AGENCY

1. A wealthy speculator wanted to accumulate controlling shares in a company. The speculator

didn’t want to buy the shares on the stock market because his association with the company
would drive up the stock price. Instead, the speculator appointed an agent to purchase a block of
shares in the company from a hedge fund. The agent told the hedge fund manager that the agent
was acting on behalf of a person “who shall remain nameless, but whose name you would
recognize.” The agent signed a contract to purchase the shares. A few days later, the stock price
went down and the speculator refused to pay for the shares. The hedge fund manager threatened
to sue to compel payment for the shares.

Who, if anyone, is liable on the contract to the hedge fund?

Only the speculator is liable because the hedge fund manager knew that the agent was acting for
another person.
Incorrect

Only the speculator is liable because he was a disclosed principal.

Incorrect

Only the agent is liable because the speculator did not ratify the agent’s actions.
Incorrect

Both the speculator and the agent are liable because the speculator was a disclosed but
unidentified principal.
Correct

Explanation:
-Answer option D is correct. An agent is liable on all contracts with third parties unless the
existence and identity of the principal are fully disclosed, or if the third parties agree to hold the
agent harmless. Restatement (Third) of Agency § 6.01-6.03. If the principal is undisclosed or
partially disclosed, the agent remains liable on the contract unless released by the third party. Id.
at § 6.03. Here, the agent disclosed the existence but not the identity of the principal. Because the
principal is therefore partially disclosed, the agent remains a party to the contract and is liable
unless the parties agree otherwise. Id. The principal is also a party to the contract and thus is also
liable. Answer options A and B are necessarily incorrect for the same reasons.
-Answer option C is incorrect because it is not necessary for the speculator to ratify the agent’s
actions if the agent was acting within the scope of her agency for the speculator in entering the
contract with the hedge fund to purchase the shares. See id. at § 6.03. Ratification applies only if
an agent takes an action outside her authority. Then, a principal is liable if he subsequently
ratifies the actions the agent took outside her authority. See id. at § 4.01-4.04.
2. On September 1, a property owner and a real estate agent signed an agreement for the real
estate agent to sell the property owner’s house. From that point on, the real estate agent actively
worked to sell the property. On September 5, the property owner came down with an illness that
caused him to go insane. On October 1, the property owner was adjudicated mentally
incompetent by the court. On October 5, the real estate agent found a buyer for the property and
signed a sales agreement. On October 10, the real estate agent received notice that the property
owner was adjudicated mentally incompetent on October 1.

Did the real estate agent have actual authority to sell the property on October 5?

No, because the actual authority of the real estate agent was terminated on October 1, when the
property owner was adjudicated mentally incompetent.

No, because the actual authority of the real estate agent was terminated on September 5, when
the property owner came down with the illness that caused him to go insane.

Yes, because the actual authority of the real estate agent was terminated on October 10, when he
received notice.

Yes, because the actual authority of the real estate agent could not terminate without a written
termination agreement between the property owner and the real estate agent.

-Answer option C is correct. Loss of capacity terminates an agent’s authority. In that case, the
principal’s incapacity ends the agent’s actual authority when the agent has notice of the
incapacity or an adjudication of incompetence. Restatement (Third) of Agency § 3.07. Here, the
agent’s actual authority was terminated when he received notice on October 10. For this reason,
answer options A and B are incorrect.
-Answer option D is incorrect because the actual authority of the real estate agent would
terminate when he received notice even without a written termination agreement.

3. An elderly woman had used the same insurance agent for five decades to purchase life
insurance, health insurance, and medical insurance. The woman’s relatives believed that she had
bought a lot of unnecessary new insurance policies through the agent in recent years, and these
allegedly unnecessary policies carried high premium payments. The woman's relatives
confronted the agent. The relatives discovered that he was suffering from dementia and had been
making unusual policy recommendations to the woman over the course of the last year. The
relatives called all the insurance companies and asked them to void all the insurance policies
bought by the agent on the woman’s behalf in the past year, claiming that the agent was not
competent when the policies were purchased. There was no dispute that the woman was
competent.

Are the newly bought insurance policies voidable for lack of a valid agency?
Yes, because both the principal and the agent need to be competent for an agency relationship to
be effective, and the agent was not competent when he bought the latest policies.

Yes, because only the agent needs to be competent for an agency relationship to be effective, and
the agent was not competent when he bought the latest policies.

No, because only the principal needs to be competent for an agency relationship to be effective,
and the woman was competent when the agent bought the latest policies for her.

No, because both the agent and the woman were competent when they entered their agency
agreement five decades earlier.

-Answer option C is correct. On the topic of competence, the law of agency has an asymmetry:
the focus is solely on the competence of the principal, not the agent. For a valid agency
arrangement, an agent may be incompetent or even a minor, but the principal must be a
competent adult. The capacity required for a principal to authorize an agent to act on her behalf
is akin to the general capacity required to enter into a contract. Further, the relevant time for
measuring the principal’s capacity is when the agent acts, not when the principal enters into the
agency agreement. See Restatement (Third) of Agency § 3.04
-Here, the woman (the principal) was competent at the time that the agent purchased the new
policies. Even if the agent himself was incompetent at that time, because the woman was
competent, the agent could still bind her as her agent. Therefore, the newly purchased insurance
policies are not voidable due to a lack of a valid agency. Answer options A and B are necessarily
incorrect for the same reasons.
-Answer option D is incorrect because the fact that the woman (the principal) had been
competent at the time the agency agreement was entered does not make the agent’s current
actions valid. For example, if the woman had become incompetent, the recent actions would then
be invalid. The reason that the agent’s actions were valid here is that the woman was competent
at the time the agent acted.

4. A large hotel chain hired an agent to enter into a contract with a florist to supply flowers to all
of its locations. The agent met with a florist and told him that she was looking to enter into a
contract with the florist on behalf of someone else. However, she did not tell the florist the name
of the hotel. After a long negotiation, the agent and the florist reached an agreement and signed a
contract. Soon thereafter, the hotel refused to recognize the contract and the florist sued.

If the court finds that the agent was acting within the scope of her agency relationship, is the
agent liable on the contract with the florist?

Yes, because the agent did not tell the florist the name of the hotel.

Yes, because the agent negotiated the contract with the florist.
No, because an agent is never liable on a contract entered with a third party on a principal’s
behalf.

No, because the agent said she was entering into the contract for someone else.

-Answer option A is correct. Whether an agent is a party to, and thus liable on, a contract the
agent entered with a third party on the principal’s behalf depends on what information the agent
disclosed about the principal’s identity. If an agent disclosed the existence but not the identity of
the principal, then the agent is also a party to the contract, absent an agreement with the third
party that the agent will not be liable. See Restatement (Third) of Agency § 6.02. This is known
as an unidentified or partially disclosed principal. Here, because the agent did not disclose the
name of the hotel, she could be liable on the contract. Answer option D is incorrect for this
reason.
-Answer option B is incorrect because the mere fact the agent negotiated the contract would not
make her liable.
-Answer option C is incorrect because an agent may be liable on a contract if the principal’s
identity is unidentified or partially disclosed, or if the principal’s identity is completely
undisclosed. Id. at § 6.02-6.03.

5. A pawn broker entered into an agency agreement with a man to purchase underpriced items at
garage sales for the pawn broker to sell at its pawn shop. The pawn broker supplied the man with
a company jacket, a cash card, and business cards, and agreed to pay the man a small salary plus
a 20 percent finder’s fee if the item the man purchased later sold at the pawn shop. At a garage
sale the next day, the man found an original painting that was worth millions on sale for $100.
Although the man recognized that he had a fiduciary duty to give this opportunity to the pawn
broker, the man paid the $100 out of his own pocket and then sold the painting himself, keeping
all the profit. The next day, the man reported to the pawn broker that he had found nothing at the
garage sales, and that he was quitting. The pawn broker asked the man to continue working, but
the man was not interested. The pawn broker finally accepted the man’s resignation and agreed
to end their relationship.

When, if ever, did the agency relationship terminate?

When the man bought the painting for himself.

When the man told the pawn broker he was quitting.

When the pawn broker accepted the man’s resignation.

The agency agreement never terminated.

-Answer option A is correct. An agency relationship terminates upon the agent’s breach of
fiduciary duties – including the duty to put the interests of the principal first. Here, the man
breached that duty once he acted for himself instead of offering the opportunity to buy the
painting to the pawn broker. Once the man breached his fiduciary duty to the pawn broker, this
terminated the agency relationship. Answer options B, C, and D are necessarily incorrect for the
same reason.

6. A lawyer hired a first agent to help him find a new office. The written agreement between the
lawyer and the first agent specified that the relationship was exclusive and prohibited the lawyer
from hiring another agent to find a new office for 12 months. One month passed with no
communication between the lawyer and the agent. The lawyer then hired a second agent to find a
new office. Two months after that, the lawyer was adjudicated incompetent and the first agent
received notice of the adjudication.

Which of the following is the earliest time, if at all, when the first agent’s actual authority
terminated?

When the lawyer hired the second agent.

When one month with no communication between the lawyer and the first agent.

When the first agent had notice that the lawyer had been adjudicated incompetent.

The first agent’s actual authority never terminated.

-Answer option C is correct. An agent’s actual authority to bind a principal may be terminated
by: (1) the agent’s death, cessation of existence, or suspension of powers; (2) the principal’s
death, cessation of existence, or suspension of powers; (3) the principal’s loss of capacity; (4) an
agreement between the agent and principal or the occurrence of circumstances on the basis of
which the agent should reasonably conclude that the principal no longer would assent to the
agent’s taking action on the principal’s behalf; (5) a manifestation of revocation by the principal
to the agent, or of renunciation by the agent to the principal; or (6) the occurrence of
circumstances specified by statute. Restatement (Third) of Agency § 3.06.
-Here, the first agent’s notice that the lawyer had been adjudicated incompetent terminates the
agent’s actual authority. See id. §§ 3.06(3), 3.08(1), (3). That is the earliest time by which the
first agent’s actual authority terminated. Answer option D is necessarily incorrect for this same
reason.
-Answer option A is incorrect. The lawyer’s hiring of the second agent breached the written
terms of the agreement between the lawyer and the agent. While this breach might give rise to
contractual liability for the lawyer, it does not necessarily terminate the agent’s actual authority.
See id. § 8.13 cmt. B.
-Answer option B is incorrect. Here, the written agreement contemplates a 12-month period in
which the agent will search for a new office on the lawyer’s behalf. Circumstances, such as the
completion of a purchase or lease of new office space, could manifest an earlier termination of
the first agent’s actual authority. One month with no communication between principal and agent
bound by an agreement with a 12-month term does not necessarily indicate that the first agent
reununciated his actual authority, nor does it manifest a revocation of the agent’s actual authority
by the lawyer. See id. § 3.06(4). Therefore, the lack of communication between principal and
agent here does not terminate the agent’s actual authority under these circumstances.

7. A record company orally hired an agent to lease a new mixing board for its recording studio.
A new mixing board was specifically required in a written contract the company signed with a
new band. After a few weeks of searching, the agent found an appropriate board at a music rental
store. The agent told the store that he was acting on behalf of the record company because of the
contract it had with the band. He showed the store the band contract and entered into an oral
contract to lease the mixing board for three years. However, when the band saw the leased board,
the band stated that the board was not good enough for its new record. The agent returned the
board to the store, and the store sued the record company for breach of the leasing agreement.
The store’s suit was brought in a state that recognized the equal dignities rule.

Is the company liable for the breach of the leasing agreement?

Yes, because the agent told the store he was acting on behalf of the record company.

Yes, because the agent showed the store the written contract between the record company and
the band.

No, because the agency agreement is not in writing.

No, because the band was the one to refuse the new mixing board.

-Answer option C is correct. Observed in some states, the equal dignities rule requires that if an
agent enters into a contract that must be in writing under the applicable statute of frauds, the
underlying agency agreement authorizing the agent to act on the principal’s behalf must also be
in writing. See, e.g., Shoals v. Home Depot, Inc., 422 F. Supp. 2d 1183, 1190 (E.D. Cal. 2006).
In jurisdictions that do not apply the equal dignities rule, the general rule is that no writing is
required to create an agency relationship, even if the applicable statute of frauds requires any
contracts the agent enters into on a principal’s behalf to be in writing.

8. A real-estate conglomerate hired a property manager to oversee all of its properties within a
state. The written agency agreement between the conglomerate and the manager provided for
compensation on the fifth of each month. However, the written agreement did not reserve any
power in the conglomerate to revoke the manager’s authority or otherwise terminate him. Six
months into the manager’s tenure, occupancy in the buildings under his supervision was at an all-
time low. Dissatisfied with the manager’s performance, the conglomerate issued a letter to the
manager terminating him, effective 10 days later, on the first of the following month.

Under principles of agency law, may the conglomerate revoke the manager’s authority?
Yes, because the conglomerate may revoke the manager’s authority at any time.

Yes, because the manager has not yet been paid for the month.

No, because agency agreements providing compensation are irrevocable absent 30 days’ notice.

No, because the written agency agreement did not reserve a power to revoke for the
conglomerate.

-Answer option A is correct. In general, a principal or agent may revoke most agency
relationships at any time, unless any agency agreement provides otherwise. Certain types of
agency powers, such as those that are granted as securities and certain proxies, are irrevocable.
Restatement (Third) of Agency § 3.12. Here, the agency power granted to the property manager
is revocable; the powers that the real-estate conglomerate granted to the manager are neither
securities nor proxies. Therefore, under agency principles, the conglomerate is able to revoke the
manager’s agency authority at any time. Answer options C and D are necessarily incorrect for
these same reasons. Answer option B is incorrect because whether the manager is compensated
or not does not impact whether the agency powers that the conglomerate granted are revocable.

9. A theme park developer sought to acquire a large area of land to build a park. The land he
needed would require numerous purchases from different sellers, and the developer did not want
real estate prices to rise once potential sellers realized his plans. The developer employed an
agent to act on his behalf in acquiring the land. The agent entered a contract to purchase land
from a seller but disclosed neither the principal’s identity nor existence in the transaction. The
seller signed an agreement to sell but then wanted to back out of the transaction.

Who, if anyone, may enforce the sales contract against the reluctant seller?

Only the agent.

Only the developer.

Both the agent and the developer.

Neither the agent nor the developer.

-Answer option C is correct. Here, the agent withheld both the developer’s identity and existence
from the reluctant seller. The developer is therefore an undisclosed principal. Restatement
(Third) of Agency § 1.04(b). If an agent acting within the scope of his agency relationship enters
into a contract with a third party on behalf of an undisclosed principal, both the agent and the
undisclosed principal are parties to the contract and may enforce the contract. See id. at § 6.03.
Therefore, both the developer and the undisclosed principal here are parties to the sales contract
with the reluctant seller, and both are entitled to enforce the contract. Id. Answer options A, B,
and D are necessarily incorrect for that reason.
10. An art collector owned a rare painting that he wanted to sell. He mentioned this to his friend,
an art dealer, who in turn mentioned the painting to an ex-girlfriend who owned an art gallery.
The ex-girlfriend was interested in purchasing the painting. The dealer asked the collector and
the ex-girlfriend whether they would let him serve as a dual agent for both parties, to determine a
fair price for the painting. The collector and the ex-girlfriend agreed and signed a dual-agency
agreement that waived any conflict of interest. The dealer determined a fair price for the
painting, the sale closed at that price, and the dealer took a commission in accordance with the
dual-agency agreement.

Assuming that the jurisdiction does not prohibit dual-agency relationships, was it proper for the
dealer to act as a dual agent for both parties?

Yes, because the principals agreed on the price, so there was never any conflict of interest.

Yes, because although there was a conflict of interest, the principals waived it after being fully
informed.

No, because an agent has a fiduciary duty never to place himself in a situation where a gain for
one principal is a loss for the other.

No, because an agent is not permitted to conduct business on behalf of people with whom he is
personally connected.

-Answer option B is correct. Dual agency is permissible if both of the principals waive the
conflict of interest. Here, both principals were made aware of the conflict and waived it in
writing. Therefore, there is an express agency relationship between the dealer and each of the
principals. The arrangement is binding. Answer option A is incorrect because there is indeed a
conflict of interest. The key question is whether it can be waived, and the answer is yes, if both
principals are fully informed. Answer option C is incorrect because the issue is not whether one
principal or the other might be worse off with dual agency than with single agency; the law
leaves the choice up to the principals and does not force them to get separate agents if they
choose a single dual agent. Answer option D is incorrect because the fact that the dealer knew
both the collector and the ex-girlfriend personally in advance of the agency relationship is
immaterial. An agency relationship may be created between two parties who already have an
existing personal or business relationship.

11. An insurance broker sold insurance policies from various insurers. Most of the insurance
companies paid the broker a standard 10 percent of the present value of any policy that he sold.
The broker disclosed to buyers that he was a sales agent for the insurance companies. The broker
sold an auto insurance policy to a buyer. The buyer later filed a claim with the insurance
company for injuries incurred in a car accident, but the company refused full coverage because
of conflicting evidence on whether her contributory negligence caused her injuries. The buyer
threatened to sue the broker and the insurance company for nonpayment.

Who, if anyone, is contractually liable to the buyer?

Only the broker.

Only the insurance company.

Both the broker and the insurance company.

Neither the broker nor the insurance company.

-Answer option B is correct. If the principal’s identity is disclosed, the agent generally will not
be held liable on the contract unless the parties agreed otherwise. See Restatement (Third) of
Agency § 6.01. The insurance broker is therefore not contractually liable on the insurance policy
he sold to the buyer. Because the broker was acting within the scope of his agency in selling the
policy, only the insurance company is liable. Id. Answer options A, C, and D are necessarily
incorrect for those reasons.

12. An executive engaged her personal assistant to sell the executive’s personal car, which was a
collectible model. The personal assistant placed ads in various collector publications, listing the
assistant’s name and contact information. The assistant met with various prospective buyers and
told them all that he was selling the car for his boss; however, he did not inform any of the
sellers of the boss’s identity. The assistant signed a sales contract for the car while the executive
was out of town on vacation. Unbeknownst to the assistant, the executive had passed away
suddenly while on vacation several days before the sales contract was signed. The governing
jurisdiction used the Restatement’s approach to agency law.

Did the personal assistant have actual authority to enter into the sales contract?

Yes, because the personal assistant had no notice of the executive’s death when he entered the
sales contract.

Yes, because the prospective buyer had no notice of the executive’s death when he entered the
sales contract.

No, because the personal assistant’s authority to bind the executive ended at the executive’s
death.
No, because the identity of the executive was undisclosed.
Answer option A is correct. In general, the death (or cessation, if the principal is not an
individual) of the principal terminates the agent’s actual authority. Under the Restatement’s
approach, a termination of actual authority is only effective once the agent has notice of the
principal’s death. Restatement (Third) of Agency § 3.07. Here, because the personal assistant did
not know that the executive had died, he had actual authority to enter into the sales contract.
Therefore, the contract is binding on the executive’s estate, just as any contract entered into
personally by the executive during her lifetime would be. Answer option C is necessarily
incorrect for this same reason.

Answer option B is incorrect because the buyer’s notice of the executive’s death would be
relevant to the termination of the agent’s apparent authority, not the agent’s actual authority. The
termination of an agent’s actual authority does not itself end the agent’s apparent authority.
Rather, an agent’s apparent authority ends when it is no longer reasonable for the third party with
whom the agent deals to believe that the agent continues to act with actual authority. Id. § 3.11.

Answer option D is incorrect because whether the principal’s identity is disclosed does not
impact whether the principal is bound on a contract entered into on her behalf by an agent. So
long as the agent is acting within the scope of his authority, a principal will be bound on the
contract regardless of whether her identity is disclosed. In contrast, whether a principal’s identity
is disclosed determines whether an agent is a party to a contract the agent enters into on the
principal’s behalf. If the principal’s existence and identity are disclosed, then the agent is not
liable on the contract unless the parties intend otherwise. Restatement (Third) of Agency § 6.01.
If, as here, the agent discloses the existence, but not the identity, of the principal (also called an
unidentified principal), the agent is also a party to the contract. Id. § 6.02. Finally, if neither the
principal’s existence nor her identity is disclosed, then the agent is also a party to and liable on
the contract. Id. § 6.03.

