Ba Final Outline Wagner

BUSINESS ASSOCIATIONS OUTLINE 1
I. AGENCY
A. Exam Attack:
1. State the Agency relationship up front
a. Question of existence or question of scope?
2. Scope of Agency analysis
a. Actual
i. Express
ii. Implied
b. Inherent
c. Apparent
d. Ratification
e. Estoppel
B. Formation of Relationship
1. Agency indicates a relationship where one person acts on behalf of another. Forms:
a. Principal and agent
b. Master and servant
c. Employer/proprietor and independent contractor
2. Establishing Agency between parties
a. R2d§1 [USE FIRST]:
i. (1) Agency is the fiduciary relation which results from the
(a) manifestation of consent by one person (principal) to another
(b) that the other shall act on his behalf and subject to his control, and
(c) consent by the other (agent) to so act.
b. R3d§1.01: Agency is the fiduciary relationship that arises when one person (principal) manifests
assent to another person (agent) that the agent shall act on the principal’s behalf and subject to his
control, and the agent manifests assent or otherwise consents to so act
c. GORTON v. DOTY
i. Doty offers her car to Garst to drive high school football team; Garst gets in an accident, injuring
Gorton. Gorton sues Doty on theory that Garst was her agent.
ii. R§1: agency is the relation, which results from the manifestation of consent by one person to
another that the other shall act on his behalf and subject to his control, and consent by the other to
so act.
(a) Court does not limit application to involving some matter of business
iii. Doty claims it was not an agency relation, but a loan
iv. Court rejects Doty’s claim—no conversation about borrowing and loaning; only manifestation of
consent of principal (volunteering her car with condition Garst drive it, which shows control) and
agent (driving the car).
C. Creditor/Lender Relationship-not usually agency relationship until day to day control established
1. Transition from Creditor-Lender to Principal-Agent
a. A. GAY JENSON FARMS CO. v. CARGILL INC
i. Cargill loaning financing to Warren; Warren in turn appoints Cargill as grain agent and gives it
right of refusal to purchase Warren’s grain
ii. Contract renewal: Cargill could not assume indebtedness or make capital repairs/improvements
without Warren’s approval
iii. Financials go into disrepair; Cargill starts making major and day to day decisions for Warren
iv. R2d§14O: a creditor who assumes control of his debtor’s business may become liable as principal
for the acts of his debtor in connection with the business
(a) “The point at which the creditor becomes a principal is that which he assumes de facto control
over the conduct of his debtor.” Factors:
(i) Cargill’s constant recommendations to Warren via telephone
(ii) Cargill’s right of first refusal
(iii) Warren’s inability to purchase stock, enter mortgages, pay dividends without Cargill’s
approval
v. Cargill says Warren’s not an agent but a supplier—that it: (1) receives fixed price for property, (2)
acts in own name, (3) has independent business in buying and selling (R2d§14K: one who
contracts to acquire property from a third person and convey it to another is the agent of the other
only if it is agreed that he is act primarily for the benefit of the other and not for himself)
vi. Court says that Warren was Cargill’s agent because of how deeply involved. There was no
independent business.
D. Liability of Principal to Third Parties in Contract-question is not is this an agent, but what was agent’s
scope of authority. Types of Attribution:
1. Actual Authority: R3d§3.01: principal’s manifestation to agent that is reasonably understood by the agent
that expresses principal’s assent that the agent take action on the principal’s behalf
a. Express Authority: R2d§7: the power of the agent to affect the legal relations of the principal by acts
done in accordance with the principal’s manifestations of consent to him
i. Created through R2d§26: objective manifestation of principal, the reasonable interpretation of that
manifestation by the agent, and the agent’s belief that he is authorized to act for the principal
b. Implied (Incidental) Authority: R2d§35: Unless otherwise agreed, authority to conduct a transaction
includes authority to do acts which are incidental to it, usually accompany it, or are reasonably
necessary to accomplish it.
i. Contingent upon agent’s belief about his own authority
ii. “fills in the gaps” of express authority
c. MILL STREET CHURCH v. HOGAN
i. Church hires Bill to do job; he’s done jobs in the past. Church tells him he can hire a helper;
suggests but doesn’t command Petty. Bill gets Sam to help him, and Sam gets injured. Sam wants
worker’s comp from Church and says that Bill acted as the Church’s agent in hiring him
ii. Rule: it must be determined whether agent reasonably believes, because of present or past conduct
of the principal, that the principal wishes him to act in a certain way or have certain authority
(a) Party alleging agency has burden of proving
(b) Past similar practice is one of most important factors
iii. Court says that Bill had implied authority to hire his brother based on past practices with no
change.
(a) No express because there was no direct comment that he could hire Sam.
2. Apparent Authority:
a. Apparent authority results when a P manifests to a third party that an A is authorized, and the third
party reasonably relies on the manifestation.
i. There must be some holding out by the P that causes a third party to reasonably believe that the A
has some authority, and the third party must reasonably rely on the P’s manifestation.
b. R2d§8: the power to affect the legal relations of another person by transactions with third persons,
professedly as agents for the others, arising from and in accordance with the other’s manifestations to
such third persons/
c. R3d§2.03: power held by agent or other actor to affect a principal’s legal relations with third parties
when a third party reasonably believes the actor has authority to act on behalf of the principal and that
belief is traceable to the principal’s manifestations
i. Created through R2d§27: created as to third person by written or spoken words or any other
conduct of the principal which, reasonably interpreted, causes the third party to believe that the
principal consents to have the acts done on his behalf by the person acting for him
ii. Contingent upon third party’s belief about agent’s authority as manifested by the principal
d. Defining manifestation:
i. R3d§1.03: written/spoken words or conduct
ii. R3d§3.03: Direct communications, statements, documents given from principal to agent,
communications from third persons who’ve heard of agent’s authority through authorized
channels, communication to public, continuously employing agent…
e. 370 LEASING v. AMPEX CORP.
i. Kays (sales rep for Ampex) accepts Joyce’s (370 sole employee) offer to purchase through a letter
Kays sent
ii. Ampex says Kays did not have authority sufficient to bind Ampex
(a) Note: issue isn’t was Kays an agent; it’s what’s his authority
iii. Joyce asserts claim under apparent authority
(a) Joyce: even if no actual authority, says that sending of letter (manifestation from Ampex that
reached Joyce) plus reasonableness of believing a sales rep could approve an offer means
Kays had authority to approve contract
(b) Ampex: we have an internal process for approval—court rejects, says how could Joyce know
that. Contract is valid and enforceable
f. Inherent Authority: Third Theory Under Attribution Rules (analogous to the doctrine of respondeat
superior in torts)
i. Restatement 2d approach:
(a) R2d§8A: power of an agent which is derived not from authority, apparent authority or
estoppel, but solely from the agency relation and exists for the protection of persons harmed
by or dealing with a servant or other agent
(b) Covers actions by:
(i) General Agent: R2d§3(1): agent authorized to conduct series of transactions involving a
continuity of service
(ii) Special Agent: R2d§3(2): agent authorized to conduct single transaction or series of
transactions not involving continuity of service
(c) See also R2d§161 (acts of general agent for disclosed/partially disclosed principal) R2d§194
(acts of general agent for undisclosed principal) and R2d§195 (acts of manager appearing to
be owner)
ii. Restatement 3d approach [USE THIS, NOT R2d]:
(a) R3d§2.0(2): doesn’t call it inherent authority (classifies under apparent), but same effect:
undisclosed principal may not rely on instructions given an agent that qualify or reduce an
agent’s authority to less than the authority a third party would reasonably believe the agent to
have in the same circumstances if the principal had been disclosed
iii. WATTEAU v. FENWICK
(a) Humble’s name on the bar, Humble is the manager; owners are a brewing company but it’s
not apparent that the owners exist.
(i) Humble makes purchases against owners’ wishes but that appear normal for his role.
Seller goes unpaid; finds out about owners and sues them
(b) Owners: we’re undisclosed, you can’t sue us. Court: Too bad—if you’re the actual principal,
and agent was doing what reasonably appeared in his authority, doesn’t matter that you were
undisclosed
(i) This is the only route Seller has—can’t claim actual (didn’t know about principal), can’t
claim apparent (no manifestation of principal’s intent; the P was undisclosed)
iv. NOGALES v. ARCO
(a) An agreement was entered into for a gas station remodel with an agent of ARCO; turns out he
didn’t have authority to make the agreement
(i) Three situations where inherent authority presents itself:
1. Where a general agent does something similar to what he is authorized to do, but in
violation of orders
a. Principle will become liable here even if he is undisclosed
2. Where an agent acts purely for his own purposes in a transaction which would be
authorized if he were actuated by a proper motive
3. Where an agent is authorized to dispose of goods and departs from the authorized
method of disposal
(ii) Here: inherent authority because it was shown that it was “usual or customary” for sales
guy to give price breaks and enter into these kinds of agreements and make such
promises
1. Not apparent authority because agent not held out as having authority to do this by
the principal
E. Ratification
1. R2d§82: the affirmance by a person of a prior act which did not bind him but which was done or
professedly done on his account, whereby the act as to some or all persons is given effect as if originally
authorized by him
2. R2d§83: Affirmance is either
a. A manifestation of an election by one on whose account an unauthorized act has been done to treat the
act as authorized, or
b. Conduct by him justifiable only if there were such an election
3. R3d Chapter 4
a. § 4.05: Ratification is NOT effective if it comes after circumstances that would cause it to
adversely/inequitably affect third party’s rights
b. BOTTICELLO v. STEFANOVICZ
i. Husband and Wife have tenancy in common; Renter offers $75,000 to buy and Wife says there’s
no way she could sell for that amount. Renter later offers $85,000 and Wife says she can’t sell for
less than that. Husband sells $85,000 without Wife signing deal.
ii. Renter makes improvements, tries to exercise purchase option. Wife says agreement can’t be
enforced as to her.
iii. Court’s analysis—could be enforced if Husband was wife’s agent, or she ratified
(a) Husband as Wife’s agent—no, no manifestation of consent by her
(b) Ratification requires affirmance of person by prior act which didn’t bind him but was done on
his account and acceptance of the results of the act with an intent to ratify and with full
knowledge of all the material circumstances
iv. Court rejects—Husband never was agent, and Wife never intended to sell nor did she know
material facts so she didn’t ratify
(a) Renter tries to argue ratification through receipt of benefit and failure to repudiate—court also
rejects; to succeed on this argument, other factors of ratification must first be present
(i) Such as knowing all of the circumstances – wife did not.
F. Agency by Estoppel
1. R2d§8(b):
a. Principal allows another (who has not authority) to create the appearance of authority and does not
correct that misimpression
b. Third party reasonably believes that person has authority
c. Third party changes position in reliance on misimpression
2. R3d§2.05:
a. A principal is liable to a third party who has made a detrimental change in position due to the belief
that transaction is being conducted by person
b. Such person intentionally or carelessly caused such a belief
c. With notice of such belief, person did not take reasonable steps to notify third party of the facts
i. The key here is that the principal knew or should have known
3. HODDESON v. KOOS BROS.
a. Imposter makes sale at furniture store; keeps cash and disappears
b. Court invokes agency by estoppel—says the store cannot use the lack of an agency as a defense when
it should have been aware of the misrepresentation
i. There is no agency principal relationship here.
G. Agent’s Liability on the Contract
1. R2d§321: Person purporting to make contract with a third party for a partially disclosed principal is a party
to the contract
2. ATLANTIC SALMON v. CURRAN
a. D doing business as Boston Seafood Exchange, Inc., which never existed. D actually has a corporation
—Marketing Designs—that P doesn’t know about
b. D incurs debt; says he was acting as agent of Marketing Designs when debt was incurred. D says
doesn’t matter; P knew it was interacting with corporation so had adequate notice
c. R2d§4(2): of third party to transaction has notice that the agent is or may be acting for a principal but
doesn’t have notice of principal’s identity, agent becomes partially disclosed principal to transaction
i. Burden is on agent to disclose principal’s identity if he wants to avoid liability on the contract.
Must disclose 1. That he’s acting in representative capacity, and 2. Identity of principal
H. Liability of Principal to Third Parties in Tort
1. R2d§2: Terms
a. Independent contractor: person who contracts with another to do something for him but who is not
controlled by the other nor subject to the other’s right to control with respect to his physical conduct…
may or may not be an agent
b. Master: principal who employs an agent to perform service in his affairs and who controls or has the
right to control the physical conduct of the other
c. Servant: agent employed by a master to perform service in his affairs whose physical conduct is
controlled or subject to the right to control by the master
i. R2d§220(2): Defining a servant, some relevant factors:
(a) Extent of control over details of work
(b) Engaged in distinct business or occupation
(c) Whether occupation is usually directed by employer vs. independently carried out
(d) Skill level, who supplies tools, length of employment
(e) Method of payment (hourly v. per job)
ii. Servant-master relationship: servant has agreed to
(a) Work on behalf of the master and
(b) Be subject to the master’s control or right to control the “physical conduct” of the servant
(i) Agent type: has agreed to act on behalf of another (principal) but is not subject
principal’s control over how the results are met
1. Non-agent type: operates independently and enters into arm’s length transactions
2. R2d§219:
a. A master is subject to liability for the torts of his servants committed while acting in the scope of their
employment
b. Master is not subject to liability for torts of his servants acting outside the scope of their employment,
unless:
i. Master intended the conduct or consequences, or
ii. Master was negligent or reckless, or
iii. Conduct violated a non-delegable duty of the master, or
iv. Servant purported to act or speak on behalf of the principal and there was reliance upon apparent
authority, or he was aided in tort by existence of agency relation
I. Scope of Employment
1. R2d§228: Conduct of servant if within scope of employment if
a. It is of the kind he is employed to perform
b. It occurs substantially within the authorized time and space limits
c. It is actuated (at least in part) by purpose to serve the master
d. If force used, force not unexpectable
2. R2d§229: Factors determining if act is within scope
a. Act commonly done by servants
b. Time, place, and purpose of act
c. Previous dealings between the principal and agent
d. Master expectation that act will be done
e. Similarity to act authorized
f. Instrumentality furnished by master
g. Departure from normal methods
3. R3d§7.07
a. Employer is vicariously liable for torts of employee acting within the scope of his employment
b. Scope of employment = performing work assigned by the employer or engaging in course of conduct
subject to employer’s control
c. Scope of employment ≠ occurring within independent course of conduct not intended by employee to
serve any purpose of the employer
4. IRA BUSHY & SONS v. UNITED STATES
a. Seaman in the Navy comes back to dock drunk, turns valves and floods dry dock, damaging boat.
Boat owner sues Navy, his employer
b. Court invokes respondeat superior, but instead of saying this was outside scope of employment,
construes test as whether actions were so unforeseeable as to be outside of scope—says they were not
(risk that seamen would be coming and going and might cause damage to the dock), so government is
liable
i. Court disregards prior requirement of having to show that employee acted with motivation to
serve master
ii. Strong policy motivation drives outcome—court accounts for fact that government can provide
relief in its analysis
5. Master-Servant Relationship established
a. HUMBLE OIL & REFINING CO. v. MARTIN
i. Humble owns gas station, Schneider operates it. Car rolls off gas station and hits pedestrian.
Humble gets sued and denies liability under theory that Schneider is independent contractor
ii. Court looks to day to day control to determine relationship—says that contract imposes duties on
Schneider, and despite him paying employees and express repudiation of any authority by Humble
over employees, still a servant master relationship because of Humble’s level of control
(a) Strict financial control, supervision; little discretion allowed to Schneider; Humble retaining
title in products, etc…
6. Master-Servant Relationship NOT established (Independent Contractor)
a. HOOVER v. SUN OIL
i. Barone leases and operates station from Sun. Is allowed to sell competing products, alone
assumes overall profit and loss from station, meets with Sun rep to discuss sales, etc.
ii. Fire starts at station, Sun gets sued but says Barone is independent contractor
iii. Court says test is “whether Sun has retained the right to control the details of the day to day
operation of the service station; control or influence over results alone are insufficient”—Barone is
independent contract, so Sun not liable
(a) Court calls Sun and Barone’s relationship a mutual interest in Sun products
J. Liability for Torts of Independent Contractor
1. An independent contractor can—but doesn’t have to be—an agent of whoever employs him
a. See R2d§220 factors (above)
2. MAJESTIC REALTY v. TOTI
a. Toti is contractor working for city; mis-swings wrecking ball and ruins property. Property owner sues
Toti and the city
b. Distinction between independent contractor and servant:
i. An employer does not have control over the physical mode and means that an independent
contractor uses—here, Toti not a servant, but an independent contractor
c. General rule: ordinarily where a person engages a contractor, who conducts an independent business
by means of his own employees, to do work not in itself a nuisance, he is not liable for negligent acts
of contractor performed under contract. Exceptions:
i. Where landowner takes control of manner and means of doing of the work which is the subject of
the contract
ii. Where he engages an incompetent contractor
iii. Where activity contracted for is nuisance per se
d. Court says taking down a building is inherently dangerous so it’s a nuisance per se; city is liable under
third exception
K. Fiduciary Obligations of Agents
1. Duty of Loyalty
a. R2d§387: Agent is subject to a duty of loyalty to act solely for the benefit of the principal in all
matters relating to the agency
b. R3d§8.01: Agent has a fiduciary duty to act loyally for the principal’s benefit in all matters connected
with the agency relationship
2. Duty to Account for Profits Arising Out of Employment
a. R2d§388: If agent makes a profit in connection with transactions conducted by him on behalf of
principal, agent must turn those profits over to principal
b. R3d§8.02: an agent has a duty not to acquire a material benefit from a third party in connection with
transactions conducted or other actions taken on behalf of the principal or otherwise through the
agent’s use of his position
3. Liability for use of Principal’s assets
a. R2d§404: agent must pay over the profit if it uses principal’s assets in violation of a duty; but agent is
not liable for profits made by him by use of time he has contracted out to principal unless he violates
duty not to act adversely/in competition with principal
b. R3d§8.05(1): agent has a duty not to use property of the principal for the agent’s own purposes or
those of a third party
c. READING v. REGEM
i. Soldier uses position in military (uniform, authority) to smuggle goods and make a profit.
ii. Court says: breach of fiduciary duty. Profits must be disgorged to the crown, because they never
could have been gained without soldier’s position under crown
(a) Doesn’t matter that crown suffered no loss—driven by unjust enrichment theory and goal of
deterrence
(b) Could do other things in breach of contract that made him money, but only required to
disgorge if breached fiduciary duty
4. Duty not to compete:
a. R2d§393: unless otherwise agreed, an agent is subject to a duty not to compete with the principal
concerning the subject matter of his agency
i. R2d§396(a): duty not to compete ends at termination of agency relationship, except for using
confidential information
b. R3d§8.04: agent has a duty to refrain from competing with the principal and from taking action on
behalf of or otherwise assisting the principal’s competitors
i. But agent may take action to prepare for competition post-agency
c. GENERAL AUTOMOTIVE v. SINGER
i. Singer employed by General Automotive; begins brokering jobs that Singer turns away for lack of
equipment or competitive price
ii. Singer’s contract has non-compete provision; court puts into place the law of agency and says this
is a breach of fiduciary duty, penalty of which is disgorgement
(a) Singer’s failure to disclose facts relating to jobs he brokered and receiving secret profits,
breached fiduciary duty to act solely for benefit of General—must disgorge amount of profits
5. Duty not to disclose confidential information
a. R2d§395: during agency, agent has a duty not to use or disclose confidential information
b. R2d§396(b): after termination of agency, agent has duty not to use in competition with principal or
to his injury trade secrets, written lists of names, or other confidential information
c. R3d§8.05(b): an agent has a duty not to use or communicate information of the principal for the
agent’s own purposes or those of a third party
d. TOWN & COUNTRY v. NEWBERY
i. P was cleaning service; employed members of D for number of years. D eventually left cleaning
service and started similar company, solicited P’s customers and some switched to D’s company
ii. Lists of customers to substantial effort and cost to construct; court says D soliciting them was
breach of fiduciary duty not to compete. Court enjoins D from further solicitation, suggests
damages
L. Franchises
1. A franchise is a licensing system that when entered obligates the franchisor to allow use of the valuable
name and system and the franchisee to pay royalties and operate within the system
2. MURPHY v. HOLIDAY INNS
a. Motel chain licensed as a Holiday Inn; language of license says chain is granted a “system.” License is
part of a franchise agreement. Guest injured at motel; tries to sue Holiday Inn, who says it isn’t liable
because no relationship between it and motel
b. Court’s test: right to control methods or details of doing work—Holiday Inns didn’t have this
i. Court does note that franchise agreements themselves, as well as clauses disclaiming an agency
relationship, won’t insulate franchisees from liability
3. Apparent Agency in Franchisee context (distinct from apparent authority, where agency has already
been established)
a. R2d§267: (Agent’s Liability)
i. One who represents another as his servant or agent
ii. Causing a third party to justifiably rely on the care or skill of such agent
iii. Is liable for harm caused by lack of care or skill of such agent
b. R3d§7.08: (Principal’s Liability)
i. Principal is subject to vicarious liability for a tort committed by an agent in dealing with a third
party on or purportedly on behalf of principal when actions taken by the agent with apparent
authority constitute the tort or enable the agent to conceal its commission
c. MILLER v. MCDONALD’S CORP.
i. Woman bites into sapphire in Big Mac; sues McDonald’s, who denies liability because it is a
franchisor.
ii. Test:
(a) To make McDonald’s liable for franchisee’s actions, franchisee would need to be apparent
agent: McDonald’s would have to have the right to control—franchise agreement would have
