate profits (i.e. if assets are put into something that is controlled by another entity, it will be a security) 1. Manager Managed = security 2. Member Managed= NOT a security IV. CREATION OF A LLC: A. FIRST: file a document, generally called the articles of organization, with the state in order to create an LLC. 1. CONTAIN: provisions describing the name and identification as a LLC, the address of the principal place of business or registered officer, and the name and address of the registered agent for service of process. B. NEXT: enter into an operating agreement- details the relationship among the members 1. LLC does not have to be a signatory to its operating agreement and you can chose another jx to be the place where suit or arbitration takes place C. BUT: lack of an operating agreement is NOT fatal to the existence of an LLC 1. §103 ULLCA: all members of an LLC may enter into an operating agreement.

2 2. §401 ULLCA: the LLC is funded by contributions from members which may include tangible or intangible property or other benefit to the company… including contracts for services to be performed. D. Transitions from another entity to an LLC: courts want to facilitate a seamless transaction from one entity into another  where a sole proprietorship converts to an LLC, all of the interests and obligations incurred by the sole proprietorship or its assets are transferred to the LLC by operation of law. E. Notice to Third Parties Who Are Dealing with the LLC: if someone is notified that they are dealing with an LLC, then the LLC’s participants cannot incur personal liability 1. BUT, where an agent fails to disclose either the fact that he is acting on behalf of the principal or the identity of the principal, then the notice provision of the LLC Act cannot relieve the agent of liability to a 3rd party. V. CHARACTERISTICS OF AN LLC A. Generally, LLCs are treated like corporations in all areas except tax, where they are treated like partnerships B. Concerning lawyers, LLCs will be treated like a corporate entity and representation is required C. Partnerships are different because they don’t need attonerys 1. They all agree to bind each other as agents and can perceive a partner acting on behalf of a corporation

LAW FIRMS
I. TYPES OF PARTNERS
A. Income Partner  all they get is income B. Equity Partner  share in the profits, but you have to determine who does what and factor that

into pay (usually start with billable hours and go from there) II. Limited Liability A. LLP  UPA 1775.61 (limited only with respect to torts) B. LLC 1705.01 (limited with respect to both tort and contract) C. Professional Associations  1785.08 (treated as corps) – limited to a list of professions (limited with respect to both tort and contract) D. You cannot limit you individual liability for professional malpractice that YOU commit. You can limit it with respect to your colleagues, but not yourself. The professional organizational tools only protect indirect liability, not direct.

FORMATION OF A CORPORATION
Note: Corporations are creatures of statute, so if you think you’re creating a corporation and you FAILED, then you have a partnership I. THE FORMATION OF A CORPORATION A. TWO TYPES OF CORPORATIONS 1. Closely Held Corporation: shareholders do most of the running of the business, stocks that are NOT publicly traded, possibility of elimination of the board of directors a. controlled by § 7.32 of the Model Business Corporation Act b. 7.32(a)(1) – you can ELIMINATE the board of directors as long as you comply with this section 2. The General Rule for Corporations: the publicly traded corporation a. MBCA § 7.32 is an EXCEPTION if you qualify for it

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B. WHERE TO INCORPORATE 1. Take into account whether you want to be sued in other places 2. DE is often chosen b/c it is particularly generous to managers of corporations, low risk of

breach of fiduciary duties and gives managers more power than in other jurisdictions, and a lot of case law interpreting their statutes 3. Take into account the costs associated with incorporating in a state  more jurisdictions, more taxing possibilities there are 4. For most corporations, the state in which they originate is usually the best place to incorporate C. HOW TO INCORPORATE 1. Must have the resources to operate as a corporation. Obtained two ways: a. Money/property are transferred to the corp in exchange for its stock b. Lending 2. §2.01 Incorporation – who incorporates a. one or more persons may act as the incorporator or incorporators of a corporation by delivering articles of incorporation to the secretary of state for filing (1) may be personally liable on the contracts b/c the corporation may not yet be in existence (as an agent is) 3. §2.02 Articles of Incorporation a. MUST include these (but there are others – this is a list of some that would be included) (1) Name of corporation that satisfies requirements of §4.01 (2) Number of shares corporation is authorized to issue (protects shareholders) (3) Street address and name of initial registered agent (4) Name and address of each incorporator b. MAY set forth (1) Names of individual directors (2) Purpose or purposes for which the corporation is organized  see §3.01 (3) Managing the business and regulating the affairs of the corporation (4) Defining, limiting and regulating the powers of the corporation, its board of directors and its shareholders c. (b)(4) – may eliminate or limit the liability of a director to the corporation 4. §4.01 Corporate Name a. Corporate names must contain the word “corporation” to put people on notice that there is limited liability. So if you engage in business with this corp, then you might want to get more info before you extend credit to this business. b. Sec (b) – as long as the names are not identical, then the sec of state must allow the corp to use the name c. If the name is confusing to the public, then unfair competition (antitrust) should be used in suit 5. §3.01 Purposes a. every corporation incorporated has the purpose of engaging in any lawful business unless a more limited purpose is set forth in the articles of incorporation b. corp engaging in a business that is subject to registration under another statute of this state may incorporate under this act only if permitted by, and subject to all limitations of, the other statute 6. § 3.01 Powers of the Corporation 7. §7.32 Shareholder Agreements a. agreements authorized by this are no longer effective when the shares of the corporation are listed on a national securities exchange

4 b. if all of the provisions in this are met, it is possible to create a corporation that doesn’t have a board of directors (1) want to protect shareholders, have to have unanimous agreement to create a corporation without a board c. articles of incorporation or “bylaws” – every buyer will have notice that this is a corporation without a board of directors (1) must be a conspicuous notice on the back of every stock certificate 8. §8.03 Number of Directors a. only need one director b. in OH, minimum of 3 unless you have fewer shareholders than 3 9. §6.21 Issuance of Shares a. shares must be in exchange for value (1) garden variety sale and in no other way (2) it would be wrong for the corporation just to pass out shares (3) must accept the stock for value b. if not, then the board of directors will be held personally liable for distributing stock for insufficient value

II. THE DECLINE OF THE DOCTRINE OF ULTRA VIRES
A. §3.04 Ultra Vires– “without authority” 1. validity of corporate action cannot be challenged on the ground that the corporation lacked

the power to act
2. corporation’s power to act may be challenged a. in a proceeding by a shareholder against the corporation to enjoin the act b. in a proceeding by the corporation directly, derivatively, or through a receiver,

trustee, or other legal representative, against an incumbent or former director, officer, or agent of the corporation OR c. in a proceeding by the AG under §14.30 3. in a shareholder’s proceeding to enjoin an unauthorized corporate act, the court may enjoin or set aside the act, if equitable and if all affected persons are parties to the proceeding and may award damages for loss suffered by the corp or another party b/c of enjoining the authorized act B. Ashbury Ry. Carriage & Iron Co v. Riche: law of ultra vires became a judicial attempt to avoid the harsh and undesirable but apparently logically compelled consequences of a judicially created doctrine (demonstration of old rule) 1. there can NEVER be authority to act beyond the authority of the corporation 2. It’s possible today to amend the articles of incorporation to provide the authority necessary to enter into the transaction C. 711 Kings Highway Corp v. FIM’s Marine Repair Service, Inc: ultra vires cannot be invoked as a sword in support of a cause of action any more than it can be utilized as a defense D. Theodora Holding Corp v. Henderson: amount of charitable contribution outweighs the overall benefits flowing from placing of such gift where it serves to benefit those in need a. §3.02 General Powers (1) to make donations for the public welfare or for charitable, scientific or educational purposes Sullivan v. Hammer o As long as a charitable contribution is less than 10% of AGI, it is reasonable The Business Judgment Rule – a presumption that in making a business decision they directors of a corporation (1) acted on an informed basis, (2) in good faith and (3) in the honest belief that the action taken was in the best interest of the company

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III.

PREMATURE COMMENCEMENT OF BUSINESS A. PROMOTERS – includes a person who, acting alone or in conjunction with one or more other persons, directly or indirectly takes initiative in founding and organizing the business or enterprise of an issuer 1. §2.01 Incorporators a. one or more persons may act as the incorporator of a corporation by delivering articles of incorporation to the secretary of state 2. §2.03 Incorporation a. corporate existence begins when the articles of incorporation are filed 3. §2.04 Liability for Preincorporation Transactions a. all persons purporting to act as or on behalf of a corporation… b. knowing there was no incorporation under this Act… c. are jointly and severally liable for all liabilities created while so acting  2.04 is the concrete statement of the law that we can work with, but some jx don’t have 2.04 and some other jx have 2.04, but have additional law  2.04 provides either “THE” way or “A” way to find liability. o jx that said it was A way  If you’re within a 2.04 jx, then you might still be able to raise de facto or estoppel o jx that said it was THE way  If you’re not within 2.04, then there aren’t any other options 4. Stanley J. How v. Boss: promoter liability using an agency analysis a. If there is any doubt as to liability, then have the person dealing with the promoter say specifically that he agrees to deal with the promoter knowing that the incorporation has not yet been formed. b. General rule – promoter will be personally liable unless the other party knows the corporation does not exist c. Restatement of Agency §326 – When a promoter makes an agreement with another on behalf of a corporation to be formed, the following alternatives may represent the intent of the parties: (1) They may understand that the other party is making a revocable offer to the nonexistent corporation which will result in a contract if the corporation is formed and accepts the offer prior to withdrawal. (2) They may understand that the other party is making an irrevocable offer for a limited time. Consideration to support the promise to keep the offer open can be found in an express or limited promise by the promoter to organize the corporation and use his best efforts to cause it to accept the offer. (3) They may agree to a present contract by which the promoter is bound, but his liability terminates if the corporation is formed and becomes a party – there can be no ratification by the corporation since it was not formed at the time the contract was made (4) They may agree to a present contract on which even though the corporation becomes a party the promoter remains liable either primarily or as a surety 5. Novation – where the corporation knew of the existence of a K at the time of formation of the corporation and didn’t object to it and continued acting under it, it is not considered

Incorporation under modern statutes is so simple and in expensive that a strong argument may be made that nothing short of filing articles of incorporation should create the privilege of limited liability (1) Other “arguable” exceptions (a) Where a corporate organizer enters into a transaction in the name of the corporation when he reasonably and honestly believes that articles have been filed but they have not been due to attorney negligence or other cause (b) Where a transaction is entered into after the articles have been mailed or delivered to the filing office but haven’t been received in the filing office thru no fault of the filer (c) Where a person knows that no corporation has been formed but insists that his contract be immediately entered into in the name of the corporation (d) Where Δ has represented that a corporation is in existence and third person enters into a K with the corporation agreeing to look only to the corporation (e) Where a person provides funds to a promoter with the instruction “don’t start doing business until you incorporate” and the promoter fails to follow the directions .04. 2. today – the certificate of incorporation provides the cut off point 3.04. DEFECTIVE INCORPORATION 1. and 3 OR you can make it a separate element altogether)  De facto is used in jx that don’t have 2. De facto corporation: corporation which was defectively incorporated requires the following: (1) Valid law under which such a corporation can be lawfully organized (2) An attempt to organize thereunder (must be some type of good faith attempt to comply with the statute) (3) Actual user of the corporate franchise (4) good faith in claiming to be and in doing business as a corporation is often added as a further condition (this element can be put in each of 1. the acts of the associates having failed even to colorably fulfill the statutory requirements. de facto works with all Πs 2. if a jx does not use 2. So. Corporation by estoppel: no corporation. This will simply substitute a new party for the old party in all respects B.6 ratification b/c the corporation can’t ratify an act that the corporation didn’t have authority to make originally a. A de jure corporation isn’t subject to direct or collateral attack either by the state in a qui warranto proceeding or by any other person b. Levy: The corporation comes into existence only when the certificate has been issued a. there was no estoppel in the pure sense of the word b/c generally there was no holding out followed by reliance on the part of the other party (1) Estoppel versus de facto – practical difference – estoppel works just this Π. De jure corporation: results when there has been conformity with the mandatory conditions precedent established by the statute. then apply de facto c.04 a. Comment to §2. Robertson v.

This is not enough. ii. Horizontal piercing – one enterprise split into individual corporations. The undercapitalization of the corporation. Agency – looking to find if there was principal in existence. defacto. General rule that corporate entity should be recognized and upheld unless specific. Partnership – determine whether it satisfies the common law and statutory definitions of a partnership HOW IT WORKS: Ks entered into when there is no corporation a. a shareholder of a corporation is not personally liable for the acts or debts of the corporation except that he may become personally liable by reason of his own acts or conduct 3. estoppel. What do we mean by unjustice? a. de jure are all DEFENSES for the agent to avoid liability DISREGARD OF THE CORPORATE ENTITY I. Does jx have §2. Who is liable? i. §2. Consider: Why is undercapitalization unjust in this circumstance? 1. the deliberate attempt to avoid personal liability is not an unjustice. B. unusual circumstances call for an exception B. Bartle v.22 Liability of Shareholders 1. MBA §6. So when one of the corps is found liable. if that is the situation = the agent is liable ii. Home Owners Corp: law permits the incorporation of a business for the very purpose of escaping personal liability . THE COMMON LAW DOCTRINE OF PIERCING THE CORPORATE VEIL A. Contract – looking to parties intent b. then the rest of the corps will be required to support the finding in the suit. Vertical piercing – going up the chain to the shareholders b. Jx does not have §2. Undercapitalization b. What is the wrongful conduct that courts are going to look for? i. De Jure corporation ii.04? (Ohio) use de facto corporation with its three elements b. purchaser from a corporation of its own shares is not liable to the corporation or its creditors with respect to the shares except to pay the consideration for which the shares were authorized to be issued or specified in the subscription agreement 2. but it is an element. Should we distinguish between tort and contract creditors? As a contract creditor you should be asking the appropriate questions to find out about corporation you are dealing with.all flows from a lack of principal when the agent is purporting to act for the principal i. if not then agent would be liable c. Types of Piercing a. It is not unjust. START with the point of view that there is no incorporation at the time of K. a. Don’t have that option as a tort creditor. Creditors who could possibly not be paid c.04? go there first (using comments to help with the possibility that there is an estoppel argument). unless otherwise provided in the articles of incorporation. Three approaches to liability with respect to corporations that are defective in some way a. C. Note: Federal government can use common law or cite particular statutes A.04.7 4. The attempt to avoid personal liability is not WRONG – it is what we want people to be able to do. Therefore. You knew that there were reasonably expected debts that won’t be paid.

