Professional Documents
Culture Documents
Concepts/Overview
A. Business Associations
1. Focus of the law is on
a) Formation
b) Operation
c) Dissolution
2. Resolution of Business Issues
a) Return on Investment
b) Risk of Loss
c) Control
d) Duration
3. Legal Rules (to achieve business objectives)
a) Agency
b) Partnership
c) Limited Liability Company
d) Corporation
B. Consitutiences
1. Participants in Business Associations
a) Owners
b) Managers
c) Employees
d) Customers
e) Creditors
f) Suppliers
g) Government
h) General Public
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I. AGENCY
C. Agency Generally
Relationship that exists where one person acts for another
1. Agency = the fiduciary relationship resulting 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 do so (§1)
a) Principal
= Person in power (the one for whom action is to be taken) (§ 1(b))
b) Agent = Person acting for the other (the one is to act) (§1(c))
(1) General Agent (§3(a)) – an agent authorized to conduct a series of transactions and involving a
continuity of service
(2) Special Agent (§3(b))– an agent authorized to conduct a single transaction
or a series of transactions not
involving a continuity of service
D. Requirements for Agency (§1)
1. Manifestation of consent (assent) by principal
a) Agreement, ratification, or apparent agency
2. That the agent shall act on principal's behalf and subject to principal’s control
3. Consent (assent) by the agent so to act for the principal
E. Gordon v. Doty
Defendant (teacher) owned the car driven by a coach when accident occurred and plaintiff (student) died – had given him
permission to drive it for the game
1. Coach was acting as an agent for the teacher (principal)
a) Express agreement by both parties of terms/conditions of using the car volunteered it for specific use of driving
it to the game, and through this he consented to act on her behalf
b) No contract required for agency (just an agreement)
c) No compensation received required for agency
d) Ownership of car could establish prima facie case that driver is agent
2. Principal is liable for acts of agent (Teacher liable for coach)
F. Jenson Farms v. Cargill
Warren grain storage was financially collapsing made financing agreement with Cargill (grain dealer) as financor where Cargill
financed 90% of business and also set structural/control requirement for it. Warren defaulted on payment and Cargill brought in
through agency theory
1. Warren was an agent of Cargill (principal)
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a) Creditor who assumes control of his debtor’s business may become liable as principal for the acts of the debtor in
connection with the business (§14(O)
b) Cargill had major control over Warren
(1) Course of dealing: Paternalism constant recommendations via telephone, right of refusal on grain,
entering mortgages, checks and audits, financial control over salaries and inventories, Warren’s name on
all forms, financing amount and power to discontinue financing
c) More than a buyersupplier relationship (§ 14(K)
“One who contracts to acquire property from a third party and convey it to another is the agent of the other only if
it is agreed that he is to act primarily for the benefit of the other and not for himself”
Factors indicating one is a SUPPLIER rather than an agent are:
(1) Receiving fixed price for property irrespective of price paid to him
(2) Acting in his own name and receiving title to property that will thereafter be transferred
(3) Is an independent business in buying and selling similar property
Note: Must be shown that the supplier is an independent business before concluded that it is not an agent
Here: All portions of Warren’s operation were financed by Cargill sold almost all of its market grain to
Cargill
Authority
A. Authority Generally
1. Authority = the power of the agent to affect the legal relations of the principal by acts done in accordance with the principal’s
manifestation (§ 7)
i. Must have Agency + Authority in order for agent to bind the principal
2. Three Types of Authority
i. Actual Authority
1. Express
2. Implied
ii. Apparent Authority
iii. Inherent Authority
3. Other Means of Establishing Authority
i. Estoppel
ii. Ratification
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B. Actual Authority (§1)
When the agent is acting within limits prescribed by principal
1. Express Authority
(§ 26) Creation of authority, General Rule) “authority can be created by written or spoken words or other
conduct of the principal which, reasonably interpreted, causes the agent to believe that the principal desires him so to act on the
principal’s account”
i. Objective manifestation of principal
ii. Agent’s reasonable interpretation of that manifestation
iii. Agent’s belief that he is authorized to act for Principal
2. Implied Authority (§ 35) When Incidental Authority is Inferred) “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. Based on role/ past dealings
ii. Fill in gaps of express authority
1. Mill Street Church of Christ v. Hogan
Bill Hogan was hired by the Church to repair roof in the past had hired his brother Sam as assistance. Hired him without
express consent from Church, and Sam was injured while working.
a. Bill had implied authority to hire Sam so church was L to Sam for worker’s compensation
i. Implied authority = “actual authority circumstantially proven which the principal actually intended the
agent to possess, and includes such powers as are practically necessary to carry out the duties actually
delegated
ii. Apparent Authority = not actual, but “the authority the agent is held out by the principal as possessing; a
matter of appearances on which third parties rely.”
1. Here: In the past Bill had hired his brother to help him out, Church knew that it would be difficult
for him to do it on his own; Function of the job was for him to complete a properly maintained
interior; church paid Sam for the half hour he did work and Sam believed Bill had the authority
and relied on this
C. Apparent Authority
Based upon what the Principal displays to third parties
1. Apparent Authority = The power to affect the legal relations of another person by transactions with third persons, professedly as
an agent for the other, arising from and in accordance with the other’s manifestations to such third persons. (§8)
i. “When the principal acts in such a manner as would lead a reasonably prudent person to suppose that the agent had the
authority he purports to exercise….gives the agent apparent authority absent any knowledge by 3p to the contrary to
do things which are usual and proper and to conduct the business which he is employed to conduct (370 Leasing)
2. Apparent Authority Test (§ 27) Creation of Apparent Authority
i. Objective manifestation from one party (apparent principal)
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1. “Written or spoken words or other conduct”
a. Direct communications from principal by letter/word of mouth
b. Authorized statements of agent
c. Documents or other indicia of authority given by the principal to the agent
d. Communications from third persons who have heard of the agent’s authority from authorized or
permitted channels of communication
e. Appointing a person to a position like manager or treasurer carries with it recognized duties
f. Communication to the public through signs or advertising
g. Continuously employing the agent
ii. Which reaches a third party
iii. Causing the third party to reasonably believe that another party (apparent agent) is authorized to act for the
apparent principal
3. 370 Leasing Corporation v. Ampex Corp
Sales representative entering into contract for his employer for computer core memories was it binding?
i. Kays had apparent authority to enter into K on behalf of Ampex
1. Representatives at Ampex had said that negotiations should go through Kays
2. Kays sent a letter to Joyce confirming delivery dates for items
3. Kays was employed as a salesman reasonable for third parties to presume that a salesman has authority to bind
his employers
4. Space on document for signature of Ampex rep signed by Kays
5. Only ever informed that it would go through Kays
a. Had no information to the contrary that he could not enter into the K
D. Inherent Authority
Principal becomes liable for acts of agent done on his account that are incidental to transactions authorized by the agent also covers
unauthorized acts
Exists to protect persons harmed by/dealing with agent
1. Inherent Authority = power of an agent not derived 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 (§ 8(a))
Must have agency relationship
Look to what is customary for someone in that position
Do not need manifestation of the principal
i. Only general agents are covered Inherent authority does not apply to special agents
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1. A general agent for
an undisclosed principal
authorized to conduct transactions subjects his principal to liability for acts done on his
account,
if usual or necessary in such transactions , although forbidden by the principal to do them.
ii. Unauthorized Acts
Covered (§ 161)
1.
A general agent for a
disclosed or partially disclosed
principal subjects his principal to liability
for acts done on his account which
usually accompany or are incidental to transactions which the agent is authorized to conduct if, although they are forbidden by the
principal, the other party reasonably believes that the agent is authorized to do them and has no notice that he is not so authorized
iii. Acts of Manager Appearing to be Owner Covered
(§ 195)
1. An
undisclosed principal who entrusts an agent with the management of his business is subject to liability to third persons with whom the
agent enters into
transactions usual in such businesses and on the principal's account, although contrary to the directions of the principal.
2. Watteu v. Fenwick
D bought a pub from Humble kept his name on it and he remained the manager. D instructed Humble that he could not buy
certain goods but he bought the goods anyway
i. Authority existed for Humble to make the purchase
1. Undisclosed Principals carried out business in his name so must be Liable for his acts
2. Principal liable for all acts of its agent which are within the authority usually confided in an agent of that
character, regardless of any limitations put upon the agent by the principal.
3. He acted within authority of a typical manager even though disobeyed command Principal must be L otherwise
“mischievous consequences” would ensure
3. Nogales
Agent of a fuel co entered into a K he was not authorized to enter into
i. Actual and Apparent Authority could not exist because he was going against what the Principal wanted not in
instructions/manifestation
ii. Inherent authority was possible but not in jury instructions
1. Scope of Role what is customary and usual for an agent in a similar position to do
E. Ratification
Approval of an act after the fact that makes it authorized
1. Ratification = 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 (§82)
2. Requirements of Ratification
(
§ 82
, 83, 91)
i. Retroactive approval of a previously unauthorized act
1. Affirmance through words, conduct, silence indicating consent
2. Must have opportunity to reject the benefi
t
3. Timing Cannot take wait and see approach A principal cannot ratify a previously unauthorized act after events
occurred that would tender the ratification to have adverse/inequitable effects on a 3rd part (R 3d Ch. 4)
ii. Intent of affirmance
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iii. Knowledge of all material facts
3. Botticello v. Stefanovicz
husband and wife as tenants in common for a farm the husband sold all of it, she had only said “not
below this price”
i. Husband did not act as wife’s agent
1. Marriage alone does not prove agency
2. Owning land jointly does not prove agency
3. Her single statement did not show affirmance/agreement
ii. Wife did not ratify the agreement
1. Did not intend to ratify just based on observation
2. Did not have material knowledge did not know details of agreement
3. Receiving benefits from an agreement and failing to repudiate ALONE is not enough for ratification must
first meet general requirement for ratification
F. Estoppel
When a third party relies upon representation of authority
1. Requirements of Estoppel Change in Position (§ 8B)
i. Principal allows another (who has no authority) to create the appearance of authority and does not correct the
misimpression
Intentional or carelessly
ii. Reasonable belief by third party that there is authority
iii. Change in position by the third party (reliance on rep)
Ex: payment of money, expenditure of labor, suffering a loss of subjection or legal liability
2. Hoddeson v. Koos Bros.
Woman purchased furniture from a salesman who was not actually a salesman paid for it was the company liable?
i. Possible “Agency on Estoppel” here
1. When business owner enables one who is not his agent to conspicuously act as such and transact his
business and the appearance would lead a person of ordinary prudence to believe he was an agent then
owner is L
2. Appeared as a salesman, conducted himself in that manner, etc.
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Duties and Liability of Agents
A. Liability of Agent on Contract
1. Disclosed: If agent acting on behalf of a disclosed principal, the agent is NOT personally liable on contract (§ 4(a) )
i. Disclosed principal = at the time of the transaction conducted by the agent, 3P knew agent was acting for a principal and
knew the principal’s identity
2. Undisclosed: If agent is acting on behalf of an undisclosed principal, the agent IS liable on the contract (§ 4(c) )
i. Undisclosed principal = 3p has no notice that agent is acting for a principal
3. Partially Disclosed: If agent is acting on behalf of a partially disclosed principal, then the agent is a party to the contract
(Liable) (§ 321)
i. Partially disclosed principal = 3p has notice that agent may be acting for a principal but has no notice of principal’s
identity (§ 4(b))
4. Atlantic Salmon v. Curran
D (Curran) purchased salmon under name of “Boston Intl Seafood Exchange” but was actually acting for “Marketing Designs”
which P did not know about
i. Partially Disclosed Principal Curran personally L for the K
1. Must have ACTUAL knowledge of what the other party is if you know there is another party but do not know the
identity then that is a partially disclosed Principal
2. In order to avoid personal L, the agent must disclose that he is acting in a representative capacity AND the
identity of the principal
3. Not the other party’s duty to seek out the identity of the principal is agent’s duty to reveal it
B. Principal Liability in Tort
1. Respondeat Superior (§ 219) = Master is liable for torts committed by its servants in the scope of employment
2. Master, Servant and Independent Contractor (§ 2)
i. 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 in the performance of the service
ii. Servant = Agent employed by a master to perform service in his affairs, whose physical conduct in performance of
service is or is subject to right of control by master
iii. Independent Contractor = Person who contracts with another to do something for him but who is not controlled by the
other or subject to the other’s right to control with respect to physical conduct in performance or undertaking.