PIERCING THE VEIL

1. A business owner decided to incorporate the business. The owner submitted articles of
incorporation to the secretary of state that contained all the necessary information and paid the
filing fee required by state law. However, the secretary of state inadvertently rejected the filing.
Unaware that the filing had been rejected, the business owner purchased a building using the
purported corporate name. A pedestrian suffered injuries in a slip-and-fall accident in front of the
building and brought a personal-injury lawsuit to recover damages. The pedestrian discovered
the defective incorporation and sought to hold the business owner personally liable in the
lawsuit.

If the court declines to hold the business owner personally liable, what is the most likely reason
why?

The business owner paid the filing fee.

The articles of incorporation contained all necessary information.

The jurisdiction recognized the doctrine of corporation by estoppel, and the court applied that
doctrine.

The jurisdiction recognized the de facto corporation doctrine, and the court applied that doctrine.
-Answer option D is correct. The de facto corporation doctrine protects a business owner from
personal liability if the business owner made a good-faith attempt to create a legal corporation
but failed because of a technical defect. See, e.g., Caudill v. Sinex Pools, Inc., 2006 WL 258302
(Del. Super. Ct. 2006). Many jurisdictions have abolished this doctrine. If not abolished,
generally, the de facto corporation doctrine applies only if: (1) the law authorizes the creation of
corporations, (2) the party seeking protection made a bona fide effort to comply with the
statutory incorporation requirements, and (3) the party seeking protection was an actual user of
corporate power (meaning that party acted consistently with having organized as a corporation).
See id.; see also Parks v. James J. Parks Co., 128 Neb. 600 (1935).

Here, due to the state’s rejection of the incorporation paperwork, no actual corporation exists to
protect the business owner from liability. Thus, the business owner is technically a sole
proprietor and subject to personal liability for claims against the business. However, the business
owner satisfied all three requirements for protection under the de facto corporation doctrine.
First, the state has a statute authorizing the creation of corporations. Second, the business owner
attempted to satisfy the statute. Third, the business owner acted consistently with having actually
incorporated the business by paying the filing fee and purchasing the building using the
purported corporate name. Therefore, if the court refuses to impose personal liability against the
business owner, then the court most likely applied the de facto corporation doctrine to shield the
owner from personal liability for the claim against the business.

Answer option A is incorrect because, without more, paying the filing fee to incorporate a
business does not create a corporation or otherwise shield a business owner from personal
liability.

Answer option B is incorrect because even though the articles of incorporation contained all the
required information, the secretary of state mistakenly rejected them. The business does not
become a corporation (and protect its owner or owners from personal liability for claims against
the business) until the articles of incorporation are actually filed with the state.

Answer option C is incorrect because the doctrine of corporation by estoppel precludes third
parties who have dealt with a business as a corporation from later denying the existence of a
corporation. See Don Swann Sales Corp. v. Echols, 160 Ga. App. 539 (1981). That doctrine is
unlikely to apply here because the pedestrian is not a third party who dealt with the business as a
corporation. Rather, the pedestrian simply walked down the sidewalk in front of the building,
which could have been owned by any type of business or by a natural person. Thus, the doctrine
of corporation by estoppel is not likely to protect the business owner. In contrast, because the
business owner does clearly meet the requirements to be shielded by the de facto corporation
doctrine, that doctrine is the more likely basis for the court’s ruling.

2. A technology developer incorporated a business to develop autonomous driving technology

specifically for use in the trucking and shipping industry. In furtherance of the business, the
developer caused the corporation to enter into numerous contracts to purchase equipment to be
used in the technology’s development. Subsequently, as a result of the corporation’s breach of
many of the contracts, the corporation and the developer, in the developer’s individual capacity,
were named as defendants in multiple lawsuits. In each of the suits, the plaintiffs sought to
persuade the courts that the courts should pierce the corporate veil under the alter-ego doctrine
and hold the developer personally liable for the breached contracts.

Which of the following findings is NOT required in order for the courts to pierce the corporate
veil under the alter-ego doctrine?

That the developer exerted complete control over the corporation.

That the developer intended to control the corporation to cause some unfair harm or injustice to
the plaintiffs seeking to pierce the veil.

That the developer’s control over the corporation caused some unfair harm or injustice to the
plaintiffs seeking to pierce the veil.

That the developer committed actual fraud in disregarding the corporate form.

Answer option D is correct. The prevailing theory of corporate veil piercing is the alter-ego
doctrine. Under this doctrine, courts will pierce the corporate veil of limited liability, and hold a
shareholder personally liable for corporate obligations, if two general requirements are satisfied.
First, the shareholder must have effectively disregarded the corporate form, exerting such
complete dominion or control over the corporation that it effectively became an extension of the
shareholder, a mere instrumentality to accomplish the shareholder’s will. Second, and crucially,
this disregard of the corporate form must have been meant to cause, and must have caused, some
unfair harm or injustice against the party seeking to pierce the veil. However, actual fraud is not
required, although courts typically look for some indication of bad faith. See 18 Am. Jur. 2d
Corporations § 52, Westlaw (database updated Aug. 2018); Morris v. N.Y. State Dep’t of
Taxation and Fin., 623 N.E.2d 1157 (N.Y. 1993). Therefore, here, in order for the courts to
pierce the corporate veil under the alter-ego doctrine, and hold the developer personally liable,
the courts are not required to find that the developer committed actual fraud in disregarding the
corporate form.

Answer options A, B, and C are incorrect because, as explained above, each accurately states a
finding that is required in order for the courts to pierce the corporate veil under the alter-ego
doctrine and hold the developer personally liable.

CREATION OF PARTNERSHIPS
1. A woman made novelty tote bags at home and sold the bags over the Internet. The woman
obtained all required licenses and permits for the tote-bag business. Otherwise, the woman took
no formal steps and filed no documents with any government agency concerning the business.
Also, the woman hired a friend to help her make the bags. As compensation for her work making
the bags, the friend received a fixed hourly wage, plus a percentage of profits. At all times, the
woman owned, operated, and exclusively controlled all aspects of the business.

Is the friend a partner in the tote-bag business?

No, because the tote-bag business is a sole proprietorship, and the woman is the owner.

No, because the friend was never named as a partner in any express written or oral partnership
agreement.

Yes, because the friend received a percentage of profits.

Yes, because the friend contributed services to the business.

Answer option A is correct. The friend is not a partner, because the tote-bag business is a sole
proprietorship owned by the woman. In a partnership, multiple people, called partners, carry on a
for-profit business as co-owners. By contrast, in a sole proprietorship, just one person owns,
operates, and exclusively controls all aspects of the business. No formal steps are necessary to
form a sole proprietorship, like filing documents with a government agency. See sole
proprietorship, Black's Law Dictionary (10th ed. 2014). Here, the woman did nothing to
formally choose the form of her business, which is consistent with having a sole proprietorship.
More importantly, at all times, the woman owned, operated, and exclusively controlled all
aspects of the tote-bag business. The friend simply worked in the business and had no control
over any part of it. Thus, the tote-bag business is best classified as a sole proprietorship owned
by the woman. Because there are no co-owners or partners in a sole proprietorship, this means
the friend is not a partner.

Answer option B is incorrect because the lack of a partnership agreement does not necessarily
prevent the friend from being a partner in the business. Generally, some sort of agreement is
required for a person to be a partner in a partnership. However, that agreement need not always
be expressed orally or in writing; a partnership also may be implied from the circumstances. Knit
With v. Knitting Fever, Inc., 742 F. Supp. 2d 568 (E.D. Pa. 2010). Thus, even though there is no
partnership agreement here, it would still be possible for the friend to be a partner in the
business, for instance, if the woman and friend were acting like business partners.

Answer option C is incorrect because the friend is receiving profits as payment for her work, a
type of wages. In general, a person is presumed to be a partner in a business if she receives a
share of the profits. However, this presumption does not apply if the profit share is payment for
something like wages or rent, rather than a partner’s general share of all profits. See Unif. P'ship
Act § 202(c)(1) (1997).

Answer option D is incorrect because the friend’s contribution to the business was the
contribution of an employee, not a capital contribution from a partner. In general, all partners
will make a capital contribution to the business. This capital contribution can be virtually
anything of pecuniary worth, including personal services, like the friend provided here.
However, providing pecuniary value to the business is not enough, by itself, to make one a
partner. See Partnership, Black's Law Dictionary (10th ed. 2014); Knit With, 742 F.Supp.2d 568.
Here, the friend’s contribution was to provide services to the business in exchange for
compensation, like an employee, not to make a capital contribution. Further, the only thing the
friend did was provide services to make bags. The woman exercised exclusive ownership and
control over the business. Thus, the friend is not a partner, even though she contributed services
to the tote-bag business.

2. Two individuals wanted to form a general partnership. One was a 17-year-old. The other was a
19-year-old. A court had recently declared the 19-year-old mentally incompetent. Under the
governing law, the age of majority was 18 years old.

Which of these individuals has the legal capacity to be a partner in a general partnership, if
either?

Only the 17-year-old.

Only the 19-year-old.

Neither the 17-year-old nor the 19-year-old.

Both the 17-year-old and the 19-year-old.

Answer option C is correct. The legal capacity needed to be a partner in a general partnership is
the same as the capacity to enter a binding contract. That is because a general partnership is, at
its core, a contractual arrangement among the owners of the underlying business, called partners.
In general, a minor or any mentally incompetent person lacks capacity to enter a binding contract
and, thus, cannot be a partner in a general partnership. See Belcher v. Queen, 39 So.3d 1023
(Ala. 2009); Hauer v. Union State Bank of Wautoma, 532 N.W.2d 456 (Wis. Ct. App. 1995).

Here, the age of majority is 18 years old. Because the 17-year-old is under that age, the 17-year-
old lacks the requisite legal capacity to be a partner. A court has declared the 19-year-old to be
mentally incompetent. Accordingly, the 19-year-old also lacks the legal capacity to be a partner.
Answer options A, B, and D are necessarily incorrect for these same reasons.

3. Five programmers entered into a general partnership to create and market new video games.
One of the programmers believed that his friend, a web analyst who had done some preliminary
work for the partnership, should be admitted as a new partner.

Under the Uniform Partnership Act, how many of the programmers must consent to the
admission of the analyst as a new partner?

One.

Three.

Four.

Five.

Answer option D is correct. Under the Uniform Partnership Act, the default rule is that all
existing partners must unanimously consent to admit a new partner to a general partnership. See
Unif. P'ship Act § 401(i) (1997). However, this default rule may be modified by the governing
partnership agreement. Here, because there is no apparent modification in the partnership
agreement, all five of the programmers must consent to admit the analyst as a new partner.

Note that, under the default rules in the Uniform Partnership Act, unanimity is required only to
admit a new partner, to amend the partnership agreement, or to undertake an act outside the
ordinary course of the partnership business. The law typically presumes that all partners have
equal rights in managing a general partnership's business. Unless the partnership agreement
specifies otherwise, a simple majority of partners is sufficient to decide matters falling within the
ordinary course of the partnership business. See id. at § 401(f), (j).

3. A sock company operated as a partnership between several former professional football

players. The company suffered a large business downturn after one of the partners, who starred
in all of the company’s advertising and commercials, was accused of murder. In response, the
company shot a series of advertisements with a company franchisee who was a beloved former
professional baseball player. The baseball player was not a partner in the company and told the
partners that he would only do the advertisements if the company did not hold him personally
liable for any past or present debts owed by the partnership. In the advertisements, which were
very popular, the baseball player said to, “Partner up with the me and the boys!” This sentence
alluded to one of the baseball player’s famous catchphrases. The partnership then went to a bank
for a loan to get it through the business downturn caused by the murder charge. After lengthy
negotiations with the partners, the bank said that it would extend $1,000,000 in credit to the
company based on the baseball player’s partnership and the new direction that the bank believed
the company was taking. After the bank extended the credit, the bank called the baseball player
to congratulate him on his new involvement with the company, and the baseball player thanked
the bank for the credit extension. A month later, the company went bankrupt after making a bad
investment based on the baseball player’s recommendation. The bank sued both the company
and the former baseball player for repayment. The baseball player argued that he was merely a
franchisee and could not be held liable for any company debts.

May the baseball player be held personally liable for the company’s debt to the bank?

Yes, because the baseball player allowed the bank to believe he was a partner.

Yes, because the company went bankrupt based on the baseball player’s investment
recommendation, which led to the default on the bank loan.

No, because the baseball player did not specifically tell the bank that he was a partner in the
company.

No, because the baseball player was merely a franchisee and not a general partner.

Answer option A is correct. If a person holds himself or herself out as a partner in a partnership,
whether by words or conduct, that person will be personally liable to any third party who enters
into a transaction in reliance on the existence of such a partnership, just as if that person were, in
fact, a partner. Unif. P’ship Act § 308(a) (1997). A person may be held similarly liable for
allowing someone else to hold himself or herself out as a partner. Id. Put simply, a person who
represents himself or herself as a partner may be subjected to liability as if he or she were. Here,
through the advertisements and the bank negotiations, the baseball player allowed the company
to imply that he was a partner in the company. Because the bank extended credit to the
partnership based on this belief, the baseball player can be held personally liable for the bank
debt. For these reasons, answer options C and D are incorrect.

Answer option B is incorrect because the baseball player’s personal liability is not based on the
bad investment advice he gave to the company.

4. A law firm was organized as a general partnership and had five partners. The firm's written
partnership agreement did not address the admission of a new partner. Among the firm's
employees was one associate who did varying work for all the partners. One day, the partners
held a meeting to decide whether to admit the associate as a partner of the firm. Four partners
wanted to make the associate a partner by allowing the associate to buy an equity stake the firm
at a very favorable price, which the associate was ready, willing, and able to pay. However, one
partner opposed making the associate a partner.

May the associate be made a partner of the firm?

Yes, because a majority of the existing partners wanted to make the associate a partner.

Yes, because the associate has made a capital contribution to the firm.

No, because one existing partner opposed making the associate a partner.

No, because the associate has not made a capital contribution to the firm.

Answer option C is correct. In a general partnership, the default rule is that no one may be
admitted as a new partner without the consent of all existing partners. However, this rule may be
changed by the governing partnership agreement. See Unif. P'ship Act § 401(i). Here, the written
partnership agreement did not address the admission of a new partner to the firm. Thus, the
default rule requiring unanimous partner consent applies. Because one existing partner opposed
making the associate a partner, there was not unanimous consent among the existing partners.
Without unanimous consent, the associate cannot be made a partner of the firm. Answer option
A is necessarily incorrect for these same reasons.
Answer options B and D are incorrect because any capital contribution would be pointless
without unanimous consent from the existing partners. To become a partner in a general
partnership, one must typically contribute something of monetary value to the partnership. This
is called making a capital contribution. Here, the associate was ready, willing, and able to pay the
price to buy an equity stake in the firm. Putting money into the partnership as general equity
would qualify as a capital contribution. However, no capital contribution was due from the
associate until after the existing partners had consented to allow the associate to join the
partnership. Even if the associate had made an early capital contribution, the contribution, by
itself, would not be enough to make the associate a partner without unanimous consent from the
existing partners. Thus, the problem here was the lack of consent from all existing partners, not
whether the associate had or had not yet made a capital contribution.

5. A carpenter was offered the opportunity to join a cabinet-making business as a limited partner.
The carpenter consulted with an attorney to discuss the legal implications of being a limited
partner.

Which of the following is a legal implication of the carpenter’s joining the partnership as a
limited partner?

The carpenter will have coequal authority with the general partners to manage and control the
partnership's business.

The carpenter will share in the profits of the partnership's business.

The carpenter will be personally liable for all of the partnership’s contractual obligations.

The carpenter will be personally liable for all of the partnership’s tort obligations.

Answer option B is correct. In a limited partnership, there are two types of partners: limited
partners and general partners. Limited partners, like general partners, typically always share in
the profits of the partnership. See limited partnership, Black's Law Dictionary (11th ed. 2019).
Therefore, the legal implication of the carpenter’s joining the partnership as a limited partner is
that the carpenter will share in the partnership’s profits.

Answer option A is incorrect because, in a limited partnership, it is typically only the general
partners who manage and control the partnership business. In contrast, limited partners typically
exercise very little management authority. See id.; Unif. Ltd. P’ship Act §§ 302, 402, with
comments. Therefore, the carpenter will not have coequal authority with the general partners to
manage and control the business.

Answer options C and D are incorrect, because the general rule is that a limited partner is not
personally liable for any partnership obligations, regardless of the type of obligation. Unif. Ltd.
P’ship Act § 303. In contrast, typically, a general partner is personally liable for any partnership
obligation arising after the person becomes a general partner. Id. at § 404. Therefore, the
carpenter will not be liable for the partnership’s contractual or tort obligations.

6. A florist owned a flower shop as a sole proprietor. The shop operated out of a leased
downtown storefront. One day, a customer was injured when he tripped over some loose
carpeting while leaving the flower shop. The customer sued and won a large tort judgment. A
short time later, the shop fell behind on its lease payments for the storefront. The landlord
commenced eviction proceedings and sued for breach of contract, resulting in a large judgment
for the overdue rent.

For which judgment, if either, is the florist personally liable?

Only the customer's tort judgment.

Only the landlord's contract judgment.

Neither the customer's tort judgment nor the landlord's contract judgment.

Both the customer's tort judgment and the landlord's contract judgment.
Answer option D is correct. In a sole proprietorship, just one person owns, operates, and
exclusively controls all aspects of the business. The sole owner is personally liable for all debts
arising from the sole proprietorship's business, regardless of whether the debts sound in contract,
tort, or otherwise. See Bankston v. Pierce Cty., 301 P.3d 495 (Wash. Ct. App. 2013) (noting that
there is no legal distinction between a sole proprietorship and its individual owner); sole
proprietorship, Black's Law Dictionary (10th ed. 2014).
Here, the florist is the sole proprietor of the flower shop. This makes the florist personally liable
for all debts arising from the flower shop's business, regardless of their nature. Both judgments
arose from the flower shop’s business. The customer won the tort judgment because he was hurt
when he tripped over loose carpeting in the flower shop, and the landlord's contract judgment
was for overdue rent for the flower shop's storefront space. Accordingly, as the sole proprietor of
the flower shop, the florist is personally liable for both judgments arising from the shop’s
business. Answer options A, B, and C are necessarily incorrect for these same reasons.

7. A group of businessmen entered into a limited partnership to operate a minor league baseball
franchise. There was one general partner and five limited partners. During the baseball season,
the general partner approached a bank for a large loan to sign a hot pitching prospect for the
team. The general partner negotiated the loan and promised that the partnership would pay it
back within one year. The franchise ultimately failed to sign the pitcher, but it used the loan to
refurbish luxury box seats and the franchise’s stadium. When the loan became due, the
partnership did not have sufficient funds to pay it back because of a drop in baseball game
attendance. The bank told the general partner that it was holding him personally liable for the
loan.

May the general partner be held personally liable for the loan?

Yes, because he personally negotiated the loan.

Yes, because he is the general partner of the partnership.

No, because the bank knew that the loan was for the partnership.

No, because the general partner promised that the partnership would pay back the loan.
Answer option B is correct. Typically, in a limited partnership, only a general partner is
personally responsible for partnership liabilities. In a limited partnership, there are two types of
partners: general partners and limited partners. Usually, the general partners manage and control
the partnership business and are personally liable for partnership obligations. See Unif. Ltd.
P'ship Act §§ 404, 406 (2001); limited partnership, Black's Law Dictionary (10th ed. 2014). In
contrast, limited partners are analogous to corporate stockholders. Limited partners generally
exercise little control over the business, and they are usually not liable for partnership obligations
beyond their capital contributions to the partnership. Unif. Ltd. P'ship Act § 303 (2001).
Consequently, the general partner would be personally liable for the loan.

Answer option A is incorrect because the general partner’s personal liability is not based on the
fact that he negotiated the loan.
Answer options C and D are incorrect because the analysis would not change due to the fact that
the bank knew that the loan was for the partnership or the fact that the general partner promised
that the partnership would pay back the loan.

8. A graphic-design firm was organized as a general partnership with five partners. At one point,
the founding partner sold her transferable interest in the partnership to an investor. Among the
firm's employees was one junior designer, who had worked on various projects for all five
partners. One day, the partners held a meeting to decide whether to admit the junior designer as a
partner of the firm. The investor also attended the meeting. The firm's partnership agreement did
not address admission of a new partner to the firm. The five partners all agreed that the junior
designer should be made a partner in exchange for an equity buy-in at a favorable price, which
the junior designer was ready, willing, and able to pay. The investor, however, was opposed to
making the junior designer a partner. These events occurred in a jurisdiction that follows the
Uniform Partnership Act.