to go beyond the stage of setting standards and allocate to the franchisor the right to exercise
control over daily operations (applying R2d§267)
(b) Then becomes two part analysis:
(i) Did putative principal (McDonald’s) hold franchisee out as an agent
(ii) Did third party rely on that holding out
iii. Court says jury could find apparent agency
II. PARTNERSHIP
Generally:
Partnership law is statutorily created (default will be to apply statute) BUT parties can maneuver around
the statutes by enacting their own provisions via contract—the statutes don’t come into play unless there’s an issue
not dealt with in the partnership agreement
A partnership does not require any formal filings, hence the need for judiciary findings on whether or not
something is a partnership
-do need an oral understanding between at least two people
Uniform Partnership Act—not law until enacted by state
-Missouri follows Uniform Partnership Act of 1914
RUPA= REVISED UPA (1997)
A. Defining Partnership
1. UPA § 6(1): a partnership is an association of two or more persons to carry on as co-owners a business for
a profit **FUNDAMENTAL TEST**
2. UPA §7(4): receipt by a person of a share of the profits of a business is prima facie evidence that he is a
partner in the business, but no such inference shall be drawn if such profits were received in payment:
a. As a debt
b. As wages
c. As an annuity
d. As interest on a loan
e. As consideration for sale of good will of a business
3. UPA § 18(a): partners share equally in profits and losses
4. UPA § 18(e): the rights and duties of the partners in relation are equal, subject to any agreement between
them
5. FENWICK v. UNEMPLOYMENT COMPENSATION COMMISSION
a. Cheshire hired, wants raise, enters agreement with following:
i. Cheshire invests no capital
ii. Fenwick retains control and management
iii. Fenwick liable for debt; receives 80 percent of profits
b. Cheshire quits; was she employee or partner? Court took UPA 6(1) and says partnership factors are:
i. Intention of the parties
ii. Sharing of profits; sharing of losses (important)
iii. Contribution of capital and share in capital upon dissolution
iv. Control of business (most important factor)
v. Language in agreement
vi. Conduct toward third parties
c. Court says no partnership, despite “partnership” language and agreement entered into—control
element lacking (not enough ownership, management)
6. UPA § 15: All partners are liable
a. Jointly and severally for everything chargeable to the partnership
b. Jointly and severally for all other debts and obligations of the partnership; but any partner may enter
into a separate obligation to perform a partnership contract
7. MARTIN v. PEYTON
a. Various loan agreements between banks and trustees provide that:
i. Trustees are advised of activity of securities; had to consent to their sales but couldn’t initiate
transactions or bind the firm
ii. Firm must assign securities to a trustee but can dissolve at any time
iii. Trustees given option to enter firm later/form a corporation
b. Not enough control to call lenders partners—they can’t be liable
c. Party asserting partnership has burden of showing
B. Partnership by estoppel
1. UPA § 16: liability results when a person
a. by written/spoken words or conduct represents himself, or consents to another representing him, to a
third party as a partner in an enterprise, and
b. that third party relies on the representation and enters into a transaction with the supposed partnership
(has “given credit”)
2. YOUNG v. JONES
a. PWBahamas runs fraudulent investment scheme; investors want to sue PWUS. No evidence of
partnership in fact between PWBahamas and PWUS. Investors must show evidence of partnership by
estoppel to make PWUS liable. PWB issued the letter but had little $. Ps want PWUS who has $.
b. General rule: parties not partners themselves are not partners as to third persons. Exception: a party
that represents himself or permits someone else to represent him to anyone as a partner in an existing
partnership and representation induces reliance of third party
i. Court applies: says that though there is probably enough evidence of first prong—brochures,
advertisements, etc. connecting PWBahamas and PWUS—but investors never asserted that they
invested in reliance on those factors, so no estoppel.
c. Holzman v. De Escamilla: shows the difference between general and limited partnership
i. DIFFERENCES FROM FGENERAL PARTNERSHIP:
(a) Formalities: Need to file certificate of limited partnership (GP can be unwritten)
(b) Two categories: GP & LP
(c) Limited liability for LPs; Unlimited for GP
(d) Management in GP; LPs are passive investors
(e) Profit and loss sharing: LPs share in profits and losses based on their contributions
(f) Dissolution: dissociation of LP does not dissolve
C. Fiduciary Obligations of Partners
1. Duty of Loyalty
a. Deprivation of opportunity that arose because of partnership
b. Keeping benefits gained through means of partnership
c. UPA § 21: Partner accountable as fiduciary
i. Every partner must account to the partnership for any benefit, and hold as a trustee for it any profits
derived by him without the consent of the other partners from any transaction connected with the
formation, conduct, or liquidation of the partnership or from any use by him of its property
d. RUPA § 404(b): Duty of Loyalty
i. Partners have a duty of loyalty to account/hold as a trustee profits or benefits derived from use of
partnership property including partnership opportunity
ii. Duty includes refraining from conflict of interest transactions
iii. Duty includes refraining from competing before dissolution of partnership
e. MEINHARD v. SALMON
i. Gerry leases hotel to Salmon; Salmon enters partnership with Meinhard to finance—Salmon
manages, both share in losses and profits. At end of lease, Gerry reoffers hotel opportunity to lease
to Salmon. Midpoint, Salmon’s other company, signs lease. Salmon doesn’t tell Meinhard any of
this; Meinhard finds out and sues
ii. Court says Salmon owed duty of loyalty to Meinhard by concealing the opportunity, which he
gained only through the partnership. One partner can’t deprive the other of an opportunity that
arises because of the partnership. Salmon’s silence constituted an intent to compete. Salmon had a
duty of loyalty to act in the interest of the whole. This was an extension of the original lease, not
new. Meinhard relied on him to continue in the same way. FATAL ERROR: took the partnership
opportunity for himself in secrecy and silence. SHOULD HAVE: disclosed to Meinhard.
(a) Note: Meinhard construed the partnership as an ongoing enterprise; Salmon considered it
terminated when lease ended so new offer was “independent”
(b) Duty of loyalty are court’s magic words
2. Duty of Care
a. RUPA § 404(c): a partner must not act in a manner that is grossly negligent or reckless or engage in
intentional misconduct or knowing violation of the law
b. UPA § 19: Partners may inspect and copy partnership’s books
c. UPA § 20: partners shall provide on demand true and full information of all things affecting the
partnership to any partner
d. RUPA § 403: partners may inspect and copy books and records; partners are entitled to information
from other partners and partnership that is needed for exercise of partner’s rights and duties without
making demand
i. Partner entitled to other information on demand
e. Grabbing and Leaving-in the course of leaving, all fiduciary duties continue to be owed up until the
second the person is no longer a partner
i. MEEHAN v. SHAUGHNESSY
(a) Parker Coulter law firm had provision in partnership agreement allowing retiring partners to
remove cases where the client had been brought in by that partner
(b) Boyle and Meehan and others begin process of starting new firm in July; through December
make arrangements. Parker Coulter approaches Meehan, who denies leaving firm several
times before Boyle and Meehan give notice. They remove several cases to new firm
(c) Parker Coulter alleges breach of fiduciary duty by:
(i) Improper handling of cases for their own and not partnership’s benefit
(ii) Secretly competing with partnership
(iii) Unfairly acquiring from clients and referring attorneys consent to withdraw cases
(d) Court throws out first two; says it’s fine to arrange to compete once a person’s no longer in
the partnership, as long as you don’t harm partnership in process.
(e) Duty of loyalty includes “obligation to render on demand true and full information of all
things affecting the partnership to any partner,” and Meehan breached this by denying his
departure. Boyle also breached this by delaying list of removed cases, and the contents of
letters soliciting removal of clients was prejudicial to Parker Coulter
(i) Parker Coulter’s claim wasn’t that taking the clients was wrongful, it was that the manner
in which it was done was in violation of the contract provision/breach of fiduciary duty
D. Partnership Property and Interests
1. UPA § 18(a):
a. all partners have:
i. Right to repayment of contribution
ii. Right to share equally in profits and surplus after payment of liabilities
iii. Obligation to contribute to losses sustained by partnership according to share in profits
b. Partnership must indemnify every partner in respect of payments made and personal liabilities
reasonably incurred by him in the ordinary and proper conduct of its business
2. UPA §24: the property rights of a partner are:
a. His rights in specific partnership property
b. His interest in the partnership
c. His right to participate in the management
3. UPA § 25(1): a partner is co-owner with his partners of specific partnership property holding as a tenant
in partnership
4. UPA § 26: a partner’s interest in the partnership is his share of the profits and surplus is personal property
5. UPA § 27: assignee may only receive profits of assignor but may not participate in management or require
information or account of partnership transactions or look at books unless there is an agreement with the
other partners
a. Partners may only assign their economic interests in the partnership
6. PUTNAM v. SHOAF
a. Putnam owns half interest in gin, which is indebted to bank. Shoafs offer to obtain interest if Putnam
paid $21,000 into partnership account. Putname pays and transfers interest—including assets
including land—and Putnam is relieved of her interest and any debt with it.
b. Later discovered bookkeeper was embezzling; Putnam asserts interest in damages recovered from
embezzlement.
c. Court applies UPA § 18 and says that a partner owns no personal specific interest in any specific
property or asset, so Putnam can’t claim an interest in unknown choses in action that arose after she
transferred partnership interest—Shoafs keep damages
E. Rights in Management/Voting
1. UPA § 18(e): all partners have equal rights in the management and conduct of the partnership business
a. Practical effect: one partner = one vote, regardless of contribution
2. UPA § 18(h): any difference arising as to ordinary matters connected with the partnership business may
decided by a majority of the partners; but no act in contravention of any agreement between the partners
may be done rightfully without the consent of all the partners
3. Matters requiring unanimous consent (per UPA §§ 9(3), 18(g), 18(h)):
a. Assigning partnership property in trust to pay creditors
b. Disposing of good will partnership
c. Doing an act that makes it impossible to carry on partnership’s ordinary business
d. Confessing a judgment against a partnership
e. Submitting a claim involving partnership to arbitration
f. Admitting new partners
g. Contravening any agreement of the partners i.e., extraordinary changes that alter partnership’s past
practice
F. Partners as Agents
1. UPA § 9(1): every partner is an agent of the partnership for the purpose of its business. Any act of a
partner for apparently carrying on in the usual way the business of the partnership binds the partnership,
unless:
a. the partner so acting has in fact no authority to act for the partnership in the particular matter, and
b. the person with whom he is dealing has knowledge of the fact that he has no authority
2. UPA § 15: partners are jointly and severally liable for all the debts and obligations of the partnership
3. NABISCO v. STROUD
a. Stroud and Freeman partners in grocery store with same rights and obligations. Stroud tells Nabisco
he personally would not be responsible for any more bread deliveries. Freeman orders more bread and
partnership won’t pay
b. Court applies N.C. law (adoption of UPA § 9(1)) and says that because buying bread is in the ordinary
line of the grocery business, and Nabisco didn’t have notice that Freeman wasn’t supposed to buy
bread, partnership is bound by his purchase
i. Both partners jointly and severally liable
c. Note: even in event exception doesn’t apply, Stroud didn’t have authority to restrict Freeman’s
business activity—there’s only two of them, and that kind of thing has to be done by a majority vote
G. Changing Rights by Contract
1. Areas susceptible to change from the default rules:
a. Delegating decision-making to managing partner or executive committee
b. Weighing partnership voting to reflect pro rata contributions to capital
c. Changing requirement of unanimous consent
d. Requiring supermajority voting for unanimous decisions
e. Right to expel partners
2. Changing internal structure
a. DAY v. SIDLEY & AUSTIN
i. Day is lawyer at Sidley & Austin; brings in much Washington work and is senior partner with
voting privileges. Sidley merges with another firm and internal structure changes to executive
board—Day no longer has a vote in everything.
ii. Day brings action for fraud, saying that firm misrepresented by stating that no partner would be
worse off because of the merger, further says that fraud voids merger agreement. Also claims
breach of fiduciary duty by not disclosing internal changes.
iii. Court rejects all claims:
(a) Fraud: no cause of action because no deprivation of legal right—Day had no legal right to
remain chairman of Washington office
(b) Breach of fiduciary duty: fiduciary duty does not obligate firm to disclose internal structure
changes; requires a showing that one partner advantaged himself at expense of firm, here
there was no concealment of secret profits or anything similar (see breakdown of elements, p.
147)
H. Dissolution
1. UPA § 31: Causes of dissolution:
a. Without violation of partnership agreement:
i. At the end of a fixed term or with consent of all partners if partnership is for a term
ii. By express will of any partnership if partnership is at will (term undefined)
iii. Upon expulsion of a partner under a clause in the partnership agreement
b. With violation of partnership agreement:
i. Dissolution not permitted by any other section, or by express will of any partner at any time
ii. Business becomes unlawful
iii. Death or bankruptcy of partner or bankruptcy of partnership
iv. Court decree under § 32
2. UPA § 32: Dissolution can be by court decree,
a. if, upon application to the court:
i. Partner is insane or unable to meet the requirements of partnership agreement
ii. Partner is guilty of such conduct that prejudices carrying on the business
iii. Partner willfully or persistently breaches the agreement or makes it not reasonably practicable to
carry on business with him
iv. Business can only be carried on at a loss
3. RUPA § 801(5):
a. Partnership is dissolved on application by a partner through judicial determination that:
i. Economic purpose of partnership is likely to be reasonably frustrated
ii. Another partner has engaged in conduct relating to the partnership business that makes it not
reasonably practicable to carry on the business in partnership with that partner
iii. It is not otherwise reasonably practicable to carry on the partnership business in conformity with
the partnership agreement
4. UPA § 30: Partnership is not terminated upon dissolution but continues until winding up of business is
completed
5. Duration and dissolution
a. At will: no limitation on duration; can be ended at any time by will of partner
i. Default rule
b. Express term: partnership will last X years
c. Implied term: partnership goes
i. Until certain sum of money earned
ii. One or more partners recoup investment
iii. Certain debts are paid
iv. Certain property disposed of on favorable terms
6. PAGE v. PAGE
a. Parties start a partnership, both invest and it operates at a loss for first 8 years. P owns corporation that
holds demand note on partnership. Next two years show profit. P wants an at will partnership, and
wants to dissolve partnership, and D brings suit for wrongful dissolution because partnership was for a
term (based on prior dealings), as well as breach of fiduciary duty by appropriation.
b. Court rejects both claims
i. UPA § 31 allows dissolution by one partner’s will if it is at-will partnership; court does not
recognize D’s claim of “until the business pays itself off” as a term
(a) “such a hope does not express a definite term or particular undertaking”
ii. Court says that D must show that P has “dissolved partnership to gain the benefits of its business
for himself” without paying D for D’s share of prospective business opportunity would be bad faith
(a) D didn’t show
I. Dissociation substituted for dissolution
1. Continuation agreement: obligates remaining partners to continue to associate with each other as
partners under existing partnership agreement even when one partner leaves
a. Normally the exit of a partner dissolves the partnership, this prevents that
2. OWEN v. COHEN
a. Partners open bowling alley; Cohen consistently treats Owen horribly, takes money without disclosing
it, disagree on management…all little day to day actions that make Owen file for judicial dissolution
b. Court recognized UPA § 32 and says Cohen is so conducting himself in a way that makes partnership
impracticable to go on
i. Partnership dissolved, assets sold to repay loan Owen made to partnership
J. Expulsion
1. UPA § 31(d): dissolution is caused without violation of the partnership agreement by expulsion of any
partner from the business bona fide in accordance with such a power conferred by the agreement of the
partners
2. LAWLIS v. KIGHTLINGER & GRAY
a. Lawlis signs partnership agreement with law firm, eventually becomes alcoholic and effectively stops
practicing. Firm drafts program for him to get back on track, consults specialist, gives him second
chance after he fails first program. Finally succeeds at treatment, but when he requests more work,
files removed from his office and eventually he is expelled by seven to one vote
b. Lawlis brings suit against firm, saying files being removed/his expulsion was wrongful dissolution of
partnership and he deserved damages
c. Court rejects—says his expulsion was in conformity with partnership agreement (2/3 vote) and
therefore isn’t wrongful under UPA § 31
i. Court notes that expulsion had no predatory purpose and all the help offered represented “good
faith” and “bona fide” elements
K. Liquidation
1. UPA § 38:
a. (1) Without wrongful cause: if dissolution is caused in any way except a breach of the partnership
agreement, partner has the right to request liquidation to pay debts and what’s owed to partners
b. (2) With wrongful cause: if dissolution occurs in violation of partnership agreement:
i. non breaching partner may claim for damages against breaching partner and may continue the
business and possess the partnership property for that purpose
ii. breaching partner: if business not continued: rights in 38(1); if business continued: value of interest
in partnership less any damages due to partners
(a) value of good will of business not included
2. UPA § 40: rules for distribution post-dissolution
a. (b) Liabilities of partnership rank in following order:
(a) Creditors other than partners
(b) Partners other than for capital and profit
(c) Partners in respect of capital
(d) Partners in respect of profits
b. (d): Partners must contribute amount necessary to satisfy liabilities in 40(b)
3. Rules for distribution in English:
a. In a rightful dissolution where partnership is liquidated,
i. the assets are sold
ii. Out of the proceeds, partners receive value of their capital accounts and partner loans are paid off
iii. Profits are what remains—is divided according to the default rule of equal sharing or as agreed by
partners
b. In a wrongful dissolution
i. Settling among partners is same as above except breaching partner share is decreased by damages
per UPA § 38(2)(a)(ii)
4. Capital Accounts
a. Additions: initial and additional capital contributions, fair market value of contributed assets, profits
allocated from ongoing activities
b. Subtractions: interim withdraws of capital, losses allocated from ongoing activities
5. PAV-SAVER CORP. v. VASSO CORP.
a. Dale and Meersman enter into partnership agreement in which Dale grants Pav-Saver trademark and
patent license to partnership and Meersman grants capital. Agreement terms partnership permanent
unless mutually dissolved by both parties
b. Dale terminates partnership; Meersman physically removes Dale and proceeds to run day-to-day of
partnership. Dale wants patents (trademark) back
c. Court invokes UPA § 38(2)(a) and says Dale wrongfully terminated—he cannot have patents back; if
Meersman wants to continue business he has statutory right to and patents are necessary for him to do
so, Dale can only get his share minus damages he owes. Meersman wins it all.
6. KOVACIK v. REED minority view point
a. Kovacik and Reed enter partnership: Kovacik supplies capital, Reed provides labor. Agreement that
profits will be split 50/50, but losses not discussed
b. Venture loses money; Reed denies having agreed to any losses
c. General rule: in absence of agreement, profits and losses are split 50/50
i. Exception: where one party contributes money and capital as against another’s skill and labor
neither party is liable to the other for losses sustained
ii. Kovacik lost money, Reed lost labor
L. Buyout Agreements
1. Agreement that allows a partner to end his or her relationship with other partners and receive a cash
payment or series of payments or assets of the firm in return for his or her interest in the firm
2. G&S INVESTMENT v. BELMAN
a. Partnership agreement specified buyout option. One partner, Nordale, cokes himself out and goes
crazy then dies. Other partners bring complaint for decree of judicial dissolution and right to carry on
business before Nordale died
b. Nordale’s estate says filling of complaint acted as dissolution prior to any breach of agreement so
Nordale should get his share; other partners say Nordale acted in contravention of agreement by being
a psycho cokehead so he owes them damages and they shouldn’t have to liquidate assets
3. JEWEL v. BOXER (Default partnership rules)
a. Four partners at law firm; partnerships not split evenly. Firms dissolves, some confusion as to how to
split fees from still pending cases
b. Trial court applies quantum meruit; Appellate court rejects and says if there’s no explicit contractual
provision, UPA section is applied
c. UPA § 18(f): no partner is entitled to remuneration for acting the partnership business, except that a
surviving partner is entitled to reasonable compensation for his services in winding up the partnership
affairs
i. No partners get any extra compensation for post dissolution services
4. MEEHAN v. SHAUGHNESSY (Contract overriding the default rules)
a. Agreement states that when partner removes a case on leaving, he’s entitled to retain all fees except for
fair charge owed to firm
i. Partners who left and took cases with them were only entitled to their capital contribution, their
interest in unpaid fees and their share of wrongly removed case profits.
M. Limited Partnerships
1. Comprised of general partners, who are liable for all of the partnership’s obligations, and limited partners,
who only have limited liability
a. Requires formal filings, unlike regular partnership (notice to creditors)
b. Management rests in general partner; limited partners are passive investors
c. Limited partners share in profits and losses proportionately to their investment
d. Dissolution does not occur on dissociation of limited partners
2. RULPA § 303
a. Limited partner is not liable for obligations of a partnership, unless:
i. Limited partner is also a general partner
ii. Limited partner takes part in the control of the business
(a) Then limited partner liable to party who transacted business with the limited partnership and
who reasonably believed that limited partner was general partner based on limited partner’s
conduct
b. Limited partner does not participate in control solely by consulting/advising with general partner on
partnership business
3. HOLZMAN v. DE ESCAMILLA
a. De Escamilla is general partner; Russell and Andrews are limited
b. Russell and Andrews had power to decide what crops would be planted, had the power to oust De
Escamilla, and De Escamilla could not withdraw checks without their approval
c. Cal. Civ. Code § 2483: a limited partner shall not become liable as a general partner unless in addition
to the exercise of his rights and powers as a limited partner, he takes part in the control of the business
d. Court says Russell and Andrews sufficiently took control so as to be liable
III. CORPORATIONS
A. Terminology of Capital Structure