1. May or may not be an agent (agent and nonagent ICs)
3. Additional Factors to Determining Whether Master/Servant or IC (§ 220(2))
i. Extent of Control over Details of Work
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ii. Right to Terminate Relationship
iii. Engaged in distinct business/occupation
iv. Whether occupation is usually directed by employer or independently carried out
v. Level of Skill
vi. Who supplies tools and place of work
vii. Length of Time of Employment
viii. Method of Payment (hourly or per job)
ix. Is work part of regular business of employer
x. Do parties believe they are creating master/servant relationship
xi. Is the principal in business
Humble Oil v. Martin
– Gas station owner held L for operator’s negligence (was master/servant relationship not IC).
Test: Whether Humble (owner) had
right of power/control to the details of the station work
Yes
Must take contract as a whole : required to perform duties that may be required to him from time to time by Humble”, Humble pays ¾ of
the utility bill, strict system of financial control and supervision by Humble, little or no business discretion left to Schneider, Humble
furnished equipment and advertising, premises owned by oil company, rent based on oil sold, Humble controlled hours of operation, use of
name and logo, the only title Schneider had to the premise was the commission agency agreement, which was terminable by Humble he
bore risk of loss
Hoover v. Sun Oil
– Gas station owner NOT L for negligence of operator; was held to be IC
Test: Right to control over daytoday operations of gas station not enough control here
Operator was only representing Sun’s products no daytoday control; Operator assumed losses and profits of the business, and
determined his own hours of operation, identity, pay scale, working conditions as employees, his name as proprietor (even though had
attended classes on operation and had weekly visits to ensure operations)
4. Scope of Employment Factors ( § 228(1)):
i. Of the kind he is employed to perform
ii. Within authorized time and space limits
iii. Purpose to serve the master
iv. If force intentionally used, use of force not unexpectable by the master
Conduct outside scope (228(2)) = “different from that authorized, far beyond authorized time or space limits, or
too little actuated by a purpose to serve the master”
1. Additional Factors for Scope of Employment (§ 229)
a. Act commonly done by servants
b. Time, place, and purpose of act
c. Previous dealings between principal and agent
d. How business is apportioned between different servants
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e. Act outside of enterprise of master or not entrusted to serv
f. Master expectation that act will be done
g. Similarity to act authorized (Forbidden acts may be within scope § 230)
h. Instrumentality furnished by master
i. Departure from normal methods
j. Act is seriously criminal (May be within scope if crime or tort § 231)
v. Ira Bushey & Sons Inc. v. U.S.
– Government (master) held L for sailor’s drunken mistake since done within scope of
employment
1. Test:
Foreseeability Test:
Was conduct “not so unforeseeable as to make it unfair to charge Govt with
responsibility.”
a. Here Even though exact conduct was not foreseeable, government could have foreseen drinking on the
job/accidents when given access to ships
b. Overturns simple restatement rule of “Purpose to Serve the Master” – too broad, inapplicable
5. Liability for Independent Contractors
i. RULE: One who hires an independent contractor is not liable for such contractor’s negligent actions UNLESS:
1. Retains control of manner and means of doing work or
2. Engages an incompetent contractor or
3. Inherently dangerous activity
a. R2d Torts § 416: One who hires an independent contractor to conduct inherently dangerous activity
requiring precautions is liable if contractor is negligent in taking precautions
i. Inherentlydangerous activity = nature of work involves a peculiar and high risk of harm to
members of the public, even if precautions taken
ii. Majestic Realty v. Toti Contracting
– Company that hired an IC to demolish buildings was L for damages/negligence
1. Rule: Typically NL for person who hires IC UNLESS one of 3 Exceptions is met: 1.) Landowner retains control
of manner and means of doing work 2.) If engage incompetent IC 3.) Activity contracted constitutes nuisance per
se (inherently dangerous)
a. Here activity he was hired for bulldozing buildings was considered inherently dangerous per se under
NY law so person hiring was liable for damage
C. Franchises
1. Franchise
= licensing system used in business
2. Franchisor
= party that grants franchise rights by contract
i. Franchisor obligations = license for use of valuable name, logo, “system”
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3. Franchisee = party that contracts for franchise rights
i. Franchisee obligations = payment of royalties and advertising fees; must operate within “system” (set forth in K and/or
operating manual)
4. Legal Aspects
i. Based on state contract law and state franchise regulation (must disclose risks of franchise relationship)
ii. CAN give rise to liability claims Franchisor can be L for negligence of Franchisee if agency
● Standardization Control everything is standard but NOT physical overarching policies this alone is not
enough to establish agency
○ Actual Agency physical, daytoday control, control of instrumentality
○ Apparent Agency appearance of that franchise that person relies on
5. Murphy v. Holiday Inn – NL for franchise in slipandfall case of leaking AC
i. No agency relationship established HI did not retain control over daytoday functions of hotel only controlled furniture,
etc and was just to achieve uniformity Franchisee controlled all business management responsibilities
ii. Instrumentality HI had no control over the instrumentality that caused the harm AC leaking
6. Miller v. McDonald’s – possible L for McDonald’s franchise when woman bit into sandwich that had stone in it agreement said
IC McD did not “own or operate”
i. Actual Agency relationship between McDonald’s and franchisee: Control Test Servant “right to exercise control over
daily operations of franchise ”
1. Possible since McDonald’s exercised high amount of control over owner specifications for restaurant, food
handling, employees, ingredients, policies, practices, etc.
ii. Apparent Agency Theory: If McD represented the franchisee as their agent and D relied on it (§ 267)
1. Possible since all aspects appeared to be a McD restaurant branding, ads, food, common image but Q as to
whether she relied on this representation
D. Fiduciary Duties of Agents
1. Agency as
Fiduciary Relationship
i. § 1 : “Agency is a f
iduciary relationship
…”
1. Fiduciary relationship is one involving trust and confidence
2. Agent must place principal’s interests over his own
2. Duty of Loyalty
i. § 387 Unless otherwise agreed, an agent is subject to a duty to his principal to
act solely for the benefit of the principal
in all matters connected with his agency
1. R 3d. § 8.01 = “agent has fiduciary duty to act loyally for principal’s benefit in all matters connected with agency
relationship”
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3. Duty Not to Compete
i. DURING : § 393 Unless otherwise agreed, an agent is subject to a
duty not to compete with the principal concerning
the subject matter of his agency
ii. AFTER : § 396(a) Unless otherwise agreed, after termination of agency, the agent has no duty not to compete with the
principal EXCEPT
1. Cannot use confidential information
2. Cannot deceive
3. NonCompete Contract clauses enforceable
R 3d § 8.04 Competition During agency, A under duty to refrain from competing with P and from taking
action to assist P’s competitors; A may take action to prepare for competition following termination of agency
iii. General Automotive v. Singer
– Employee (general manager) of company violated duty not to compete would solicit
business for himself that the company was unable to take and profited from it by doing it himself
1. Conflict of Interest and violation of Duty of Loyalty received a secret profit and his side line business was
competing with GA had to surrender the profit (disgorgement)
4. Use of Confidential Information
i. DURING : § 395 During agency, A has duty not to use or disclose confidential information
ii. AFTER : § 396(b) After termination of agency,
A has a duty not to use….in competition with P or to his
injury…. trade secrets, written lists of names, or other similar confidential matters.
1. R 3d. § 8.05 Agent has duty 2. not to use or communicate confidential info of the P for the agent’s own or a third
party’s purpose
iii. Town and Country v. Newberry
–Former employee of cleaning business barred from using customer contact list when
beginning his own similar business after termination
1. Use of Confidential Info after termination of employment customer list was acquired through time/expenditures
of employer trade secret could not find this info publically “Grabbing and Leaving” not allowed
5. Profits
i. § 388 :
Duty to Account for Profits Arising out of Employment – Unless otherwise agreed, an
agent who makes a profit
in connection with transactions conducted by him on behalf of the principal is under a duty to give such profit to
the principal
1. R 3d. § 8.02 : Material Benefit Arising out of Position “Duty not to acquire material benefit from a third party in
connection with transactions conducted on behalf of principal...otherwise through agent’s use of his position”
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a. Moonlight exception if doing something on the clock, you can keep the money you make but may be
sued for damages accepted by some courts
ii. Reading v. Ragem
– Soldier of British Military (Crown) had to surrender money made from bribes
1. Rule: If a servant takes advantage of his service and violates his duty of honesty and good faith to make a
profit for himself, position he occupies is the reason for gaining it then he is accountable to his master.”
2. Wearing the Crown uniform and his title/position as a soldier was the reason he was helpful in assisting with bribe
cannot keep it would be improper enrichment
6. Use of Assets
i. § 404
Liability for Use of Principal’s Assets
–
Agent who uses assets of P’s business for his own purposes or third
person’s purposes is L to principal for value of use – if gains profits, must surrender those to P – not L for profits
made by use of time to be devoted to P unless violates No Competition duty
1. R 3.d § 8.05 Use of Principal’s Property An agent has a duty not to use the property of the principal for the
agent’s own purpose or those of a third party
II. PARTNERSHIP
UPA is a guide : and will be used as default rules if no contractual provision ; Contract in partnership trumps UPA
Partnership law is based on state statutes (not common law)
A. Partnership in General
1. Partnership Defined
i. UPA § 6(1) A partnership is an association of two or more persons to carry on as coowners a business for profit
2. Sharing in Profits
i. UPA § 7(4) The 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 received
(
EXCEPTIONS ) wages as an employee, interest on
a loan, consideration of sale of property, etc.
Prima Facie = If business does not share profits, there cannot be a partnership
3. Equal Control Rights
i. UPA § 18(e) All partners have equal rights in the management and conduct of the partnership business
4. Equal Sharing of Profits and Losses
i. UPA § 18(a) Each partner shall…. share equally in the profits ; and must contribute towards losses according to the
share in the profits
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5. Partner Liability
Partners Jointly and Severally Liable for :
i. UPA § 15(a) Everything chargeable to the partnership under 13 and 14
ii. UPA 15(b) Jointly for all other debts and obligations of the partnership; but any partner may enter into a separate
obligation to perform a partnership contact
B. Partnership Factors
(from Fenwick case)
1. Intent of Parties
2. Right to Share in Profits
3. Obligation to Share in Losses
4. Ownership/ Control of Partnership Property and Business
5. Management Control
6. Language of Agreement
7. Conduct Towards Third Parties
8. Rights on Dissolution
C. Determining Partnership Case Examples
1. Fenwick v. Unemployment Compensation Commission
i. Mrs. Cheshire was considered an employee even though language of agreement called them “partners” her pay
increases were based on the profits of the business (no actual share in profits) and she had no control of the business (he
managed and made al business decisions), she did not share in losses, no different rights in dissolution
2. Martin v. Peyton
i. No partnership relationship in Creditor/lender relationship intent of parties and purpose was loan/investment no
share in profits, did not share in losses, did not make binding business decisions
D. Partnership By Estoppel
1. Partnership by Estoppel
i. UPA § 16 If a person (1.) represents himself as a partner
in an enterprise (or allows another to so represent him)
and (2.)
third party relies on that representation and enters into a transaction with the supposed partnership (“has
given credit”) then is liable to third party on transaction
2. Young v. Jones
i. No partnership by Estoppel Established PWBahamas was sued; P tried to bring in PWUS based on a brochure but
there was no evidence that P ever relied on anything demonstrating partnership (supposed brochure)
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ii. Partnership by Estoppel = Person who represents himself, or permits another to represent him, to anyone as a partner in
an existing partnership or with others not actual partners, is liable to any such person to whom such representation is
made or who has, on faith of the representation, given credit to the actual or apparent partnership
E. Categories of Partnership
1. Limited Partnership
i. Must file a certificate of Limited Partnership
ii. Limited liability AND limited control
1. RULPA § 303(a) Limited Partner is NOT LIABLE for obligations of LP unless
a. Is also a general partner OR
b. Takes part in control of the business (in which case is L to 3P who transact business with the LP and
reasonably believe based on conduct that person is a general partner
i. Control RULPA § 303(b) Limited part. does not participate in control solely by
consulting/advising with general partner in partnership business
iii. Share in Profits based on contribution
iv. Dissociation of LP does not dissolve the partnership
Holzman v. de Escamilla
: Limited Liability partners were held liable as General Partners based onassuming control of
the business (were able to choose operation of business, withdraw money, had to sign off on checks)
“A limited partner shall not become L as a general partner unless, in addition to the exercise of his rights and
powers as a limited partner, he takes part in control of the business.”
