BUSINESS LAW

Weight: 20%

Marks: 15

Assignment #3: Fact Scenario – Business Organizations

Instructions
Review the materials from Module 8 and prepare responses to the questions about the fact
scenario found below. Your answers must be typed. Submit your answers through the D2L
Assignments area. Please check the submission date in the Course Schedule.

Marking Key
Marks Marks
Question Allocated Obtained
1 10
2 10
3 5
4a 5
4b 3
4c 4
4d 5
4e 3
4f 5
Total 50

1 School of Business
© 2016, Southern Alberta Institute of Technology
 BUSINESS LAW

Facts
You are an avid amateur inventor and have stumbled across an idea that may revolutionize the
renewable resource sector. You think you have discovered a way to build solar panels so that
they can attract and retain energy at least 100 times more efficiently than is the current norm.
However, as with any business venture, you realize that there is some risk involved. You have
$50,000-worth of investments and share a mortgaged house with your spouse. You also own a
one-quarter share of the family farm.

You have drawn up a business plan and estimate that you will need $1,000,000 in order to
finance your business. During a class break, you mentioned your idea to a fellow classmate in
BLAW – they love the idea and think you’re a genius. Your classmate has some truly excellent
ideas on how to market the business, and says she has $100,000 that she would like to invest
in the business venture. Your family also supports your business idea and has pledged to help
you financially.

Questions
Question #1 (10 marks)

Define each of the four different business structures that you may use to set up your new
business. Identify one advantage and one disadvantage for each structure in the context of the
provided facts. Finally, choose a business structure for your new venture and fully explain why
you chose the way you did.

Four business structures that I may use to set up the new business:

1. Sole proprietorships
With this type of business organization, you are the sole owner, and fully responsible for all
debts and obligations related to your business. There is no distinction between the personal
assets of the sole proprietor and those of the business.

Advantage:

 Easy and inexpensive to start up. The sole proprietor just starts doing business and is
free to discontinue business activities at any time.

Disadvantage:

 Unlimited liability of the sole proprietor is the prime disadvantage. If you have business
debts, claims can be made against your personal assets to pay them off.

2 School of Business
© 2016, Southern Alberta Institute of Technology
 BUSINESS LAW

2. Partnership
A partnership is a non-incorporated business that is created between two or more people. In a
partnership, your financial resources are combined with those of your business partner(s) and
put into the business. You and your partner(s) would then share in the profits of the business
according to any legal agreement you have drawn up. Based on the fact, there are two possible
partnerships: (1) General Partnerships (GPs): When two or more persons want to pool their
resources and carry on business together with the intention of making a profit. (2) Limited
Partnerships (LPs): A limited partnership (LP) consists of one or more persons who are general
partners, and one or more persons who are limited partners.

Advantage:

 Greater access to capital, because the capital available to the business includes the
assets of each partner and the extent of each partner’s credit.

Disadvantage:

 Unlimited liability and every partner shares responsibility for every other partner’s
obligations and wrongdoings.

3. Corporation
A corporation is a legal entity separate in law from its owners, equity investors and shareholders
(meaning that the corporation is separate from the people who own shares in it).

Advantage:

 Shareholders have very limited liability since the corporation as a separate legal entity
carries most of the risk

Disadvantage:

 Corporations can be more expensive and complicated to start up and to maintain

3 School of Business
© 2016, Southern Alberta Institute of Technology
 BUSINESS LAW

4. Co-operative
A co-operative is owned and controlled by an association of members. It can be set up as a for-
profit or as a not-for-profit organization. This is the least common form of business, but can be
appropriate in situations where a group of individuals or businesses decide to pool their
resources and provide access to common needs, such as the delivery of products or services,
the sale of products or services, employment, and more.

Advantage:

 Owned and controlled by its members

Disadvantage:

 Participation of all members is required in order to succeed

Overall, I choose to use a partnership as a business structure for the new venture. This
partnership will be a Limited Partnerships (LPs). In fact, we need money to start the business
that is why corporation is not a good fit since it can be more expensive and complicated way to
start and to maintain compared to other business forms. With Sole proprietorships, it can be
difficult to raise capital. With Limited Partnerships (LPs), there are general partners and limited
partners. Even though general partners still have an unlimited liability, the limited liability
protection for the limited partners entice partners to invest capital to grow the business. It will
be relatively easy to start up and maintain. There is a greater access to capital because the
capital available to the business includes the assets of each partner and the extent of each
partner’s credit and also additional sources of revenue and business expertise from fellow
partners. This type of business structure requires more paperwork, including a limited
partnership agreement, and must be registered in order to be considered to exist.

Question #2 (10 marks)

Based upon the business organization that you chose, explain in detail how you will raise the
funds to finance the business. In your explanation, please describe in detail what each party
providing funds will receive and the responsibilities that lie with the receiver of the funds.