1. Debt: unqualified obligation to pay a fixed sum certain at a fixed maturity date along with a fixed
percentage of interest payable regardless of the debtor’s income or lack thereof
2. Third Party Creditors: holders of debt (not owners of corporation)
a. Note that in bankruptcy, creditors have higher priority in payment than equity holders
3. Bonds: corporate obligations secured by a lien or mortgage on specific corporate property
4. Debentures: unsecured corporate belongings
5. Equity: ownership interest in corporation
6. Common stock: residual interest in corporate assets after all senior claimants have been satisfied
a. Voting rights but no fixed dividend
7. Preferred stock: divided preference, liquidation preference
a. Usually no voting rights
8. Shareholders/Stockholders: Owners of the business—get to vote; delegate authority to Board
9. Management: makes decisions regarding the business
a. Board of Directors: top tier of management; approve all important things; can’t do everything
b.
B. Formation
1. DGCL § 101: Any person can set up a corporation by filing with secretary of state. Setting up a
corporation:
a. Choice of corporate forum
b. Choice of state of incorporation
i. Can be other jurisdiction that principal place of business, most corps choose DE
c. Reserving corporate name
d. Drafting and filing a certificate of incorporation
e. Hold first meeting of directors to adopt by-laws, issue shares, take other action
f. Issue shares and accept paid in capital
g. Ensure qualification as foreign corporation in all states where doing business
i. All filings with secretary of state become matter of public record
2. DGCL § 102: certificate of incorporation (Mandatory:)
a. Name of corporation
i. Entity word to denote that it’s a corporation (notice)
b. Address
c. Nature of business
d. Issuance of stock—classes, number, etc.
e. Name and address of incorporators
f. Termination details, if any
g. Other optional clauses
3. DGCL § 103: sign and date forms; pay fees
4. DGCL § 107: if no directors are named in the certificate, incorporators manage until directors are
appointed
5. DGCL § 106: corporation exists from date of filing until dissolution
6. DGCL § 108: by-laws adopted at organization meeting of directors or incorporators
7. DGCL § 109: May contain provisions on business, conduct of affairs, rights or powers of shareholders,
directors, officers, employees
a. May be amended by directors until payment of initial capital; after that sharedholders have to vote
amendments in
8. DGCL § 131: registered office required