Failure to observe corporate formalities – this is very easy to show and shows up often (no minutes. Fact that the corporation is merely a façade for the operations of the dominant stockholder or stockholders i.) c. OR use of corporation to promote fraud. then you’re insolvent (1) Equity insolvency – does not look at the balance sheet. the fact has been considered by many authorities sufficient basis for piercing corporate veil 4. absence of corporate records 5. Arrow Bar: factors that indicate injustices and inequitable consequences and allow a court to pierce the corporate veil are 1. but looks at cash flow to determine if the cash coming in each month is enough to pay the bills that need to go out e. Outside debt: debt owed to people outside the corporation D. no shares of stock issued. Insolvency of the debtor corporation at the time – are your debts grater than your assets? If the debt side is bigger. the parent corp is the principal. Inside Debt: debt owed to the corp by it shareholders b. fraudulent representation by corporation directors 2. C. then this is a clear indication that the corporate boundary is being violated 6. Promise to pay  when one who is the sole beneficiary of a corporation’s operations and who dominates it. Factors to determine that the parent and the subsidiary operated as a single economic entity and so corporate veil may be pierced: a. Consider issues that arise when the sub corp is used as an agent of its parent corporation. Absence of corporate record h. PLUS an element of injustice or fundamental fairness 3. Non-function of other officers or directors g. payment by the corporation of individual obligations a. undercapitalization 3.e. Piercing issue only involves the question whether a specific shareholder is personally liable for a specific corporate obligation 5. Basically. courts have shown no hesitancy in holding individual stockholders liable 1. when the corp is making payments of the individual (i. induces a creditor to extend credit to the corporation on such an assurance. Ray Flemming Fruit Co : when substantial ownership of all the stock of a corporation in a single individual is combined with other factors clearly supporting disregard of the corporate fiction on grounds of fundamental equity and fairness. I: What must you show to disregard the corporate entity and find the stockholders liable 2. Notes on DEBT: a. Dewitt Truck Brokers v. Siphoning of funds of the corporation by the dominate stockholder f. Baatz v. etc. failure to observe corporate formalities 4.8 1. injustice or illegalities . Nonpayment of dividends – whether there are dividends (must be profits in order for there to be a dividend) d. car lease or mortgage). this court says proof of plain fraud is not a necessary element and the fact that it’s a closelyheld corporation is also not enough 6. Undercapitalization: Whether the corporation was grossly undercapitalized for the purposes of the corporate undertaking? Are there enough assets in the corporation to pay reasonably anticipated debts? b.

instrumentality – corporation acted as agent of shareholder therefore binding shareholder to the K 3. if the directors are the same. the Π must show that the two corporations operated as a single economic entity such that it would be equitable to uphold a legal distinction between them 3. control = complete domination of policy and business practice in respect to the transaction attacked so that the corporate entity as to this transaction had at the time no separate mind. Telecom Corp: to reach a parent company. officers and directors functioned properly. Example: a mortgage on the building the corp is in makes the building yours if the corp goes under. H. such control must have been used by the Δ to commit fraud or wrong (can be satisfied with undercapitalization) 3. to prevail on an “alter ego” claim Π must show: a. division/dept – there is no legal separation between the parent and the business and the parent is personally liable for the obligations of that business b. often employees can move between entities (4) HR dept in the parent company only Things that are NOT indicators of parent-subsidiary veil piercing: 1. Legal services provided by the parent to the subsidiary .E. Filing a single tax return (is a requirement of federal law) 2. Π must show three things: 1. aforesaid control and breach of duty must proximately cause the injury or unjust loss complained of (must show connection between undercapitalization and loss. and other corporate formalities were observed (4) whether the dominant shareholder siphoned corporate funds (5) whether. looks a lot like control 3. Things to look to see if there was control of subsidiary in holding parent liable 1. F. Note: If you’re going to provide capital to the corporation. will or existence of its own (alter ego) 2. in general. that the parent and the subsidiary operated as a single economic entity and single economic entity: (1) whether corporation was adequately capitalized for the corporate undertaking (2) whether the corporation was solvent (3) whether dividends were paid. if decisions must be approved by the parent company Three theories to disregard the corporate entity 1. subsidiary – there is legal separation and the parent probably will not be liable on the subsidiary’s obligations (1) legal services provided by parent to subsidiary (2) parent controls the borrowing (3) employee interchangeably. then you want to finance the corporation with debt because then you’ll be ahead of anyone else. therefore corporate boundary should be disregarded Radaszewski v. Atex: I: how much control the parent can exercise of the subsidiary and still avoid being held liable on a veil piercing analysis? 1. subsidiary a. the corporation simply functioned as a façade for the dominant shareholder b. corporate records kept. it looks a lot like control 2. officers of subsidiaries are the same as the parent. Division/department vs. that an overall element of injustice or unfairness is present 2. I. modern radaszewski approach (used by ohio) – satisfy the three part test. alter ego – no difference between a corporation and shareholder therefore disregard corporate boundary (we can’t tell where one entity ends and the other begins) 2. 9 7. G. show that you are the one who was injured by the failure to adequately find) Fletcher v.

if assets have been distributed against a shareholder…shareholder has to pay with respect to those assets but no more D. it’s a prima facie case for violation of a fid duty when you enter into a transaction with your own corporation 3. involved in bankruptcy 3. reverse pierce should be permitted only in the most limited circumstances C. Consider whether they are also undercapitalizing themselves D. the successor entity is a mere continuation or reincarnation of the predecessor entity (continuation of management/ownership v. Cash concentration systems. majority stockholder 2. either a corporate insider or a person with a claim against a corporate insider is attempting to have the insider and the corporate entity treated as a single person for some purpose B. V. continuation of operations. fraud III. Litton: prima facie case for breach of fiduciary duty 1. Pepper v. now we’re talking about breach of fiduciary duty E. Nissen Corp.permit a higher return on excess funds that would be possible if each subsidiary maintained a separate business accounts 6. not the corporation to pay for things. just a change in form) 3.06-07 Claims Against Dissolved Corporation 1. Miller: corporation which acquires all or part of the assets of another corporation DOESN’T ACQUIRE LIABILITIES AND THE DEBTS OF THE PREDECESOOR UNLESS 1. Subsidiary NOT permitted to borrow money 4. if there is a shareholder in control of the corporation and it forces corporation to act in that shareholders interest. the transaction amounts to a consolidation or merger (no real change in ownership. Employees are transferred from subsidiary to parent and vice versa 5. but its powers are limited to those of winding up C. §14. this is the most common reason) OR .02 Dissolution by Board of Directors and Shareholders 1. then that shows disregard for the corporate form. there is an express or implied agreement to assume the liabilities 2. corporation dissolved  wind up and liquidate  known claims gathered and paid  unknown guarded against by publication  if claim brought within SOL maybe pursue shareholders to the extent that shareholders received assets E. typically shareholders cannot dissolve their own corporation unless the board of directors recommends B. continues corporate existence but can start winding up and dissolution.10 3. 1.05 Effect of Dissolution 1. 2. “REVERSE” PIERCING A. Human resources department in parent only II. “deep rock” doctrine – The principle by which unfair or inequitable claims presented by controlling shareholders of bankrupt corporations may be subordinated to claims of general or trade creditors. The Alter Ego Approach to reverse piercing 1. SUCCESSOR LIABILITY A. §14. §14. when the owners are using their own money. case of self dealing because he was on both sides of the transaction here 2. unless you can prove that the transaction was in good faith and fair 4. provides finality (3 years after publication) after that you are out of luck 2.

TYPES OF EQUITY SECURITIES A. return is fixed 2. but they are a FIXED claimant C. Debt is generally thought of as a fixed claim 1.01 Authorized Shares a. when distributions are made in the form of dividends or liquidating distributions c. then you can purchase the bond for cheaper with a higher interest rate (yields go one way and prices go the other – interest rate goes up and price goes down) b. Bonds are traded on many markets.07. Example: stock II. dividends come from earnings in profits b. selling is the misnomer) (1) Risky Bonds: when a bond is risky. articles of incorporation must set forth any classes of shares and series of shares within a class.07 are about KNOWN claims of a dissolved corporation. (2) shareholders are entitled to the net assts of the corporation (after making allowance for debts). then it is “ selling” bonds to the public (really just borrowing money from the public.40(21) share means the unit into which the proprietary interest in a corporation are divided 1. When the corp is borrowing money without going to the bank as an intermediary. liquidation B. Examples: bonds and debt instruments a. The holder of a bond does NOT have any voting rights. these claimants get whatever is left over 3. Common Shares. in the event of liquidation. Common and Preferred Shares 1. 2 types of distribution a. equity is thought of as a residual claim 1.06 and . the transaction was fraudulent.06 and .07. interest is fixed. creditor is entitled to a fixed return a. two fundamental rights under MBCA § 6. look at the contract between the corporation and the shareholder) B.01(b) a.11 4. then the common law is the way to go to get liability FINANCIAL MATTERS AND THE CORPORATION I. (1) shareholders are entitled to vote for the election of directors and on other matters coming before the shareholders b. D. Claims that are not known are extinguished under . Also: (1) Have the fundamental rights of voting for directors and receiving the net assets of the corporation described above (2) Dividends upon profits (3) Negotiability . not made in good faith or made without sufficient corporation Note:This test is different from 14. Shares Generally: MBCA §1. residual claimants – get whatever is left 2. §6. and the number of shares of each class and series 2.07 because it’s about a corporation that modifies itself into a new corp while 14. then you’ll get a higher interest rate.06 and . Example: if GM sold a bond with a 5% interest rate. DEBT AND EQUITY CAPITAL A. D & E Capital are contracts between holder and the corporation (to figure out what kind of stock it is. if you’re not within the construct of 14.

04 – generally means out of profits C. Limits on drafting stock/share contracts a. the preferred shareholder loses the right to receive the dividend for that year 3. Participating Preferred – Preferred shareholders who get a specific dividend and then they are treated just like all the common shareholders (so they get their preferred dividend AND an additional dividend just like the common shareholders) 5. it accumulates and must be paid before any dividend may be paid on the common shares in a later year 2. §6. issuance of new. Entitled to payment above the common shares b. Usually upon liquidation they have a right to be repaid their investment ahead of shareholders e. articles of incorporation have to authorize the stock (usually authorize more shares than you are going to issue) b. Par Value: currently useful when talking about preferred shares and bonds 5.000. Apply all the same rules that you apply to dividends) D. “participating preferred” – after everyone in preferred gets paid they get shifted over to participate with common shareholders in the profits i. if no dividend is declared during the year. noncumulative dividend – not carried over from one year to the next. Redemption – the corporation can buy back it’s stock (same as a dividend. Redemption Rights: all mutual finds are redeemable at the option of the shareholder at the fair market price 7. and noncumulative with respect to any excess dividend preference 4. Special Rights of Publicly Traded Preferred Shares 1. previously unissued shares of stock (mergers and acquisitions) Consider: What kind of things should one consider when deciding what type of instrument best suits the client? . 4. partially cumulative dividend – cumulative to the extent that there are earnings in the year. Typically a fixed amount for distribution c.000) ii. Has some of the features of a bond and some of stock f. Preferred has first priority with respect to dividends – might say “$5 preferred” or “5% preferred” (of the par value – so if the par value is 1. Classes of Common Shares 1. Dividend: 6. Convertible Preferred – You can convert your Preferred stock into common stock 6. you could have the preferred shares convertible into common shares 6.01 shares of stock which together have 100% management rights and 100% distribution rights 2. No right of preferred to force a payment d. Preferred Shares a. No right to vote g. cumulative preferred dividend – if a preferred dividend is not paid in any year. This must be distributed before there is a dividend on anyone’s common stock. Conversion: it is possible that at either the option of a shareholder or at the option of corporation. Convert preferred stock for common stock h. then it’s 5% of 1.12 (4) Ability to be pledged or hypothecated (5) Conferring of rights (a) voting (b) Sue on behalf of corporation (c) Inspect book (d) Financial information (e) Residual owner (6) Capacity to increase in value 3.

promoter will be held personally liable for breach of duty of care c. Hanewald v. Stated Capital – not on a per share basis. Par Value and Stated Capital 1.21 Issuance of Shares a. 8.30 = standards of conduct for directors. Convertible P.S. states now enforce stated capital a. not personally liable unless agreed upon **This is just about transactions between the corp and the shareholder Surplus = total capital (all your assets minus the liabilities) minus stated capital Leverage – the difference between the interest rate and the rate of return you are getting B. to protect creditors – this is the amount they know cannot be traded out (1) a number at the beginning they decide to set aside 3. if the market is lower than the par value price. Just the issuance of the share …. or other securities) (i. AND WATERED STOCK A. then you’re not going to be able to sell a single stock from the corporation for the par value 2. (e) describes a possible escrow for payments of the shares of stock §6. services performed. §6.31 = when must they pay 3.13 The Continuum of a Corporate distribution (debt paid first. what do we do on distribution of the shares of stock in exchange for value of some kind? §6. but you can go after the directors a. par value provided some protection in the past for discreet group of interested parties (creditors)…if a creditor knew what par value of stock was and knew how many subscribers then the creditor knew how much money had been contributed to corporation to pay debt B. Par – lowest price at which the corporation will sell its stock to could accept for its issuance of stock to investors. Where a loan was repaid by the corporation to the shareholders before its operations were abandoned. PAR VALUE. (d) – nothing you can do 4.S. can authorize shares to be issued for tangibles or intangibles (including cash. Par is mostly an antique – common stock is NOT required to have par.S. promissory notes.e. no shareholder liability to corporation or its creditors with respect to the shares except to pay the consideration for which the shares were authorized b. stock has to be exchange for consideration b.21 Issuance of Shares . Notes on 6. Bryan’s Inc: a shareholder loan is a debt of the corporation.21: Issuance of Shares (a) and (b) 1. Equity III. Eligible and Ineligible Consideration for Shares 1. the loan cannot be considered capital contribution a.22 Liability of Shareholder (limited liability implied in this section) a.only about the minimum price the corporation a. 8. ISSUANCE OF SHARES: HEREIN SUBSCRIPTIONS. contracts for services to be performed. Share subscriptions and agreements to purchase securities 1. not an asset. if it is transferred without consideration. (c) – you can’t go after the other shareholders. b. equity last): Debt Cumulative P. (b) is different from Ohio because ohio says “no notes or services to be performed” 2. P. but preferred usually is.

30: Shareholder’s preemptive rights 1. Solely about shares coming out of the corporation C. Preemptive rights – Want to protect your voting interest and your economic interest . Usually the capital structure will be an integral part of broader control consideration in which individual participants attempt to ensure their continued right to participate in the venture and the attorney reviews the entire “package” as a single unit B. will structure produce desired result 2. there are 2 possibilities in requiring that stock be exchanged for actual receipt of certain kinds of property or services (1) protect creditors who may rely on capital to extend credit (2) may protect other investors 3. zero coupon bonds = pay no interest at all. Market value – what it can be sold for on the open market a. board of directors may authorize shares to be issued for consideration consisting of any tangible or intangible property or benefits to the corporation including (1) cash (2) promissory notes (3) services performed (4) k’s for services to be performed (5) other securities b. (b)(3) – list of where there are NO preemptive rights. unexpected liabilities? IV. 6. Book value – liquidation value 3. even if you include it in your articles of incorporation as a preemptive right II. “debt equity ration” amount of debt over the amount equity that you have…. PLANNING THE CAPITAL STRUCTURE FOR THE CLOSELY HELD CORPORATION A. Terms: 1.14 a. Par value – min rate that the corporation may sell its shares of stock for 2. debt is protected against liability of the corporation B. Preemptive rights – Want to protect your voting interest and your economic interest a. advantages – leverage. outside debt ratio – owed to people other than shareholders 2. ISSUANCE OF SHARES BY A GOING CONCERN: PREEMPTIVE RIGHTS. difference between book value and fair market value = goodwill D. corp may place in escrow shares issued for a K for future services (1) so that both parties are secure in their K rights 2. can I as a shareholder preempt the issuance of new shares from the corporation to a new shareholder. registered bond = one that has been registered in the name of a specific individual and from which the coupons have been removed. inside debt ration – owed to shareholders III. they sell at a substantial discount from face value and upon maturity the holder receives face value F. interest payments deductible to corporation. junk bonds = simply below investment grade debt instruments G. interest is paid directly to the registered owner by check E. DEBT FINANCING A. high ratio is bad 1. DILUTION AND RECAPITALIZATIONS A.used to determine how thinly capitalized a corporation is…if thinly capitalized is bad. bond = secured by a lien or mortgage on corporate property D. debenture = usecured corporate obligation C. Concerns for attorneys 1.