2. General Partnership
i. Unlimited liability
ii. Management and control in partnership
iii. Dissociation dissolves the partnership
iv. Equal share in profits and losses (?)
F. Fiduciary Duties of Partnership
1. Duty of Loyalty
i. UPA § 21 Profits and Property Use Partner must account to partnership for any benefit and hold as trustee for it
any profits derived by him without the consent of the other partners from any transaction connected with the
formation, conduct, liquidation of partnership, or from any use of him by its property
ii. RUPA § 404(b) Partner’s
duty of loyalty to the partnership is limited to:
1. Account to partnership and hold as trustee for it any property, profit, or benefit derived by the partner in the
conduct and winding up of the partnership business or derived from a use of partnership property
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2. Refrain from conflict of interest transactions (“refrain from dealing with part. in conduct, business as or on behalf
of party having an adverse interest to partnership”)
3. Refrain from
competing
with the partnership before dissolution
iii. Meinhard v. Salmon
1. “Joint adventurers, like copartners, owe to one another, while the enterprise continues, the duty of finest
loyalty”
2. Breach of duty of loyalty between partners with lease agreement (one partner provided finances, one mgmt) when
one partner entered into a new venture by himself without disclosure to other partner was reasonably related to
the leasing partnership and should have disclosed oppurtunity to him should not have put his own interests ahead
of the partnership
2. Duty of Care
i. RUPA § 404(c) Partner’ s duty of care to the partnership and the other partners in the conduct … .refrain from
engaging in grossly negligent or reckless conduct, intentional misconduct, or knowing violation of law
ii. UPA § 9(c) Partner has no authority to do any act that would make it impossible to carry on the ordinary business of
the partnership
3. Duty to Render Information UPA § 20 Partners shall render on demand
true and full information of all things affecting the
partnership or any partner
4. Partnership Books UPA § 19 Partnership books shall be kept at the principal place of business and every partner shall at all
times have access to and may and copy any of them
i. RUPA § 403
1. (a) Partners may inspect and copy books and records; Entitled to information from other partners and partnership
2. (c)
Without making demand ,
partners are entitled to information that is needed for exercise of partner's
rights and Duties ; and on demand any other information
Meehan v. Shaughnessy (pt. I)
ii. Law firm partnership two partners decided to leave firm; planned to leave, solicited associates, and lied about plans to
leave when asked ; also solicited clients through sending letters
iii. Duty of Loyalty owed utmost duty of good faith and loyalty obligated to consider copartners welfare and not merely
their own not violated since still performed their duties while partnership was intact
iv. Duty Not to Compete Rule = fiduciaries may plan to compete with entity to which they owe allegiance “provided that
in the course of such arrangements they do not otherwise act in violation of fiduciary duties”
v. Violations = 1. Unfairly acquiring and removing clients and cases from the firm did not follow protocol in sending the
letters, were prejudicial to the partnership and 2. Not rendering information when asked lied about plans to leave and
made it secretive in violation of UPA 20.
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G. Expulsion of Partners
1. Expulsion 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 between the partners
2. Lawlis v. Kightlinger and Gray
i. Partner struggled with alcoholism, partnership votes to expel him pursuant to ⅔ vote as contained in partnership
agreement
ii. No wrongful expulsion “ Bona fide” = good faith requirement , cannot just expel for no reason; but here there were
business reasons to remove him and was done properly pursuant to the agreement no bad faith and no cause agreement
was enforceable FOLLOW AGREEMENT
H. Property Rights in Partnership
1. Sharing in Profits and Losses
Partners contribute capital and/or labor
i. UPA § 18(a) Financial Return
1. Right to repayment of contributions (capital or advances)
2. Right to share equally in profits and surplus after payment
of liabilities
3. Obligation to contribute to losses sustained by partnership according to share in profits
ii. UPA § 18(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 or for the preservation of its business or
property
2. Other Property Rights
i. UPA § 24 Extent of Property Rights of a Partner – property rights of a partner are
1. His rights in specific partnership
2. His interest in the partnership
3. His right to participate in the management
ii. UPA § 26 Nature of Partner's Interest in Partnership – a partner's interest in the partnership is his
share of the profits
and surplus, and the same is his personal property (i.e. financial interest in partnership is equivalent to your personal
property )
iii. UPA § 27 Assignment of Partner’s Interest – Conveyance by a partner of his interest does not dissolve a partnership ;
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 other partners
1. By default, partner can only assign their economic interests
2. UPA 18(g) No person may become a member of partnership without consent
of all partners
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Putnam v. Shoaf :
After woman conveyed her full share of a partnership, damages were given to the partnership for $ embezzled
while she owned share this $ did NOT get returned to her was property of partnership financial inv. and return
I. Management Rights in Partnership
1. Management Rights in General
i. UPA § 18(e) = Absent agreement to contrary, all partners have equal rights in management and conduct of the
partnership business
ii. UPA § 18(h) = Any differences arising as to ordinary matters connected with the partnership may be decided by a
majority of the partners ; but no
act in contraventions of any agreement between the partners may be done rightfully
without the consent of all the partners
2. Voting Rules of Partners (Default Rules)
i. Disagreements among partners are decided by a partnership vote
ii. One partner = one vote (pursuant to 18(e) even if contributions are not equal)
iii. Ordinary business decisions decided by a majority vote (purs. to 18(h))
iv. Other matters require
unanimous consent (pursuant to 9(3), 18g, 18h)
1. Assigning of partnership property in trust to creditors/secure payments of debts
2. Dispose of good will of partnership
3. Do an act making it impossible to carry on partnership’s ordinary business
4. Confess a judgment against partnership
5. Submit a claim involving the partnership to arbitration
6. Admit new parties
7. Contravene any agreement of the partners (may include ordinary business matters that substantially change past
practices ex: entering a new line of business)
3. Partners as Agents
i. UPA § 9(1) Every partner is an agent for the partnership and binds the partnership when apparently carrying on in
the usual way the business of the partnership
1. EXCEPTION: Partner has no authority to act for the partnership in the matter/capacity (based on
partnership agreement) and 3P KNOWS this
a. UPA 301 P artner has apparent authority
An act of a partner, including the execution of an instrument
in the partnership name, for apparently carrying on in the ordinary course the partnership business or
business of the kind carried on by the partnership binds the partnership, unless the partner had no
authority to act for the partnership in the particular matter and the person with whom the partner was
dealing knew or had received a notification that the partner lacked authority.
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ii. UPA § 15 Partners are jointly and severally liable for debts and obligations
of the partnership
Nabisco v. Stroud
: Partnership told Nabisco they no longer planned to buy bread or be liable for it but then one partner
ordered bread from Nabisco; act of partner bound the partnership no restriction on him doing this in partnership
agreement, so was done within ordinary scope of partnership and thus was binding as agent. No notice given to Nabisco
that he could not do this.
4. Change of Management Rights by Contract
Ways in which Default Rules are often changed (these areas):
i. Delegating decisionmaking to a managing partner or executive committee
ii. Weighting partnership voting to reflect pro rata contributions to capital
iii. Changing requirement of unanimous consent
iv. Requiring supermajority voting for important decisions
v. Right to expel partners
Day v. Sidley and Austin : Law firm partnership and one partner got mad because he lost power during merger based on
vote (as designated by the partnership agreement) no cause of action since these management and voting rights were
changed by the contract, which trumps the default rules
5. Duration of Partnership
i. At Will = Default rule No limitation on duration
ii. Express Term outlined in agreement (“Together for X years”)
iii. Implied Term lasts until a certain event:
1. Certain sum of money earned
2. One or more partners recoup investment
3. Certain debts are paid
4. Certain property disposed of on favorable terms
Page v. Page :
Partnership deemed to be at will nothing in agreement that would make it express or implied thus was
able to be dissolved at any time so long as not done in bad faith (which it was not here) if you do breach in bad faith you
owe damages
J. Dissolution of Partnership
1. Dissolution Defined
i. UPA § 29
Change of relation of the partners caused by any partner ceasing to be associated in the carrying on as
distinguished from the winding up of the business
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2. Winding Up
i. Winding Up = completion of
unfinished partnership
business postdissolution
ii. UPA § 30 = On dissolution the partnership is not terminated ; continues until the winding up of the partnership
affairs is completed
iii. UPA § 37 Right to Wind Up Unless otherwise agreed, the partners who have not wrongfully dissolved the
partnership has the right to wind up partnership affairs
3. Types of Dissolution
i. Rightful Dissolution
1. UPA 31(1) Dissolution is caused without violation of the agreement between partners
a. If partnership by term at the
end of that term/specific undertaking (31(1)(a) OR through consent of
all partners (31)(1)c))
b. If partnership at will
by express will of any partner (31)(1)(b)
i. Must be done in good faith
c. Upon expulsion of a partner bona fide and under a clause of partnership agreement (Lawliss case)
ii. Wrongful Dissolution
1. UPA § 31 Dissolution by express will of any partner if violation of partnership agreement, business becomes
unlawful, death of partner, or bankruptcy of partner or partnership
iii. Dissolution by Court Decree
1. UPA § 32 On application by a partner, court shall decree dissolution whenever
a. Partner declared a lunatic (insane) by court
b. Partner becomes otherwise incapable of performing partnership contract
c. Partner has been guilty of conduct that prejudices carrying on of the business
d. Partner willfully or persistently commits breach of partnership agreement, or otherwise conducts himself
in matters relating to the partnership business that is not reasonably practicable to carry on the business
of partnership with him
e. Business of partnership can only be carried on at a loss
f. Other circumstances that render a dissolution equitable
2. RUPA 801(5) Partnership dissolved on application if :
a. Economic purpose reasonably frustrated
b. Another
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 OR
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c. It is not otherwise reasonably practicable to carry on the partnership business in conformity with the
partnership agreement
Owen v. Cohen One partner wants to dissolve because of abusive personality of the other and not getting paid
what he thought he should have
Hold: Judicial decree was proper where one partner hinders the carrying on of the business and can no
longer work in harmony minors differences will not be grounds for dissolution
Must be such extent that all confidence and cooperation between the parties has been destroyed
or where one of the parties by his misbehavior materially hinders a proper conduct of the
partnership business.
