BUSINESS ASSOCIATIONS

I.

AGENCY LAW
A. GENERALLY i. Questions to ask: 1. Does an agency relationship exist between P & A? 2. What consequences follow P from interaction between A & T? B. DEFINITION OF AGENCY i. Typically involves three parties: 1. Principal 2. Agent 3. Third party  the person with whom the agent is doing business on behalf of the principal ii. Definition of Agency 1. Restatement 2nd §1(1)  Agency is the fiduciary relation which results from: a. A manifestation of consent by one person (the principal) to another (the agent) that the other shall: i. Act on the principal’s behalf and ii. Subject to the principal’s control b. And the agent consents to so act 2. Restatement 3rd §1.01 (use on exam)  Agency is the fiduciary relationship that arises when: a. One person (a principal) manifests assent to another person (an agent) that the agent shall i. act on the principal’s behalf and ii. subject to the principal’s control, and b. the agent manifests assent or otherwise consents to so act. iii. Types of Agents (Rest. 2nd §3) 1. General Agent  an agent authorized to conduct a series of transactions involving a continuity of service. 2. Special Agent  an agent authorized to conduct a single transaction or a series of transactions not involving continuity of service. C. CREATING THE AGENCY RELATIONSHIP i. Has there been an agreement? 1. Rest. 3rd §1.02  whether the parties label their relationship as agency or not, it is not controlling (doesn’t really matter). 2. Rest. 3rd §1.03  “a person manifests assent or intention through written or spoken words or other conduct. (use circumstantial evidence, based on what the parties did and said to determine whether there was agency relationship). 3. Gorton v. Doty  teacher lent her car to football coach so that he could transport the team to an away game. Coach gets into a car accident and one of the players gets injured. The player’s father sues the teacher, arguing that the coach was her agent, driving the car on her behalf. There was no exchange of money between teacher and coach. a. Holding: the teacher was liable for the coach’s actions because he was acting as her agent. By telling the coach he had to drive the car himself, she was

exercising her muscle as a principal, and the coach assented by driving the car (following her instructions). b. “the principal is responsible for the acts of the agent… to the same extent as though [the principal] had been [acting herself  driving the automobile herself+” c. “where one undertakes to transact business or manage some affair for another by authority and on account of the latter, the relationship of principal and agent arises.” d. “it is not essential to the existence of authority that there be a contract between principal and agent or that the agent promise to act as such.” e. The fact that the teacher owned the car and that the coach was driving it established a prima facie case against the teacher  the presumption arose that the coach was the agent of the teacher. f. Dissent: i. Agency involves more than mere passive permission. It involves request, instruction or command. ii. It would seem to be that one who borrows a car for his own use is a gratuitous bailee and not agent of the owner. iii. The purpose for creating the relationship matters. Who benefits? Why was the relationship/arrangement created? In this case, the teacher lent her car to the coach so that he could transport his football team, to the away game. He was the one that benefited from the arrangement, not the teacher. iv. Although, it doesn’t necessarily entail that the principal benefit, but it matters why the relationship was formed. g. Take away: The question of whether there is an agency relationship is fact intensive. The “on behalf of” element, especially. 4.  A. Gay Jenson Farmers Co. v. Cargill, Inc. a. The agency relationship results from an agreement between the parties and there doesn’t necessarily have to be a contract between the parties. b. Doesn’t matter what they say: an agreement may result in the creation of an agency relationship although the parties did not call it an agency and did not intend the legal consequences of the relation to follow. c. May be proved by circumstantial evidence: can show a course of dealing between the two parties (that the agent acted on the principal’s behalf and upon the principal’s direction and control). However, when the agency relationship is proven through circumstantial evidence, the principal must be shown to have consented to the agency. ii. “A creditor who assumes control of his debtors business may become liable as principal for the acts of the debtor in connection with the business.” Cargill, Inc. citing Restatement 2nd §14O. 1. it is really rare for a court to find that a creditor is a principal (comments to rest 2nd) 2. A security holder who merely exercises a veto power over the business acts of his debtor by preventing purchase or sales above specified amounts do not thereby become a principal. However, if he takes over the management of the debtor’s business either in person or through an agent, and directs what contracts may or may not be made, he becomes a principal, liable as a principal for the obligations incurred

thereafter in the normal court of business by the debtor who has now become his general agent. 3. The point at which the creditor becomes a principal is that at which he assumes de facto control over the conduct of his debtor. 4. Factors should not be considered in isolation, but, rather, they must be viewed in light of all of the circumstances surrounding Cargill’s aggressive financing of Warren. 5. How would we advise Cargill to prevent liability in the future? a. They could have subsumed Warren as a subsidiary of Cargill. b. They could have hired a third-party financial advisor to Warren. This removes Cargill from direct contact – the more remote you can make the control over the alleged agent, the stronger your argument before the court. c. Enforce your rights as a creditor and force Warren to default. This is the most conservative decision iii. “Martial status cannot in and of itself prove the agency relationship. Nor does the fact that the defendants owned the land jointly make on the agent for the other.” Botticello v. Stefanovicz. D. LIABILITY OF PRINICPAL TO THIRD PARTIES i. Generally 1. Who is the least cost avoider? The principal, usually… 2. Unless the principal puts limitations on the agent, the principal will likely be liable for anything the agent does on your behalf. 3. Agency is not a COA. It is a means by which you have prove that someone is liable. Agency is used to prove that a principal is liable to a third party for the breach of contract, negligence, etc., of the agent.  Usually to get to the principal’s big pockets. 4. PAT Triangle

a. Line (3) - did the principal manifest in some way that the purported agent had the authority to act on the principal’s behalf? (Dweck). ii. Contract Liability 1. Rest. 2nd §144  a principal is subject to liability upon contracts made by an agent acting within his authority if made in proper form and with the understanding that the principal is a party. a. Rest. 2d §26, Creation of Authority  “authority to do an act can be created by written or spoken words or other conduct of the principal which, reasonably interpreted, causes the agent to believe that the principal desires him so to act

on the principal’s account.”  the principal tells the agent to conduct some business for the principal. 2. Types of Agent Authority a. Actual (either express or implied)  cite Rest. 2d §26 or Rest. 3rd §2.01 i. Express: Explicit direction from the principal to the agent, and the agent follows the direction. Express understanding between the two parties that the agent is authorized to conduct a transaction on behalf of the principal. 1. Ex: P tells A to do X; A does X  P is bound to that contract ii. Implied: P tells A to achieve an objective. All the details of how to accomplish the principal’s objectives are not expressed but are necessary to accomplish the objectives. 1. Ex: If, in order to do X, A must take other steps, A has implied authority to take those other steps and P is bound (and liable). 2. Summary Questions: a. Did the agent reasonably believe that she had the authority to conduct the transaction? (Based on present or past conduct – course of dealing – from the principal?) b. Is such a transaction customary for the agent’s role? OR Is such a transaction necessary to achieve a greater objective that was required by the principal? c.  If so, agent probably had the implied authority to act. d. However, if the principal provided limited express authority (Anne, please hire someone to cut the grass), then this also limits implied authority (Anne would not be impliedly authorized to hire a janitor based on orders to cut grass). 3. “Implied authority is actual authority circumstantially proven which the principal actually intended the agent to possess and includes such powers as are practically necessary to carry out the duties actually delegated.” Hogan 4. “whether implied authority exists, it is important to focus on the agent’s understanding of his authority. It must be determined whether he agent reasonably believes because of present or past conduct of the principal that the principal wishes him to act in a certain way or to have certain authority.” Hogan 5. Factors: (1) certain additional steps are required to achieve objective ordered by principal, (2) the agent reasonably believed he had the authority to act based on present or past conduct from the principal. 6. Also consider, is the action from the agent customary for that role? Ex: a building manager hiring a janitor to keep building clean, even though the principal did not explicitly order the building manager to keep building clean. 7. Authority to

Did the third party believe that the agent was the principal’s agent with the authority to act on principal’s behalf? (Could be based on past conduct) 2. Rest. Requires a manifestation from the principal to the third party that the agent had authority. Apparent Authority  “Apparent authority is the power to affect the legal relations of another person by transactions with third persons. the agent probably had apparent authority? iii. he didn’t). But this communication does not need to be direct between P and T. Is such a transaction customary for the agent’s role? 3. Do what is necessary. “Apparent authority… is not actual authority but is the authority the agent is held out by the principal as possessing. Apparent: P holds A out as her agent. vii. 3rd §2.” Hogan vi. usual. 3rd) . Rest. and proper to accomplish or perform an agent’s express responsibilities b. absent knowledge on the part of third parties to the contrary. reasonably relied on the salesperson closing the deal – typically. (note: focuses on the P-A relationship) b. If so. “Further. then P is bound/liable.a. even though in this case. It is a matter of appearances on which third parties come to rely. arising from and in accordance with the other’s manifestations to such third persons. A takes unauthorized step that is customary to agent’s role. (note: focuses on the P-T relationship) ii.” 370 Leasing. Even if the agent’s power was limited by the principal. Inherent: (not recognized by Rest. i. then the limitation will not bar a claim of apparent authority. 370 Leasing (Joyce. the buyer. To act in a manner in which an agent believes the principal wishes the agent to act based on the agent’s reasonable interpretation of the principal’s manifestation in light of the principal’s objectives and other facts known to the agent. Dweck. c. 2d  distinguished between apparent agency and apparent authority. if the third party does not know about this limitation. an agent has the apparent authority to do those things which are usual and proper to the conduct of the business which he is employed to conduct. professedly as agent for the other. Questions: 1. v. viii.03 – “Apparent authority is the power held by an agent or other actor to affect a principal’s legal relations with third parties when a third party reasonably believes the actor has authority to act on behalf of the principal and that belief is traceable to the principal’s manifestations.”  Reasonableness of reliance is critical. §8. 1. The principal in some circumstances may tell A to tell T that A has authority. sales persons have the authority to close deals. iv. iii.

this defense will not stand if the agent’s conduct was customary in the industry. in created a rule directly targeted at cases like Watteau (undisclosed principals). and a.  even if the principal claims that the she didn’t know the agent was acting outside of her given authority. 3. 3d §2. Does nothing to notify the parties that reasonably relied on the agent.” iii. the undisclosed principal: 1. An undisclosed principal may not rely on instructions given an agent that qualify or reduce the agent’s authority to less than the authority a third party would reasonably believe the agent to have under the same circumstances if the principal had been disclosed. if usual or necessary in such transactions. although forbidden by the principal to do them. 2d §194. 2d §186  “an undisclosed principal is bound by contracts and conveyances made on his account by an agent acting within his authority. has expressly limited the agent’s authority 2. or upon a contract which excludes him.” ii. Watteau 1.” ii. §8A. Rest. 3rd refused to accept. even though the . apparent authority or estoppel. Acts of General Agents: “A general agent for an undisclosed principal authorized to conduct transactions subjects his principal to liability for acts done on his account. Undisclosed i. acting outside given authority. Instead. having notice of the agent’s conduct and that it might induce others to change their positions. This is a very broad concept that rest. Has to know the agent is not following those directions. iv. Rest. Has given the agent express instructions to not do something. but solely from the agency relation and exists for the protection of persons harmed by or dealing with a servant or other agent. An undisclosed principal is subject to liability to a third party who is justifiably induced to make a detrimental change in position by an agent acting on the principal’s behalf and without actual authority if the principal. d. except that the principal is not bound by a contract which is under seal or which is negotiable. The court found the undisclosed principal liable for the cigars and Bovril the agent purchased for the bar. Rest.06. 3d In other words  For an undisclosed principal to be liable. 2. did not take reasonable steps to notify them of the facts.i. Rest. Liability of an Undisclosed Principal 1. Inherent Agency Power: “Inherent agency power is a term used in the restatement of this subject to indicate the power of an agent which is derived not from authority. v.

Comes into play when you can’t show the other three types of authority (actual.defendants claimed that they didn’t know the manager was buying these things. The court reasoned that buying cigars and Bovril was customary for bar owners/managers. but instead accepts it. then the principal has the duty to supervise the agent and make sure the instructions are being followed. Notions of equality and equitably remedies. Rationale: Concept of cheapest cost avoider: 1. We have social loss here – a busted contract. Ratification requires acceptance of the results of the act with an intent to ratify. Find the actor who can achieve the greatest reduction of accident costs with the lowest expenditure of precaution costs i. Under Rest. If the third party reasonably believed that the agent had more authority. vi.  The doctrine allocates to the principal the risk that the agent will deviate from the principal's instructions while doing acts that are consistent with the apparent position the agent occupies. Then apparent authority  If the principal gives express instructions to the agent. We seek to minimize total social costs (including admin costs) b. undisclosed). iii. Ratification: Occurs when an agent exceeds its authority granted to it by the principal. which are acts that third parties would anticipate an agent in such a position would have authority to do and may well be acts that are foreseeable to the principal. Such acts are especially likely to be foreseeable when they are consistent with the agent's position although they contravene the principal's instructions. 2.  May be proved when the principal receives benefits of an agreement and fails to repudiate it. 3d is narrower than the common law and Rest 2d. then the P can’t use those instructions to avoid liability. 2. How do we avoid such losses in the future? a. 3d. Place liability on that individual. and with full knowledge of the material circumstances. apparent. Liability by Ratification or Estoppel 1. 2. Purpose: to prevent an unjust result. Part of comment c. because it requires that the principal have notice (???). Meant to impose liability on the principal when it would be unjust to do otherwise.” Botticello. 3. vii. . Generally a. b. Hubble had been buying cigars and Bovril from the Ps for years. but the principal does not repudiate the transaction. Watteau may have been decided the same way because Rest. a.

b. the agent and the third party are parties to the contract.02 – Agent Acting for Unidentified Principal  When an agent acting with actual or apparent authority makes a contract on behalf of an unidentified principal. Estoppel  Rest. acts or omissions.01-6. through intentional or negligent words.01 – Agent acting for a disclosed principal  When an agent acting with actual or apparent authority makes a contract on behalf of a disclosed principal. §6. then house burns down. 3d §2. d. and b. P creates. but also (2) detrimental change in position. ii. T changes her position in reliance on appearance of authority. i. c. the principal and the third party are parties to the contract.” iv. Elements: i. appearance of authority ii. 3d §6. “in such circumstances the law will not permit the proprietor to defensively to avail himself of the imposter’s lack of authority and thus escape liability for the consequential loss thereby sustained by the customer. iii. Ex: if the grass is already cut. the agent is not a party to the contract unless the agent and third party agree otherwise 2. The principal must have the opportunity to either accept or reject. a. a. and . the principal is a party to the contract.03 – Agent for Undisclosed Principal  When an agent acting with actual authority makes a contract on behalf of an undisclosed principal. The principal should be estopped from denying liability. the principal and the third party are parties to the contract. unless excluded by the contract. §6. to prevent situations like this one. T reasonably and in good faith relies on appearance of authority  that “the appearances being of such a character as to lead a person of ordinary prudence and circumspection to believe that the imposter was in truth the proprietor’s agent. §6.04 1. There needs to be (1) detrimental reliance. Koos Bros. An Agent’s Liability on the Contract – Atlantic Salmon and Rest. e. iii. principal ratifies). The court found that the store had a duty to monitor its floor. The principal may not ratify an act by the agent after there is a material change in circumstances that makes it inequitable to bind the third party (ex: an agent sold a house w/o authority. b.03 3.” Koos Bros. supervise its EEs. 3. the principal must have full knowledge of the material circumstances in order to ratify. b. and b. See Rest. a. Implied ratification: occurs when the principal learns that the agent acted beyond scope of authority but remains silent or fails to act.05 a. 3d §401-4. the principal didn’t have the opportunity to correct the mixup (that the agent did not have the authority to hire landscapers). However. the agent is a party to the contract unless the agent and the third party agree otherwise. f.

i. as opposed to the result alone). that which to a reasonable man is equivalent to knowledge or the agent is bound. §6. 4. enough that the other party has the means of ascertaining the name of the principal. Atlantic Salmon a. therefore. what is the same thing. or b. It is not. if he would avoid personal liability.07  An EE is an agent whose principal controls or has the right to control the manner and means of the agent’s performance of work (as in the manner in which the job is performed.c. Servant Versus Independent Contractor a. At first. add in 5. (Atlantic Salmon in a nutshell).04  an ER is subject to liability for torts committed by EEs while acting within the scope of their employment.03 – Principal’s Liability – In General i. to disclose his agency. or Principal Lacks Capacity to Contract  Unless the third party agrees otherwise. Rest. b. if that of the principal. ERs used to be liable for any an all damage caused by the EEs. b. and not upon others to discover it. The principal is negligent in selecting.” v. Liability in Tort 1. The agent acts with actual authority or the principal ratifies the agent’s conduct. if a party to the contract. the principal. or . A master-servant relationship exists when the servants agreed to (1) work on behalf of the master and (2) to be subject to the master’s control or right to control the physical conduct of the servant (that is. §7. the manner in which the job is performed. and a. and defenses against each other as if the principal made the contract personally. “The duty rests upon the agent. the courts have limited that to apply only to actions done by EE in his capacity as an agent. or 2. ii. supervising. c. A principal is subject to direct liability to a third party harmed by an agent’s conduct when 1.04 – Inexistent Principal. ot otherwise controlling the agent. Comment c. and the third party have the same rights. iii. Over time. The agent’s conduct. a. as opposed to the result alone). the agent must either bring him to actual knowledge or. The agent’s conduct is tortious. Definition of EE by §7. liabilities. Holding: Found agent liable for debts incurred in contract with P because the agent was not being truthful in identifying the principal. 3rd §2. would subject the principal to tort liability. Vicarious liability/respondeat superior  liability of master for actions of servants (liability of ERs for actions of EEs). A master (ER) is liable for the torts of its servants (EEs). a person who makes a contract with a third party purportedly as an agent on behalf of a principal becomes a party to the contract if the purported agent knows or has reason to know that the purported principal does not exist or lacks capacity to be a party to a contract.

if that of the principal. A principal who conducts an activity through an agent is subject to liability for harm to a third party caused by the agent’s conduct if the harm was caused by the principal’s negligence in selecting.  don’t try to pigeon hole these arguments. When a principal has a special relationship with another person. the agent’s conduct is tortious.  direct liability when the P orders the A to do something tortious (gives actual authority) and that act harms a third party. (which is pretty much everything?) ii. or ii. the principal owes that person a duty of reasonable care with regard to risks arising out of the relationship. ii. A principal is subject to vicarious liability to a third party harmed by an agent’s conduct when: 1.3. but may involve other agency relationships where the Pr’s conduct is at fault iv. iii. 2. would subject the principal to tort liability. §7. §7.  typically involves the ER-EE relationship. Principal’s Special Relationship With Another Person i. and i. whether or not they are EEs. or otherwise controlling the agent. §7. e. A principal is subject to vicarious liability for a tort committed by an agent in dealing or communicating with a third party on or purportedly on behalf of the principal when actions taken by the agent with apparent authority constitute the tort or enable the agent to conceal its commission. and (2) agents who are EEs whose tortious conduct is not within the scope of employment.04 – Agent Acts with Actual Authority  a principal is subject to liability to a third party harmed by an agent’s conduct when the agent’s conduct is within the scope of the agent’s actual authority or ratified by the principal.05 – Principal’s Negligence in Conducting Activity Through Agents. The agent commits a tort when acting with apparent authority in dealing with a third party on or purportedly on behalf of the principal. including the risk that agents of the principal will harm the person with whom the principal has such a special relationship.08 – Agent Acts with Apparent Authority i. Comment a 1. f. supervising. retaining. The agent is an employee who commits a tort while acting within the scope of employment 2. can be both d. This rule applies to torts in which an agent appears to deal or communicate on behalf of a principal and the agent’s . The principal delegates performance of a duty to use care to protect other persons or their property to an agent who fails to perform the futy ii. This rule applies to (1) agents. iii. the agent’s conduct.