The estimation of the business plan is $1,000,000 in order to finance the business venture. As
we have chosen a partnership as a business structure for the new venture, each partner will be
bringing resources to carry on business together with the intention of making a profit. My fellow
classmate and I will be considered general partners and other persons will be limited partners. I
will bring my ideas, $50,000-worth of investments and my fellow classmate will invest $100,000

4 School of Business
© 2016, Southern Alberta Institute of Technology
 BUSINESS LAW

in the business. My family and other investors like friends who support the idea will invest an
amount in the business venture (around $ 350,000). My fellow classmate and I will use our
borrowing power to raise the remaining amount from a lender (banks, friend or anyone else
willing to lend money)

Each party providing funds will receive shares and they will get a return on their money when
the Limited Partnerships starts to make profits. Limited partners (family member and friends)
only provide capital to the business venture and they wait to get return from their investment in
the business. These partners will not have a role in the management or activities of the
partnership. General partners (my fellow classmate and I) will also receive shares and get return
when the business starts making profits. General partners who receive funds will be in charge of
operating the business. General partners will usually split all profits and losses equally. The
partners must work together. Each partner has a fiduciary duty to act in the best interests of his
partners, this means that each partner must act in good faith toward the other partners and
must not take any advantage over the other partners by misrepresentation or concealment.
Partnerships usually have a written partnership agreement between them that sets out how
they want the business to operate. All partners are responsible for keeping the business records
straight, keeping finances in order, and paying the business taxes.

Question #3 (5 marks)

Based upon the business organization that you chose and its method of financing, what liability
do you face personally? What liability would other investors face? Explain the extent of this
liability.

As a general partner, I have an unlimited personal liability. In fact, I am jointly and severally
liable for all torts committed by one of the partners in the scope of the partnership business as
well as being vicariously liable for the torts of my employees (as long as the torts were
committed in the course of employment). Therefore, I could do nothing wrong, but if my
partner or employee screws up, I could lose personal assets such as my house.

Other investors are Limited partners. The liability of limited partners is restricted to the specific
amount of capital they have personally invested in the Limited Partnership. They simply provide
capital and they do not provide services to the partnership and have no role in the management
or activities of the new business. Limited partners will only lose the amount of capital they
brought in the partnership. That is why other investors have limited liability. If limited partners
take too active a role in the partnership, they will lose their limited liability protection.

5 School of Business
© 2016, Southern Alberta Institute of Technology
 BUSINESS LAW

Question #4 (25 marks)

Add the following details to the original facts: You have chosen to structure your venture as a
corporation and are now deciding on the share structure you will use. You know that it is
possible to change it later, but it is much simpler to structure it according to your needs from the
beginning. Your dad, mum and four friends – Chris, Nima, Monica and Sanjiv - have all asked
to buy shares in your corporation. However, they all have different amounts that they can invest
and different levels of interest in participating in the corporation. You appreciate their loyalty but
want to make sure that you maintain control of the corporation. You also realize that you may
need more investors than just your close friends and family.

a. Describe the issues that you will need to consider when formulating your share structure.
Consider how the shares will be sold as well as how many classes of shares you will create.
What rights will attach to each class of shares? (5 marks)

The issues that I will need to consider when formulating share structure are:

 What rights I want to give other shareholders (rights, privileges, restrictions and
conditions attaching to the shares of each class)

 What type of corporation (public or private)? If I want to create a private corporation

(less than 50 shareholders and then, only friends and family); otherwise, the new
corporation will have to comply with high level of regulations from securities laws

 What rate of return does the company promise to pay when it sells stock?

 Identify if there is a need to issue extra shares because the new business may need more
resources for future use.

We need $1,000,000 in order to finance the new business. I will raise money for the business by
selling shares. Depending on the class of the share, the price will be from $500 to $1,000 per
share. I will have 55% of the total share that includes 70% of the voting shares in order to have
an effective control of the corporation. Dad, Mum and my four friends have 5% each, and the
remaining 15% will be sold to other investors like fellow classmate. I will create three classes of
shares for the business:

 Common Voting Shares: Shareholders will have the right to vote, the right to
information, the right to receive dividends and to receive the remaining property upon
liquidation, dissolution or winding-up.

 Non-Voting Common Shares: Shareholders who hold those shares will not have the right
to vote, however, these shareholders will be entitled to receive dividends and have a
place in line if your corporation ends up being dissolved.

6 School of Business
© 2016, Southern Alberta Institute of Technology
 BUSINESS LAW

 Preferred Shares: This third class is non-voting but give shareholders of that class the
right to collect dividends at a set amount and to be first in line (after creditors) if the
corporation is dissolved.

b. If you only issued one class of shares, identify three rights that each shareholder will have.
(3 marks)

When issuing one class of share, each shareholder will have the following three rights:

1. Right to vote at any shareholder meetings,

2. Financial right such as right to receive any dividend declared by the corporation,

3. Right to receive the remaining property of the corporation on dissolution (after all
the corporation's creditors are paid).

c. The shareholders have elected you to be the sole director of the corporation, and you have
appointed an officer to help you carry out your obligations. What are the two overriding
duties owed by directors and officers of a corporation? Describe each of these duties. (4
marks)

1. Fiduciary duty: Directors and officers owe a fiduciary duty to the corporation. This is a
standard of behaviour that is expected of a director and officer concerning their dealings
or interactions with the corporation. They must act in the best interests of the
corporation and must avoid conflicts of interest. Directors and officers must act in good
faith toward the corporation.