I: can I as a shareholder preempt the issuance of new shares from the corporation to a new B. have to have authorized preemptive rights in your articles of incorporation b. Arden Group: when a shareholder is acting in capacity as a director there is a fiduciary duty. original shareholders do not have to buy but they always have that option b. even if you include it in your articles of incorporation as a preemptive right: (1) shares issued as compensation to directors. the price in some way must be beneficial to the corporation 1. out…presumption is that there are preemptive right Katzowitz v. Sidler: freeze out – must be a valid business reason for selling stock at a dramatically cheaper than its value. preemptive rights & fiduciary duty – of the shares being sold by the corporation. §6. preemptive rights always allow shareholders to maintain their proportionate amount of stock c. D. Person C buys 20 shares at . E. Requirement to show that there IS NOT a breach of fiduciary duty – must show that there is a valid business reason for the act Another type of freeze out – insider shareholders pay for their additional shares by canceling debts owed to them by the corporation while outside shareholders are put to the painful choice of investing fresh capital over which they lose effective control or see their proportionate interest decline drastically Lacos Land v. IF you can show that the Board is offering shares at lower price than is actually valued. officers. I. difference between book value and fair market value – goodwill Dilution Example 1. shareholder. Directors also always have fiduciary duties to the corporation. there are $50 in the corporation and each A. you have a cause of action against the Board for authorizing that sale Book value = reflects what is on the books and records. F. however. Therefore. b)(3) – list of where there is NO preemptive rights. C. H. A and B bought 20 shares each at $1/share 2.67 instead of $20 if the corp is liquidated Stokes v. a. he is more than just a shareholder and should act in the best interest of the corporation . B. book value often refers to liquidation value as well Par value – min rate that the corporation may sell its shares of stock for Market value – what it can be sold for on the open market 1. OH – opt.15 1. or in some other equitable way that will enable him to protect his interest by acting on his own judgment and using his own resources 1. original shareholders have the right to buy proportionate shares at the offering price a.50/share a. G. C have 1/3 of the voting rights (1) This deletes A and B’s voting rights and their economic interest (a) A and B will only get $16. he cannot be deprived of it without his consent except when the stock is issued at a fixed price not less than par and he is given the right to take at that price in proportion to his holding. There will be fiduciary duties for directors when they act contrary to the interests of the shareholders. while he can waive that right. Continental Trust: stockholder has an inherent right to a proportionate share of new stock issued for money only.30 Shareholder’s Preemptive Rights a. etc (2) shares issued to satisfy conversion or option rights created to provide compensation (3) shares authorized in articles of incorporation that were issued within 6 months from the infective date of corporation 2. 2. Solely about shares coming out of the corporation. There are $40 in cash inside the corporation a.

after giving it effect: 1. courts will look behind the economics of a corporation to decide whether there should be distributions . Note: a company transferring it’s own shares is NOT a distribution and these rules don’t apply. whether IRS allows deduction as a reasonable salary c. the corporation would not be able to pay its debts as they become due in the usual course of business. The mere existence of an adequate corporate surplus is not sufficient to invoke a court action to compel such a dividend 1. consider what is included in stated capital 6. Ford Motor Co: in extreme cases. DISTRIBUTIONS BY A CLOSELY HELD CORPORATION A. 2. Gottfried: if an adequate corporate surplus is available for the purpose. how the salary is geared towards services rendered d. fact that the majority group may be subject to high personal income taxes if substantial dividends are paid 5. the essential test of bad faith is to determine whether policy of directors is dictated by their personal interest rather than the corporate welfare. So. the director was basically acting in his own interest instead of in the best interest of the company V. Generally courts will NOT force dividends. high salaries. or bonuses or corporate loans made to officers in control a.40 (6) distribution means a direct or indirect transfer of money or other property (except its own shares) or incurrence of indebtedness by a corporation to or for the benefit of its shareholders in respect of any of its shares 1. intense hostility of the controlling faction against minority 2. . redemption. §1. its more of a bookkeeping thing B. exclusion of the minority from employment by the corporation 3. existence of a desire by the controlling directors to acquire the minority stock interests as cheaply as possible Dodge v. directors may not withhold the declaration of dividends in bad faith. HOWEVER. There is a complaint because dividends are not being issued on specific shares. may be in the form of a declaration or payment of a dividend.e. EARMARKS OF BAD FAITH 1. the order of who gets paid when) Gottfried v. The director wants to guarantee his ability to control the corporation by changing his class A into class B stock. If its distributing its own shares its not really distributing anything of value . So. excess of assets over liabilities plus stated capital) a. how the salary compares to others paid by this employer 4. .40(c) No distribution may be made if. I: whether the court can compel the corporation to distribute shares a.40 = rules for distribution. . 3. D. E. OR 2.16 1. measure against similarly situated employees in the industry b. There is a two part test in section 6. Claim is that directors are acting in their own interest: a. 6. if you can show that one group of shareholders benefit more greatly than other shareholders then you’re on the path. so its not really a distribution . or other acquisition of shares…a distribution of indebtedness or otherwise 3. This case is about proportional redemption. . F. purchase. If after the distribution the liabilities would be larger than the corporation’s assets (surplus = C.40(b) – rules for when a board of directors does not fix a date for distribution to shareholders (i. Dividends can only come out of profits or earnings of a corporation 2. I either want cash (dividends) or growth. The trouble is that shareholders have different strategies for investment and are looking for different things OUT of their investment.

Unincorporated Businesses and Closely Held Corporations 1. duty to act in good faith b. subject to preemption b. (note: dividends are NOT deductible) 1. Rodd Electrotype: We deem a close corporation to be typified by: a.32 Shareholder Agreements a. then it should provide that market to the rest of the stockholders c. Donahue v. substantial majority stockholder participation in the management. Need a mechanism that allows us to pull our cash from the venture) 2.32 I. acting on one had to decide what an individuals salary will be and on the other had as the person receiving the salary (1) the burden then shifts on the other party to show that the salary was fair and reasonable (2) factors to determine if a salary is reasonable: (a) whether the salary bears a reasonable relation to the success of the corporation (b) the amount previously received as salary (c) whether increases in salary are geared to increases in the value of services rendered (d) the amount of the challenged salary compared to other salaries paid by the employer (3) remedy – must pay salary and pension back to corporation H. Legal Restrictions on Distributions 1. when the corporation “provides a market” in the sense that they allow one stockholder to have his shares purchased by the corporation. small number of stockholders (max = 75) b. Wilderman v. Fiduciary duty analysis: a. no ready market for the corporation stock (1) not publicly traded on any market (2) because of this. the fair market value 2. Here. BUT those who end up with the power end up with the fiduciary duty 4.17 G. authorized and issued but repurchased by corporation 3. §7. the controlling stockholders must cause the corporation to offer each stockholder an equal opportunity to sell a ratable number of shares to the corporation at an identical price. PARTNERSHIP STANDARD – stockholders in a close corporation must discharge their management and stockholder responsibilities in conformity with this strict good faith standard 5. If it’s a dividend. OH – surplus is the stated value of the corporation vs. §6. equity insolvency test – no distributions may be made if the corporation wouldn’t’ be able to pay its debts as they become due 3. direction and operations of the corporation (this is about “freeze ups” – how do we handle the disruption that occurs when we can’t get along anymore. If the stockholder whose shares were purchased with a member of the controlling group. Wilderman: I: has a payment been designated as salary which is in fact a disguised dividend. §8.30 Standards of Conduct for Directors . When shareholders have been substituted for directors…go to §7. its income is not reduced. it is possible to eliminate board of directors. prima facie case for breach of fiduciary duty – where one person is on both sides of the corporation.40 Distributions to Shareholders a.30 Treasury Shares a. §6.

18 a. C. TRADITIONAL ROLES OF SHAREHOLDERS & DIRECTORS A. directors cannot be tied to a master other than the corporation.40 (c)(2) balance sheet test – add up assets and liabilities and if there are more liabilities than assets then there is no distribution MANAGEMENT AND CONTROL OF THE CORPORATION I.03 McQuade v.” it requires some level of understanding through questioning in determining whether an equity insolvency test was satisfied (a) director should ask questions about whether the corporation will be able to pay debts as they become due (i) income sources (ii) trends (iii) funds to satisfy existing obligations (iv)can big debt be refinanced b. some states have special close corporation statutes 1. each corporation must have a board of directors a. (a) – 7. (b) offers the key to authorization 3. but cannot make agreements to bind directors 2.08 Removal of Directors by Shareholders 1. may eliminate board b. §8. .32 is the exception and we’re going to get into cases that explain that exception 2.09 Removal of Directors by Judicial Proceeding 1. E. allows Board to rely on advice of accountants. §7. The cornerstone: Rule of Corporate Management §8. Galler: if for some reason you don’t fall within §7. all corporate powers shall be exercised by or under the authority of and the business and affairs of the corporation managed by or under the direction of the board of directors 4. vast majority of corporations.32 a. shareholders may make agreements between themselves to elect directors. or other in making their decisions (1) duty generally requires more than “passive listening. this is the model but closely held corporations get a choice 5. F. You cannot waste corporate assets. court may remove director if court finds director is engaged in fraudulent conduct or intentionally inflicted harm Galler v. but they can agree and vote for who they want to be DIRECTORS OH – requires that you have at least 3 unless you have fewer shareholders See also comments to §8.32 and you cannot use it as a shield. or the transfer will fail. Must show it is an ordinary and necessary business expense! Must have a business reason for the transfer. shareholders cannot agree who can be an OFFICER of the corporation. stockholders may not. by agreement among themselves control the directors in the exercise of the judgment vested in them by the virtue of their office to elect officers and fix salaries 1. D. Directors 1. G. You cannot exchange corporate assets for insufficient value. Stoneham: generally shareholders cannot bind directors. in general. shareholders may remove one or more directors with or without cause unless the articles of incorporation provide that the directors may be removed only by cause §8. They must act in the best interest of the corporation.01 Requirements for Duties of Board of B. §6. attorneys.

This is what you get the proxy under 2. the beneficial owner can compel the record owner to execute a proxy appointment in the name of the beneficial owner so that the owner may vote the shares as he or she desires 4.32 limit. there must be some legal purpose for meeting 1. Matthews: I: Who between these two gets to vote and who should be entitled to vote? the record owner was a person different from the beneficial owner and the court held that the corporation must determine who had been authorized to vote the shares by the record owner..19 2. proxy. 7. If it’s allowed in their articles of incorporation. Note: Shareholders cannot elect officers II. 1. If there is a director who has violated a duty of care or a duty of loyalty. the agreement is. Dressel: shareholders may remove director unless articles of incorporation provides otherwise…stockholders cannot force a meeting if the board cannot legally do what the meeting is calling for. should sustain agreements made by all shareholders dealing with matters normally within the province of directors even though all the shareholders could have but had not provided similarly by charter or by law provision sanctioned by statute I.25 Quorum and Voting Requirements for Voting Groups 1. Kurtz: when all of the stockholders of a corporation agree that. One who is authorized to act as a substitute for another. dividends – distribute dividends to whoever owns the shares on a particular date D. Beneficial owner – the one with equitable title to the stock a. enforceable even though all formal steps required by the statute have not been taken. no “business or activities” of the corporation shall be conducted without the consent of a minority stockholder. then cause for removal exists. a person who is authorized to vote another's stock shares 2. Or you can get a proxy from the registered owner. if a quorum exists.22 Proxies 1. Matter of Auer v. shareholder may vote his shares in person or by proxy 3. then shareholders can remove a director without cause. Salgo v.e. as between the original parties to it. in corporate law.08 (internally). voting – whoever owns shares on a particular date will be the shareholder of record to vote 2. trading stock “ex-dividend” – this means that it is traded after the dividend date but before the dividend is issued E. beneficial owner – person who actually paid. a. if you paid consideration for your proxy (see next case). 8. §7. 1. B. quorum – typically this is the majority of shares needed to vote on a particular matter 2. action on a matter by a voting group is approved if the votes cast within the voting group favoring the action exceed the votes cast opposing the action.22 = proxies) C. Shareholders meetings: 7.01.07 Record Dates – come up in two important cases 1. then what are your protections? You can demand a transfer on the books and become the registered owner. recognized by corporation as shareholder 4.09 (externally) b. If you are the beneficial owner. §7. shares entitled to vote as a separate voting group may take action on a matter at a meeting only if a quorum of those shares exist with respect to that matter 3. §7. except as specified in their agreement.. Standard by which directors can be removed: MBCA 8. Basic agency principals apply here. 1.02-.05 = notification requirements for mtgs c. SHAREHOLDER VOTING AND AGREEMENTS A. esp. (7. Zion v. irrevocable if coupled with an interest – i. n. unless the articles of incorporation or the Act require a greater number of affirmative vote . Duration – 10 years is the 7. H. Registered owner – the person written on the books 3. The one for whom the stock is held b.

000 outstanding. and D equals the number of directors to be elected. B has 49…5 positions open c. . (S / (D+1)) + 1 . so if there are 6 people up for director.20 F. and then B can divvy up his votes to pick the other two Example of how this plays out when you’re trying to figure out how many shares you need to get X number of directors a. Number of shares needed to elect given number of directors = (total number of voting shares at the meeting x number of directors YOU want to elect) / (number of total directors to be elected + 1) + one d. Cumulative v. Example: 10. to determine the number of shares needed to elect one director (a) S = the number of VOTING shares (not outstanding) (b) D = the number of directors to be elected (2) Where S equals the total number of shares voting. plurality of the votes cast by the shares entitled to vote in the election at a meeting at which quorum is present OH is an opt out when it comes to cumulative voting Straight Voting – you can cast as many votes as you have shares of stock for each director SPOT Cumulative Voting – you may cast for each candidate as many shares of stock times the number of directors to be elected a. 5. §7. if A puts all of its votes in ONE director. . 9. then B will always have 66 and A will always have 34. so B will win every time (2) What changes with cumulative voting? (a) A actually has 102 votes total (34 x 3 (which is the number of directors) (b) B actually has 198 total votes (66 x 3) (c) So. How many shares of stock of 100 do you have to have in order to guarantee at least 3 of the 5 directors (pg 450) (1) Use the formula . . 3. with 3 directors (1) Two factions – one with 34 and one with 66 (a) Faction A puts forward a slate of 3 directors and faction B puts forward a slate with 3 directors (b) IF we have straight voting. A has 51 shares. directors are elected by a 2. . Your client has 2700 shares . Cumulative voting guarantees the minority a certain number as long as they vote correctly (1) It’s about collecting all of the votes and allocating them among the candidates to achieve the results you want b.000 shares. 4. 7. there are 100 shares. 6. unless otherwise provided in the articles of incorporation. (100 x’s 3 / 5+1) +1 = 51 A will put 51 shares down for three directors Example of how this all plays out a. A can put 102 votes in person H. 11 directors to be elected b. The formula to elect n directors is: (nS / (D+1)) +1 (a) ((3x100) / (5+1)) + 1 Example: How can you maximize the number of directors your client can elect? a. Straight Voting 1. then A will get to elect at least one of the 3 directors (i) The TOP vote getters are the ones that prevail.28 provides for cumulative voting – must opt in to have cumulative voting a.