Business related
4. Options for Business After Dissolution
i. Liquidation (default rule for everything but wrongful dissolution) Sale of all assets and paid out to former partners
1. UPA 38(1) Right to Require Dissolution If dissolution is caused in any way except breach of agreement,
partner may request a liquidation
ii. Continuation continuation of business by remaining partner(s)
1. This is often what happens in practice
2. § 38(2): If dissolution in violation of partnership agreement occurs: nonbreaching ….may continue the
business and possess the partnership property for that purpose
5. Damages After Dissolution
i. UPA 38(2) If dissolution in
violation of partnership agreement occurs: Nonbreaching partner may claim for
damages against breaching partner ; If business
continued then breaching partner is entitled to
receive his interest less
damages but not including good will
PacSaver v. Vasso : Wrongful dissolution of partnership partnership agreement included provision that one partner
could take back his patents and trademarks but court held this was overridden based on UPA 38(2) right to continue in
business since patents/trademarks were necessary to continue business, nonbreaching partner could keep them
Dissent : The agreement should have superseded the UPA is a contractual question (this is probably correct)
6. Distribution After Dissolution
i. UPA 40(b) Order of Distribution/ Payment of Liabilities
1. Payment to Creditors other than Partners
2. Payment to Partners other than for Capital or Profits
3. Payment to partners for Capital
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a. Called the “ capital account ” – which is initial capital contributions and interim capital contributions
minus any interim losses
4. Payment to partners for Profits
a. Default rule = Equal sharing (18(a))
i. If agreement then divided according to that
b. If a wrongful dissolution, the breaching partner’s amount is lessened by the damages under 38(2)(1)(II)
ii. UPA 40(d) Partners must contribute the amount necessary to satisfy the liabilities in section 40(b) pursuant to 18(a)
= must contribute towards losses according to the share in the profits)
RUPA 401(B) “Each partner is entitled to an equal share of partnership profits and is chargeable with a share of
partnership losses in proportion to the partner’s share of the profits.”
iii. UPA 18(a) Each partner is chargeable with a share of partnership losses in proportion to the partner’s share of the
profits
Kovalik v. Reed : Partnership where one partner contributed capital and the other contributed services when the
partnership dissolved, court held that partner only contributing services did not have to pay in accounting
Kovalik is a MINORITY RULE goes against 40 and 18(a)
iv. Costs Associated with Winding Up
1. UPA 18(f) Rule Against Extra Compensation No partner is entitled to remuneration for acting in the
partnership business EXCEPT to receive reasonable compensation for his services in winding up the
business
a. Share in winding up profits the SAME as would share in partnership profits
i. Default = equal share
ii. If agreement = according to split of partnership profits in agreement
2. Case Law Examples
a. Jewel v. Boxer
no written agreemen t so profits from the winding up process were distributed according
to share in former partnership business no extra compensation for work done during winding up (profits
from legal cases split according to old agreement)
b. Meehan had a written provision
for winding up that allowed for profits from removed cases minus “fair
charge” court enforced this (trumps default rule) for leaving partners [except for cases taken in breach of
fiduciary duty those were split according to initial shares
7. Buyout Agreements
i. Agreement in which a partner can leave the partnership by receiving payment in exchange for his interest in firm
ii. Is advised to include this in the partnership agreement
iii. Many different ways to set it up
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G&S Investment v. Belman : Partners were allowed to take advantage of a buyout provision pursuant to the partnership
agreement after a partner died (and were already seeking dissolution of partnership) no dissolution until court declares
such and had not, so were still able to use buyout provision
III. INTRODUCTION TO CORPORATIONS
Note: Focus is on Delaware General Corporation Law (DGCL) most common choice of incorporation
A. Characteristics of Corporations
1. Formalities Required
a. In order to set up and maintain (see below)
2. Limited Liability for Shareholders
a. Generally no personal liability (unless piercing the veil)
3. Free Transferability
a. Can buy and sells shares freely (do not need consent like in partnership)
4. At Will
a. Default rule for share is at will if duration not stated
5. Continuity
a. Where no duration stated default rule is it continues forever
6. Centralized Management
a. Separation between ownership and control of mgmt owners are not the same as those running day to day business
i. Board of Directors Are elected by shareholders at annual meeting; make large business decisions (mergers, sale,
etc.)
ii. Officers Appointed by Board of Directors; manage daytoday business matters
iii. Investors have limited control
7. Double Taxation
a. Corp. itself pays taxes, plus individual shareholders pay taxes on dividend payouts
B. Setting Up a Corporation
1. Choose a Corporate Form
a. Public: a corporation whose shares are traded to and among the general public, and managed by a publicly appointed
board
b. Closelyheld: a corporation whose stock is NOT freely traded and is held by only a few shareholders (often within the
same family)
2. Choose State of Incorporation
a. State law which to incorporate will govern the corporation
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b. Delaware is most common choice (manager friendly)
c. Internal Affairs Doctrine State of incorporation governs the internal affairs (ex: shareholder voting, management power),
but external affairs are controlled by state located in (ex: employer/employee law, contract law)
3. Reserve Corporate Name
a. Must have Inc. or Incorporated in name
b. Should be distinctive so no confusion
4. File Certificate of Incorporation
a. DGCL § 101 (a) In order to incorporate, must file certificate of incorporation with Division of Corporation of the
Secretary of State
i. Filed documents are a matter of public records
1. Publically available information
ii. §106 Corporation “comes to live” when the certificate is filed
b. § 102 Contents of Certificate of Incorporation
i. Mandatory
1. Name
2. Address
3. Registered Office where a Corp. can receive service from within the state (§131)
4. Capitalization Structure
a. Default is that all shareholders have identical rights
5. Incorporators’ names and addresses
a. Natural person over the age of 18
6. Director’s names and addresses
7. Registered Office § 131
a. where corporation will receive service within the state
b. Receives service of process
c. Must be registered person or corporation
ii. Optional
1. Management provisions/provisions limited power of corp., directors, shareholders
2. Preemptive Shareholder Rights
3. Provisions changing the voting rules of DGCL
4. Limit on duration of business
5. Exceptions to limited liability of shareholders
6. Limits on monetary damages for director breach of fiduciary duty
a. But some cannot be eliminated
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c. Incorporations
i. § 101 Any person may incorporate a corp. by filing a certificate with the Division of Corp. of Secretary of State
ii. § 103 Sign, date, and pay fees
iii. § 107 If no directors named, incorporations manage until directors are elected
iv. Distinguish roles of shareholders, directors, and officers in corp.
5. Commencement of Corporate Existence
a. § 106 Corporation exists from the date of filing until dissolution
6. Hold First Meeting of Directors
a. If directors not named in certificate meeting of incorporators
7. Adopt ByLaws
a. § 108 ByLaws adopted at organization meeting of directors or incorporators
b. § 109 May contain provisions on conduct of affairs, rights or power of shareholders, directors, officers
i. May be amended by directors until payment of initial capital; after that shareholders must vote to amend
ii. Not filed with Secretary of State
8. Issue Shares and Accept Paid in Capital
9. Take Steps to Qualify as Foreign Corporation
a. For each state corp. will be doing business in
C. Promoter Liability
1. Promotor = someone who has an interest in a corporation, and can enter into contract on behalf of the corp. before the it is formed
2. Can become liable under principal/agency if the principal is not disclosed
a. If contracts in the name of the of the corporation and solely for corporation benefit, promoter CANNOT be liable
b. Corporation can be a party to the K and liable under it if it takes action to adopt K (Southern Gulf Marine)
3. Defective Incorporation
a. Corporation by Estoppel
i. Individual acted as though he was dealing with corporation
ii. Person would earn a windfall if allowed to evade liability based on absence of incorporation
iii. Were substantial rights
affected?
b. De Facto Corporation
i. Promoter tried in good faith to incorporate
ii. Had a legal right to do so
iii. Acted as a corporation
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SouthernGulf Marine v. Camcraf t: Promoter entered into K with Camcraft for a ship. SGM was incorporated
under different state laws than had originally disclosed Camcraft trying to escape L since SGM was a
“different” corporation (defective incorporation)
Corporation by estoppel applied Camcraft L on the contract.
Substantial rights were not affected just because incorporated in a different state
Could also have argued De Facto Corp.
D. Corporate Entity and Limited Liability
1. Limited Liability General Rule
a. C orporations have limited liability and shareholders/officers/directors are not personally liable for debts and
obligations of the corporation
2. Enterprise Liability
a. Treating all corporations as one individual entity
i. Ignore corporate separateness doctrine (typically not L for each other)
b. Assets of all corporations become available to creditors
c. Must show that they all are acting as one
i. same bank account, assets were commingled, paying expenses for other corporations, etc.
Ex:
3. Piercing the Corporate Veil
a. Judicially created exception to limited liability rule
i. Shareholder's personal assets may become available to creditor (or officer or directors)
b. Factors (SeaLand Services v. Pepper Source)
i. Unity of Interest (alter ego)
1. Van Dorn Test (IL): Failure to maintain corporate formalities, commingling of assets/funds,
undercapitalization, one corporation treats assets of another as its own
ii. Fraud or Injustice
1. NOT just creditor’s inability to collect/recover (not just that you are owed money)
2. A party would be unjustly enriched
3. A parent corporation that caused a sister corp. liabilities and its inability to pay for them would escape
liability
4. Intentional scheme to squirrel assets into a liability free corporation
Walkovsky v. Carlton : P injured in taxi cab accident, wanted to recover under enterprise liability and
piercing corporate veil.
No piercing corporate veil since only done “when necessary to prevent fraud or injustice”
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No enterprise L since were acting in individual capacity not enough to be one entity
SeaLand Services, Inc. v. Pepper Source :
Sealand gets a judgment against Pepper source for peppers
that were not paid for, however, Pepper Source is dissolved [no assets] and therefore Sealand goes after
Marchese who was the soleshareholder of Pepper Source and several other corporations
Piercing the Corporate Veil: 1. Unity of ownership (he singlehandedly ran them all) and 2. Fraud
injustice in using corporate expenses as personal tax deductions and using corporate
funds to pay personal liabilities (remanded to make this determination)
c. Undercapitalization
i. Justifies piercing in some cases
ii. Def = where shareholder siphons off available corporate assets without disclosure to creditors, and deliberately
makes corp. insolvent
iii. Deliberate insolvency defeats creditor expectation that business will set aside adequare reserves to pay corporate
obligations when due
De Witt Trucking v. Fleming :
Sole shareholder, collecting sales price and charging third parties, and also
secretly paying self a salary from withheld payments he became personally L for unpaid bills
(purposefully insolvent undercapitalization)
d. Assumption of Risk in Contract
i. Some courts add this as third prong to factors test in contracts cases
ii. Did creditor know of the risk of nonpayment? If so, should have taken steps to mitigate risk
Brunswick Corp v. Waxman :
Shareholder set up a corporation with no assets solely to make payments
under a supply contract. Corporation defaulted. Court refused to pierce since supplier knew the facts and
was not misled. Supplier could have taken steps to protect itself, like demanding a personal guarantee ,
but failed to do so. Supplier assumed the risk of loss.
E. Parent and Subsidiary Relationship
1. ParentSubsidiary Relationship
a. Parent = Corporation that owns all shares of common stock of another corporation (the subsidiary)
b. Parent runs certain parts of business out of subsidiary in order to avoid liability for debts and assets
i. Rule Parent generally not liable for debts of sub.
a. Corporate Control basically piercing through parentsub. relationship
i. “When a corporation is so controlled as to be the alter ego or mere instrumentality of its stockholder, the
corporate form may be disregarded in the interests of justice”
ii. Must look to totality of circumstances
2. Substantial Domination Test
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Can hold parent liable for subsidiary
Factors:
1. Common directors and officers
2. Common business departments
3. File consolidated financial statements/tax returns
4. Parent formation and financing of subsidiary
5. Gross undercapitalization
6. Payment of salaries and other expenses
7. All business of subsidiary provided by parent
8. Parent uses property of subsidiary
9. Daily operations not separate
10. Failure of subsidiary to maintain corporate formalities
3. Direct Liability Theory
a. Direct Liability for parent corp. in some circumstances (ex here: tort law)
b. R 2d Torts § 324A: One who undertakes to render services is subject to liability for 3P for physical harm due to
failure to exercise reasonable care if:
i. Failure to exercise reasonable care increased risk of harm
ii. Undertaken to perform duty owed by the other to 3P
iii. Harm by 3P suffered because of reliance
4. Fraud Requirement
a. Required in addition to substantial domination test in some jurisdictions (NOT in DE)
i. Ex: Intentional undercapitalization, use of parent corp. name on products
In re Silicone Gel Breast Implants Liability Litigation:
BrisolMyers Squibb was parents of MEC (subsidiary), which
manufactured and supplied breast implants. Implants caused injuries to plaintiffs. Q of holding parent L
Substantial Domination: Mostly met Bristol controlled MEC’s board, made employment and financing
decisions, and made the final decision to pull the breast implants from the market
Also some fraud since undercapitalized
Direct Liability: Bristol tested and inspected MEC’s products and put Bristol’s own name on the products to show
that they were safe, people purchasing did so in reliance on Bristol’s association with the product, just have to
show there was harm suffered based on this reliance
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F. Shareholder Derivative Actions
Ask yourself: who is being injured? where are the damages going?