2. Duty of competence: the duty to exercise the care, diligence and skills that a reasonably
prudent person would exercise in comparable circumstances. The duty of care requires
directors to take appropriate steps to make informed decisions. Directors must ensure
that they have the information needed in order to make decisions, assess the
information critically and seek input from and test the recommendations of
management and the corporation’s advisors.

d. Chris, one of your shareholders, has become very dissatisfied with the management of the
corporation and its performance. What four options/remedies are available to him? Of these
options, which is the most likely method of success for Chris? (5 marks)

1. Selling the Shares: Often the simplest and least costly remedy for a disgruntled
shareholder is to simply sell their shares

2. Exercising Dissent and Appraisal Rights: In situations where shareholders, by a two-

thirds majority vote, approve a fundamental change to the corporation, a dissenting
shareholder may elect to have her or his shares bought by the corporation

7 School of Business
© 2016, Southern Alberta Institute of Technology
 BUSINESS LAW

3. Bringing a derivative Action: Because of their managerial control, directors are well
placed to rob the very corporation they are charged with serving. Therefore, a
shareholder may apply to bring forward a derivative action on behalf of the corporation.

4. Bringing an Oppression action: The most widely used remedy by shareholders in Canada
is called the oppression remedy. A shareholder who has been treated unfairly or
“oppressively” may apply to a court for relief.

Based on the fact, Chris has become very dissatisfied with the management of the
corporation and its performance. If Chris feels unfairly treated by directors or other
shareholders, he can choose to bring an oppression action. To successfully seek the
Court’s assistance through the oppression remedy, Chris must demonstrate independent
harm to their interests, rather than an indirect harm to all the shareholders by way of
harm to the company. However, Chris can choose to bring a derivative action on behalf
of the company. A derivative action is a remedy meant to address harm to the company,
rather than harm to an individual shareholder.

e. Describe three ways in which your corporation can be terminated. (3 marks)

1. Voluntary dissolution – where shareholders voluntarily agree to dissolve the corporation

2. Involuntary dissolution – where a corporation is dissolved through court order for

example, when the actions of the corporation are oppressive or unfairly prejudicial to
the interests of any shareholder, creditor, officer or director or these actions cause such
a result or where there are more debts than assets in a corporation (bankruptcy
application)

3. Administrative dissolution: a registrar issues certificate of dissolution for example,

neglecting to file annual returns, the corporation does not have any directors, etc.

f. What are five ways a director can attract personal liability through statute? Describe the
nature of the sanctions or penalties that he or she may face in each case. (5 marks)

There are numerous statutes imposed personal liability on directors:

1. Liability for unpaid wages and debts: When a corporation fails (becomes bankrupt)
while it still owes unpaid wages to its workers, or where there are breaches of
employment standards legislation, workers’ compensation or occupational health
and safety legislation. Penalties will vary from province to province. In Ontario,
directors who fail to comply with their obligations under the Occupational Health
and Safety Act may be subject to fines of up to $25,000 and prison terms of up to
one year. In Alberta, directors may be exposed to liability under the Act that could, in

8 School of Business
© 2016, Southern Alberta Institute of Technology
 BUSINESS LAW

principle, include fines of $1 million or more as well as a term of imprisonment of up

to one year

2. When a failed corporation has not paid back taxes owed by the corporation:
Directors at the time of the required withholding or remittance may be jointly and
severally liable (in Quebec, solidarily liable) with the corporation for the amount that
should have been withheld or remitted together with interest and penalties.

3. When there is environmental damage caused by the corporation: Environmental

legislation imposes personal liability on directors and officers of corporations that
violate environmental laws. The provisions governing directors’ and officers’ liability
under Alberta’s Environmental Protection and Enhancement Act (AEPEA) are virtually
identical to those set out in CEPA. Potential fines vary depending on the offence,
with a $100,000 maximum, in addition to up to two years of imprisonment, for
certain more serious offences. Similar liabilities and penalties are established by the
Dangerous Goods Transportation and Handling Act.

4. Tort liability: Director’s or officer’s conduct, which is characterized in one of the

following ways, could potentially result in personal liability: fraud, dishonesty,
nuisance, causing physical injury or causing property damage. Those conducts should
be in the interest of the director or the personal interest of fellow directors rather
than in the interest of the corporation.

5. Contract liability: If the director did not act within his or her actual or apparent
authority and has committed a "personal fault", e.g. personally made a
misrepresentation, acted negligently or fraudulently, abused someone’s rights, or
participated in an extra-contractual fault of the corporation then the director may
face personal liability for those acts.

Potential plaintiffs in last two liabilities include the corporation itself, shareholders, creditors,
employees and government agencies. Directors can face fines or imprisonment and may be
responsible for the actual damages caused in each case.

9 School of Business
© 2016, Southern Alberta Institute of Technology