voting rights are being separated (1) result is§7.30 Voting Trusts 1. list of beneficial owners b. then the MBA says the person who is in office.if all the preferred shareholders knew and agreed. Humphrys v. than you only have to have one director) III. §7.599 – so the most you can elect is 3 directors. SHAREHOLDER VOTING AGREEMENTS A. Is it fair to the interested party (those with a beneficial interest)? b. Winous Co: in order to assure minority representation on a corporate board of directors by permitting cumulative voting a. transfer legal title to trustee and retain beneficial title in beneficiaries to the trust. deliver copy of list and agreement to corporation c. Not only do you need to know how many shares you have to have. voting trust involves a third party – “trustee” a. How is this decision going to affect their ownership or interest in whatever you say in (a)? 4. 2 or more shareholders may provide for the manner in which they vote their shares by agreement and aren’t subject to the provisions in §7. but also how you’re going to vote those shares (1) Figure out how many votes of stock you have (2) Then figure out how you’re going to vote it 8. this is a defense to a claim for breach 5. Use the bottom formula: (n x 9000) / (11 + 1) = 2700 (1) Answer is 3. can’t last more than 10 years 3. control device C. In ohio. the minimum number of directors is three unless there are less shareholders (so if there is only one shareholder. more concern with respect to voting trusts than voting agreements because you are separating out interest here and you aren’t in agreements. In states where the right to vote cumulatively is permissive rather than mandatory. Burden of proof rests with the fiduciary duty against whom the prima facie case was established (1) Burden: to establish overall fairness of the transaction. The affect of cumulative voting can be diminished by breaking directors into classifications c. stays in office until a new director is voted in 9. How can you get to 4? Plug in “4” for n and you can find out how many shares you need to get 4 directors d.30 .21 c. Prima Facie case for Breach of Fiduciary DUTY: a. with voting trusts you must have: a. the charters of certain corporations have been amended to replace cumulative voting with straight voting b. Note: When there is a deadlock (usually happens when each side has 50% of the voting power).31 Voting Agreements 1. What is it that the trustee owns or has an interest in? b.31 talk about voting agreements and voting trusts 1.30 2. §7. Should the Transaction Stand? a. 7.30 and . here the beneficial owners of the stock b. Voting trusts have more safeguards in it B.

uncontrolled combination of stockholders formed to acquire voting control of the corporation to the possible detriment of nonparticipating shareholders 3.22 2. or a majority of their group from time to time determine 5. I. even though the thing done be within the scope of the powers granted to the trustees in general terms 1. Ringling Bros v. Ringling: The votes in this case were cast contrary to the terms of the agreement 1. What is it that the trustee owns or has an interest in (1) Once we know that the trustee is acting on both sides of the transaction. may vote their respective shares so as to obtain advantages of concerted action 4. shareholder may exercise wide liberality of judgment in the matter of voting and it is not E. Generally burden is to establish the overall fairness of the transaction b. Is it fair to the interested party (the beneficial interest) in this trust? 2. objectionable. How is this decision going to effect their ownership or interest in whatever you say in (a). Burden Of Proof is with the fiduciary against whom we have established a prima facie case a. the principal purpose of the grant of voting rights is to acquire voting control of the corporation 2. the voting rights granted are intended to be irrevocable for a definite period of time AND c. they would be cast according to how the arbitrator said Brown v. not subject to a ten year agreement 4. These votes were wrongfully cast c. after establishment of prima facie claim for breach of loyalty a. doesn’t actually transfer voting rights D. Otherwise.31 3. If all of the preferred shareholders knew and agreed. may restrict transferability. ownership of voting stock imposes no legal duty to vote at all 3. then the trustee must show that he was acting for the benefit of the organization b. G. McLanahan: cannot favor one class at the expense of another – such an exercise of power is in derogation of the trust and may not be upheld. Cohen 1. voting stock is allowed. H. Specific performance b. What is the remedy for NOT FOLLOWING a voting agreement? a. Prima Facie Case for Breach of Fiduciary Duty a. F. must .27 Restriction on Transfer or Registration 1. Must find the evils of a voting trust in order to prevent a corp from having voting stock. the result would be different. or determined by whims so long as he violates no duty owed to his fellow shareholders 2. this doesn’t mean that they are automatically liable if they can show that it was fair to the trust Lehrman v. the voting rights of the stock are separated from the other attributes of ownership b. Tenure voting – having different voting rights depending on how long you have owned the stock §6. that his motives may be for personal profit. Under the MBA. this would be a defense to a claim for a breach of fiduciary duty 3. In deciding whether to allow the transaction to stand… 1. not as difficult to create and agreement under §7. criteria of a voting trust a. may lawfully K with each other to vote in the future in such a way as they. Purpose of the voting statute: to avoid secret.

a. To preserve exemptions under federal or state securities laws c.23 a. knowing that thereafter an associated stockholder could frustrate corporate action until all their demands were met 1. §8. if the directors remaining in office constitute fewer than a quorum of the board. appraisal (trigger which when pulled allows for an appraisal (1) possible triggers (a) owner or shareholder becomes disabled (b) married owners or shareholders divorce (c) minority owner is fired (d) owner faces personal bankruptcy or (e) an owner is convicted of a crime or involved in a scandal b. For any other reasonable purpose J. determining value if you have either (1) or (2) a. (e) despite the expiration of a directors term. arbitrary price (1) can have this move up and down with the consumer price index or any other escalator clause IV.10(a) Vacancy on Board 1. the articles of incorporation by reference on the face or back of the certificate of the provision of the articles of incorporation which restricts the transfer of stock K. it isn’t enforceable against person without knowledge but is enforceable against person with knowledge 2. One class of stock. What measure will be taken short of dissolution? . Two Primary Possibilities for Getting Out of Corporation 1. Retirement or Death of Shareholder 1. cross purchase a. DEADLOCKS A. purchase stock by the corporation – avoid estate tax L. note conspicuously on front or back of certificate or contained in notice if no certificate b. if a vacancy occurs on board. they may fill the vacancy by the affirmative vote of the majority of directors 2. without running through the estate a. he continues to serve until his successor is elected and qualifies or until there is a decrease in the number of directors D. Kelly: don’t want to allow a director to refuse to attend meetings. Gearig v. from shareholder to corporation 3. 4 directors. redemption a. and 2 factions equally divided lead to this problem. Courts are reluctant to dissolve and will do so only as a last resort a. unless so noted. In re Radom & Neirdorff: there is law that allows dissolution. board of directors may fill it C. Trinity Savings and Loan Ass’n: corporation may impose restrictions on the transfer of its stock if they are expressly set forth on the articles of incorporation and copied at length or in summary form on the face of each certificate. but it doesn’t mandate that the court order dissolution 1. Ling v. Maintain corporations status when it is dependent on number or identity of shareholders b. Restriction is authorized to a. shareholder to shareholder 2. Straight voting was used here B. §8.05 Terms of Directors Generally 1.

assets being misapplied or wasted – assets of the corporation going out for insufficient value F. Claim is that the provisional director selected by the court is not impartial b. have to agree that they can’t make a decision on it b/c there may be a breach of a fiduciary duty 2.32: judicial dissolution brought by a shareholder a. Inc a. lack of probity and fair dealing in the affairs of a company to the prejudice of some of its members c. Equitable powers of the court are sufficient to extend to a buyout 3. What is the test for whether Vega can be appointed? (1) Court is to consider only the best interests of the corporation. majority of original incorporators before any shares have bin issued may file with the sec of state an articles of dissolution G.02 Dissolution by Board of Directors and Shareholders 1. visible departure from the standards of fair dealing d. §14. burdensome. Buyouts: a. irreparable injury being suffered OR 2.20 Grounds for Administrative Dissolution 1. word oppressive does not carry an essential inference of imminent disaster. Sheerin: 1. Abreu v. who might be on one side or the other. (2) Factors in evaluating candidates for provision director include: (a) Degree and quality of past involvement in the corporation (b) An understanding of the corporation’s history and current situation (c) Experience and abilities in providing a cooperative and unifying element (d) Need for immediate appointment (e) Degree of impartiality (f) A true interest in the viability and advancement of the corporation as an entity and not allegiance to one of the deadlocked factions . Sales. vote by shareholders approving the proposal for dissolution H. Davis v. the business cannot be conducted to the advantage of shareholders (i. violation of fair play on which every shareholder who entrusts his money to a company is entitled to rely e. So it’s not surprising when the court appoints someone who knows the corporation. §14. deadlock) OR 3. §14. propose dissolution for submission to the shareholders OR b. Buyouts are favored by courts over dissolution b. DISSENTION OR DEADLOCK A. secretary of state can file to administratively dissolve a corporation V. harsh and wrongful conduct b. §14.24 (1) 14.30 Grounds for Judicial Dissolution 1.34 – election to purchase in lieu of dissolution (see next case) E.01 Dissolution by Incorporators or Initial Directors 1. MODERN REMEDIES FOR OPPRESSION. Unica Indus. §14. if a shareholder steps up and brings an action for dissolution then maybe one or more of the remaining shareholders can elect to purchase all the shares owned by that complaining shareholder b. in order for a voluntary dissolution – you must have action by the board of directors a. and not the warring factions. it can contemplate a continues course of conduct 2.e. oppressive conduct = a. makes it a high risk proposition for the petitioning shareholders 4.

then you must have unanimous agreement of the board of directors. If you go without a meeting. MBCA 8. ACTION BY DIRECTORS AND OFFICERS A. no action without meetings UNLESS there has been written consent by ALL of the members of the BOD a. §8.01(b) – directors have corporate authority 3. In the absence of a unanimous agreement.20 talks about meetings: this is an important provisions because the system contemplates that there will be a debate about all corporate assets F. Generally settled that the president as a part of the regular course of business has authority to hire and discharge employees and fix their compensation. Harrison Homes: board of directors may 1. Notes: If you want to take action. Apparent authority is a question of fact 1. actions taken at meetings. BOD may hold regular or special meetings in or out of the sate 2. 2. when he started working for Jenkins Bros. estoppel. Jenkins Bros: Issue of whether there was actual authority to give Lee the pension he was promised in 1920. Generally. First as if there is actual authority? 2. Estoppel argument? a. amounts involved? 3. you must have a quorum (can use electronic transmissions). In order to have a meeting. corporation’s usual manner of conducting business d. then you must have unanimous agreement in the absence of a meeting. the president only has authority to bind his company by acts arising in the usual and regular course of business but not for contracts of “extraordinary” nature 1. expressly authorize the president to enter into contracts OR 2.20 Meetings 1. If K party has certified copy of a resolution UNLESS K party had actual knowledge that there was no authority .e. VI. Lee v. etc) B.21 Action Without Meeting 1. apparent. §8. As a general rule. In the Matter of Drive-In Development: Subsidiary guaranteeing the debt of it’s parent 1. apply the usual agency principals here (i. statements made by an officer or agent in the course of a transaction in which the corporation is engaged and which are within the scope of his authority are binding upon the corporation 2. Court uses an apparent authority analysis. who is the officer negotiating it? c. the size of the corporation and the number of stockholders? (1) Scale matters…what is the size of the obligation compared to the assets of the corporation? Small impact more likely to find apparent authority e. but that doesn’t matter because the director has fiduciary duties to the company. then we still want debate. Is there apparent authority? a. reasonableness of the K? f. E. (1) This is another way to break a deadlock. Black v. his authority to contract may arise from having assumed and exercised that power in the past (apparent authority) 3. MBCA 8. may permit any or all directors to participate by any means of communications unless otherwise provided in articles of incorporation D. what is the nature of the K involved? b. OR a corporation may ratify the president’s contract to enter into contracts C. You can have a provisional director to BREAK deadlocks and the director does not have to be neutral (can have allegiance to one side or the other).25 c.

non-interest bearing promissory note went the other way (b) If he would have distributed a dividend.40 and 8  7.01.09 – removal of directors in a judicial proceeding  8. Cash went one way. the controlling majority shareholder must exercise good faith and fairness from the viewpoint of the corporation and those interested therein (a) Control is important (b) When control is material to the transaction.31 – voting agreements e.01.40. a. Petition of Caplan: Rule – the management of a corporation is NOT subject to trade and cannot be bought apart from actual stock control.– dissolution 6.34 – election to purchase in lieu of dissolution .01.40.07 – record date for shareholders 8. First Western Bank and Trust Co.9% of the cases b.40 and 8. there wouldn’t have been anything wrong.23d. 8of =directors directors. Things NOT to do in order to avoid wrongful conduct (1) Divert cash to yourself and another one of your corps (a) Divert = STOLE. 1.08: Removal of directors by shareholders and whether there needs to be cause forto removal a.33. – nominess 8.33: Directors’ Liability for Unlawful distribution. You can have an exception 8. 7. (c) Damages are to get everyone back to where they were before (2) This does NOT apply to 99.32. H. Transactions in Controlling Shares 1.28 – cumulative voting: Difference between cumulative voting and straight voting (1) Higher Unlawful 8. other than a bad business judgment (2) Cease paying creditors promptly (3) Take payments of employees’ health insurance 2.05 – terms of  7.31 – voting agreements  6.22c.08 speaks about removal and whether there needs to be cause  7. so 6. c. need examine the agreement carefully to determine (2) which it is  7. Review of management and control: Chapter 8 = directors and Chapter 7 = shareholders  Starting point: 8.26 4. Would normal corporation would have objected to this? 5. Did corporation ratify? a.30 – voting trusts: standarddistribution under this than voting agreements. General Rule: no duties with respect to shareholders as to whom you’re going to sell stock to – so what is the trigger when there IS a duty on the part of a shareholder? (1) In any transaction where the control of the corporation is material. Looks at the reasonable expectations of a 3rd party to determine how to apply the restatement analysis G.33 require reference to each other  8. You can have an exception to 8. Chapter 7 = shareholders  Chapter 8.09 – removal in a judicial proceeding  7. 8. if you fol  8.27 . so 6.Restrictions on transfer  14. – proxies  7. then the controlling shareholder must exercise good faith and fairness.01. Leverage Buyout (LBO) – I will borrow from the seller and I will pay back from my management of the corporation.40 – officers b. if you follow the requirements of 7.Restrictions on transfer f. then go toto6.27 . Starting point: 8.30 (grounds for)  14. then go to 6. DeBaun v. You cannot sell seats on the board of directors.05 – terms generally  8. Nothing wrong with paying off the buyout from the dividends of the corporation.

All other corporations. Special purpose entities weren’t publicly held and the returns were never consolidated into Enron’s financial statements C.27 THE COLLAPSE OF ENRON CORPORATION AND THE DECLINE IN TRUST I. Loans to Executives and Disgorgement of Incentive-based Compensation 1. business of SEC to maintain the integrity of the market b. Corporate Disclosure and CEO/CFO Certification 1. Sometimes it’s not clear how a business transaction is going to play out. by use of the mails or by any means or instrumentality of interstate commerce or of any facility of a national securities exchange or otherwise c. COLLAPSE OF ENRON A. 10-K = a quarterly report – how much room do directors have in speaking the truth and also guarding against misleading 1. 2 categories of corporations: 1. Maintenance of Internal Controls for Monitoring 1. so we have to determine what needs to be disclosed PROXY REGULATION I. must provide FULL disclosure of the facts to make best investing decisions B. Enron wanted to become a “virtual company” and created special purpose entities B. in contravention of such rules and regs as the commission may prescribe as necessary or appropriate in the public interest or for the protection of investors . person b. These SPE’s lacked sufficient outside equity and had no other shareholders other than Enron II. Creation of a New Board to Oversee Accounting Firms that Audit Public Companies 1. SARBANES-OXLEY ACT A. in the past there was a requirement but now there must be independent member of the BOD to sit on the auditing committee. attorneys who advise now personally liable for material that they fail to disclose III. Large Corporations  Those that are required to register under section 12 of the act a. elements in order to establish that a person has acted unlawfully a. SCOPE OF REGULATION A. that way we have a person who is responsible a. Major Issue = Materiality  Would a shareholder think the information important in deciding whether to buy to or sell? Materiality is important in deciding whether the information must be disclosed. B. regardless of whether they are required to register a. internal control report filed annually and methods to bring information C. Audit Committees of Corporate Boards of Directors 1. must comply with rules as provided with the oversight board D. Executive Compensation. Other rules apply to any transaction in securities C. Professional Standards for Attorney 1. §14(a): 1. must report financial conditions to CEO and CFO must sign and put personal liability on the line. The rules that apply to a “registrant” are those corporations that need to be registered in order for the rules to apply 2. can’t be directly tied to management of the company E. CEO and CFT must reimburse company F. The Securities and Exchange Act (SEA) A.

