Agency

Restatement (2nd) Agency, Section 1- Formation of Agency

1. Manifestation of consent [assent] by principal
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

Gordon v. Doty (nice teacher lending her car)  court says agency existed because
Doty gave her keys, gave conditions, and Gordon accepted.

Restatement (2nd) Agency, Section 140- Agency vs. Creditor-Debtor

Creditor who assumes control of his debtor’s business…may become a principal…
with liability for acts and transactions of debtor in connection with his business
Comment: “merely exercising veto power…by preventing purchases or sales above
specified amounts does not thereby become a principal”
Comment: Creditor becomes a principal when it exercises de facto control over
conduct of debtor

Restatement (2nd Agency, Section 14K- Agency vs. Buyer-Supplier

One who contracts to acquire property from a third person and convey it to another
is the agent of the other only if agreed that he is to act primarily for the benefit of
the other and not for himself.
Comment: Factors indicating that one is a supplier and not an agent are:
1. Receives fixed price for property no matter what price paid by him
2. Acts in own name and receives title to property later transferred
3. Has an independent business in buying and selling similar property

Jensen Farms v. Cargill (Cargill is lender who showed some control)  Cargill was
liable as principal because they were regularly supervising Jensen and eventually
controlled the grain elevator. So not buyer-supplier and not creditor-debtor.
*Note: Cargill violated #3 of the comment

Types of Authority
Actual (Express or Implied)
Apparent
Inherent
Estoppel
Ratification
Restatement (2nd) Agency, Section 7- (Actual) Authority
Power of agent to affect legal relations of principal done in accordance with
principal’s manifestation of consent to agent
Note: There are two types express (actually telling someone to work on your behalf)
and implied (see below)

Restatement (2nd) Agency, Section 26- Creation of (Actual) Authority

1. Objective manifestation of principal
2. Agent’s reasonable interpretation of that manifestation
3. Agent’s belief that she is authorized to act for principal

Restatement (2nd) Agency, Section 35- When Incidental (Implied) Agency in

Inferred
Acts that are incidental, usually accompany, or are reasonably necessary to
accomplish a transaction
Fills the gaps in express authority

Mill Street v. Hogan (men painting the church)  Although the Elders did not say
“hire Sam” they did say that a helper might be needed and there were incidents
were Sam had helped in the past, so it could be inferred that agency existed.

Restatement (2nd) Agency, Sections 8 and 27- Apparent Authority and Creation
of Apparent Authority
1. Objective manifestation from one party (apparent principal)
2. Which reaches a third party
3. Causing the third party to reasonably believe that another party (apparent agent)
is authorized to act for the apparent principal
 What counts as a manifestation by the principal?
 Direct communications from principal by letter/word of mouth
 Authorized statements of the agent
 Documents or other indicia of authority given by the principal to the
agent
 Communications from third persons who have heard of the agent’s
authority from authorized or permitted channels of communication
 Appointing a person to a position like manager or treasurer which
carries with it generally recognized duties
 Communication to the public through signs or advertising
 Continuously employing the agent
370 v. Ampex (370 manager asks for specific salesman, but he only has limited
authority)  The contract that the salesman made with 370 is binding. A
reasonably prudent person needs to believe that the salesman had authority, and
because there was no notification to 370, documents saying that the salesman is
authorized to act, and it is reasonable to presume that the salesman was not limited.

Restatement (2nd) Agency, Sections 8A, 161, 194, 195- Inherent Authority
Principal liable for acts done on his account that usually accompany or are
incidental to transactions agent authorized to conduct
Exists for the protection of persons harmed by or dealing with a servant or other
agent
 R2d Agency §3(a): General Agent is an agent authorized to conduct a
series of transactions involving continuity of service.
 R2d Agency §3(b): Special agent is an agent authorized to conduct a
single transaction or a series of transactions no involving continuity of
service.

Watteau v. Fenwick (England; Humble’s name was on the bar and the licenses, so it
appeared he owned it)  Court said there was inherent authority because it could
easily be assumed that someone who is ordering things at a bar with their name had
the authority.

Restatement (2nd) Agency, Sections 82, 83, 91- Ratification

Retroactive approval of a previously unauthorized act
Affirmance through words, conduct, silence indicating consent
Requirement of intent and knowledge of all material facts

Botticello v. Stefanovicz (Botticello bought property from Mr. Stefanovicz under a

belief he had the “lease to own” provision, but Mrs. Stefanovicz never signed
anything)  Court says NO ratification. Marriage on its own does not prove agency
relationship. Mary knew Botticello occupied the land, and rented it…but did no act
to ratify that Botticello would OWN the property. It isn’t even clear she knew all the
material facts (that there was an agreement to rent-to-own)
Restatement (2nd) Agency, Section 8b- Estoppel
Principal allows another (who has no authority) to create appearance of authority
and does not correct the misimpression
Reasonable belief by third party
Change in position of third party (reliance)

Hoddeson v. Koos Bros (ripoff furniture salesman)  Here, the department store
allowed the fraud to create the appearance of authority. They should have put in
protocol like name IDs or uniforms.

Restatement (2nd) Agency, Sections 4 and 321- Partially Disclosed Principal

Partially disclosed principal = third party has notice that agent may be acting for a
principal but has no notice of principal’s identity
Person purporting to make a contract with a third party for a partially disclosed
principal is a party to the contract

Restatement (2nd) Agency, Section 4- Disclosed Principal

Disclosed principal = at the time of the transaction conducted by the agent, third
party knew agent was acting for a principal and knew the principal’s identity
If agent is acting on behalf of a disclosed principal, the agent is not liable on the
contract.

Restatement (2nd) Agency, Section 4- Undisclosed Principal

Undisclosed principal = third party has no notice that agent is acting for a principal
If agent is acting on behalf of an undisclosed principal, the agent is liable on the
contract.

Atlantic Salmon v. Curran (plaintiff made fraud companies)  Court found the
“agent” liable because…The duty rests upon the agent, if he would avoid personal
liability, to disclose his agency and not upon the other to discover it. It is not enough
that the other party has the means of ascertaining the name of the principal. The
agent either needs to bring to him actual knowledge or else the agent will be bound.
Restatement (2nd) Agency, Sections 2 & 219- Respondeat Superior Liability
Master is subject to liability for torts of his servants committed in the scope of
employment
 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 …
 Servant = agent employed by a master to perform service in his affairs
whose physical conduct in the performance of the service is controlled
or is subject to the right to control by the master
 Independent contractor = person who contracts with another to do
something for him but who is not controlled by the other nor subject to
the others right to control with respect to his physical conduct … may or
may not be an agent

Servant vs. IC Factors

- Extent of control over details of work
- Engaged in distinct business or occupation
- Whether occupation us usually directed by employer or independently carried out
- Level of skill
- Who supplies tools and place of work
- Length of time of employment
- Method of payment (hourly or per job)
- Whether work is part of regular business of employer
- If parties believe they are creating a master/servant relationship
- If principal is in business

Humble Oil v. Martin  Court found that this case had a “master-servant”
relationsip. They look at the control and the factors. Humble retained title until
delivered to customers. Humble place strict system of financial control. Humble
had business discretion except for hiring, discharge, employee payment. Humble
furnished all equipment, advertising, medial, products. Humble controlled hours of
operation. Only Humble could terminate agreement.

Hoover v. Sun Oil  Court found that this case had an “independent-contractor”
relationship. Sun did not control day-to-day operations. Sun’s represenatives made
weekly visits, but they only made suggestions, not mandates. Sun did not assume
any risk of profit/loss. Sun did not determine hours. Sun and the IC had a mutual
interest, not just Sun’s. Either party could terminate agreement.

Restatement (2nd) Agency, Section 228- Agency & Acts Within the Scope of
Employment
Of the kind he is employed to perform
Within authorized time and space limits
Purpose to serve the master
If force intentionally used, use of force not unexpectable by the master

Restatement (2nd) of Agency, Section 229 Factors of Scope of Employment

 Act commonly done by servants
 Time, place & purpose of act
 Previous dealings between principal & agent
 How business is apportioned between different servants
 Act outside of enterprise of master or not entrusted to servant
 Master expectation that act will be done
 Similarity to act authorized
 Instrumentality furnished by master
 Departure from normal methods
 Act is seriously criminal

Ira Bushey v. U.S. (drunk seaman damages dry dock)  Lane’s return to the ship
(though drunk) was clearly to serve the government, even though no one is sure
why he took the action that caused the damaged. But the level of foreseeability in
Respondeat superior only requires that an employer could perceive that harm could
flow from actions of their employees (whether or not they take all precautions). The
idea of a sailor who gets drunk and negligently does damage is foreseeable. The
government would not be liable if he was doing something related to his personal
life, but because they gave Lane access to the ship and the wheels, negligence was
foreseeable.

