Function of Corporate Law

Introduction

 This section deals with what function corporations and corporate law fulfill in relation to
stakeholders
 Corporate law operates to encourage people to invest money in starting, maintaining and
expanding businesses.
 How people make decisions about investing:
o Based on an evaluation of the returns expected from the investment and the risks
associated with those returns.
 returns may take the form of interest on a loan, dividends on shares, an
increase in the price of shares.
risk may be thought of as the likelihood that the expected returns will receive in
light of the range of possible returns the investor could receive.
o The riskier the investment, the higher must be the expected returns b/c the
investor will require compensation for bearing the additional risk that the
expected return will not be received.
 Corporate law also contains certain provisions that provide protection for other
stakeholders

Corporate Law Increases Returns by Decreasing Costs

 Like partnership law, corporate law provides certain presumptive or default rules that
apply to govern the relationship b/w the corporation and its shareholders in the absence of
some other rule being agreed upon by the corporation and its shareholders and expressed
in the articles, by-laws, or shareholders’ agreement.
 Corporate law provides a standard-form contract that parties setting up a corporation
may adopt, in whole or in part, or may replace with their own arrangements.
o This standard-from contract is a good approximation of what most parties would
have worked out for themselves if they had the time and money to do so, the
availability of standard-form contract will save the parties money.
o It reduces the transaction costs of setting up a corporation
o Examples of default rules are the rules regarding the calling and conduct of
shareholders’ and directors’ meeting.  these kind of default rules are called
“enabling rules” and increase returns to SH’s by reducing the cost of setting up a
corporation.

Corporate Law Decreases Shareholder Risk

a) Limited Liability
 Corporate law provides that a SH is not directly liable for the debts and obligations of the
corporation at all
 Only the corporation is responsible for the obligations arising out of the business it
carries on  Consequence of being a separate legal person.
 By providing a simple cost-effective mechanism to limit SHs’ potential losses, corporate
law reduces the risk associated with investing
o It caps the worst possible return at a loss of 100 percent of a SHs’ investment.
(contrasted with partnership in which the max loss is all of the partner’s business
and personal assets)
o Capping the risk encourages investment.
 There are limits on the effectiveness of corporate limited liability: in general, limited
liability does protect SHs effectively and cheaply.
o Contracts have to be negotiated and will not protect SHs against those not in a
contractual relationship with the corporation, such as tort victims
 Limited liability for SHs does not eliminate risk but shifts it to other stakeholders such as
employees and creditors.
 Protecting SHs against liability for the corporation’s obligations means limiting the pool
of assets that others may claim against to those belonging to the corporation.  the result
is that there is a greater likelihood that there will be insufficient assets to pay creditors,
employees and other with financial claims against the corporation b/c only the
corporation’s assets can be accessed.
 By providing limited liability, corporate law represents an intervention in the marketplace
that strikes a particular balance b/w the interests of SHs and those of claimants against
the corporation – a balance that favours SHs.

b) Mandatory Rules Protecting ALL Shareholders

 Corporate law reduces the risk of investing in a corporation for SHs by imposing certain
mandatory rules designed to protect SHs from abuse by management.
 Note that where management is not carried out by the SHs themselves, there is a risk that
managers will act to benefit their own interests instead of those of the corporation and the
SHs.
 In addition to giving SHs the power to determine collectively who becomes a director,
corporate law:
1. Imposes standards of behaviour on directors and officers, such as their fiduciary
duty to act in the best interest of the corporation  CBCA s. 122(1)(a)
2. Facilitates SH monitoring of directors and officers, such as by requiring
disclosure of financial information  CBCA s. 155(1); and
3. Provides a variety of remedial procedures for SHs to obtain relief in the event that
directors and officers misbehave (eg. Providing for an application to obtain
compliance with the corporate statute)  CBCA s. 247
 In all of these ways, corporate law decreases risk.
 These rules prevent directors and officers from enshrining themselves at the expense of
the corporation or shirking their responsibilities.

c) Mandatory Rules Protecting MINORITY Shareholders

 Corporate law contains a variety of mandatory rules to protect teh interest of minority
SHs from exploitation by the majority.
 Since corporations operate based on majority rule, any person or group of person who has
control of a majority of votes attached to the corporation’s shares has control of the
 corporation. Such a person can control who are elected as directors and the outcome of
SHs votes.
 B/c they are elected by majority vote, there is a risk that the directors will favour the
interest of a majority SH over those if the minority in exercising their power to manage
the corporation
 To guard against the risk of majority SH exerting power in ways that are beneficial to
herself causing the corp to enter into a contract which unfairly favour the SH 
mandatory rules require SH approval by a two-thirds majority for what are deemed
fundamental changes to the corporation, such as the sale of “all or substantially all the
property of the corporation”  CBCA s 189(3)
 Give minority SHs right to be bought out if they disagree with the outcome of the vote 
CBCA s. 190
 Minority SHs entitled to seek relief if the directors or the corporation act in ways that are
“oppressive or unfairly prejudicial to or that unfairly disregards” their interests.  CBCA
s. 241
 All of these SH-protection devices decreases the risks associated with minority SH
investment and are likely to increase expected returns to SHs. Because they impose limits
on control by majority SHs, however, they increase the risks and decrease the possible
returns for majority SH investors.