Business expenditures 4. (except that the agent had control over the hiring and firing. Exactly which products the agent may sell (McDonalds) iii. ii. Only allowed to sell Humble products? . Controls day to day operations: Gasoline Station Cases  the difference was that Humble Oil controlled the day-to-day operations of the gas station 1. Supervise EE work routine 10. Agent-type independent contractor – a person who has agreed to act on behalf of another.” Humble Oil. Determine EE wages or working conditions 8. 3. on what sort of authority was the A acting on? ii. (is A P’s EE or non-EE agent?) i. Share of the profits 6. but is not subject to the principal’s control over how the result is accomplished (that is. the duration of the contract (it was terminable at Humble’s will). the principal. (if there is. Sequential Analysis of Tort Liability i. Power to hire and fire 7.  the real distinction is between servants/agents and non-agent independent contractors. Is the P subject to vicarious liability? 1. 1. Set standards for EE skills and productivity 9. Customer rates 5. how it compensated the operator). When will a principal be liable? (When the independent contractor is agencytype). g. hours of operation 2. Maintained title over Humble products until delivery to consumer. iii. Is there an agency relationship between P and A? 1. heavy-handed control. Non-agent independent contractor – a person who operates independently and simply enters into arm’s length transactions with others. Independent contractors i. Is the P subject to direct liability? iii. Discipline EEs 11. The independent contractor is agent-type when the principal maintains a “strict system of financial control and supervision … with little or no business discretion reposed in *the agent+. h. payment and supervision of a few station employees.appearance of authority enables the agent to commit a tort or conceal its commission.  will be liable? ii. over the “physical conduct” of the task). Agency-type when: i. iv. The difference is that one has subtle control over the contractor and the other has more direct.

from Murphy v. And cannot make changes to basic design without franchisor approval.v. including adopting reasonable changes that the franchisor made. in practical effect. “The critical test is the nature and extent of the control agreed upon.” v. iv. The franchisor provides the brand identification and supplies on a continuing basis. (control over the architectural style of the building. the furnishings and equipment). McDonalds. The test: right to control. k. comment (b). make various suggestions to improve sales and discuss any problems that the agent may be having. Subsidizing  (Sun Oil) rebate on gasoline so that agent could keep competitive prices. There must be an agreement for an agency relationship to exist. “If. Principal takes hit from losses or benefits from profits  no relationship if the agent assumes the overall risk of profit or loss in the business operation. inspect restrooms. communicate customer complaints.  It does not matter whether the putative principal actually exercises control. j. what is important is that it has the right to do so. Continuous subjection to the will of the principal. 1. the court will look at the terms of the contract and the parties’ behavior to determine whether there is an agency relationship. Supervision by the principal  ex: weekly visits by sales rep to take merchandise orders. Power over daily maintenance xi. 2nd §1. Submit reports  if the agent has to submit some sort of financial reports to the principal vii. Achieving a system-wide standardization of business entity. Rest. ii. However. Miller v.” Murphy . Inc. McDonalds. ix. while the franchisee. Franchising – Murphy v. x. the franchise agreement goes beyond the stage of setting standards. uniformity of commercial service  not sufficient to indicate agency relationship. (Sun Oil) vi. Building standards  follow franchisor’s specific blueprints and specifications for the equipment and layout of restaurant. Franchising  is not an agency relationship. an independent businessman or woman. Whether a franchise arrangement creates an agency relationship depends on the contract and whether the franchisor regulates the activities of the franchisee to such an extent that it vests the franchisor with control within the definition of agency. Holiday Inns. an agency relationship exists. Just because a contract between two parties contains a disclaimer clause – “this is not an agency relationship” – doesn’t matter. iii. viii. . Holding: there was no agency relationship. and allocates to the franchisor the right to exercise control over the daily operations of the franchise. Holiday Inns i.

was the principal. . that she could expect the same quality of service and food at this location. exercising reasonable care and prudence.” 2. 3rd  Does the franchisor have control over the instrumentality that caused the harm? If so. 2. McDonald’s Corp. but this was not sufficient).” c. i. “The issue turns narrowly upon the defendant’s level of control over the alleged ‘instrumentality’ that caused the harm.  Dunkin Donuts was not liable when an EE was raped and assaulted during the night shift because the franchisor.” d. There was an actual agency relationship because McDonalds controlled the day-to-day operations of the restaurant. Its existence depends upon such conduct by the principal as would preclude the principal from denying another’s agency. Inc. Apparent Authority: “The liability of the principal is determined in any particular case by what authority the third person. as the franchisor. Nothing disclosed to her that any entity other than McDonalds was involved in its operation. did not mandate specific security equipment or otherwise controlled the steps taken by its franchisees in general to protect EEs. Also. §2. The P justifiably relied on McDonald’s holding this franchise out as its agent. iii.Rest. Miller v.  McDonalds was not liable when an EE was assaulted during a robbery of a McDonald’s store because the franchisor did not control the security measures employed by the franchisee ii. “One who represents that another is his servant or other agent and thereby causes a third person justifiably to rely upon the care or skill of such apparent agent is subject to liability to the third person for harm l. McDonald  McDonalds. ii. iii.” b. 3rd considers these two essentially the same thing.  Rest.03: Apparent authority is the power held by an agent or other actor to affect a principal’s legal relations with third parties when a third party reasonably believes the actor has authority to act on behalf of the principal and that belief is traceable to the principal’s manifestations. The P went to the restaurant under the assumption that McDonalds controlled and managed it. Hong Wu v. was justified in believing that the principal had by his acts under the circumstances conferred upon his agent. Apparent Agency: “Apparent agency is essentially agency by estoppel. Tort Liability and Apparent Agency a. there was apparent agency: 1. i. the franchisee. (This came in part from her experiences at other restaurants – McDonald’s insistence on uniformity). then there is an agency relationship and the principal is liable. (there was a small sign at the front counter than identified the franchisees. and thus liable for the torts of 3K. Vandermark v. 3. Dunkin Donuts. Dunkin Donuts.

” General Automotive. The agent has a duty to act solely for the benefit of the principal. Best Western Example: “independently owned and operated hotels. But then you always run the risk that there will be rogue franchisees ruining the franchisor’s reputation. a duty to act with the highest degree of honesty and loyalty toward another person and in the best interests of the other person.” 2. 3d §8. then a court may still find agency. Real world: change the language of the contract  “suggest” a certain uniform. “suggest” certain best practices instead of a manual. General Automotive. designed to cause the public to think of every McDonald’s franchised or unfranchised as part of the same system.” iv. Duty of Loyalty: Overview 1. Lesson: Need to provide notice to the public that the franchisor does not control the day-to-day operations of the franchisee. 2. confidence. a. “Under his fiduciary duty to *the principal+ *the agent+ was bound to the exercise of the utmost good faith and loyalty so that he did not act adversely to the interests of [the principal] by serving or acquiring any private interest of his own. E. If they are not. Fiduciary: “A person who is required to act for the benefit of another person on all matters within the scope of their relationship.” v. Agent has a duty not to seek his own material benefit using the assets and position given to it by the principal. These duties are also often regulated by contract.” b. controls everything. and candor owed by a fiduciary… to the beneficiary. Key Terms 1. “A jury could find that it was defendant’s very insistence on uniformity of appearance and standards.01 – General Fiduciary Principal – “An agent has a fiduciary duty to act loyally for the principal’s benefit in all matters connected with the agency relationship.02 – Material Benefit Arising Out of Position – “An agent has a duty not to acquire a material benefit from a third party in connection with transactions conducted or other actions taken on behalf of the principal or otherwise through the agent’s use of the agent’s position. Rest. iii. If the contract is too detailed. 1. AGENT’S FIDUCIARY DUTIES i.caused by the lack of care or skill of the one appearing to be a servant or other agent as if he were such. Fiduciary Duty: “A duty of utmost good faith.” ii. §8. Duty: “A legal obligation that is owed or due to another and that needs to be satisfied. c. 3. But this sort of disclaimer does not save you from actual authority. trust. Agent has a duty to act loyally for the principal benefit and not for the agent’s benefit. a. the restatements (and the common law) govern.” 2. an obligation for which somebody else has a corresponding right.” 3. that makes it difficult or impossible for P to tell whether her previous experiences were at restaurants that defendants owned or franchised.” .

that is to say. The client needs to have the right to choose between the principal’s business and the former-agent’s new business. 3. 1. tools. the former-agent cannot use the principal’s confidential information to use in the agent’s own business to compete against them. c. During that time. an agent may take action. supplied. . if they play the predominant part in his obtaining the money. then it is a breach. in order to work that the principal has given the agent. it is up to the principal to decide whether to consent. and the agent owes this money to the principal. “this represented an accumulated body of experience of considerable value. an agent has a duty to refrain from competing with the principal and from taking action on behalf of or otherwise assisting the principal’s competitors. i. §8. It is a breach of the duty of loyalty to use the office. §8. If the assets the agent enjoys and the position which he occupies are the real cause for his obtaining the money are distinct from merely affording the opportunity for getting it. b. If the agent does disclose.03 – Acting as or on Behalf of an Adverse Party a. If the agent does not disclose and takes the business opportunity for himself.04 – Competition i. General Automotive. If the agent gets informed consent to take the opportunity.”  “these customers were screened by [the principal] at considerable effort and expense. that is a breach of duty. ii.  If the agent is considering competing with the principal.  if the assets and position given to the agent by the principal plays a predominant part in the agent obtaining these moneymaking opportunities. There has to be equal footing in the solicitation of clients. iii.b. a.  if the agent terminates the relationship in order to compete with the principal. An agent has a duty not to deal with the principal as or on behalf of an adverse party in a transaction connected with the agency relationship. Throughout the duration of an agency relationship. If the main reason why the agent got the job in the first place what his position as the principal’s agent. Reading v.” ii.  the principal had put a lot of time and effort to develop the list of customers and the special prices to be set. Town and Country i. then he is accountable for it to his master. Agent has a duty not to compete with the principal while still under the agency relationship. then the agent is accountable for the money earned to the principal. to prepare for competition following termination of the agency relationship. 4. the agent must disclose these facts to the principal. or at least taking some opportunity that belongs to the principal for his own personal gain. for things that to do not benefit the principal. not otherwise wrongful. then the agent may take it and there is no breach. ii. Regem i.

An agent has a duty 1. all other facts the agent knows. §8. To deal in good faith with each principal ii. a. has reason to know. a. 2. Who should have gotten it?  Did the agent get that benefit predominantly because of his relationship with the principal? 6. Use of Confidential Information i.01-8.5. Agent has a duty to not use the principal’s property or confidential information for the agent’s own material benefit or to benefit a third party. Comment b.06  Principal’s Consent (my own words) a. In general c. ii. A principal may consent to an agent doing something that would otherwise constitute a breach under §§8. The agent acts in good faith. §8. §8.05  Use of Principal’s Property. To disclose to each principal 1.  termination of an agency relationship does not end the agent’s duties to the principal… i.05. and would then not constitute a breach of duty of loyalty.08 – Duties of Care. provided that: i. and 2. Agent has a duty to comply with terms of a contract. or should know would reasonably affect the principal’s judgment 3. The agent discloses are material facts the agent knows. An agent who acts for more than one principal in a single transaction has a duty i. The principal’s consent concerns either a specific act or transaction that could reasonably be expected to occur in the ordinary course of the agency relationship b. Duty of Performance: Overview 1. The agent otherwise deals fairly with the principal. and Diligence . Questions to Ask: i. otherwise deal fairly with each principal c. iii. Who benefits? iii. or should know would reasonably affect the principal’s judgment. §8. iv. and iv. Competence. unless the principal manifests that such facts are already known to him/her or the principal does not wish to know the facts. has reason to know. What is the material benefit? ii.07 – Duty Created by Contract – An agent has a duty to act in accordance with the express and implied terms of any contract between the agent and the principal. b. Not to use property of the principal for the agent’s own purpose of those of a third party. the fact that the agent is acting on behalf of the other principal(s) 2. Not to use or communicate confidential information of the principal for the agent’s own purpose or those of a third party.

and iii. Subject to any agreement with the principal. Within the scope of the agent’s actual authority. and ii. A principal has a duty to indemnify an agent i. has reason to know. If an agent claims to possess special skills or knowledge.09 – Duty to Act Only Within the Scope of Actual Authority and to Comply with Principal’s Lawful Instructions a. When the agent makes a payment A.12 – Duties Regarding Principal’s Property – Segregation. b. Record-Keeping.14 – Duty to Indemnify a. Subject to any manifestation by the principal. and ii. Duties of P to A – Duty of Loyalty 1. An agent has a duty to comply with all lawful instructions received from the principal and person designated by the principal concerning the agent’s actions on behalf of the principal 4. b. ii. An agent has a duty to use reasonable effort to provide the principal with facts that the agent knows. and diligence normally exercised by agents with such skills or knowledge. and Accounting a. c.a. §8. 2. An agent has a duty to take action only within the scope of the agent’s actual authority. Special skills or knowledge possessed by an agent are circumstances to be taken into account in determining whether the agent acted with due care and diligence. §8. not to deal with the principal's property so that it appears to be the agent's property. to act reasonably and to refrain from conduct that is likely to damage the principal’s enterprise 5. 6. an agent has a duty to the principal to act with care. Unless otherwise agreed. v. to keep and render accounts to the principal of money or other property received or paid out on the principal's account. the agent knows or has reason to know that the principal would wish to have the facts or the facts are material to the agent’s duties to the principal. and diligence normally exercised by agents in similar circumstances. i.11 – Duty to Provide Information a. The facts can be provided to the principal without violating a superior duty owed by the agent to another person. §8. §8. 1.13 – Duty Created By Contract a. or . An agent has a duty. competence. Un accordance with the terms of any contract between them. An agent has a duty within the scope of the agency relationship. or should know when i. not to mingle the principal's property with anyone else's. subject to any agreement with the principal. §8. A principal has a duty to act in accordance with the express and implied terms of any contract between the principal and the agent. 3. competence. the agent has a duty to the principal to act with care.10 – Duty of Good Conduct a. §8.