Restatement (2nd) Agency, Sections 2, 220- Liability for Torts of Independent

Contractors
General rule: One who hires an independent contractor is not liable for such
contractor’s negligent actions
Exceptions:
1) Retain control of manner and means of doing work;
2) Engages an incompetent contractor;
3) Inherently dangerous activity
 R2d Torts Section 416: One who hires an independent contractor to conduct
inherently dangerous activity requiring precautions is liable if contractor is
negligent in taking precautions
 Distinguish ultra-hazardous activities  If an activity is ultra-hazardous, you
are liable PER SE (no matter if IC was negligent or not)

Majestic Realty v. Toti Contracting (negligent demolish work ruins Majestic’s roof)
 This activity was inherently dangerous (not ultra-hazardous) and therefore this
is an exception to the run that employers are not liable for IC’s negligent actions.
Although Toti was innocent of direct negligence, the court said they should bear
damages over totally innocent Majestic (instill better hiring practices; only hire safe
workers)

Franchises
Franchise = licensing system used in business
Franchisor = party that grants franchise rights by contract
 Franchisor obligations = license use of valuable name, logo and “system”

Franchisee = party that contracts for franchise rights

 Franchisee obligations = payment of royalties & advertising fees; must
operate within “system” (set forth in contract and/or operating manual)

Murphy v. Holiday Inn (guest is injured at Holiday Inn, but they say they were just
licensor)  Court holds that this franchisee contract did not establish a master-
servant relationship. The day-to-day operations were controlled by the hotel
owner, not Holiday Inn. The contract mostly protected Holiday’s trademark…it did
not grant control.
Note: This case had boiler-plate language that disclaimed Holiday Inn from
liability. But the court doesn’t follow this. They say agency can arise even if the
parties expressly deny it. It just happens that in this case, the control factor shows
that agency did not exist.

Restatement (2nd) Agency, Section 267- Apparent Agency

One who represents another as his servant or agent
Causing a third party to justifiably rely on care or skill of such agent
Is liable for harm caused by lack of care or skill of such agent

Miller v. McDonalds (diner is injured by eating a Big Mac)  Court holds McDonalds
summary judgment was improper because a jury could have found two principles:
Agency and Apparent Agency? McDonalds clearly controlled the restaurant.
McDonald’s controlled the operating analysis, mandated what supplies were used,
mandated appearance, mandated employee uniforms, mandating packaging, and
listed strict standards for food/beverage. Even though the contract said McDonald’s
wasn’t liable, because McDonalds went beyond setting standards and instead
controlled…agency existed.
But there is also an issue of apparent agency (NOTE, this probably would have
applied to Holiday Inn if the issue had been raised) McDonalds held 3K out to be an
agent due to the control and Miller justifiability relied on McDonald’s standards of
quality.

Restatement (2nd) Agency, Section 1- Fiduciary Relationship

“Agency is … [a] fiduciary relationship”
A fiduciary relationship is one involving trust and confidence
Agent must place principal’s interests over his/her own

Restatement (2nd) Agency, Section 387- Duty of Loyalty

Agent is subject to a duty to act solely for the benefit of the principal in all matters
relating to the agency

Reading v. Regen (Plaintiff took job sitting on truck to help people smuggle in goods
by wearing his army uniform on the truck)  Court held this was an improper use
of his uniform. Plaintiff was violating his duty owed to the employer to make money
for his own. Plaintiff owed loyalty, had a duty to act solely for the benefit of the
principal.

Restatement (2nd) Agency, Section 388- Duty to Account for Profits Arising Out
of Employment
If Agent makes a profit in connection with transactions conducted by him on behalf
of the Principal, Agent must turn over profit to Principal
Example: Principal authorizes Agent to sell land for a fixed price. Agent makes a
contract to sell land to third party who makes a nonrefundable deposit. Third party
does not conclude the sale and forfeits the deposit. Agent sells the land to another
person. Agent is under a duty to Principal to turn the forfeited deposit over.

Restatement (2nd) Agency, Section 404- Liability for Use of Principal’s Assets
Agent must pay over profit if uses assets of principal in violation of a duty
Agent not liable for profits made by use of time to be devoted to principal unless he
violates duty not to act adversely or in competition with principal

Restatement (2nd) Agency, Section 393 – Competition as to Subject Matter of

Agency
Agent under a duty not to compete with principal concerning the subject matter of
the agency
After termination of agency, barrier to competition ends§396(a)
 Exceptions: cannot use confidential information, no deceit, non-compete
contract clauses

General Automotive v. Singer (Singer was employed as general manager. He earned

money by collecting fees for quote and services for recommending services his
employer couldn’t do. So his employer didn’t get the business or the amount Singer
was skimming off the top to contract off)  Court said Singer was under the duty to
disclose, he should have told his employer about the orders coming in. He was
directly competing with his employer.

Restatement (2nd) of Agency, Section 395, 396- Confidential Information

During agency, agent has duty not to use or disclose confidential info. After
termination of agency, agent has duty not to use…in competition with the principal
or to his injury…trade secrets, written lists of names, or other similar confidential
matters…

Town & Country v. Newbery (Defendant worked for plaintiff’s company, when they
left to create their own company they used plaintiff’s list to solicit the customers) 
Court says that plaintiff’s list was their trade secret, they had worked for 3 years to
build up that list. It was not like a phone book. The methods of cleaning the house
was not secret, but the customer list was.
Partnership

UPA, Section 6(1)- Definition Partnership

An association of two or more persons to carry on as co-owners of a business for
profit

Judicial Factors to Consider Existence of Partnership

 Intention
 Right to Share Profits
 Obligation to Share Losses
 Ownership and Control of Business
 Language in Agreement
 Conduct towards Third Parties
 Right of Parties Upon Dissolution
 Community Power in Administration

UPA, Section 7(4)- Sharing of Profits

Share of profits is prima facie evidence of partnership, but not if received as wages
of an employee or as interest of a loan

UPA, Section 18(e)- Equal Control Rights of Partners

All partners have equal rights in the management and conduct of the partnership
business

UPA, Section 18(a)- Equal Sharing of Profits and Losses

Partners share equally in profits and losses

Fenwick v. UCC (Fenwick made Chesire “partner” to help set her salary)  Court
says partnership was not established even though there was a document that called
the two “partners”
 Right to share in profits (not conclusive, because not every agreement
that gives rights to share in profits is a partnership).
 Obligation to share in losses (Chesire was not to share in losses)
 Ownership and Control (Fenwick contributed capital, so he alone had
control)
 Community Power in Administration (Fenwick had exclusive management
control)
 Language in the agreement (they did label the agreement a “partnership”)
 Rights of Dissolution (essentially the same as if Chesire quit; she had no rights
to assets)
 Conduct toward third parties (only held themselves as partners for tax
purposes)
Kovacik v. Reed (Kovacik gives capital, Reed gives labor, Kovacik wants Reed to pay
50% of the losses (which is the default because they were to share 50% of the
profits).  Court says this rule doesn’t apply when only one party contributes
capital BUT the RUPA 401(B) readopts the loss-sharing rule of UPA 18(a), and the
official comment specific rejects Kovacik.

UPA, Section 15- Joint and Several Partner Liability

All partners are jointly and severally liable for debts and obligations of the
partnership

Martin v. Peyton (really complex facts; main point is defendants helped Hall with his
business through weird financial dealings. Plaintiff claims defendants were
partners, and therefore were liable for its debts. Defendants claim they were
creditors, not partners)  Court said the defendants were not partners.

UPA, Section 16- Partnership by Estoppel

(1) If a person represents himself as a partner in an enterprise (or allows another to
so represent him) and
(2) A third parties relies on that representation and enters into a transaction with
the supposed partnership
(3) That person (who made the representation) is liable to the third party on that
transaction

Young v. Jones (PW-US and PW-Bahamas conflict)  Court does NOT find
partnership by estoppel. The main issue here is (2). The plaintiffs did not read the
pamphlet before making their decision. Furthermore, their reliance led to a
transaction with a third party bank, NOT with the partnership.
Note: Possibly should have tried apparent agency.

RULPA, Section 303(a)- Limited Partnership

A limited partner is NOT liable for obligations of a limited partnership UNLESS the
limited partner is also a general partner OR the limited partner takes part in the
control of the business (here, the limited partner is liable to the third party who
transacts business with the limited partnership and who reasonably believes based
on the limited partner’s conduct that he/she is a general partner).

RULPA, Section 303(b)- Limited Partner

Limited partner does not participate in control solely by consulting or advising with
the general partner on partnership business
Limited Partnership v. General Partnership
 Limited partnerships have to file certificates of limited partnership
 Limited partners have limited liability; general partners have unlimited
 Limited partners are passive investors; general partners do management
 Limited partners share in profits and losses based on their contributions
 Dissociation of limited partner does not dissolve partnership, unlike general
partner

Holzman v. de Escamilla (two limited partners outvoting general partner)  Russell

and Andrews were listed as limited partners, with de Escamilla as the general
partner. But the limited partners decided what crops to plant, and de Escamilla was
unable to remove funds without one of the limited partners. So despite being called
“limited,” Russell and Andrews acted as general partners.

UPA, Section 21- Fiduciary Duty of Loyalty

Partner must account/hold as trustee profits/benefits deprived from any
transaction connected with property or use of its property

RUPA, Section 404(b)- Fiduciary Duty of Loyalty

Partners have duty of loyalty to account/hold as trustee profits/benefits derived
from a use of partnership property, including partnership opportunity.
Partners must refrain from conflict of interest transactions
Partners must refrain from competing before dissolution of the partnership.