Corp = derivative
Individual = direct
a. Shareholder sues (on behalf of corporation) to enforce his corporate rights
b. Can be against the corporation (officers or board of directors), or against a third party
i. Allegations of mismanagement, waste, fraud,
ii. Recovery runs directly to corporation
iii. Remember: Business judgment rule protects most management decisionmaking
c. Attorney’s Fees
i. Default Rule: If suit is successful, corporation will pay plaintiff's fees and expenses
ii. Fee Shifting Statute Some state statutes mandate fee shifting to plaintiff if suit was brought without reasonable cause or
for an improper purpose
Cohen v. Beneficial :
NJ statute requiring that shareholders holding less than 5% value of corp. pay corporation’s
legal fees if the lawsuit fails
Hold: Not in violation of due process NJ able to protect corp. and suits
These statutes are NOT common anymore
d. Direct Actions
i. Shareholder in personal capacity enforcing rights as shareholder
1. Ex: Denial or dilution of voting rights, compel payment of dividends not distributed, compel inspection of
corporate books and records, require holding of shareholding meeting
Eisenberg v. Flying Tiger Line Inc .: Shareholder brought suit claiming voting rights were violated after a merger.
This was a direct suit (not direct): “Gravemen of complaint” not derivative must look to harm/injury and relief
(personal to him)
ii. Class Actions SH can sue in his own capacity as well as on behalf of other SH’s who are similarly situated
1. Group of SHs assert individual direct claims through a representative
2. Procedural Issues
a. Demand may not apply but other requirements may (ex: notice)
e. Demand Requirement
a. Plaintiff asking for what they want before filing suit
b. Purpose
1. Allows dispute to be resolved by corp. outside of court
2. Allows corp. to take over lawsuit if beneficial to it
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c. RULE: Demand is required UNLESS is futile and becomes excused
i. Futility Exception:
Delaware Law Allege facts with particularity creating reasonable doubt regarding board independence, where
either:
1. Majority has material financial or familial interest OR
2. Majority is incapable of acting independently for another reason like domination or control OR
3. Underlying transaction is not the product of a valid business judgment rule
New York Law ( Marks v. Akers ) Allege facts with particularity that either:
1. Majority of the board is interested in the transaction OR
2. Directors failed to inform themselves as necessary about the transaction OR
3. Directors failed to exercise their business judgement in approving the transaction
d. Wrongful Refusal
i. Board decision protected by business judgement rule
ii. To overcome this, plaintiff must allege facts with particularity creating reasonable doubt that board acted
independently or with due care
e. Business Judgment Rule
i. Idea that management decisions should be left to the corporation rather than the courts presumption
ii. DGCL § 141(a) The business and affairs of the corporation shall be managed by or under the direction of the
board of directors
1. Rebuttable presumption that directors and officers carry out their functions in good faith, after sufficient
investigation and for valid business reasons
Grimes v. Donald : Shareholder brings direct and derivative claims against corp. Direct claim (abdication of rights)
dismissed since part of corporate structure and allowed under BJR.
For derivative claim should have made demand. No showing of futility, even if it would have been refused.
Wrongful Refusal: if a shareholder’s demand to the board is rejected, the board is entitled to the
presumption that the rejection was in good faith unless the stockholder can allege sufficient facts to
overcome the presumption.
G. Special Litigation Committees
a. DGCL § 141(c)(2)
i. Board may designate 1 or more committees, each consisting of 1 or more directors
ii. Board committee may exercise all the powers and authority of the full board (ex: demand refusal)
b. Appointed to see whether or not the corporation should proceed with the litigation
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i. If not proceeding will elect to file motion to dismiss suit
1. Courts are not bound by decision of SLC
c. Requirements of SLCs
i. Zapata Test (Deleware)
1. Burden on corporation to prove independence and good faith of SLC
2. Court must apply own judgment to determine whether motion should be granted
Zapata v. Maldonado : P brings derivative suit against 10 officers claiming breach of fiduciary duties. P did not
make demand; D created SLC which determined that suit should be dismissed.
Applied 2part test and determined that SLC decision was valid
In re Oracle Corp. Derivative Litigation: SLC comprised of Stanford professors where corporate officers had
extensive personal connections to Stanford. SLC moved to dismiss the litigation
SLC decision held invalid: Inadequate independence of SLC because of Stanford ties
The question of independence turns on whether a director is, for any substantial reason
, incapable of
making a decision with only the best interests of the corporation in mind
Social and human nature aspects taken into account
H. Corporate Philanthropy
Ultra Vires Acts = Those beyond power
a. DGCC § 102(A)(3)
i. Certificate of incorporation shall set forth the nature of the business or purposes to be conducted or promoted.
1. May simply be “any lawful activity”
2. May contain restriction s
b. DGCL § 124
i. No act or transfer of property shall be invalid because ultra vires but lack of capacity or power may be asserted:
1. Shareholder suit to enjoin corporation from entering into such act or transfer of property
2. Corporation suit against directors and officers
3. Suit by state attorney general
c. DGCL § 122
i. Every corporation shall have the power to…..make charitable donations for the public welfare or charitable, scientific, or
educational purpose
d. Other States and Charitable Donations
i. California Corporations Code Section 207(3)
1. Power to make donations regardless of specific corporate benefit
for the public welfare, or for community fund, hospital,
charitable, educational, scientific, civic or similar purposes
ii. NYBCL § 202(a)(12)
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1. Make donations irrespective of corporate benefit for the public welfare or for community fund, hospital, charitable,
educational, scientific, civic or similar purposes, and in time of war or other national emergency in aid thereof
iii. Pennsylvania Code Section 102(d)
1. Directors may in considering the best interests of the corporation consider the effects of their actions on any and all
groups affected by such actions , including shareholders, employees, suppliers, customers and creditors of the corporation,
and upon communities in which offices or other establishments of the corporation are located
Smith v. Barlow : Corporation made a $1500 to Princeton University not specifically authorized in corp. agreement
Donation upheld: NJ statute that provided for such charitable contributions; rationale that the corporation would gain good
will, support education, aid of public welfare, etc. Was valid exercise of powers and protected under statute. (Even though
there would be limitations)
I. Payment of Dividends
a. DGCL § 170(a)
i. Directors may declare and pay dividends out of surplus or net profits, subject to restrictions in certificate of incorporation.
b. Hunter v. Roberts (Michigan S. Ct)
i. “It is a well recognized principle that directors alone have power to declare a dividend and determine its amount. Courts
of equity will not interfere in the management of the directors unless…they are guilty of fraud or misappropriation of
the corporate funds, or
refuse to declare a dividend when the corporation has a surplus of net profits …and when a
refusal would amount to abuse of discretion as would constitute fraud or breach of good faith …”
c. Also protected under Business Judgement Rule DGCL § 141(a)
Dodge v. Ford : Dodge brothers held shares in Ford motor corp. Henrey Ford majority shareholder and director. When
profits soared, Ford did not increase dividends for shareholders instead wanted to build a new plant, lower price of cars,
make charitable donations
Hold: Ford was allowed to build the new plant but compelled to pay dividends
Under Hunter, refusal to pay would constitute refusal that amounts to fraud or breach of good faith
Stated that the primary purpose of a corporation was to make a profit, not to benefit others over such
purpose (not lawful to do so)
Today, Courts probably would not require dividend payments
Schlensky v. Wrigley : Shareholder brought suit against Wrigley for not installing lights for night games.
Business judgement rule protected decision: No showing of fraud, illegality, conflict of interest, or bad faith
J. Debate: Nature and Purpose of Modern Business Corporation
1. Berle: Private Property
a. Purpose is only to maximize shareholder profit
2. Dodd: Social Institution
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a. Corporations are not just for profit also are social institutions that serve larger community interests. Must consider
employees, customers, and the community at large
3. American Law Institute Principles of Corporate Government § 2.01
a. Corporation’s objective is to conduct business with a view to enhancing corporate profits and shareholder gain (Berle
perspective)
b. Even if corporate profit and shareholder gain are not enhanced, corporation is obliged to act within bounds of the law,
may take into account ethical considerations appropriate to conduct of business, may devote reasonable amount of
resources to public welfare, humanitarian, educational and philanthropic purposes (Dodd perspective + Smith v. Barlow)
4. The “New” Corporate Social Responsibility
a. Idea of saving resources and preserving the environment
b. Corporate Social Responsibility = companies voluntarily decide to respect and protect the interests of a broad range of
stakeholders and to contribute to a cleaner environment and better society through active interaction with all
c. Corporate social responsibility goes beyond compliance with laws to capture voluntary initiatives to do more than what
is legally required
d. Supported by company level, industry level, and international codes of conduct
i. Developed by business, civil society, national governments and intergovernmental organizations
e. Areas of Coverage
i. Core labor standards
ii. Green environmental standards
iii. Reject bribery and corruption of government officials to facilitate business
iv. Respect human rights
IV. LIMITED LIABILITY COMPANIES (LLCs)
A. Introduction
a. LLC is “hybrid” form of business association
i. Combines limited liability of corporation and flow through tax treatment (single as opposed to double). Combines the best
aspects of Partnerships and Corporations
ii. Created under state statutes enacted in all 50 states
b. Uniform Limited Liability Company Act (ULLCA)
c. ULLCA § 201: LLC is a legal entity distinct from its members
d. Characteristics of LLCs (overlap with Corp.)
i. Limited Liability
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1. Not personally liable for debts or obligations exceeding the business. Only responsible for your amount of
investment.
ii. Free transferability
1. Do not need permission of other owners to transfer shares
iii. Continuity of Life
1. No default rule of termination continues indefinitely.
iv. Centralized management
1. Owners = members
2. Manager = Someone who runs stuff (can be a member or not)
3. Not member managed by default can choose type of mgmt (manager mgmt)
e. Tax Treatment
i. Prior to 1997 LLC could only receive flow through tax treatment if it had 2 or fewer of the above characteristics
ii. IRS 1997 Check the Box regulations simplified tax treatment of LLCs
B. LLC Formation
a. File Articles of Organization with the state
i. ULLCA § 202: One or more persons (“organizers”) may form a LLC, consisting of one or more members, by filing
articles with the secretary of state
1. LLC comes into existence when articles filed with SOS
ii. ULLCA § 203: Contents of Articles of Organization
1. Name of company
2. Address
3. Name and address of agent for service of process
4. Name and address of organizer
5. Term, if there is one
6. Whether manager managed and name and address of managers
7. Liability of members for debts and obligations, if applicable
iii. ULLCA § 204: Amendment of Articles of Organization
1. Must be filed with the state
iv. Contents dictated by state statute
b. Execution by members of Operating Agreement (*similar to Bylaws of corp)
i. Not filed with the state and not publicly available
ii. Oftens covers topics such as membership, governance, finance, dissolution
iii. Flexible structure can be used to revise default rules subject to limits spelled out in ULLCA § 103 (see below)
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C. Liability of LLC Members ( Westec v. Lanham)
a. Default is limited liability (no personal liability for members)
b. Liability on Contract
i. “If both the existence and identity of the agent’s principal are fully disclosed to the other party, the agent does not become
a party to any contract which he negotiates… But where the principal is partially disclosed (i.e. the existence of a
principal is known but his identity is not), it is usually inferred that the agent is a party to the contract.”