General Partnerships  Unincorporated and Unlimited Liability a.B. including a duty to provide the agent with information about risks of physical harm or pecuniary loss that the principal knows. Estoppel iii.15 – Principal’s Duty to Deal Fairly and in Good Faith a. there needs to be: 1. UPA 1914 §6(1)  “A partner is an association of two or more persons to carry on as coowners of a business for profit. UPA 1997 §101(6)  same ii. gains and losses taxed at the partner level as income tax. has reason to know. or 2. . 3. §8. A has fiduciary duties to P 1. A is liable on contract if: 1. A (like all fiduciaries) must act honestly (includes disclosure). Ownership interests nontransferable. Consent by the P to have A act subject to his control 3. F. (though you could have a 99-year partnership) 3. Partially disclosed or undisclosed principal. For a P-A relationship to exist. Employer-Employee (control) and within the scope of employment 3. Unlimited liability (partners are jointly and severally liable for all partnership debt) 4. or should know are present in the agent’s work but unknown to the agent. 3. v. competence and diligence II. Actual (express or implied) authority 2. What is a Partnership? 1. iv. loyalty). Consent by the P to have A act on his behalf 2.” 2. Apparent authority 3. Typically. unless the agent acts officiously in making the payment. in good faith and without conflict (i. Direct liability 2. Disclosed principal and expressly stated in the agreement 2. Not taxed. Characteristics 1. ii. Consent by A to so act. Nonemployee Agent (or employee outside scope of employment) and apparent authority. When the agent suffers a loss that fairly should be borne by the principal in light of their relationship. Ratification 5. Basically. 2. A’s duty of performance includes duty to act with care. Primary duty is duty of loyalty 2. A principal has a duty to deal with the agent fairly and in good faith. limited life. AGENCY SUMMARY i. Generally i. That is beneficial to the principal.e. Undisclosed principal OR 4. P is liable on contract if: 1. P is liable in tort if: 1.

i. you can just sell your stock and go. but this is the default rule.a. Southex 2. common property. Profits are calculated after all the costs have been subtracted. iii. the intent of the parties. UPA 1913 §7 a. the burden then shifts to the D (the person challenging the existence of the partnership) to prove that there wasn’t one. b.  Southex: Whether a partnership was created depends on the totality-of-the-circumstances. In Fenwick. 1. We are more protective of partnerships – this is an intimate business relationship. UPA 1997 §202(c)  A person who receives a share of the profits of a business is presumed to be a partner in the business. c. ii. or part ownership does not of itself establish a partnership b. d. tenancy by the entireties. Of rent d. as evidenced by the contract. Of interest or other charge on a loan… f. Of an annuity or other retirement or health benefit to a beneficiary representative or designee of a deceased or retired e. A contract is evidential but not conclusive. (If you don’t like the way a corp is being run. i. may be rebutted by other factors than those listed in the UPA. was would provide a possibility of increase of compensation to Mrs. This profit-sharing scheme . Can’t force a new partner onto the old partner. Factors that indicate an intent to form a partnership (under UPA 1913?) Fenwick a. i. joint property. For services as an independent k-or or of wages or other compensation to an EE c. Other courts (those that look at UPA 1913) consider shared profits as just another factor (a very strong factor) that is used to determine whether there is a partnership. whether or not persons sharing them have a joint or common right or interest in any property from which the returns are derived. This means that if the P presents a prima facie case. Gross returns are everything that comes in the door. Cheshire and at the same time protect Fenwick from being obliged to pay such increased unless the business warranted it. created by an agreement to share in the profits. Joint tenancy. Of a debt by installments or otherwise. unless the profits were received in payment: a. c. 2. tenancy in common. The sharing of gross returns does not of itself establish a partnership. Sharing profits presents a prima facie case of partnership that may be rebutted by (the elements in UPA 1997 §202(c)). not so for partnerships). For the sale of the goodwill of a business or other property by installments or otherwise 3. And the presumption of a partnership. Who is a partner? 1. The intent of the parties. ii. Can’t substitute yourself as partner without the other partner’s consent b. Don’t allow unilateral decisions on substitution. This can be contracted around.

Enact majority vote for the things he cared most about. (??) Duration i. to make the partnership consistent with UPA. if there is one). How could an atty draft a partnership agreement between Fenwick and Cheshire that would grant her some power. with Fenwick.” Southex Exhibitions. The court would probably still analyze whether she had any control. Southex. h. “State law normally presumes that partners share equally or at least proportionately in partnership losses. Community of power in administration  (look at the language of a contract. but at least it looks better than the current contract. Southex Exhibitions. If the “partner” can just leave like an EE can just quit – that indicates merely an ER-EE relationship. Mutual intent to convert property into partnership property. Right to share in the profits Obligation to share in the losses i. He takes 80% of profits. i. Partnership contracts will usually be for indefinite duration? . Fenwick. Ownership and control of the partnership property and business. d. Southex  Found no partnership even though the parties used the word “partners” in the contract. ii. g. Labels the parties assign to their intended legal relationship is probative partnership formation. f. ii. whatever $ the partner put into the business. If two persons/business entities go into business by contract. and the contract is for fixed renewable terms – that seems more like an armslength contract business relationship and not a partnership. While leaving money issues. Southex. (Coownership). Indicative of intent to operate as a partnership  entering into contracts or doing business with third parties under the name of the putative contract. Scheduling b. Give her control over “day-to-day affairs of the salon. Ensuring customer satisfaction c. Usually a partner will have a right to some capital/payment. created a prima-facie case of partnership. iii. But it does not mean we decisively have a partnership. c. Rights of the parties on dissolution i. not a partnership. but is not necessarily dispositive as a matter of law. which is what Fenwick cared about. Not doing business in the name of a partnership indicates the contrary intent  no partnership.b. e. Contribution of property by each partner for the partnership and an understanding that the property will be co-owned by the partners. so his voting share always trumps. Book-keeping d. Subtle ways of putting checks  voting shares. ii.” a. iv. 2. yet keep most of the power himself? 1.

The partner can bind the partnership “for apparently carrying on in the usual way the business of the partnership of which he is a member. the court found that the P did not rely on PW-US’s representation of a partnership with PW-Bahamas because there was no evidence that the P saw a brochure holding out all PW offices as partners – there was no evidence that the partnership was represented directly to the P and the P actually relied on this representation. by the third person in reliance on the representation. There has to be actual proof of reliance.. either express or implied. Payton a. i. Partnership by Estoppel a. Partners Compared with Lenders – Martin v. A change in position.” unless the partner had no authority to act and the third party knew this fact. In order to establish partnership by estoppel.e. A reasonable reliance in good faith by the third party upon the representation 1. that one person is the partner of another. with consequent injury. if the control is too much. The making of the representation was made by the person sought to be charged as a partner or with his consent iii. Jones. P must establish a representation.4. the trustees could not initiate a transaction for the partners and they could not bind the firm by any action of their own. b. i.  this is used when the P cannot prove a partnership in fact. b. Main difference between partnership and partnership by estoppel: i. A partnership requires proof of consensual agreement to share profit and control ii. How do you govern a partnership? i. that there was a holding out of a partnership ii. To ensure performance of the agreement. i. 5. §9  every partner is an agent of the partnership for the purpose of its business. Although.  In Payton. Seems like as long as the policies of the lender are designed to ensure repayment. Differences in UPA 1914 and 1997 a. Depends on the extent of control. it’s not binding on the other partners unless they all agree/consent to the action. (does this include ratification?) ii. c. If the partner does something that doesn’t seem consistent with carrying on the business of the partnership. the lender may be considered a partner. four elements must be proven: i. Partner’s authority 1. b. there is no partnership. Partnership by estoppel requires a representation by the D and reliance by the P. In Young v. There needs to be consent from all of the partners to do the following: . ? iv. Lenders may share in some of the profits as re-payment of the loan and maintain some control over the business to ensure the business will survive long enough for the lender to be repaid.

according to his share in the profits. Same as (c). One of the partners bought bread from the P when the other partner did not agree. i. if the partners want to change something in their agreement.  “All partners are jointly and severally liable for the acts and obligations of the partnership. could not restrict the power and authority of Freeman (the other partner) to buy bread for the partnership. h. They get a share of the profits. All partners have equal rights in the management and conduct of the business. Majority rules for decision-making. If a partner makes a loan to the partnership. f. The court found that the acts of one partner.1. Each partner also has a duty to contribute to the losses. Much of a difference at all? 2. No one new may join the partnership unless all the partners agree. National Biscuit 1. except: “for apparently carrying on in the ordinary course of the partnership business or business of the kind carried on by the partnership. are satisfied).” i. bound the two-person partnership. which were in the ordinary matter of business (buying bread for a grocery store). b. really e. However. b. d. Submit a claim or liability on behalf of the partnership to arbitration or reference. Assign partnership property in trust for creditors or to pay partnership debts 2. were binding on the partnership. Dispose of the “good will” of the business 3.” a. 2. No partner is entitled to get paid or get a salary from the partnership. c. including those to partners. And it didn’t matter that Stroud advised the P that he would not personally be liable for the additional bread sold to the other partner – because Stroud. Each partner shall be repaid his contributions and share equally in the profits (after all debts and liabilities. the partnership agrees to pay him or her back. as co-partner. Partner’s Rights and Duties (§18 (1914) and §401 (1997)): a. without the consent of the other. the partnership should pay the partner back with interest. even though there was no majority agreement. The unilateral act of one partner. If the partner reasonably spends personal money for the partnership business (“ordinary and proper conduct of its business”). g. §301(1)  similar language. Do anything that would make it impossible to carry on the business 4. Confess a judgment 5. all partners must consent.  ordinary course = “the normal routine in managing a trade or business” 3. .

The difference? 1. any other information concerning the partnership’s business and affairs. Executive committee has complete authority to decide questions of firm policy – which is contrary to subsection (e). UPA 1997 §403(c)  “Each partner and the partnership shall furnish to a partner. As between the partners and the partnership (question of whether one partner should be reimbursed for paying the EE out of pocket). except to the extent the demand or the information demanded is unreasonable or otherwise improper under the circumstances.4.  these are the default rules – which means they may be superseded by an agreement between the partners. Duty to Disclose: i. UPA 1914 §20  “Partners shall render on demand true and full information of all things affecting the partnership to any partner or the legal representative of any deceased partner or partner under legal disability. When there is no rule in the agreement. because a majority did not decide to hire the new EE. 2. Summer v. Dooley 1. any information concerning the partnership’s business and affairs reasonably required for the proper exercise of the partner’s rights and duties under the partnership agreement or this Act. Here. National Biscuit applies. Planning  how do we resolve a deadlock? i. Rights to Partnership Property and Profits . Summers controls. half of the members are not a majority. j. “The partnership being a going concern. iv. i. Day v. 2. there was an executive committee of partners that managed the affairs of the partnership. and 2. “Business differences bust be decided by a majority of the partners provided no other agreement between the partners speaks to the issues.” ii. and to the legal representative of a deceased partner or partner under legal disability: 1. It also had a provision for majority approval for matters requiring unanimity per statute (merger). Sidley Austin  illustrates extent to which courts allow partnership agreements to derogate from statute 1. On demand. Without demand.” ii. activities within the scope of the business should not be limited. these default rules come into play. save by the expressed will of the majority deciding a disputed question. 2.” iii. As between the partners and some third party.” ii. The unilateral decision by one partner to hire another EE to work for the business was not binding on the partnership.

The interest is personal property. Caveat! In general. It also doesn’t give the assignee the right to interfere in the partnership affairs. an assignment or sale of a partnership “interest” does not make the assignee a partner.” ii. Any asset acquired in the name of the partnership is partnership property 1. The assignee is only entitled to the profits to which the assignee partner would otherwise be entitled. Once you’re out. 3. §26: basically same as §502 2.” c. UPA 1914 §25(2): “A partner is co-owner with his partners of specific partnership property holding as a tenant in partnership. UPA 1997 §203: “Property acquired by a partnership is property of the partnership and not of the partners individually. then you no longer have any rights. A transfer directly to the partnership in its own name 2. Ownership of Partnership Property a. b. iv.” 2.  UPA 1997 §503 – basically the same as §27. I’m taking it to mean that partnership property cannot be conveyed alone – that it comes with a conveyance of the partner’s interest in the partnership. UPA 1997 §501: “A partner is not a co-owner of partnership property and has no interest in partnership property which can be transferred. UPA 1914 1. property acquired by one or more partners is partnership property if the document transferring title indicates the buyer was acting in his capacity as a partner . Putnam v. Assigning Property Interests to a third party a. (UPA 1914 §27). Shoaf i.” iii.” b. c. §27: A conveyance by a partner of his interest in the partnership does not itself dissolve the partnership. A transfer to one or more partners acting in their capacity as partners and he name of the partnership appears on the transfer document ii. When Property is Partnership Property (UPA 1997 §204) – Three Rules i. Bottom line: once you’ve sold your rights and the other partners have consented to someone else being in your stead. If the partnership is not named. Differences in UPA i.1. ii. UPA 1997  §502: “The only transferable interest of a partner in a partnership is the partner’s share of profits and losses of the partnership and the partner’s rights to receive distributions. The partnership owns the property or the asset… the Partner’s interest is an undivided interest. “a co-partner owns no personal specific interest in any specific property or asset of the partnership. either voluntarily or involuntarily. you’re out. as co-tenant in all partnership property… That interest is the partner’s pro rata share of the net value or deficit of the partnership.

iv. even if it is used for partnership purposes. Extra capital often comes from the partners themselves. Allocation of profits increases capital account 2. then they lend it to the partnership.iii. Partnership Profits 1. unless it is one of the long list of stuff in UPA (1997) §103. without an indication that the partners were acting in their capacity as partners AND without the use of partnership funds. b. If profits. Profits are divided equally (pro rata). Partnerships can be very hard to finance. or benefit derived by the partner in the conduct (or winding down) of the business – this also includes not taking partnership opportunities . including the appropriation of a partnership opportunity. A partner’s duty of loyalty is limited to the following: 1. 2. Management of Account 1. Fiduciary Duties 1. *Related: UPA (1997 §404(b)(1)+: “A partner’s duty of loyalty to the partnership and the other partners incudes to account to the partnership and hold as trustee for it any property. Capital account = a running balance reflecting each partner’s ownership equity (UPA 1997 §401(a) iii. or benefit… derived from a use of the partner of partnership property. these are divided like profits are divided. UPA (1997) §404 – General Standards of Partner Conduct i. The only fiduciary duties a partner owes to the partnership and other partner(s) is (1) a duty of loyalty and (2) a duty of care. Partnership Capital i. profit.” 3. 3. though this can be changed by contract. especially those that help generate a profit. the assets of the individual are on the line for the loan. How losses will be divided can also be changed by contract. Usually. ii. then losses are 90-10. by contract. (What this means: property acquired in the name of one or more partners. iv.) v. is presumed to be separate property. ii. If profits divided 50/50. profit. Property purchased with partnership funds is presumed to be partnership property. Generally a. Taking a “draw” (distribution) decreases capital account. Contract wins out. Sometimes partners will get financing in their personal capacities. Capital = the total assets of a business. are 90-10. To account to the partnership any property. UPA 1997 §401(b)  even if one partner contributes more initial capital than the other – profits always 50/50. then losses are divided 50/50. Financing the Partnership a. iii. If the contract is silent on losses. Allocation of losses decreases capital account 3.

The question is not whether the interested partner is benefited. ? iii. b. iii.” Even though the interested partners attempted to have a “neutral vote” by putting in only as many votes in favor in proportion with the unaffiliated votes in favor. §103 – Effect of Partnership Agreement – (b) The partnership agreement may identify specific types of categories of activities that do not violate the duty of loyalty. if not manifestly unreasonable. Partners have an obligation of good faith and fair dealing. iv. If a partner lends money to the partnership. intentional misconduct. the court finds this “manifestly unreasonable. but whether the partnership or the other partners are harmed.2. He didn’t tell him what his new plans were. However. A partner’s duty of care: 1. “Not all self-interested transactions violate the duty of loyalty.” iii. If partners can withhold new information – such as the discovery of a new business opportunity – from each other. AND. Approval of the merger received a majority of all the partnership votes. Salmon had a duty to disclose to Meinhard the offer given to him by Gerry to renew the lease and take over the adjacent lots to the Hotel Bristol. P agreement placed no limitation on the ability of interested partners to participate in ratifying its own self-interested transactions. because “only through disclosure could opportunity be equalized. Merely behaving in a manner that furthers a partner’s own interests is not a breach. Limited to refraining from engaging in grossly negligent or reckless conduct. Partnership is a . To refrain acting in a way that is adverse to the partnership. the rights and obligations of the partner are the same as a lender who is not a partner. b. vii. v. Salmon breached his duty of loyalty because he used his position in the partnership for his own benefit without giving his partner a chance to benefit as well. iv. the partnership agreement needs to identify specific types or categories of activities that do not violate the duty of loyalty. Self-Interested Transactions  Perretta v. Prometheus i. These duties also apply to a person winding down the business as the personal or legal representative of the last surviving partner. To refrain from competing with the partnership before dissolution. and 3. Salmon i. Disclosure is more efficient 2. ii. ii. including those that did not vote at all and including the votes of interested partners. 2. vi. Meinhard v. then each has an incentive to drive the other out so as to take full advantage of the information. Opting out of Fiduciary Duties a. Notice a partner does not breach his duty of care by behaving with ordinary negligence. or knowing violation of the law.

”  “allowing an interested partner to participate in a ratification election subverts the very purpose of ratification itself…” 3. they way they took the clients was unfair because: i. finding a physical location for the new firm. vi. as long as the attorney: 1. In this case. etc. obtaining financing. before the partners had even announced their departure. Grabbing and Leaving – Meehan v. If the interested partners cannot show proper ratification by disinterested partners. Courts will look at such cases with “particular skepticism. iv. 2.” Does “discharge” mean that this duty applies when the partner is getting ready to leave? b. provided that the course of such arrangements they do not otherwise act in violation of their fiduciary duties.fiduciary relationship. Gives notice to the client that he is planning or leaving the form . ii. It is manifestly unreasonable for a P agreement to allow interested partners to vote in ratification of their own self-dealing transactions. Meeting secretly with clients to persuade them to come to new firm. Shaughnessy a.” i. Meehan delayed in providing the former partners the list of clients he was planning on taking. like taking new clients for himself. v.  important to the court that they actively lied to the former partners. iii.” iv. “A partner has an obligation to render on demand true and full information of all things affecting the partnership to any partner. they took an unfair advantage in the race to get clients. “Fiduciaries may plan to compete with the entity to which they owe allegiance. It is a breach of the duty of loyalty to unfairly acquire clients and referring attorneys consent to withdraw from former firm. Disinterested partners may ratify the actions of an interested partner – as long as there has been full and complete disclosure of all the material facts. and the partners may not take advantages for themselves at the expense of the partnership. However. c. Duty of Good Faith  UPA (1997) §404(d)  “A partner shall discharge the duties to the partnership and the other partners under this Act or under the partnership agreement and exercise any rights consistently with the obligation of good faith and fair dealing. they departing partner may not directly compete with the partnership during this time. the burden is on the interested partners to show the transaction was done in good faith and fairness. By keeping their preparation secret for so long. A departing attorney may send letters to the clients with whom he has an active lawyer-client relationship (has open and pending matters with the client).” UPA 1914 §20.  a partner may make logistical arrangements in preparation of leaving – like preparing lists of clients. 1. The content of the letters they sent to clients was unfairly prejudicial to former firm. ii.