RUPA, Section 404(c)- Fiduciary Duty of Care

Partner must not act in a manner that is grossly negligent or reckless or engage in
intentional misconduct of knowing violation of the law

Meinhard v. Salmon (Salmon and Meinhard enter into agreement where Meinhard
lended funds, then Salmon repays with profit, so the two were to bear losses
equally- even though Salmon had sole power to manage, lease, underlet, and
operate. Salmon came upon opportunity and took it, not telling Meinhard)  Court
found that Salmon breached loyalty by appropriating the benefit of the partnership
without disclosing. He was taking the opportunity for himself, not for the business.
Salmon was secret and silent, which violating the duty of loyalty.
Note: Court seems to advocate splitting 50/50, but giving Salmon one
additional share so he could make management decisions.
Note: 404(b) and 404(c) were not in place at the time of this case. BUT
404(c) doesn’t matter, because no one was negligent.
UPA, Section 19 and 20- Partnership Information
Partners shall provide on demand true and full information of all things affecting the
partnership to any partner. Partners may inspect and copy partnership’s books.

RUPA, Section 403- Partnership Information

Partners may inspect and copy books and records
Partners are entitled to information from other partners and partnership that is
needed for exercise of partner’s rights and duties without making a demand (MUCH
MORE STRICT).
Partner is entitled to other information upon demand.

Meehan v. Shaughnessy (Meehan, Boyle, later Cohen leave PC because they don’t feel
like they are being compensated for their work; they decided to take clients with
them through a letter on PC letterhead, and were deceptive when PC asked if they
were leaving the firm)  Court says MBC did not breach duties for handling cases
for their own benefit (not partnership’s) because there was a provision in the
partnership agreement that they could take clients; nor did they secretly compete
with partnership. BUT court held they DID unfairly acquire consent from
clients/attorneys to withdraw cases because they didn’t give clients an option.
Furthermore, they lied on demand when PC asked if they were leaving.

UPA, Section 31(d)- Partnership Expulsion

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.
Essentially, you must deal in good faith with partners when you are going to
fire them.

Lawlis v. Knightlinger & Gray (Lawlis was alcoholic lawyer; partnership agreement
stated that a partner could be expelled at any time for any reason, so long as 2/3
senior partners agreed)  Court holds for firm, as Lawlis was terminated in
accordance with the Partnership Agreement. There was also no evidence of
violation of duty of good faith- in fact Lawlis was treated very well with his
alcoholism and was given 8 months time before termination to find new
employment.
UPA, Section 18(a) and (b)- Partnership Financial Investment and Return
Partners contribute capital and/or labor
Partners have right to indemnity against expenses and liabilities incurred in
partnership business. (If you have paid out money on behalf of the partnership, then
partnership is expected to pay you back.)
Financial return: Partners have right to
 Repayment of contribution
 Right to share equally in profits and surplus after payment of liabilities,
and
 An obligation to contribute to losses sustained by partnership according
to the share in profits.

UPA, Sections 24, 25(1), 26- Extent of Property Rights of a Partner

1) Rights in specific partnership property. Partner is a co-owner with partners of
specific partnership and has right to use specific partnership property for
partnership purposes, but not for other purposes
2) Interest in the Partnership. Partner’s interest in partnership is share of
profits/surplus and is personal property.
3) Right to participate in management

UPA, Section 27- Assignment of Partner’s Interest

Assignee may only receive profits of assignor but may not participate in
management or require information or account of partnership transactions or look
at the books unless there is an agreement with the other partners. (So partners may
only assign their economic interests in the partnership. This is consistent with UPA
18(g), which says no person may become member of partnership without the
consent of all the partners).

Putnam v. Shoaf (Putnam pays to have Shoafs assume shares and all liability for
partnership debts; therefore Putnam would not be liable for future losses. Due to
embezzlement of bookkeeper while Putnam owned it, she and Shoaf both claim the
money owed to the partnership)  Court rules for Shoafs. Under the agreement,
Putnam clearly conveyed her right, title, and interest to Shoafs (assignment under
UPA 27). Putnam wanted out, so she should be out.
UPA, Sections 18(e), (g), (h), 9(3)- Default Voting Rules
Disagreements among partners are decided by a partnership vote. One partner =
one vote, even if contributions are not equal.
Ordinary business decisions are decided by majority vote.
Other matters require unanimous consent:
 Assign partnership property in trust to creditors/secure payment of debt
 Dispose of good will of partnership
 Do an act making it impossible to carry on partnership’s ordinary business
 Confess a judgment against partnership
 Submit a claim involving the partnership to arbitration
 Admit a new partner
 Contravene any agreement of the partners

UPA, Sections 9(1), 15- Partners as Agents

Each partner is an agent for partnership and binds the partnership when apparently
carrying on in the usual way of the business.
Exception: Partner has no authority to act for partnership in the matter that
they are and the third party KNOWS this
Partners are jointly and severally liable for debts and obligations of partnership

Nabisco v. Stroud (Stroud and Freeman are general partners; Stroud says he won’t
take any more bread deliveries, Freeman okays bread deliveries)  Court says
every partner is an agent and has the ability to bind the partnership when carrying
on in the usual way of business.(UPA 9, 15). And all partners have equal rights in
management. Ordering bread is in the ordinary business so Stroud cannot outvote
Freeman (UPA 18)
Changing Management Rights by Contract
Default rules are often changed in the following areas:
 Delegating decision-making to a managing partner or executive committee
 Weighing partnership voting to reflect pro rata contributions to capital
 Changing the requirement of unanimous consent
 Requiring supermajority voting for important decisions
 Right to expel partners

Day v. Sidley & Austin (SA merges with other firm; Day votes in approval but
becomes upset after this determines he will lose his chairman position in the new
merged firm)  SA adopted structure where each partner did not have equal rights
in management, but instead had executive committee manage. When Day signed the
partnership agreement giving control to the executive committee to create, control,
eliminate, restructure firm committees, he waived his management rights. If
management was important to him, he should have contracted around it.

UPA, Section 30- Dissolution

A partnership is not terminated upon dissolution but continues until winding up of
business is completed.

UPA, Section 31- Causes of Dissolution

1) Without violation of partnership agreement, a partnership dissolves when
(1) At the end of a fixed term, or with consent of all partners if the partnership is for
a term
(2) By Express will of any partner if the partnership is at will
(3) Upon the expulsion of a partner under a clause in the partnership agreement

2)With violation of the partnership agreement, if dissolution is not permitted by any

other section, by express will of any partner at any time (does this mean that if
violated by partner, then any partner can dissolve by expressing will?)
3) Business becomes unlawful
4) Death or bankruptcy of a partner or bankruptcy of the partnership
5) Court decree under Section 32
UPA, Section 32- Dissolution by Court Decree
Partnership may be dissolved upon application to the court if:
 A partner is insane or unable to meet requirements of the partnership
agreement
 A partner is guilty of such conduct as prejudices carrying on the business.
 A partner willfully or persistently breaches the agreement or makes it not
reasonably practicable to carry on business with the partner
 Business can only be carried out at a loss

RUPA, Section 801(5)- Dissolution by Court Decree

Partnership is dissolved on application by a partner through judicial determination
that:
 Economic purpose of partnership is reasonably frustrated
 Another partner has engaged in conduct relating to the partnership business
that makes it not reasonably practicable to carry on the business in the
partnership with that partner or
 It is not reasonably practicable to carry on the partnership business in
conformity with the partnership agreement

Owen v. Cohen (Cohen is breaching partnership, belitting Owen, possibly engaged in

illegal things. Owen wants dissolution because he made a loan, so he wants to get
his share back)  Under UPA 32, Court finds that the partnership can be dissolved
because partner (Cohen) willfully/persistently breached the agreement such that it
made it not reasonable or practical for Owen to carry on business with him.

Duration of Partnership
(1) At will- no limitation on duration  default rule
(2) Express term- for x number of years
(3) Implied Term- until sum of money is earned, until one or more partners recoup,
until certain debts are paid, until certain property is disposed of, etc.

Page v. Page (brother have partnership; brother #1 wants to pull out when it
becomes unprofitable because his other company is creditor; brother #2 says
partnership for implied term)  Court says NO partnership for implied term. Every
partnership seeks to make money, but this does not automatically imply a term to
remain in business until profitable. But the court does find that the plaintiff is
breaching his fiduciary duty of good faith, because his actions are for himself, not
the partnership.
UPA, Section 38(1)- Right to Require Liquidation
If dissolution (caused in any way except in breach of agreement), partner may
request liquidation
Note: the default rule is that upon dissolution (caused in any way except in
breach of partnership agreement) any partner may request liquidation. But
in practice, partners often agree to continue the business because liquidation
will not produce maximum value to partners.

UPA, Section 38(2)- Right to Damages and to Continue the Business

If dissolution in violation of partnership agreement occurs, the non-breaching
partner may claim for damages against breaching partners and may continue the
business and possess the partnership property for that purpose. If business
continued, breaching partner entitled to receive value of his/her interest less
damages but not including good will.