1345) a. §12(g)(1) (see page 1140 of the supp) 1. registration requirement a. if information is distributed for the purpose of obtaining proxies. Broad definition of solicitation c. Proxy Statements 1. Gittlin : statute forbids any person to solicit any proxy or consent or authorization in respect of any security therein specified in contravention of such rules and regs as the commission may prescribe as necessary or appropriate in the public interest or for the protection of investors. to solicit or to permit the use of his name to solicit any proxy or consent or authorization e. must register (1) 500 or more securities’ holders AND $10 million (increased the exemption from 1 million to 10 million) 2. B. then you can de-register a. PROXY FORMS. then at minimum you must include a. the type of information required depends to some extent on the type of issue to be presented to the shareholders for their vote 2. Purpose of the rule is to ensure that shareholders have the option to vote to approve or disapprove issues submitted to them. Studebaker Corp v. 1. engaged in interstate commerce or in a business affecting interstate commerce or whose securities are traded by use of the mails c.28 d. in respect of any security f. what the proxy is about b. registered pursuant to section 12 of this title B. Form of Proxy 14a-4 contains specific requirements as to the form of proxy documents 1. every issuer b. 14a-5 the information in the proxy must be “clearly presented” 3. how you intend to vote 2. most common way is to get fewer than 300 shareholders (1) reverse stock split. Solicitation  all communications directed to shareholders that are reasonably calculated to effect a voting decision II. and to vote for or against the directors proposed by the persons soliciting the proxy. Annual Reports . PROXY STATEMENTS AND ANNUAL REPORTS A. The terms “solicit” and “solicitation” of proxies – the request for a proxy whether or not accompanied by or included in a form proxy b. 12g-4 (which is not in our code): de-registration – if your business isn’t doing so well and you have less than $10 mil in assets for 3 consecutive years and less than 500. 14a-6 proxy statements must be submitted for preliminary review by the commission only if out of the ordinary matters are to be considered 4. usually management. Rule 14(a)-1(l)(l) (Pg 1269) a. 14a-3 requires that a proxy solicitation be accompanied by a proxy statement containing the info set forth in Schedule 14A (pg. every shareholder that before had 5 shares they now have 1 new share (2) redemption of fractional share (3) this will rid of small shareholders C. copies of the definitive documents must be filed with the SEC when they are distributed to shareholders C.

from continued operations which do not arise from or are not necessarily representative of registrants business. if you decline the opportunity. 14a-3 provides that if a solicitation is by management and relates to an annual meeting at which directors are to be elected. Then. INFORMATION CONTAINED IN THE PROXY STATEMENTS A. What if there is a Trend. It goes the other way. 10-Q (1253): quarterly statements by the corporation required by the SEC D. the record holder may vote as it chooses G. B. What do you need to tell voting shareholder for them to be “informed” when you intend to ask the shareholders to vote on a new accounting firm? a. the solicitation must be accompanied by an annual report containing the financial information and other material described in the rule D. discussion of management objectives and goals for future performance. but a low level of materiality. commitment. Management’s Discussion of Financial Condition and Results of Operations 1. or uncertainty is known. Management’s discussion of financial condition and results of operation (1) Statements qualifying for the safe harbor cannot give rise to private liability if either of the two tests is met: (a) No private liability may be imposed if the forward-looking statements made without actual knowledge that the statements were false or misleading (b) No private liability may be imposed if the forward-looking statement is identified as such when made and is accompanied by meaningful cautionary language identifying important factors that could prevent the statement from becoming accurate H. Independent public accountants 1. “Forward Looking Statement” – projections of financial data. and the assumptions underlying such statements a. event. management must make TWO assessments: (1) Likelihood and (2) Magnitude (1) The lower the level of certainty. demand. etc. MD&A shall provide info that the registrant believes to be necessary to an understanding of its financial condition. changes in the financial condition and results of operation E. where a trend. Arbitrage: simultaneous buying and selling of the same negotiables or commodities in different markets in order to make an immediate riskless profit III. if you decline the opportunity to provide the proxy you can go vote the shares yourself F. 2. particularly any significant elements of income. 8-K: Important imformation that shareholders should know. the higher the level of materiality in order for you to take it into account. The test for when disclosure is required: S-K Item 303 (1381) a. E. Start with 303(a) (1) 303(a)(3) talks about results of operations – issue is how much detail is necessary? 303(a)(3)(i) b.Was there anything misleading about the 10-K published by Caterpillar? 1. demand. Uncertainty or Ambiguity in a Co’s Future?  ASK: (1) Is the known trend.29 1. In the Matter of Cat: I . Regulation S-K (1381): forecasts/forward looking statements – what management believes the company’s future is – requires disclosure of extraordinary circumstances. Info on the proxy statement must be clearly presented b. Contains Item 303. then it needs to be disclosed. such as the detrimental impact on the CEO’s health. too – if there is a high level of certainty. 10-K (1247): annual statements by the corporation required by the SEC C. commitment or uncertainty likely to come to fruition? .

commitment.the statement against materiality: this establishes causation if there is also an essential link SO  (2) show that the proxy solicitation was an essential link THEN SHOW LOSS CAUSATION: In order to get monetary relief. (1) no private liability may be imposed for forward looking statements made without actual knowledge that the statements were false or misleading (2) no private liability may be imposed if the forward-looking statement is identified as such when made and is accompanied by meaningful cautionary language identifying important factors that could prevent the statement from becoming accurate. continuing obligation to avoid false or misleading statements 2. at the time and in light of circumstances under which it is made D. so something that was left in OR was left out was false or misleading F. C. form of proxy. with respect to any material fact (or which omits to state any material fact necessary in order to make the settlement therein not false or misleading or necessary to correct any statement in any earlier communication) 1.FALSE OR MISLEADING STATEMENTS IN CONNECTION WITH PROXY STATEMENTS – 14a-9 (SEA): A. and the assumptions underlying such statements: statements that qualify for the safe harbor cannot give rise to private liability if either of 2 tests is met. event. (Caterpillar) b. SAFE HARBOR: for Forward Looking Information: projections of financial data. Northway: Omission of a statement in order to make other statements not misleading . notice of meeting or other communication. that is false or misleading 1. no solicitation may be made by means of any proxy statement.30 (a) if not reasonably likely (as determined by management) = no disclosure! (2) If the management cannot make that determination. it must evaluate objectively the consequences of the known trend.  fairness might be used to show this FEDERAL CAUSE OF ACTION H.intentional violation is sufficient but careless or negligent is not enough…recklessness will likely be sufficient but the Supreme Court hasn’t decided . IV. then petitioners are not entitled to relief. JI Case v. B. with respect to the solicitation of a proxy for the same meeting or subject matter which has become false or misleading G. then the shareholder must show how he/she was monetarily damaged as a result of the transaction. Borak: This case allows for a private cause of action under 14(a)!! If respondents can show by a preponderance of the evidence that the merger would have received a sufficient vote (even if the merger had not been misleading). don’t have to go all the way to a lie – only need to show that it is misleading (even if they just left something out) E. containing any statement which. demand. INJURY CAUSATION: show how the injury was caused by the false or misleading statement (1) Materiality. TSC Industries Inc v. or uncertainty on the assumption that it will come to fruition (a) Material = whether a reasonable investor would consider the information important in deciding whether to buy or sell. show that the statement was false/misleading THEN . written or oral. discussion of management objectives and goals for future performance.

b. Definition of MATERIALITY – there is a substantial likelihood that a reasonable share holder WOULD consider it (the fact) important in deciding how to vote a.31. careless/negligent is NOT enough 3. §8. . . Reasonable shareholder = objective test 2. IF §8. I. §8.31 1.62. §8.60 (a) can’t bring an action against the director for breach of fid duty if there has been an action by shareholders (b) PRIMA FACIE CASE FOR CONFLICT OF INTEREST : would reasonably be expected to exert an influence on the director’s judgment if he were called upon to vote in the transaction . it DOES NOT require proof of a substantial likelihood that disclosure of the omitted fact would have caused the reasonable investor to change his vote.61. .63 d. Directors might have solicited the proxies in order to insulate themselves from liabilities 4.60 Conflicting Interest a. director not liable for any decision to take or not to take action UNLESS the party asserting liability in the proceeding establishes that . Virginia Bankshares: 1.63 c. 8. 8. must show that the fact would have assumed actual significance c. the director knows at the time of commitment that he or a related person is a party to the transaction or has a beneficial financial interest in or is so closely linked to the transaction and of such financial significance to the director or a related person that the interest would reasonably be expected to exert an influence on the directors judgment (2) FIRST establish whether there is a prima facie case thru §8. not precluded by §8. scienter standard = disclosing/non-disclosing party KNOWS the information to be false  intentionally violates is sufficient. §8. a.61 purposes if a majority of the votes entitled to be cast by the holders of all qualified shares were cast in favor of the transaction 2.63  can avoid liability if disinterested shareholders APPROVE the transaction 3.63 Shareholder’s Action (1) shareholder’s action respecting a transaction is effective for §8.61. don’t count in terms of this analysis a.31 Standard of Liability for Directors: necessary in order to bring an action for liability a. This is a question of fact. Rule: SEC Proxy rules require that an omitted fact becomes a “material” fact when there is a substantial likelihiood that a reasonable shareholder/invester would consider it to be importantant in deciding how to cast their vote. Objective Standard. must also show that it would have significantly offered the total mix of information d. the interest of a director of the corporation has respecting a transaction effected or proposed to be effected by the corporation (or by a subsidiary of the corporation or any other entity in which the corporation has controlling itself if: (1) whether or not the transaction is brought before the board of directors of the corporation for action. if there is a conflict of interest and that it disclosed to the shareholders and the shareholders who don’t have conflicts of interest. b. .61 Judicial Action (1) cannot bring an action for breach of fiduciary duty if there has been an action by shareholders with respect tot that action by the directors and that shareholder action complies with §8.

02 is submitted to vote at a shareholder’s meeting. Sue decision is a decision by a shareholder whether or not to institute a representative or derivative suit alleging a state law cause of action 6. must also show that the subject of the opinion was also false.01: Merger of Corporations .03/. a. Test is actually: Need a false or misleading statement OR you need an omission which renders some material fact misleading and the solicitation of proxies was an essential link. even if the statement is FALSE. Three things that are actionable as a material fact: a. Omission 2. § 11. would have shamed management into abandoning a proposed transaction 7. Sue Facts: fact which is material to a sue decision. Opinons can be actionable because they are built on facts – that is the takeawy from the Virginia Banks case. So. a shareholder who wishes to assert appraisal rights with respect to any class or series of shares (i) must deliver to the corporation before the vote is taken written notice of the shareholder’s intent to demand payment if the proposed action is effectuated AND (ii) must not vote (b) state law remedy for dissenting shareholders for a state law merger 8. REGULATION 14a-8. Short Form Merger: requires NO approval from the board of directors/shareholders of the subsidiary a.02: Acquisition of a corporation’s Shares by another corporation 10. Proposal – shareholder proposal is your recommendation or requirement that the company and/or its board of directors take action which you intend to present at a meeting of the company’s shareholders . §13. it might not be material IF the statement gave enough information so that the opinion of someone might be material enough to come to your own conclusion b. § 11.21 Notice of Intent to Demand Payment (a) if proposed corporate action requiring appraisal rights under 13.04 – voting requirements (see comments to these sections) a. but it also has to be material. So some statements are to unimportant to render a cause of action.02 Right to Appraisal*** (1) shareholder entitled to appraisal rights and to obtain payments of fair value of that shareholder’s shares in the event of any of the following action (a) consummation of a merger to which the corporation is a party if the corporation is a subsidiary and the merger is goverened by §11.Plan Requirements 9. SHAREHOLDER PROPOSALS I. Misleading c. Just a claim that you didn’t believe what he said is not enough. 2/3 vote are needed J. a. Essential link in the accomplishment of the transaction 3. 14(a) says false or misleading. Shame facts: facts which. False in the sense that what they said isn’t believable b.04 (2) §13. § 11.32 5. Review 1. 4. SOLICITATION OF PROXIES A. had they been disclosed.

J. substantially implement 11. absence of power/ authority 7. D. address 3. specific amounts of dividends if a company intends to exclude a proposal – it must file reasons with the commission no later tan 80 days before it files its definitive proxy statement and form of proxy with commission shareholder must include. personal grievance. duplication 12. for at least one year by the date you submit the proposal and must continue to hold those securities thru the date of the meeting 2. special interest 5. improper under state law (i. name 2. either you or your representative 2. number of company’s voting securities that you hold shareholder may send letter to commission explaining the reasons that there should be a proposal M. management function – if the proposal deals w/ matters relating to the company’s ordinary business operations 8. Mobil Corp: Proposal was to keep citizens of OPEC companies from sitting on the Mobil board . if not a record holder – must prove your eligibility No more than one proposal per shareholder meeting Not to exceed 500 words If you failed to follow eligibility or procedural requirements. conflicts with company’s proposal – cannot put up contrary proposal. if record holder – company can verify eligibility but you must provide company with a written statemtn that you intend to continue to hold the securities thru the date of the meeting of the shareholders 3.e. I. L. fail to appear – the company excludes your proposal When can a corporation exclude a proposal even if everything has been properly complied with? 1. along w/ proposal 1. the company may exclude after notifying you of the problem and you have failed to correct Company has the burden of persuading the commission or its staff that a proposal can be excluded Deadlines? 1. E. via electronic media if company holds its shareholder meeting in whole or in part via electronic media 3.33 B. would this proposal be allowed under state law?) 2. H. Submission of Proposals – Who is Eligible? 1. Company can establish deadlines 2. must appear thru 1. G. you can always go up against it though 10. K. relevance 6. violation of law 3. Rauchman v. relates to election 9. 120 days be4 proxy is sent To present proposal. violation of proxy rules 4. F. If not then default: a. must have continuously held at least $2k in market value or 1% of the company’s securities C. resubmissions 13.

it must be made shortly thereafter. Difference b/t §8. (1) Subjective AND objective standard  director must actually believe that the business judgment is in the best interests of the corporation and that belief must be rational! 2. non-public information to specified types of securities market professionals (or shareholders under circumstances which it is reasonable foreseeable that the security holder will trade on the basis of the information) must thereafter publicly disclose the material 1. Statement of the Business Judgment Rule (pg. DUTY OF CARE AND THE BUSINESS JUDGMENT RULE*** on exam I.. no company is required to include any form of electioneering in its proxy statements 2. Is informed with respect to the subject of the business judgment to the extent the director reasonably believes to be appropriate under the circumstances. Rationally believes that the business judgment is in the best interest of the corporation. SOLICITATION OF PROXIES A. SARBANES-OXLEY A. REGULATION 14a-7.requires more accountability on the part of the officers and directors of corporation AND requires new rules for accounting. II. Generally individuals don’t have the kind of money necessary to circulate a proxy though BUT 2. 120) 1. and c.e. Elements of a complaint for directorial liability c.30 C. Not really a rule. §8. If disclosure is intentional. if director doesn’t apply w/in safe harbor of §8.30 and §8. BUSINESS JUDGMENT RULE: A. A director who makes a business judgment in good faith fulfills the duty of care standard if the director a. illegality or conflict of interest then BJR won’t apply.31 1. more of a historical analysis that has led to most jurisdictions creating their own statutes dealing with the creation of the duty of care B. there is nothing to stop you from doing this DISCLOSURE REQUIREMENTS I. When do you apply BJR? a. if unintentional. created in response to corporate scandal. it must be made simultaneously.30 Conduct of Directors is more of a job description and doesn’t deal directly with the liability of the directors [THIS IS THE MBCA’s articulation of the BJR] a. This is about “relates to election” and the proposal cannot relate to election of directors COMMUNICATING WITH SHAREHOLDERS I. it DOES play an important role in evaluating the director’s conduct . there is no pecuniary gain) b. SELECTIVE DISCLOSURE A. Is not interested (as defined) in the subject of the business judgment (i. if the registrant intends to make a proxy solicitation it must provide those who request information 1. Defense of a director b.34 1. Regulation FD provides that a company disclosing material. If the Π can show fraud.