“When a partner is involuntarily expelled from a business. b. By the express will of any partner when no definite term or particular undertaking is specific in PA . The notice is brief and dignified  doesn’t attack the former firm with disparaging remarks 6. or as specified by law. which was freely negotiated and entered into. The letter makes it clear that the client has the right to decide who will complete or continue the matters 5. his expulsion must have been “bona fide” or in “good faith” for a dissolution to occur without violation of the partnership agreement.”  the duty of good faith is implied in the PA. The notice does not urge the client to sever the relationship with former firm 3.” b. (there is an implied duty of good faith when expelling a partner). i. giving rise to an action for damages the affected partner has suffered as a result of his expulsion. Disassociation – “to remove from association. 4.§31 a.  basically. The letter does not recommend the client to follow the departing attorney to new firm 4.”  an expulsion must be in accordance with PA and must have been done in good faith. Dissolution under UPA 1914 1. When the partnership agreement has not been violated: i. Dissolution a. the partnership agreement is violated.” UPA 1914 §30 ii. “if the power to involuntarily expel partners granted by a partnership agreement is exercised in bad faith or for a predatory purpose. “On dissolution the partnership is not terminated. was OK.” c.” 2. Key Terms 1. How do you end a partnership? i. Winding up – the process of shutting down partnership post-dissolution.2.” 3. UPA (1914) §29: “change in the relationship of the partners caused by any partner ceasing to be associated in the carrying on as distinguished from the winding up of the business. Expulsion – Lawlis a. letter allows the former firm to have an equal chance at competing for the client’s matters. By termination of a definite term or particular undertaking specified in the agreement ii. Court held that a no-cause expulsion provision in a partnership agreement. “the termination of a previously existing partnership upon the occurrence of an event specified in the partnership agreement. Causes of Dissolution . what constitutes good faith or bad faith? “the expelling partners act in ‘good faith’ regardless of motivation if that act does not cause a wrongful withholding of money or property legally due the expelled partner at the time he is expelled. c. but continued until the winding up of partnership affairs is completed.

Cohen 2. By the death of any partner e. Mere bad blood between the parties is not enough to justify a judicial dissolution. A partner becomes in any way incapable of performing his part iii.§33 a. Dissolution terminates all authority of any partner to act for the partnership – except so far as a partner’s authority is necessary to wind up the partnership. The business can only be carried on at a loss vi. Prentiss v. Collins v.iii. 2. When it becomes unlawful for the business of the partnership to be carried on d. Problems don’t have to be big ones – constant petty disagreements and mistreatment of one partner to another can have the same effect. On application by or for a partner. By the expulsion of any partner from the business in accordance with PA 1. what changes is the consequences that flow from leaving] c. A partner is declared a lunatic or is shown to be of unsound mind ii. Sheffel  the “freezing out” of the third partner from the management of the business caused the dissolution of the partnership. b. the partner prob wouldn’t get Pship interests back b/c liable for damages. By a decree of court under §32. By the bankruptcy of any partner f. Pretty much at the express will of any partner at any time – whether it is in contravention of the PA or any of the UPA articles [of course. and may sue after withdrawing from the Pship in order for the court to find that he didn’t breach. 3. Cohen 4. In these sorts of situations. On the application of the purchaser of a partner’s interest…. a partner may leave at any time. A “freeze out” is not a wrongful dissolution as long as it is done without bad faith (to take from the partner something or money he was entitled to – usually revolves around money). and thus avoid consequences of wrongful dissolution (§38(c)) v. Minor differences and grievances that involve no permanent mischief will not authorize a court to decree a dissolution of partnership. General Effect of Dissolution on Authority of Partner . the well-behaving party sues. When a partner willfully or persistently breaches the PA or otherwise behaves in such a way that it is not reasonably practical to carry on the business in partnership with him. b. Dissolution by Decree of Court . 1. Lewis a. the court shall decree a dissolution when: i. I don’t think this was covered in class 3. A partner is found guilty of a crime that affects the carrying on of the business iv. Whenever the court finds a dissolution is fair (equitable). 2. but not the right to do so  if one partner leaves in breach of the PA.§32 a. Owen v. Owen v. Each partner has the power to dissolve the partnership. .

. However. When the dissolution is caused by a violation of the PA: i. When the dissolution is caused by the act. The right to sue the breaching partner for damages ii. except in the contravention of the PA. a. the expelled partner shall receive in cash only the net amount due him from Pship. Blah blah. After dissolution a partner can bind the partnership: i. either by themselves or jointly with others. The partners who did not cause dissolution shall have: 1. If the dissolution is caused by the expulsion of a partner. The dissolution of the Pship itself does not itself discharge the existing liability of any partner b. bona fide under PA. b. they have to pay the departing partner the value of his interest in the Pship. Unless the partners and creditors come to an agreement to that effect (as long as creditor has knowledge of dissolution) c. Power of Partner to Bind Partnership to Third Persons After Dissolution . b. When the dissolution is caused in any way. Rights of Partners to Application of Pship Property §38 a. less any damages recoverable. Had extended credit to the Pship prior to dissolution and had no knowledge or notice of the dissolution or 2. By any transaction which would have bound the partnership before dissolution if the third party 1. When incurring the liability. The partners who did not cause the dissolution wrongfully have the right to continue operating the Pship in the same name. may maintain Pship property. All the rights in paragraph 1 [for outline. 1. Right to Wind Up §37  partners who have not wrongfully dissolved the Pship have the right to wind up the Pship affairs 8. which includes property. By any act appropriate for winding up ii.§34 a.§36 a. each partner is liable to his co-partners for his share of any liability of the partnership. had nevertheless known of the Pship before dissolution and had no knowledge or notice (including whether the dissolution was announced in a newspaper of general distribution) of it. The individual property of a deceased partner shall be liable for all obligations of the partnership incurred while he was a partner but subject to the prior payment of his separate debts 7. Though had not extended credit. each partner gets his share of the Pship assets.] and 2. unless i. Effect of dissolution on partner’s existing liability . and for this reason. the partner acting for the partnership has knowledge of the dissolution (other partners are not responsible for the debts incurred by a partner after dissolution (or had knowledge of the death/bankruptcy) if the partner incurring the debt knew about the dissolution) 5.§35 a. don’t think important 6. death or bankruptcy of a partner. Right of Partner to Contribution from Co-Partners After Dissolution .4.

The partners shall contribute the amount necessary to satisfy all liabilities. except to other secured creditors. Creditors have the right to sue solvent partners for remaining liabilities f. Those owing to partnership creditors iii. If one or more of the partners are insolvent or for some reason refuse or cannot pay liabilities. Creditors who are partners for debts other than for capital and profits iii. Creditors other than partners ii. Rights Where Partnership is Dissolved for Fraud or Misrepresentation §39 (see rulebook) 10. Should also indemnify him against all present and future Pship liabilities. e. Then creditor partners c. (7) when a third person becomes a partner in the Pship continuing the business. 9. creditors can seek payment from other partners. claims on his separate property shall rank in the following order: i.2. the departing partner has a right to a payout of his share in the business. minus any damages a. Liabilities shall be paid in this order: i. Those owing to separate creditors ii. The assets of the Pship are: i. The contributions of the partners necessary for the payment of all the liabilities b. The partner who wrongfully caused the dissolution shall have: 1. h. If the business is continued. When the partnership is continued. Rules for Distribution §40 a.§41 a. Pship creditors have priority over Pship property and separate creditors on individual property. g. When a partner or his estate becomes bankrupt. Rights outlined in paragraph 1 [a. the creditors of the dissolved Pship shall be satisfied out of the Pship property only . Pship property ii.]. Liability of Persons Continuing the Business in Certain Cases . iii. Partners who paid in excess of their share have the right to sue other partners who did not pay their share of the liabilities. the creditors of the first or dissolved Pship are also creditors of the Pship so continuing the business b. Shall be released of all existing and future liabilities. minus any damages 2. Those owing to partners by way of contribution (who put more than their share) 11. Assets will be applied to satisfy these liabilities d.

Seeks or consents to the appointment of a trustee. then Article 8 applies . The partner engaged in wrongful conduct that adversely and materially affected the Pship business ii. Executes an assignment for the benefit of creditors (??) iii. f. It is unlawful to carry on the Pship with that partner ii. By judicial determination (when one partner sues): i. to object to such an appointment g.§602 a. A partner’s expulsion by the unanimous vote of the partners if: i. c. when the partner is not an individual. More… 2. by express will pursuant to §601(1) b. the partner is dissociated by becoming a debtor in bankruptcy 4. the partner is expelled or otherwise dissociated b/c it willfully dissolved or terminated. In the case of i. (when the Pship is for an definite term or particular undertaking) before the expiration of the term of the completion of the undertaking: 1. A partner’s expulsion pursuant to PA d.§601 a. Effect of Partner’s Dissociation . See others… e. or iv. The partner expresses a will to dissociate (takes effect when the departing partner decides) b. The partner’s death ii. or ii. Wrongful Dissociation . Becomes bankrupt ii. trust or estate. It is in breach of an express provision in the PA. Sections that apply i. Dissociation Under UPA 1997 1. the partner withdraws by express will 2. Fails. When the partner i. The partner is deemed incapable of performing duties h.§603 a. The partner willfully or persistently committed a material breach of the Pship agreement or a duty owed to the Pship iii. the partner is expelled by judicial determination 3. If the partner’s dissociation results in dissolution and winding up of the business. Events Causing the Partner’s Dissociation . rightfully or wrongfully. A partner who wrongfully dissociates is liable to the Pship and other partners for damages caused by dissociation 3. receiving. or liquidator for partner’s property. The partner engaged in conduct relating to the Pship business that makes it not reasonably practicable to carry on the business with that partner. An event agreed upon in PA that causes a partner’s dissociation c. within 90 days. A partner has the power to dissociate at any time. The appointment of a guardian for partner or iii.iii. Partner’s Power to Dissociate. A partner’s dissociation is wrongful when: i.

. ii. The buyout price is the amount that would have been distributable upon dissociation and the assets of the Pship were sold. If the remaining partners choose to continue the business of the Pship. the dissociated partner’s interests in the Pship shall be purchased for a buyout price determined pursuant to subsection b. Purchase of Dissociated Partner’s Interest . That reasonably believed the dissociated partner was then a partner 2. whether incurred before or after dissociation v. the dissociated partner may be released from liability 5. His right to participate in the management of the Pship are terminated ii. unless the partner participates in winding up the Pship’s business pursuant to §803.ii. When dissociation causes dissolution  wind up . More. When the business is continued without dissociated partner a. Pship must indemnify the dissociated partner whose interests are being bought out against all Pship liabilities. His duty of loyalty under §404(b)(3)to the Pship is terminated. If the business is continued despite the partner’s dissociation.§701 i. And is not deemed to have knowledge under §303(e) or notice §7-4(c). and iii. iii. 4. Dissociated Partner’s Liability to Other Persons . A partner may be liable after dissociation if the partner enters into a transaction with third party 1. Did not have notice of the partner’s dissociation 3. Buyout price is offset by any damages awarded to the Pship and/or partners for wrongful dissociation iv. iii. b. ii. Interest must be paid from the date of dissociation and the date of payment. Upon the partner’s dissociation: i. A dissociated partner is not otherwise liable for Pship obligations incurred after dissociation except as provided in subsection b. By an agreement. His duty of loyalty under §404(b)(1) and (2) and his duty of care under §404(c) continues only with regard to matters arising and events occurring before the partner’s dissociation. then Article 7 applies.§703 i. b.

Compare Owen with Page. It is not otherwise reasonably practicable to continue business in accordance with PA or v. …. by judicial determination: 1. The partner has behaved in such a way that continuing the Pship business would not be reasonably practicable with that partner or 3. . Important to know the term of the partnership. the express will of at least half of the remaining partners to wind up the Pship 2. b.§803 d. Dissolution v. Dissolution is not the same as going out of business: a dissolution is simple the change in relationship of the partners caused by any partner ceasing to be associated in the carrying on of the firm’s business. The economic purpose of the Pship is likely to be frustrated 2. The express will of all of the partners to wind up the Pship business. Events Causing Dissolution and Winding Up of Pship Business . Term of the Partnership a. ii. a judicial determination that is it equitable to wind up Pship business 1. c. or 3. 2. At any time.§801 i. The expiration of the term or the completion of the undertaking ii. On application by a partner. In a Pship for a definite term or particular undertaking 1. An event makes it unlawful for all or substantially all of the business of the Pship to continue – this illegality may be cured within 90 days after notice iv. Explicit term Pship: i. An event agreed to in the PA results in the winding up of the Pship business iii. ? b. in order to determine when the Pship has been wrongfully dissolved. Summary: 1. and the Pship would operate the bowling ally until Owen could recuperate his investment.§804 iv. On application by a transferee of the partner’s interests. Going out of Business a. Partner’s Power to Bind Partnership After Dissolution . Winding up: the process of shutting down post-dissolution. Within 90 days after a partner’s dissociation by death or otherwise. UPA 1914 §29. It wrongful dissolution if a partner leaves before the end of the term or before the specific purpose or objective is completed. Implicit term: i. Duration specified in partnership agreement ii.§802 c. Specific purpose/object specified in PA iii. Partnership Continued After Dissolution . Owen: the court finds that the Pship was for a term – that Owen lent the Pship money. b. After the expiration of the term of completion of undertaking 2. Right to Wind Up Partnership Business .a.

the courts will not consider the value of the business’s “good will. including Pship property and the interests of the partners. Partners may continue business as per agreement. b/c people enter into Pships and other business for the purpose of making a profit. or 1. with language like. 2.iii. if he does. Liabilities are collected from assets of the Pship. Page: the court rejected the P’s argument that the Pship was for a term – that they had put money into the Pship and that the Pship would continue until that money is recuperated/profit is made. unless the PA puts some limitations on how a partner may leave. If there is no agreement as to how to continue business in this situation. even if by the PA. or ii. even if they are continuing the business of the Pship 3. 31. A partner may not dissolve a partnership to gain the benefits of the business for himself. Bad faith? 1. Pship at will i. Dissolution and Winding Up Under UPA 1914 a. or 32 i. “In light of section __ of the UPA. “a partnership at will may be dissolved by the express will of any partner. When paying out departing partner.” Page 2. Pav-Saver dissent  provisions of the contract should prevail over the statute (UPA). the value of the patents was excluded from the payout as “good will.” or “the only rights of the parties will be __” The court took the silence in the k and inserted the default rules. Partners (the good actors. 4. “A partner may not by use of adverse pressure ‘freeze out’ a co=partner and appropriate the business for his own use. But the court does not find this to mean there was an implied term. It is not wrongful dissolution if a partner express a will to leave. non-wronging partners) may continue business following a wrongful dissolution (§38). Because the PA required the return of the patents to Vasso.” In Pav-Saver. unless he fully compensates his copartner for his share of the prospective business opportunity. then Pav-Saver should not get to keep them. iii. There is a dissolution under §§29. the dissolution is wrongful and the remaining partner would be liable for damages 3. the Pship enters a winding up period: i.” b. Real life lesson: the contract needs to make clear that it will be overriding statutes. like any other held by a fiduciary. that property was to be returned to the wronging party upon dissolution. (§38 & §40) . must be exercised in good faith. PavSaver. d. or the dissolution was not wrongful.” Page ii. this power. The partners continuing the business may possess partnership property  this includes any property that is vital to the continuation of the business.

1. Sheffel. Damages for leaving?  General rule: no. Must consider rights of departing partner. and thus. Yes. UPA (1914) §33. However. Assuming t hat the business will not be continued. Always have power to leave with penalty ii. liability to creditors? i. ii. the creditors may go after partner’s separate assets and property. Disassociation and Dissolution under UPA 1997 a. At this point. for existing obligations – UPA 1914 §36. but… 2. the winding up process generally contemplates that the firm’s assets will be distributed to the partners b. After dissolution. b. Partners may choose to dissolve the Pship (or it happens by contract or judicial determination) as per article 8 1. General rule: no. former partners may bid for the assets.4. Purchase of dissociated partner’s interests (§701) 2. Business must be wound up Effect of Dissolution on Pship a. Authority of partners to act on behalf of the partnership terminated except in connection with winding up of partnership business. Former partners are not prohibited from bidding at a judicial sale. Partners may choose to continue the business. absent agreement among the partners to carry on the business i. 1. Can a partner leave?  Yes. Can a partner leave? 1. Events of dissolution §801 2. UPA (1997) §804 Continuation per Agreement: Effect on Pship a. 5. at any time for any reason ii. Damages for leaving? 1. continue to run the Pship. Technically creates a new partnership b. bad actors (the one that wrongfully departed) is not allowed to bid at judicial sale and continue the business. If Pship at will i. Prentiss v. May include anticipated damages flowing from future business operations c. There is a dissolution under §601 i. If partner leaves. UPA (1914) §38. but damages may flow from bad faith conduct. UPA (1914) §41 c. Yes. If there are still liabilities to be satisfied. Dissociated partner not automatically released (§703) ii. per article 7 1. 7. 701 2. the Pship must be wound up. Consequences of Dissolution a. Prentiss. 6. If Pship for a term i. Creditors of former partnership automatically become creditors of new partnership. UPA 1997 §703 . Pship assets are usually sold in judicial sale. UPA (1997) §§602.