Pav-Saver v. Vasso (Wagner hates this place; says it got it wrong. Pav-Saver
contributed IP. Pav-Saver terminated, and according to the agreement had to pay
equal payments over a 10 year period. Vasso continued business and wanted IP.
Also wanted damages more quickly.)  Court held that Meersman should get IP
according to UPA; but that liquidated damages should go to Meersman according to
the contract. So what governs, contract or UPA?

UPA, Section 40(b)- Rules for Distribution; Payment of Liabilities

(1) Payment to creditors other than partners
(2) Payment to partners other than for capital or profit
(3) Payment to partners for capital
(4) Payment for partners for profit

UPA, Section 40(d)- Rules for Distribution

Partners must contribute the amount necessary to satisfy the liabilities in section
40(b)
UPA, Section 18(f)- Dissolution, Rule Against Extra Compensation
Partner not entitled to remuneration for acting in the partnership business except
for surviving partner receiving reasonable compensation for his services in winding
up the partnership (No partner is entitled to extra compensation for work
performed in winding up the business.)

Jewel v. Boxer (oral agreement to form partnership, oral agreement to not share
profits equally, but no written partnership agreement)  Court says it does not
matter how much time a partner spent on a case after dissolution, they cannot be
awarded extra profit (partners are prevented from scrambling to keep their files or
competing to get more lucrative cases).
Corporations

Corporations Partnership
Formalities required No formalities
Limited liability Unlimited liability
Free transferability Not freely transferable
Continuity At will
Centralized management Equal management rights
Double taxation Single taxation

Structure
Shareholders/stockholders are owners of business. They do not manage but
delegate their rights of management and control to the Board of Directors.

Directors make corporate management decisions and all policy decisions. But they
are not employees
Inside Directors: are directors AND officers
Outside directors: NOT officers (there should be a majority of these because
board is supposed to be unbiased/objective, and that happens less when you
are employee of company).

Officers are employees. They run the day-to-day management. Their power is
delegated to them by the Board of Directors.

Steps in Setting Up a Corporation

1) Decide you want to have a corporation. There are many choices for going into
business and pros and cons of each
2) Choose state of incorporation. You can choose any; not limited to principal place of
business, although many do that for tax reasons. We are studying DELAWARE.
3) Reserve corporate name (must be distinctive, indicate corporate status)
4) Draft, sign, and file the certification of incorporation
5) Hold the first meeting of directors (this is if directors are named in certificate; if not,
hold meeting of incorporators)
6) At the first meeting of directors, adopt by-laws (and take other actions)
7) Issue shares and accept paid in capital
8) Take steps to qualify as a foreign corporation in all states where corporation will be
doing business

Incorporators, Sections 101, 103, 107

101- Any person may incorporate a corporation by filing certificate with Division of
Corporation of Secretary of State
103- Signed, dated, paid fees
107- If no directors are named, incorporated manage business until directors are
elected

Certificate of Incorporation, Section 102

Mandatory
Name (include the words “inc.” or “corp.”
Address
Business purpose (any lawful business)
Capitalization structure (shareholders have identical rights unless specified)
Incorporators’ names and addresses
Director’s names and addresses
Optional
Management provisions
Provisions limiting powers of corporation, directors, shareholders
Provisions changing the voting rules of DGCL
Preemptive shareholder rights (if existing shareholders can buy new shares)
Limit on duration of business
Exceptions to limited liability of shareholders (unusual)
Limits on monetary damages for director breach of fiduciary duty

Requirement of Filing, Section 101(a)

-File with Division of Corporations in the Department of State
-Not until delivery to Secretary of Sate and payment is there a corporation
-Filed documents are public record (publicly available information)

Commencement of Corporate Existence, Section 106

-Corporations exist from the date of filing until dissolution

Registered Office, DGCL Section 131

-Registered office is required, though it does not have to be the place of business
-This place receives service of process within the state
-Must be a resident person or corporation

By-Laws, Section 108, 109

108- By-laws are adopted at organization meeting of directors/incorporators
109- By-laws may contain provisions on conduct of affairs; rights or powers of
shareholders, directors, and officers. The by-laws may be amended by directors
until payment of initial capital…after that, shareholders must vote to amend.
By-laws are not filed with Secretary of Sate

Promoter’s Liability
Liability for Pre-Incorporation Contracts:
-If promoter forms corporation later…
Can corporation become party to contract?
 Can promoter avoid liability?
-If corporation is never formed or if promoter forms different corporation…
Who is liable?

Corporation By Estoppel
-Would earn a windfall if allowed to evade liability based on absence of
incorporation
-Person acted as though he was dealing with a corporation
-Test (articulated in Southern Gulf)  were substantial rights affected

Southern Gulf Marine v. Camcraft (Barrett, promoter of Southern Gulf, signs contract
with Camcraft. He thinks that he will incorporate in Texas, but instead incorporate
under foreign country. Camcraft says they can breach)
 Court says that because formed in Caymen Island, doesn’t allow for default. They
allow “corporation by estoppel” because Camcraft would earn windfall if allowed to
evade liability.
 Test for Corporation by Estoppel (as expressed here): whether a SUBSTANTIAL
right changed/affected. This fails here because Southern Gulf was ready to pay, so
where they were paying from didn’t matter.
Note: Barrett signs both as an individual and as president of Southern Gulf,
not yet formed. If corporation is later formed, corporation can adopt the contract
and assume responsibility and can take over payments. But if Southern Gulf was
never formed, then promoter would be liable, as Barrett signed for himself and
corporation.

De Facto Corporation
-If promoter tried in good faith to incorporate, had a legal right to do so, and acted
as a corporation
-If a client believes that lawyer took document, filed with Secretary of State, but
forgets to file and client acts like they are a corporation and carries on business like
it, then courts sometimes give the benefit of limited liability
-Good faith!

Enterprise Liability
-This is going after affiliated corporations (Walkovsky). But this was rejected in
Walkovsky.
-Much more available assets by going after companies with same owner
-Idea is that you should ignore corporate separateness, argue that even though they
are legally set up as separate entitles, owner does not treat them as separate (co-
mingle assets)
**Compare this to Piercing the Corporate Veil where Shareholder’s (not other
corporations) personal assets may be available to creditor; note; this also fails in
Walkovsky
Walkovsky (person hit by cab sues Carlton who is stockholder of 10 cab
corporations with 2 cabs each; he has minimal insurance in all of them)  majority
says we can’t go after Carlton because we can’t pierce the corporate veil…no
evidence he was using the company for his own benefit. Also no dice on enterprise
liability because you can’t just go after because same person owns…they have to be
co-mingling and we don’t have good evidence of that. Dissent says we should go
after Walkovsky because he was committing fraud by underfunding insurance.

General Rule of Limited Liability & Piercing the Corporate Veil

-Corporations are supposed to have limited liability, no personal liability.
-Courts SOMETIMES allow for personal limited (piercing the veil)
-Piercing allows you to go after the personal assets of a person, not after the asserts
of other corporations (that is enterprise liability).
-Requirements:
(1) Alter Ego: There must be such a unity of interest and ownership that the
separate personalities of the corporation and the individual no longer exist.
This happens when individuals use corporation for their own benefit. Often
happens when only 1-2 shareholders.
Illinois uses Van Dorn Test:
*Failure to maintain corporate formalities
*Comingling assets/funds
*Under-capitalization
*One corporation treats assets of other corporation as its own
(2) Fraud or Injustice: Need MORE than creditor’s inability to collect
(3) SOME jurisdictions require to show Assumption of Risk, and only for
contract cases. Here, a contract creditor would need to engage in in
transactions (how debt comes into existence). Should have done due
diligence (not applicable in Walkovsky or Sealand).

Sealand v. Pepper Source (Sealand ships peppers for PS, PS stuffs Sealand on the bill,
Sealand filed action for money. PS had dissolved a few months earlier, so Sealand
couldn’t recover, so Sealand wants to go against shareholder)  Court establishes
test. Alter-ego is satisfied- the corporate defendants where shareholder’s
playthings, he co-mingling bank accounts, he co-mingled the corporations. Court
finds fraud is NOT met, but let’s Sealand amend. They need to show fraud/injustice
beyond right to receive payment (creditors can’t win just because they’re creditors).
Note: third prong not applied here.
Parent/Subsidiary Relationship and Substantial Domination Test
This allows plaintiffs to collect from parents for their subsidiaries. There is a
piercing test in parent subsidiary:
1) Alter ego/control/domination
2) Fraud/injustice

Factors to consider for Control/Alter Ego:

*Common directors & officers
*Common business departments
*File consolidated financial statements/tax returns
*Parent’s formation and financing of subsidiary
*Gross under-capitalization
*Parent’s payment of salaries and other expenses
*Parent provides all business of subsidiary
*Parent uses property of subsidiary
*Daily operations of both are not separate
*Subsidiary fails to maintain corporate formalities

Direct Liability
This theory is separate from piercing and is mostly based on negligence
Restatement (2nd) of Torts says that one who undertakes to render services is
subject to liability to third-party for physical harm due to a failure to exercise
reasonable care if:
*Failure to exercise reasonable care increased risk of harm
*Undertaken to perform duty owed by the other to third party
*Harm by third party suffered because of reliance