May the junior designer be made a partner of the firm?

Yes, because admitting a new partner to a general partnership generally requires unanimous
consent by the existing partners.

Yes, because admitting a new partner to a general partnership generally requires consent by a
majority of the existing partners.

No, because making the junior designer a partner would require the investor's consent.

No, because to become a partner, the junior designer must make a capital contribution to the
firm.

Answer option A is correct. In a general partnership, unless the applicable partnership agreement
provides otherwise, no one may be admitted as a new partner without the consent of all existing
partners. See Unif. P'ship Act § 401(i) (2013). Here, because the partnership agreement did not
address admission of a new partner, the general rule requiring unanimous partner consent
applies. All five existing partners agreed to make the junior designer a partner, meaning there is
unanimous consent, and the junior designer may be made a partner.
Answer option B is incorrect because it states the wrong rule. The general rule is that, unless the
partnership agreement states otherwise, admitting a new partner requires unanimous consent by
existing partners; the consent of a majority of the partners is not enough.

Answer option C is incorrect because the investor's opposition is irrelevant. Although the firm's
founding partner sold her transferable interest in the partnership to the investor, this interest did
not include the right to participate in the partnership's management. Typically, the only interest
in a partnership that a partner may transfer is the partner’s ability to share in the partnership’s
profits and losses and to receive distributions from the partnership. This shift does not impact the
other partners and is allowed. However, that is as far as it goes. The transfer itself cannot make
the transferee an actual partner. Accordingly, all other partnership rights and duties remain with
the transferring partner—especially the right to participate in the partnership's management. Id.
at §§ 502-03. Here, the investor only owned an interest in the partnership’s profits, losses, and
distributions. The investor was not an actual partner and, therefore, had no say about whether to
admit the junior designer as a partner of the design firm.

Answer option D is incorrect because the junior designer was ready to make a capital
contribution once approved, in the form an equity buy-in. Although, generally, one must make a
capital contribution to the partnership to become a partner, this contribution need not be made
before the potential partner is approved. Here, because the junior designer was just approved and
was ready, willing, and able to pay the buy-in price for an equity stake in the firm, the capital-
contribution requirement would not prevent the junior designer from becoming a partner in this
situation.

9.A law firm partnership sought to promote one of its senior associate attorneys to partner.
In general, which of the following is NOT required in order for the associate to become a
partner?

The associate’s consent to be a partner.

A written partnership agreement.

The associate’s capacity to enter a binding contract.

The associate’s making of a capital contribution to the partnership.

Answer option B is correct. Generally, a partnership is formed if multiple people agree to carry
on a for-profit business as co-owners. The owners of the business are called partners. To be a
partner, a person must be a party to a partnership agreement. This agreement may be an express
agreement in writing. However, generally, it is not necessary to memorialize the agreement in
writing unless that particular partnership agreement falls under the statute of frauds. See, e.g.,
Knit With v. Knitting Fever, Inc., 742 F.Supp.2d 568 (E.D. Pa. 2010). Therefore, in order for the
associate to become a partner, it is not necessary that the parties’ agreement be memorialized in
writing.

Answer option A is incorrect because, whether written, oral, or implied, all partnerships require
some sort of agreement among those involved to be partners in the partnership. See, e.g., New
York Partnership Law §40(7). Therefore, in order for the associate to become a partner, the
associate must consent to be a partner.

Answer option C is incorrect because, in order to be a partner, a person must have capacity to
enter a binding contract. See, e.g., Belcher v. Queen, 39 So.3d 1023 (Ala. 2009). Therefore, in
order for the associate to become a partner, the associate must have the capacity to contract.

Answer option D is incorrect because, generally, a person must contribute something valuable to
the partnership in order to become a partner. This is called making a capital contribution. A
capital contribution may be virtually anything of pecuniary worth, including money, property, or
services. See partnership, Black's Law Dictionary (11th ed. 2019). Therefore, in order for the
associate to become a partner, the associate must make a capital contribution to the partnership.

10. A punk band agreed to form a partnership between its four members in order to collect
royalties and sell merchandise. After going on tour for two weeks, the bass player complained
that he was not being paid according to the partnership agreement. The band told the bass player
that he was not a partner. The bass player was the 11-year-old brother of the guitarist. When the
partnership agreement was being discussed, the bass player was at the meeting but never stated
his consent to join the partnership, and there was no written agreement for him to sign. Finally,
the bass player did not put any money into the partnership because he did not have any. The bass
player sued the band, arguing that he was a partner entitled to payment.

If the court finds that the bass player is not a partner in the partnership, what is its LEAST likely
reason for doing so?
The bass player did not consent to be a partner.

There is no written partnership agreement between the band members.

The bass player is a minor.

The bass player did not make a capital contribution to the partnership.

Answer option B is correct. Generally, a partnership is formed if multiple people agree to carry
on a for-profit business as co-owners. The owners of the business are called partners. To be a
partner, a person must be a party to a partnership agreement. This agreement can be an express
agreement in writing. However, generally, putting the agreement in writing is not necessary
unless that particular partnership agreement falls within the statute of frauds. It is also possible to
have a valid partnership based on an express oral agreement or even an implied agreement that is
inferred from the behaviors of those involved in the business. See Knit With v. Knitting Fever,
Inc., 742 F.Supp.2d 568 (E.D. Pa. 2010). Consequently, the fact that there is no written
agreement would be the least likely reason for the court to find that the bass player is not a
partner.

Answer option A is incorrect because, whether written, oral, or implied, all partnerships require
some sort of agreement among those involved to be partners in the partnership. Thus, a person
must consent (i.e., agree) to be a partner in a partnership. See, e.g., N.Y. P’ship Law §40(7).
Because the bass player did not actually consent to the partnership, he could not be a partner.

Answer option C is incorrect because, to be a partner, a person must have capacity to enter a
binding contract. See Belcher v. Queen, 39 So.3d 1023 (Ala. 2009). As a minor, the bass player
lacks capacity.

Answer option D is incorrect because, generally, a person must contribute something valuable to
the partnership to be a partner. This is called making a capital contribution. A capital
contribution can be virtually anything of pecuniary worth, including money, property, or
services. See partnership, Black's Law Dictionary (10th ed. 2014). Here, the bass player likely
made a capital contribution by providing the service of playing bass for the band.
11. A business specializing in news broadcasting was organized as a limited partnership. There
was one general partner and three limited partners. The partnership decided to try and purchase
several local television stations in an effort to broaden its market. To do so, the partnership took
on $40,000,000 in debt. Two years later, the debt became due, but the partnership did not have
sufficient funds to cover it.

Which of the partners can be held personally liable for the debt?

Only the general partner.

Only the limited partners.

Both the general partner and the limited partners.

Neither the general partner nor the limited partners are personally liable for the debt, although
the partnership itself is liable as a corporate entity.

Answer option A is correct. Typically, in a limited partnership, only a general partner is

personally responsible for partnership liabilities. In a limited partnership, there are two types of
partners: general partners and limited partners. Usually, the general partners manage and control
the partnership business and are personally liable for partnership obligations. See Unif. Ltd.
P'ship Act §§ 404, 406 (2001); limited partnership, Black's Law Dictionary (10th ed. 2014). In
contrast, limited partners are analogous to corporate stockholders. Limited partners generally
exercise little control over the business, and they are usually not liable for partnership obligations
beyond their capital contributions to the partnership. Unif. Ltd. P'ship Act § 303 (2001).

For these reasons, answer options B, C, and D are incorrect.

12. A group of friends formed a limited partnership to own and operate a bowling alley. Two of
the friends were general partners and the other friends were limited partners.

Which of the partners are personally responsible for the partnership’s liabilities?

Only the general partners.

Only the limited partners.

Both the general partners and limited partners.

Only the partners, general or limited, who incurred the liability.
Answer option A is correct. In a limited partnership, there are two types of partners: general
partners and limited partners. Usually, the general partners manage and control the partnership
business and are personally liable for partnership obligations. See Unif. Ltd. P’ship Act §§ 404,
406; limited partnership, Black's Law Dictionary (11th ed. 2019). Typically, only a general
partner is personally responsible for the partnership’s liabilities. In contrast, limited partners are
analogous to corporate stockholders. Limited partners generally exercise little control over the
business, and they are usually not liable for partnership obligations beyond their capital
contributions to the partnership. See Unif. Ltd. P’ship Act § 303. Therefore, here, only the
general partners are personally responsible for the partnership’s liabilities.

Answer options B, C, and D are incorrect because each misstates which of the partners in a
limited partnership are personally responsible for the partnership’s liabilities.

13. An accountant was offered employment at a financial advising firm that was organized as a
limited partnership. Upon the accountant’s employment with the firm, the accountant would
become a limited partner.

Which of the following is an accurate statement about the accountant’s rights or obligations as a
limited partner in the firm?

The accountant would have coequal authority with general partners to manage and control the
partnership's business.

The accountant would share in the profits of the partnership's business.

The accountant would be personally liable for all contractual obligations of the partnership.

The accountant would be personally liable for all tort obligations of the partnership.
14. An uncle and his nephew jointly owned a parcel of downtown storefront property. The uncle
owned and operated a hardware store out of the property. In exchange for the exclusive use of
the property, the uncle paid the nephew 10 percent of the hardware store's profits. The nephew
also worked part-time as a cashier for the hardware store, receiving an hourly wage. In addition,
the uncle's will provided that, upon the uncle's death, the nephew would take the hardware store's
business in its entirety. One day, a customer was injured by a defective tool that she purchased at
the hardware store. The customer sued the uncle for her injuries, and joined the nephew as a
defendant. The customer contended that the nephew was liable for her injuries because the
nephew and the uncle were partners in the hardware store’s business.

Which of the following facts best supports the customer's position that the nephew was the
uncle's partner in the hardware store?

The nephew owned the storefront property jointly with the uncle.

The nephew received 10 percent of the hardware store's profits.

The nephew was a part-time cashier for the hardware store.

The uncle's will left the hardware store's entire business to the nephew.

Answer option B is correct. Although it would not make a strong case for finding that the
nephew was the uncle's partner in the hardware store, the fact that the nephew receives a
percentage of the store's profits would best support the customer's argument that the nephew is a
general partner in the hardware store. In general, a partnership forms if at least two people agree
to carry on a for-profit business together as co-owners. See partnership, Black's Law Dictionary
(10th ed. 2014). The partnership agreement may be expressed orally or in writing, or the
agreement may be implied from the facts. Knit With v. Knitting Fever, Inc., 742 F.Supp.2d 568
(E.D. Pa. 2010). If a person receives a percentage of a business's profits, the law rebuttably
presumes that the person is a partner in the business. The presumption may be rebutted by a
showing that the profit share is received for something else, such as rent, wages, or payment on
debt. Unif. P'Ship Act § 202(c)(3) (1997).

Here, the nephew received 10 percent of the hardware store's profits. This creates a presumption
that the nephew was a partner. The nephew will likely be able to rebut this presumption, because
the profit share is for the uncle's exclusive use of the storefront property—that is, rent. However,
the nephew's receiving a share of the profits is the only fact that creates any presumption of
partnership at all. Thus, the profit-sharing arrangement is the fact that best supports the
customer's position.

Answer option A is incorrect, because the mere fact that people own property together is not
enough, by itself, to establish that they are partners. This is true even if the parties share profits
made by use of the property. Id. at § 202(c)(2). Thus, the fact that the nephew co-owns the
storefront property with the uncle provides weak, if any, support for the customer's position that
the nephew is a partner.

Answer option C is incorrect, because the fact that the nephew's part-time work for the store that
pays him an hourly wage indicates a part-time employment relationship—not a partnership
relationship. Indeed, generally, partners are not compensated for services rendered to a
partnership, like cashier services. Unif. P'ship Act § 401(h) (1997). Thus, this fact provides little
or no support for the customer's position that the nephew is a partner and may even contradict the
customer’s position.

Answer option D is incorrect, because the provision in the uncle's will contradicts the customer's
position. The will left the nephew the entirety of the hardware store's business. This, in turn,
suggests that the owner saw himself as the sole owner of the business, which weighs against the
uncle and the nephew having any current agreement for the uncle to run the hardware store as
co-owners (i.e., partners) with the nephew.
FIDUCIARY DUTIES BETWEEN PRINCIPAL AND AGENT
1. An investor hired a financial advisor to provide business acumen and guidance on whether an
investor should acquire a company. The financial advisor helped the investor research several
possible companies for acquisition. Unbeknownst to the investor, the financial advisor owned a
substantial interest in one of the companies the investor was considering. The investor’s
acquisition of the company would positively impact the advisor’s ownership interest. The
advisor did not advocate more strongly for the company in which he owned an interest than for
the other candidate companies; however, he did not disclose his interest to the investor. The
investor was ultimately dissatisfied with the lack of detail in the advisor’s analysis and fired him.
Two years later, the investor purchased the company in which the advisor held the substantial
interest. The investor was outraged when he learned of the advisor’s ownership interest in the
company.

Did the financial advisor breach a fiduciary duty owed to the investor?

Yes, because the advisor held an interest adverse to the investor when the investor purchased the
company.

Yes, because the advisor did not disclose his interest in the company to the investor.

No, because the investor’s decision to purchase the company was not based on the advisor’s
suggestion.

No, because the advisor was no longer an agent of the investor’s when the investor purchased the
company.
Answer option B is correct. As a fiduciary, an agent owes a principal a duty of loyalty in all
things related to the agency. Restatement (Third) of Agency § 8.01. This duty is multifaceted and
includes an obligation to refrain from holding interests adverse to the principal in transactions
connected to the agency relationship. Id. § 8.03. Because a principal may consent to an agent’s
conflict of interest, the duty of loyalty requires an agent to disclose adverse interests to the
principal; such disclosures enable the principal to best evaluate how to guard its interests moving
forward. Id. cmt. b. Here, the advisor did not disclose during the agency relationship that he
owned a substantial interest in one of the companies the investor was considering purchasing.
This failure to disclose an adverse interest breached the advisor’s fiduciary duty of loyalty to the
investor. Answer options C and D are necessarily incorrect for these reasons.

Answer option A is incorrect because the investor did not decide to purchase the company in
which the advisor held an ownership interest until after the investor had fired the advisor. The
prohibitions against holding adverse interests do not apply once the agency relationship has
terminated. For example, an agent is free to purchase or sell to a principal once the agency
relationship has terminated. Id. §§ 8.01 cmt. c; 8.03 cmt. c. At the time the investor entered the
contract to purchase the company, the agency relationship between the investor and the advisor
had terminated.

2. A small business hired an accountant to review its earnings reports. The accountant had
worked for 10 years advising similar small businesses. The accountant also had previous
experience working as a marketing executive for seven years. The accountant’s marketing
experience was not typical of other accountants in the area. After reviewing the business’s
reports, the accountant made several suggestions to improve revenues, including increasing the
marketing budget to reach a broader customer base. The small business followed the
accountant’s advice but did not gain any new customers from its increased marketing
expenditures. Dissatisfied with the accountant’s marketing advice, the business sued the
accountant.

What standard of care will a court use in evaluating the accountant’s conduct?

By the standard of care exercised by accountants in good standing under similar circumstances.

By the standard of care exercised by those with 10 years of accounting experience.

By the standard of care exercised by those with entry-level marketing experience under similar
circumstances.

By the standard of care exercised by those having specialized marketing experience under
similar circumstances.

Answer option D is correct. An agent has a duty to act with the reasonable care, skill, and
diligence that would ordinarily be exercised by an agent in similar circumstances. While this is
an objective standard, agents who have particular or specialized knowledge or skills are expected
to use them and will be held to a standard of care that would be observed by agents possessing
those special skills. Restatement (Third) of Agency § 8.08 cmt. c. Here, the accountant has
specialized marketing skills not generally possessed by other accountants. In a lawsuit brought
by the dissatisfied small business, a court would evaluate whether the accountant’s marketing
advice comported with the standard of care, skill, and diligence exercised by other marketing
professionals under similar circumstances.

Answer options A and B are incorrect because a court would not use a standard of care exercised
by other accountants, because that standard would ignore this accountant’s specialized marketing
skills.

Answer option C is incorrect because courts use a standard of care that would be exercised by
similarly situated professionals under similar circumstances. This objective standard incorporates
the level of relevant experience ordinarily exercised by an agent under the circumstances. See id.

2. A principal gave her agent the authority to negotiate for and purchase a parcel of land for the
principal’s development provided the purchase price did not exceed $450,000. The principal
agreed to pay the agent a bonus of $5,000 if the agent were able to purchase a suitable parcel for
less than $425,000. The agent found a suitable parcel and negotiated a purchase price of
$400,000, despite the fact that annual property taxes were $60,000 (15 percent of the purchase
price). The agent also located a nearly identical parcel and negotiated a purchase price of
$440,000. The annual property taxes on the second parcel were $22,000 (5 percent of the
purchase price). The agent purchased the $400,000 parcel, claimed his $5,000 bonus, and quit
before the principal realized that the property taxes on the purchased parcel were three times as
much as the property taxes on the unpurchased parcel.

Does the principal have a claim against the agent for breach of a duty?

Yes, because the agent’s actions harmed the principal.

Yes, because the agent claimed his bonus.

No, because the principal offered the agent a bonus if the agent could purchase a property for
less than $425,000.

No, because the agent did not exceed his purchasing authority.

Answer option A is correct. An agent owes a fiduciary duty of loyalty to his or her principal in
all things related to the agency. See Restatement (Third) of Agency § 8.01. Quite simply, this
duty means that the agent must always be on the principal’s side and act for the principal’s
benefit. Here, the agent breached his duty of loyalty because he purchased a lower-priced
property with an excessive tax rate that he did not disclose to the principal.
Answer option B is incorrect because the agent’s claiming of his bonus, without more, does not
evidence a breach of the agent’s duty.

Answer option C is incorrect because the principal’s offering a bonus to the agent did not relieve
the agent of his obligation to uphold his agency duties.

Answer option D is incorrect because although the agent did not exceed the dollar amount of his
purchasing authority, his purchase of the property with the high annual property tax rate harmed
his principal.

3. A businessperson hired an accountant to prepare the business person’s tax return. The
businessperson instructed the accountant to use an aggressive strategy in calculating the
businessperson’s exemptions in order to minimize his tax liability. Unbeknownst to the
businessperson, the strategy he instructed the accountant to use had been deemed illegal in an
opinion letter from the Internal Revenue Service (IRS). The accountant explained that he could
not use the strategy, citing the IRS opinion letter.

Under principles of agency law, may the businessperson withhold payment from the accountant?

Yes, because the accountant breached his duty of obedience.

Yes, because the accountant breached his duty of loyalty.

No, because the accountant has not breached any fiduciary duty.

No, because the businessperson’s remedy is limited to a suit for damages.

Answer option C is correct. A principal may withhold payment from an agent if the agent
breaches a fiduciary duty. An agent has a fiduciary duty to obey a principal’s instructions in
carrying out the agent’s duties, but only if the instructions are lawful. Restatement (Third) of
Agency § 8.09. Here, the businessperson’s requested strategy for calculating exemptions was not
legal, so the accountant had no duty to obey it. In fact, the agent’s duty of loyalty requires the
agent to act only for the principal’s benefit in matters connected to the agency relationship. Id. §
8.01. Here, the accountant’s duty of loyalty would include advising the businessperson that the
IRS has deemed the proposed strategy illegal and refusing to take actions that could result in
liability for the businessperson. Therefore, the accountant did not breach a fiduciary duty by
refusing to obey the businessperson’s instructions, and the businessperson may not withhold
payment from the accountant. Answer options A and B are necessarily incorrect for these same
reasons.

Answer option D is incorrect because even if the accountant had breached a fiduciary duty, the
businessperson’s remedy would not be limited to a suit for damages. Upon an agent’s breach of a
fiduciary duty, a principal has several remedies, including a right to withhold payment, damages
for breach of contract or tort (depending on any harm suffered), an action for accounting, or an
action to recover secret profits an agent may have derived by breaching his fiduciary duties.