LLCs. UPA 1997 expressly rejects Kovacik  partners must share in the losses. b. but limited partners generally do not. then you are at a disadvantage. irrespective of any inequality in the amounts each contributed to the capital employed in the venture. The service partner (Reed) was compensated for his work ii. with the losses being shared by them in the same proportion as the share the profits. as does UPA §18(a). the law presumes that partners intent to participate equally in the profits and the losses of the common enterprise. Constituted by general partners (manage the business) and limited partners (merely investors) 2. i. LPs (Limited Partnerships) 1. Bargain forcing defaults i. General partners still carry personal liability. Definition: an agreement that allows a partner to end her or his relationship with the other partners and receive a cash payment. Sharing Losses a. If you’re not a sophisticated party (like Reed likely was). Courts (following the 1914 UPA?) do not apply the Kovacik rules where: i. Comments to UPA (1997) §401: “The default rules *of UPA §401+ apply. or series of payments. Buyout Agreements 1. ii. but… iii. Kovacik+. LLPs (Limited Liability Partnerships) 1. However. One loses his own capital.ii. Kovacik probably had all the know-how and the money to hire an attorney. inter alia. Kovacik v. Why?  give at least the party subject to the penalty an incentive to negotiate a contractual alternative to the penalty default. iii. in return for her or his interests in the firm. Limited Liability Entities . you have to know about the default rule first. LPs. where one or more of the partners contribute no capital.Generally i. If for term and wrongful departure. ii. 8. even if that contribution was nominal. Impose a penalty on at least one of the parties if they fail to bargain out the default rule. ii. The service partner (Reed) made a capital contribution. General partner with limited liability limited liability for all partners .  this general rule does not apply in situations where one partner contributes all the money and the other partner contributes only with labor. damages calculation may consider future obligations of business. d. General rule: absent an agreement to the contrary. although there is case law to the contrary [citing. “Upon loss of the money the party who contributed it is not entitled to recover any part of it from the party who contributed only services” c. v. III. General rule = no liability for future obligations. or some assets of the firm. the other loses his labor (doesn’t get paid).” e. LLPs  Unincorporated and Limited Liability a. Reed i.

3. They are treated like a C corp for governance. iv. the limited partner is liable only to persons who transact business with the limited partnership and who reasonably believe… that the limited partner is a general partner. doctor partner). Does not protect the firm from partners suing partners. b. Tax advantages of partnerships b. in addition to the exercise of his rights and powers as a limited partner.” c. Some states don’t require anything  you don’t have to contribute capital to become member of the LLC c. Everyone is a general partner – they each filed a certificate that says the general partners are not liable for certain debts. This one involves limited partners. Probably the most flexible 3. i. Funding: a. LLC does not pay taxes . 2. Typically restricted to tort claims and certain types of professional firms iii.” ii. other conduct. S Corporations  corporations that elects to be taxed like a partnership. These are negotiated business entities. Members typically contribute capital b. Can do business by contract  the partners manage the extent of their relationship by contract. Liability  members stand to lose capital contributions. if the limited partner takes control of the business and is not also a general partner. LLCs (Limited Liability Companies) 1. None of the restrictions applicable to S corporations 2. “A limited partner shall not become liable as a general partner. not everyone has equal management rights (not everyone is a general partner). a promissory note. but their personal assets are not subject to attachment 3. Sometimes publically owned v. Income passes through members b. 4. affords limited liability protection to both general partners and limited partners 1. A lot of LLCs are started to be public  selling units of the LLCs. Generally 1. Limited liability of corporations c. torts. Share distribution between the unit holders 2. or to perform services. Contribution may be cash. or other obligation to contribute cash. property. Limited Liability Company i. unless. Tax consequences a. he takes part in the control of the business. Revised Uniform LP Act  However. The difference is management rights  this is the same as the LLP. Hybrid of corporation and partnerships a. but here. LLLPs (Limited Liability Limited Partnerships)  relatively new. services rendered. It is meant to give sophisticated business people the opportunity to bargain for every aspect of running the business and the business relationship. limits on number and types of shareholders and capital structures. so you may contract terms for financing d. property. of other general partners (so that you are not liable for the malpractice of your lawyer partner. Limited Partnerships i.2.

or similar phrases iii. File articles of organization in the designated State office. Significant matters require unanimous consent. Analogous to partnership rules 6. c. Choose and register name: LLC statutes generally require the name of the LLC to include the words limited liability company. 2. Formation a. Members’ interests a. Designate office and agent for service of process 5. like a partnership or like a corp. Filing fees and minimum franchise tax b. the abbreviation LLC. the members can check a box and decide how they want to be taxed. Other formation tasks i. These days. Withdrawal 1.c. ii.” a CEO. Dissociation v. Draft operating agreement – the basic contract governing the affairs of a limited liability company and stating the various rights and duties of the member ii. b. 2. ULLCA §404(c) ii. Assignment of LLC Interest i. ULLCA §404(b) 1. An assignee of a financial interest in an LLC may acquire other rights only by being admitted as a member of the company if all the remaining members consent or the operating agreement so provides. Dissolution a. Absent contrary agreement. negotiation and bargain. Manager-managed LLC option available (as opposed to membermanaged). Management rights i. Must be specified in articles of organization. Whether you can/when you can remove these depends on the operating agreement. i. ULLCA §404(a)(2) 2. or both a. a member may assign his financial interest in the LLC 1. Absent contrary agreement. Most matters decided by majority vote. Compare with partnership law’s equal division of profits. Financial interest  a right to distributions and liquidation participation i. Usually negotiated in the contract b. Same as partnership under UPA (1997) . Unless otherwise provided in the LLC’s operating agreement. Each member gets to choose managers. ULLCA §405(a) uses partnership-like equal shares rule ii. See ULLCA § 501-50 ii. Member may withdraw and demand oayment of his/her interests upon giving notice specified in the statute or the LLCs operating agreement. Profit and loss sharing 1. most statutes allocate profits and losses on the basis of the value of member contributions  can contract this term. each member has equal rights in the management of the LLC 1. 4. Can be structured as a “board of directors. 2. Required and optional contents set forth in ULLCA §203. Can’t just shake hands and agree to do business – like for partnerships.

ii. This is one of those areas of uncertainty – still a lot of debate. 3. ULLCS §303(b)  “the failure of a limited liability company to observe the usual company formalities or requirements relating to the exercise of its company powers or management of its business is not a ground for imposing personal liability on the members or managers for liabilities of the company. (without specific language that indicates the statute intends to override the common law). . It is the policy of the LLC acts to give the maximum effect to the principal of freedom of contract and to the enforceability of limited liability company agreements. this means the common law prevails. It is possible to be a one-person LLC. Upon court order 1. Required to Provide Notice to the Public  Water. The court found that the statute was silent on the issue of LLC veil piercing. Kaycee Land and Livestock v. The Ps relied on this representation. iv. Flahive a. the managers and the owners are one and the same (unlike in corporations. By having the letters LLC after your company name. These statutory provisions are likely to be those intended to protect third parties. Misconduct by members 7. The Operating Agreement  Jaffari 1. Exception: Fraud is the only grounds to pierce the LLC veil. agency law. unless they are mandatory provisions. where management and ownership are separated). then that is enough notice. Court used partially disclosed/undisclosed agency rule to find the agent was liable for debt. b.  it is presumed that no change in the common law was intended unless the language employed clearly indicates such an intention d. Court held that LLC veil piercing should be treated in the same way that corporate veil piercing is  if the members and officers of an LLC fail to treat it as a separate entity they should not enjoy immunity from individual liability for the LLC’s acts that cause damage to third parties. was acting on behalf of an LLC. (unlike partnerships). LLC Agreement trumps. Upon the happening of any event specified in the LLC operating agreement 2. In Waste. By operation of law: 1. Water & Land. Vote of members (as specified in operating agreement) 3.  In general. When there is some confusion with the business entity.b. Doesn’t raise any issues in most states. the agent. LLC Veil Piercing 1. It becomes unlawful to carry on the business ii. only where the agreement is inconsistent with mandatory statutory provisions will the members’ agreement be invalidated.” a. the default goes back to the basics.  Need to provide notice to the public that you are an LLC. 2. the agents of LLC were personally liable for unpaid bills of the LLC because the Ps were not provided notice that Clark. and having the letters LLC next to your name is enough. The factors that apply to corporations may not be applicable in the LLC context b/c in most LLCs. a. c. iii. If the statute is silent. 2. 2. Economic purpose frustrated 2. Events of dissolution: i. Should let all your business partners know that they can only collect from business assets. 3. ULLCS §103(b)(2)  managers may eliminate the duty of loyalty in specific actions unless it is manifestly unreasonable. Waste & Land 1. LLC parties may contract to avoid the applicability of most sections of the LLC statutes. 4.

Holding: the operating agreement of a limited liability company may limit or define the scope of the fiduciary duties imposed upon its members. Delaware and Nevada.g. Members may contract away certain duties – McConnell v.. but one member could not secretly induce or otherwise purposefully cause a prospective business client to go with new firm. An agreement may not waive the entire duty of loyalty. Universe of Corporations 1. even in the same industry and business. even those that compete with this LLC. For profit corporations 4. E. Increasingly use LLPs or LLCs . NYSE or NASDAQ b. i. Member-managed LLCs i. lawyer.IV. ULLCA §409(b) b. Managers = duty of care and loyalty ii. Often. as long as they are not manifestly unreasonable. a relatively small number of shareholders who actively participate in the firm’s management c. Hunt Sports Enterprises a. Duty of good faith remains  the members were allowed to compete. Generally a. but it may specify certain actions that will not violate the duty of loyalty. Physicians. Members = no duties to LLC or its members by reason of being members b. allow members to contract around fiduciary duties – except for the duty of good faith and fair dealing (these always mandatory?) 2. ELLCA §103(b)(2). In this case. without privilege to do so. ii. Some states. i. but not always. “a person. Public a. E.” ii. v. Professional corporations a. Manager-managed LLCs i. All members of a member-managed LLC have a duty of care and loyalty. That would be bad faith. Even though the default rule is that LLC members are prohibited from competing with the LLC or from taking the company’s opportunities. Closely held a. May display many characteristics of partnerships 3. accountants b. Fiduciary Duties 1. OpA allowed members to compete with the LLC – allowed members to own an interest in any other business venture. dentists. Characterized by a public secondary market in which shares of the company are listed for trade.g. Corporation – “an entity (usually a business) having authority under law to act as a single person distinct from the shareholders who own it and having rights to issue stock and exist indefinitely. Corporations Generally i. (because they are the managers!) c. induces or otherwise purposefully causes a third person not to enter into or continue a business relationship with another…” 2. 1. IBM or Microsoft 2. Characterized by an absence of a secondary market for its stock (the corporation chooses not to sell it’s stock publically) b. need to be allowed to compete fairly INCORPORATED AND LIMITED LIABILITY a.

Vote on limited range of issues ii.. Boards ACT ii. selling. generally speaking. There are requirements for formal creation under state law 2. Odds and ends. Non-profit corporations a. hospitals.. suing) c. churches. Separation of ownership and control a. Often have members rather than shareholders c. Board of directors is in charge of the management of the company. Ex: charities.03-8. Inspect corporate books and records iv.” 3.04) ii. such as approval of independent auditors v. etc. E.22(b): “Unless otherwise provided in the articles of incorporation. Through Dodd Frank Act: now shareholders have the right to review the compensation packages of the directors. This is where fiduciary duties come in: board of directors have fiduciary duties to the owners (shareholders) (to responsibly manage the business and make a profit). MBCA §6. a shareholder of a corporation is not personally liable for the acts or debts of the corporation except that he may become personally liable by reason of his own acts or conduct.04) iv. Legal personality a. Rights of Shareholders i. MBCA §8. c. b. Receive distribution upon termination .  the corporation is an entity with separate legal existence from its owners b. and the business and affairs of the corporation managed by or under the direction of.01(b): “all corporate powers shall be exercised by or under the authority of. But this is nonbinding This is an attempt to give shareholders more of a say and prevent the abuses seen before the Great Recession. Receive payment of dividends when and as declared by board iii. 10.g. MBCA §11. by-laws (MBCA §§10. its board of directors…” i. fraternal organizations 6. Fundamental transactions (e.5. Legal fiction but a useful one.g. Limited liability a. Universities. Rule of thumb: i. Election of directors (MBCA §§8. Shareholders REACT (by voting. Quasi-governmental and governmental corporations a. d. It is a separate tax-payer d. Critical attributes: 1.03. None of the surplus revenue (profit) may be distributed to shareholders (members) b. Fannie Mae and Freddie Mac b. iii. mergers. Any amendments to the articles of incorporation and. Shareholders entitled to vote on: i.20) iii.

Many ways to package such claims: e. 4. Mandatory terms (MBCA §2.06) b. can the defectively formed entity (or individuals) enforce the contract? ii. P entered into a contract with D before the it was incorporated. Flexible capital structure a. Camcraft. Once the articles are filed. Draft articles of incorporation a. Liability for Pre-Incorporation Activity i.g. Optional terms (MBCA §2. Draft bylaws (MBCA §2. Usually want it to be an odd number – tie breaker ii.v. if necessary 1. Don’t want it to be too big (9 is a popular number) 2. does the corporation become a party to the contract? b. Inc. Once the articles are filed. is the promoter liable on the contract? d. Post-incorporation: a. Appoint officers – most states require at least 2 c.02(b)) 2.05) i. Promoter: someone who purports to act as an agent of the business prior to its incorporation 2. 1. Contents: i. Name of directors. the corporation was incorporated in the Cayman Islands. (Two wrinkles: (1) corporation seeks to enforce a contract that was made on its behalf before it was incorporated and . The contract recognized that the corporation was to be formed in Texas. Liquidity a. File derivative suit to redress wrong suffered by the corporation (damages recovered belong to corporation). Legal Issues: a. Ability to gain capital by selling stock to the public in secondary markets 5. The incorporation process 1. Adopt bylaws iii. through its promoter. v. Purchase proportionate share of a new issuance or corporate stock to maintain current ownership percentage (Preemptive Right) vi. stocks and bonds iv. Issue stock b.) 3. Inc. File articles with Secretary of State – one or more persons are the incorporator MBCA §2. However. No 9. The permanent and long-term contingent claims on the corporation’s assets and future earnings issued pursuant to formal contractual instruments called securities. Generally: 1.02(a)) ii. Organizational meeting (MBCA §2.01  you have to have some sort of designation in your name that indicates you are a corporation (like Inc. If the articles are not filed or are defectively filed. is the promoter liable if the corporation breaches the contract? c. Southern-Gulf Marine Co.. b. If the articles are not filed.

the corporation agrees to be governed by the laws of that state. This is always a concern with investors. Knowing what you have to lose through limited liability – helps make better investment decisions (know that all you have to lose it what capital you put in).” ii. while others will be passive investors. iii. Hence. Some people would have to make sure the corporation was run well. (??) b. (Camcraft should not be allowed to take a windfall from the much higher prices in the market now) iv. Would earn a windfall if now allowed to argue that the form was not a corporation. Helps investors make wise economic decisions about how to allocate their resources b. not the individual defendant. Minimizes monitoring costs a. Free rider = someone who reaps the benefits but doesn’t contribute anything. P (SGM). have to be very vigilant. the P will have to prove that the director/officer was acting in their personal . Corporation by estoppel 1. 3. which may be contracted around. Estoppel: treat firm as though it were a corporation if the person dealing with the firm: a. officers). and the state. c. provides this special protection from liability. This is the protection provided to corporations by the state. a. Avoid personal liability (losing the house. corporations are burdened by regulations d. “whenever anyone uses control of the corporation to further his own rather than the corporation’s business.04  all persons acting on behalf of the to-be corporation are personally liable for pre-incorporation transactions. Thought it was a corporation all along b. a shareholder of a corporation is not personally liable for the acts or debts of the corporation except that he may become personally liable by reason of his own acts or conduct. college fund to creditors for business debt) 2. So. since it is not a natural person. Why do shareholders want limited liability? 1. D fails to follow through with the contract. b. Piercing the Corporate Veil i. 2. Limited Liability i. in turn.(2) there is a defective incorporation because the contract called for incorporation in Texas). A corporation has to act through its agents (directors. MBCA §6. whenever necessary: 1. for performance is estopped. It is a trade-off  the corporation pays taxes in the state. may sue to enforce the contract. Courts will pierce the corporate veil. “to prevent fraud or to achieve equity” 2. Policy argument: limited liability avoids the free-rider problem. MBCA §2. 3. 4. Default rule. for an officer or director to be personally liable (pierce corporate veil). In exchange. he will be liable for the corporation’s acts upon the principle of respondeat superior…” Operate the corporation in the shareholder’s individual capacity. Rule: A third party who dealt with the firm as though it were a corporation and relied on the firm. iii. Downplay the “free rider” issue a. Court held that Camcraft is estopped from denying SGM’s corporate status.22(b): “Unless otherwise provided in the articles of incorporation. 4.