Silicone- both Parent/Subsidiary and Direct Liability case (Bristol purchased shares
of MEC and exerted control over MEC, used their departments, approved their
budget, set salaries, etc. Females are injured by breast implants manufactured by
MEC, but MEC is dissolved so they go after Bristol)
 Parent/Subsidiary: Court isn’t sure about prong #2, but there’s enough evidence
to survive summary judgment. Prong #1 is met because MEC is in no way
independent (look to factors)
 Direct liability (essentially negligence theory); court finds that Bristol who
undertook to render services is subject to liability to third party for physical harm
(women) due to failure to exercise reasonable care (again, check test)
Shareholder Derivative Litigation
Derivative lawsuit= shareholder brings a lawsuit to remedy a wrong on behalf of the
corporation against directors, managers, or other shareholders. Directors/officers
won’t sue their friends, so we rely on shareholders to protect the corporation.
*Shareholder can only sue in equity
*No standing otherwise because they haven’t been directly harmed
Strike suit= a lawsuit that is brought in the hope of a settlement.
*Lawyers are the main people who benefit from these
*So although we like derivative lawsuits we don’t like strike suits

Cohen v. Beneficial (In NJ, statute says that in a derivative shareholder action, if a
person has less than 5% ownership or $50,000, they have to give security for
corporation for expenses to defendant the lawsuit in case corporation wins…this is
to prevent strike suit. Plaintiff wants statute thrown out)  Court upholds statute.
Fees are reasonable, state has legitimate purpose. Court finds this to be a
substantive rule, not procedural matter that would preempt federal rules.

Direct Shareholder Actions vs. Derivative Shareholder Actions

Derivative lawsuit= injury to corporation
If recovery, it goes to corporation, not plaintiff shareholder
Sue on behalf of corporation to enforce rights of corporation
Usually allegations of mismanagement, waste, fraud, breach of fiduciary duty
If successful, corporation plays plaintiff’s fees
Direct lawsuit= injury to shareholder personally
Shareholder sues for their rights as shareholders
Usually denial/dilution of voting rights, compel dividends/inspection
Class Action= shareholders sue in their own capacity as well as on behalf of other
shareholders similarly situated
Group asserts individual direct claims through a representative
Plaintiff must be representative of other shareholder interests

Eisenberg v. Flying Tiger (Eisenberg was owner of original Flying Tiger, but the
operating assets were switched to their subsidiary, FTL, so Eisenberg’s shares,
which were supposed to be operating a business, is now just a holding company.
Question is whether this is a direct or derivative claim)  Court finds direct lawsuit.
Look at who was harmed, corporation or individuals! Eisenberg feels his shares
have been diluted, or were just of a different type (holding instead of aircraft
company/shares). Although corporation is arguing it’s corporation harmed
(derivative) the court finds for Eisenberg because he personally wanted a type of
shares.
Demand Requirement & Demand Futility
Purpose of Demand:
*Allow dispute to be resolved by corporation outside of court
*Allow corporation to take over lawsuit if it is beneficial to corporation
*If demand is excused or wrongfully refused, shareholder can control
*Protect corporate boards from harassment and discourage strike suits
Demand Excusal, if Demand is Futile:
1) Majority of Board has material or familial interest
2) Majority of Board is incapable of acting independently
3) Underlying Transactions are not product of valid “Business Judgment Rule”
**Note: don’t focus on #3

-New York Approach to Futility:

*Allege facts that share with particularity that majority of Board is interested
in transaction OR directors failed to inform themselves as reasonably
necessary OR directs failed to exercise business judgment.

Wrongful Refusal:
-If the board says no to demand, this claims that Board’s judgment is wrong
-This is difficult because Business Judgment Rule (presumed to run business in best
interest of the corporation)
-To overcome, the plaintiff must allege facts with particularity, creating reasonably
doubt that the board acted independently or with due care (note Grimes does NOT
do this)

Grimes v. Donald (Grimes, a shareholder, sues CEO Donald and the Board of
Directors because he believes too much power was given to Donald. He thinks the
Board should be running the business, not Donald, and that too much money is
given to Donald)
 Claim #1= Abdication. Court says this is fine. It is okay to delegate to people and
the Board does retain ultimate decision because they can fire Donald, even though
he gets paid a lot if they do. So Board is within authority.
 Claim #2 Derivate Claim/Demand claim  For derivative lawsuits, there is a
requirement that in order to proceed, you must first go to Board and make a
demand that the Board takes over the lawsuit and brings wrongdoers to justice.
Here, Grimes did make demand and Board said no. Because this happened we
follow the “Wrongful Refusal Doctrine” which is difficult to overcome because of
Business Judgment Rule, so Grimes it out of luck.
DGCL 141(C)(2)- Special Litigation Committees & Demand Requirement
Board may designate 1 or more committees, each consisting of 1 or more directors.
The Board committee may exercise all the powers and authority of the full board.

Note, also, 141(a)- Business Judgment Rule. The business and affairs of the
corporation shall be managed by or under the direction of the Board of Directors.
There is a rebuttable presumption that directors and officers carry out their
functions in good faith, after sufficient investigation, and for valid business reasons.

Zapata (Maldonado, shareholder, initiated a derivate suit alleging breach of

fiduciary duty against certain officers and all the directors. He claimed demand
futility because all the directors were named as defendants. Here, the board picked
2 people that were NOT on the Board (independent) when the wrongdoing occurred
(as committee). Board says they will abide by whatever the committee decided.) 
Court looks at two things:
1) Look at independence and good faith. Are they independent? Do they
investigate? Here, the test seems to be met.
2) If #1 is met, the court applies its own independent business judgment to
determine whether committee made the right choice. So they set aside Business
Judgment Rule to determine whether litigation should go ahead or not.

Oracle (more recent than Zapata; shareholder sues directors for insider trading, so
Oracle sets up special litigation committee. The directors put 2 Stanford professors
on the committee because they weren’t on the Board at the time of the alleged
wrongdoing. Their decision would be binding. They recommend not taking action)
 Court finds that they did intensive investigation, were not compensated, weren’t
there at the time of the incident, did not benefit, were financially independent BUT
there was a SOCIAL tie. There was professor/student relationship as well as
friendships within Stanford, enough to jeopardize independence.

Corporate Philanthropy
Delaware General Corporation Code 102(A)(3)
-Certificate of Incorporation shall set forth nature of the business. It may say
“any lawful act or activity.” It may also contain restrictions.

Delaware General Corporation Law 124

 -No act or transfer of property shall be invalid because ultra vires (outside
the power) but lack of capacity or power may be asserted.

Delaware General Corporation Law 122

Every corporation shall have power to
* Sue/be sued
*Acquire/dispose of real or personal property
*Conduct business within or without this state
*Appoint officers; wind up and dissolve
*Make donations for the public welfare or for charitable, scientific or
educational purposes
*Make contracts
*Borrow/lend money
*Pay pensions
*Buy life insurance for benefit of directors/officers/employees/shareholders

California Corporation Code 207(3)

Power to make donations regardless of specific corporate benefit for the
public welfare, community fund, hospital, charitable, educational, scientific,
civic or similar purposes

New York BCL Section 202(a)(12):

Make a donation irrespective of corporate benefit for the public welfare or
community fund, hospital, charitable, educational, scientific, civic, or smaller
purposes and in time of war or other national emergency

Pennsylvania Code 102(d):

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, supplies, customers, creditors,
communities in which offices or other establishments of corporation are
located

Smith v. Barlow (Corporation wanted to give $1,500 to Princeton, but shareholder

wants that money to go to benefit of shareholder, so they say that gift is ultra vires
(outside the power))  Currently, you can conduct business in anyway that is
lawful. Here, New Jersey statute says there is public interest in allow corporations
to make gifts to charities. Court says that in order to sustain a gift, the gift should be
made to benefit society/public benefit. It also must advance interest of corporation
in some way. Also must be modest. The court sees some logic in that customers
and Princeton grads might come back to your company because you benefitted
society, so it’s upheld.
Boards Acting for Interest Other Than Shareholders

Dodge v. Ford Motor (Ford is controlling shareholder/on Board, Dodge are minority
shareholders…Ford wants to change dividends such that the regular one gets paid
but the special dividends funds long-term expansion plain. Dodge says the goal
should be to advance shareholder interests, not charity)  Court holds for Dodge.
They think Ford’s discretion went too far (focus on short term).
*This case seems wrong because they didn’t note how long-term expansion
would create more profit in the long-term for shareholders

Wrigley (Shareholder wants lights on the field (more games, more profit), but
Wrigley doesn’t want baseball at night & doesn’t want to disturb community) 
Court holds that Business Judgment Rule lets Wrigley decide. Plaintiff couldn’t
establish abuse of discretion, illegality, conflict of interest. There is also no evidence
that plaintiff showed lack of lights damaged profits).
*So modern viewpoint (Berle-Dodd debate) is that corporations should
primarily serve shareholders but they can have non-main purpose to serve
outside constituencies and charities.

Board Management Separate from Mergers

DGCL 141(a)- Board Authority: Business and affairs of corporation shall be managed
by or under the direction of a Board of Directors

DGCL 141(b)- Board Composition and Action: Composed of one or more members
(fixed in bylaws or certificate). The majority of the total number is called a Quorum
(it can be reduced to 1/3 in the bylaws). A valid board action is a vote of majority of
directors present at a meeting with quorum present (note this can require a
supermajority).