a. May or may not be place of business
b. Must be a resident person or corporation
9. Distinguishing corporations from partnerships
CORPORATION PARTNERSHIP
a. Formalities required b. Informal
c. Limited liability d. Unlimited liability
e. Free transferability f. Not freely transferable
g. Continuity h. At will
i. Centralized management j. Equal management rights
k. Double taxation l. Single taxation
10. Pre-Incorporation liability
a. “Promoter’s liability”: person in the process of setting up a legal entity (LLC, Corporation) has
fiduciary duty not to self-deal that is owed to entity
i. owes duty among promoters and future corporation
b. Entity can become party to a contract made by the promoter if the corporation adopts the contract
i. “De facto” corporation: promoters tried in good faith to incorporate and had a legal right to do so
and acted as a corporation but part of the process of incorporating failed
(a) entity still gets treated as a corporation
ii. Corporation by estoppel:
c. SOUTHERN GULF MARINE CO. v. CAMCRAFT INC.
i. Camcraft enters letter of agreement to furnish boat to Southern Gulf, a company to be
incorporated in the U.S. Company instead incorporates in Cayman Islands. Camcraft defaults on
contract
ii. Camcraft defends by saying there never was a contract because the company it entered into one
with—a U.S. incorporated company—never existed.
iii. Court rejects; says that neither party to a contract between entities can deny the other entity’s
existence if it attempted to benefit from it at the time of the contract; plus the legal status of
Southern Gulf had was not germane to the contract so no defense
C. Limited Liability
1. Piercing the Corporate Veil/Enterprise Liability
a. Piercing/Enterprise Liability is an EXCEPTION to the statutory norm—the statutes say that liability is
limited; piercing is a judicial doctrine used when the court thinks it would be too inequitable to let
statutory norm stand
i. Consequently, courts are not in a hurry to pierce
b. WALKOVSKY v. CARLTON
i. Carlton owned multiple corporations; each one had only two cabs and state minimum insurance
policy as assets. One of his cabs hits Walkovsky
ii. Walkovsky attempts to recover on two theories:
(a) Piercing the corporation to get to Carlton
(i) Makes shareholder’s personal assets available to satisfy judgment instead of solely cabs
and insurance
(b) Enterprise liability of all corporations
(i) Treats all corporations as one and makes all of their assets available to satisfy judgment
iii. Court rejects both of these for Walkovsky’s failure to show that Carlton was using corporations as
an agent for his own gain (element of both claims)
iv. Court says fraud claim might have worked but Walkovski failed to bring it
2. Traditional Piercing
a. SEA-LAND SERVICES V. PEPPER SOURCE
i. Pepper Source stiffs Sea Land on a bill; Sea Land goes after Pepper but it has no assets, so goes
after Marchesi, who own Pepper and five other entities attempting to pierce veil and get assets of
his and other five corporations
ii. To pierce, two prong test:
(a) Showing of such unity of interest and ownership that the separate personalities or the
corporation and the individual (or other corporation) no longer exist; four factor test:
(i) Failure to maintain adequate corporate records or to comply with corporate formalities
(ii) Conmingling of funds or assets
(iii) Undercapitalization
(iv) One corporation treating the assets of another as its own
(b) Circumstances must be such that adherence to the fiction of separate corporate existence
would sanction a fraud or promote an injustice
(i) NOTE: injustice is MORE than an inability to collect money owed (otherwise second
prong would be pointless, no one’s bringing a piercing action who’s not looking to
collect money owed)
(c) In contract cases: assumption of risk prong if creditor knew the risk of non-payment
3. Subsidiary Piercing
a. ROMAN CATHOLIC ARCHBISHOP OF SF v. SHEFFIELD
i. Sheffield buys dog from Catholic monastery, makes some payments but never receives dog. Sues
Catholic Church the Pope under alter ego theory
ii. Alter ego elements: corporation is
(a) Influenced and governed by person or other entity
(b) Such a unity of interest and ownership that individuality or separateness of person or other
entity and corporation has ceased
(c) Adherence to fiction of separateness would sanction fraud or promote injustice
iii. Claims fail as to Catholic Church using subsidiaries as alter ego; claims also fail because there can
be no respondeat superior between subsidiaries
4. Parent-subsidiary piercing
a. IN RE SILICONE GEL BREAST IMPLANTS
i. MEC is subsidiary of Bristol. MEC produces faulty implants but plaintiffs sue Bristol because
assets of MEC insufficient
ii. Piercing claims: test for piercing in parent-subsidiary relationship:
(a) Substantial domination/control prong—factors:
(i) Common directors or officers
(ii) Common business departments
(iii) Consolidated financial statements and tax returns
(iv) Parents finances subsidiary
(v) Parent causes incorporation of subsidiary
(vi) Subsidiary operates with grossly inadequate capital
(vii)Parents pays salaries and other expenses of subsidiary
(viii)Subsidiary receives no business other than that given to it by parent
(ix)Parent uses subsidiaries property as its own
(x) Daily operations of two corporations not separate
(xi) Subsidiary does not observe basic corporate formalities
(b) Fraud/injustice prong
iii. Direct liability claims: R2d Torts § 324A:
(a) Liability for failure to exercise reasonable care if:
(i) Failure to exercise reasonable care increases risk of harm
(ii) Undertakes to perform duty owed by other to third person
(iii) Harm is suffered because of a reliance of other on undertaking
(b) Parent-subsidiary relationship not a defense to this claim
b. Court says jury could find both substantial domination for alter ego claim and elements necessary for
tort claim because Bristol put its name on all MEC products and had a press dept that put out releases
claiming the product was safe
D. Derivative Actions
1. Terms:
a. Derivative Action: shareholder challenges management’s actions on behalf of the corporation; the
gravamen of the complaint is injury to the corporation
i. Recovery goes directly to corporation
ii. Allegations involve mismanagement, waste, fraud, etc. by directors and managers
b. Direct Suit: claim brought by individual for harm done to him directly
i. Recovery goes to individual
ii. Allegations include denial or dilution of voting rights, compel payment of dividends declared,
compel inspection of books and records, require holding of shareholder meeting
c. Representative class action: shareholder challenges right of management to exclude him and others
from proper participation in the affairs of the corporation
d. Strike suit: stockholder brings a derivative lawsuit without good cause knowing that the corporation
will probably settle to avoid litigation
2. COHEN v. BENEFICIAL INDUSTRIAL LOAN CORP.
a. Challenge to constitutionality of law that makes nominal shareholders (<5%) responsible for
corporation’s legal fees if shareholder loses derivative action
i. Claim is denial of equal protection
b. Court says constitutional: necessary to prevent strike suits
3. EISENBERG v. FLYING TIGER LINE INC.
a. Eisenberg is shareholder in Flying Tiger Line, Inc. After corporate reorganization, Eisenberg only has
shares in parent holding corporation, meaning his vote is meaningless in terms of controlling operating
subsidiary company
b. If Eisenberg is bringing a derivative claim, he must post security on corporation’s costs of litigation; if
it’s a direct claim, he doesn’t have to post security
c. Court says it’s direct—right deprived is Eisenberg’s personal voting power in the operating
corporation; no security has to be posted.
E. Demand Requirements
a. Purpose of Demand requirement:
i. Allow dispute to be resolved by the corporation outside of court
ii. Allow the corporation to take over the lawsuit if it is beneficial to the corporation (demand refused
but not wrongfully)
iii. If demand is excused/wrongfully refused  shareholder controls lawsuit
iv. Protect corporate board from harassment and prevent strike suit
2. Delaware Demand Law
a. GRIMES v. DONALD
i. Shareholder says that board of directors abdicated its responsibilities by virtue of constructively
firing CEO and allowing continued salary (direct claim) and that it’s waste, breach of due care,
excessive compensation (derivative claims)
ii. Court:
(a) Board did not abdicate duties; its within business judgment rule to make “an informed
decision to delegate a task”
(i) Not an abdication for limiting some of the board’s freedom for a future action; is ok
because board retains ultimate freedom to direct strategy and affairs of company
iii. Grimes writes demand letter seeking abrogation of agreements between CEO and corporation
iv. Corporation considers letter, employs outside firms to analyze letter’s claims, says its not an
impermissible delegation of duties
v. Rule (Delaware law): a stockholder filing a derivative suit must allege either
(a) That the board rejected his pre-suit demand that the board assert the corporation’s claim, or
(b) Allege with particularity why the stockholder was justified in not having made the demand
(excusal)
(i) Grounds for alleging excusal:
1. “reasonable doubt” exists that board is capable of making an independent decisions
to assert the claim
a. majority of board has a material financial or familial interest
b. a majority of the board is incapable of acting independently for some other
reason like domination or control
c. the underlying transaction is not the product of a valid exercise of business
judgment
(c) If demand is made and refused, board gets presumption of business judgment rule
(d) Once demand is made, right to say that demand is excused is waived—can’t make a demand
and then later say that board is not independent
(i) If you thought board wasn’t independent, you would have initially said demand was
excused, not made demand
(ii) Could still say demand was wrongfully excused