Illegality or Conflict of Interest a. Loyalty and allegiance to the company a. business decisions themselves are not to be evaluated…rather the standard of care is to be applied to the PROCESS by which the directors “become informed” in connection with making their decision d. Lack of Rational Business Purpose (Waste): Litwin v. the decision were entitled to full judicial deference under the BJR E. courts place the burden on the challenger to overcome the business judgment presumption by proving… 1.31 Liability for Directors is about director liability a. Standard today – mere negligence not enough. There are various standards here to determine what kind of liability is possible a. higher level of culpability D. REASONABLE PERSON/OBJECTIVE Standard f. Allen: Rules to Be Applied in Determining the Liability of Directors 1. Duty of loyalty and allegiance to the company (1) Cannot profit at the expense of his corporation and in conflict with its rights (2) May not for personal gain divert unto himself the opportunities which in equity and fairness belong to his corporation (3) Act honestly and in good faith but that isn’t enough (a) Must also exercise some degree of skill and prudence and diligence b. §8. Fraud. About when we will respect the directors decision and leave it alone as opposed to overturn it 2. Gall v. Tougher standard. the character of the investments and the employment of the resources 3.30) b. Need recklessness to have liability for directors. Should know of and give direction to the general affairs of the institution and its business policy and have a general knowledge of the manner in which the business is conducted. Standard as to this rule: as to which director was not informed to the extent to which the DIRECTOR reasonably believed d. Malone v. Brincat (Fraud): directors who knowingly disseminate false information that results in corporate injury or damage to an individual stockholder violate their fiduciary duty and may be held accountable in a manner appropriate in the circumstances. (1) created a Special litigation Committee: unless Π could show that the committee’s members were themselves interested or had not acted on an informed basis. When a board decision is challenged. Directors are bound by those rules of conscientious fairness. SUBJECTIVE – intentional recklessness standard c. and honesty in purpose which the law imposes as the guides for those who are under the fiduciary obligations and responsibilities 2. compliance may have a direct bearing on the court’s analysis where transaction justification is at issue c. provides standard to enjoin corporate action e. Used when you want a director to pay for his wrongful decision (if it is found wrongful in 8. Fiduciary a. Directors are liable for negligence in the performance of their duties . morality. b. Exxon (Illegality): in a decision of whether or not the corporation is going to bring an action (for paying illegal bribes to foreign officals) will be upheld unless it can be determined that the directors did not act (1) in good faith and (2) in a manner the director reasonably believes to be in the best interest of the corp.35 b.

Gross Negligence in Discharging Duties to Supervise or Becoming Informed 1. illegality or conflict of interest.30(b)) – so they make decisions and oversee others (2) how do I know what to do as a director? act in good faith (in 8. Direct Action: brought by a shareholder alleging injury to his shares as a shareholder. It could be something less. Grossly negligent to do this so quickly.36 (1) NOT liable for errors of judgment or for mistakes while acting with reasonable skill and prudence (2) Same degree of fidelity and care as an ordinarily prudent man would exercise in the management of his own affairs of like magnitude and importance b. but it must at least border on these. c.30 offers the standard of conduct (1) there are two different standards: the decisions making function (8. the board never made any attempt to figure out what the company was worth a. MBC  7.42 (requires a written demand in ALL cases). Derivative Action: suit asserted by a shareholder on the corporation’s behalf against a 3rd party because of the corporation’s failure to take action against the 3rd party.30) F. So liability and injunctions give rise to the same standard. G. Ohio Standard – intentional or reckless conduct 2.30(b)) and the oversight function (8. Smith v. Director of bank shield to stricter accountability than the director of an ordinary business corporation BUT law recognizes that the most conservative director isn’t infallible b. If I’m interested in being a director. “reasonable belief” under §8. Factors to be considered (1) Facts and circumstances of particular case (2) Kind of corporation involved (3) Size and financial resources (4) Magnitude of the transaction (5) Immediacy of the problem presented 4. May the shareholder substitute himself for the corporation? Yes. in the rare case where a decision respecting the corporation’s best interest is so removed from a director’s preparation to make an informed decision is so unreasonable as to fall outside the permissible bounds of sound discretion of directors judgment will not be sustained 6. DAMAGES: use 8.30 if you want an injunction and not liability d. Must look at facts as they exist at the time of their occurrence not aided or enlightened by those who subsequently take place 5. Shlensky v. Directors of bank held to stricter accountability a. not to read the document and not to make a valuation determination for the company b.31 a. VonGorkom: board was grossly negligent in obtaining the information necessary in order to make their decision. Wrigley: court won’t interfere with the management of the directors unless it clearly appears that they are guilty of fraud or misappropriation of funds a. What is the standard that the court applies: the action must at least boarder on fraud.31 to get $ damages from the directors 7. H. Apply 8. I: we want liability AND a different decision – The court uses the SAME STANDARD for both claims. b. then 8. “The proper standard for determine whether a business judgment is an informed one in Delaware is predicated upon concepts of gross negligence” .

the directors knew b. Director liability for a breach of the duty to exercise appropriate attention.30 – OBJECTIVE standard (2) Damages action – under §8. (B) . So. Response – we’re entitled to rely on X because he knew everything involved. that violations of law were occurring and d. 8. and that failure to do so under some circumstances may. so they weren’t entitled to rely. director’s obligations includes a duty to attempt in good faith to assure that a corporate information and reporting system.02(b)(4) – a provision eliminating or limiting the liability of a director to the corporation or its shareholders for money damages for any action taken.30 isn’t all that different from the business judgment rule… . not subjective.37 3. which the board concludes is adequate. except liability for (A) the amount of financial benefit received by a director to which he is not entitled. exists.30 breaks down into two requirements: (1) decision making and (2) oversight. Read appropriate formal documents b. We can defeat their claim of reliance because they weren’t inquisitive. it’s about whether a reasonable director would be aware of these issues. It’s not whether the particular director knew enough. If someone is deliberately trying to deceive you. they must show what the price should have been a. then it’d be hard to say that you must uncover the deceit that a trusted officer is offering 1. then you cannot hide behind your lack of sophistication. Generally a Board Needs to: a.31(b)(2)(ii)(B) 7. 2. Harm that is alleged = the price was too low. 6. 5. complaint is that the directors were not informed  8. First – state claim that they didn’t have information. Here. a. Now we’re looking at care.31 J. in theory. must show a. Potential Liability for Directorial Decisions a. in theory at least. which is oversight. Allow enough time to consider these documents c. MBCA version of the Business Judgment Rule = 8. Go through 8.31 I. arise in two distinct contexts (1) Liability may be said to follow from a board decision that results in a loss because that decision was ill advised or “negligent” (2) Liability to the corporation for a loss may be said to arise from an unconsidered failure of the board to act in circumstances in which due attention would have prevented the loss 3. Objective standard. If you’re a director.30 and 8. 2. must find out how X got there. The directors weren’t even informed about the price. You must educate yourself on matters regarding the company.31 line by line and find analogous facts to interpret the application of 8. that such failure proximately resulted in the losses complained of (affirmative defense) 5. Oversight is about care. as a director. §8. render a director liable for losses caused by noncompliance with applicable legal standards 4. Inc Derivative Litigation 1. or any failure to take any action. In Re Caremark Intern. 2. or would have known c. Up until now we have been focusing upon decision making. . in order to show that directors breached their duty of care. to prove their case.31 – SUBJECTIVE standard 4. Directors have to ask questions to fulfill their duty – can’t just take the conclusions as is. Obtain the necessary facts in order to make a decision (1) Injunction action – under §8. .

Rationally believes that the business judgment is in the best interests of the corporation: 8.44: an action shall be dismissed IF the corporation has determined (1) in good faith (2) after conducting a reasonable inquiry upon which its conclusions are based that the maintenance of the derivative proceeding is NOT in the best interests of the corporation (1) This provision is a specific standard for the dismissal of a derivative action (2) TURNING POINT: if it is NOT dismissed  go to §§8.42: no shareholder may commence a derivative proceeding until (1) a written demand has been made (2) and 90 days has expired (1) UNIVERSAL demand requirement 5. divorce (sale & gift = outside scope) (2) Fairly and adequately represents the interests of the corporation in enforcing the right of the corporation (a) Fairness standard. (2). Use the law of your jx in your analysis in chief! Only use MBCA when it’s the law in your jx. Brincat: claim is that the corp overstated it’s earnings. Malone v. gets you past the derivative action to evaluate the conduct of the director on the substantive claim.42 – no shareholder may commence a derivative proceeding until a written demand has been made upon the corporation to take suitable action and 90 days have expired from the date of the demand – no demand excused is allowed 2. except for the federal. Moldonado: possibilities of derivative suit a.30(a) best interests (how do you know what best interest is? 8.30(a)(2) e. L.40: definition of a derivative proceeding 3. 8. why no federal cause of action for this breach? Because there was no SALE OR EXCHANGE. (4)) c. when becoming informed in connection with heir decision making function or devoting attention to their oversight function. Demand and Demand Excused 1. members of the board of directors or committee on the board. make demand and the corporation says that there is a cause of action and the corporation will take it up b.30(b)(c)(d) and (e) all address this issue d. but if there is disclosure.31(a)(2)(ii)(a). 8. Informed (was the director informed when making his decision?): 8. §7.41: standing requirement: (1) Must be a shareholder at the time of the act/omission or transfer by operation of law (a) Inheritance. Connection between the MBC and the BJR 1. M. so it’s about using accounting methods in incorrect ways 1. then there is no remedy. overstating the company’s equity = to say you have more assets than liability so it looks like you’re worth more than you really are 2. Not interested in the subject of the business judgment: 8.30-. §7.31(a)(2)(ii)(b).38 1.30(a)(1) b. Cases are used to explain provisions and fill in gaps. Good Faith: 8. Elements of BJR and Elements of 8. Without a cause of action.30 and 8.31 a. Zapata Corp v. no requirement to disclose.31(a)(2)(i).31. §7. §7.people vindicating reasonable expectations 4. 6. shall discharge duties with the care that a person in a like position would reasonably believe appropriate under similar circumstances K. then it must be complete a. (3). they are not going to pursue it – claim of wrongful decision not to sue . 8. corporation doesn’t think there is a cause of action and even if they thought that it was.31(a)(2)(3)(i). §7. 8.60(6)(1).

Is the decision to dismiss valid under the BJR. If you want demand excused. Mikalaukas: claim is a breach of duty of the board of directors for not pursing the bills owed. you need to show particular facts on why the directors are disinterested AND a reason you might win on your claim. if the answer is no. (2) Whether it was assisted by counsel (a) This matters b/c someone needs to know by which the process proceeds (3) Whether it prepared a written report (4) Whether it was dependent (5) Whether it conducted an adequate investigation and (a) This isn’t really about duty of care. Court must carefully consider and weigh how compelling the corporate interest in dismissal is when faced with a non-frivolous suit 7. The court should determine. they refuse. if the court isn’t satisfied for other reasons relating to the process. If you can’t do that. or. the court shall deny the corporations motion II. stockholder can never have an individual right to initiate an action c. not just about independence (6) Whether it rationally believed its decision was in the best interest of the corporation b. if the answer is yes then must continue 1. applying its own independent business judgment. If they do. Court must examine the circumstances surrounding the decisions in order to determine if the conditions warrant application of the BJR. whether the motion should be granted A. Very difficult to get demand excused. I bring a demand to the corp. including but not limited to the good faith of the committee. then dismiss. Cuker v. BJR would come in to evaluate the decisions of the board (1) Violation of duty of loyalty or care (a) Disinterested director (b) If yes. then don’t respect their decision d. Inquire into the independence and good faith of the committee and the bases supporting its conclusions A.39 (1) absent a wrongful refusal. the court will never proceed to an examination of the merits of the challenged decisions…this is precisely what the BJR prohibits a. Really. then no demand excused. etc. loyalty – requires that some benefit go to the person who breached this duty of loyalty. so you need demand TWO STEP TEST – to be applied by courts in demand excused cases I. and I win an action that the demand was wrongfully refused): then the shareholder starts a derivative action. (1) Derivative action (a) Demand (b) Demand excused . Courts are extremely reluctant to substitute their own judgment for the judgment of businessmen B. Independent application by the court of its own independent judgment rule 1. Factors to Determine Whether BJR Applies (1) Whether the board or its special litigation committee was disinterested (a) Might as who the person is related to. no such thing as demand excused. If the court determines either that the committee is not independent or has not shown reasonable bases for its conclusions. Show how some person has benefited to the detriment of the corporation c. what happens when demand is wrongfully refused? (ex.

go to §8. divorce. This is a much more specific standard in a more limited context • There are analogous provisions (to §8.40  beginning of derivative proceedings • §7. “directors conflicting interest action” = with respect to a corporation means a transaction effected or proposed to be effected by the corporation respecting which director of the corporation has a conflicting interest . Deleware applies Zapata and other places apply cuker and some places apply only the MBCA 1. cannot argue by anlogy to those states that allow demand excused • §7.. SELF-DEALING A.30) – looking for (1) good faith ( Cuker) and (2) after conducting a reasonable inquiry (Van Gorkam) • §7.60 creates the class of cases which are subject to review under §8. Starting Action in a Derivative Proceeding • §7.44  dismissal • What SHALL be dismissed.40 (c) Demand refused 8. all will be judged under business judgment rule for both DUTY OF LOYALTY AND CONFLICT OF INTEREST I. Director Action • §8.30 • If you want personal liability for directors. inheritance) AND must fairly and adequately represent the interests of the corporation in enforcing the rights of the corporation • §7.e.30  standard of conduct for directors • objective standard • How would a decision be challenged? • In a derivative action • Shareholder says “corporation X wasted its money in doing such and such” • With respect to derivative action itself…see above • If we get past that and the action proceeds and we are now evaluating the conduct of directors on a substantive claim we are now at §8.31  standards of liability for directors • subjective standard • Should the directors personally pay? • Mostly about process • One of the assumptions is that there is no duty of loyalty problem • Direct – by shareholder alleging damage AS a shareholder • Derivative – by a shareholder damage TO the corporation • Any further claim about actual liability of directors (in most jurisdictions.46  payment of expenses 2.41  has a standing requirement • must be shareholder at the time of the act or became holder by transfer thru operation of law (i.45  discontinuance or settlement • §7.31 • §8.42  must have a demand. drafters set up an independent standard for evaluating dismissal. §8. if director knows at the time of the commitment that he or a related person is a party to the transaction or has a beneficial financial interest in or so closely linked to the transaction and of such financial significance to the director or a related person that the interest would reasonably (OBJECTIVE) be expected to exert an influence on the director’s judgment if he were called upon to vote on the transaction 2.61 1.