DGCL 216- Shareholder Voting

Majority of shares entitled to vote shall constitute a quorum at a stockholder
meeting (again, can reduce to 1/3 in certificate or bylaws). A vote of majority of
those present or represented by proxy shall be the act of the stockholders (except
for the election of directors, which shall be elected by plurality).
Cash Out Merger Approval
Acquiring Company = pay shareholders of target company the value of their shares
Target Company = merged out of existence and shareholders have no interest if
resulting company
*Target Company’s shareholders protected by fiduciary duties of directors.

DGCL 251(b)- Board Approval: Board of each merging corporation shall adopt a
resolution approving an agreement of merger and declaring its advisability

DGCL 251(c)- Stockholder Approval: Merger agreement shall be submitted to

stockholders for approval. A majority of shares entitled to vote must approve and if
it is approved, a merger agreement is filed and becomes effective

Note Exception…
DGCL 141(e)- Good Faith Reliance on Records and Reports
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

Smith v. Van Gorkom (Here, Board approved merger at only price bid on, after 2
hours of consideration, no documentation, no valuation study…nothing except the
word of CEO. They gave shareholders insufficient/incorrect information and they
ratified it too)  Court held they violated duty of care because it wasn’t sufficient to
take on faith what CEO said and spend such little time debating it. Shareholder
ratification doesn’t occur because of bad information. Exception of 141(e) is not
met because Van Gorkom did tell them things but there was no information, opinion,
report, or statement that classifies (it has to be more concrete than speculation!) So
duty of care is violated.

In response to this case we have…

DGCL 102(b)(7)- Limits on Director Liability
Certificate of incorporation may contain provision eliminating or limiting personal
liability of director for monetary damages for breach of fiduciary duty EXCEPT:
*Duty of Loyalty
*Lack of good faith, intentional misconduct, knowing violation of law
*Violation of Section 174 on dividends
*Transactions in which director derived improper personal benefit

Fiduciary Duty of Care

Kamin v. American Express (Shareholder derivative action where shareholder

wants Am Express to keep DLJ shares for $8 million tax savings instead of selling
them for capital loss of $25 million; allege violation of duty of care)  Court finds
that directors did not violate duty of care. They showed rational business decision
making that included (convening, talking, researching, weighing pros/cons). They
had solid rationale that they wanted to keep Am Express shares up by selling DSJ
shares. So test = gross negligence, and here there was no gross negligence alleged
with specificity.

Duty to Monitor

Bad company:
Francis v. United Jersey Bank (Woman inherits 48% shareholder + director from
husband. Two sons, also directors, are misappropriating funds, which would have
been obvious if she had paid attention)  Court says she needed to acquire a
rudimentary understanding of the business, keep informed, stay current with
corporate activities, not shut eyes to corporate misconduct (general monitoring, not
detailed inspection), and must maintain familiarity with financial status of
corporation. Instead, she just stayed boarded up in her house…completely passive.
Business Judgment Rule doesn’t cover her when she didn’t do anything.

Good company:
In Re Caremark (Law prohibits kickbacks for Medicaid referral. Caremark starts to
get in trouble, so when they became aware they discontinued management fees,
created internal and external audits, created ethics handbook, created ethics hotline,
created a compliance officer, etc.)  Court holds to approve settlement because the
directors were the opposite of passive. When the Board became aware they put in
reasonable compliance measures.

Duty of Loyalty

NYBCL 713- Conflict of Interest Transactions

-Covers contracts between corporations AND a director or corporation in which a
director has a substantial financial interest or is a director or officer
-No contract involving an interested director is void or voidable because the
director was present/voted in favor if:
*Disclosure and valid board approval without counting vote of interested
director
*Disclosure and contract approved by shareholders
*In other cases, show fairness and reasonableness

Bayer v. Beran (Company decides to advertise on radio program where president’s

wife is a singer. Business Judgment Rule didn’t automatically shield this decision
because conflict of interest…president was choosing between the company’s best
interest and his wife)  Court uses strict scrutiny and upholds the decision. The
company was benefitted by revenue coming in. The costs to air the advertisements
seemed reasonable. The wife wasn’t being paid much. So although there is side
benefit…there is also a corporate benefit. So it looks like court upholds because it’s
a fair contract.

DGCL 144(a)- Ratification

Interested director/officer transaction is not void/voidable if
(1) Material fact disclosure and disinterested director approval
(2) Material fact disclosure and shareholder approval
(3) Or contract is fair

Flieger v. Lawrence (Lawrence wants to sell property to Agau. The board rejects it,
but then officers/directrs as individuals form company, USAC, to acquire the
property and develop it. They then have option contract where they sell all of their
shares in USAC for 800,000 shares of Agau. Majority of shareholders ratified this
option contract. Plaintiff derivative action to recover the shares)  Directors say
they are protected by ratification under DGCL 144(a) when shareholders ratified.
Court says no. Can’t get disinterred director approval because they’re all interested.
Shareholder ratification doesn’t count because you need majority of disinterested
and apparently that didn’t happen here either. But court does uphold as the contrat
being fair because the shares were of value and could generate profit for the
corporation.

Corporate Opportunity (sub-branch Duty of Loyalty)

Delaware Test  Guth v. Loft
1) Financial Ability
2) Same line of Business
3) Interest or Expectancy
4) AND Taking opportunity would create conflict between self-interest and interest of
corporation

Broz v. Cellular Information Systems (Broz is president of FRBC and director of CIS.
He takes opportunity that someone who was considering acquiring CIS wanted) 
This case fails the Guth test. The same line of business test was met. But three
aren’t. CIS didn’t have the financial ability to buy the license. They did not have
interest/expectancy because they were divesting themselves of licenses. And there
was no conflict because Broz approached CIS about it first. So test isn’t met.
In Re eBay (In return for business, Goldman Sachs gave certain directors stock
options at a lower price that they could turn around and sell for higher. They’re
accused of a kickback…Goldman Sachs giving directors these instead of the
corporation.)  Court says Guth test is met. eBay definitely had financial ability. It
was in the same line of business, as stocks were part of their cash-management
strategy. The corporation definitely would have expected this after spending
money…rather than it going to individual directors. And taking this did conflict
because the corporation was never given the opportunity that the directors took. So
directors lose.

Fiduciary Duties of Parent-Subsidiary

-Note: a parent/subsidiary doesn’t automatically mean that the parent should run
the business of the subsidiary. But when there is no independent board, and the
board of the subsidiary is the board of the parent…the parent controls and therefore
has fiduciary duties.

Sinclair Oil v. Levien (Sinclair owns 97% of Sinven and Levien is minority
shareholder. There are three main conflicts) 
*Claim that Sinclair was hurting Sinven by giving dividends  Business Judgment
Rule. Minority shareholders get what majority shareholder gets, so standard
rule.
*Claim that Sinclair was Denying Business Opportunities  Business Judgment Rule.
No self-dealing. Levien couldn’t point to any opportunity that belonged to
Sinven and was given to someone else.
*Other Subsidiary of Sinclair keeps breaking contract with Sinven, but no
punishment  This is Intrinsic Fairness (harder than Business Judgment).
Because Sincliar was getting the benefit of the breach of contract, they benefitted
to the disadvantage of the minority shareholders.
LLCs

ULLCA 201-
LLC is a legal entity distinct from its members
*Hybrid. Limited liability (corporations) + flow through tax (partnership)

Corporate Characteristics
Limited Liability
Free Transferability
Continuity of Life
Centralized Management, vs member management

ULLCA 202- Articles of Organization

-One or more persons (“organizers”) may form LLC, consisting of one or more
members, by filing articles with Secretary of State
-LLC comes into existence when articles filed with SOS

ULLCA 203- Contents of Articles of Organization

-Name of Company
-Address
-Name and address of agent for service of process
-Name and address of organizer
-Term, if there is one
-Whether manager-managed and name/address of managers
*Manager-managed LLC is similar to corporation where management id
delegated to a board. If you don’t indicate this, then it is presumed that every
member is responsible.
-Liability of members for debts and obligations, if applicable

ULLCA 204- Amendment of Articles of Organization

-Must be filed with state

Westec v Lanham (Westec contracted with Clark, who said he was agent of Lanham.
Business card had Clark’s name, Lanham’s address, and PII- but didn’t say what PII
is)  Court pretty much decides this based on agency. Clark is dismissed as a
disclosed agent. Lanham could have avoided liability by disclosing he worked for
PII, a LLC. (Court rejects idea that companies are put on constructive notice by filing
of a LLC.)
ULLCA 103(a)- Operating Agreement (Like By-Laws)
-Members of LLC may enter into Operating Agreement to regulate conduct of
business and relations among members, managers, and company.
-Members may not change provisions of the ULLCA specified in 103(b), such as the
duty of loyalty, duty of care.
-Unless changed by the Operating Agreement, the default rules of the ULLCA apply.