vi. Court: demand not wrongfully refused; claim itself failed to include particular allegation raising
doubt that rejection of demand was exercise of business judgment rule; claim dismissed
3. New York Demand Law
a. MARX v. AKERS
i. Shareholder initiates derivative action without making demand that board wasted corporate assets
through excessive compensation
ii. NY Bus. Corp. Law § 626(c): in any derivative action the complaint shall set forth with
particularity the efforts of the plaintiff to secure the initiation of such action by the board or the
reasons for not making such an effort
iii. Demand is futile if:
(a) A majority of directors are interested in the transaction
(i) May either be self interest or a loss of independence through control by an interested self
director
(b) The directors failed to inform themselves to a degree reasonably necessary about the
transaction
(c) Directors failed to exercise their business judgment in approving transaction
iv. Court says complaint fails to state any of these with particularity  dismissed
4. Universal Demand: no allowance for demand futility; requires a demand no matter what
a. More of a bright line rule so no early fact determinations have to be made
F. Special Committees
1. Corporate Boards are allowed to establish committees under DGCL § 141
a. DGCL § 141:
i. Business and affairs of corporation shall be managed by or under direction of board of directors
(a) Rebuttable presumption
ii. Board may designate one or more committees, each consisting of one or more directors
iii. A Board committee may exercise all the powers and authority of the full board
2. New York Special Committee Law
a. AUERBACH v. BENNETT
i. Shareholder brings derivative suit for breach of duties and accounting in connection with alleged
payments to public officials
ii. Corporation forms special litigation committee to determine how/when outside counsel needs to
be brought in to deal with derivative actions
(a) Formed of three disinterested board members who joined board post-action
(b) Had power of the Board
(i) SLC said that it wasn’t in corporation’s best interest to pursue litigation; corporation’s
auditors had conducted investigation by means of generally accepted auditing standards
iii. Court says that the business judgment rule precludes court inquiry into the substantive decision of
the committee, despite committee being formed of three minority board members and still having
full power of board—because committee formed in good faith and of disinterested members, is
binding
(a) Court can look into formation of committees (here, was fine) but cannot look into decisions of
the board themselves
3. Delaware Special Committee Law
a. ZAPATA v. MALDONADO
i. Shareholder brings derivative action but makes no demand, claiming demand is futile because all
directors named in suit and participated in alleged misbehavior
ii. Committee appointed (two new outside directors) to determine if derivative action pursued;
decision cannot be interfered with by Board and is binding
iii. Committee decides to dismiss suit  P says that committee doesn’t have power to do this
iv. Court:
(a) Board members will not be allowed to cause a derivative suit to be dismissed when it would
be a breach of fiduciary duty
(b) A committee conferred with the power of the board can dismiss a derivative action as long as
it’s not done wrongfully, but court says business judgment rule at this stage would prevent too
many legitimate suits, so instead court does a two step inquiry:
(i) Court inquires into independence and good faith of committee and the basis supporting
its conclusions
1. Corporation has burden of proving independence, good faith and reasonable
investigation
a. If court rejects  committee’s decision thrown out
b. If court accepts, next step 
(ii) Court should apply its own independent judgment and determine whether motion to
dismiss should be granted
b. IN RE ORACLE CORP
i. Four board members are accused of insider trading (knew Oracle wouldn’t meet its numbers and
sold off stock)
ii. Special litigation committee formed; two board members who joined post allegations appointed—
both professors at Stanford
iii. Shareholder challenges independence of Board
iv. SLC asserts independence: we’re getting minimally paid, we are not named defendants, we lack
material connections to individuals/corporation other than being on the board; board also says that
since professors are tenured they don’t have to worry about losing job over SLC decisions
v. Shareholders: ties between Stanford, corporation, other defendant board members, and SLC too
great to be ignored
vi. Court: in considering whether an SLC is independent, courts can look beyond just economic
interests to other ties
(a) Burden is on SLC to show that there is no material factual question about its independence
vii. Court says SLC hasn’t met burden despite economic disinterest—too many other ties
G. Corporation’s Role and Purpose
1. Charitable Donations
a. DGCL § 102(a)(3)
i. The certificate of incorporation shall set forth:
(a) The nature or purpose of the business to be conducted—sufficient to say “engage in any
lawful activity” and all lawful activity shall be allowed except for express limitations set forth
b. DGCL § 124:
i. No act or transfer shall be invalid because ultra vires but lack of capacity or power may be
asserted in:
(a) A shareholder suit to enjoin corporation from entering into such an act or transfer of property
(b) Corporate suit against directors and officers
(c) Suit by state attorney general
c. DGCL § 122:
i. Every corporation shall have the power to sue and be sued, acquire real or personal property and
dispose of same, conduct its business affairs within or without the state, appoint officers, wind up
and dissolve, make donations for the public welfare or for charitable, scientific, or educational
purposes, make contracts and borrow or lend money, pay pensions, buy insurance…
d. Consider following state approaches to charitable donations:
i. California/New York:
(a) Power to make donations regardless of specific corporate benefit for public welfare,
community fund, hospital, educational, scientific, civic etc purposes
ii. Pennsylvania:
(a) Directors may in considering best interest of corporation consider all effects of their actions
on any and all groups affected by such actions, including shareholders, employees, suppliers,
customers, creditors, and communities in which offices or other establishments where
corporation is located
e. A.P. SMITH MFG. v. BARLOW
i. Corporation makes $1500 to Princeton; stockholders bring action
(a) Stockholders say there’s no provision in articles of incorporation authorizing this and the state
constitution provision that authorizes giving can’t constitutionally be applied to them
(b) Resolution adopted by corporation saying it was in corporation’s best interest to donate prior
to donation
ii. Court: “modern conditions require that corporations acknowledge and discharge social as well as
private responsibilities as members of the community in which they operate”
iii. Response that constitution/statutes can’t apply to stockholders retroactively: power may be
invoked to sustain later charter alterations that effect contractual relationship between corporation
and stockholders when justified by the public advancement
iv. Because donation wasn’t made to pet charity and was indiscriminate and in furtherance of
corporate ends (as opposed to personal), was within corporation’s incidental and implied powers
and expressly permitted by legislation
(a) “reasonable belief that it would aid the public welfare and advance the interests of the plaintiff
as a private corporation and a part of its community”  intangible benefits
v. Court’s basically saying corporations can make charitable donations even if their charter doesn’t
specify that but it WILL look at amount and recipient
2. Promoting Shareholder Profitability
a. DGCL § 170(a):
i. Directors may declare and pay dividends our of surplus or net profits, subject to restrictions in the
certificate of corporations
b. DODGE v. FORD
i. Majority shareholder announces that no more special dividends will be paid; will go back into
corporation so that employees can be paid more, costs can be lowered, plant can be expanded
(a) Corporation’s money should be used to benefit society
ii. Minority shareholders (less than 10% each) bring suit to order payment of dividends and enjoin
extension of plant
(a) Corporation’s money should be used to benefit shareholders
iii. Rule: courts of equity will not interfere with management of the directors unless it is clearly made
to appear that
(a) they are guilty of fraud or misappropriation of the corporate funds, or
(b) they refuse to declare a dividend when the corporation has a surplus of net profits which it can
divide among its shareholders without detriment to its business, and such refusal constitutes
fraud or breach of good faith
iv. Court says that a business is organized and carried on primarily for the benefit of its shareholders
so Ford withholding dividends is abuse of discretion  has to pay out dividends BUT court won’t
enjoin construction, that belongs to Board to say and they’re allowed to plan for long term future
(a) NOTE that modern courts and DGCL will generally be less rigid than the Ford Court
c. SHLENSKY v. WRIGLEY
i. Shareholder sues Cubs majority stockholder, alleging that failure to install lights at Wrigley was
financially harmful to organization
ii. Court: Business judgment rule prevents court from inquiring into that kind of decision without a
showing on behalf of plaintiff of fraud, illegality, or conflict of interest
(a) P fails to allege any of these
IV. LIMITED LIABILITY COMPANIES
A. Formation
1. ULLCA § 201: An LLC is a legal entity distinct from its members
2. Corporate Characteristics of LLCs
a. Limited Liability
b. Free transferability
c. Continuity of life
d. Centralized management (versus member-managed)
e. Not taxed same as a corporation—single tier taxing
3. Forming:
a. One or more persons file articles of organization with state office; LLC comes into existence when
filed with Secretary of State (ULLCA § 202)
i. Contents determined by state statute, but ULLCA § 203 provides:
(a) Name of company, address, agent for service of process, term, liability for debts, etc…
ii. Can be amended and refilled per ULLCA § 204
b. All members execute operating agreement
i. Not filed with state, not publicly available
ii. Governs topics like membership, finance, dissolution
(a) ULLCA is default is something not covered in operating agreement
iii. Restrictions on Operating agreement per ULLCA § 103(b):
(a) Can’t unreasonably restrict right to information/access to records
(b) Eliminate duty of loyalty
(i) But can identify activities that do or don’t constitute duty of loyalty
(c) Unreasonably reduce duty of care
(d) Eliminate obligation of good faith and fair dealing
(e) Vary right to expel members or wind up business
(f) Restrict the right of a person other than someone who’s within LLC
B. Liability
1. WESTEC v. LANHAM
a. Clark was member of Preferred Income Investors LLC; gave his card to Westec, but card did not
designate anything other than Clark’s name, address, and P.I.I.
b. Parties enter contract, Westec does work but PII doesn’t pay bill; Westec sues Clark and Lanham
individually, who claim they have no personal liability
c. Court says:
i. When a third party sues under agency theory, agency law applies despite the LLC Act’s
constructive notice that the entity is an LLC under state filings
(a) “If both the existence and identity of the agent’s principle are fully disclosed to the other
party, the agent does not become a party to any contract which he negotiates…but where the
principle is partially disclosed (the existence of a principle is known but his identity is not), it
is usually inferred that the agent is a party to the contract.”
ii. An agent who negotiates a contract can be liable if he fails to disclose both that he is acting on
behalf of a principle and the identity of that principle
iii. If businesses want the benefit of limited liability, they have to put that in their title so that parties
with whom they do business are on notice
d. Failure to put anything more than “P.I.I.” meant link of disclosing that they were agents for their LLC
meant that Clark and Lanham were personally liable
C. Operating Agreements
1. ULLCA § 103(a):
a. Except as provided otherwise in subsection (b), all members of a limited liability company may enter
into an operating agreement, which need not be in writing, to regulate the affairs of the company and
the conduct of its business, and to govern the relations among its members, managers, and the
company. This act governs relations only to the extent that the agreement does not provide
2. ELF v. JAFFARI
a. Elf Corp. and Maleck Inc. entered several agreements with plan to form Maleck LLC. Some were not
signed directly by Maleck Inc.’s president, Jafari; others did not expressly bring in Maleck LLC, but
all were intended to govern Maleck LLC. Agreement contained CA arbitration clause
b. Jaffari breaches agreements; Elf seeks to bring suit in Delaware’s Chancery Courts, saying ULLCA
allows suits in Chancery Court
c. Court rejects—says that ULLCA allows for utmost freedom of contract and that agreements between
parties will preclude application of ULLCA; Chancery Court has no jurisdiction because of arbitration
clause
D. Piercing the LLC Veil
1. ULLCA § 303
a. Except as otherwise provided in (c), the debts, obligations, and liabilities of a limited liability
company, whether arising in contract, tort, or otherwise, are solely the debts, obligations, and liabilities
of the company. A member or manager is not personally liable for a debt, obligation, or liability of the
company solely by being or acting as a member or manager.
b. The failure of a limited liability company to observe the usual company formalities or requirements
relating to the exercise of its company powers or management of its business is not a ground for
imposing personal liability on the members or managers
c. All or specified members of a limited liability company are liable in their capacity as members or
managers if:
i. A provision to that effect is contained in the articles of organization
ii. A member so liable has consented in writing to the adoption of the provision or to be bound by the
provision
2. KAYCEE v. FLAHIVE
a. Kaycee wants to pierce Flahive’s veil, but LLC statute does not expressly grant that right; Flahive
argues that the distinctions in the language governing LLCs and corporation demonstrates that
legislature didn’t intend that LLCs be pierced
b. Court says that it will not interpret statutory language as meant to prohibit piercing an LLC’s veil
i. Says factors will not be identical to corporate test but will be highly fact specific
ii. Can’t just plug corporate test in because LLCs are managed so differently (no separation of
management between members and management necessarily)
(a) “fraud or injustice” element will carry over
E. Fiduciary Obligations
1. Fiduciary obligations will turn on what type of management the LLC has adopted:
a. ULLCA § 404 Types:
i. Member managed: members have equal rights in management, majority voting for business
decisions
ii. Manager managed: managers have equal rights in management, majority voting by managers for
business decisions
(a) Managers must be designated, removed, or replaced by a majority of members
(b) Consent of all members still required for certain important events
2. ULLCA § 409:
a. The only fiduciary duties a member owes to a member-managed company and its other members are
the duty of loyalty and the duty of care
b. (b) defines duty of loyalty
c. (c) defines duty of care
d. a member can discharge these duties through written agreement as long as he acts in good faith with
fair dealing
e. A member’s conduct furthering his own interest does not constitute a violation of these duties
3. ULLCA § 103(b):
a. An operating agreement may not:
i. Eliminate duty of loyalty under 409(b) or 603(b)(3) but the agreement may
(a) identify specific conduct that does not violate those duties if not manifestly unreasonable
(b) Specify how to ratify conduct that would normally constitute violation of those duties
ii. Unreasonably reduce the duty of care under 409(c) 603(b)(3)
4. ULLCA § 301: Agency in LLC
a. Member managed:
i. Each member is an agent of the LLC for the purpose of its business and acts of members for
apparently carrying on ordinary business of the LLC binds the company, unless there was no
authority and the third party knew that
ii. Acts not for apparently carrying on the business of the LLC binds the company only if authorized
by the other members
b. Manager Managed:
i. A member is not an agent solely by reason of being a member
ii. Each manager is an agent and binds the company if apparently carrying on the business of the
LLC, unless there was no authority and the third party knew that
iii. Acts of a manager not for apparently carrying on ordinary business binds the company only if
authorized as required by ULLCA § 404
5. McCONNEL v. HUNT SPORT ENTERPRISES
a. McConnell and Hunt work together under CHL LLC to get an NHL franchise; Lessor makes offer to
Hunt, who acts in representing LLC but rejects offer without consulting other members
b. Lessor approaches McConnell and makes offer, McConnell accepts on his own and removes CHL
from contract
c. Operating agreement for CHL states that members are free to engage in other business; Hunt says that
“other” means anything besides what CHL was doing, but McConnell says it means literally any other
business, including competition
d. Court agrees with McConnell, says that generally, members of an LLC owe each other and the LLC a
fiduciary duty (not to compete/to put LLCs interests first), but that an operating agreement can by its
terms allows members to compete with the LLCs business
e. Hunt also accuses McConnell of tort of interference with a business relationship:
i. When a person, without a privilege to do so, induces or otherwise purposely causes a third person
not to enter into or continue a business relationship with another
f. Court rejects: McConnell stated he would only accept offer if Hunt did not and never operated in
secrecy; it was ultimately Hunt’s actions that caused the non-relationship with him and the
Lessor/NHL
g. Court also says that Hunt breached his fiduciary duty by filing answers and counterclaim without
majority consent as specified in operating agreement
F. Dissolution
1. ULLCA § 801
a. Events of dissolution
2. ULLCA § 802
a. Winding up after dissolution
3. ULLCA § 805
a. Filing of articles of termination
4. ULLCA § 807
a. Disposing of known claims through giving notice to creditors
5. ULLCA § 808
a. Disposing of unknown claims by publishing notice
6. ULLCA § 806
a. Creditors (including members) must be paid
7. ULLCA § 808(d)(2)
a. Member liability to creditors up to the amount received in distribution (liability for claims cannot
exceed assets distributed to that member)
8. NEW HORIZONS v. HACK
a. Hack being sued for unpaid debt; New Horizons attempting to pierce LLC veil
b. Court rejects, no evidence that LLC was Hack’s “instrument” and there was a sufficient showing that
the LLC was legitimate operation of business
c. BUT Court allows personal liability of Hack anyways for failure to properly dissolve
i. She never gave creditors notice before liquidating assets and consequently failed to shield herself
from claims under ULLCA § 808(d)(2)
V. FIDUCIARY DUTIES OF CORPORATE OFFICERS
A. Duty of Care
1. “Obligations of Control”—what it takes to allege a breach of the duty of care. Note that the courts’
analyses in these instances almost never go into a substantive decision of a board, but examine the
processes used to arrive at that decisions
a. DGCL § 141(a): Board Authority
i. Business and affairs of corporation shall be managed by or under the direction of a board of
directors
b. DGCL § 141(b): Board Composition and Action
i. Composed of one or more members (fixed in bylaws or certificate)
ii. Majority of total number = Quorum (can reduce to 1/3 in bylaws unless certificate provides
otherwise)
iii. Valid board action = vote of a majority of directors present at a meeting with a quorum present
(can require supermajority in certificate or bylaws)
c. KAMIN v. AMERICAN EXPRESS
i. Amex acquires 1,900,000+ DLJ shares and later offers them in kind as a dividend to shareholders;
Kamin alleges that this is waste and they should be used for investment returns instead of offered
at a loss
ii. Complaint alleges no claim of fraud, self-dealing, bad faith or oppressive misconduct
iii. Business Corporation Law 720(a)(1)(A) permits action against directors for neglect of or failure to
perform or other violation of his duties in the management and disposition of corporate assets
committed to his charge
(a) Standard is higher than mere negligence—will have to be neglect of duties (nonfeasance or
malfeasance) NOT misjudgment
(b) Court: we will not interfere, per the business judgment rule, with a Board’s decision unless
there the Board has exercised its powers illegally or unconscientiously, or it appears that the
acts were fraudulent or collusive and destructive of the rights of the shareholders. Errors of
judgment are not going to be grounds for the courts to penetrate the business judgment rule
iv. Says that a complaint alleging that a Board should have taken another course instead of paying
dividends = error of judgment  dismissed
2. Merger Responsibilities
a. DGCL § 251(b): Board Approval
i. Board of each merging corporation shall adopt a resolution approving an agreement of merger and
declaring its advisability
b. DGCL § 251(c): Stockholder Approval
i. Merger agreement shall be submitted to stockholders for approval
ii. Majority of shareholders entitled to vote must approve
iii. If approved by stockholders, merger agreement (or certificate of merger) is then filed and becomes
effective
c. DGCL § 216: Shareholder Voting
i. Majority of shares entitled to vote shall constitute a quorum at a stockholder meeting (can reduce
to 1/3 in certificate or bylaws)
ii. Vote of majority of those present or represented by proxy shall be the act of the stockholders
(except for election of directors)
iii. Directors elected by a plurality
d. SMITH v. VAN GORKOM
i. BJR is a presumption that in making a business judgment decision, the directors of a corporation
acted on an informed basis, in good faith, and in the honest belief that the action taken was in the
best interest of the company
ii. Determining if a business judgment is informed:
(a) Whether the directors have informed themselves prior to making a business decision of all
material information reasonably available to them
(i) Standard: gross negligence
(ii) No protection for directors who have made an unintelligent or unadvised judgment
iii. Further responsibility imposed by Del. G. Corp. § 3251(b): director has a duty to act in “an
informed and deliberate manner” in determining whether to approve an agreement of merger
before submitting the proposal to the stockholders
iv. Court’s holding: this was NOT an informed decision; the directors
(a) Did not adequately inform themselves as to one of the director’s role in forcing the “sale” of
the company and in establishing the per share purchase price
(b) Were uninformed as the intrinsic value of the per share purchase price
(c) Were grossly negligent in approving the merger proposal in a two hour meeting
v. 8 Del. C. § 141(e): directors are fully protected in relying in good faith on reports made by officers
(a) Here: no reports; interested oral presentation of officer doesn’t count—blind reliance on this
not allowed
vi. Board attempts to use shareholder ratification to show legitimacy of transaction; court rejects—
directors have obligation to present shareholders with accurate information, if they failed to do this
for themselves, they couldn’t have done it for the shareholders
vii. Court awards Smith difference between what was paid for the shares in the merger and the fair
market value
e. DGCL § 102(b)(7)—resulted from Smith v. Van Gorkom
i. Certificate of incorporation may contain provisions eliminating or limiting personal liability of a