Van Dorn Test: (as articulated in Sea-Land v. Need to prove that the officer was using the corporation as its alter ego.  This liability extends not only to the corporation’s commercial dealings… but to its negligent acts as well. and i. there must be such unity of interest and ownership that the separate personalities of the corporation and the individual [or other corporation] no longer exist. Commingling funds ii. . Failure to maintain adequate corporate records or to comply with corporate formalities 2. Failure to adopt charter or by-laws 3. Failure to keep minutes of said meetings 4. Sheffield. (Walkovsky) ii. Holding out by one entity that it is liable for the debts of the other Sheffield. c. Just getting stiffed is not enough to constitute an injustice (that would eviscerate limited liability!). Pepper Source) 1. Failure to hold board meetings 3. Walkovsky  the controlling shareholder of the cab companies was not liable to the P because there was no evidence that he was acting on his own personal behalf. Undercapitalization 4. Failure to keep separate books 5. 6. (Sea-Land) i. Failure to hold shareholder meetings 2. There needs to be something more – some fraud or illegality. Failure to issue stock 6.capacities and not in their corporate capacities. comingling his personal funds with that of the corporation. The commingling of funds or assets 3. he was not using the corporations for his personal purposes. 7. This is very difficult to prove. circumstances must be such that adherence to the fiction of separate corporate existence would sanction a fraud or promote an injustice. Sheffield. Use of one as a mere shell or conduit for the affairs of the other. Use of the same officers and EEs. Factors to determine whether a corporation is so controlled b y another to justify disregarding their separate identities: 1. Evidence in favor of control prong (that officer was controlling corporation as its alter ego) i. Disregard for corporate formalities 1. One corporation treating the assets of another corporation as its own 5. b. The court has to prove something more. like unjust enrichment. iii. Undercapitalization iii. Failure to appoint board 7. “A corporate entity will be disregarded and the veil of limited liability pierced when two requirements are met: a.

Also need to make sure that officers respect corporate formalities! . plus careful accounting for supplies. that there was comingling of funds between the corporations. a.” Reverse Veil Piercing 1. Parent/Subsidiary Control:  when will the parent company be liable for the liabilities of the subsidiary? 1. “an injustice”  “some elements of unfairness. viii. Holding: Limited partners do not incur general liability for the limited partnership’s obligations simply because they are officers. but the corporations do. ii. Need separate boards of directors and officers. When the shareholder doesn’t necessarily commingle funds. and are run as a single entity. Avoid enterprise liability a. They never acted in any direct. the corporation’s separate entity should be respected. or shareholders of the corporate general partner. conscientiously keep the affairs of the corporation separate from their personal affairs. packages. 3.iv. After piercing the veil to get to the controlling shareholder(s).” Planning  Avoid PCV and enterprise liability? 1. “When the shareholders of a corporation. v. product inserts. vii. vi. “With both PCV (piercing corporate veil) and reverse piercing. 4. They should not be allowed to dodge liability when it induced customers in believing that Bristol vouched for this product. Injustice in Silicone Breast Implants  Bristol permitted its name to appear in breast implant commercials. for borrowing drivers. personal capacity. Needs to be a showing of substantial domination. c. Piercing the Veil of a Limited Partnership  Frigidaire Sales Corporation 1. 208 In re Silicone Gel Breast Implants Products Liability 2. to improve sales and give the product additional credibility. 3. and no fraud or manifest injustice is perpetrated upon third persons who deal with the corporation. Don’t necessarily have to prove that the corporations were run as a single entity. Delaware: there does not need to be a showing of fraud if a subsidiary is found to be the mere instrumentality or alter ego of its sole stockholder 3. 2. This holding was justified because the P was never led to believe that the LPs were acting in any capacity other than their corporate capacities.” Enterprise Liability 1. directors. who are also the corporation’s officers and directors. Need separate books and bank accounts for each corporation. general approach is to avoid an over-rigid preoccupation with questions of structure… and apply the preexisting and overarching principal that liability is imposed to reach an equitable result. Avoid personal liability?  respect corporate formalities 2. something akin to fraud or deception or the existence of a compelling public interest must be present in order to disregard the corporate fiction. The totality of the circumstances must be evaluated in determining whether a subsidiary may be found to be the alter ego or mere instrumentality of the parent corporation. etc. then the controlling shareholder’s other corporations are also on the hook for the debt. Can use when controlling shareholder comingles his own personal assets with the other corporations. b. Factors listed in p. 2.

Because insolvency is fungible thing – courts have created this zone of insolvency. Fairness to EEs ii. See Stone v.” Dodge v. but he was allowed to spend more money on a new plant 5. May be more cost-efficient to have one corporation. one account. but part of duty of loyalty.d. or to the nondistribution of profits among stockholders in order to devote them to other purposes. you still owe your duty to shareholders. Primarily creditors.  directors have discretion on how to run the business – how to maximize profits – but that discretion does not extend to alter the purpose of the business. and does not extend to a change in the end itself.) Balance this with risk of liability e. at least equally important. Depends if the corporation is nearly insolvent i. of its board of directors…” 2. Primarily shareholders. Other states say that when you are in that zone of insolvency. Generally 1. and the business and affairs of the corporation shall be managed by or under the direction.” to everyone! Shareholders and creditors. = maintain competitiveness in the market b. to the reduction of profits. FIDUCIARY DUTIES i. Most.01  “All corporate powers shall be exercised by or under the authority of the board of directors of the corporation. In bankruptcy. These are: a. Ritter 3. you owe a fiduciary duty to the “corporate enterprise. Duty of Loyalty b. but in CANNOT: a. “A business corporation is organized and carried on primarily for the profit of the stockholders. and subject to the oversight. Eliminate liability for acts or omissions not in good faith . if the corporation is insolvent c. etc. Duty of Care c. In Delaware. DGCL §102(b)(7)  the articles of incorporation may eliminate or limit the personal liability of directors of the corporation or its stockholders for monetary damages for breach of fiduciary duty. until you are absolutely and unquestionably insolvent. (one board of directors. if the corporation is solvent b. With this power and control comes fiduciary duties to the owners of the corporation. This also includes: i. Some courts also impose a third duty – duty of good faith – Delaware Supreme Court recently opined that good faith not a separate duty.  Ford was not allowed to withhold dividends from the shareholders in order to pay EEs. Ford Motor Co. Objective of director’s duties = MAXIMIZE SHAREHOLDER VALUE a. i. MBCA §8. The discretion of directors is to be exercised in the choice of means to attain that end. These duties are owed to: a. d. you owe a duty to the bankruptcy estate 4. Eliminate the duty of loyalty b. The powers of the director are to be employed for that end. after all.

 in the absence of a showing of fraud. even if it seems off-hand like it hurts the business. A person seeking to rebut this presumption needs to show gross negligence.” Aronson v. b. diligence and care that a reasonably prudent person would exercise in similar circumstances. illegal conduct. their decision is final and not subject to review by the courts. “The directors are chosen to pass upon such questions and their judgment unless shown to be tainted with fraud is accepted as final. and (2) in a manner the director reasonably believes to be in the best interests of the corporation. – Rule of Law re Dividends a. Good faith is an element of the duty of care. iii. this ordinary negligence standard is modified in two ways: i. Only get it when there has been shocking actions by directors. conflict of interest. Very difficult to get liability for breach of duty of care. The Business Judgment Rule a.” Wrigley i. iii. the shareholders. Duty of Care (Business Judgment Rule) 1. When these two are combined. Reasonably prudent “business person” ii. Courts will generally leave dividends to the discretion of the directors b. shall act: (1) in good faith. Very similar to the negligence standard: directors must exercise that degree of skill. Dodge v.  the main purpose of the corporation is to provide profits to its investors. business decisions. But will intervene if refusal to pay amounts to “such an abuse of discretion as would constitute a fraud. when discharging the duties of a director.c. The judgment of the directors of corporation enjoys the benefit of a presumption that it was formed in good faith and was designed to promote the best interest of the corporation they serve. Can’t retroactively apply to prior breaches ii. The court will not speculate about the reasons behind the director’s decision. in good faith and in honest belief that the action taken was in the best interests of the company. 2. Ford Motor Co. The court held that Ford had to pay out dividends. However. Policy: trying to get bad actors. ii. b. because the Ford Motor Co was not an “eleemosynary” institution. This is very similar to the duty of care for agency and partnerships. not the ones making innocent. Liability for intentional misconduct d.” c. or other intentional wrongdoing ii. illegality or self-dealing by the directors. Lewis i. (Refusign to put lights on Wrigley field to have night games at home).” a. you rarely get a duty of care violation for directors.30(a): “Each member of the board of directors. or breach of… good faith. yet stupid. Liability for any transaction where the director derived improper personal benefit e. MBCA §8. . “A presumption that in making a business decision. Also tempered by the business judgment rule (BJR). the directors of a corporation acted on an informed basis. 3.

d. are destructive of the rights of stockholders. e. The duty of care tells directors don’t be negligent ii.70 2. The director does not have a defense in a.61 c. it be made to appear that the acts were fraudulent or collusive. Then the BJR insulates negligence liability – liability only for fraud or selfdealing or gross negligence. Then the burden is on the D to prove the decision was made in good faith/honest business decision. unless the party asserting liability establishes that: 1. Courts will not interfere unless 1. The burden is on the P to provide evidence that indicates the director’s decision was made in bad faith (some fraud. . The distribution of dividends is firmly within the matter of business judgment. self-dealing. Mere errors of judgment are not sufficient as grounds for equity interference – the powers entrusted to directors in mainly discretionary. Was taken without the director being informed to the extent reasonably believed appropriate under the circumstances iii.c. In §8. ii. The challenged conduct consisted or was the result of: a. A decision: i.31 – Standards of Liability for Directors i. grossly negligent). the directors’ powers have been illegally or unconscientiously executed or 2. Made with lack of objectivity (director’s familial. and 3. f. Which the director did not reasonably believe was in the best interest of the corporation ii. Receipt of financial benefit to which the director was not entitled or any other breach of the director’s duties to deal fairly with the corporation and its shareholders that is actionable under applicable law. iii. AMEX i. In §8. illegality. Action not in good faith b. or business relationship) or lack of independence (another person with material interests controlled) iv. A sustained failure of the director to devote attention to ongoing oversight of the business and affairs of the corporation v. A director shall not be liable for any decision to take or not to take action. BJR in Kamin v. Reconciling the DoC and the BJR i. MBCA §8. financial. The articles of incorporation b.

in good faith. The BJR presumes that directors make business decisions on an informed basis. Up to directors. g. and in the honest belief that the action taken was in the best interest of the company. “The directors’ room rather than the courtroom is the appropriate forum for thrashing out purely business questions which will have an impact on profits. Only a two-hour meeting. Van Gorkom’s oral presentation because it lacked substance – Van Gorkom was uninformed as to the essential provisions of the document he was talking about. Courts will not interfere with dividend decisions unless it first made to appear that the directors have acted or are about to act in bad faith and for a dishonest purpose. There is no protection for directors who have made an unintelligent or unadvised judgment. the stockholders do not have standing to challenge the directors’ decision in court. Uninformed decisions = gross negligence. directors have an obligation to inform themselves of all material information that is reasonably available to them. 2. these were not considered “reports” here because: a. The wall put up by the BJR will become softer if P can show a prima facie case of conflict of interest. (DGCL §141(e)) However. This can be rebutted by the Ps by indicating that the decision was uninformed. The diretors did not take time to do own research or read materials  they relied solely on Van Gorkom’s 20-minute presentation on the terms of the agreement (which Van Gorkom never read) 3. The directors had no prior notice of the purpose of the meeting (to vote on a merger by Marmon (Pritzker) until they got there. competitive situations. iv.  They had no idea that Van Gorkom was working out this deal with Pritzker until the meeting 2. so long as the directors are acting in good faith. and minority stockholders are not in a position to question this right (in court). 4. Van Gorkom  BJR in the Context of the Obligation to be Informed i. fraud. gross negligence  then the court will look a little more closely at the facts of the case instead of dismissing it outright. They had no time to review documents before hand. When making business decisions. v. iii. A complaint that alleges merely that some other course of action other than the one pursued would have been more advantageous gives rise to no cognizable cause of action  thus. market prices. ii. Why did court find decision was uninformed? 1.” vi. (self-dealing). . Directors are fully protected in relying on good faith reports made by other officers. or tax advantages. iv. bad faith.1.

b. Disclosure to and approval by the shareholders h. There needs to be process! (we hope that process will equate to substance and informed decisions). When the board is not fully informed in deciding to go to forward and presenting it to the shareholders. 2. c.b. Process usually = a parade of experts presenting their opinion on the terms of the merger. v. Bottom line: 1. Need to make sure other officers and directors are fully informed before they vote. Initiation c. BJR protects decisions 1. then the information provided to the shareholders is also incomplete. Francis v. The Board lacked sound valuation information  they depended on their knowledge of the history of the stock price alone  the Board accepted. Decisions must be well-informed decisions to be protected under the BJR. Both a decision to act and a decision not to act 2. 5. Also have duty to inform the shareholders (primarily arises in the merger context). the BJR does not protect a complete failure to make a decision.  best practices: get report from an objective reputable investment organization – they would do due diligence in valuating the company. Disclosure and approval by the directors f. Roman’s brief oral statement was irrelevant to the issues before the Board because it was not a valuation study (the Board did not make a valuation study). What happens when presumption is rebutted? (Ps provided evidence that indicates the board does not deserve BJR)  Burden on the D to prove the transaction was made in “entire fairness” to the corporation. Negotiation d. United Jersey Bank . The timing b. Factors to consider in “entire fairness” a. vi. However. 3. 1. a. without scrutiny. vii. Structure of the transaction e. BJR and Failures to Act i. Van Gorkom’s $55 per share valuation. This requires directors to gather and review all materials “reasonably available” to them prior to making a decision. The Agreement did not allow TransUnion to shop around – it limited its ability considerably. Part of a director’s fiduciary duty is to make sure you get the highest and best price for shares. c. There needs to be some sort of process to value the company.

billions of dollars.” b. ii. . “the business judgment rule. Usually the corporations are going into business for large sums. they cannot set up a defense of lack of knowledge needed to exercise the requisite degree of care. but not if she does nothing. It will protect if she tries and fails. Public Policy for protecting directors so much?  Personal liability can be a real deterrent for directors to want to serve on boards. Self-Dealing = “Participation in a transaction that benefits oneself instead of another who is owed a fiduciary duty.” Bayer v. Duty of Loyalty: “A person’s duty not to engage in self-dealing or otherwise use his or her position to further personal interests rather than those of the beneficiary.” c. Duty of Loyalty 1. iii. iii. however.i. those billions would be on the directors (for billions of dollars). i. yields to the rule of undivided loyalty. Alleged violations of the duty of loyalty not protected by the BJR. and if the corporation was sued. Beran 1. As a general rule: a director should acquire at least a rudimentary understanding of the business of the corporation. iii. Directors attacked for having allegedly violated the duty of loyalty are not protected from attacks by the BJR. ii. Because directors are bound to exercise ordinary care. Standard of review: most scrupulous care. purpose: to avoid the possibility of fraud and avoid the temptation of self-interest. Generally: a. “Dealings of a director with the corporation for which he is the fiduciary are therefore viewed with jealousy by the courts. The BJR will not protect a director when she completely fails to do anything about a problem.