1. Where existence and identity of principal disclosed = agent not a party to K, NL
2. Where existence known but identity not disclosed = agent party to the K and L
ii. Filing of Articles of Organization alone under § 102 does NOT put the other party on notice of LLC status
1. Putting “LLC” on business card would suffice
Westec v. Lanham: LLC member entered into a K with a third party. Only provided his name and a card that said
“PPI.” LLC defaulted on the K.
Hold: Individual L on K member was a party since undisclosed principal and he was an agent just
“PPI” gave no notice of LLC and identity to the other party
D. Operating Agreements
a. § 103(a)
i. Members of LLC may enter into an operating agreement to regulate the conduct of business and relations among
members, managers and the company
1. May NOT change provisions of ULLCA specified in § 103(b)
2. Default Rules apply unless changed by operating agreement
b. § 103(b) The operating agreement may NOT:
i. Restrict a member’s access to records or information
ii. Eliminate duty of good faith and fair dealing or loyalty or care
1. Duty of Care: Can’t discharge responsibilities you have to the business in a diligent way not involving negligence
or grossnegligence [
waiver of liability/exculpation clause ]
iii. Change the right to expel a member
iv. Vary requirements to wind up LLC in case of dissolution
v. Avoid potential criminal liability
Restrict the rights of persons other than manager, member, transferee
1. Protects third parties
vi. Offend public policy
(Exculpatory clause between members)
Elf v. Jafari
: Arbitration clause in LLC Agreement that was knowingly agreed to one party then tried to escape under
DE provision to be able to bring a derivative action
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Arbitration clause enforced: So long as something is not a mandatory provision of LLC Act (which here it was
not), the LLC agreement trumps it
Courts favor freedom of contract
E. Piercing the LLC Veil
a. ULLCA § 303
i. Debts, obligations, liabilities of LLC belong solely to the company
ii. Member or managers NOT personally liable for debts, obligations and liabilities of LLC, whether arising in contract, tort,
or otherwise
iii. Failure to observe formalities or requirements for exercise of power or management are NOT grounds for imposing
personal liability
iv. Members can become liable for debts, etc. if they so consent in writing and include provision in articles
b. Can pierce LLC veil just as you can pierce corporate veil no reason to treat LLCs any differently in that regard
c. Different factors to pierce than corporate veil
i. Since corporations are more formal, would not look to maintenance of formalities for LLCs
Kaycee v. Flahive :
Piercing LLC veil case gives above rule that it is possible to pierce LLC veil even though WY
statute holds that no personal liability for members or managers of LLC
F. Fiduciary Duties of LLC Members
a. ULLCA § 409: General Standards of Member’s and Manager’s Conduct
i. Members owe duty of loyalty and care to member managed company and its other members
b. Duty of Loyalty
i. Accounting for profit from use of property of LLC and appropriation of corporate opportunity, refrain from acting
adversely to the LLC’s interests, refrain from competing with the company in the conduct of its business before
dissolution
c. Duty of Care
i. Do not engage in grossly negligent or reckless conduct, intentional misconduct, knowing violation of the law
d. ULLCA § 409
i. Manager in manager managed company owes same duties prescribed for members
1. Members who do not manage owe no duties (nonmanaging members may compete)
McConnel v. Hunt Sports Enterprises :
Member of CHL LLC was competing with the LLC for the NHL Franchise.
Operating Agreement explicitly allowed for competition “including any venture which might be competitive with the
business of the company”
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No breach: was allowed to compete because of provision, since parties were informed and was not ambiguous
Mandatory provision cannot eliminate the duty of loyalty. But here didn’t completely eliminate it just
allowed for competition.
G. Style of LLC Management
a. ULLCA § 404
i. Member managed: Members have equal rights in management, majority voting for business decisions
1. Fiduciary duties owed by members to the company itself and to other members (409)
2. § 404: Members have equal rights in management, majority voting for business decisions
3. Need other member’s consent to act on behalf of LLC (ex: choosing to assert a counterclaim)
ii. Manager managed: Managers have equal rights in management, majority voting by managers for business decisions
1. Managers owe fiduciary duties, members do not (409)
2. Managers have equal rights in mgmt, majority voting by managers for business decisions
a. Managers must be designated, removed, replaced by majority of Members
b. Consent of all Members required for certain important events
H. Agency in LLC
a. § 301: MemberManaged LLC
i. Each member is an agent of the LLC for purpose of its business and acts of Members if apparently carrying on ordinary
business of the LLC binds the company, unless there was no authority and 3P knew this
ii. Acts not for apparently carrying on ordinary business binds ONLY if authorized by other members
b. § 301: Manager Managed LLC
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 ordinary business of the LLC binds the
company, unless there was no authority and 3P knew this
iii. Act of manager not for apparently carrying on ordinary business binds company ONLY if authorized and required by
ULLCA § 404
I. Dissolution of LLC
a. § 801: Events of Dissolution
i. (1) Event specified in the operating agreement
ii. (2) Consent of the number or percentage of members specified in the operating agreement
iii. (3) Event that makes it unlawful for the business of the company to be continued (except for cure within 90 days after
notice to the company)
iv. (4) On application by a member or a dissociated member, upon entry of a judicial decree that (list in statute)
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b. § 802: Winding Up After Dissolution
i. LLC continues after dissolution ONLY for the purpose of winding up its business
c. § 805: Filing of Articles of Incorporation
i. Any time after dissolution and winding up LLC may terminate its existence by filing with secretary of state
articles of termination state: name of company, date of dissolution, and business has been wound up; existence
of LLC is terminated upon filing of these articles
d. § 807: Disposing of known claims by giving notice to creditors
i. Disposing of known claim s by giving notice to creditors : creditors have 90 day window upon receipt of claim
to commence a proceeding to enforce the claim
e. § 808: Disposing of other claims by publishing notice to creditors in a newspaper
i. Other claims are barred
f. § 806: Creditors must be paid
i. Creditors must be paid first (along with members that are creditors) then members are entitled to return of
contribution, finally whatever is left is distributed equally among members
g. § 808(d)(2) Member liability to creditors up to amount received in distribution
New Horizons v. Haack : Woman and brother formed an LLC, entered into a K that LLC could not pay off. Dissolved LLC but did
not give notice to creditor then tried to evade personal liability since LLC.
Hold: Personal L for debt did not dissolve LLC properly (file articles of termination under 805) or provide proper notice
to creditor (under 808)
V. CORPORATE FIDUCIARY DUTY
A. Duty of Care
a. Intertwined with Business Judgment Rule (141(a))
i. Mere error of judgment not violation of duty of care
ii. Simple negligence not violation must be gross negligence
iii. To warrant judicial interference: “Fraud, illegality, bad faith, oppression, arbitrary action, breach of trust” (Kamin)
iv. Selfinterested decision making could be breach
v. Uninformed decision could be breach
Kamin v. American Express : Shareholder derivative suit alleging waste of corporate assets by board of directors because
they declared dividend of devalued stock instead of selling it for a loss
Hold: Protected by BJR not breach of duty of care respect discretionary powers of corporate management
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Even if it was misjudgment, was not shown to be fraudulent, unconscionable, selfinterested, or grossly
negligent; also were informed of all aspect of decision
b. Good Faith Reliance on Records and Reports
i. DGCL § 141(e)
1. In performing their duties, board members may rely in good faith on records of corporation and on information,
opinions, reports, statements presented to the corporation by corporation’s officers or employees
2. Decision makers must be fully informed in making decisions
c. Management by Board of Directors
i. DGCL § 141(a) Board Authority
1. Business and affairs of corporation shall be managed by or under the direction of a board of directors
ii. DGCL § 141(b) Board Composition and Action
1. Composed of one or more members (fixed in bylaws or certificate)
2. Majority of total # = Quorum (can reduce to ⅓ in bylaws unless cert. provides otherwise)
3. Valid Board Action = vote of majority of directors present at a meeting with a quorum present (can require
supermajority in cert. or bylaws)
d. Shareholder Voting
i. DGCL § 216
1. Majority of shares entitled to vote shall constitute a quorum at a stockholder meeting (can reduce to ⅓ in
certificate or bylaws)
2. Vote of majority of those present or represented by proxy shall be the act of the stockholders (except for election
of directors)
3. Directors elected by plurality
e. Merger Approval Procedures
i. DGCL § 251(b) Board Approval
1. Board of each merging corporation shall adopt a resolution approving an agreement of merger and declaring its
advisability
ii. DGCL § 251(C) Stockholder Approval
1. Merger agreement shall be submitted to stockholders for approval
2. Majority of shares entitled to vote must approve
3. If approved by stockholders, merger agreement (or cert. of merger) is then filed and become effective
Smith v. Van Gorkom : Cash Out Merger wherein two independent companies come together to form one
company. One company acquires the other by paying out value of shares or target company. Target company
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merged out of existence. Shareholder of target company claiming that board did not act correctly in this deal by
not getting the highest price for their shares.
Hold 1: Breach of § 251(b) duty of care did not take accurate time and information gathering before
making decision
Not protected by BJR since did not act in an informed basis, good faith
Look to process and information used to determine decision whether adequate
Decided to agree within 2 hours and did not do “market test” to see value
Hold 2: Duty of the board to get the highest price for stockholder shares, not just a fair price.
Violation of this as well. Same reasoning as above
f. Limits on Director Liability
i. DGCL § 102(b)(7)
1. Certificate of incorporation may contain provision eliminating or limiting personal liability for director for
monetary damages for breach of fiduciary duty EXCEPT for
a. Duty of loyalty
b. Lack of good faith, intentional misconduct, knowing violation of law
c. Violation of Section 174 on dividends
d. Transactions in which director derived improper personal benefit
g. Standard of Care for Directors (NJ Law Francis)
i. What diligence would an ordinarily prudent director exercise in the conduct of their business
ii. Extent of due care depends on nature of business, size of business, and financial resources
1. Bank directors held to higher standard of care since entrusting money to them
iii. Must acquire rudimentary understanding of business corporation
iv. Must keep informed and stay current with corporate activities
v. Must not shut eyes to corporate misconduct (general monitoring not detailed inspection)
vi. Must maintain familiarity with financial status of corporation
vii. May rely on lawyers and accountants BUT
1. Must inquire further if financial statements disclosed have problems on their face
2. Must object and take corrective action
3. May have to resign to avoid liability if misconduct continues
Francis v. United Jersey Bank :
Widow who inherited her husband’s position as director of reinsurance brokerage
company. Sons who were managers were withdrawing huge sums of money, she had no idea what was going on
and the corp. went bankrupt. She died and creditors sought recovery from her personal estate.
Hold: She was held personally liable: violation of duty of care as director
No rudimentary knowledge of any business management met (see above standards)
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h. Duty to Monitor Director Oversight
i. Federal Sentencing guidelines
ii. Compliance Programs: Boards have affirmative duty to put corporation information and reporting system in place to
assure compliance with laws
In re Caremark Derivative Litigation : Health service corp. allegedly violating law prohibiting health care
companies from paying doctors to refer patients through Medicaid or Medicare. Federal investigation and
settlement.