director for monetary damages for breach of fiduciary duty
(a) Exceptions: breach of duty of loyalty, lack of good faith, intentional misconduct, knowing
violation of the law, violation of § 1014 on dividends, transaction where director derived
improper personal benefits
3. Individual Director Liability to Third Parties
a. FRANCIS v. UNITED JERSEY BANK
i. Mom and two sons are shareholders of reinsurance broker (insurance risk large in amount  in
companies that will assume the risk; there business involves a lot of customer money-holding it in
trust overall it is a financial services business); Sons misappropriate (for themselves) $12
million, Mom is completely uninvolved (she’s a drunk, had she have been doing her job she would
have found this out that the sons stole the money her excuses for her husband death, her
drinking and her sons being assholes, Court finds this not sufficient as excuses) in corporation and
dies. Clients (3P creditors, the people who had the original insurance) whose funds were
misappropriated bring action against her estate.
ii. Court: general rule: a director should acquire at least a rudimentary understanding of the business
of the corporation
(a) Can’t use lack of knowledge as a defense against breach of ordinary care
(b) Director has to either acquire the knowledge by inquiry or refuse to act within corporation
(i) General monitoring of corporate affairs
(ii) Familiarity with financial status
(iii) Not shutting eyes to corporate misconduct
(iv) Can rely on lawyers and accountants but must inquire further if financial statements
disclose problems on their face
iii. Upon discovering an illegal course of action, director has duty to object and if the corporation
doesn’t fix the conduct, to resign
iv. Special fiduciary duty to third parties presented by nature of reinsurance business; means Mom
should have known and either acted or resigned long before she did
(a) Because her failure to act was proximate cause, third party can hold her estate liable
(b) Could have relieved liability if she had objected to her sons’ conduct and promptly resigned
B. Duty of Loyalty
1. Conflicts of Interest
a. New York: NYBCL § 713: conflict of interest transactions are those between the corporation and
director or corporation in which director has a substantial financial interest
i. No contract involving an interested director is void or voidable because the director was
present/voted in favor, if:
(a) Disclosure and valid board approval without counting vote of interested director
(b) Disclosure and contract approved by shareholders
(c) In other cases, must show fair and reasonable
b. BAYER v. BERAN
i. Board member’s wife sings on corporation’s advertising radio show; shareholder alleges that
program was enacted to furnish a vehicle for her career, not a real investment for the company
ii. Court: BJR protects board decisions generally but when a trustee (director) deals with someone so
close as to represent fraud or self-interest, the Board’s decision is examined much more rigorously
(a) Burden shifts from the shareholder to the director to show the good faith of the transaction
and inherent fairness from the court’s point of view
iii. Court examines relationship; says no self-dealing because result would have been the exact same
if it wasn’t the director’s wife singing
iv. Shareholders also allege that the program and spending are illegal because they were never
formally adopted at a board meeting
v. Court rejects this
(a) States that generally, individual acts of directors are not binding on the corporation, but here,
court looks to history of board’s decisions (made this way before) and nature of board (all
internal members of corporation) and says it didn’t have to be formally adopted to be legal;
and failure to adopt at formal meeting will not establish individual liability of directors
c. Delaware: DGCL § 144(a)(1):
i. An interested transaction is not void or voidable if:

(a) There is material fact disclosure and disinterested director approval
(b) Material fact disclosure and shareholder approval
(c) The contract is otherwise fair
d. BENIHANA OF TOKYO INC. v. BENIHANA
i. Abdo, and executive director of Benihana, contacts Benihana’s financial planner and says that
BFC—a corporation whom he represented in the transaction and had an ownership interest in—is
willing to buy Benihana’s convertible stock. Shareholders allege breach of duty of loyalty by
Abdo
ii. Court applies DGCL 144(a); says that because directors of Benihana understood that Abdo was
BFC’s representative and had ownership, there was material disclosure
(a) Abdo didn’t set the terms, didn’t deceive, no domination or control over the other directors’
decisions
iii. Further allegations that sale of stock was done with intent to dilute shareholder voting power;
court said transaction was financing vehicle, not intentional entrenchment
2. Corporate Opportunity Doctrine
a. BROZ v. CELLULAR INFORMATION SYSTEMS INC
i. Broz is president and sole stockholder of RFBC; also an outside director on the board of CIS.
Broz is approached with offer to acquire Michigan-2 cellular area. Broz tells several CIS directors
of opportunity. Directors state they’ve already rejected the opportunity and that CIS couldn’t
purchase it anyway.
ii. Meanwhile CIS gets bought out by PriCellular, who goes after Michigan-2 with option for
Michigan-2 to seller who will pay $500,000 over their offer—RFBC does this. PriCellular brings
action for breach of duty of loyalty
iii. Corporate Opportunity Doctrine (Guth test, used under Delaware law):
(a) If there is presented to a corporate officer of director a business opportunity which
(i) the corporation is financially able to undertake, (here they were in a bad financial
situation)
(ii) is in the line of the corporation’s business (per Beam: activity as to which the corporation
has fundamental knowledge, practical experience, and the ability to pursue)
(iii) is of practical advantage to corporation
(iv) is one in which corporation has reasonable expectancy or interest
(v) and by taking the opportunity the self-interest of the officer or director would be brought
into conflict with that of the corporation
(b) law won’t permit him to take seize opportunity for himself
iv. Court says no breach—even though Broz came across opportunity in individual capacity, met all
requirements by discussing opportunity with board members and opportunity wasn’t viable for
CIS/PriCellular at the time the deal was made
(a) Court notes that a formal presentation to the board is not a prerequisite for not having taken a
corporate opportunity, but it does present a safe harbor
b. IN RE EBAY INC. SHAREHOLDERS LITIGATION
i. Shareholders claim that the defendant board members usurped a corporate opportunity when they
accepted Goldman Sachs’ IPO allocations at a lower offering price and then sold them in the
public marketplace for millions
ii. Court agrees, because
(a) eBay could have exploited that opportunity
(b) The opportunity was in eBay’s line of business
(c) Investing was a significant line of business for eBay
(d) eBay was never given the opportunity to turn down IPO’s investment
(e) IPO’s were offered to board to maintain/induce business with Goldman Sachs, not as broker
advice about investment for the board members  put board members in conflict with the
corporation’s interests
iii. Though never claimed, there is also a claim that the board members were agents of the corporation
with the duty to account for profits obtained personally in connection with transactions related to
the corporation
(a) Raises presumption of breach of fiduciary duty of loyalty [R2d § 388]
3.Dominant Shareholders/Parent-Subsidiary
a. SINCLAIR OIL CORP. v. LEVIEN
i. Sinclair Oil Corporation: parent corporation; Sinven: subsidiary  Sinclair Corp. owned 97
percent of Sinven’s shares, minority shareholders owned rest; Sinclair International Oil Co.: 100
percent owned by Sinclair Corp. Sinclair Corp. caused Sinven to contract with Sinclair
International
ii. Claim 1: Sinclair Corp. caused Sinven to pay out substantial dividends in excess of Sinven’s
earnings
iii. All of Sinven’s board inseparable from Sinclair Corp. so trial court says must meet “intrinsic
fairness test,” which is applied instead of BJR (Business judgment rule –requested by the plaintiff)
when a parent company receives a benefit to the exclusion or at the expense of the subsidiary (e.g.,
when there’s evidence of self-dealing):
(a) Burden is on parent company to prove that transactions with subsidiary were objectively fair
under careful judicial scrutiny
iv. Court says that intrinsic fairness is improper because minority shareholders of Sinven stock were
also receiving the dividends, so no self-dealing. Dividends pass BJR
v. Claim 2: Sinclair Corp. took opportunities belonging to Sinven by buying oil properties around
world and not giving them to Sinven
vi. Court rejects—all opportunities came directly to Sinclair not at the deprivation of Sinven; BJR is
proper standard and Sinclair’s decisions pass
vii. Claim 3: Breach of fiduciary duty by not compelling Sinclair International to live up to its end of
contract (late payments, failure to purchase fixed minimums)
viii. Court: though parent need not bind itself contractually with subsidiary, Sinclair Corp. chose to do
so here so intrinsic fairness standard applies:
(a) Sinclair Corp. must compel Sinclair Int. to comply with contractual duties and is in breach if
it doesn’t—can’t receive benefit of contract and avoid burden because it’s intrinsically unfair
to minority shareholders
4. Ratification
a. FLIEGLER v. LAWRENCE
i. Shareholder challenges the exercise of a purchase option that was approved by a majority of
shareholders
ii. Defendant board members want court to apply Gottlieb Rule:
(a) shareholder ratification of an “interested transaction,” although less than unanimous, shifts the
burden of proof to an objecting shareholder to show that the terms are so unequal as to
amount to gift or waste of corporate assets
iii. Court rejects; says there’s no factual basis in this case to apply that rule, and instead looks to
DGCL § 144:
(a) Interested transactions not void or voidable if 1. Material facts disclosed and approved by
majority of disinterested directors, 2. Material facts disclosed and approved by a good faith
vote of majority of shareholders, or 3. Transaction is otherwise fair
iv. Defendants say they’re protected second category
v. Court rejects this too but says that despite that, intrinsic fairness met
(a) Court notes that DGCL § 144 doesn’t exist to give interested transactions broad immunity;
merely removes “interested director” cloud if met
C. Duty of Good Faith
1. Good faith pervades all of Delaware corporate law, for example:
a. DGCL § 145:
i. Only directors who act in good faith are entitled to indemnification of legal expenses
b. DGCL § 141(e):
i. Only directors who rely in good faith on corporate books and records or reports from corporate
officers or certain advisors are fully protected from shareholder claims
c. DGCL § 144(a)(1)-(2)
i. Related party transaction are partially insulated from judicial review only if they are approved by
disinterested directors or shareholders in good faith
d. Cede & Co. v. Technicolor:
i. Burden is always first on the shareholder to show breach of due care, loyalty, or good faith to
remove presumption of business judgment rule attaching to Board decisions
2. Good Faith in Board Compensation
a. IN RE WALT DISNEY CO. DERIVATIVE LITIGATION
i. Disney CEO hires Ovitz as president with salary of $1 million, bonus, stock options, and $10
million dollar termination clause if Ovitz let go without good cause
ii. Ovitz not working out; board examines whether there is good cause to fire and finds none but still
lets him go
iii. Shareholders bring several claims:
(a) Against Ovitz: breached fiduciary duty of care and loyalty by accepting agreement terms
(i) Court rejects—Ovitz wasn’t an officer before agreeing to those terms, he didn’t even
have a duty to be breached at that time
(b) Against Disney board: breach of duty of due care and good faith by hiring Ovitz and paying
the severance terms
(i) Court rejects again—shareholders are unable to show that a) the compensation committee
who devised the severance terms is invalid, or b) gross negligence on the part of the
committee through failure to adequately inform its decision, or c) hiring Ovitz was an
uninformed decision. Note that the court upheld both decisions as not breaching due care
alone
1. Court says that “best practices” may not have been met, but that doesn’t amount to
gross negligence
(c) Against Disney board: Waste in Ovitz’s severance payment
(i) Court rejects—to show waste, shareholders must show that an exchange was so one-sided
that no business person could find that the corporation received adequate consideration
(arises only where officers irrationally give away or squander assets)
iv. Court gives analysis of three potential categories of good faith:
(a) Subjective bad faith: intent to do harm
(b) Lack of due care (gross negligence but no malevolent intent)
(c) Intentional dereliction of duty—conscious disregard for one’s responsibilities
(i) Fiduciary intentionally acts with a purpose other than that of advancing best interest of
corporation
(ii) Fiduciary acts with intent to violate applicable positive law
(iii) Fiduciary intentionally fails to act in the face of a known duty to act
v. Business judgment ultimately attaches to every decision in this case because shareholders failed to
rebut presumption by establishing breach of any of the three fiduciary duties
3. Good Faith and Oversight
a. STONE v. RITTER
i. Claim against the board of AmSouth Bank for breach of duty of good faith in failure to recognize
noncompliance within corporation that resulted in federal violations and millions of dollars in
fines
ii. Demand standard in oversight cases (lack of business decision): Rales v. Blasband:
(a) A court must determine whether or not the particularized factual allegations of a derivative
stockholder complaint create a reasonable doubt that, as of the time the complaint is filed, the
board could have properly exercised its independent and disinterested judgment in responding
to a demand
iii. Court applies Caremark standard for necessary conditions for director oversight liability:
(a) Directors utterly failed to implement any reporting or information system or controls, or
(b) Having implemented such system or controls, the board consciously failed to monitor or
oversee its operations this disabling themselves from being informed of risks or problems
requiring their attention
(i) Both (a) and (b) require showing that directors knew they were not discharging their
fiduciary obligations
iv. Court says no breach here—board adequately discharged its duties through the creation of and
delegation to a committee specifically for overseeing this
v. Court states what DISNEY left open: lack of good faith is NOT an independent basis for liability
under Delaware law
(a) Lack of due care and loyalty, however, can form their own independent basis for liability
(b) Acts taken in BAD FAITH, however, breach the duty of loyalty, which lends itself to liability
on its own
D. Indemnification and Insurance
1. DGCL § 145:
a. Covered persons are any person who becomes a party to a lawsuit by reason of service as director,
officer, employee, or agent of corporation if the person acted in good faith and in a manner the person
reasonably believed to be in or not opposed to the best interests of the corporation
b. Indemnification permitted:
i. Third party suits (a) expenses and judgments; good faith
ii. Derivative suits (b) expenses; good faith
c. Indemnification required © if successful on the merits
d. Same as (a) but re: derivative lawsuits
e. To the extent that a present or former director has been successful on the merits such person shall be
indemnified against expenses reasonably incurred
f. (e) A corporation can advance expenses for litigation to individual directors at its discretion
g. (f) the indemnification and advancement of expenses provided by other parts of 145 shall not be
deemed exclusive of any other rights to which those seeking indemnification or advancement may be
entitled to under any bylaw, agreement, etc
h. (g) a corporation shall have the power to purchase and maintain insurance on behalf of director or
officer whether or not corporation would have the power to indemnify such person against such
liability under § 145
i. WALTUCH v. CONTICOMMODITY SERVICES INC.
i. Waltuch, officer of Conti involved in lawsuits that are ultimately settled by Conti; Waltuch is
dismissed with no contribution but there are $1.2 million in legal expenses in private suits and $1
million in CFTC enforcement expenses
(a) Waltuch dismissed the suit and no contribution
(b) $1 million of legal expenses in CFTC enforcement proceeding
(i) Waltuch paid fine plus 6 months trading ban
ii. Article 9 of the contract between Conti and Waltuch indemnifies Waltuch even if he did not act in
good faith—Waltuch relies on this believed that the statute allowed a company to circumvent
the good-faith requirement, which they did under Art. 9 which did not contain a good faith
requirement.
iii. Conti argues that this provision is invalid because DGCL § 145(a) has a good faith requirement
that provision doesn’t meet
iv. Important to note that Waltuch’s waived good faith.
v. Waltuch’s response: DGCL § 145(f) allows a broader application of indemnification that isn’t
limited to good faith
vi. Court:
(a) 145(g), which allows corporations to insure directors for things outside the scope of 145(a)
makes Waltuch’s reading of 145(g) unnecessary  there is a good faith requirement in
indemnification provisions, so Article 9 is void for exceeding the scope of 145
vii. Waltuch then says he’s been successful on the merits under 145(c), so he should be indemnified
regardless
viii. Conti: settlement is not success on the merits; we still had to pay out millions
ix. Court: success equals vindication; we’re not “going behind” the result, so Waltuch was successful
because it was dismissed without Waltuch paying a settlement
E. Proxies
1. Introduction:
a. Few shareholders of public corporations actually attend meetings because even if individuals own
shares worth tens of thousands of dollars, there stake will generally be too small to affect the outcome.
As a result, such shareholders seldom find it cost effective to become well informed about corporate
disputes, much less to attend any meeting in person.
b. With small firms, SHs may appear at the meeting and help decide the firms small business strategy.
SHs of such firms may find it worthwhile to attend SH meetings because they own enough shares to
affect the outcome of any vote.
c. Because few SH’s of public corporations attend he annual meeting, he outcome will general depend on
which group has collected the most “proxies.”
d. SHs may appoint an agent to attend the meeting and vote on their behalf, That agent is the SH’s
“proxyholder,” sometimes simply called the SH’s “proxy”: the document by which the SH appoints the
agent is also called the “proxy” (or “proxy card”). Because the outcome of the meeting depends on the
number of votes cast, the person with the most proxies usually wins.
2. Agents appointed by shareholders to vote on shareholder’s behalf; annual shareholders’ meetings are
required for election of directors and this makes corporations who have thousands of shareholders more
manageable
a. DGCL § 212(b):
i. Permits use of proxies
b. DGCL § 211:
i. Authorizes meetings to elect officers where proxies would be used
c. 1934 Securities Act § 14(a):
i. proxy solicitations for reporting companies must comply with SEC rules
3. Charging the Corporation for Proxy Fight
a. “proxy fights” result when an insurgent group tries to oust incumbent managers by soliciting proxy
cards and electing its own representatives to the board.
b. Like tender offers, proxy fights are subject to both to the 1934 Securities Exchange Act and to state
corporate statutes.
c. Only incumbent party can use treasury of corporation to fund proxy fight, and only if:
i. It’s a legitimate policy dispute, not a personal power issue
ii. The shareholders are aware of how the money is being spent
iii. The expenses are reasonable
4. Strategic Aspects of Proxy Fights:
a. LEVIN v. MGM INC
i. Current control group spending thousands of corporation’s dollars to solicit proxies to retain
control at next election of directors; Other group (seeking control) file for injunction and damages
back to corporation
ii. Court: shareholders must be adequately informed as to how money is being spent and why; there
also cannot be illegal or unfair means of communication
(a) Here: specially retained attorneys, PR firm, soliciting organizations all ok because disclosure
requirement met; not illegal or unfair
b. Regulation of Proxy Fights:
i. The regulatory scheme”§ 14(a) of the 1934 act prohibits people from soliciting proxies in
violation of SEC rules.
(a) A SH does not (subject to several qualification) fall under the general SEC filing requirements
if it does not solicit proxies for itself. A pension fund that submits a SH proposal, for
example, may not be subject to the requirements since, even if it campaigns on behalf of its
proposal, it is not asking SHs to give it proxies.
ii. Rule 14a3,4,5,11 require people who solicit proxies to furnish each SH with a “proxy statement”
iii. When an insurgent group wants to contest management and solicit proxies, Rule 14a-7 gives
management a choice: it can either mail the insurgent group’s material to the SH directly and
charge the group for the cost, or it can give the group a copy of the SH list and let it distribute its
own material. Because the management often prefers to keep the list confidential, it generally opts
for the former. Naturally, if the insurgent has a right to the SHs list under state law, Rule 14a-7
does not circumscribe that right.
5. Cost Reimbursement
a. Either party can be reimbursed though it would much more likely be the insurgent being reimbursed as
opposed to charging corporation directly; an insurgent can only be reimbursed if:
i. He wins
ii. The shareholders ratify
iii. The expenses were incurred in a legitimate policy dispute
b. ROSENFELD v. FAIRCHILD ENGINE
i. Derivative suit for reimbursement to corporation of expenses for proxy solicitation  dismissed
Ps complaint.
ii. Court TEST: in a contest over policy, as compared to a purely personal power contest, corporate
directors have the right to make reasonable and proper expenditures, subject to the scrutiny of the
courts when duly challenged, from the corporate treasury for the purpose of persuading the
stockholders of the correctness of their position and soliciting their support for policies which the
directors believe, in good faith, are in the best interests of the corporation. The stockholders,
moreover, have the right to reimburse successful contestants for the reasonable and bona fide
expenses incurred by them in any such policy contest, subject to like court scrutiny.
iii. Dissent: The burden should be on the Ds to prove that their expenses were legitimate. “What
expenses of the incumbent group should be allowed and what should be disallowed should be
remitted to the trial court to ascertain, after taking evidence, in accordance with the rule that the
incumbent directors were required to assume the burden of going forward in the first instance with
evidence explaining and justifying their expenditures.
F. Shareholder Inspection Rights
1. Ability of shareholders to obtain shareholder list or other corporate records regulated by state law
a. DGCL § 220:
i. Shareholder must present proper purpose to inspect records and shareholder list
b. NYBCL § 1315:
i. Access must be permitted to a qualified shareholder on written demand subject to denial if
petitioner refused to furnish affidavit that inspection is not desired for a purpose other than the
business of the corporation
c. CRANE CO. v. ANACONDA
i. Crane offering to exchange 100 million shares of Anaconda—Anaconda opposed; Crane requests
Anaconda’s list of shareholders and is rejected
ii. Crane then buys 11 percent of Anaconda’s stocks and requests again under NYBCL § 1315;
Anaconda denies but offers to send out prospectus to shareholders at Crane’s expense
iii. Court says that a shareholder wanting to communicate aspects of a pending tender offer (what
Crane wants the list for) is clearly requested for the purpose of the corporation, Anaconda must
furnish
d. STATE EX REL PILLSBURY v. HONEYWELL
i. Man buys Honeywell shares for sole purpose of getting them to stop making bombs because he’s
anti-war activist; requests shareholder list and business records
ii. Court applies DGCL § 220 and says that this does not fall within “proper purpose” to inspect the
records and shareholder list
(a) Defines proper purpose as concerning investment returns—has to be some economic interest
involved, not political motivation alone
VI. FEDERAL SECURITIES REGULATION
A. Securities Generally
1. Terms:
a. Security: Securities Act § 2(1): “terms shall be defined in accordance with the provisions of § 2 unless
the context otherwise requires”
i. Specific instruments including stock, notes, and bonds
ii. General phrases covering evidence of indebtedness, investment contracts, any instrument
commonly known as a security
b. Primary Market: market in which issuer (company that created securities) of securities sells them to
investors
i. Addressed by Securities Act of 1933: Primarily concerned with the 1) mandating disclosure of
material information to investors and 2) prevention of fraud. It follows a transactional disclosure
model-i.e. mandating disclosures by issues in connection with primary market transactions.
c. Secondary Market: market in which investors trade securities among themselves without any
significant participation by original issuer
i. Addressed by Securities Exchange Act of 1934: A whole host of issues fall within its purview,
including a number that figure prominently in this course: insider trading and other forms of
securities fraud, short swing profits by corporations insiders, regulation of shareholder voting via
proxy solicitations, and regulation of tender offers. It requires periodic disclosures by publically
held corporations. It created the Securities Exchange Commission.
d. Securities Exchange Commission (SEC): Primary federal agency charged with administrating the
various securities laws and enforcement to whom authority has been delegated to make rules and
adjudicate matters arising under Securities Acts.
i. Five Commissioners
ii. Most of the work is done not by the commissioners but by the professional staff. The staff is
mainly comprised of lawyers, although there are a fair number of accountants and other
specialists, and is organized into Divisions and Offices having various responsibilities. The staff
has three primary functions:
iii. Headquartered in Washington DC with regional offices
(a) Provides interpretative guidance to private parties raising questions about the application of
the securities laws to a particular transaction;
(b) Advises the Commission as to new rules or revisions of existing rules and
(c) Investigates and prosecutes violations of the securities laws.
e. Blue Sky Laws: state laws dealing with securities; generally predate Securities Act
i. Must comply with Federal and State laws
ii. Such statutes protect investors from “speculative schemes, which have no more basis than so
many feet of blue sky.”
2. What is a Security?
a. ROBINSON v. GLYNN what is a security?
i. Glynn gets Robinson to invest in his phone technology; Robinson signs letter of intent pledging to
invest up to $25 million. Robinson also signs agreement to purchase membership interest and
operating agreement. Pursuant to agreements, Robinson receives share certificates that refer to
investment as “shares” and “securities” that are exempt from registration under 1933 Act
ii. Robinson named treasurer, appointed some board members. Later finds out technology is untested,
brings 10b-5 claim under 1934 Act
(a) 1934 10(b): it shall be unlawful for any person to use or employ, in connection with the
purchase or sale of any security, any manipulative or deceptive device in contravention of
rules of SEC
(b) 1934 10b-5: it shall be unlawful for any person
(i) to employ any device, scheme or artifice to defraud
(ii) to make any untrue statement of a material fact or material omission or
(iii) to engage in any act, practice, or course of business which operates as a fraud or deceit
upon any person
iii. Robinson asserts that he entered an investment contract, which meets definition of security under
1933 § 2(a)(1)
iv. Court defines investment contract: whether the investor, as a result of the investment agreement
itself or the factual circumstances that surround it, is left unable to exercise meaningful control
over his investment  if so, is probably within definition of a security
v. Court says that because Robinson negotiated for a level of control “antithetical” to investor
passivity, this was not an investment contract under definition of security
vi. Robinson then tries to assert the shares as “stock” per language of certificate
vii. Court: characteristics commonly associated with stock—“economic realities” test:
(a) Right to receive dividends contingent upon an apportionment of profits
(b) Negotiability
(c) Ability to be pledged or hypothecated
(d) The conferring of voting rights in proportion to the number of shared owned
(e) Capacity to appreciate in value
viii. Court says Robinson doesn’t have stock; it’s a membership interest
B. Registering Securities
1. Private versus Public Offerings
a. DORAN v. PETROLEUM MANAGEMENT CORP
i. PMC organizes drilling company, makes offering of stock to five people including Doran without
first registering the stock. Stocks don’t yield what Doran hoped; brings action against PMC for
failure to register
(a) Theory is that he didn’t get the investor protection required under §5 of the 1933, which
makes it unlawful to sell or offer for sale securities in interstate commerce unless they are
registered with the SEC—the issuer must provide disclosure in a prospectus
(i) Remedy for selling unregistered securities: rescission
ii. PMC claims issuance was a private offering and is therefore exempt from registration under §
4(2), 15 U.S.C. § 77d(2)
(a) “provisions of § 4(2) shall not apply to transactions by an issuer not involving a public
offering” …except that Securities Act doesn’t define public offering
iii. Court says there are four factors in determining a private offering under Ralston Purina test
(a) Turns on access to information:
(i) Number of offerees and their relationship to each other and the issuer
(ii) The number of units offered
(iii) The size of the offering
(iv) The manner of the offering
iv. Court here says that only offering to five people, plus the sophisticated nature of Doran in
investment matters probably point to private offering, but remands to determine offeree issuer
relationship and how available material information was
b. Registration exists to protect investors—if there is an exemption, it has to be shown that there was
otherwise adequate protection for investors
2. Materiality in Registration
a. ESCOTT v. BARCHRIS
i. Holders of BarChris debentures suing under § 11 of 1933 Act saying registration of securities
contained material false statements and material omissions
(a) § 11: a material misstatement or omission in a registration statement is actionable fraud for
damages
(i) provides for express private right of action against any person who signed the registration
statement, any director, any expert (accountant, engineer, appraiser but NOT lawyer)
1. due diligence acts as affirmative defense
ii. Court requires showing of materiality as threshold issue:
(a) Material: information required to those matters as to which an average prudent investor ought
reasonably to be informed before purchasing the security registered—what he needs to know
to make an intelligent, informed decision whether or not to buy the security
(b) Probability/Magnitude test from Texas Gulf
iii. Court finds misstatements and omissions to be material; BarChris pleads due diligence
(a) Legal standard for due diligence:
(i) “reasonable investigation and reasonable ground for belief”
(b) Expert v. Non-expertised portions and liability:
(i) For expertised portions, the expert must reasonably believe after a reasonable
investigation that the information is true, and a non-expert must have no reason to believe
the information is false; standard flips for non-expertised portion
iv. Court rejects due diligence across the board
C. Section 10(b) of 1934 Act and Rule 10b-5 Fraud
1. Private Right of Action:
a. In a private 10(b) action, plaintiff will have to prove:
i. Defendant made a material misrepresentation or omission in connection with the purchase or sale
of a security
ii. Reliance
iii. Scienter (knowledge)
iv. Causation
b. Section 10(b) 1934:
i. In connection with purchase or sale of securities, using jurisdictional means, it is unlawful to use
or employ manipulative or deceptive devices in violation of SEC rules
(a) Implied private right of action if violated
c. Rule 10b-5
i. In connection with purchase or sale of securities, using jurisdictional means, it is unlawful to