Balancing Mandatory Rules Protecting Non-shareholder Stakeholders

 Protection of the interests of stakeholders other than shareholders typically is dealt with
through legislation outside the corporate law area.
 Corporate law does contain mandatory rules in favour of such stakeholders.
 These mandatory rules represent a further intervention in the marketplace to shift teh
risks associated with business activities carried on by a corporation back to the
corporation and the SHs.

a. Limits of Limited Liability

 Although often said that the courts strictly adhere to limited liability as a feature of
separate corporate personality, there are circumstances where they do not, with the result
that personal liability is imposed on SHs.
 The courts have arrogated themselves the power to disregard the separateness of
corporate legal personality. – many cases in which this approach taken, “illustrate no
consistent principle”
1. Tort Committed
o Once source of personal liability for managers is torts. (directors and officers may
be held liable for torts committed in connection with the corporation’s business
where they have some involvement in the activity constituting the tort.
2. Liable under corporate statutes
o Ie. For unpaid wages in limited circumstances (CBCA s. 119)
3. Liable under federal and provincial statutes for corporate obligations
o Ie. Failure to meet Regulatory Standards
 o Regulatory statutes impose personal liability in connection with the failure of the
corporation to meet standards set in the regulatory scheme as a way of
encouraging management to be more vigilant to ensure that the standards are met.
 A finding of liability means manager is guilty of an offence and subject to a fine or even
imprisonment.

b. Other Rules Protecting Non-shareholder Stakeholders

1) CBCA and other corporate statutes require all corporations to have as part of their
name a word or abbreviation which indicates that the business is being carried on
by an entity with limited liability.
o Under CBCA, every corporation’s name must include one of the following: Corp.,
Ltd., Inc. – s. 10(1)
o Full corporate name must appear

2) Corporate statutes have certain rules protecting the assets of the corporation for the
benefit of creditors and others with claims against the corporation.
o No longer require a minimum investment by SHs.
o A corp may issue one share for $1
o CBCA Restriction on distributions to SHS. The corporation cannot:
a) Pay dividends
b) Redeem or repurchase shares; or
c) Make payments on the exercise of certain SH remedies
If the director had reasonable grounds to believe the corp is insolvent or would be made
insolvent by the distribution (ss. 34, 35, 36, 190(26), and 241(6).

3) The corp and/or its directors may be liable if they act in a manner that is oppressive
to or is unfairly prejudicial to or that unfairly disregards the interest of any
security holder, creditor director or officer. (s 241(2))
o The class of persons who may seek relief includes “any person who, in the
discretion of the court, is a proper person to make an application” (s. 238)

4) Corporate statutes provide for certain public filing so that people dealing with a
corporation will be able to find out something about its activities.
Corporate Law and Securities Law

Securities laws attempt to ensure that investors have an informed, accurate idea of the type of
interest they are purchasing and its value.

Ontario Securities Act R.S.O 1990

1.1 The purposes of this Act are,
(a) to provide protection to investors from unfair, improper or fraudulent
practices; and
(b) to foster fair and efficient capital markets and confidence in capital markets.

The main approach to achieving the above objective is to require disclosure by businesses that
issue their securities so that buyers and sellers in the market make their decision on an informed
basis. Securities are not restricted to shares and debt obligations like bonds. They include option
to purchase shares and units in limited partnerships and mutual funds. A security is any
“evidence of title to or interest in the capital, assets, property, profits, earnings or royalties of any
person or company. See: Pacific Coast Coin Exchange of Canada v. Ontario (Securities
Commission) - pg. 474 VanDuzer

Five main areas of securities regulation:

1. Regulation of securities market participants
o Securities dealers, such as BMO Nesbitt Burns, Scotia McLeod and others
who make a business of being involved in or advising regarding securities
transactions are subject to registration requirements and are regulated to
ensure that they meet high standards of competence and responsibility
o Provincial regulators also oversee the activities of certain self regulating
organizations (SROs)
o Ie. Investment Dealers Association (IDA), Mutual Fund Dealers Association
(MFDA), The Toronto Stock Exchange (OSA, ss. 1.1 (definition of SRO), 21,
21.1)
2. Requirements for businesses offering securities to the public to disclose timely and
accurate information about the securities and their business when the securities are first
offered for sale, and thereafter on a regular basis, as well as whenever something happens
that is likely to affect the value of the securities.
3. Regulation of insider trading
4. Takeover bids
5. Securities rules for corporate governance

 The administration and enforcement of the securities laws of each province is the
responsibility of a specialized agency of the government of that province.
 Ontario Securities Commission
- OSC prosecutes offences under the Ontario Securities Act (OSA)
- May make court applications for a declaration that there has been non-compliance
with the Act or orders
- Has a wide discretion to make orders relating to marketplace activities where it
determines that some action is in the public interest (OSA, ss. 122, 127, 128)
The Relationship Between Corporate Law and Securities Law