Hold: No violation of duty to monitor compliance of corp. met
Director’s obligation includes a duty to attempt in good faith to assure that an adequate corporate
formation and reporting system exists
Failure to do so under some circumstances may render a director liable for losses caused by
noncompliance with applicable legal standards
Must take oversight steps to ensure duty to monitor is met
Here, took adequate steps: had Compliance and Ethics Board, internal audit, employee ethics
handbook, ethics hotline
Also: Duty of Care claim
No negligence since board was aware of all material facts, not acting in selfdealing
B. Duty of Loyalty
Fiduciary duty of directors to act in the best interest of the corporation and shareholders
a. Conflict of Interest Transactions
i. Director has a duty of loyalty to support the corporation’s interest over his own conflicting interests
ii. Any conflicting interest
renders the BJR inapplicable (decision no longer protected by it)
Where there is a conflict between self interest and fiduciary obligation
Standard for reviewing decision burden shifts to defendant Board to show:
1. Good faith of the transaction
2. Inherent fairness from view of corporation
Look to see who primarily benefited from the transaction third party or Corp.
iii. Ratification can also apply under DGCL § 144(a) or State law (here NYCBL § 713)
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Bayer v. Beran : Director’s wife was hired as one person to sing in radio advertisement campaign sponsored by
the corporation.
Determined to be a conflict due to his relationship with her
No violation of duty: Primary purpose was to benefit the company she was paid the same as the other
singers and adequately did the job no showing that it was just done in furtherance of her career
b. Corporate Opportunity Doctrine
i. Taking of a corporate opportunity as your own
ii. Persons covered: Corporate officer or director
iii. Delaware Test
Guth v. Loft
1. Financial Ability
Is corp. able to afford to take on the opportunity
2. Same line of business
Is it within the same line of business as the corp?
3. Interest of Expectancy
Would corp. be interested or expected to take on the opp?
4. Taking the opportunity would create conflict between selfinterest and interest of corporation
Informing the board of the decision before can shield from this
● Need ALL factors to meet corp. opp. if fails one then not a corp. opp.
iv. Where there IS a corporate opportunity duty of loyalty to disclose it to corporation
1. Formal presentation to board and rejection required in order for individual to take it
v. Where NO corporate opportunity party may take for self without consequence
1. Presentation to board and rejection not required is still a safeguard to do so
Broz v. CIS roz was member of board of CIS cell phone company also had his own business. Took on
: B
Michigan2 FCC license for himself when he was told by corp. that it was not interested
No violation of corporate opp. doctrine
Guth Test: 1. Corp. not financially able to take it, 2. Yes, was in the same line of business, 3. No interest
since they were planning to divest, 4. He informally informed the board that he planned to take it and was
given the ok
In re eBay Shareholders Litigation :
eBay Board of Directors were given shares of initial stock that was
underwritten by Goldman Sachs and supposed to go to corp. at large.
Hold: Violation of corporate opportunity doctrine
Guth Test: 1. eBay financially able to take it, 2. eBay not in stock business but was in the business of
investing (controversy since was an online shop business) 3. eBay planned to take this was highly
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integral to strategy, 4. Taking them created a conflict of interest since eBay never had the opportunity to
turn it down
Could also have used common law agency and duty to account for profits stemming from transactions
related to company
c. Dominant Shareholder Duty
i. Majority shareholders have a fiduciary relationship to corporation and minority shareholders
ii. Typically apply the business judgement rule to decisions made
iii. Intrinsic Fairness Test: Where parentsubsidiary relationship and selfdealing is shown
1. SelfDealing = when the parent, by virtue of domination over sub., causes the sub. to act in such a way that the
parent receives something from the sub. to the exclusion of, and detriment to, minority stockholders of sub.
a. Where parent is on both sides of the transaction
2. Intrinsic Fairness= Where there is selfdealing, burden is on the defendant parents to show that the action was fair
to minority stockholders
Sinclair Oil v. Levian: Sinclair was parent company that owned 97% of Levian. Parent appointed all members of
board of directors, declared dividends, etc. Sub. company brought action against parent claiming excessive
payouts of dividends, denial of business opp.s, and breach of K
Court applies BJR for payouts of dividends since not found to be done in self dealing a proportionate
amount of money went to sub. in all business matters
Court applies BJR for opp. bc no evidence that parent usurped this
Court applies intrinsic fairness standard for breach of K since parent was benefiting more than sub. were
receiving oil and sub. was getting nothing
d. Shareholder Ratification
i. DGCL § 144(a) Interested director/officer transaction not void or voidable if:
1. Material fact disclosure and disinterested
director approval, or
2. Material fact disclosure and (disinterested)
shareholder approval, or
3. Contract is fair
ii. Interested shareholder ratification ALONE is not sufficient for 1 or 2 need vote of disinterested shareholders
iii. Try to get 1 or 2 first: if not, can try 3
1. Where only interested shareholders have ratified, burden shifts to corporation to demonstrate that the transaction
was objectively fair
Fliegler v. Lawrence : President of mining company purchasing peice of land that one group of directors did not want.
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Because only the interested shareholders had made the majority, this was not sufficient alone to ratify. The
corporation then had to show fairness which is did since the corp. and all directors received a substantial value
from it
e. Corporate Voting
i. DGCL and Model ByLaws standard for approval of merger (Van Gorkom)
ii. Both shareholders and board of both merging companies must vote
iii. Special meeting convened
1. Must give notice and detailed agenda of topics of discussion
2. Must be within the state and notified at time beforehand
iv. Quorum required to approve unless otherwise specified in bylaws
VII. FEDERAL SECURITIES REGULATIONS
A. Definition of a Security
a. Securities Exchange Commission (SEC)
i. Federal administrative agency that regulates and enforces securities law
ii. Delegated authority by Congress to make rules and adjudicate matters arising under the statute
1. Blue Sky Laws = State level regulation of securities that predates federal securities laws
a. Regulated entities must comply with both state and federal laws
b. Some overlap between the two subject to federal preemption
2. Missouri Regulatory Scheme
a. Securities regulation authority is Office of the Secretary of State
b. Regulates sale of securities and operations of brokerdealers and investment, prosecutes securities fraud
b. Securities Exchange Act of 1933
i. Primary Market Regulation
1. Where corporation is selling securities for the first time directly from corporation to investor
ii. Registration/disclosure is mandatory to avoid fraud
c. Securities Exchange Act of 1934
i. Secondary Market Regulation
1. Investors purchasing/exchanging securities from other investors
2. Scope: Disclosure provisions, antifraud provisions, regulation of markets and market professionals
d. Is it a Security?
i. Securities Act of 1933, §2(a)(1)
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1. “Security” means, unless the context otherwise requires, any note,
stock
, treasury stock, bond, debenture,
evidence of indebtedness, investment contract ….or in general any interest or instrument commonly known as a
security”
2. Where an investment is called a “security” 1934 Act § 10(b) and SEC Rule 10b5 applies
ii. Section 10(b) Securities Exchange Act of 1934
1. It shall be unlawful for any person….to use or employ in connection with the purchase or sale of any security, and
manipulative or deceptive device or contrivance in contravention of [rules and regulations of SEC]
iii. Rule 10b5
1. It shall be unlawful for any person
a. To employ any device, scheme or artifice to defraud
b. To make any untrue statement of a material fact or material omission or
c. To engage in any fact, practice, or course of business...which operates as a fraud or deceit upon any
person
iv. Investment Contract Characteristics Howey,
( S.Ct. 1946)
1. Investment of money
2. In a common enterprise
3. With the expectation of profits
4. To come solely from the efforts of others
v. Stock Characteristics Landreth Timber)
( (S.Ct. 1985)
1. Dividends
a. Right to receive in contingent on profits made
2. Negotiability
a. Should be freely negotiable
3. Can be Pledged or Hypothecated
a. Freely and completely transferrable
4. Voting Rights
a. In proportion to stock owned
5. Capital Appreciation
a. Increase in price (without holder taking action)
vi. Economic Realities
1. Courts are not bound by the labels used by parties will look to what is actually going on
vii. Differences in Organization
1. Close Corporation
a. Look to general characteristics of investment contracts and stocks these would apply
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2. General Partnership
a. Are NOT treated as investment contracts would have to show under Howey
3. Limited Partnership
a. Are typically treated as investment contracts
Robinson v. Glynn
F: Purchased a membership in an LLC that he was also the treasurer and on the board of managers. Brought suit
under Securities Law violation, claiming his interest was a security.
1. Was the interest an investment contract?
No Did not meet Howey requirement that the profits would come solely from the efforts of others (need
a passive role) since he had control over the LLC and active in controlling (economic realities)
2. Was it a stock?
No Court looked to see whether it met the characteristics of stocks (Landreth factors) did not meet
these looked much more like a traditional membership in an LLC
B. Security Registration
a. Registration
i. Securities Act of 1933, §5
1. Unlawful to sell or offer for sale securities in interstate commerce unless securities are registered with the SEC
2. Issuer must provide disclosure in a prospectus
a. Prospectus = document Extensive info about finances and business
3. Remedy for selling unregistered securities is rescission
ii. Exemptions from Registration
1. Certain types of securities
a. Ex: U.S. government securities
2. Certain types of transactions
a. Private placement (§4(2)) one that is not a public offering
a. Four Factors Test (5th Circuit Doran)
1. Number of offerees and relationship to each other and the issuer*
a. Smaller number of offerees
i. Investment sophistication does not matter still need access to info or
disclosure
b. Does the relationship allow information that would be equivalent to that of a
public offering (in registration statement) *most critical aspect
i. Realistic opportunity to learn facts essential the investment judgment
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2. The number of units offered
a. Small number
3. The size of the offering
a. Lower financial stakes
4. The manner of the offering
a. Personal contact between issuer and offerees, no public advertisement or
investment bankers, securities exchange
b. Ralston Purina Test
1. Turns on access to information and knowledge of offerees
2. Did the people who received the offers need the protections of the registration provisions,
or were they able to fend for themselves?
3. Basically 1st Factor of 5th Circuit Test
Doran v. Petroleum Management (5th Circuit)
Shares of an LLC that were considered to be investments were sold, which were never registered.
Defense trying to claim private offering exemption from registration
Hold: Not a private offering; Factors 24 were met, but Ralston/Purina + factor 1 was not.
No showing that the investors here had the same information at their disposal as investors
would have at a public offering.
b. Fraud in Registration Statement
i. Section 11 of the 1933 Act
1. Material misstatement or omission in a registration statement is actionable fraud by person acquiring such security
has express private right of action against
a. Any person who signed registration statement (underwriters)
b. Any director
c. Any expert ( accountant, engineer, appraiser,
NOT lawyer) who prepared or certified part of the
registration statement
2. Subject to DEFENSES burden shifts to D to prove affirmative defenses
a. Loss Causation where the D shows that the reason there was a problem was because of a factor other
than material misrepresentation
b. Due Diligence that you tried to verify the basis of the information to determine if it is true and had no
reason to believe there was any misstatement or omission
Typically delegate this to a law firm
Does NOT apply where the Corporation is the defendant strict L
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“Reasonable investigation” = one that a prudent person in management of his own property
would conduct
● 11(b) Standards for Experts:
○ Expertised portion: Reasonably believes, after reasonable investigation, info is true
○ NonExpertised portion: No liability
● 11(b) Standards for NonExperts
○ Expertised portion: No reason to believe information false
■ Low level of proof
■ Do not have to go out and verify information but if they know something is false then it is
not satisfied)
○ Nonexpertised portion: Reasonably believes, after reasonable investigation, info is true
3. Remedy = damages
● Price paid by investor – Market price with proper information
Escott v. BarChris : Plaintiffs had purchased debentures from D claimed sale was in violation of §11 because failure to
register accurately contained materially false statements and omissions
Defendants tried to invoke defense of due diligence
Hold: Due diligence NOT met
Not a “reasonable investigation” each of the defendants either took the truthfulness of the balance sheet
for granted or at best gave a cursory review of it by accepting the answers to their questions without
verifying their accuracy
c. Section 10(b) of 1934 Act and Rule 10b5
a. Section 10(b)
i. In connection with the purchase or sale
of securities, using jurisdictional means, it is
unlawful to use or employ
manipulative or deceptive device s in violation of SEC rules
b. Rule 10b5
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 and omissions, or to engage in any act operating as a fraud or deceit.