4. A corporation sold high-voltage electric cable. The corporation hired an agent to make sales
and perform marketing duties. When the agent was hired, she did not tell the corporation that she
owned one-half of the equity of the corporation’s principal supplier of tungsten fabric, which
was a principal component in making the cable. The agent did not inform the corporation of her
ownership interest because her duties did not include negotiating the purchase of tungsten fabric
for the corporation.

Has the agent breached any duty owed to the corporation?

Yes, the agent has breached the duty of loyalty owed to the corporation by having an ownership
interest in the supplier.

Yes, the agent has breached the duty of care by failing to inform the corporation of her
ownership interest in the supplier.

No, the agent has not breached any duty because she is not involved in negotiating the purchase
of tungsten fabric for the corporation.

No, the agent has not breached any duty because the agent’s ownership interest is easily
discoverable by the corporation.
Answer option A is correct. An agent owes a fiduciary duty of loyalty to his or her principal in
all things related to the agency. Restatement (Third) of Agency § 8.01. Quite simply, this means
that the agent must always be on the principal’s side and act for the principal’s benefit. This duty
carries with it a number of obligations. First, the agent must not engage in self-dealing or seek to
enrich herself by virtue of her position as the agent. Restatement (Third) of Agency § 8.02. Next,
the agent may not represent an adverse party against the principal in a transaction. Restatement
(Third) of Agency § 8.03. The agent must also avoid engaging in competition with the principal,
whether in the agent’s personal capacity or by working with third parties whose interests are
adverse to the principal’s. Restatement (Third) of Agency § 8.04. Another way to say this is that
the agent must avoid usurping the principal’s opportunities. Further, the agent may not use the
property or confidential information of the principal to serve the agent’s own purposes or those
of anyone other than the principal. Restatement (Third) of Agency § 8.05. The duty of loyalty is
fairly comprehensive, but an agent may seek the principal’s informed consent to engage in an
activity that would otherwise be a breach of the duty. Such a waiver will only be effective if the
agent discloses all material facts and otherwise acts in good faith. Restatement (Third) of Agency
§ 8.06. Here, there has been no waiver, and the agent would be an adverse party in the
corporation’s dealings with the supplier. Consequently, she has breached the duty of loyalty.

Answer option B is incorrect because the primary issue is that the agent had an ownership
interest in an adverse party, not that she did not tell the corporation about that interest.

Answer option C is incorrect because, although the agent is not involved in the tungsten fabric
negotiations, she would still be an adverse party in the corporation’s dealings with the supplier
because of her ownership interest.

Answer option D is incorrect because the fact that the agent’s ownership interest is likely easily
discoverable does not change the analysis.

5. A lawn service company hired a sales representative to solicit new customers for year-round
lawn maintenance. The company agreed to pay the sales representative a monthly base salary of
$2,500 plus a 10 percent commission on all of the lawn contracts the sales representative sold. In
the first two months of the sales representative’s employment, she sold 12 contracts, resulting in
$720 in commission ($360 per month). Because the commission was relatively small compared
to her base salary and it took considerable effort to sell each contract, the sales representative
scaled back her efforts and sold only two contracts per month for the next four months.

If the sales representative’s conduct breached her duty to the lawn service company, what are the
lawn service company’s remedies?

The lawn service company may only withhold payment of the sales representative’s
compensation.

The lawn service company may only seek damages in contract.

The lawn service company may only bring an action for an accounting.
The lawn service company may withhold payment of the sales representative’s salary, seek
damages in contract, and bring an action for an accounting.
Answer option D is correct. If a compensated agent breaches his or her obligations, the principal
has a right to withhold payment. Next, the principal may seek damages, either for breach of
contract or in tort, depending upon the harm suffered. The principal may also bring an action for
an accounting, which would force the agent to turn over all money or property owed to the
principal. See Restatement (First) of Agency § 399. Therefore, the lawn service company may
withhold payment of the sales representative’s compensation, seek damages in contract, and
bring an action for an accounting.

6. A company signed an agency agreement with an agent. Under the agreement, the agent had
the exclusive rights to buy land for the company. After several months of buying land for the
company, the agent discovered that the company had hired another woman to also buy land, had
failed to tell the agent that the woman was also buying land on its behalf, and had failed to pay
any of the expenses incurred by the agent. The agent sued the company for damages under the
contract, arguing that it had breached the duties it owed to the agent.

Which is the LEAST likely reason for the court to find that the company was liable under the
contract?

Because the company breached the duty of loyalty by hiring the woman.

Because the company breached the duty of good faith and fair dealing by failing to tell the agent
that the woman was also buying land on its behalf.

Because the company breached its duty to comply with the terms of the agency agreement.

Because the company breached its duty to indemnify for expenses incurred in the agency.

Answer option A is correct. While an agent owes a principal a duty of loyalty, a principal does
not owe an agent a duty of loyalty. Restatement (Third) of Agency ch. 8, topic 2, intro. note.
Consequently, the company could not be liable for breach of the duty of loyalty.

Answer options B, C, and D are incorrect because each lists a duty a principal owes to an agent.
See id. §§ 8.13-8.15.
7. A property owner appointed an agent to sell the property owner’s farm. The property owner
promised to pay the agent $5,000 if the agent was successful in closing a cash sale of the farm
for at least $60,000. Additionally, the property owner promised the agent that, if the agent paid
for an appraisal of the property, the property owner’s offer would be irrevocable for 30 days. The
agent paid for an appraisal the next day, and the appraiser stated that the property was actually
worth $600,000. Based on this new information, the property owner immediately revoked his
offer to the agent.

May the property owner revoke the offer?

Yes, because only the agent has the duty to uphold contractual obligations.

Yes, because selling the property for less than $600,000 would violate the agent’s duty of care.

No, because the property owner has to comply with the terms of the agency agreement.

No, because revoking the offer would violate the principal’s duties of good faith and fair dealing.
Answer option C is correct. In the relationship between a principal and an agent, the first and
most obvious obligation of the principal is to comply with the terms of the agency agreement.
Restatement (Third) of Agency § 8.13. Here, the contract states the offer is irrevocable for 30
days if the agent pays for the appraisal of the property.

Answer option A is incorrect because both the agent and the principal have the duty to uphold
the contract.

Answer option B is incorrect because the newly discovered value of the property does not
change the analysis.

Answer option D is incorrect. The principal owes the agent the duties of good faith and fair
dealing. This is a somewhat expansive duty and can encompass everything from providing the
agent with the necessary information for the agent to perform his or her duties to the possible
risks the agent may be required to take in the course of the relationship. Restatement (Third) of
Agency § 8.15. Essentially, this obligation requires the principal to cooperate with the agent in
the performance of the agent’s duties and avoid unreasonably interfering with the relationship.
However, in order to do this, the principal has to live up to his or her contractual obligations with
the agent first, making answer option C a better choice.
8. A school district hired an employee to oversee curriculum materials for the district. The
position included maintaining the district’s textbook inventory and purchasing additional
textbooks as required. In her spare time, the employee was a partner in one of the independent
textbook wholesalers that sold textbooks to the employee’s school district. The employee always
purchased textbooks from the lowest-priced wholesaler; however, if her wholesaler matched
another wholesaler’s lowest price, she would purchase from her wholesaler.

Did the employee’s conduct breach any of her agency duties?

Yes, the employee breached her duty of care.

Yes, the employee breached her duty of loyalty.

No, because the employee always purchased the lowest-priced textbooks.

No, because the employee was not in competition with the school district.

Answer option B is correct. An agent owes a fiduciary duty of loyalty to her principal in all
things related to the agency. The essence of that duty is that if the agent’s and principal’s
interests ever conflict, and the conflict implicates the agency, then the agent must subordinate her
own interests to the principal’s. See Restatement (Third) of Agency § 8.01, with comments.
Therefore, the agent must not engage in self-dealing or seek to enrich herself by virtue of her
position as the agent. See Restatement (Third) of Agency § 8.02. The duty of loyalty also
prohibits the agent from dealing with the principal as an adverse party, or on behalf of an adverse
party, in any transaction related to the agency relationship. This prohibition means the agent
typically may not deal with the principal on the agent’s own account in a matter touching the
agency, nor may she serve multiple principals with adverse interests in the same transaction. The
agent must not hold a substantial stake in a party adverse to the principal. See Restatement
(Third) of Agency § 8.03, with comments. Therefore, both because the employee was enriched
by virtue of her agency position and dealt with the principal on the agent’s own account in a
matter touching the agency relationship, the employee’s conduct breached her duty of loyalty.

Answer option A is incorrect because the duty of care, which requires that an agent act with the
degree of care, skill, and diligence that would ordinarily be exercised by an agent in similar
circumstances, was not implicated here. See Restatement (Third) of Agency § 8.08.
Answer option C is incorrect because the fact that the agent held a substantial stake in a party
adverse to the principal breached the agent’s duty of loyalty regardless of whether the principal
suffered a financial loss. See Restatement (Third) of Agency § 8.03, with comments.

Answer option D is incorrect because although the employee was not in direct competition with
the school district, she dealt with the principal as an adverse party, which, as noted above,
breached her duty of loyalty. See id.

Shareholder and member litigation: direct, derivative, and class litigation

1. A shareholder of an incorporated agribusiness discovered that a chemical manufacturer was

negligently discharging chemical waste into a river that was the irrigation source for many of the
agribusiness’s crops. Before initiating a derivative action against the chemical manufacturer, the
shareholder submitted a written demand to the corporation’s board of directors, requesting that it
bring suit against the manufacturer to compel it to (1) cease its chemical waste discharge and (2)
compensate the agribusiness for its losses due to chemical contamination. The applicable
jurisdiction, which followed the Model Business Corporation Act (MBCA), required that the
shareholder wait 90 days after submitting its demand to the board to file the shareholder’s
derivative action.

Under the MBCA, which of the following conditions, if any, could excuse the 90-day waiting
period?

There are no conditions that could excuse the 90-day waiting period.

If the corporation rejects the demand before the expiration of the 90-day waiting period.

If the shareholder’s waiting the 90-day period would irreparably harm the corporation.

If either the corporation rejects the demand before the expiration of the 90-day waiting period or
the shareholder’s waiting the 90-day period would irreparably harm the corporation.
2. A shareholder in a corporation sought to sue the corporation on the ground that the corporation
wrongfully prevented the shareholder from inspecting the corporate books and records.

Which of the following types of actions would be most suitable to redress the shareholder’s
injury?

A class action.

A derivative action.

A direct action.

An ultra vires action.

Answer option C is correct. A corporate shareholder may generally bring three types of lawsuits:
(1) a direct action, (2) a derivative action, and (3) a class action. In a direct action, a shareholder
sues to vindicate the shareholder’s own interests, not the organization’s interests. That is, the
shareholder sues to recover for injury to the shareholder in the shareholder’s individual capacity.
See Clinton Hudson & Sons v. Lehigh Valley Co-op Farms, Inc., 73 F.R.D. 420 (E.D. Pa. 1977);
12B Fletcher Cyc. Corp. § 5915, Westlaw (database updated Sept. 2017). Here, because the
shareholder sought to sue the corporation on the ground that the corporation wrongfully
prevented the shareholder from inspecting the corporate books and records, the shareholder was
seeking to vindicate the shareholder’s own interests. Therefore, a direct action would be most
suitable to redress the shareholder’s injury.

3. An investor purchased a majority interest in a corporation. The investor then requested an

inspection of the corporation’s books and discovered a discrepancy. Further investigation
revealed that the corporation’s former chief financial officer had embezzled funds from the
corporate accounts and been removed due to the theft before the investor purchased stock in the
corporation. However, the discrepancy still existed because the board had not recovered the
embezzled funds.

May the investor bring a derivative suit against the chief financial officer to recover the
embezzled funds?

Yes, because a shareholder may always bring a derivative action to enforce rights belonging to
the corporation.
Yes, because a majority shareholder fairly and adequately represents the corporation’s interests.

No, because the investor did not own shares of the corporation when the cause of action arose.

No, because the shareholder must bring a direct action, not a derivative action.
Answer option C is correct. In general, a shareholder may bring a derivative action to enforce a
right that belongs to the corporation. See Model Bus. Corp. Act §§ 7.40(a), 7.41 (2016).
However, a few requirements must be met. For example, for a particular shareholder to file a
derivative suit on behalf of the corporation, that particular shareholder must have owned
stock at the time that the cause of action arose. See id. at § 7.41. Here, the investor purchased
stock in the corporation after the embezzlement occurred and after the directors had already
removed the former chief financial officer. This means that all the events giving rise to the cause
of action were already completed and the cause of action had already arisen before the investor
acquired shares of the corporation. Therefore, the investor cannot bring a derivative suit for this
particular cause of action to recover the embezzled funds. Answer options A and B are
necessarily incorrect for that same reason.

Answer option D is incorrect because the investor is attempting to enforce a right belonging to
the corporation, not the investor’s own right. A shareholder may enforce a right that belongs to
the corporation only through a derivative action. See id.

4. A Delaware corporation owned and operated a chain of domestic and international luxury
resorts. One of the resorts was developed in an overseas country under a lease from that
country’s government. After the resort had been in successful operation for 10 years, the
corporation sought to build a second resort in the same country and applied for another lease
agreement. The second lease application languished for more than five years without approval.
Accordingly, the corporation’s board of directors authorized a donation to the country’s national
university’s development fund totaling $150,000,000 over a 10-year period. Shortly after the
corporation’s donation, the country approved the corporation’s application for the second lease.
A shareholder learned of the corporation’s donation and sought to bring a derivative action in
federal court against the corporation’s board of directors, alleging that the board breached its
fiduciary duties by making a donation that served no legitimate corporate purpose and
encumbered the corporation with significant debt.

Which of the following is NOT a pleading requirement for the shareholder’s derivative action in
federal court?
The complaint must allege that the plaintiff was a shareholder or member in the corporation at
the time that the board of directors authorized the donation.

The complaint must allege that the plaintiff can fairly and adequately represent the interests of a
typical corporate shareholder.

The complaint must allege that the lawsuit is not collusive to confer jurisdiction on the court that
the court would not otherwise have.

The complaint must state with particularity any efforts on the shareholder’s part to obtain the
desired action from directors or similar officers in the corporation and the outcome of those
efforts.
Answer option B is correct. In federal court, the complaint in a derivative suit must (1) allege
that the plaintiff was a shareholder or member in the corporation at the time of the challenged
transaction, or that the plaintiff’s shares devolved on the plaintiff by operation of law; (2) allege
that the lawsuit is not collusive to confer jurisdiction on the court that the court would not
otherwise have; and (3) state with particularity any efforts on the plaintiff’s part to obtain the
desired action from directors or similar officers in the corporation and the outcome of those
efforts. Fed. R. Civ. P. 23.1. It is not required, however, that the complaint in a federal derivative
action allege that the plaintiff can fairly and adequately represent the interests of a typical
corporate shareholder. Id. The ability of a plaintiff to fairly and adequately represent the interests
of a typical corporate shareholder is an issue that is relevant to a federal court’s certification of a
class action. See Fed. R. Civ. P. 23(a).

Answer options A, C, and D are incorrect because each accurately states a pleading requirement
for the shareholder’s derivative action in federal court.
DISSOLUTION
1. Four dentists decided to form a partnership. They took out a loan from a bank and bought a
new office and new dental equipment for the partnership. Ten years later, one of the dentists
transferred to his daughter his right to share in the partnership’s profits and losses and to receive
distributions from the partnership. Five years after that, the three remaining dentists decided to
switch from dentistry to selling window treatments. At that point, one of the dentists solicited a
lawyer for advice in seeking a judicial dissolution of the partnership. At the same time, both the
bank and the daughter contacted their own lawyers regarding the possibility of a judicial
dissolution.

Which of the following may apply for judicial dissolution of a partnership?

One of the dentists.

One of the dentists or the bank.

One of the dentists or the dentist’s daughter.

One of the dentists, the bank, or the dentist’s daughter.

Answer option C is correct. On application by an appropriate party, a court may dissolve a

partnership on one of several specific grounds. The general rule is that only a partner or a
recipient of a partner's transferable interest in the partnership may seek judicial dissolution of the
partnership. In contrast, a partnership's creditor typically cannot seek judicial dissolution of the
partnership (unless the creditor is also either a partner or a recipient of a partner's transferable
interest in the partnership and seeks the dissolution in that role). See Unif. P'ship Act § 801(5),
(6) (1997).

Answer options A, B, and D are necessarily incorrect for these same reasons.

2. A general partnership that was subject to the 1997 version of the Uniform Partnership Act
(UPA) was dissolved and in the process of winding up.

Who has standing to petition a court for judicial supervision of the partnership’s winding up?

Only a partner.

Only a partner or a recipient of a partner's transferable interest in the partnership.

Only a partner or a partner's representative.

Only a partner, a recipient of a partner's transferable interest in the partnership, or a partner's

representative.
Answer option D is correct. Upon an event of dissolution, a partnership does not immediately
terminate, but is required to begin winding up its business. Winding up is the final process of
handling lingering business, liquidating assets, settling accounts with creditors and among
partners, and similar activities. Only after the winding up has been completed will the
partnership formally terminate or cease to exist. Unif. P’ship Act § 801.

Under the 1997 version of the UPA, generally, only a partner who has not wrongfully dissociated
from, or left, the partnership may participate in winding up the partnership business. However,
any partner, a recipient of a partner's transferable interest in a partnership, or a partner's
representative may petition a court for judicial supervision of the winding up. Id. § 803.
Therefore, here, only a partner, a recipient of a partner's transferable interest in the partnership,
or a partner's representative has standing to petition a court for judicial supervision of the
partnership’s winding up. (It is important to note that the 2013 amendments to the UPA made
changes to parts of these rules, making it important to know whether a jurisdiction has adopted
the 2013 amendments or is still using the 1997 version.)

Answer options A, B, and C are incorrect because each understates who has standing to petition
a court for judicial supervision of the partnership’s winding up.

3. A father, a brother, and a sister formed a general partnership with each other to own and
operate a delivery service. The partnership agreement provided that the partners would share
both profits and losses in proportion to their respective capital contributions. As capital, the
father contributed a delivery truck worth $50,000; the brother and the sister each contributed
$25,000 in cash. This made for a total of $100,000 in capital contributions. Eventually, the
partnership dissolved and wound up. After the partnership's assets were liquidated and used to
pay creditors, the partnership still owed $20,000 in unsatisfied liabilities.

What amount must the father contribute towards the partnership's $20,000 in unsatisfied
liabilities?

$20,000.

$10,000.
$8,000.

$5,000.

Answer option B is correct. Once a partnership dissolves, it does not immediately terminate.
Rather, it must begin winding up. Winding up is the final process of handling any lingering
partnership business and settling accounts with creditors and among partners before termination.
Generally, if a partnership is winding up, the partnership’s creditors have the first claim against
its assets. To the extent that the partnership's assets are insufficient to satisfy its liabilities, the
partners must personally contribute to cover the deficiency. Like any other partnership loss, each
partner must pay for this final loss as determined by the partnership’s general method for
apportioning losses. See Unif. P'ship Act § 807(a), (b) (1997).

Here, after the partnership's assets were liquidated to pay creditors, the partnership still owed
$20,000. The partnership agreement apportioned losses according to the partners' respective
capital contributions. Of the total $100,000 in capital contributions, the father contributed
$50,000, or 50 percent. Thus, the father is responsible for 50 percent of the total $20,000 debt, or
$10,000. By the same reasoning, the brother and the sister are responsible for $5,000 apiece,
because they each contributed $25,000, or 25 percent of the total capital contributions. Answer
options A, C, and D are necessarily incorrect for these same reasons.

4. A businessman was a limited partner in a partnership that spread rock salt over icy roads in the
winter for local governments. The businessman was contacted by a neighboring state to expand
the partnership’s services into that state. The businessman signed a secret agreement on the side
with the state that took away the business opportunity from the partnership. A week later, the
businessman failed to read the partnership’s income tax statement, which would have alerted him
to several mistakes in the partnership’s tax filing. Finally, when a blizzard hit the region, the
businessman falsely inflated the price of rock salt he personally owned and sold it to the
partnership.

Which of the following statements is correct?

The businessman breached his fiduciary duty of loyalty by diverting business opportunities to
himself.

The businessman breached his fiduciary duty of care by failing to read the income tax statement.
The businessman breached his duty to deal with the partnership fairly and in good faith by
falsely inflating the price of the rock salt.

The businessman owed no duties to the partnership.