which offers the requirements for the prima facie case). grandchild. sound judgment could ever conclude that the corporation had received adequate compensation b.62 has a safe harbor provision) (2) UNLESS you’re in DE.61 Judicial Action 1. then look to 8.. is established to have been fair to the corporation C.may not be enjoined to give rise to damages if any of the following are true a.. Proceeding thru this type of problem a. safe harbor) (2) Shareholders’ action respecting the transaction was at any time taken in compliance with §8.e. even through democratic means.61 b. it will be upheld only where the interested director can convincingly show that the transaction was approved (or ratified) by a truly disinterested majority of the board of directors without participation of the interested director 3. according to the circumstances at that the time of the commitment.. Nakash: if the court feels that the transaction is fair to the corporation  upheld 1. then (a) states that there is no cause of action. sibling. parent or sibling of a director or a child.41 3.60. definitely a conflict of interest) (1) 8. assumption is that it may be enjoined unless one of the three following are triggered: (1) directors action respecting the transaction was at any time taken in compliance with section §8. must be one described in 8. Executive Compensation: 1. undue overreaching. incompetent. Marciano v. parent of the director or an individual having the same home as the director.61 lists three ways. §8. Brehm v. In order to get the injunction you have to go back to the definitional section and get that kind of an interest (i. “related person” a. then the director must show that 8. must use the defined term of §8. If not. or a trust. that point to other sections of the code to determine whether the director is protected (8. you need to explain WHY the compensation is not commensurate with the services being rendered. cannot vote for a wasteful transaction which would amount to giving away property 2.60. conservatee. What is the rule considering director compensation: it’s not the salary itself that is enough (saying the salary is “too high” is not enough).63 (approval by disinterested shareholders) (3) The transaction judged.62 (approval by disinterested directors. WASTE TEST: an exchange that is so one sided that no business person of ordinary.61 PROTECTS him or her under the three was in 8. etc. a. spouse. if there is no fraud. Ask whether transaction is in one of the safe harbors (1) 8. director’s conflicting interest – specific – cannot use a general notion. estate.e. then you must also ask whether it is intrinsically fair (a) Do a kind of comparison: would corporation enter into this transaction at arms length with a totally unrelated D.61 (b). Heller v. both sides of the transaction). 2. court will set aside 2. If it is. Just because there is an economic interest in the transaction is not enough. or estate of which an individual specified in this clause (1) is a substantial beneficiary or (2) a trust. Eisner: a. but the court is not convinced that the transaction is fair. Boylan: directors.60 – after I establish this prima facie case (i. waste. Establish whether there was a conflict of interest (here the directors were lending money to the corporation. waste. or minor of which the director is a fiduciary B. Show what . if there is fraud.

What is the real claim? How do you violate a duty of loyalty? They didn’t show the report to the company.42 other executives in the same industry and at the same level are receiving. or knowledge of the affairs of the corporation to gain personal advantage 1. under an intrinsic fairness standard. Because if they are found for not dealing fairly. Care and Loyalty: 1. What has been done to violate the fiduciary duty? The merger. Inc: Fairness = fair dealing AND fair price  must have both. The test for fairness: (1) Fair Dealing: What was misleading? The role the signal played in requiring the short time frame. it is not sufficient to only have one a. Inside director – president. Levin: I: Whether there is a conflict of interest. They had to duty to disclose what they knew about the merger to the company. then you still have to prove damages under fair price. (2) Fair Price: What should be considered? In this case: liquidation value. Conflict of Interest: 1. this is a VERY SPECIFIC case about parent-subsidiaries…establishes an extra element needed to be shown in a breach of loyalty claim in the parent-subsidiary claim…here you have to show that parent received something to the detriment of the subsidiary F. then the test applied is the BJR. Without damages. If there IS a conflict of interest. They needed to disclose this martial information about the action. E. influence. CORPORATE OPPORTUNITY: Claim that a director is taking an opportunity that he corporation would take A. Weinberger v. Notes: 1. parent company must first prove that its causing subsidiary not to enforce a contract was intrinsically fair to the minority shareholders of the subsidiary b. If there is NOT a conflict of interest. VP. it’s probably the primary one. The minority interest was left with the impression that there was a careful study of the price offered. Harris: Duty of loyalty – must disclose and not withhold relevant information concerning any potential conflict of interest with the corporation. Did they have a duty to? YES. (a) While this is the second component. taking advantage of an opportunity (for her personal profit) when the interest of the corporation justly calls for protection. What’s an outside director – someone who isn’t an officer of the corporation 2. when they wasn’t true. This calls for application of ethical standards of what is fair and equitable in particular sets of facts . Northeast Harbor Golf Club v. then there is a shift in the burden of proof and the intrinsic fairness test is applied a. Fairness Test  true basis of governing doctrine rests on the unfairness in the particular circumstances of a director. etc II. and the process of doing it. and they must refrain from using their position. going concern value. b. there is no recovery G. Sinclair Oil Corp v. Need some analytical framework. whose relation to the corporation is fiduciary. Line of Business Test  whether the opportunity was so closely associated with the existing business activities as to bring the transaction within that class of cases where the acquisition of the property would throw the corporate officer purchasing it into competition with his company 2. UOP. the price of it.

whether or not the director had appropriated something to himself that in all fairness should belong to the corporation In some jurisdictions. THEN. Corporate opportunity means (1) Any opportunity to engage in a business activity of which a director or senior executive becomes away either (a) In connection with the performance of functions as a director or senior exec (b) Through the use of corporate information or property. Delaware has moved to the fairness test. Opportunities that accrue to the fiduciary as a result of her position with the corporation.31(a)(2)(ii)(A) c.31(a)(2)(v) say to look at the ALI b. Burden of Proof – party who challenges the taking of a corporate opportunity has the burden of proof if above requirements are met and if not. i. That the corporation did not properly reject the opportunity c. Use MBCA to bring a cause of action out of the code a. The fiduciary did not offer the opportunity to the corporation OR ii. opportunities of special value to the corporation 4. strict requirement of full disclosure ii. corporate waiver of opportunity a. Another way might also work 8. you still have to show that the corporation has the financial ability to pursue the opportunity . Corporations start with nothing. so we won’t respect the decision in that case. show that there was a “corporate opportunity” i. Director may not take advantage of a corporate opportunity unless (1) Director or exec first offers the corporate opportunity to the corporation and makes disclosure (2) Corporate opportunity is rejected by the corporation (3) Either (a) The rejection of the opportunity is fair (b) Opportunity is rejected in advance (c) Rejection is authorized in advance or ratified b. show that either i. What remedy is appropriated? Give them an opportunity to purchase the land from her 5. Opportunity closely related to the business in which the corporation is engaged OR ii. b. IF the board did not reject the opportunity by a vote of disinterested directors after full disclosure. ALI Principles of Corporate Governance – Taking of Corporate Opportunities by Directors or Senior Executives a. then the fiduciary must defend the actions on the basis that the taking of the opportunity was fair to the corporation (consider the cases that talked about fair dealing and fair price) . including DE. 8. feasibility of corporate action. 4. preexisting relationship 3. General Factors in Determining a Breach of Fiduciary duty 1. but yet they thrive but using things like debentures – borrowing on security. FIRST. Corporate opportunity test: a. then director or senior exec has the burden of proving that the rejection and the taking of the opportunity were fair to the corporation (1) Plaintiff needs to show that there was NOT ratification by disinterested directors in order to get the burden to shift (2) What if there is a ratification by disinterested directors? There might not be adequate disclosure.31(a)(2)(v)  The comments to 8. in your complaint if you are a corporation.either financial inability OR refusal of 3rd parties to deal with the corp 2. Also consider whether the corp has the financial ability to take on another opportunity a.43 3. if the resulting opportunity is one that the director or senior exec should reasonably be expected to believe would be of interest to the corporation (2) Any opportunity to engage in a business activity of which a senior exec becomes aware and knows is closely related to business of corporation c.

B Fraud – a knowing misrepresentation of truth or concealment of material fact to induce another to act to his detriment . bankers. etc. RULE 10b-5. duty of reasonableness and notice and not quite the lack of duty owed to creditors but something in between D.G In Re Enron – I: you can’t use aiding and abetting anymore.A Focuses on information and the accurate telling of information rather than any particular egregious behavior . labor. then no cause of action . in bankruptcy. Like an intent to disregard or an intent to mislead).D Blue Chip Stamps v.1 Scienter (guilty knowledge – intention requirement) . you have an institution who is acting for creditors. DUTIES TO CORPORATE CONSTITUENCIES OTHER THAN COMMON SHAREHOLDERS A. This means a private person must be a purchaser or seller. The SEC has automatic standing. If you can’t do that. Other Constituencies  (i. Creditors first. this is where you would go to see where the rights and responsibilities C.F Santa Fe Industries v.2 Just a disagreement about the price does not lead to a cause of action. In bankruptcy.) no longer available . Green: statute of limitations – suits must be brought within one year after the discovery of the facts constituting the cause of action and within three years after such cause of action accrued . INSIDER TRADING AND SECURITIES FRAUD I. Creditors  have contractual duties. DEVELOPMENT OF A FEDERAL REMEDY – RULE 10B-5 . . So if the corp is in bankruptcy. Preferred Shareholders  yes owed a fiduciary duty. look at the share itself to see what the shareholder is enttled to B.1 You can discuss illegal conduct.1 “aiding and abetting” (i. bankers ? . Creditors do not have standing to bring claims about breach of fiduciary duty unless the company is in bankruptcy. not shareholders.2 MISSTATEMENT OR OMISSION. But what are the requirements? See Blue Chips.44 III. . then the court can find breach of fiduciary duty to creditors. other than the SEC.a If either wishes to bring a cause of action under 10b5. but can you still proceed on what appears to be secondary violations with respect for attorneys. Have to show a MISSTATEMENT OR OMISSION . community) every state allows other constituencies to be recognized E.. National Gypsum: court recognizes for the first time a cause of action based on 10b-5 for private litigants. other employees. Holders of Convertible Securities  some fiduciary duties. but you CANNOT participate in it. Hochfelder: second and third elements: Scienter and Misstatement or Omission . .e.E Ernst & Ernst v. then both would have to show that the violation was either INTENTIONAL (knowing misrepresentation) OR the misrepresentation was RECKLESS (meaning intentional disregard for the facts and circumstances so that the results are misleading. Manor Drug Stores: first element of a private cause of action under 10b-5 is that you must have STANDING. Scienter standard . attys.C Kardon v. accountants.e. Third element: show the words that were misleading or show the fact that was omitted that made the statement misleading. Negligence isn’t enough.

a Audit committees – independent of the companies that cannot do anything for the . Tipper – the one who tells.c . “Material Inside Information”  an insider’s duty to disclose information or his duty to abstain from dealing in his company’s securities arises only in those situations which are essentially extraordinary in nature and which are reasonably certain to have a substantial effect on the market price of the security if the extraordinary situation is disclosed 3. INSIDER TRADING A. those persons who are thus quite properly true to their corporate trust must not during the period of non-disclosure deal personally in the corporation’s securities or give to outsiders confidential info not generally available to all the corporations’ stockholders (1) When this happens MUST refrain from trading . So. No retaliatory action with respect to whistle-blowers No more credit/loans to executive officers. Includes not merely. you must disclose before you can trade anything. The mere possession of material non-public information is not enough. So company can no longer lend money to executive officers. They will be charged as if they violated that duty. This comes from 10b-5(c). DUTY  cannot find liability for someone who does not owe a duty to the corporation 1.f company but audit. Tippees – ones who are told. USE TSC INDUSTRIES TEST a.45 . However.b .e . Where a corporate purpose is served by withholding the news of a material fact. then you might be violating your fiduciary duty to the corporation. but individuals that he/she tells the information to. We’ll hold the tipper responsible for all the trades of the tippees 4. There needs to be some kind of relationship between the insider/person in possession of the information that gives rise to a duty NOT to trade. or he chooses not to do so. if you disclose. or if he is disabled from disclosing it in order to protect a corporate confidence. C. obligation rests on 2 elements a. the fraud which an insider must commit is having information about the corporation which is not publicly available. According to this rule. II. Matter of Cady. Roberts and Co: 1. Is the mere position of inside information enough? No. anyone in possession of material inside information must either disclose it to the investing public.2 What changes have emerged after the scandals? . Do not offer any business advice services ()1 Board of Directors – must be outside directors (directors who are not employees of the company or related entities) on the audit committee that oversee everything Must be a web posting of stock ownership CEOs and CFOs must now certify the audit reports.d . the insider. Texas Gulf Sulphur (Ore strike) 1. saying that the reports fairly represent the company’s financial position Must be internal controls that are designed to bring to light any wrongdoing. to information intended to be available only for a corporate purpose and not for the personal benefit of anyone b. this rule basically means that you can’t trade. the existence of a relationship giving access. must abstain from trading in or recommending the securities concerned while such inside information remains undisclosed (this is not the rule we end up with) a. Going private by being not publically traded. Going private is a way to avoid this. inherent unfairness involved where a party takes advantage of such information knowing it is unavailable to those with whom he is dealing B. SEC v. and then trading on it 2. directly or indirectly. 2.