Note: 103(b): The Operating Agreement may not:

*Unreasonably restrict a right to information (Section 408)
*Eliminate the duty of loyalty
*Unreasonably reduce the duty of care
*Eliminate the obligation of good faith, although it may determine the
standards of the obligation
*Vary the right to expel a member
*Vary the requirement to wind up the LLC’s business
*Restrict the rights of a member other than manager, member

Elf v. Jaffari (Elf files derivative lawsuit against Jaffari, claiming mismanagement.
But there is an arbitration agreement)  So court dismisses the lawsuit. Operating
agreements have a lot of freedom of contract.

ULLCA 303- Limited Liability in LLCs and Piercing the Veil

-Debts, obligations, liabilities of the LLC belong solely to the company
-Members or managers are NOT personally liable for debts, obligations, and
liabilities of the LLC, whether arising in contract, tort, or otherwise.
-Failure to observe formalities or requirements for exercise of powers of
management are NOT a ground for imposing liability
-Members can become liable for debts etc. IF they so consent in writing and include
a provision in articles

Kaycee v. Flahive (Flahive has no assets and caused environmental contamination.

Kaycee wants to hold Roger (manager) individually liable)  Courts hold that
piercing is allowed for LLCs. But the circumstances you need to justify piercing may
be different from that of corporation (the factors for corporation is listed in
Sealand).
ULLCA 404- Styles of Management
-Member-Managed:
*Members have equal rights in management, majority voting for business
decisions
-Manager-Managed:
*Managers have equal rights in management, majority voting by managers
for business decision.
*Managers must be designated, removed, replaced by a majority of members
*Consent of all members required for certain important events

ULLCA 301- Agency of Members and Managers

-In member-managed LLC:
*Each member is an agent of LLC for purpose of its business. Acts of
members for apparently carrying on ordinary business of LLC bind the
company unless there was no authority and third party knows this.
*Acts not for apparently carrying on ordinary business binds if authorized by
the other members.
-In a manager-managed LLC:
*A member is not an agent solely by reason of being a member
*Each manager is an agent and binds the company if apparently carrying on
ordinary business of LLC, unless the manager had no authority to act on that
matter and third party had notice.
*Act of a manager not for apparently carrying on ordinary business binds
company only if authorized as required by ULLCA 404.

ULLCA 409- General Standards of a Member’s and Manager’s Conduct

-Members owe duty of loyalty and care to member-managed company and its other
members
-Duty of Loyalty:
*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
-Duty of Care:
*Do not engage in gross negligence or reckless conduct, intentional
misconduct, knowing violation of law

-Manager in a manager-managed company owes dame duties prescribed for

members. Members who do NOT manage owe NO duties.
McConnell v. Hunt Sports (McConnell and Hunt formed CHL to get a hockey league.
Hunt acted for CHL and wouldn’t make deal with NHL. After continuous rejection,
McConnell accepted the deal on his own, not for CHL. The operating agreement said
members could compete and weren’t prohibited or restrict from any venture that
could be competitive with CHL)  Court agrees that fiduciary duties can be waived.
There is freedom of contract. Even though fiduciary duties are recognized, the
members waived them so it’s okay.
*Also note Hunt broke the agreement that said “no member may take any
action on behalf of the company unless approved by a majority. So Hunt
acting for CHL without approval wasn’t okay.
*This was a member-managed company. Not manager-managed!

 But 103(b) says Operating Agreements can’t eliminate duty of loyalty?

ULLCA Dissolution
801- Events of Dissolution
802- Winding up after Dissolution
805- Filing of Articles of Termination
806- Creditors must be paid!
*Includes members entitled to return of contributions
807- Disposing of known claims by giving notice to Creditors
808- Disposing of other claims by publishing notice to Creditors in newspaper
*Other claims are barred
808(d)(2)- Member liability to creditors is up to the amount received in distribution

New Horizons v. Haack (Haack’s LLC entered into debts. She claims limited liability.
There was a problem with the way Haack conducted herself in resolving the
business. No evidence of how she distributed the accounts. Not sure if she pocketed
it or gave it to creditors)  Court holds that there are statutory steps she needed to
do to dissolve. Haack doesn’t get protection of FRE 808(d)(2) because the court
assumes she pocketed the remaining funds so she has to pay a claim for that amount
(the amount she could have pocketed).
 Suppose she proved she put $2000 into business, she had paid Kickappoo’s
debts and then pocketed $500. Then New Horizons shows up with $1000. Her
liability would be for $500, because she would be limited to the amount she
received. This set of facts assumes she follows correct procedures.
Securities Regulations

Securities Act of 1933

-Primary market: company makes money by selling securities to public

Securities Act of 1944

-Secondary market: investors actively trade with other investors
-SEC set up; they were delegated authority by Congress

Scope:
-Disclosure provisions
-Anti-fraud provisions
-Regulating markets and market professionals

What is a Security?
Securities Act of 1933, Section 2(a)(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 security. (Note LLC membership
interest is not listed)
-Implications of calling an investment opportunity a “security”  Disclosure
and anti-fraud provisions apply.

Howey Test: Investment Contract

*Investment of money
*In a common enterprise
*With the expectation of profits
*To come solely from the efforts of others

Landreth Timber Test: Stock

*Dividends
*Negotiability
*Can be Pledged or Hypothecated
*Voting Rights
*Capital Appreciation

Economic Realities Test: aren’t bound to someone’s label, but as to how something
was used in practice. (Just because you call something stock doesn’t mean it’s stock)

General practice: If you bought stock from…

Close corporation  probably security
General partnership  probably not; because not solely from efforts of others
Limited partnership  probably security; limited partners not allowed to manage
LLC  If not manager in manager-managed LLC, probably. If member-managed,
then more difficult argument. But no general rule because LLCs are hybrids.

Robinson v. Glynn (Robinson agreed to invest in GeoPhone contingent that it used

technology. He was told it did, so he bought certificates labeled as “shares” and
“securities.” So Robinson thinks its securities fraud, under Section 10(b) of the 1934
Act. Main issue is whether he even belongs in federal court)
 Court says no. LCC investment interest is not security (investment contract or
stock).
 Howey test, the element that fails is that the profits are to come SOLELY from the
efforts of others. Robinson had extensive powers of control, so he was not solely
depending on others. Court notes that he was not a passive investor, had
information, was able to select financial avenues for business as he was a treasurer
of the LLC.
 Landreth Timber test fails because it was not negotiable. Robinson was required
to sell it back to the business, not an individual.
 Finally, economic realities test tells us not to look at labels, but practice. So court
concludes it is not a security.

Registration and Exemptions from Registration

Securities Act of 1933 Section 5

It is unlawful to sell or offer for sale securities in interstate commerce unless
securities are registered with the SEC. Issuer must provide discloser in a prospectus
(this is portion of registration statement that goes to investor…not whole
registration statement goes to investor).
Exemptions: Certain types of securities, like U.S. government securities.
Certain types of transactions, like private placement.

Securities Act of 1933- Section 4(2)

The provision of Section 5 shall not apply to transactions by an issuer not involving
a public offering (but no definition of public offering)

Ralston Purina Test  Do this FIRST

Did the offerees need the protection of the registration provisions of the 1933 Act or
were they able to fend for themselves. This turns on access to information…did the
person have information provided to them via disclosure document or do they have
access to get information from within? If no, then it should have been registered.
Factors (this SUPPLEMENTS the above test and should be done AFTER it)
*Number of offerees and relationship to each other and the issuer
*Number of units offered
*Size of the offering
*Manner of the offering

Doran v. Petroleum Management (totally screwed because instead of getting returns

on investment, he owes bank for company’s loan. Question is whether company is
selling security and whether that security has to be registered. The lower court said
he didn’t need info because he was sophisticated investor)  Court says we don’t
care if he’s a sophisticated investor. He still needs adequate information. If you are
sophisticated and don’t have disclosure, then it doesn’t matter. So the court
remands it for defendants to show they disclosed information.

Anti-Fraud Topic #1- Section 11 Fraud in the Registration Statement

Securities Act of 1933, Section 11  Covers within Registration Statement

-Material misstatement or omission in a registration statement is actionable fraud.
*What is Material? Information that an average prudent investor ought
reasonable to be informed about before purchasing the registered security.
-The person acquiring such security has an EXPRESS private right of action (buying
a security…you do not have to show causation, loss, reliance, etc.)
*There is no question private parties have standing to sue because statute
says they have standing to sue
-You can sue company, people who signed the registration statement, directors
(even if they didn’t sign), and outside experts who helped prepare the statement,
such as accountants, engineers, appraisers, and underwriters.
-Lawyers can’t be sued just for being lawyers. They can be sued if they are also a
director.