Answer option C is correct. In a limited partnership, there are two types of partners: general
partners and limited partners. Typically, general partners manage and control the business and
are personally liable for the partnership’s debts. General partners also owe fiduciary duties of
care and loyalty to the partnership and the other partners. Unif. Ltd. P'ship Act §§ 402, 404, 406,
409 (2013). In contrast, limited partners typically exercise little control over the business, are not
liable for the partnership’s debts, and owe the partnership no fiduciary duties. However, limited
partners do owe a duty to act fairly and in good faith when dealing with the partnership itself.
See id. at §§ 302-03, 305; limited partnership, Black's Law Dictionary (10th ed. 2014).
Consequently, the businessman breached his duty to deal with the partnership fairly and in good
faith by falsely inflating the price of the rock salt.

Answer options A and B are incorrect because limited partners owe no fiduciary duties to the
partnership.

Answer option D is incorrect because limited partners owe a duty to deal with the partnership
fairly and in good faith.

5. An aunt, a niece, and a nephew formed a general partnership to own and operate a restaurant.
The partnership agreement permitted a partner to withdraw only with the other partners' consent.
Four months after the partnership was formed, the aunt died, and her legal representative
assumed control over her estate. Eight months after the aunt's death, the nephew voluntarily
withdrew from the partnership over the niece's objections. Upon the nephew's withdrawal, the
partnership dissolved, and the process of winding up the restaurant business began.

Who may participate in winding up the partnership's business?

Only the niece.

Only the niece and the aunt’s representative.

Only the niece and the nephew.

The niece, the nephew, and the aunt’s representative.

Answer option A is correct. In general, only a partner who has not wrongfully dissociated
from the partnership may participate in winding up the partnership's business. See Unif.
P'ship Act § 803(a) (1997). Dissociation refers to a partner's withdrawal from the partnership. In
any partnership, dissociation is wrongful if it breaches a governing partnership agreement. Id. at
§ 602(b)(1).

Here, the niece never dissociated from the partnership. Thus, the niece may participate in
winding up the business. The nephew, on the other hand, wrongfully dissociated. The partnership
agreement permitted a partner to withdraw only with the other partners' consent. Yet the nephew
voluntarily left the partnership over the sister's objection. Thus, having wrongfully dissociated,
the nephew may not participate in winding up the business. Finally, the aunt ceased being a
partner when she died, and her legal representative is not treated like a partner. Instead,
generally, a partner's legal representative may participate in winding up the business only if the
partner was the last surviving partner. Id. at § 803(a), (b). Because the aunt was not the last
surviving partner, the aunt's legal representative may not participate in winding up the
partnership's business. Answer options B, C, and D are necessarily incorrect for these same
reasons.

6. A botanist and a farmer formed a general partnership. The partnership's business was to grow
and sell a newly engineered herb. When smoked, the herb produced intoxicating effects similar
to those of marijuana. When the partnership was formed, the herb was lawful to sell, purchase,
possess, and consume. Sometime later, Congress enacted a federal statute that made it a crime to
use, possess, or transact in the herb in any manner. The partners never took any action to
establish a new line of business for the partnership after learning of the law's passage.

What is the new law's effect on the partnership's business?

The law is an event of dissolution.

The law is an event of termination.

The law is an event of dissociation.

The law means that the partnership must immediately cease operating as a going concern and
may only liquidate assets to pay creditors and settle accounts among partners.
Answer option A is correct. If a partnership's purpose becomes illegal—that is, if all or
substantially all the partnership's business becomes illegal—then, generally, the illegality is an
event of dissolution; the only exception is if the illegality is cured within 90 days after the
partnership receives notice of it. Unif. P'ship Act § 801(4) (1997). Upon an event of dissolution,
a partnership does not immediately terminate, but it must begin winding up its business. Winding
up is the final process of handling lingering business, liquidating assets, settling accounts with
creditors and among partners, and other similar activities. Only once winding up is completed
will the partnership formally terminate, or cease to exist. Id. at § 801 (1997).

Here, the partnership's sole business was to grow and sell the intoxicating herb. When the
partnership was formed, the herb was legal. However, after the partnership's formation, Congress
banned the herb and made the partnership’s business illegal. The partners never took action to
find a lawful line of business for the partnership, even after they learned of the ban. Thus, the
illegality was never cured. Because the new law made the partnership’s purpose illegal, the effect
of the new law was to dissolve the partnership. This means the partnership’s business must now
be wound up for eventual termination.

Answer option B is incorrect because an event of dissolution does not immediately terminate the
partnership. Rather, an event of dissolution simply starts the process of winding up before
termination. See id. at § 801.

Answer option C is incorrect because only partners, not the partnership, dissociate. Dissociation
means that a partner has ceased to be a partner and is dissociating or distancing from the
partnership. Here, the uncured illegality of the partnership's business is an event of dissolution
that begins the process of the partnership winding up and eventually terminating, not an event of
dissociation or distancing. See id. at §§ 601, 801.

Answer option D is incorrect because, even during the winding up the follows an event of
dissolution, the partnership may continue as a going concern for a reasonable time. See id. at §
803(c).
7. Four partners owned and operated an electrical installation and repair business governed by
the Uniform Partnership Act (UPA). One of the partners received notice that the partnership was
being dissolved and immediately consulted an attorney to determine what the dissolution notice
signified.

Which of the following statements best describes how the attorney should explain dissolution to
the partner?

Dissolution is when a partner withdraws from the partnership.

Dissolution is when the partnership ceases to exist.

Dissolution is when the partnership must immediately halt all business activities.

Dissolution is when the partnership must begin to wind up its business.

Answer option D is correct. Under the UPA, upon dissolution, a partnership must begin winding
up its business. See Unif. P’ship Act § 801. Winding up is the final process of closing out the
partnership's affairs before the partnership formally ceases to exist. For instance, during winding
up, partnerships generally handle any lingering business matters, liquidate partnership assets, pay
creditors, and resolve outstanding legal proceedings. See id. § 803(c).

Answer option A is incorrect, because a partner's withdrawal from a partnership is called

dissociation, not dissolution. See id. at § 601. Although a partner's voluntary dissociation may
also be an event of dissolution, dissociation and dissolution are distinct concepts. See id. §§
603(a), 801(1).

Answer option B is incorrect, because a partnership does not immediately cease to exist upon
dissolution. Rather, the partnership continues to exist until winding up is completed. Id. § 802(a).

Answer option C is incorrect, because a partnership is not required to cease all business activities
upon dissolution. Rather, the partnership may continue as a going concern for a reasonable time
after dissolution, during the winding-up process. See id. § 803(c).

8. After several business losses, a partnership made up of 12 partners voted for dissolution. One
of the partners, an accountant, wanted judicial supervision of the partnership’s winding up, but
most of the others disagreed. The accountant spoke to an heir, who had been the recipient of a
retired partner’s transferable interests in the partnership. The accountant also spoke to the
personal representative of an engineer, another partner in the business. The heir stated that he
favored judicial supervision. The engineer’s representative said that the engineer also favored
judicial supervision. The relevant jurisdiction followed the 1997 version of the Uniform
Partnership Act.

In general, who has standing to petition a court for judicial supervision of the partnership’s
winding up?

The accountant.

The accountant or the heir.

The accountant or the engineer’s representative.

The accountant, the heir, or the engineer’s representative.

Answer option D is correct. Upon an event of dissolution, a partnership does not immediately
terminate, but it must begin winding up its business. Winding up is the final process of handling
lingering business, liquidating assets, settling accounts with creditors and among partners, and
similar activities. Only after the winding up has been completed will the partnership formally
terminate or cease to exist. Unif. P'ship Act § 801 (1997). Under the 1997 version of the Uniform
Partnership Act, generally, only a partner who has not wrongfully dissociated from, or left, the
partnership may participate in winding up the partnership business. However, any partner, a
recipient of a partner's transferable interest in a partnership, or a partner's representative may
petition a court for judicial supervision of the winding up. Id. at § 803. Consequently, either the
accountant, the heir, or the engineer’s representative has standing to petition the court for judicial
supervision.

Answer options A, B, and C are incorrect for these same reasons.

Note that the 2013 amendments to the Uniform Partnership Act made changes to parts of these
rules, making it important to know whether a jurisdiction has adopted the 2013 amendments or is
still using the 1997 version.

9. After several partners in a law firm reached retirement age, the partnership decided to end.
One of the partners was put in charge of ending the partnership. Before the official dissolution,
the partner put in extra time beyond her normal duties to close accounts and transfer client
records. Once the winding-up process began, the partner continued to close partnership accounts
and find attorneys who could finish work for current clients.
Is the partner entitled to compensation for her services related to the ending of the partnership?

Yes, she is entitled to compensation for all services performed for the ending of the partnership.

Yes, she is entitled to compensation for services performed before the partnership was dissolved.

Yes, she is entitled to compensation for services once the winding-up process began.

No, as a partner she would not be entitled to any compensation for her services related to the
ending of the partnership.
Answer option C is correct. Generally, a partner is not entitled to compensation or
reimbursement for services performed for the partnership before dissolution. Unif. P'ship Act §
401(h) (1997). Dissolution is an event that requires the partnership to begin winding up its
business for eventual termination. During the winding-up process, the partners will typically
handle any outstanding business and settle all accounts among the partnership, its creditors, and
the partners before the partnership finally terminates. See id. at §§ 801-03(c). Accordingly, in
essence, a partner is not entitled to compensation for services performed for the partnership
before the process of winding up begins. The rules change only once the partnership begins the
process of winding up. After dissolution and the start of the winding-up process, then a partner
may be entitled to reasonable compensation for services performed.

For the above reasons, answer options A, B, and D are incorrect.

10. Three accountants formed a limited liability partnership. Because one of the accountants had
much more experience than the other two, she generally managed the partnership and made
decisions about taking on new clients. However, one day a lawyer visited the partnership’s
offices and asked about whether the partnership could take on accounting work for his law firm.
Because no one else was in the office that day, one of the junior accountants signed an agreement
to undertake accounting work for the firm. The junior accountant worked on the law firm’s
accounting by himself and did not tell the other two accountants about the work. Two years later,
the law firm discovered that the junior accountant had negligently failed to file tax forms on its
behalf. The law firm sued the partnership.

May the partnership be held liable for the junior accountant’s negligence?

Yes, because the junior accountant could generally participate in managing and controlling the
partnership’s business.
Yes, because all of the accountants are personally liable for the junior accountant’s negligence.

No, because the junior accountant did not tell the other accountants about his work for the firm.

No, because the senior accountant generally managed the partnership and made decisions about
taking on new clients.
Answer option A is correct. Unlike limited partners in a limited partnership, all partners in a
limited liability partnership may generally participate in managing and controlling the
partnership's business, unless the partnership agreement provides otherwise. See Unif. P'ship Act
§ 401 (1997); Dow v. Jones, 311 F.Supp.2d 461 (D. Md. 2004). Here, because there is no
indication that the partnership agreement said otherwise, the junior accountant could sign an
agreement with the law firm agreeing to do its accounting.
Answer option B is incorrect because, unlike general partners in limited partnerships, none of the
partners in limited liability partnerships are generally personally liable for the partnership’s
obligations beyond their capital contributions. See Unif. P'ship Act § 306(c) (2013).

Answer option C is incorrect because the junior accountant could sign agreements on the
partnership’s behalf. The fact that the junior accountant did not tell the other accountants does
not change the analysis.

Answer option D is incorrect because the fact that the senior accountant generally managed the
partnership does not change the analysis.

11. A group of doctors worked together as a partnership. After a big fight, one of the doctors
withdrew from the partnership. Because of the doctor’s withdrawal, the other partners decided to
end the partnership. The partners wound up all lingering business matters, paid creditors, and
liquidated the partnership’s assets. Finally, the partnership ceased all business activities and
ceased to exist.

At what point in time did the dissolution of the partnership occur?

When the doctor withdrew from the partnership.

When the partnership ceased to exist.

When the partnership ceased all business activities.

When the partnership began to wind up its business.

Answer option D is correct. Upon dissolution, a partnership must begin winding up its business.
See Unif. P'ship Act § 801 (1997). Winding up is the final process of closing out the
partnership's affairs before the partnership formally ceases to exist. For instance, during winding
up, partnerships generally handle any lingering business matters, liquidate partnership assets, pay
creditors, and resolve outstanding legal proceedings. See id. at § 803(c).

Answer option A is incorrect because a partner's withdrawal from a partnership is called

dissociation, not dissolution. See id. at § 601. Although a partner's voluntary dissociation may
also be an event of dissolution, dissociation and dissolution are two distinct concepts. See id. at
§§ 603(a), 801(1). Thus, answer option D is more accurate and complete than answer option A.

Answer option B is incorrect because a partnership does not immediately cease to exist, or
terminate, upon dissolution. Rather, the partnership continues to exist until winding up is
completed. Id. at § 802(a).

Answer option C is incorrect because a partnership is not required to cease all business activities
upon dissolution. Rather, the partnership may continue as a going concern for a reasonable time
after dissolution during the winding-up process. See id. at § 803(c).

12. A father, a son, and a daughter formed a general partnership to coordinate a convention for
video-game developers and professional streamers who broadcasted their gameplay over the
Internet. The convention was intended to be a one-time event. Per the partnership agreement, the
partnership was to dissolve and wind up at the convention's conclusion. While preparations for
the convention were underway, the father died.

Must the partnership wind up its business?

No, because there has been no dissolution.

No, because there has been no dissociation.

Yes, because the father's death was an event of dissolution.

Yes, because the father dissociated from the partnership.

Answer option A is correct. The partnership need not wind up its business, because there has
been no event of dissolution. Upon an event of dissolution, a partnership does not immediately
terminate, but it must begin winding up its business. Winding up is the final process of handling
lingering business, liquidating assets, settling accounts with creditors and among partners, and
similar activities. Only after the winding up has been completed will the partnership formally
terminate, or cease to exist. Unif. P'ship Act § 801 (1997). A partnership for a definite term or
particular undertaking is dissolved and must be wound up if both: (1) a partner dissociates
wrongfully or upon specified grounds, including death, before the expiration of the term or
completion of the undertaking, and (2) at least half the remaining partners vote (that is, express
their will) to dissolve the partnership. See id. at § 801(2)(i). Dissociation means that a partner has
ceased to be a partner, like if the partner dies or voluntarily withdraws from the partnership. See
id. at § 601 & cmt. A partner automatically becomes dissociated from the partnership upon
death.

Here, because the partnership's purpose is to coordinate a one-time convention for video-game
developers and professional streamers, the partnership is one for a particular undertaking. Under
the partnership agreement, the partnership was to dissolve and wind up its business at the
convention's conclusion. However, before that happened, the father died. Although this death
was a dissociation, by itself, this dissociation is not enough to force the partnership to dissolve.
Rather, at least half of the remaining partners (either the son or the daughter) must also express a
desire to dissolve the partnership before the dissociation will trigger a dissolution. Thus, unless
and until either the son or the daughter (as half of the two remaining partners) expresses a desire
to dissolve the partnership, the partnership has not been dissolved. Because the partnership has
not been dissolved, the partnership is not required to wind up its business. Answer options C and
D are necessarily incorrect for these same reasons.

Answer option B is incorrect because a dissociation, by itself, does not cause a dissolution of a
partnership for a particular undertaking that would trigger a necessary winding up. Rather, there
are two requirements for a partnership for a definite term or particular undertaking to dissolve
due to a partner's dissociation: (1) the dissociation must be wrongful or upon specified grounds,
including death, and (2) there must be a statement from half the remaining partners seeking
dissolution. However, note that a partner's dissociation, by itself, can sometimes be an event of
dissolution in other situations. See id. at §§ 601(7)(i), 801(1)-(2) & cmt.
13. An investor, a real-estate developer, and a broker formed a general partnership with each
other for a specific undertaking. According to the partnership agreement, the partnership's sole
purpose was to buy, develop, and then resell a specific parcel of land. The agreement further
provided that once the land was resold, the partnership was to be terminated. Shortly after the
partnership purchased the land and before any development could take place, the developer
voluntarily dissociated from the partnership. Without the developer's expertise and capital, the
investor and the broker could not develop the land. As the land would have been very costly and
burdensome to retain, especially without development, the investor and the broker caused the
partnership to sell the land at a loss of $60,000. This was the best obtainable price under
prevailing market conditions.

Is the developer potentially liable to the partnership for the loss on the sale of the land?

No, because the developer was not a partner when the land was sold.

No, because the land was sold for the best possible price.

Yes, because the developer damaged the partnership by wrongfully dissociating from it.

Yes, because the developer never filed a statement of dissociation or notified partnership’s
creditors of the developer’s dissociation.
Answer option C is correct. A partner's withdrawal from the partnership is called a dissociation.
Although a partner may voluntarily dissociate at any time by giving express notice to the other
partners, whether that voluntary dissociation is rightful or wrongful depends on the
circumstances. A partner who wrongfully dissociates will be liable to the partnership for any
damages caused by the dissociation. If a partnership is one for a specific undertaking, then a
voluntary dissociation before the end of the specific undertaking is usually wrongful; the only
way that the voluntary dissociation will be lawful in that situation is if, within the preceding 90
days, another partner has died, wrongfully dissociated, or rightfully dissociated on certain
grounds. See Unif. P'ship Act §§ 601-02 (1997).

Here, the partnership was for a specific undertaking: to purchase, develop, and resell a discrete
parcel of land. Once that undertaking was accomplished, the partnership was to terminate.
However, the developer voluntarily dissociated from the partnership before that undertaking
could be accomplished. No partner died, and no other partner had dissociated. Accordingly, the
developer’s dissociation was wrongful, and the developer is liable to the partnership for any
damages caused by the developer’s wrongful dissociation. Because the remaining partners could
not develop the land without the developer's know-how and capital, and retaining the land would
have been costly and burdensome, the developer’s wrongful dissociation caused the partnership
to sell the land. Thus, the developer is liable to the partnership for the $60,000 in damages
suffered in that sale.

Answer option A is incorrect because the fact that the developer was no longer a partner at the
time of the sale does not relieve the developer of liability for the damages caused by the
developer’s wrongful dissociation. In general, the damage caused by a wrongful dissociation will
occur after the partner has (wrongfully) left the partnership.

Answer option B is incorrect because getting a good sale price for the land goes only to the
amount of damages. Regardless of whether the damages are large or small, or could have been
more, the developer is still liable for having caused the sale and a loss of any sort.

Answer option D is incorrect because giving notice personally or in a statement of dissociation is

relevant to whether a dissociated partner has apparent authority to bind the partnership in a
transaction with a third party. See id. at §§ 703, 704. However, the question here is not whether
the developer, as a dissociated partner, is liable to a third party on a partnership transaction.
Rather, the question is whether the developer is liable to the partnership itself for harm arising
from the wrongful dissociation.

14. A mother and a daughter formed a general partnership to own and operate a shoe store. In the
partnership agreement, each partner agreed to make a capital contribution of $40,000 cash. The
mother and the daughter both made the agreed contribution. Sometime later, the partnership
needed more cash. Pursuant to a loan agreement, the mother loaned the partnership $20,000. This
was in addition to the mother's previous capital contribution. Even after the mother's loan to the
partnership, the partnership needed still more cash. Thus, the partnership took out another loan,
this one from a bank in the amount of $30,000. Eventually, the partnership dissolved.
Liquidation of the partnership's assets during the winding-up process yielded proceeds of
$45,000. The partnership's only creditors were the mother and the bank. The relevant jurisdiction
had adopted the original Uniform Partnership Act.
What is the mother's share of the $45,000 liquidation proceeds from the partnership's assets?
$22,500.

$15,000.

$7,500
$0.

Answer option B is correct. Upon dissolution and winding up, the partnership's assets must first
be applied to pay creditors. Anything left after all the creditors are paid goes to the partners as
return of capital, distribution, and profit sharing. Under the modern Revised Uniform Partnership
Act, a partner who is a creditor is treated the same as a third-party creditor for purposes of
determining debt-repayment priorities, meaning that the partner creditor stands on the same
footing as any other creditor when it comes to determining how to allocate limited repayment
resources among multiple outstanding debts. See Unif. P'ship Act § 807(a)-(b) & cmt. (1997).