When the D meets the burden to prove good faith and inherent fairness. iii. Corporate waste: the management of the corporation wasted the company’s assets to the detriment of the shareholders. The failure was systematic and continuous. No contract or transaction between the corporation and another entity. and ii. There is no duty to monitor the personal activities of corp executives. Outcome: If the P cannot show that the contract was unfair and a majority of the directors ratified the contract. 1. Conflicts of Interests  Voting by Interested and Disinterested Directors a. 5.2. 4. liability for failure to monitor if “a sustained or systematic failure to exercise oversight” or “an utter failure to attempt to ensure a reporting and information system. Ps claimed that the board of directors of the Martha Stewart Omnimedia had a duty to monitor Stewart’s personal trading. any reasonable business person 2. ii. Dealings? Was there bias in the dealings? b. This duty to monitor is lumped into the duty of loyalty d.” In re Caremark Int’l b. or . even though the disinterested directors be less than a quorum. Quorum i. In Bayer. “if there is any evidence of improvidence or oppression. iv. Fair price? What did the corp pay and what did they get in exchange? ii. The material facts of the directors’ interests are disclosed or known to the disinterested directors and the board or committee in good faith authorizes the contract or transaction by the affirmative votes of a majority of the disinterested directors.” Bayer Caremark and the Duty to Monitor (not in the book) a. Standard of Review: rigorous scrutiny Burden of Proof: on the director to prove the good faith and inherent fairness to the corporation. Court: it is unreasonable to impose a duty upon the Board to monitor Stewart’s personal affairs because such a requirement is neither legitimate nor feasible. any indication of unfairness or undue advantage. any benefits c. Martha Stewart i. ii. the transaction will be voided. Entire Fairness: i. a. There was an “utter failure” to monitor c. then the D wins. DGCL §144 – Interested Directors. In general. Very hard to prove. THE TEST: The transaction or the expenditure in question is so one sided that no reasonable business person could conceive that it benefits the corporation. the P has to show tha: i. Test: to show liability. in which one or more directors has a financial interest is void solely for that reason. it is then on the P to show corporate waste i. the court decided that because the contract was fair. as long as: 1. it was valid even though disinterested directors did not formally ratify it. 3.

approved.” ii. eBay Shareholders Litigation  the line of business isn’t always clear-cut. Generally i. DGCL §141(b): “…A majority of the total number of directors shall constitute a quorum for the transaction of business unless the certificate of incorporation or the bylaws require a greater number. When eBay directors took an IPO for themselves instead of giving to the eBay. they were found to be in breach of the duty of loyalty. If none of these are achieved: the director must prove that the contract or transaction was fair to the corporation at the time it was authorized. The votes of common or interested directors may be counted in determining the presence of a quorum. A corporate opportunity exists where: (Broz Cellullar) i. and for that reason. Corporation is financially able to take the opportunity ii. but they still need to be informed before voting DCGL §141(i). Targets: 1. 1. c. Dominant shareholders who take active role in managing firm iii. Officers and directors of a corporation 2. or 3. Court brought in agency – agents is under a duty to account for profits obtained personally in connection with transactions related to his or her company. “A corporate fiduciary agree to place the interest of the corporation before his or her own in appropriate circumstances. No . The material facts of the directors’ interests are disclosed and shareholders vote to approve the contract or transaction. §144(a) how corp protects itself from attack that there was a conflict of interest.2. (by ratification of disinterested directors) 6. Taking Corporate Opportunity (Corporate Opportunity Doctrine) a. iii. Objective: to deter applications of new business prospects “belonging to” the corporation ii. The court found that investment was in eBay’s line of business (even though the main function of the corporation is to run an online auction website). Opportunity is in the corporation’s line of business 1. b. because eBay had more that $550 million invested in equity and debt securities. What is a quorum? i. Although best practices is to have the interested director recuse himself from voting. Ebay Case a. or ratified ii. d. b. “The vote of the majority of the directors present at a meeting at which a quorum is present shall be the act of the board of directors unless the certificate of incorporation or the bylaws shall require a vote of greater number. Summary: i. §141(b)  how the company acts – is it authorized? Only votes where are quorum is present is authorized by the board ii. the transaction should be void. d. Impracticality of getting all board members present – directors allowed to vote by conference call.  a majority of the total number of directors need to be present in order for the board to vote and approve a transaction.” Broz Cellullar. b.” c.

and key players of the corp told Bro to go ahead. iv. In Broz. 4.1% or more of stock. 1. had sold off several similar franchises. Line of business = an activity as to which the corporation has fundamental knowledge. Embracing the opportunity would create a conflict between director’s self-interest and that of the corporation. 2. as not in the line of business) iii. Expectancy: takes something which. Martha Stewart vi. In Beam ex rel. ii. Corporation has an interest or reasonably expectancy in the opportunity 1. Interest: something to which the firm has a legal right 2. A company’s line of business is one that is intended to be profitable. Instead. Martha Stewart  if there is some time between that property and the nature of the corporate business 5. it is not a necessary prerequisite. Shareholders acting as shareholders owe one another no fiduciary duties. Controlling shareholders owe fiduciary duties to the minority – those shareholders that control the corporation must take the minority’s interests into consideration when making decisions. 7. v. v. Most courts assume that executives are knowledgeable about the corporation’s future plans. would come to the corporation 3. the corp didn’t have an interest or expectancy in the opportunity because they were getting out of that business. If you’re a majority holder -. Martha Stewart  court found that they did not take a corporate opportunity a. Basic Principles: i. c. Delaware law recognizes a policy of allowing directors of corporations to buy and sell shares of that corporation at will so long as they act in good faith. practical experience and ability to pursue b. Shareholders are always allowed to act in their own self interests (buy and sell as they please). then the burden is on the P to show corporate waste.50.  Goldman Sachs gave them the IPOs to keep them doing all of their investments with Goldman.  if the opportunity was disclosed to the board and the board approves the taking of the opportunity.  no single factor is dispositive. Disclosure: Presenting the opportunity to the board of the corporation creates a “safe harbor” for the director wishing to take the opportunity. . What is a controlling shareholder? a. the Court must balance all the fators as they apply to a particular case.doubt that eBay executives got the IPO because of their position as executives. 1. (the issuance of stock here. Although. Pleading ignorance is usually not a defense. Controlling Shareholder a. in the ordinary course of things.

The Relationship 1. 2. Test: is intrinsic fairness – used when the parent has received a benefit to the exclusion of the minority shareholder of the subsidiary and at the expense of the minority shareholders of the subsidiary. and detriment to. by virtue of its domination of the subsidiary. 1.” (full text of Sinclair?) Looking for the puppeteer. the minority stockholders of the subsidiary. Parent and Subsidiary Corporations i. 3.b. the burden is on the D to show the transaction was fair to the subsidiary. “Majority owned subsidiary”  parent company owns a majority of the stock of the subsidiary (at least 50. can show “domination by *that+ minority shareholder through actual control of corp conduct. If there is no self-dealing. Self-dealing occurs when the parent. then the BJR is the standard to be applied. DGCL §123 2. ii. b. iii. Used in situations of self-dealing – where the parent is on both sides of the transaction with the subsidiary (the parent is on one side and on the other as the majority shareholder of the subsidiary). Corporations can own the stock of other companies.1%) 4. . causes the subsidiary to act in such a way that the parent receives something from the subsidiary to the exclusion of. “Wholly owned subsidiary”  the parent company owns all of the shares of the subsidiary 3. Minority owned subsidiary”  parent company owns less than 50% of the stock. If not a majority holder.

8. 2. But. but because it dominated subsidiary. 3. An insider transaction may be ratified by: i. disclosing the intention to liquidate together with full information as to the appreciated value of Axton Fisher-s tobacco inventory. Transamerica Corp) 1. caused subsidiary not to seek breach of contract claims. Parties always have to be disinterested in order to achieve ratification. However. as the controlling stockholder. 2. the court found self-dealing  the parent was breaching on the contract by being late with payments.1. Instead. Axton-Fisher. Disclosure was key. Court in Speed v.  “a disinterested board of directors of Axton-Fisher would undoubtedly have exercised its power to call the Class A stock before liquidation. (DGCL §144(a)(1)-(2)) 1. to call its stock at a lower price than it would have gotten had they waited until liquidation. Parent allowed subsidiary to take the losses instead of paying on time. This does not insulate the issue from judicial review.” b. the stockholders could have exercised their option to convert stock to Class A. Transamerica. In Sinclair Oil. 4. Meanwhile. Ratification a. iv. A majority of shareholders (who are fully informed) voting in favor. Under Fliegler  a majority of the disinterested shareholders have to approve the transaction (it reads the word “disinterested” into the statute. That way. Transamerica Corp. Calls and Conversions a. When a majority stockholder votes as a stockholder. it caused the minority stockholder. he may have the legal right to vote with a view towards his own benefit and to represent himself only. 5. . the court found that the distribution of dividends beyond the subsidiary’s profit was BJR b/c the minority stockholders also benefited from the dividends. Transamerica should have disclosed to the minority stockholders that it was intending to liquidate Axton-Fisher. when the parent company votes as a director he represents all the stockholders in the capacity of a trustee for them and cannot use his office as a director for his personal benefit at the expense of the stockholders. had a duty to watch out for the minority stockholder’s best interest. a. in order to keep the excess profits for themselves.  a dominant or controlling shareholder or group of stockholders is also a fiduciary. Also found that parent was not taking corp opportunities 3. b. In this case. Difference between fiduciary duties of stockholders and directors: (Zahn v. parent had more cash in the coffers. Reasoning: §144 was meant to codify the common law. in contract between the parent and the subsidiary. A majority of the disinterested directors (who are fully informed) voting in favor ii.

negotiated through her professional agent d.i. Tennyson’s contract was on a standard form. Start with the BJR rule  wall comes up that presumes the directors were acting (1) with care. The interested director moved forward with the transaction for his own benefit and not for the benefit of the corporation 2. Subordinated to the ad of the company’s products. a. When a transaction is ratified by a majority of the minority shareholders (in a controlling shareholder situation). e. d. Majority of those disinterested approved. E. a director gets sued. No suggestion that the present program’s costs is disproportionate c. 2. i. Ways the P can knock that wall down: i. Waste = no person of sound business judgment would say that the consideration received for the options was a fair exchange for the options granted. Her compensation was in conformity with that paid for comparable work i. c. b. b. Hallmarks of a fair transaction? 1. c. (3) in the best interest of the company. f. When interested party cannot prove ratification  the burden is on the interested director to prove the contract or transaction was fair to the corporation as of the time it was authorized. Summary: a. Nothing to show that some other soprano would have enhanced the program b. Wheelabrator. Show self-dealing 1. There is a complaint. i. ii. . Burden is on D to prove entire fairness. c. When an interested transaction is properly ratified by a majority of the disinterested directors. by the board of directors. or ratified. (2) in good faith.g. If can’t prove ratification. DGCL §144(a)(3). She received les than any other artist on the program e. approved. a committee or the shareholders. then D has to prove that the transaction was entirely fair to the corporation. Within the range of terms that parties bargaining at arms-length might reach. Although she appeared with greater regularity than any other. this invokes the business judgment rule and the burden shifts to the P to demonstrate that the terms of the transaction were so unequal as to amount to a gift or waste of corporate assets. 9. Have to show that directors or shareholders were fully informed. The Ds still have to prove that the disinterested directors were fully informed about the material facts of the interested directors’ interests in the transaction ii. Now the burden is on the D to prove that his breach of the duty of loyalty (seeking personal transaction) was somehow blessed or ratified (§144). Bayer a. the burden shifts to the P to show unfairness. she received no undue prominence. That the decision was made in good faith. (use Bayer).

Never took the time to figure it out. If the P fails. Grossly negligent in negotiating the contract to hire Ovitz and it was not performed in good faith. or 3. the burden is on the P to show that the transaction was unfair. Upshot: i. in reaching their challenged decision. d. then the P has the burden of proving that the transaction was a waste of corporate funds. Where the fiduciary acts with the intent to violate applicable positive law. Failure to act in good faith may be found where: 1. If it is a director who is being sued. Eisner (former President of Disney that hired new one). Most courts now recognize a duty of good faith as a separate duty. The decision to fire Ovitz without cause was protected by the BJR. breached any one of the triad of their fiduciary duty – good faith. If the BJR presumption is rebutted. or due care. Corporate Waste Cause of Action . The whole inquiry under §144 under “entire fairness” 2. ii. A shareholder P challenging a decision of the board of directors has the burden at the outset of rebutting the BJR. Obligation of Good Faith (Separate Duty?) 1. iii. b. c. e. b. Disney Shareholder Ligation a. Conduct falling below best practices will not necessarily result in liability. Where the fiduciary intentionally fails to act in the face of a known duty to act. If D is successful in either (1) proving ratification or (2) proving fairness.3. loyalty. Identified three types of conduct that might constitute “bad faith. If it is a controlling shareholder being sued. To rebut the BJR. then the burden is on the Ds to prove the “entire fairness” of the transaction to the shareholder P. Generally a. The court acknowledges that this was not best practices but that the behavior was not so low as to violate the duty of care. demonstrating a conscious disregard for his duties. the BJR attaches to protect the corporate officers and directors. i. Sloppy. a.” but unclear as to how that fits into duty of care and duty of loyalty iii. a P assumes the burden of providing evidence that directors. and the board of directors i. b. then the burden is on the P to show the transaction was a waste of corporate funds or unfair (depends on who is being sued). They never calculated how much the severance package would be. ii. Shareholders sue Ovitz (new president). The fiduciary intentionally acts with purpose their than that of advancing the best interests of the company 2. Court finds that the board was fully informed c. though it used to be under the duty of loyalty. iv.

Ritter (Oversight means good faith) a.i. iii. then the system doesn’t work. so they should be liable. which includes an obligation for full disclosure and fees. There were no red flags to alert the board. They should have known but they didn’t c. i. ‘unconscionable case where directors irrationally squander or give away corporate assets. Having implemented any reporting or information systems or controls. iv. 4. This case is no longer current.” Govt slapped $50 million in fines and penalties. b. “To recover on a claim of corporate waste. They did have a monitoring system in place – a whole list of reports. Note: COA for waste very different from normal conception of “corporate waste” that comes into play in duty of loyalty. which carries the protection of BJR. “A claim of waste will arise only in the rare. This COA is under duty of care. sound judgment could conclude that the corporation has received adequate consideration. . To consider case under Gartenberg standard – adviser fee okay unless bears no reasonable relationship to the services rendered. i. Jones v. ii. paid by such registered investment company. but this system did not work because they had bad eggs (EEs) who did not follow through. EEs did not follow through – even the best-thought-out monitoring system and process. SCOTUS remanded the case back to the 7th Cir. Shareholders sue. Harris (Fiduciary Duty of Investment Advisor) a. 400 – 401. 36(b) i. It wasn’t like AmSouth was ignoring or intentionally refusing to comply with federal law. 3. b. “An investment advisor of a registered investment company shall be deemed to have a fiduciary duty with respect to the receipt of compensation for services. “ Investment company Act. P. or by the security holders thereof. But this monitoring system did not work because they had bad egg EEs. the plaintiffs must shoulder the burden of proving that the exchange was ‘so one sided that no business person of ordinary. and they didn’t. sec. d. but if people don’t comply with the process.  Tries to create a fiduciary duty where the common law may not typically create one. Here. Stone v.’” ii. Allegations that AmSouth failed to file “suspicious activity reports. to such investment adviser or any affiliated person of such investment adviser. Directors utterly failed to implement any reporting standards or information or controls. Let the market determine what is a reasonable fee c. Ps argue: i.’” iii. or of payments of a material nature. 1. Caremark standard i. the AmSouth did have a monitoring system. All we need to know: there is a fiduciary relationship here. The directors should have known about the illegal conduct. monitor or oversee its operation thus disabling themselves from being informed of the risks. ii.

Harm to a Corporation b.42(2)) ii. g.f. Someone outside the company brings a suit on behalf of the company against bad actors inside the company. Must be a shareholder at the time of the act or omission ii. Shareholder must meet additional pleading requirements (§7. Shareholders may file derivative suit (§7. f. When there are red flags. Otherwise. then the board needs to take action (under Caremark).41 & 7. Receive distribution upon termination e. Must make required showing 2. Corporation files suit against bad actors e. Purchase proportionate share of a new issuance or corporate stock to maintain current ownership percentage. Generally 1. Steps to Filing a Derivative a. If the board rejects demand or does not act for 90 days: i. Duty of Oversight i. showing intentional disregard. If the board accepts the demand: i. Can file a derivative suit to redress wrong suffered by the corporation (damages belong to the corporation). f. In order to show bad faith. Derivative Lawsuits a. ii.’” DERIVATIVE LITIGATION i. Corporation may appoint special litigation committee. The director got the red flags and did nothing about it.42(d)) iii. you must show tht the director intentionally fails to act in the face of known duty.42) i. Holding: directors met Caremark standard. Vote on limited range of issues b. “the obligation to act in good faith does not establish an independent fiduciary duty that stands on the same footing as the duties of care and loyalty” ii. Upshot i. “‘*a+ director cannot act loyally towards the corporation unless she acts in the good faith belief that her actions are in the corporation's best interest. Eligible shareholders must file a demand on the board (MBCA §7. Oversight = good faith ii. Receive payment of dividends when and as declared by board c. Brought ii. Must be fairly & adequately represent the interests of the corporation d. which can move to dismiss 1. A shareholder is . Summary: 1. No action by the board of directors c. derivative suit may proceed 2. Inspect corporate books and records d. e. Rights of Shareholders a.  beach of duty of good faith.

in this case. Derivative suits i. Called into question by Eisenberg. Traditional Test: a. and for that reason. suit is derivative 1. If the corporation. Their harm is derivative of the harm to the corp. 1. ii. (Class actions are typically a tip off that this is a direct suits). COA belongs to corporation iii. Derivative Suits a. Delaware Alternative – the Tooley Test a. To whom did the defendant’s duty run? i. The cause of action belongs to the shareholder in her individual capacity. 1. If corporation. Make a huge difference because there is no requirement (1) to post a bond (talked about in Cohen and Flying Tiger) or to (2) make a demand on the board (other cases in A16). c. Brought by a shareholder on corporation’s behalf. ii. Who suffered the alleged harm. The legal standard – How do you know whether it is derivative or direct? 1. the shareholders suffered. this suit was direct. then it is direct (Eisenberg) 1. the corporation or the stockholders. Direct v. although the shareholders suffer because the price went down. Direct suits i. Brought by the shareholder in his or her own name  because the harm affects the shareholder directly. individually? ii. If the shareholder suffered individually. These are often brought as a class action. 2. the Delaware Supreme Court adoted a two-pronged standard to be used in determining whether a stockholder’s claim is derivative or direct: i.not an agent of the comp (remember we have a divide between owners and managers) 2. Who would receive the benefit of any recovery or other remedy. Who suffered the most direct injury? i. Arises out of an injury done to the corp as an entity iii. Arises from an injury directly to the shareholder.” b. not the corporation. Definition of Derivative Suit: “A suit by a beneficiary of a fiduciary to suit by a beneficiary of a fiduciary to enforce a right belonging to the fiduciary. suit is derivative. the corporation or the suing stockholders. Ex: director embezzles all corp funds and causes the stock price to plummet  this is a derivative suit. because the corporation suffered. Plaintiff Qualifications – Shareholder Status . How? 2. Often takes the form of a class action b. iv. iii. especially a suit asserted by a shareholder on the corporation’s behalf against a third party (usually a corporate officer) because of the corporation’s failure to take some action against the third party. ii. In Tooley. individually? iv. For ex: Eisenberg  a dissolution in voting rights affected the shareholders individually. However.