Defenses:
-Loss causation: reason you lost money was not because of
misstatement/omissions, but because there was some other reason (example: stock
market crash)
-Due diligence
What is Due Diligence:
Expert Non-Expert
Expertised Portion Reasonably believes, after No reason to believe information
reasonable investigation, is false
that info is true
Non-expertised No liability Reasonably believes, after
Portion reasonable investigation, that
info is true

Escott v. BarChris (bowling alley securities)  Essentially no one meets the above
chart

Securities Act of 1933, Section 12  covers outside of a registration statement

(Like Section 11, Express Private Rights of Action)

Anti-Fraud #2-

Securities Exchange Act 1934: Section 10(b)  Cause of Action

It shall be unlawful for any person to use or employ (in connection with the
purchase or sale of any security) any manipulative or deceptive device or
contrivance in contravention of the rules and regulations of the Securities and
Exchange Commission.
*Most widely used anti-fraud provision
-Defective corporate disclosure
-Insider Trading
-Fraud in dealings with broker-dealers and customers
*(IMPLIED Private Right of Action  courts have to imply standing)
-Scienter (knowing state of mind)
-Reliance
-Causation
-Damages

Rule 10b-5  More specific; choose the most applicable of the 3

It shall be unlawful for any person
(a) To employ any device, scheme or artiface to defraud
(b) To make any untrue statement of a material fact (or material omission)
(c) OR to engage in any act, practice, or course of business which operates as a
fraud or deceit upon any person
Theories:
Classic Rule Against Insider Trading  10(b) and Texas Gulf
Tippees  Dirks
Misappropriation  O’Hagan

In Re Cady Roberts (SEC Case 1961, we didn’t read it)  SEC recognized common
law duty of corporate insiders to disclose inside information when dealing in
securities.

SEC v. Texas Gulf (there was drilling going on with good findings. The company 1)
bought securities on the good oil news before it was released to the public and 2)
lied in publicly denying the find) 3 issues:
 Prohibition of Insider Trading: When insiders, those with access to non-public
information, have information…they have it for a purpose to do their work and
make business decisions. It was confidential when they bought the stock, so they
misused the information for personal gain.
 Standard of Materiality: test= would a reasonable investor want to know the
information in making investment decisions. Here, the information was speculative.
So when information is speculative courts START with Reasonable Man Standard
and then NEXT move to the Probability Magnitude Test:
*Weigh the probability of something happening with the magnitude of that
event. Here, the probability of a ore strike was high and the magnitude of the
impact of the company would be large. So it was material.
 In Connection Requirement  Company says they aren’t liable because the ore
strike wasn’t in connection with purchase/sale of securities. Court disagrees, says it
is enough when there is false information if the investors can show you knew what
you were putting out was not correct and investors would rely on it.

Chiarella v. United States (Supreme Court 1980 case, we didn’t read, person in
printing business read a document he was printing and was able to figure out a
corporate transaction)  Court says no liability. The fact the person got inside
information doesn’t mean automatic liability; mere possession is not enough. Only
liability when there is a breach of a fiduciary duty. The duty to abstain arises from a
relationship of trust between a corporation’s shareholders and employees.

Tippee Liability Test

1) Tipper breached a fiduciary duty.
*Mere possession does NOT give rise to a duty to disclose
*Existence of breach turns on receipt of PERSONAL benefit by tipper
*Temporary insiders (like accountants) may become fiduciaries
2) Tippee knew or should have known of breach.
Dirks v. SEC (he is a broker, gets information from insider Secrist. Dirks didn’t own
stock, didn’t invest stock, but he did tell investors who traded. He also investigated
on his own and went to the news papers. But SEC sees Dirks as law-violated, not
whistle-blower. Dirks isn’t subject to the traditional rule because he is not an
insider)  Supreme Court pretty much upholds Chiarella. Insider trading is not
extended to someone who is a tippee. There is a test, but this fails because the
insider, Secrist, got no personal benefit. He was just trying to be a whistle-blower,
not benefit himself.

Misappropriation
-Outsider violates 10b/10b-5 when he trades on material non-public information in
breach of a duty owed to the source of such information.
-Disclosure to source of information absolves the breach.

14(e) of 1934 Act and SEC rule 14e-3(a)

14(e): In connection with a tender offer, it shall be unlawful to make material
misstatements or omissions or engage in fraud, deception, or manipulation.
14e-3(a): ONLY APPLIES TO TENDER OFFER AND INSIDER TRADING. If a tender
offer has been commenced, it is unlawful to purchase or sell securities on the basis
of material inside information the trader knows information obtained from offeror,
issuer, or any officer, director, partner, or employee to either offeror or issuer

U.S. v. O’Hagan (O’Hagan is partner a law firm who is representing Grand Met who is
making a tender offer for Pillsbury, which is confidential. But O’Hagan began
purchasing stock options in Pillsbury and sold after public announcement)  No
classic rule (you must be an insider to Pillsbury). No tippee (no tipper affiliated
with Pillsbury giving information for personal benefit. So third theory. An outsider
violates when he trades on material, non-public information by breaching a
fiduciary duty owed to the source of that information. Here, O’Hagan owed a duty to
his law firm and his client. He should have disclosed!
 O’Hagan also challenged 14-e-3 and says it should be struck down because it
doesn’t require that someone breach a duty. Says it’s in excess of SEC’s authority.
But court upholds, deferring to SEC.

Securities Act of 1934, Section 16(b)- Short Swing Profits

-Vehicle Congress intended to go after Insider Trading…still enforced!
(But now 10b and 10b-5 are more important)
Who: Someone who is a director, officer, beneficial owner (more than 10% of
common/preferred stock of the business) of a public company regulated by the SEC
What Activity: The person (listed above) purchased and sold OR sold and purchased
securities of their own company within a six month time frame and gained some
profit.
Remedy: Disgorgement of profits
Reliance Electric v. Emerson Electric (Emerson purchased 13% of Dodge in a tender
offer to take over Dodge but failed. Dodge was purchased by Reliance. So Emerson
was a minority shareholder. They wanted to unload their stock without the rule
applying. So (a beneficial owner) they sold 3.24% of their stock to a unrelated part
and in a SECOND transaction (different date and party) sold the remaining 9.96%)
 Court says they are only liable for the profits of the FIRST sale. A literal reading
of the rule says you are only liable if you are covered, and they weren’t covered after
the first sale.
 Note: This rule does not care at all about state of mind. Just if you qualify or not.

Indemnification- DGCL 145

-Covered persons: any person who becomes a party to lawsuit by reason of of
service as a director, officer, employee, or agent
-Indemnification permitted (MAY)
*145(a): third party suits; expenses and judgment; acted in good faith
*145(b): derivative suits; expenses; acted in good faith
-Indemnification required (MUST)
*145(c): expenses; if defendant was successful was on the merits
-Advancements:
*145(e): Corporation MAY grant advances with written undertaking to repay
if not entitled to indemnification.
-Insurance:
*145(g): Corporation may insure covered persons against liability

Waltuch v. Conticommodity (Conti and Waltuch (employee) was engaged in fraud.

Lawsuits were settled by Conti. Waltuch was named as defendant but was
dismissed. $2.2 million in legal fees…different lawsuits though)
 Court holds first, the good faith requirement of 145(a) CANNOT be contracted
around, even though many provisions in statutes can be changed by
contract/Articles of Incorporation. Court doesn’t want to reward people for bad
faith. So he doesn’t get $1 million because no good faith shown.
 Court holds that Waltuch was successful on the merits of the case, even though he
was dismissed. Not being found liable = successful. So he gets reimbursed for $1.2
million.

Proxy
Purpose: Must have certain number of people holding stock to be present (person or
proxy). But only those present can vote. Because majority won’t show, proxy must
happen.
Uses: Solicit shareholder votes needed to hold meeting and take valid shareholder
action
Fights: For corporate control. Incumbents want to keep control. Insurgents want to
take control.

DGCL 211(b)- Requires Annual Meeting of Shareholder for Election of

Directors

DGCL 212(b)- Permits Use of Proxies

Levin v. MGM (O’Brien is incumbent; Levin is insurgent. Levin loses and sues that
O’Brien’s group used excessive expenditure of corporate money…proxies cost a lot)
 Court says expenditure is fine. Insurgents don’t have to step aside and let
insurgents take over. They have the right to expend corporate money. But court
notes that proxy fight needs to be over policy…not just wanting to stay in power.
*When incumbents when they reimburse themselves.

Rosenfeld v. Fairchild Engine (Insurgent group actually wins. So the incumbents

reimburse themselves (valid policy fight) and insurgents got reimbursed because
shareholders voted that they could be)  Court upholds all reimbursements.
Incumbents may charge firm for proxy contests and insurgents may be reimbursed
IF they win AND shareholders ratify.

Shareholder Inspection Rights

Ability of shareholders to obtain shareholder list or other corporate records

regulated by state law

NYBCL 1315
*Shareholder must have at least 5% of outstanding shares
*Must give 5 days demand in writing to business
*Types of records you can get are limited
*Must provide affidavit saying you’ll only use list for certain, legitimate purposes

Crane v. Anaconda (Crane is trying to take over Anaconda, but they don’t want it.
They are shareholder that wants stockholder list to reach out to shareholders
directly to buy their stocks)  Court agrees with Crane, that there is proper
purpose to inform shareholders of valuable exchange offers. Anaconda doesn’t have
any reason besides trying to keep themselves in office.
DGCL 220 (broader than NY)
*Any stockholder
*Written demand
*Request to inspect during normal business hours
*Can request shareholder list, also books and other records (but there is a higher
burden of proof for books/records than there is for shareholder lists)

Pillsbury v. Honeywell (Pillsbury is protesting Honeywell during Vietnam war. He

buys stock so he can essentially expose the company from the inside)  Court says
that you need proper purpose. Proper purpose is an economic argument, NOT
politically, as is the case here.