However, under the original Uniform Partnership Act, which some states still follow, a third-
party creditor's priority is higher than that of a partner creditor. This means that, if the
partnership owes money to both a third-party creditor and a partner creditor, then the third-party
creditor gets paid first. Any debts to partner creditors will be paid next, before any remaining
assets can be distributed to the partners as returns of capital, distributions, or profit shares. Unif.
P'ship Act § 40(b)-(c) (1914).

Here, the jurisdiction follows the original Uniform Partnership Act. This means that the bank, as
a third-party creditor, must get paid from the liquidated partnership assets before the mother,
who is a partner creditor. The partnership owes the bank $30,000. This means that the first
$30,000 of the $45,000 in liquidation proceeds must go to the bank, leaving $15,000 to pay any
other debts. The mother, a partner creditor, is owed $20,000, and this is the partnership’s only
remaining debt. Thus, the mother is entitled to the entire remaining $15,000. Answers A, C, and
D are necessarily incorrect for these same reasons.
1. The articles of incorporation for a non-Delaware corporation properly stated a narrow, specific
business purpose. After several years in business, the corporation wanted to expand into a
lucrative sideline. The board of directors voted to begin operations in the new sideline business,
and the shareholders voted to ratify this action. The corporation then began transacting and
entering contracts in this new business line. These events occurred in a jurisdiction that applied
early corporate law, before the enactment of modern corporate statutes.

Is the corporation likely to be able to enforce the terms of the contracts for the new business line?

No, because the contracts are void or voidable.

No, because the corporation is a non-Delaware corporation.

Yes, because the directors approved the corporation’s expansion into the new business line.

Yes, because the shareholders ratified the corporation’s expansion into the new business line.
Answer option A is correct. The early law of corporations limited corporations to engaging in
specific types of businesses. Promoters and incorporators had to explicitly include the scope and
purpose of the business in the articles of incorporation. Any acts outside the scope of power
granted to a corporation by law or in the articles of incorporation were called ultra vires acts.
Under early corporate law, ultra vires acts were void or voidable and could be treated as if they
had never happened. See Black’s Law Dictionary 741 (3d Pocket Ed. 2006). Here, because this
occurred under early corporate law, the corporation may engage only in the business listed in its
articles of incorporation. The corporation’s original articles of incorporation only listed one
specific type of business, and the articles of incorporation were not amended to include the new
business line. Accordingly, any acts that the corporation took as part of that new business were
ultra vires, including entering contracts as part of the new business line. Because the corporation
lacked the legal power to enter into any transactions in the new business line, the contracts are
void or voidable, and the corporation may not enforce the terms of those contracts.

Answer option B is incorrect because no state, including Delaware, sanctioned ultra vires acts.
Therefore, the fact that this corporation is a non-Delaware corporation is irrelevant.

Answer options C and D are incorrect because neither board approval nor shareholder
ratification could save ultra vires acts under early corporate law.
An S corp with 99 shareholders wanted to remain eligible for S-corp status. A C corp with 1,000
shareholders wanted to buy 110 shares in the S corp. The C corp was incorporated in Delaware
and was a domestic corporation.

May the S corp sell 110 shares to the C corp and still retain its S-corp status?

No, because the C corp wanted to purchase more than 100 shares.

No, because a C corp cannot be a shareholder.

Yes, because the C corp was a domestic corporation.

Yes, because the S corp would only have 100 shareholders after the sale.

Answer option B is correct. In general, in an S corp, shareholders must be individuals and not
entities. There are a few limited exceptions that apply mostly to estates, trusts, and a few not-for-
profit entities, but none of these apply to ordinary business entities like C corps. See 26 U.S.C. §
1361(b). A C corp may not be a shareholder in an S corp. Here, the C corp is a business entity,
not a natural person, and the C corp does not meet any of the limited exceptions. Therefore, the S
corp cannot sell any shares to the C corp without losing its S-corp status.

Answer option A is incorrect because the important question is whether there are more than 100
shareholders in the S corp, not whether the corporation has issued or sold more than 100 shares
of stock. See id.

Answer options C and D are incorrect because although they each state a requirement to be an S
corp, the existence of these elements would not save the S corp here. The corporation will still
lose its S-corp status if it sells shares to the C corp because the C corp is not an individual.

2. A group of musicians formed a band. Once the band started making money playing shows and
selling records and merchandise, the musicians decided to form a limited liability company
(LLC). The musicians lived in a state that had enacted the Uniform Limited Liability Company
Act. The musicians drew up a certificate of organization and filed it with the state business
office. The next day, the musicians drafted an operating agreement. In the agreement, the
musicians set up the band structure and gave each member specific rights. Additionally, the
operating agreement indemnified members in certain instances. Because all the musicians had
side bands and wanted to avoid conflicts with those existing ventures, the operating agreement
also completely eliminated the duties of loyalty and care for all the members. Finally, the
operating agreement gave the lead singer a slightly larger amount of the profits and twice the
voting power of the other band members because the lead singer’s face was on the band’s t-
shirts. The band then went to a friend who worked as an attorney and asked for his advice. The
attorney told them that the LLC was not validly formed.

Which of the following is the most likely reason that the LLC was not validly formed?

The operating agreement was not filed with the state.

The operating agreement eliminated the duties of loyalty and care.

The lead singer was given greater voting power than the other band members.

The operating agreement indemnified the band members in certain instances.

Answer option B is correct. The members of an LLC have broad discretion in drafting an
operating agreement. Although the operating agreement is allowed to alter the duties of loyalty
and care in a few specific ways, the operating agreement can never completely eliminate the
fiduciary duties of loyalty and care owed by all members to the business. See Unif. Ltd. Liab.
Co. Act §§ 105(c)(5), (d) (2006) (Last Amended 2013).

Answer option A is incorrect because the operating agreement does not need to be filed with the
state.

Answer option C is incorrect because a member of an LLC may validly have greater voting
rights than other members.

Answer option D is incorrect because LLC members may validly agree to indemnify themselves
in certain instances in the operating agreement.

3. A group of advertising consultants approached a lawyer about starting a new business. The
consultants told their lawyer they had heard that limited liability companies (LLCs) offered
certain tax advantages. The consultants asked the lawyer how their new business’s income would
be taxed if they organized as an LLC.
How should the lawyer advise the consultants?

LLC income is taxed twice, once at the LLC level and again as the personal income of the LLC’s
members.

LLC income is taxed once, only as the personal income of the LLC’s members.
LLCs are taxed like C corporations.

There are no particular tax benefits to organizing as an LLC.

Answer option B is correct. One of the advantages of an LLC is that the business itself is not
taxed separately. Rather, the LLC’s profits and losses pass through to its individual members and
are taxed there, once, as the members’ personal income. The U.S. Small Business Administration
—LimitedLiability Company

Here, the lawyer should advise the advertising consultants that LLC income is taxed once, only
as the personal income of the LLC’s members.

Answer options A and C are incorrect because, as explained above, LLC income is not taxed at
the corporate level. In contrast to LLCs, C corporations are taxed twice—once at the corporate
level and again, once distributions are made, when shareholder personal income is taxed.

Answer option D is incorrect because the LLC form does provide tax advantages by avoiding tax
at the business-entity level. However, LLC members are considered self-employed and must pay
additional taxes for Medicare and Social Security contributions. See id.

4. A third party alleged that the actions of one of the members of a properly formed limited
liability company (LLC) bound the LLC to an employment agreement.

Which of the following findings, if true, would most undermine the third party’s claim that the
actions of one of the LLC’s members bound the LLC to the employment agreement?

That the member was free to disassociate from the LLC at any time.

That the LLC had no employees.

That the LLC was formed for a lawful purpose.

That the LLC’s operating agreement vested management authority in a manager.

Answer option D is correct. If an LLC’s members have chosen to manage the business
themselves, the members may bind the LLC just as a partner may bind a partnership. See
generally, Unif. Ltd. Liab. Co. Act § 301(b), comment. If, however, the members have chosen to
vest management authority in a manager, the members do not have authority to bind the LLC.
See id. 301(a). Therefore, here, a finding that the LLC’s operating agreement vested management
authority in a manager would most undermine the third party’s claim that the actions of one of
the LLC’s members bound the LLC to the employment agreement.

Answer option A is incorrect. LLC members are free to dissociate from an LLC at any time,
although a member who dissociates wrongfully, such as by breaching the operating agreement,
may be liable to the company. See id. § 601. In addition, a member may be dissociated pursuant
to the terms of the LLC’s operating agreement, by expulsion under the operating agreement, by
member consent, by judicial order in case of wrongdoing, or by death. See id. § 602. A finding
here that the member was free to disassociate from the LLC at any time is not relevant to
whether the member may bind the LLC. Therefore, this finding would not most undermine the
third party’s claim that the actions of one of the LLC’s members bound the LLC to the
employment agreement.

Answer option B is incorrect. As noted above, what is dispositive of whether a member may bind
an LLC is whether the member, or a manager, has management authority over the LLC. Id. §
301. The fact that the LLC had no employees is not relevant to whether the member may bind
the LLC. Therefore, this finding would not most undermine the third party’s claim that the
actions of one of the LLC’s members bound the LLC to the employment agreement.

Answer option C is incorrect. Although it is true that an LLC must be formed for a lawful
purpose, that, without more, is not dispositive of whether a member may bind the LLC. Id. §
104(a)-(b). As noted above, what is dispositive of whether a member may bind an LLC is
whether the member, or a manager, has management authority over the LLC. Id. § 301.

5. A manufacturing corporation sought to support the campaign of a candidate for United States
representative. The candidate ran on a platform of decreasing environmental regulations that
proved costly to businesses. The manufacturing corporation sought to fund a series of favorable
video and print ads to run in the district where the candidate was running. The manufacturing
corporation’s certificate of incorporation listed its purpose as making and selling lithium ion
batteries.

May the manufacturing corporation pay for the ads supporting the candidate?
Yes, because corporations have rights under the First Amendment.

Yes, because corporations are free to contribute to political campaigns directly and indirectly.

No, because paying for the ads would be ultra vires conduct in light of the business purpose
listed on the certificate of incorporation.

No, because corporations do not have rights under the First Amendment.

Answer option A is correct. Corporations have rights under the First Amendment to spend
money to support or oppose political candidates, such as by running independent ads. Citizens
United v. Federal Election Comm’n, 558 U.S. 310, (2010). Therefore, the manufacturing
corporation here may fund advertising in support of the candidate for United States
representative. Answer option D is necessarily incorrect for this same reason.

Answer option B is incorrect because in general, corporations may not donate directly to a
political campaign. Rather, corporations, including nonprofit corporations, may only contribute
to a political campaign via a separate segregated fund (SSF), popularly called corporate or labor
political action committees, or PACs.

Answer option C is incorrect. In general, modern corporation statutes permit corporations to

engage in any lawful business activities, and many states no longer require that the articles of
incorporation even set forth the corporation’s purpose. See generally Model Business
Corporation Act §§ 2.02(b), 3.01 (2016); 8 Del. Code Ann. § 121.

6. An advertising company was headquartered in State A, but its three largest clients were
located in State B. The company was incorporated in State C.

Which state’s laws govern the advertising company’s internal affairs?

State A.

State B.

State C.

States A and C.
Answer option C is correct. Corporations are created and governed by the laws of the state in
which they are incorporated. See generally, 8 Del. Code Ann. § 101(a)-(b). Therefore, the laws
of the state of incorporation govern the internal affairs of the company, despite the fact that the
company’s principal place of business, or most or all of the company’s dealings, take place
elsewhere. Id.

Here, the advertising company is incorporated in State C. The laws of State C therefore govern
the company’s internal affairs, even though the company’s headquarters are in State A and most
of its business dealings occur in State B. Answer options A, B, and D are necessarily incorrect
for this same reason.

7. A group of real estate developers sought to form a limited liability company (LLC) in State A.

Which of the following is NOT a requirement in order for the group to form the LLC?

The LLC must have a business name that clearly indicates that it is an LLC.

The LLC must have a registered agent.

The group must draft the LLC’s operating agreement and file it with the state.

The group must obtain any licenses required for the LLC’s operation.

Answer option C is correct. LLCs are a relatively new business form, authorized by statute in all
50 states. LLCs allow the owners, called members, to manage the business, while still enjoying
the protection of limited liability. Limited liability company, Black’s Law Dictionary (11th ed.
2019). Although most LLC members choose to draft operating agreements that govern the
business, the agreements are not required by law, nor are they required to be filed with the state.
See, e.g., The U.S. Small Business Administration—Limited Liability Company,
http://www.sba.gov/content/limited-liability-company-llc. Therefore, here, the group is neither
required to draft the LLC’s operating agreement, nor to file any such agreement with the state in
order to form an LLC.

Answer options A, B, and D are incorrect because each accurately states a requirement in order
for the group to form an LLC.
8. A corporation was a registered S corporation with 90 shareholders holding 500 shares apiece.
After the corporation’s board of directors decided to change the corporation’s focus, one of the
shareholders decided that he no longer wanted to be affiliated with the corporation. When the
disgruntled shareholder told the other shareholders, they told him to go ahead and sell his shares
if he wanted to do so. After weeks of trying to find buyers, the shareholder finally managed to
sell his 500 shares to 12 different purchasers. After the shareholder’s sale, the remaining
shareholders became worried about how the sale would affect the corporation’s tax status.

Is the shareholder’s sale likely to affect the corporation’s tax status?

Yes, because the sale has resulted in some shareholders having fewer shares than other
shareholders.

Yes, because the sale has resulted in too many shareholders.

No, because the other shareholders knew about and approved of the sale.

No, because the disgruntled shareholder was the only one of the original 90 shareholders who
sold his shares.

9. Two architects, an engineer, and a lawyer decided to form a limited liability corporation
(LLC) to restore old houses. The architects and the engineer would handle the building elements,
while the lawyer would focus on permits and other issues dealing with historical building codes
and zoning. The four members wrote an operating agreement that stated they would only work
on old houses, and that the lawyer would not allow the other members to work on legal issues.
Also, the lawyer had a few long-time, elder-law clients that he did not want to drop.
Accordingly, the operating agreement allowed the lawyer to continue working for those clients,
but forbid him from taking on new clients other than clients for the LLC’s restoration business.

Can the members form a valid LLC for their proposed business?

Yes, because an LLC may be formed for any lawful purpose.

Yes, but only because the four members are primarily engaging in a single business.

No, because the lawyer is continuing to do elder-law work.

No, because the four members are not all members of the same profession.
Answer option A is correct. An LLC may be formed for any lawful purpose. See Unif. Ltd. Liab.
Co. Act § 602(4) (2006) (Last Amended 2013). Consequently, here, there is no reason that the
members cannot form an LCC for their proposed new restoration business.

Answer option B is incorrect because professional corporations (PCs) are limited to engaging in
a single business, but LLCs do not have any similar limitation. See, e.g., N.Y. Bus. Corp. Law §
1503.

Answer option C is incorrect because having a business interest outside an LLC is allowed as
long as the business does not violate the member’s duties of loyalty or care to the LLC. Here,
there is no indication that allowing the lawyer to continue servicing a few clients in the unrelated
area of elder law would violate the lawyer’s duty of loyalty or care to the LLC and its building
restoration business. See Unif. Ltd. Liab. Co. Act § 105(a) (2006) (Last Amended 2013). Further,
even though an LLC’s operating agreement may not completely eliminate the duties of loyalty or
care, the operating agreement may include reasonable exceptions that allow a member to engage
in specific activities that might otherwise arguably impede on these duties. See id. at § 105(d).
Accordingly, even if the lawyer’s outside clients might occasionally impede on the lawyer’s
duties to the LLC, the operating agreement’s specific exception allowing the lawyer to continue
to work for these specific clients is likely reasonable and, therefore, allowed here.

Answer option D is incorrect because the fact that the four LLC members do not belong to the
same profession would not keep the members from forming a valid LLC. However, note that this
fact would prevent these same four individuals from forming a valid PC. See, e.g., N.Y. Bus.
Corp. Law § 1503.

10. A corporation’s customer entered a purchase contract to buy items from the corporation. The
contract listed the corporation by its legal, corporate name and specified that the customer and
the corporation were the sole parties to the contract. A corporate officer signed the contract on
behalf of the corporation and presented it to the board of directors for ratification. The board
approved the contract.
Is the contract legally binding on the corporation as a separate legal entity?

Yes, because a corporation has the capacity to enter contracts in its own name.

Yes, but only because the board approved the contract.

No, because a corporation does not have the capacity to enter contracts in its own name.
No, because corporate officers do not have the capacity to sign contracts on behalf of a
corporation.
Answer option A is correct. A corporation is a separate legal entity vested with the power to
enter contracts and incur liabilities under its own name. See Model Bus. Corp. Act § 3.02(7)
(2016). Here, the contract may legally bind the corporation in its own corporate name as its own
separate legal entity. Answer option C is necessarily incorrect for that same reason.

Answer options B and D are incorrect because corporate officers may hold the capacity to bind
the corporation, without ratification by the corporation’s board of directors. See id. at § 8.41. For
example, corporate officers may bind the corporation for acts done with the corporation’s actual
authority, whether express or implied, without seeking board ratification. See id. Typically, the
corporation’s bylaws specify which officers hold the power to enter contracts on behalf of the
corporation in different contexts.

11. A group of physicians wanted to incorporate as a professional corporation. All of the

physicians were licensed to practice medicine in the state in which they planned to incorporate.
The physicians had already signed an operating agreement specifying how the practice would be
managed and how profits would be shared.

What should the physicians do next to create their professional corporation?

The physicians should file their operating agreement with the state.

The physicians should file a certificate of incorporation with the state.

The physicians should file their election to be treated as a professional corporation with the
Internal Revenue Service.

The physicians should elect initial directors.

Answer option B is correct. Like any other corporation, a certificate of incorporation must be
filed with the appropriate state agency in order to formally create a professional corporation
(PC). See, e.g., N.Y. Bus. Corp. Law § 1503(b). Typically, a professional corporation’s
certificate of incorporation includes additional information, such as the type of professional
services the PC will provide; the names and addresses of all shareholders, directors, and officers;
and the professional licenses of all shareholders, directors, and officers. Id. Therefore, the
physicians here should file a certificate of incorporation with their state to create their
professional corporation.
Answer option A is incorrect because the members of a PC need not file any operating
agreement with the state.

Answer option C is incorrect because PCs do not receive any particular tax treatment requiring
an election with the Internal Revenue Service (IRS). Even if some aspect of the physicians’
practice here did receive special tax treatment, filing an election with the IRS would secure the
tax treatment, but not create the corporation.

Answer option D is incorrect because electing initial directors would continue to organize the
PC, but not officially create it. Like other corporate forms, the PC is officially created when its
organizers file a certificate of incorporation with the state.

12. A corporation filed articles of incorporation and passed governing bylaws. Both the articles
and the bylaws contained provisions that conflicted with the laws of the state of incorporation.

Which of the following correctly states the hierarchy among the conflicting articles, bylaws, and
state laws?

State law controls, then the bylaws, then the articles.

State law controls, then the articles, then the bylaws.

The articles control, then the bylaws, then state law.

The articles control, then state laws, then the bylaws.

Answer option B is correct. Corporations are governed by several possible sources of authority.
At the top of the hierarchy of controls is state statutory law. Corporations are created and
governed by the laws of the state in which they are incorporated. See generally Del. Code Ann. §
101(a)-(b). Second in the hierarchy is the certificate or articles of incorporation required to form
a corporation. See id. at § 102(a)(1)-(6). The articles of incorporation serve as the corporation’s
contract with the state and as a governing document for the corporation. Third, below the articles
of incorporation, are the corporation’s bylaws. A corporation’s bylaws are the rules or guidelines
for the internal governance of the corporation. Black’s Law Dictionary 84 (3d Pocket Ed. 2006).

Here, because there is a conflict, the state’s laws ultimately control the corporation’s governance.
After that, to the extent they do not conflict with the state’s laws, the corporation’s articles of
incorporation control. Finally, to the extent that they do not conflict with either the state’s laws
or the corporation’s articles of incorporation, then the corporation’s bylaws control.

Answer options A, C, and D are necessarily incorrect for the reasons discussed above.

13. The owners of a pet spa, seeking to incorporate their business in Delaware, prepared articles
of incorporation to file with the secretary of state’s office.

Which of the following is NOT required to be included in the pet spa’s articles of incorporation?

The corporation’s business name.

The name and address of the corporation’s registered agent.