Mere possession of non-public information is not enough. a. “Beat the news” – when you know the news is forthcoming. 3. employer/employee isn’t much of a stretch. Looking for what kind of relationship? Fiduciary relationship of trust somewhere. and buys shares in XX company. telephones his broker and places an order to purchase a. E. you will be violating either federal or state law (2) Insider trading raises a presumption that the information is material (3) Duty (a) Establish that the tipper was an agent of the corporation OR a fiduciary (i) Law of agency says that employees owe their employers a duty of confidentiality and that they may not use confidential info for the agent’s owen behalf (ii) Employees owe a duty to the corporation AND the corporation owes a duty to the shareholders When may insiders act: only after the news has been publicly disclosed 1. Person sitting in a restaurant who overhears conversations at the next table from which she infers that a favorable development is about to occur with respect to XX company. If you’re a minute early. Duty. then the subtippee will not be liable. so no breach. immediately after the conference and before the news appears on the ticker services.D. If the info actually came in this way. b. A subtipee who believes his tippee has connections with employees of the corporation but is not himself employed by the corporation. and buys shares of his employer? Need material information. G. Newspaper owns the info that the company is going to be mentioned in the column. It’s material non-public information. . Find out if there has been some kind of duty breach at the tiper lever. the rule establishes a specific duty to “disclose or abstain from trading” under Section 14(e). must be some kind of duty. then civil and criminal liability. Duty owned to the newspaper. Test is “knows or should have known” Rule 14e-3(a): Establishes liability when there is a tender offer (i. if the tipee was someone who just walked by a window and heard the information. Secretary or messenger who overhears snippets of conversations from his superiors. so you try to get ahead of it. Clearly. 14e establishes a duty of disclosure for anyone who trades in securities while in possession of such information. The reporter who attends a press conference at which a favorable development is announced. However. there will be a state law fiduciary duty violation (i) Unless you refrain from trading altogether. But it’s not the usual kind of insider information because it doesn’t come from the employer itself. Violated when used for the personal benefit of the newspaper guy. 46 (a) If you have material inside info. and then. 4. Illustration: Corp  Employee/Tiper  Tippee  subtippee a. then the subtippe will be criminally liability if this is actually what happened. so that part of 10b-5 is satisfied. then the next question is whether the subtippee knew or should have known about that duty breach. Not duty. US (The printer) 1. scienter 2.e. F. If the answer is yes. Chiarella v. you cannot trade unless you disclose (b) If you disclose and trade. Would the course construction of 10b-5 reach the following persons? 1. a public offer to purchase the shares of a corporation) for shares of a corporation. but this concept is going to get stretched very far. infers that a favorable development is about to occur.

nonpublic information. There is a judicially created 8 factor test: ()1 active and widespread solicitation of public shareholders ()2 tender offers must be for a solicitation for a substantial percentage of stock (number varies depending on size of corp) ()3 whether the offer to purchase is made at a premium ()4 whether the offer is contingent on a fixed minimum ()5 ___ ()6 whether the offer is open only for a limited period of time ()7 whether the offerees are subject to pressure to sell their stock ()8 the existence of public announcements of a purchasing program **This is found in Wellman vs. This rule would encompass the previous case even though 10b-5 would not 2.47 1. Removes the duty factor. scienter – knew or should have known that there was a breach of duty by the tipper e. Test for determining whether the is a breach by an insider under the classical theory: a. Material. insider breached a fiduciary duty d. or director of the corporation who owes a direct duty to the corporation. duty (must actually be a duty for there to be a breach) c. SEC: must be MORE THAN mere possession in order to have an insider trading claim 1. only if tippee knew or had reason to know of the duty breach in order to satisfy the scienter requirement . but the misappropriation theory advances it: “The statute reaches any deceptive device used in connection with the purchase or sale of any security” (1) Classical theory – an employee. The classic theory is 10b-5. but also the way we will know there is a breach is some pecuniary gain and in order to reach the tipee. officer. So now anyone can be liable for trading with this info. Dickenson 475 F Supp 783 H. Duty and Breach of Duty 1. Says that 10b-5 is violated when a corporate insider trades in his company stock on the basis of material nonpublic information (2) Misappropriation theory – this describes a circumstance in which a person in possession of material. it’s taking the information and trading I. (a) Person commits fraud in connection with a securities transaction and thereby violates 10b-5 when he misappropriates confidential info for trading purposes in a breach of duty owed to the source of that information. but traded on info): a. must also show that insider has benefited – pecuniary gain (1) or closely linked to a pecuniary gain or reputational benefit that will transfer to future earnings 2. Dirks v. must not only be a breach by the insider. non-public information b. O’Hagan (atty for firm who did not work on take over. Elements: (i) In connection with (ii) “confidential information” = material info (iii) For securities trading purposes = only need a mere connection (iv)In breach of a duty owed to the source of the info = the breach is not acquiring the information. trades in violation of a duty to someone other than the corporation in which the securities are traded. US v.

however. that the person receiving or obtaining the information may demonstrate that no duty of trust or confidence existed with respect to the information expected that the person would keep the information confidential b/c of the parties’ history. § 16 – Directors. The owner of more than 10% of any class of equity security b. . (5) Scienter . A cause of action requires: (1) Standing. Officers is a term that can be used to apply to any employee of the corporation.Talking about supervisors – those who control the institution 2. or practice of sharing and maintaining confidences. liability to contemporaneous traders for insider trading 1. (3) Materiality. parent. patter. principal financial officer. doesn’t tell you about breaching. 3. Liability for a controlling person – who. 20A. IIII. 2. Must be intent to deceive. officers. False tips might support causes of action as long as the recipient was not deeply involved in an attempt to defraud the market AND the action would not interfere with the market C. US v. Insider trading still prohibited under 10b-5. What kind of causes of action might there be against the person who gives a false tip? State law fraud claim. (2) Misstatement or Omission. at the time of the violation. just creates the duty. (4) Reliance. § 21A. Directors and officers of the issuing (1) They have to file a statement with the condition describing their ownership 2. then must decide whether this duty has been breached Securities Exchange act of 1934 A. Chestman 1. fiduciary relationships cannot be imposed unilaterially 2. child or sibling. accounting officer .III. marriage without more doesn’t create a fiduciary relationship 3. . . 16 provides a clear-cut mechanism in a 6 month time frame FRAUD A. controlled directly or indirectly . But the SEC has said that officers include: the issuer’s president. you never want to allow a single person to handle it alone B. tippee violates 10b-5 when the tipper/insider breaches the fiduciary his fiduciary duty to the shareholders by tipping information for his own personal benefit and the tippee knows or should know that the tip was a breach of the tipper/insider’s fiduciary duty J. Rule 10b5-2: a. patter. Civil Penalties for Insider Trading 1. 1. v. (provided. With money. and because there was no agreement or understanding to maintain the confidentiality of the information) 4. or practice of sharing confidences. and principal stockholders 1. 48 3. “duty of trust or confidence” exists (1) whenever a person agrees to maintain information in confidence (2) whenever the person communicating the material nonpublic information and the person to whom it is communicated have a history. Levinson (merger agreement): In order to claim omission you must find something that is material itself which makes the misstatement misleading. Two classes of individuals affected a. . such that the recipient of the information knows or reasonably should know that the person communicating the material nonpublic information expects that the recipient will maintain its confidentiality (3) whenever a person receives or obtains material nonpublic information from his or her spouse. Basic Inc.

Materiality . Rebuttable presumption when materiality is show. Any showing that severs the link between the alleged misrepresentation and either the price received (or paid) by the plaintiff. intend to deceive 2. or his decision to trade at a fair market price. MATERIALITY. Fraud on the Market Theory a.when would you ignore something and when you would pay attention. Strike Suits: a cause of action brought by a shareholder with minimal interest after a decline in company stock B.kind of a causation that is thru your reliance you acted in a way that was harmful. Balancing between the probability that the event will occur and the magnitude of the event – look for the facts. Intent to require an allegation of loss causation b. IIV. Reliance . a. Scienter piece requirement seems much lower. 5.49 2. Must show that the decline in value or increase in value itself was caused by the statement that you claim was in violation of 10b-5 a. LIABILITY FOR SECURITIES FRAUD: STATUTORY REGULATION A. a.always not just negligent. will be sufficient to rebut the presumption of reliance (1) Is the presumption rebuttable? Yes. “LOSS CAUSATION” 1. SCIENTER. if the claim is for insider trading then scienter standard seems higher • IN ALL CASES – intentional violation of 10b-5. no pecuniary gain. had to be intentional • Insider Trading – have to trade intending to deceive by taking advantage of material inside info. A general allegation of transaction (or “but for”) causation would appear insufficient to survive a motion to dimiss . instead just look to see if someone deliberately made statement and the materiality of the misrepresentation. Must also be an omission or misstatement – may want to start with this (but can be part of materiality and part of scienter) Is the claim a claim for insider trading. RELIANCE 1. What could the defendant show in order to rebut this? That the information didn’t distort the market price or there was no effect on the market. Probability is low and magnitude is low – probably not material b. You can rebut by showing that market already had information or that you were trading for some other reason other than the statement that was made. Probability is high and magnitude is high – material 4. it provides the requisite causal connection between a defendant’s misrepresentation and a plaintiff’s injury b. Presumption of reliance employed here is consistent with the congressional policy and is supported by common sense and probability 6. MATERIALITY  there must be a substantial likelihood that the disclosure of the omitted fact would have been viewed by the reasonable investor as having significantly altered the total mix of information made available (TSC) 3. B. it is just established differently…. must intend to profit • For Basic Industries – have to intend to mislead . presumption is that the person relied on the integrity of the market in trading (1) May rebut by any showing that severs the link between the misrepresentation and the price paid by the Plaintiff c. I relied on what you said and I can show that just by showing materiality. Reliance is an element on a 10b-5 cause of action. RELIANCE  presumed when materiality is shown a.

When a corp goes public/puts their stock on a public market to generate capital. IPOs = Initial Public Offer 1. but unissued shares. . How do you determine damages: 1. E. Have to show that the values changed as a result of the violation C. on 1171 of supp. Selling authorized.50 c. All about 21D. No damage award based on the market price of a security may exceed the difference b/t the purchase or sale price of the security and the mean trading price at which the security traded within the 90 day period immediately following the disclosure of corrective information D.

TARGET: trading on the basis of nonpublic information by a corporate outsider in a breach of duty not owed to a trading party. Rule 10(b) is violated when a corporate insider trades securities of a corporation on material. 4.intended to deceive by taking advantage of material inside information and to profit from it. SEC: standing not required this does NOT apply to the SEC when it brings an action 2. INDIVIDUAL: must have standing under §20A b. BUT… when a person discloses and trades. Instructed another person to purchase or sell iii. DUTY/BREACH: a. failure to inform. A person commits fraud in connection with a securities transaction and therefore violates rule 10(b) when he misappropriates information for securities trading purposes. ii. but to the source of information. ALSO… when a person has material. Classical Theory: i. inside information. There was a K. Entered into a binding K to purchase or sell the security ii. SCIENTER: intent to deceive guilty knowledge with respect to disclosing the false/misleading information (Basic) a.) ii. nonpublic information (when a person breaching the duty owes a duty to the corporation itself) 1. MATERIAL. breach of duty of care. he cannot trade unless he discloses. BUT… once the information has been publicly disclosed (reasonably have been expected to appear over the media of the widest circulation). TSC industries TEST: i. Misappropriation Theory: i. in a breach of duty owed to the source of the information. plan or instruction set out ahead of time. AND… insider trading raises a presumption that the information is material.intend to mislead/deceive by a statement or omission 3. TARGET: corporate insider’s breach of duty to shareholder with whom the insider transacts a. there will a violation of state law fiduciary duty a. **NOTE: the USC has not decided whether recklessness qualifies (gross disregard. Show that the fact would have assumed actual significance in the deliberations of the reasonable shareholder. print shop) 2. UNLESS the person was within one of the safe harbors (10b-5-1(c)(1)(i)before becoming aware had… i. Insider Trading. fraud or misrepresentation without scienter i. Securities Fraud. . shareholder  company  employee b. 3. STANDING: a.a substantial likelihood that the disclosure of the omitted fact would have been viewed by the reasonable investor as having significantly altered the total mix of information made available. MUST REFRAIN FROM TRADING ALTOGETHER. an insider can act. 1.(newspaper. “on the basis of” is satisfied if the person was aware of the material nonpublic information when the person made the purchase/sale. a. a. (without violating federal law) 2. DUTY: runs to the source of the information. Adopted a written plan for trading securities OR iv. (typically the employer is the source) 1. INSIDE (non-public) INFORMATION: a. b.51 ELEMENTS OF LIABILITY UNDER 10b-5 for INSIDER TRADING 1. cannot be liable on a claim for insider trading.

52 3. historical duty. show that the tipper has benefited (some kind of pecuniary gain/linked to one) d. NOT required for the SEC b. need either a fiduciary duty OR a similar relationship of trust/confidence : 10b5-2 show a. inside. such that the sharee knows that the sharer expects confidence c. parent. LOSS CAUSATION a. when information is received from a spouse. have a history. can be a family relationship) Loss Causation: § 21D(D)(4) (1174) Yes Yes Private Yes. …AND SHOW DUTY BREACH (inside each theory) 5. a person agrees to maintain information in confidence b. pattern of practice of sharing confidences. The insider (tipper) breached a fiduciary duty OR a similar relationship of trust and confidence AND 1. To show a breach by the tipper. Tipper-Tippee Liability: SHOW i. That the outsider (tippee) knew of should have known (scienter) that the tipper was breaching a duty 1. § 20A: contemporaneous trading Yes Yes Yes Yes NO Yes . Required for Private Causes of Action Elements for a cause of action under 10b-5 for Insider Trading: SEC Standing No Scienter Traded on material non-public. or sibling UNLESS it can be shown that no duty of trust/confidence existed. child. legal. information – this is the heart of insider trading (Texas Sulfur) Must be a duty/breach (what’s the meaning of duty? – does not have to be a traditional. “in connection with” is construed very broadly  any part of the transaction that is manipulative/deceptive will be a duty breach c. ii.

SEC: does not have to show . Recklessness about what? Misstatements.just arises in a specific context b. then can you satisfy it? 8. So if this were an element. SEC: does not have to show 7. ii. MATERIALITY: Show a material misstatement or omission: Refined Standard for Mergers/Securities Fraud (coupled with #2): a. b. if BOTH the probability and the impact are high . Under 21D – must be plead with particularized facts. Individual: must be a purchaser or a seller (Blue Chip) 2. NOT requiring a showing of pecuniary gain. SEC: does NOT have to show reliance 6. Requires INTENTIONAL misstatement or omission. 1. In a merger. DUTY/BREACH a. i. found in 21D. (Ernst & Basic) a. Individual: must show loss causation i. Recklessness will also do.(B)(4) b. RELIANCE: there is a rebuttable presumption of reliance if the fraud on the market theory is satisfied a. Individual: Fraud on the Market Theory: a rebuttable presumption when materiality is shownpresumption is that the person relied on the integrity of the market in trading. a. STANDING: must be a purchaser/seller if the SEC is not bringing it a.a substantial likelihood that the disclosure of the omitted fact would have been viewed by the reasonable investor as having significantly altered the total mix of information made available. An intent will likely be inferred depending on the statement (Basic) ii. i. Use Basic as an extension of this rule 4. Plaintiff must plead and prove loss causation 1. Unclear if this is required for either. SCIENTER: in all cases there is an intentional violation of 10b-5. Show that the speakers intended to deceive. TSC industries TEST: Show that the fact would have assumed actual significance in the deliberations of the reasonable shareholder. LOSS CAUSATION: PSLRA a.ASK if there is a high degree of probability that the event will come to pass OR if there is an impact on the investor’s future 1. MISSTATEMENT OR OMISSION: must be either an omission which is necessary to keep the statement from being false or misleading OR a statement that is misleading 3. NOT a separate standard. Rebut: any showing that severs the link between the misrepresentation and the price paid by Π.intend to mislead/deceive by a statement or omission i. Securities Fraud. Was Caused By The Statement. DAMAGES: a. 5.53 ELEMENTS OF LIABILITY UNDER 10b-5 for SECURITIES FRAUD 1.a reasonable investor will be interested. Itself. Individual: must show damages b. Show That The Decline In Value. SEC: no need for standing b. A general allegation of but for causation would be insufficient to dismiss (I would have something but/for what you said) ii. Refined standard: how the court decides whether an investor would find the information important is defied by the “fraud on the market theory”.lower standard iii.

Show that the speakers intended to deceive.(B)(4)) Duty (the least clear element – not clear if this element is necessary). should go right Required next to M or O discussion: Materiality (TSC – always discuss this case when discussing materiality. Scienter (Ernst & Ernst). So. If this were an element. Under 21D – Required must be plead with particularized facts. these case are not separated. they are one rule and basic is just an extension of tsc. then could you find one? Not required Private Cause of Action Required Required Required Required Required Not Required Unclear Required Unclear .54 Elements for a cause of action under 10b-5: SEC Standing (Blue Chip) Not required Misstatement or Omission (Santa Fe Required Industries) Coupled with M or O. Basic might also be needed when something is uncertain and you want to use the basic test as a refinement of tsc. Reliance (Basic) – materiality giving rise to the presumption (which could be rebutted) Loss Causation (found in 21D. Recklessness about what? Misstatements. Requires INTENTIONAL misstatement or omission. Recklessness will also do.