c. 10(b) is the mostly widelyused antifraud provision in Fed. Securities Law
d. Types of cases: Defective corporate disclosure, insider trading, fraud in dealings between brokerdealer and customers
e. Implied private right of action that is wellestablishes
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f. Elements of Private Right of Action:
i. Material misrepresentation or omission
ii. Scienter
iii. Reliance
iv. Causation
v. Damages
A. Insider Trading
a. Classic Insider Trading 10(b)
i. Disclose or Abstain Rule
1. Anyone in possession of material inside info (corporate insider) must either disclose it to the investing public or,
if disabled from disclosure to protect corp. confidence, must abstain from trading or recommending the security to
others
2. Materiality standard
a. Basic = Whether a reasonable investor would attach importance to the information in making choices
about the transaction
b. Speculative (future information): The probably that the event will occur and the anticipated magnitude of
the event
3. “In connection with” Requirement
a. Anything that would cause reasonable investors to rely on thereon, and, in connection therewith, so
relying, cause them to purchase or sell a corporation’s securities
SEC v. Texas Gulf Sulphur : Oil drilling case had found high mineral content but gave misleading info
about it in public press release and purchased stocks for themselves
Hold: Violation of 10(b) insider trading Disclose or abstain rule
If they were going to choose not to disclose this info to the general public, they cannot take
advantage of it and buy shares for themselves (should have abstained)
Was material since necessary and important in choice to purchase, and speculative value
for the future
ii. Insider Requirement
1. In re Cady Roberts C o: Common law duty of corporate insiders (officers, directors, controlling shareholders) to
disclose inside information when dealing in securities
2. Disclose or Abstain rule applies to corporate insiders only the duty does NOT arise from mere possession of
material inside information
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Chiarella :
No liability for a worker who happened to see documents and decided to invest in a company
he did NOT have the relationship of trust with shareholders of the company in whose stock he traded (was
an outsider, not an insider so disclose/abstain did not apply)
b. Tipper/Tippee Liability
i. When a tippee (person receiving insider info and trading as a result) has liability for getting tip (from tipper)
1. Tippee is liable where Tipper breached a fiduciary duty AND
a. Where tipper has fiduciary duty to the corporation and breached through disclosure
i. Mere possession of the material inside info does NOT give rise to duty to disclose
b. Tipper gaining some direct personal benefit from tipping
2. Tippee knew or should have known of the breach
Dirks v. Securities and Exchange Commission : Former officer of a corp. told Dirks inside info, who told other investors
who then sold stocks.
NL for Dirks: No fiduciary duty breach between him and the corp. he did not have a fiduciary duty, and did not
gain personal benefit from disclosing
c. Outsider Trading Prohibition
i. Misappropriation Theory
1. Outsider violates 10b/10b5 when he trades on material nonpublic information in breach of a duty owed to the
source of such information
a. Disclosure to source of information negates breach
b. Purpose is to protect integrity of markets against abuses of outsiders who have access to confidential info
that will affect a company's stock price but who owe no fid. duty to the corporation’s shareholders
See O’Hagan
(below)
d. Insider Trading Prohibition in Tender Offers
i. Section 14(e)
1. In connection with a tender offer, it shall be unlawful to make material misstatements or omission or to engage in
fraud, deception or manipulation
ii. Rule 14e3(a)
1. 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 info obtained from offeror, issuer or any officer, director, partner, or employee to
either offeror or issuer
iii. Tender Offer = Open to the public merger or takeover
iv. No need to show breach of fiduciary duty to find violation of these rules
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U.S. v. O’Hagan : Partner at a law firm was representing a tendering company, which was buying shares of Pillsbury. He used
inside info that belonged to the client to trade purchase Pillsbury stock
Violation of 10b5 and 14e3
10b5: Misappropriation theory he owed a fid. duty to the client (source of the info), breached in use of info to
trade/purchase
14e3: Tender offer liability and this law is a valid exercise of SEC power to enact it and does not need to show
fiduciary duty
e. ShortSwing Profits
i. Section 16(a) of 1934 Act
1. Requires reporting of transactions in equity securities by insiders of public companies (“issuers”)
2. Insiders = directors and officer of interest who directly or indirectly are the beneficial owners of more than 10%
of any class of equity security of issuers (“covered persons”)
ii. Section 16(b) of 1934 Act
For the purpose of preventing the unfair use of information which may have been obtained by such beneficial owner,
director or officer any profit
by reason of his relationship to the issuer, realized by him
from any purchase and sale, any
sale and purchase of any equity security of such issuer…. within any period of less than six months … shall inure to and
be recoverable by the issuer… This subsection shall…not cover any transaction where such beneficial owner was not
such both at the time of the purchase and sale or the sale and purchase of the securities involved…
1. Who is Covered:
a. Officers of company
b. Directors of company
c. Someone who is a control shareholder 10% or more (“beneficial shareholder”)
i. Must own 10% or more AT THE TIME of purchase or sale not that this purchase brings you up
to 10%
2. What Activity is Covered
a. Buying and selling shares of a company within a six month time period
3. Remedy if covered person engages in the activity?
a. Have to pay over profits from the transaction to the company of whose stock you are trading, even if you
did not use any insider information
Reliance v. Emerson : Reliance wanted to dispose of its newlyacquired 13% stock of Emerson in two transaction, so as
to avoid liability under 16(b). First sale brought them exactly under 10%, second sale disposed of the rest.
Hold: They were only liable to turn over profits for the first sale this strategy is recommended to people like
Emerson who want to get rid of stocks. Only have to be a 10% shareholder before the sale
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A. Indemnification and Insurance for Corporate Management
a. Delaware corporations have power to indemnify, grant advances, and insure covered persons as specified
b. Covered persons
i. Any person who becomes a party to legal action by reason of service as director, officer, employee, or agent
c. Indemnification permitted
i. Third Party Suits 145(a)
1. Corporation may indemnify against expenses and judgements if the person acted in good faith
ii. Derivative Suits 145(b)
1. Corporation may indemnify against expense
s if the person acted in good faith
iii. Mandatory Indemnification* 145(c)
1. If the
defendant director, officer, employee, or agent is
successful on the merits such person shall be indemnified
against expenses *required
a. Successful on the merits = any result short of an adverse judgment entered against him. Includes
settlement, doesn’t have to be litigated through the merits
iv. Advances of Expenses to Officers and Directors 145(e)
1. Corporations may grant advances with a written undertaking to repay if not entitled to indemnification
a. Condition: Person would have to agree return the advance if indemnification is not proper (ex: bad faith)
v. Additional Rights May Be Granted by Contract 145(f)
1. Can go beyond the statutory provision (provide more coverage) but cannot conflict/ inconsistent with the
provisions
a. Ex: Cannot waive the good faith requirement of 145(a) (Waltuch)
d. Insurance 145(g)
i. Corporation may insure covered person against liability
1. Ex: Insurance for directors/officers
Waltuch v. Conticommodity :
Corp. articles of incorporation provision that stated the Corp. shall indemnify and hold directors,
officers, agents harmless in all circumstances no requirement of good faith. VP had suit brought wanted reimbursements for
suit in connection with crash of silvers market.
Hold; The provision could not stand, since it was inconsistent with 145(a), under 145(f)
But he was successful under 145(c) since there was a settlement. Did not require “moral vindication”
B. Proxy Regulation
a. Proxy = Shareholder appointing agent to attend meetings and vote on your behalf (covers election of directors, corporate actions,
shareholder proposals)
i. Those who have small amounts of stock in large public corps. and are apathetic towards meetings
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ii. Proxy also refers to the document representing the right to act on the shareholder’s behalf
iii. Incumbent = person already in office
iv. Insurgent = person trying to get in
b. Proxy method of voting: whoever has the most provies usually win
c. Proxy Fight = Use of proxies to gain corporate control and elect your people to the board
d. Federal Law § 14(a) of 1934 Act requires proxy solicitation for reporting companies to comply with SEC rules
i. SEC Rules require disclosure to accompany proxy solicitation, specify form of proxy card, require prior filing and
review of proxy statement and proxy card, prohibits false and misleading proxy solicitations
e. State Law
i. DGCL §212(b) permits use of proxies
ii. DGCL § 211(b) requires annual meetings of shareholders for election of directors
iii. State case law on strategic use of proxies and cost reimbursement in proxy contest
f. SEC Rule 14a8: Shareholder Proposals
i. Definition: Recommendation or requirement that company and/or board take action which you intend to present at a
meeting of shareholders
ii. Company must include information in proxy statement and identify it in form of proxy subject to procedural limitations
and the right to exclude
g. Procedural Limitations
i. Must own $2000 or 1%
ii. May submit one proposal, not to exceed 500 words
iii. Management must include it unless it can meet burden of showing proposal may be excluded for one of the reasons set
forth in question 9
1. Must notify shareholder and give opportunity to correct
2. Must file reasons with SEC
h. SEC Rule 14a7: Common Carrier Obligation
i. Management must mail shareholder materials or provide shareholder with a list of names and addresses of other
shareholders
i. Reimbursements for Proxies state law
i. Annual meeting of shareholders with uncontested board election: Incumbents may charge the firm for proxy costs
1. Limits imposed by courts
ii. Proxy contest: Incumbents may charge firms for proxy costs; Insurgents may be reimbursed if they win and shareholders
ratify
iii. Corporations can reimburse management for their expenses in connection with proxy solicitation so long as the fight is
about corporate policy matters
not just personally wanting to keep incumbents in office
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1. Even where another group of shareholders is launching a proxy fight
iv. Right to be reimbursed for reasonable and bona fide expenses incurred
Levin v. MGM : Corporate control battle of two shareholders soliciting proxies to gain control
No violation of proxy law: was a proxy fight for proper business policy purpose
No illegal or unfair means in obtaining the proxy vote scrutinize amounts spent to ensure reasonable and not excessive
Rosenfeld v. Fairchild : Corporation reimbursed an insurgent group that was successful in taking over the company through proxy
fight
Reimbursements upheld: was not an unreasonable amount of money, was pursuant to corp. policy, not illegal
If insurgents lose: cannot be reimbursed; can only be reimbursed if they win and shareholders ratify the
reimbursement (plus above reasons)
C. Shareholder Inspection Rights
a. Ability of Shareholders to obtain shareholder list or other corporate records regulated by state law
b. NYBCL §1315
i. Access to corporate records such as shareholder lists must be permitted to qualified shareholders on written demand . The
petitioner must furnish an affidavit
that the inspection is not desired for a purpose other than the business of the
corporation, and that the petitioner has not been involved in the sale of stock lists within last five years;
have to have at
least a 5% interest
c. DGCL § 220
i. Any stockholder shall, upon written demand under oath stating the purpose thereof, have the right….to inspect for any
proper purpose the corp’s stock ledger, a list of stockholders, and its other books and records, and to make copies and
extract therefrom
1. Proper purpose = reasonably related to person’s interest as a stockholder (i.e. business/economic purpose)
2. Burden on the shareholder to prove the proper purpose of something other than shareholder list (if shareholder
list, then burden is on corp. to prove improper)
Crane v. Anaconda : Crane corp. was shareholder of Anaconda and wanted list of stockholders of Anaconda because was trying to
take over and buy up stock. Anaconda was resisting turning over the list
Had to disclose list under NY law §1315
Proper purpose = not trying to harm the corp. they wanted to know if someone else was trying to buy them out which
was not improper
Pillsbury v. Honeywell (
Delaware) :
Guy bought 100 shares in Honeywell because he was against production of munition in
Vietnam War, which the corp. was doing.
Did not have to disclose DGCL § 220
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Not a proper purpose here since was moral and economic reasons and trying to thwart the production would have had
to be related to his economic or profit interest
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