An outline of the capital structure of the corporation, including the details of any classes of stock
that may be issued.

A statement identifying whether the corporation is of limited or perpetual duration.

Answer option D is correct. Like most jurisdictions, although the articles of incorporation of a
Delaware corporation may include a statement identifying whether the corporation is of limited
or perpetual duration, it is not necessary. See Del. Code Ann. § 1.02(b)(5). If the articles of
incorporation do not specify a limited duration, then the corporation is deemed to be perpetual.
Id. Therefore, the pet spa’s articles of incorporation do not need to include a statement
identifying whether the corporation is of limited or perpetual duration.

Answer options A, B, and C are incorrect because each states information that is required to be
included in a Delaware corporation’s articles of incorporation. In Delaware, a corporation’s
articles of incorporation must include the corporation’s business name, the name and address of
the corporation’s registered agent, and an outline of the capital structure of the corporation. See
Del. Code Ann. § 102(a)(1)-(6). The outline of the capital structure must include details such as
the classes of stock that may be issued; the number of authorized shares in each class; the stock’s
par value (if any); and any privileges, preferences, rights, restrictions, and limitations on any
class of stock. See id. at § 102(a)(4).

14. A corporation entered a sales contract that specified that the customer and the corporation
were the sole parties to the contract. A corporate officer signed the contract on behalf of the
corporation. The corporation delivered the products as agreed in the contract. However, the
customer failed to pay the amount due under the contract.

May the corporation sue the customer for breach of contract in its own name?

Yes, because a corporation has the capacity to sue and be sued just like anyone else.

Yes, but only because the corporation is bringing a contract claim and not a tort claim.

No, because a corporation does not have the capacity to enter contracts in its own name.

No, because a corporation does not have the capacity to sue in its own name.

Answer option A is correct. A corporation is a legal entity vested with the power to enter
contracts and incur liabilities in its own name, as its own separate entity. See Model Bus. Corp.
Act § 3.02(7) (2016). Therefore, here, the corporation had the capacity both to enter a contract
with the customer and to sue for breach of contract in its own name. Answer options C and D are
incorrect for that reason.

Answer option B is incorrect because a corporation is not limited to suing only for contract
claims. A corporation may sue or be sued like anyone else, including the ability to sue for tort
claims.
Fiduciary Duties

1. A controlling shareholder of a close corporation wanted to retire. The other shareholders

offered to buy out the controlling shareholder’s shares at 5 percent above market rate. An
outside party offered to buy the shares at 30 percent above market rate. The controlling
shareholder agreed to sell his shares to the outside party without consulting with or
obtaining the consent of the other shareholders, and without giving the other shareholders
a chance to beat the outside offer. Did the controlling shareholder violate any duties to
the other, minority shareholders?
a. No, because controlling shareholders have a right to sell their shares for a
premium.
b. No, because the controlling shareholder first considered an offer from the other
shareholders before agreeing to the deal with an outsider.
c. Yes, because the controlling shareholder breached the duty of utmost good faith.
d. Yes, because the controlling shareholder failed to obtain the remaining
shareholders’ approval before selling his controlling interest.
Answer option A is correct. The controlling shareholder had the right to sell his
controlling interest at a premium. Courts in some states have held that the controlling
shareholder in a close corporation owes a fiduciary duty of utmost good faith to the other
shareholders. See Donahue v. Rodd Electrotype Co., 328 N.E.2d 505 (Mass. 1975).
Further, controlling shareholders have a duty to avoid bad faith, including fraud,
usurping corporate opportunities, and looting company assets when selling controlling
interests in corporations. See generally Zetlin v. Hanson Holding, Inc., 48 N.Y.2d 684
(1979). However, provided none of these conditions exist, a controlling shareholder may
sell his or her block of controlling shares at a premium. See Levy v. American Beverage
Corp., 265 A.D. 208 (1942). Here, no evidence suggests that the controlling shareholder
engaged in bad faith of any sort. Nor does a controlling shareholder owe any fiduciary
obligation to seek shareholder approval or to give the other shareholders a chance to top
an outside offer. Rather, even in a close corporation and even without approval of the
other shareholders, the controlling shareholder’s good-faith act of selling his controlling
shares to an outsider at a premium is allowed; it does not violate any duties to the other,
minority shareholders.
Answer options B and D are incorrect because, as discussed above, a controlling
shareholder need not consult with or get approval from the other, minority shareholders
before selling his or her shares. Instead, the duty of utmost good faith prohibits only
acting with bad faith in the sale.
Answer option C is incorrect because nothing in the facts suggests that the controlling
shareholder breached the duty of utmost good faith. The duty of utmost good faith
prevents a controlling shareholder from acting with bad faith, like by advancing his own
interest without regard for the potential consequences to the other shareholders. See
Kavanaugh v. Kavanaugh Knitting Co., 226 N.Y. 185 (1919). Here, the controlling
shareholder merely sold his shares to the highest bidder. There is no evidence of fraud,
usurping corporate opportunities, looting of corporate assets, or other similar behaviors
that might qualify as acting in bad faith and, therefore, violate the duty of utmost good
faith.

2. An officer in a small business planned to leave the company to start his own competing
business. While still working at the company, the officer solicited the company’s
customers to follow him to his new, competing business. The officer then left the
company and started his own business. Many of the company’s customers followed the
officer and became customers of his new business. The company sued the officer for
violation of the duty of loyalty, seeking to place the officer’s business in a constructive
trust. How will a court likely rule?
a. The officer breached the duty of loyalty and a constructive trust is an appropriate
remedy.
b. The officer breached the duty of loyalty, but only damages, not a constructive
trust, is available as a remedy.
c. The officer did not breach the duty of loyalty because he did not start his own
business until after leaving the company.
d. The officer did not breach the duty of loyalty because the duty not to compete
only applies to directors, not officers.
Answer option B is correct. Corporate directors, officers, and high-level executives have
a duty not to compete with the corporation if doing so could potentially harm the
company. Robert N. Brown Associates, Inc. v. Fileppo, 38 A.D.2d 515 (N.Y. App. 1971).
Insiders who violate the prohibition on competition with the corporation may be held
liable for damages to the company, but a constructive trust on the competing business is
not an available remedy. Lincoln Stores v. Grant, 34 N.E.2d 704 (Mass. 1941).
Here, the officer breached the duty of competition by soliciting current customers of the
company to leave the company and become customers of his business instead.
Answer option A is incorrect because a constructive trust is not an available remedy
under these facts.
Answer option C is incorrect because the officer breached the duty by soliciting
customers while he was still with the old company. An employee who is planning to leave
to start a competing business may make general preparations, such as renting office
space, but may not solicit customers of his current employer. Graphic Directions, Inc. v.
Bush, 862 P.2d 1020 (Col. App. 1993).
Answer option D is incorrect because the duty of loyalty, including the duty not to
compete, applies to officers and high-level executives, as well as directors. Gantler v.
Stephens, 965 A.2d 695 (Del. 2009).
 3. A job seeker contacted a pharmaceutical corporation and requested to speak with a
manager about employment opportunities. The corporation’s receptionist advised the job
seeker that the corporation did not have anyone listed as a “manager” in its corporate
directory but did have someone who worked in human resources. The job seeker insisted
on speaking with a manager. Which of the following inquiries is most dispositive of
whether the human resources employee is a corporate manager?
a. What is the employee’s relative level in the corporate hierarchy?
b. What is the employee’s title within the corporation?
c. What is the employee’s degree of discretion to make corporate decisions?
d. What is the employee’s past course of dealing on behalf of the corporation?
Answer option C is correct. The dispositive inquiry of whether a corporate employee is a
corporate manager is what is the employee’s degree of discretion to make corporate decisions.
See 2 Fletcher Cyc. Corp. § 665, Westlaw (database updated Sept. 2017); see also Egan v.
Mutual of Omaha Ins. Co., 620 P.2d 141 (Cal. 1979). Therefore, here, the human resources
employee’s degree of discretion to make corporate decisions is most dispositive of whether the
employee is a corporate manager.

Answer options A, B, and D are incorrect because each inaccurately states an inquiry that is
most dispositive of whether a particular corporate employee is a corporate manager.

4. The chief executive officer (CEO) of a Delaware corporation that manufactured

pharmaceuticals learned that the corporation’s most promising new cancer drug had
failed preliminary clinical trials. Before that information became public, the CEO met
with the board of directors and decided to go ahead and issue a prospectus that had
already been prepared for shareholders, even though the prospectus described the new
drug as promising and likely to gain U.S. Food and Drug Administration (FDA) approval.
After the FDA announced the results of the clinical trials, a shareholder sued both the
CEO and the board of directors, alleging that they had violated the duty of disclosure
when they issued the prospectus. Is the court likely to find that either the directors or the
CEO violated the duty of disclosure?
a. Yes, because both the directors and the officers of a Delaware corporation owe a
duty of disclosure to give shareholders material information when releasing
information to shareholders.
b. Yes, but only the directors, not the officers, of a Delaware corporation owe a duty
of disclosure when releasing information to shareholders.
c. No, because the directors and the officers of a Delaware corporation owe a duty
of disclosure to shareholders only when requesting shareholder action, not when
merely releasing information.
d. No, because neither directors nor officers of a Delaware corporation owe
shareholders a duty of disclosure.
Answer option A is correct. The duty of candor, or disclosure, requires that corporate directors
and officers give shareholders, and sometimes even the public, material information. See Stroud
v. Grace, 606 A.2d 75 (1992). In Delaware, this obligation arises whenever a board releases
information to shareholders, even if no action is sought. Ciro, Inc. v. Gold, 816 F. Supp. 253,
266 (D. Del. 1993). Moreover, it is well-settled in Delaware that the same fiduciary obligations
that bind corporate directors apply equally to corporate officers. See, e.g., Gantler v. Stephens,
965 A.2d 695, 708-09 (Del. 2009). Therefore, both the officers and the directors of a Delaware
corporation owe a duty of candor when releasing information to shareholders or requesting
shareholder action. Here, in the prospectus, the corporation’s CEO and its directors were
releasing some information to the corporation’s shareholders about the likelihood of the FDA
approving the potential new drug. Accordingly, the CEO and the directors both had a duty to
fully disclose to the shareholders all material information in their possession about the
likelihood of the drug’s approval. Instead, the CEO and the directors issued a prospectus to the
corporation’s shareholders that did not fully disclose all material knowledge that the CEO and
the board possessed about the status of the new drug. Thus, the CEO and the board both likely
violated their duty of disclosure.

Answer options B, C, and D are necessarily incorrect for the reasons discussed above.

5. A director of a Delaware corporation accused several other directors of failing to disclose

personal interests in corporate transactions. The accused board members called a special
shareholder meeting while the director was out of town. The board told the shareholders
that the absent director had personal conflicts with the other board members that
interfered with the efficient management of corporate affairs. The board then asked the
shareholders to remove the absent director. The shareholders voted to remove the
director. Did the duty of disclosure apply to the board’s communication with the
shareholders?
a. Yes, because the duty of disclosure applies to any board communication that
releases information to shareholders.
b. Yes, because the duty of disclosure applies only to board requests for shareholder
action.
c. No, because directors owe no duty of disclosure when seeking ordinary
shareholder actions, like elections and removing directors.
d. No, because Delaware generally does not recognize the duty of disclosure.
Answer option A is correct. The board had a duty to fully disclose all material information to the
shareholders because the board was communicating with the shareholders. In Delaware, the
duty of disclosure (sometimes called the duty of candor) requires that corporate directors fully
and fairly disclose all material information within their control when seeking shareholder
action. See Stroud v. Grace, 606 A.2d 75 (1992). This obligation also extends to any release of
information to shareholders, even if no shareholder action is sought. See Ciro, Inc. v. Gold, 816
F. Supp. 253, 266 (D. Del. 1993). Here, when the board told the shareholders about the
supposed conflicts between the absent director and the other board members and asked to have
the absent director removed, the board members released information to the shareholders. This
means that the duty of disclosure applied to the communication.

Further, note that it is likely that the board members violated that duty here. The duty of
disclosure meant that, in their communication with the shareholders, the board members had a
duty to fully and fairly disclose all material information within their control about the matter.
However, when the board told the shareholders that the absent director had personal conflicts
with other board members that interfered with the efficient management of corporate affairs, the
board members failed to disclose that the absent director had accused the other board members
of misconduct. Most likely, the missing information about the accusations would be considered
material to understanding the situation and, ultimately, to the shareholders’ decision to remove
the director based on this information. This means that the board members failed to fully and
fairly inform the shareholders of all material information in the communication and, therefore,
breached their duty of disclosure here.

Answer options B and C are incorrect because they are too limited. In Delaware, the duty of
disclosure applies any time the board releases information to shareholders, even if no action is
sought. See Ciro, Inc. v. Gold, 816 F. Supp. 253, 266 (D. Del. 1993). The duty of disclosure also
applies any time that directors request shareholder action, regardless of the type of action
sought. See Stroud v. Grace, 606 A.2d 75 (1992).

Answer option D is incorrect because, as discussed above, the duty of disclosure is recognized in
Delaware; it is the duty of obedience that Delaware rarely recognizes anymore, if at all. See
generally Alan R. Palmiter, Duty of Obedience: The Forgotten Duty, 55 N.Y.L. Sch. L. Rev. 457
(2010).

6. A previously profitable Delaware corporation began to struggle financially. The

corporation was losing money and depleting its assets.At what point do the directors of
the corporation owe a duty to the corporation’s creditors?
a. When the corporation can no longer pay its obligations when due in the ordinary
course of business.
b. When the corporation’s obligations outweigh its assets.
c. When the corporation is in the vicinity of insolvency.
d. When the corporation declares bankruptcy.
Answer option C is correct. Under Delaware law, the directors and officers of a corporation
owe a duty to the corporation’s creditors whenever the corporation is insolvent or in the zone or
vicinity of insolvency. Credit Lyonnais Bank Nederland, N.V. v. Pathe Communications Corp.,
Civ. A. No. 12150, 1991 WL 277613, (Del. Ch. Dec. 30, 1991).
Here, the directors of the corporation will owe a duty to the corporation’s creditors as soon as
the corporation enters the vicinity of insolvency, even if it is not yet insolvent by either the equity
test or the balance sheet test. Answer option A, which states the equity test, and answer option B,
which states the balance sheet test, are therefore incorrect. Answer option D is incorrect
because a corporation does not need to declare bankruptcy to be considered insolvent.

7. The corporate directors of a holding company hired a qualified certified public

accountant to audit a business that the holding company had targeted for acquisition.
Although the targeted business had recently incurred significant losses, the accountant
prepared financial reports that falsely showed the business as profitable. The directors
reviewed the reports and voted unanimously to acquire the business. After the business
had been acquired, the business continued to decline, rendering its shares valueless. The
shareholders of the holding company sued, seeking to hold the directors personally liable
for the losses caused by the acquisition. Is the court likely to hold the directors personally
liable for a breach of the duty of care for acquiring the failed business?
a. Yes, because the business had incurred significant, recent losses before the
directors voted to acquire it.
b. Yes, because the directors voted unanimously to acquire the business.
c. No, because the directors reasonably relied on reports prepared by a certified
public accountant.
d. No, because directors are never personally liable for corporate losses.
Answer option C is correct. Corporate directors acting in good-faith reliance on information
from trusted sources are generally shielded from personal liability for breaches of the duty of
care. Model Bus. Corp. Act § 8.30(b) (2016); see, e.g., Del. Code. Ann. tit. 8, § 141(e). Directors
and officers may rely on information, opinions, reports, or statements offered by corporate
officers, employees, committees of the board of directors, or anyone with professional or expert
competence selected with reasonable care. Model Bus. Corp. Act §§ 8.30(e)-(f). This group of
acceptable, trusted sources specifically includes licensed public accountants. See id., at cmt. 6.
Here, because the directors hired a qualified certified public accountant to prepare financial
reports, then reasonably relied on the reports from that trusted source in voting to acquire the
business, the court is unlikely to hold the directors personally liable for damages caused by that
acquisition. Answer options A and B are necessarily incorrect because, as discussed above,
corporate directors acting in reasonable reliance on a public accountant’s reports are shielded
from personal liability.

Answer option D is incorrect because although the directors’ reliance on the expert report
shielded them from personal liability here, courts may impose personal liability against
corporate directors in certain situations. For example, if the director did not rely on an expert
report, a court may hold a corporate director personally liable for either: (1) failing to act in
good faith and in a manner reasonably in the best interests of the corporation, or (2) engaging
in self-dealing or without adequate information under the circumstances. See Model Bus. Corp.
Act § 8.31.

8. A shareholder filed a lawsuit alleging that an executive officer of a corporation had

engaged in a prohibited insider transaction. The claim ultimately went to trial. Which of
the following most accurately describes the parties’ burdens of proof at trial?
a. The shareholder has the burden of proving both that the officer engaged in a
prohibited insider transaction, and that the transaction did not fall within any
permissible exception.
b. The shareholder has the initial burden of proving that the officer engaged in a
prohibited insider transaction, but then the burden shifts to the officer to prove
that the transaction fell within a permissible exception.
c. The shareholder has the initial burden of proving that the officer engaged in a
prohibited insider transaction, but then the burden shifts to the corporation to
prove that the transaction fell within a permissible exception.
d. The entire burden is on the officer to prove that the transaction was in good faith
and reasonably in the best interests of the corporation.
Answer option B is correct. In a lawsuit challenging an allegedly interested transaction, the
shareholder must first demonstrate that the corporate insider (officer, director, majority
shareholder, or a close affiliate or relative of the first three) held an insider interest in the
transaction. Once that showing is made, the burden then shifts to the insider to prove the
transaction was either: (1) fair and objectively reasonable to the corporation, or (2) approved
by the requisite number of disinterested directors or shareholders after full disclosure of all
material facts. See Lewis v. S. L. & E., Inc., 629 F.2d 764 (2d Cir. 1980). Here, that means that
if the shareholder demonstrates that the executive officer held an insider interest in the
transaction, then the burden will shift to the executive officer to prove that the transaction fell
within either of the two permissible exceptions.

Answer option A is incorrect because the shareholder bears only the burden of demonstrating an
interested transaction, not the burden of proving no exception applies. Id.

Answer option C is incorrect because the officer, not the corporation, must prove that the
transaction fell within a permissible exception. Id.

Answer option D is incorrect because it misstates both the burden and the standard applied to
alleged breaches of the duty of loyalty. Whether the officer acted in good faith and in the
corporation’s best interests is the standard applied to determine whether a corporate insider has
violated the duty of care—not the duty of loyalty. See Model Bus. Corp. Act § 8.30(a) (2016).
 9. A large, multinational corporation learned that over the past several years, certain
employees had used company funds to bribe foreign government officials to obtain
government contracts and operating permits, in violation of federal law. The board of
directors appointed a special committee to investigate. The committee, after a thorough
investigation, recommended that the responsible employees be terminated but that no
legal action should be maintained against the employees to attempt to recover any funds.
The board of directors and the chief executive officer (CEO) accepted the committee’s
recommendation without doing any further investigation. The CEO terminated the
responsible employees. A minority shareholder sued the board of directors, contending
that the board had violated the duty of care by not pursuing legal action to recover funds
from the fired employees. Is a court likely to find that the board’s decision was protected
by the business judgment rule?
a. Yes, because the board’s decision was made in good faith, with adequate
information, and with a rational basis.
b. Yes, because the board’s decision was ratified by the CEO.
c. No, because the board’s decision sanctioned illegal activity.
d. No, because the board did not act with adequate information because it based its
decision on the committee’s recommendation without investigating itself.
Answer option A is correct. The business judgment rule creates a rebuttable presumption that
corporate directors and officers undertake their duties and actions rationally and in good faith,
with adequate information, and in the best interest of the company. It therefore shields directors
and officers from liability for breach of the duty of care, so long as their actions are free from
self-dealing, made with sufficient information, and rational at the time made. Emerald Partners
v. Berlin, 787 A.2d 85, 91 (Del. 2001). Courts will not substitute their judgment for that of the
directors. Helfman v. Am. Light & Traction Co., 187 A. 540, 550 (N.J. Ch. 1936).

Here, the board made an informed decision, based on the recommendation of the committee, not
to pursue legal action against the responsible employees. A decision to “seek to enforce in the
courts a cause of action for damages is, like other business questions . . . left to the discretion of
the directors.” United Copper Securities Co. v. Amalgamated Copper Co., 244 U.S. 261, 263
(1917). Therefore, the board’s decision will be protected by the business judgment rule.