employ any device to defraud, to make material misstatements or omissions, or to engage in any
act operating as fraud or deceit
(a) Implied private right of action if violated
2. Establishing Materiality and Reliance
a. BASIC v. LEVINSON
i. Combustion interested in purchasing Basic, Inc.; meetings between two companies in Sept. 1976;
request by Basic to NY stock exchange to suspend trading of its stocks and buyout in Dec. 1978.
Basic issued three public statements in between these two events denying that it was in merger
negotiations
ii. Former Basic shareholders who sold stock between Sept. 1976 and Dec. 1978 alleging misleading
statements in violation of 10(b) and 10b-5
iii. Court says statements must have regarded material information; materiality is determined under
two tests:
(a) Total mix test (TSC Ind. v. Northway)
(i) Fact is material if there is a substantial likelihood that a reasonable shareholder would
consider it important in deciding how to vote
1. Would omitted fact have altered the “total mix” of available info
(b) Probability/Magnitude test (SEC v. Texas Gulf Sulfur)
(i) Balancing of both indicated probability that the event will occur and the anticipated
magnitude of the event in light of the totality of the company activity
1. Merger transactions tend to become material earlier than others
iv. Next court defines reliance in context of 10(b)/10b-5
(a) Reliance in terms of fraud on the market theory:
(i) Misleading statements will defraud purchasers even if they do not directly rely on the
misstatements because the value of a company’s stock is dependent upon the information
available on the market
1. Alleviates need for individuals to prove that they relied on the misstatement;
becomes a rebuttable presumption that can be countered by showing a severance in
the causal link between misrepresentation and either price received/paid or decision
to trade at market price
3. Scope of 10b-5 Actions
a. SANTA FE INDUSTRIES v. GREEN
i. Santa Fe owned 95 percent of Kirby and opted to use short-form merger to merge Kirby into itself.
Has outside firm appraise Kirby’s worth and offers minority stockholders over that price and fully
complies with all laws; minority shareholders bring 10(b)/10b-5 action
ii. Court:
(a) 10(b) must be limited to instances where there is actual deception, manipulation, or
misconduct of some kind, not so broad as to cover all activity
(i) A breach of fiduciary duty absent some sort of deception is not enough to invoke 10(b)
(b) This action is allowed through an implied private right of action, and it is inappropriate to use
it to regulate internal corporate decisions—that’s what state law is for
iii. Holding: 10(b) creates causes of action only for fraud and deception, not unfair corporate
transactions or breaches of fiduciary duties
D. 10(b)/10b-5 Insider Trading
1. Framework:
a. In Re Cady Roberts Co
i. SEC recognized common law duty of corporate insiders, including officers, directors, and
controlling shareholders, to disclose inside information in when dealing in securities
b. Chiarella v. US
i. Corporate insider must abstain from trading in the shares of his corporation unless he has first
disclosed all material inside information known to him
ii. Duty to abstain arises from this relationship of trust between a corporation’s shareholders and its
employees; duty does not arise from mere possession of material inside information
iii. No liability because Chiarella did not have a relationship of trust with shareholders of company in
whose stock he traded
2. Classic Insider Trading: Disclose or Abstain

a. SEC v. TEXAS GULF SULFUR
i. TGS discovers jackpot piece of land; denies rumors of big find in media then makes press release
and insiders immediately start trading; 10b-5 action brought
ii. Classic rule of insider trading:
(a) Anyone in possession of material inside information must either disclose it to the investing
public or abstain from trading in or recommending the securities concerned while such inside
information remains undisclosed
iii. Court addresses materiality in this context:
(a) Whether a reasonable man would attach importance in determining his choice of action in the
transaction in question
iv. Court also addresses “in connection with purchase or sale of security”:
(a) (Ds assertion hat the press release should not be deemed to be illegal) Whether device
employed is of a sort that would cause reasonable investors to rely thereon and in connection
with that reliance cause them to purchase or sell a company’s securities
v. Court says 10b-5 violation because information was material and it’s evidenced from how much
the insiders were influenced by it that an average investor would have been similarly influence
3. Tipper Tipee Liability for Insider Information
a. DIRKS v. SEC
i. Dirks was outside party to the information he acquired; was told by insider at Equity Funding that
there was massive fraud going on within company. Dirks reports fraud to Wall Street Journal and
SEC goes after him
ii. Background Information: Chiarella v. United States: Corporate Insider must abstain from
trading in the shares of his corporation unless he has first disclosed all material inside
information known to him. Duty to abstain arises from this relationship of trust between a
corporation’s shareholders and its employees, duty does not arise from mere possession of
material inside information. Holding: No liability because Chiarella did not have relationship of
trust with shareholders of company un whose stock he traded.
iii. SEC’s theory of liability: even though Dirks wasn’t insider with fiduciary duty, he inherited the
classic obligation of insiders to shareholders to abstain or disclose
iv. Court rejects this Dirks is not liable.—says it would inhibit the market far too much to impose
this on people unconnected with corporations, instead fashions “tippee liability”:
(a) Turns on whether or not the information has been disclosed to the tippee improperly; tippee
assumes a fiduciary duty to shareholders not to trade on nonpublic information only when
(i) insider (tipper) has breached fiduciary duty by disclosing information to tippee and
(ii) tippee knows or should have known that there was a breach on tipper’s part
(b) Possessing material alone does not give rise to duty to disclose
v. Here: no liability, purpose of insider at Equity Funding was to expose fraud, not profit from
insider information, same with Dirks
vi. Side Note: Temporary Insider: You can be subject to a classic insider trading to abstain even if
you are not gainfully employed  temporarily employed
(a) Example: Attorney hired by company, or accountant hired to do an audit.
4. Misappropriation
a. US v. O’HAGAN
i. Attorney representing corporation in tender offer uses inside information in course of
representation to purchase stock of other party to transaction
ii. Government asserts that even though O’Hagan wasn’t insider (so not subject to classic disclose or
abstain rule) “misappropriation” by outside traders falls under umbrella of 10b-5
(a) Outsider violates 10(b)/10b-5 when he trades on material non-public information in breach of
a duty owed to the source of such information
(i) Disclosure to such source absolves breach
iii. Court agrees; holds liable for 10b-5 violation
iv. Government also asserts violation of 14(e)/14e-3(a)
(a) 14(e): in connection with a tender offer, it shall be unlawful to make material misstatements
or omissions or to engage in fraud, deception, or manipulation
(b) 14e-3(a): if a tender offer has been commenced, it is unlawful to purchase or sell securities on
the basis of material inside information if trader knows information is obtained from offeror,
issuer or any officer, director, partner, or employee of either offeror or issuer
v. Court takes up question: does 14(e) violation have to be accompanied by a breach of fiduciary
duty?
(a) No—statute exists to prevent fraudulent trading on material nonpublic information in tender
offer context; not going to limit it to those who owe a duty to the entities involved
E. Short Swing Profits
1. 1934 Act § 16(b):
a. Officers, directors, and ten percent shareholders must pay to the corporation any profits they make
within a six month period from buying and selling the firm’s stock  recoverable
i. Officers and directors: rule attaches to sale OR purchase, regardless of time frame
ii. Ten percent shareholders: rule only attaches if purchase and sale are within six months
b. RELIANCE ELECTRIC v. EMERSON ELECTRIC
i. Emerson is 13.2 percent stockholder of Reliance’s stock; within six months of purchase of shares,
sells to broker to reduce its shares to 9.96 percent; then sells to Reliance, still within six months of
initial purchase. Reliance wants court to recognize this activity as falling under 16(b) and wants to
recover profits on both sales, not just first one
(a) Consult with general counsel of Emerson  16(b)  want to avoid sharing profits two
separate transactions:
(i) Sale one: Emerson sold 3.24
(ii) Sale two: Emerson sold remaining 9.96 (trying to take themselves out of the definition of
issuer  under 10%)
(b) Can they recover the trading profits that Emerson received?
ii. Court rejects—statute is black and white; won’t apply it to shareholders who posses less than 10
percent, even in this instance
(a) Liable for profits on sale number one BUT not Two

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BUSINESS ASSOCIATIONS OUTLINE 1

A. Terminology of Capital Structure

8. DGCL § 131: registered office required

(ii) Could still say demand was wrongfully excused

IV. LIMITED LIABILITY COMPANIES

i. Certificate of incorporation may contain provisions eliminating or limiting personal liability of a

i. An interested transaction is not void or voidable if:

VI. FEDERAL SECURITIES REGULATION

i. In connection with purchase or sale of securities, using jurisdictional means, it is unlawful to

2. Classic Insider Trading: Disclose or Abstain

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