Answer option B is incorrect because the ratification of the board’s decision by the CEO is
irrelevant for purposes of invoking the protection of the business judgment rule.

Answer option C is incorrect because the board’s decision did not constitute illegal activity, but
merely a decision not to seek a legal remedy against those who had committed illegal acts in the
past. See, e.g., Gall v. Exxon Corp., 418 F.Supp. 508, 518 (S.D.N.Y. 1976) (“The decision not to
bring suit with regard to past conduct which may have been illegal is not itself a violation of law
and does not result in the continuation of the alleged violation of law.”).
Answer option D is incorrect because the board of directors is entitled to rely upon information
and recommendations from trusted third parties in making its decisions. The directors are not
required to obtain knowledge firsthand. Del. Code. Ann. tit. 8 § 141(e).

10. Several shareholders brought a derivative action against a corporation’s board of

directors alleging that the directors should be held liable for a failure to oversee the
corporation. The corporation had suffered significant losses after being held liable for
sexual harassment in several different lawsuits over the past five years. The directors,
who were aware of the harassment litigation and the damages the corporation had been
repeatedly forced to pay, had not implemented any internal policy or reporting system for
harassment complaints.Which of the following best explains a court’s decision to impose
director oversight liability?
a. The directors acted negligently.
b. The directors had an independent duty of good faith that required them to
implement needed reporting and control systems.
c. The directors utterly failed to implement needed reporting and control systems.
d. the directors had an affirmative duty to investigate to ensure that no officer or
reporting employee was engaging in harassment.
Answer option C is correct. In general, a court may impose director oversight liability if (1)
directors utterly fail to implement any reporting or information system or controls; or, (2) having
implemented such a system or controls, directors consciously fail to monitor or oversee its
operation. See Stone v. Ritter, 911 A.2d 362, 370 (Del. 2006).

Here, the fact that the directors utterly failed to implement any kind of reporting system for
harassment complaints best explains a court’s decision to impose director oversight liability. The
failure to implement reporting systems despite knowledge of the adverse judgements against the
corporation indicates a conscious failure to act. Therefore, the directors did not act in good faith
and breached their fiduciary duty to the corporation.

Answer option A is incorrect because simple negligence is insufficient to impose director

oversight liability. Rather, a director must act in bad faith in order to be liable. A director acts in
bad faith if: (1) she intentionally acts with a purpose other than that of advancing the
corporation’s best interests, (2) she acts with the intent to violate the law, or (3) she intentionally
fails to act in the face of a known duty, consciously disregarding her duties. See In re Walt
Disney Deriv. Litig., 906 A.2d 27, 67 (Del. Ch. 2006).
Answer option B is incorrect because a director’s obligation to act in good faith is not an
independent fiduciary duty. Only a director’s breach of the duty of care or of the duty of loyalty
may result in liability. See Stone, 911 A.2d at 370.

Answer option D is incorrect because it states the directors’ duty too broadly. The law does not
impose upon directors an affirmative duty to investigate and be aware of all possible wrongdoing
occurring in a corporation.

11. A corporation suffered losses during a market decline. The corporate directors scheduled
a board meeting to discuss available financing options, but only one of the corporation’s
two directors attended. Because the second director did not attend the meeting, the board
did not vote on any new financing options. Instead, the board postponed the meeting.
Meanwhile, a group of creditors forced the corporation into involuntary bankruptcy,
rendering the corporation’s shares valueless. A shareholder sued, seeking to hold the
second director who failed to attend the meeting liable for the corporation’s loss in value.
In most states, is the second director who failed to attend the meeting liable for a breach
of the duty of care?
a. Yes, because the director did not attend the board meeting.
b. Yes, because new financing options were available.
c. No, because a director’s failure to attend board meetings, standing alone, never
constitutes a breach of the duty of care.
d. No, because the shareholder cannot show that the director’s failure to attend the
board meeting caused the corporation’s losses.
Answer option D is correct. In most states, a finding that a director or officer has breached the
duty of care, by itself, does not suffice to hold a director personally liable for damages.
Generally, the director or officer will be personally liable for damages only if the breach was
both the cause in fact and the proximate cause of the corporation’s loss. See Barnes v. Andrews,
298 F. 614 (S.D.N.Y. 1924); Model Bus. Corp. Act § 8.31(b)(1)(ii) (2016). That means that the
plaintiff must show that the loss would not have occurred but for the breach of duty, which is a
formidable requirement. See Barnes, supra. Here, the facts do not establish that the second
director’s failure to attend the board meeting caused the corporation’s involuntary bankruptcy.
Instead, the corporation’s losses resulted from a market decline. Even if the second director had
attended the meeting, there is no evidence that the corporation could have obtained a financing
option that would have prevented this loss. Therefore, the shareholder cannot show that the
director’s failure to attend the meeting caused the corporation’s insolvency, or that the
insolvency would not have occurred but for the director failing to attend the meeting. See id.
(director not liable for failure to attend meeting absent showing that failure caused corporate
losses). Accordingly, regardless of whether the corporate director breached the duty of care by
skipping the meeting, because the shareholder cannot show the necessary causation element, the
director cannot be held personally liable for the corporation’s insolvency and the resulting loss
of value.

Answer options A and B are necessarily incorrect for the reasons discussed above.

Answer option C is incorrect because although it states the correct outcome, it provides an
incorrect reason. A director’s failure to attend board meetings, by itself, may constitute breach
of the duty of care in some circumstances, like if the director’s behavior amounts to abdication
or continued neglect of corporate affairs. See Model Bus. Corp. Act § 8.31(A)(2)(IV), with
comments.

12.

1. A clothing retailer hired a buyer to acquire styles from fashion designers and
manufacturers to sell in the retailer’s stores nationwide. The employment agreement set
compensation terms but did not expressly define the scope of the buyer’s authority to
bind the retailer to contracts. However, most clothing retailers in the industry permitted
their buyers to negotiate price, quantity, and delivery terms with various designers,
without directly involving the retailer. The buyer signed a contract with a designer after
negotiating price and quantity terms without input from the retailer.May the clothing
retailer disaffirm the contract made by the buyer?
a. Yes, because the buyer has no express authority in the employment agreement to
negotiate the price and quantity terms.
b. Yes, because the buyer did not consult the retailer before forming the contract.
c. No, because the buyer is employed for consideration
d. No, because the buyer has implied authority to negotiate price and quantity terms
based on industry customs and practices.
Answer option D is correct. An agent’s authority to bind a principal may be express or implied.
Express authority refers to any power specifically granted by the principal to the agent, whether
orally or in writing. Restatement (Third) of Agency § 2.02. In contrast, implied authority is
power granted to the agent through the principal’s conduct, rather than through express oral or
written statements. Id. For example, an agent may have implied authority to act in accordance
with industry customs and practices. Generally, unless the principal has reserved some types of
authority, an agent may act in accordance with industry customs and practices. When an agent
with authority enters into a contract with a third party on behalf of the principal, the principal
will be bound to the third party. Id. § 6.01.
Here, most clothing retailers in the industry permit their buyers to negotiate price, quantity, and
delivery terms with various designers, without further discussion with or authorization from the
retailer. Therefore, the buyer has implied authority based on industry customs and practices to
negotiate the price and quantity terms without input from her retailer-employer. Because the
buyer was acting within the scope of her authority as an agent for the retailer, the retailer is
bound by the contract with the designer and may not disaffirm the contract. Answer options A
and B are necessarily incorrect for these same reasons.

Answer option C is incorrect because agents may be paid or unpaid. Whether an agent is
employed for compensation or works gratuitously does not determine whether the agent’s
principal is bound by the agent’s actions. Rather, the scope of the agent’s authority to act
determines whether the principal is bound.

2. A professional baseball team hired a scout to recruit new prospects in an assigned

geography. The terms of the scout’s employment with the team limited his recruiting
efforts to that geography only. The scout spotted a great potential prospect while
traveling on a family vacation outside of the scout’s assigned geography. The scout took
the initiative to offer the player a spot on the team’s developmental roster. The player
signed a contract with the scout. Two months later, the team’s assistant general manager
for scouting in the region where the player was then playing agreed that the player was a
good addition. Three months later, the player joined the developmental league in spring
training and received his first paycheck from the team. As of what date, if at all, is the
scout’s contract with the player legally binding on the team?
a. As of the date the scout entered the contract on the team’s behalf.
b. As of the date the team’s assistant general manager for scouting agreed the player
was a good addition.
c. As of the date the team paid the player’s signing bonus.
d. The contract is not legally binding on the team because the scout was acting
outside the scope of his employment
Answer option A is correct. If an agent acts outside the scope of his authority, a principal may
still choose to be bound by the agent’s unauthorized act by ratifying it. Ratification occurs when
a principal later affirms, either through words or conduct, the agent’s unauthorized act.
Restatement (Third) of Agency § 4.01. In general, a ratified act will be treated as though it were
authorized at the time the agent acted; in other words, ratification retroactively alters the legal
consequents of the agent’s act. Id. § 4.02(1) cmt. b.

Here, the scout acted outside the scope of his authority for the team by negotiating a contract
with a player that was not within his assigned geography. The team later ratified this
unauthorized act when the assistant general manager agreed that the player was a good addition.
Once the team manifested its assent, the team ratified the scout’s unauthorized action. This
ratification had retroactive effect, such that the contract became binding as of when the scout
acted. Therefore, the contract with the player is legally binding on the team as of the date the
scout entered it. Answer options B, C, and D are necessarily incorrect for these same reasons.

3. A hot-dog vendor wore a colorful outfit and nametag. The vendor hired a man at an
hourly wage to assist in serving customers, and gave him an identical outfit and nametag.
There was no written agreement between the vendor and the assistant. Each hot dog cost
the vendor $1 in materials and labor to produce, and he sold each hot dog for $3. One day
the assistant was alone at the hot-dog stand when a businessman, who owned a nearby
company and assumed reasonably that the assistant was the owner, asked for a quote to
provide 50 hot dogs for his company every day. The assistant gave a discounted price
quote of $2 per hot dog. Was the assistant an agent with authority to bind the vendor to
the price quote?
a. No, because the assistant was hired only as an assistant, not as an agent.
b. No, because there was no written agreement between the vendor and the assistant.
c. Yes, because the assistant has not done any harm to the vendor, so he is a so-
called gratuitous agent.
d. Yes, because the vendor gave the assistant apparent authority and his outfit is an
indication of agency in the eyes of third parties.
Answer option D is correct. An agency relationship can be created by operation of law without a
written agreement or even an express oral agreement so long as the principal vests apparent
authority in the agent and in the reasonable judgment of third parties. Here, the vendor vested
apparent authority in the assistant from the point of view of third parties, so the assistant was an
agent and had the power to bind the vendor to the price quote. Answer option A is incorrect
because the question of whether the assistant was intentionally employed as an agent is not
dispositive of whether he was an agent. Answer option B is incorrect because an agency
agreement doesn’t have to be in writing. It can arise orally or by operation of law. Here, the
vendor created the agency relationship by hiring the assistant and vesting him with the
appearance of authority to bind the vendor. Answer option C is incorrect because the existence of
an agency relationship does not turn on whether an agent’s actions result in a profit or a loss for
the principal.

4. A sole proprietor flipped houses but did not buy or sell any land. The sole proprietor
appointed an agent to act on his behalf while the sole proprietor went on vacation. The
agency agreement authorized the agent to “carry on the sole proprietor’s real estate
business of buying and selling houses while the sole proprietor is on vacation.” While the
sole proprietor was on vacation, the agent went looking for houses. However, the agent
discovered a good deal on a plot of land instead. The agent then purchased the vacant plot
of land on the sole proprietor’s behalf, after showing the agency agreement to the seller.
Is the sole proprietor bound by the land purchase?
a. No, because the purchase exceeded the agent’s express authority and, therefore, is
void.
 b. No, because the purchase exceeded the agent’s express authority, but the sole
proprietor may ratify the purchase.
c. Yes, because the agreement created a general agency, permitting the agent to
engage in any real estate transaction on behalf of the principal, even raw land
purchases.
d. Yes, because the agent had apparent authority to buy the land.
Answer option B is correct. If an agent exceeds his actual authority, the principal is not bound by
the transaction. However, the principal may ratify the unauthorized transaction after the fact.
Here, although the agent had actual written authority to buy real estate, the agency agreement
expressly limited his authority to a particular type of transaction: buying and selling houses. The
agent did not have the authority to buy raw land. Accordingly, the purchase of vacant land
exceeded the agent’s actual authority. However, the sole proprietor has the option of choosing to
ratify the deal and keep the land.

Answer option A is incorrect because the agency agreement did not create a general agency.
Typically, a general agency has a broad scope and is not time limited, and instead employs broad
language such as terms authorizing an agent “to conduct any real estate transaction.” Here, the
agency agreement specifically limited both the scope of the authority (just to buy and sell
houses) and the duration (just while the sole proprietor was on vacation).

Answer option C is incorrect because an agent exceeding his authority when signing a contract
does not render the contract void at the outset; it may still be ratified afterwards by the principal.

Answer option D is incorrect because apparent authority can bind the principal only if the third
party reasonably believes the agent has actual authority to conduct the transaction on the
principal’s behalf. Here, the agent showed the agency agreement to the third-party seller,
meaning the seller knew that the agent had authority only to buy houses and not land. Thus, the
agent did not have apparent authority to buy the land on the sole proprietor’s behalf.

5. A company bought rutabagas from a farm under a long-term contract entered into by a
company agent. One day, when the agent went to pick up that week’s rutabaga delivery
for the company, the farm told the agent that it had a lot of rhubarb it was willing to sell
the company for a good price. The agent had been given authority to buy rutabagas, but
not rhubarb. However, the agent believed that the company would want the rhubarb.
Based on this belief, the agent signed a long-term contract for the farm to supply rhubarb
to the company. When the company found out, it refused to honor the rhubarb contract.
The farm sued the company, arguing it was liable for breach of the rhubarb contract and
that the farm had already made many costly renovations in order to fulfill the new
rhubarb contract.If the court finds the company liable under the rhubarb contract, which
theory is the most likely reason for it do so?
a. That the agent had express authority to buy rhubarb.
 b. That the agent had implied authority to buy rhubarb.
c. That the agent had the actual authority to buy rhubarb.
d. That the agent had the inherent authority to buy rhubarb.
Answer option D is correct. An agent’s inherent authority is power that results when an agent
has been given some actual authority, which the agent goes beyond, but which justifies binding
the principal in order to protect third parties. Unlike apparent authority, whether an agent has
inherent authority does not depend upon the principal’s dealings with third parties. The
Restatement of Agency no longer recognizes inherent authority; instead, it evaluates whether an
agent has actual or apparent authority, or whether a principal is estopped from denying an
agency relationship. See id. ch. 2, intro. note (observing that unlike the Second Restatement, the
Third Restatement of Agency does not use the concept of inherent authority); Restatement
(Second) of Agency § 8A (defining inherent agency power). Here, because the farm is claiming it
made costly renovations to fill the new rhubarb contract, a court could find that the agent had
the inherent authority to bind the company to the rhubarb contract to protect the farm.

Answer option A is incorrect because express authority refers to any power specifically granted
by the principal to the agent, whether orally or in writing. This is construed according to a
reasonable-person standard. Restatement (Third) of Agency § 2.02. Here, the agent was not
given any express authority to buy rhubarb, so it could not be a theory to hold the company
liable.

Answer option B is incorrect. Implied authority is power granted by the principal to the agent
through the principal’s conduct, rather than through an express oral or written statement.
Implied authority may arise in a number of ways. First, an agent has implied authority to take
any action “necessary or incidental to achieving the principal's objectives.” Restatement (Third)
of Agency § 2.02. This means that the agent is authorized to take whatever action is necessary to
utilize the authority expressly granted or achieve the objectives expressly authorized. Here, the
only objective that the company gave the agent was to buy rutabagas. Second, an agent may
have implied authority to act in accordance with industry customs and practices. Generally,
unless the principal has reserved some types of authority, an agent may act in accordance with
such customs and practices. Here, there does not seem to be any industry custom that required
the buying of the rhubarb. Third, an agent has implied authority to continue to do any act that
the principal has previously acquiesced to the agent doing, despite the agent not having actual
authority to engage in the activity. This is really about a course of conduct between the parties.
Here, there is no indication that the company has ever purchased rhubarb before. Lastly, an
agent has implied authority to act reasonably in the event of an emergency. This is sometimes
referred to simply as an agency of necessity. This authority is generally temporary and lasts only
until the agent is able to obtain guidance from the principal. Here, there is no indication that an
emergency necessitated the buying of the rhubarb.
Answer option C is incorrect. Actual authority refers to the power that the principal specifically
granted to the agent to act or that the agent reasonably believes the principal authorized.
Restatement (Third) of Agency § 2.01. Here, the agent was not given actual authority to buy
rhubarb.

6. A buyer wished to purchase a home in a state where the law does not follow the equal
dignities rule. The buyer’s friend drove past a house that had just been put on the market
in a neighborhood where the buyer wanted to live. The friend called the buyer, who
orally instructed the friend to make an offer and sign a contract in the buyer’s name to
purchase the home. The seller accepted the offer and signed a sales contract naming the
buyer as the purchaser. The friend signed the sales contract on behalf of the buyer. The
next day, the buyer found a home that she liked better, and she sought to cancel the
contract with the seller. Can the seller enforce the contract against the buyer?
a. No, because the statute of frauds requires both the real estate sales contract and
the underlying agency contract to be in writing.
b. No, because the statute of frauds requires the actual person to be charged to sign a
real estate sales contract.
c. Yes, because the buyer expressly appointed her friend to be her agent, and the
friend acted within the scope of her agency in signing the sales contract on the
buyer’s behalf.
d. Yes, because the statute of frauds does not require a signed writing for real estate
transactions.
Answer option C is correct. The equal dignities rule states that an agency relationship must be in
writing if the principal is authorizing the agent to conduct a transaction that requires a signed
writing, i.e., a contract that falls within the statute of frauds. Real estate transactions fall within
the statute of frauds and must be signed by the party to be charged. Answer option D is
necessarily incorrect for this reason. If the home was in a state that followed the equal dignities
rule, the friend’s agency would not have been valid because it was oral. Here, because the state
does not follow the equal dignities rule, the oral agency contract was valid, and the friend did
precisely as she was instructed, clearly acting within the scope of her agency.Answer option A is
incorrect because it is based on the equal dignities rule, which does not apply in the state where
the parties live. Answer option B is incorrect because it is an incorrect statement of the law. An
agent acting within the scope of a valid agency agreement may sign a real estate contract on
behalf of a principal without running afoul of the statute of frauds.

7. A trader verbally appointed an intern to travel to a rural area and negotiate the best price
of shares in an oil and gas company. After arriving in the rural area, the intern realized
she was dressed out of fashion for the area and stopped at a local store to buy boots and
 local-style clothes. The intern then met with the company executives and obtained a very
favorable price for the shares. The trader was extremely happy with the intern’s
performance. Did the intern act within her scope of authority in buying the clothes?
a. No, because the scope of the intern’s authority extended only to negotiate the best
price of oil and gas shares
b. No, because the intern bought the clothes for herself, not for the trader.
c. Yes, because the intern obtained a good deal for the trader, who was happy with
her performance.
d. Yes, because the intern had implied authority to take actions necessary or
incidental to achieve her actual authority, like acting within local customs and
practices.

An agent has implied authority to take actions necessary or incidental to achieve the principal’s
objectives in the agency relationship. See Restatement (Third) of Agency § 2.02. Here, the intern
was authorized to negotiate the best price that she could for the oil and gas shares. The intern
recognized that purchasing clothes was necessary to fit into the local style, and that fitting into
the local style would help the intern achieve the best price for the shares. Accordingly, the intern
was impliedly authorized to buy the clothes as necessary or incidental to achieve her expressly
authorized agency purpose: negotiating the best price.

Answer option A is incorrect because certain actions necessary or incidental to the agency are
permissible even if not mentioned in the express language of the agency agreement. These
actions are implied in the agency.

Answer option B is incorrect because purchasing the clothes furthered the purpose of the agency
project.

Answer option C is incorrect because the issue here is the scope of the agency, which is
determined regardless of whether the transaction was profitable.