b. 2.” Allison v. self-dealing. Must be sufficiently specific as to apprise the board of the nature of the alleged cause of action and to evaluate its merits iv. then they must prove that demand was futile. but directors were not. so its an important remedy 2. (which means the court will use the law of the state. bigger fees. i. vi. May be used for abuse: a. Can purchase various types of D&O insurance policies. Meritorious suits  settled too easily. Protection for directors and officers a. Today. . Must request that the board bring suit on the alleged cause of action iii. Supp. including certain legal liabilities.1. Role of the demand requirement  Bascially. shareholders need to ask the directors to sue themselves or a fellow director.). Typically very expensive iv.  the Court finds that expenses statute for derivative suits is substantive b/c it creates a new liability. vii. ii. Motors Corp. For ex: creditors may nor being a derivative suit. Demand Requirement 1. fraud. Typically. Strike suits  nuisance suits brought for settlement value b. does not cover gross negligence. iii. Del. MBCA §7. Indemnification Statutes – at common law. Cohen v. If the board refuses. even if cannot indemnify. etc. describe the factual basis of the wrongful acts and the harm caused to the corporation. ii. Shareholders are often helpless.42 by implication requires that must be a shareholder when suit commenced b. Public Policy Concerns (Derivative Suits) 1. 1106. 604 F. and request remedial relief. Beneficial Industrial Loan Co. a demand must identify the alleged wrongdoers. If they don’t demand the board to sue.. Insurance i. all states have statutory provisions authorizing director indemnification to some degree. §7. Its important to recognize that courts are allowing shareholders to override managers – limiting the independence of managers 3. MCBA §7. less risk (litigation =risk) c. 3. Have to be specific – tell the board you want it to sue for this specific reason. MBCA §7. Many states say also must remain a shareholder through final judgment. then shareholders can bring derivative suit. aff’d mem. 1117 (D. 782 F. Can insure. See DGCL §145. corporate EEs were entitled to indemnification for expenses incurred on the job.41 – limits standing to shareholders (derivative suits). not the federal rules of procedure)..2d 1026 (3d Cir 1985). 2. What is “the demand”? a. as well as a condition on standing. “At a minimum. Gen.41(2) – names P must be a fair and adequate representative of the corporation’s interests v. Typically a letter from shareholder to the board of directors i.41(1) – Must be a shareholder at the time of the alleged wrongdoing a. Derivative Suits allow shareholders to hold directors accountable. b/c lawyer usually has a huge incentive to settle.

unless the stockholder can allege facts with particularity . Finding grounds for futility is good for P. means you acknowledge that the board was disinterested 3. 1. Standards for demand futility? a. but must back up the allegations with some facts. i. There is reasonable doubt as to whether the board is capable of making independent decision to assert the claim if demand were made. for some other reason. Majority of board has a material financial or familial interest. b. NY Standard (Marx v. The board of directors is entitled to the presumption of the BJR in deciding to reject the demand. The P cannot just provide conclusory allegations. or iii. Directors failed to inform themselves to a degree reasonably necessary about the transaction. b. The basis for excusal would normally be that: 1. By default. presenting a demand. Shareholders must make a “demand” on the board before filing. request to inspect books and records b.b. including media and governmental agencies such as the SEC c. A majority of the directors are interested. can go straight to court  making a demand on the board waives your ability to claim that the board was interested. Wrongful refusal a. The shareholder can do this by using the “tools at hand” a. Akers) i. Meaning of “reasonable doubt”  the stockholder has a reasonable belief that the board lacks independence or that the transaction was not protected by the BJR. such as domination or control. Delaware Standard (Grimes) i. How to show demand is futile” 1. Interested = director will receive a direct financial benefit from the transaction which is different from the benefit to shareholders. These claims need to be made by the P with particularity. 2. 4. Ex: directors vote to increase their salaries ii. 2. the challenged transaction is so egregious on its face that it could not have been the product of sound business judgment of the directors. Challenged transaction not product of valid exercise of business judgment. 2. or 3. or 1. Majority of the board lacks independence. generally. unless the demand is excused because it would have been futile. ii. the P can claim that the board wrongfully refused to bring suit. Bottom line: P needs to show that there is some bias that prevents board from suing d. Majority of directors interested in the transaction (either from selfinterest or a loss of independence b/c disinterested director controlled by a self-interested director). When the P makes a demand on the board. use public sources.

The “independent director” versus “director independence” 1. advisory. Generally i. c. ii. “a director may not be ‘affiliated’ with the company or any of its subsidiaries. 5. The board of directors may create an SLC and take the suit away from the shareholders at any time it wants (Zapata) ii. iii. committee” and 2. . b. The SLC needs to be composed of independent directors. Showing wrongful refusal: i. The independent director: i. Tensions between accountability and authority: c. Concepts can and do overlap.creating a reasonable doubt that the board is entitled to the benefit of the presumption.” . Sarbanes Definition of “Independence”  for independent director 1. but equally important corporate concepts 2. Special Litigation Committees (SLC) a. “a director may not accept any direct or a director consulting. and a reasonable investigation. good faith. P must show that there is reason to doubt that the board acted independently or with due care in responding to the demand. The task: Balancing d. . or other compensatory fees from the company other than fees for service as a director or member of . The burden is on the corporation to prove independence. Two different.

3. Bennett (NY) i. then the court will not take down BJR wall. Maryland follows Auerbach. Two-step test for reviewing SLC recommendations: 1. So halfhearted as to constitute a pretext or sham e. Delaware also worries about structural bias – since the old board is the one that chooses the SLC. Have to have process to investigate a. which recommend dismissal. Did they get any benefits from the alleged wrong? 3. Shallow in execution iii. Did they have connections to the alleged wrongdoers? ii. The supreme court held that this did not render the board per se incapable of exercising independent judgment.e. The BJR will not completely insulate the SLC’s conclusion not to litigate. Similar to Auerbach  the board appointed to outside directors to head the SLC. iii. plaintiffs must “demonstrate that through personal or other relationships thedirectors are beholden to the controlling person. What would raise questions of good faith? i. The court may evaluate the process that the SLC took to come to the conclusion not to litigate. Did they on the board at the time of the alleged wrong? 2. “courts may properly inquire as to the adequacy and appropriateness of the committee’s investigative procedures and methodologies” c. In NY: for your SLC to be insulated from judicial reivew (BJ stands). Chief wrongdoer owned 47% of the corporation’s stock and allegedly had personally selected each board member. ii. Everyone on the board is independent and disinterested 2. Investigation restricted in scope ii. Questions of good faith or conceivable fraud is never shielded by the BJR 3. Zapata v.  Instead. g.  were these done in good faith? b. 2. Step 1: . d. Are the directors free from conflict or material interest? 1. Auerbach v. If the SLC had a sufficient process. Maldonado (DL) i. you need to have two things: 1. Director independence in the SLC context i.  otherwise. there is an opportunity for bias – and so the court will look at the decisions of the SLC with more scrutiny.” f. Oracle. ii. the decision by the SLC not to bring suit is “squarely within the” BJR. iv. Aronson v. the SLC may have to show that they have pursued their chosen investigative methods in good faith. Also involved a situation where you have a derivative lawsuit. Lewis – the case we cite for the BJR (one of the earliest recitations of the rule) 1.

. iv. P can try to being down the BJR wall by showing waste (waste?) iii.” 3. 2. Much criticism.  this case is cabined only into determining whether the SLC’s decision should stand – when directors in an SLC are biased. Stage in litigation: determining whether or not demand was futile 2. old test (Marx or Grimes) is still good when we’re determining whether demand is excused.  “to render a director unable to consider demand. There were too many collegial and other connections between the SLC members and many of the defendants.  if SLC passes this test. 1. Also. The SLC has to be more detailed about how it came to the conclusion not to sue – the courts will review it for soundness – make sure the process was done thoroughly and in good faith h. Inquiry into the independence and good faith of the committee b. Allegations of mere personal friendship or a mere business relationship. Found structural bias  there is cognitive bias in board-room decision making.” ii. incapable of making a decision with only the best interests of the corporation in mind. Social and collegial ties between directors and how that affects decision-making. That is. v. a relationship must be of bias-producing nature. iii. are insufficient to raise a reasonable doubt about a director’s independence. … focus on impartiality and objectivity. 3. for any substantial reason. Step 2: Court may go on to apply its own business judgment as to whether the case is to be dismissed. two of the defendants were potentially big-time donors to Stanford. Holding: Not independent. Later  In Beam v. then the rule is Zapata/Oracle  heightened standard for SLC: friendship leading to structural bias may be enough at this stage. The court will use its own business judgment. This is a real deviation from what we currently know about Delaware. Rule: “At bottom the question of independence turns on whether a director is. but it is still good law. Inquire into the bases supporting the committee’s recommendations. Oracle (Structural Bias) i.a. Found. Martha Stewart 1. standing alone. If the court has already decided that demand is excused.

PUBLIC COMPANIES i. “any note. Generally: a. 2.”  that . debenture. or.viii. bond. any interest or instrument commonly known as “security. Securities Act 1933 (“Securities Act”)  regulates the offering and sale of new securities in primary markets (directly from corporation to investors).  that companies have to make public regular financial reports. in general. investment contract. stock. 1. Also requires all the substantive disclosures by companies. Created and enforced by the Securities and Exchange Commission (SEC) b. Key Statutes i. not directly from the company to investors. Securities Regulation 1. ii. Summary: Litigation Tree Special Litigation Committee Analysis => P may sue to determine whether directors in committee were biased g. What is a security?  Securities act §2(a)(1) i. Securities Act of 1934 (“Exchange Act”)  regulates secondary trade – so sale of shares from one investor to another.

): A bright line standard that says that because partners have a legal right to control the firm a general partnership interest is never a security . Investing in a common enterprise 1. Vertical commonality  relationship between investors and promoter of the scheme. since he took an active role in the management of the company. shareholders of a corporation 2. in a common enterprise and 3. but no pooling of interests by multiple investors. General Application to Partnerships 1. (did this group of people get together and expect to put their resources together into this one common area? What was the expectation?) b. Have to look at the economic realities of the case: 1. There is a circuit split: some courts have ruled that ownership in a partnership is never a security.language is the one that creates litigation. provides fodder for creative lawyers.  Now “sole or substantially”  the USSC recognized that the previous language was too restrictive. Glynn i. However. What is an Investment contract  where we see a lot of litigation 1. ii. Fact-intensive analysis  do the Howey test to see if investment contract is a security. Court left the door open to the possibility of an ownership interest in an LLC may be a security iv. Goodwin v. Elkins (3d Cir. a. Horizontal commonality  relationship between an individual investor and the other investors who put money into the scheme.g. 5. US 1946) iii. Howey.. E. c. a contract. a. ii. Requires pooling of interests. (SEC v. v. he was not depending solely on the efforts of the promoter or a third party. 2. 2. Requires that the investor and the promor of the scheme by involved in a common enterprise. iii. solely (“or substantially”) from the efforts of the promoter or a third party. 2. is led to expect profits 4. What was the expectation? Why was the investor giving money? There is usually a business or charitable purpose. transaction or scheme whereby a person invests money. Robinson became a partner at the LLC because he invested $10 million into the LLC. Holding: interest in the LLC was not considered a security (an investment contract) because P (Robinson) was an active and knowledgeable executive at the LLC. while others have left the door open. rather than a mere passive investor. Is a LLC or Partnership Membership Interest a Security?  Robinson v.

Filing the Registration Statement: i.g. de Escamilla. iv. or even 4 revision and amendments before the SEC will approve. And the SEC often send comments back. or c. (2) the investor is so inexperienced or unknowledgeable in business affairs as to be incapable of exercising his or her legal rights. Can’t start selling until the SEC approves.3. Can’t talk to investors. Tucker (5th Cir. Limited partners have limited control rights. advertising anything. E. Full disclosure: make sure that investors have all the information they need to make informed decisions ii. The prospectus is distributed to investors ii. Can’t sell any stock until the registration statement is filed. Then. 2. iii. Disclosure Obligations: c. Some courts therefore adopt a per se rule that limited partnership interests are securities. Purpose of these laws: i. but sale is still not permitted.. A security might be present if a. . An error in the prospectus can cause you to be in violation – fraud. though RULPA gives greater rights 2. Holzman v. Application to Limited Partnerships 1. But limited partners can exercise considerable de facto control. (3) the investor is so dependent on some unique entrepreneurial or managerial ability of the promoter that the investor cannot exercise meaningful partnership powers vi. (1) the partnership agreement deprives one or more partner of his legal control rights. Williamson v. once the filed. Registration Process a. only private negotiations with the underwriter. b. 3. and the statement will go through 2. the company can start talking about offers. essentially leaving him in the position of a limited partner.): Look beyond the bare scope of partnership law and consider the economic realities. a. Prevention of fraud: agency cost problem re disclosure – how to make credible bond? b.

any person acquiring such security may sue: a. Certain transactions: 3. Exemption: private offering exemption e. Important Civil Liabilities i. Calculation of damages – price it was sold at (minus) the price it should have been sold at given the untrue statement or misrepresentation. Every person who. or any person whose profession gives authority to a statement made by him (experts). engineer.1. appraisers of the statement a. who has with his consent been made as having prepared or certified any part of the registration statement. Section 5a  prohibits sale. any director of the company. or appraiser. loans from banks (would chill the market if banks had to get approval from SEC every time they wanted to extend money to the market/individuals). ii. Every person who signed the registration statement b. is named in the registration statement as being or about to become a director or partner d. d. Those not in public offering b. Section 4 – exempted transactions a. Every person who was a director or partner in the issuer at the time of the filing c. 1933 Act §11 1. Every accountant. 2. . Fraud in the registration statement  (a) if any part of the registration statement contained an untrue statement of a material fact or omitted to state a material fact required to be stated therein or necessary to make the statements therein not misleading. b. notes. Certain securities: i. Selling Securities under the Securities Act of 1933 f. with his consent. Untrue statement of material fact. Section 11 and 12  where all the liability falls  expressly creates a private action remedy. Can sue every person that signed the registration statement. Private citizens and investors can bring actions against you.

For officers: i. BarChris e. other than the issuer. ii. you have to show that you did a reasonable investigation of what is . after reasonable investigation. Court says that doesn’t matter. at the time the registration statement because effective. and ii. Experts are only liable for the expertised portion of the RS. can’t argue that they are not financially literate enough to understand that there were misstatements in the RS. when that person had. Such part of the registration statement became effective without his knowledge 4. Part of the duty of care is to acquire the level of sophistication necessary to perform job well. Had. who can prove: a. he i. reasonable grounds to believe and did believe. that the statements were true and that there was no omission of a material fact required or necessary to make the statement not misleading b. reasonable ground to belive and did believe. Such part of the registration statement did not fairly represent his statement as an expert or was not a fair copy of or extract from his report or valuation and c. that the statements were true and that there was no omission of material fact… ii. 3. He advised the commission and the issuer in writing that he had resigned and that he would not be responsible for such part of the registration b. For experts: i. Other exceptions: (b) persons. Resigned. Due diligence defense: a. Every underwriter with respect to such security 2. Francis (drunk widow case). With regards to any part not purported to be made by an expert. Exceptions in subsection (b): a. have to show that they did a reasonable investigation and had a reasonable belief. after a reasonable investigation.i. That before the effective date of the part of the registration statement for which he was responsible. If you’re an officer or director that signed the registration statement.

Rule 10b-5 .put forth in the registration statement. Number of units offered 3. and you have to believe its true. Non-experts for expertised portions: reasonable belief ii. Relationship to issuer: i. Size of the offering 4. Petroleum Mgmt Co.) b. b. Implied private rights of action 1. 1933 Act §12(a)(1) 1. Manner of offering 3. Factors: 1. 1933 Act §12(a)(2) 1. For experts: reasonable investigation. Small number (8 in Doren v. Private Placement Test: i. fraud in a prospectus or oral sales communication iv. Oferees’ access to information 2. Strict liability for illegal offers and sales 2. Number of offerees and relationship to issuer a. Rescission remedy iii. 1934 Act §14(a) and proxy rules g. These do not apply to small private placements  Securities Act §4 “the provisions of section 5 shall not apply to transactions by an issuer not involving any public offering…” h. reasonable belief c. Offerees’ knowledge and sophistication ii. 1934 Act §10(b) and SEC Rule 10b-5 2.

and 1. manipulate. or defraud. Basic v. Livingston i. Were Basic’s statements materially false? 1. on the other. Somewhere in the middle. State of mind: a. reliance is presumed. Any merger discussions are material to shareholders to decide what to do with the stock of the company. Basic 2. but the board consistently denied them. Key Elements i. ii. Material fact = if there is a substantial likelihood that a reasonable shareholder/investor would consider it important in deciding how to vote. the facts become material. There is a spectrum  when the talks are preliminary on one side of the spectrum. Required in private party litigation 3. Basic had been negotiating a merger for 2 years. Basic ii. In omission cases. Hard to prove iii. Or with a reckless disregard of falsity of statement 2. made with scienter 1. b. 2. in connection with the purchase or sale of securities iv. a material misstatement or omission 1. Rumors circulated about the deal. that caused the plaintiff’s injuries b. Materiality will depend at any given time upon a balancing of both the indicated probability that the event will occur and the anticipated magnitude of the event in light of the totality of the company activity. “Fraud on the market theory” v. and when the deal is done. Affiliated Ute Citizens of Utah 2. . Mistatements were made with the intent to deceive.a. Required in SEC actions 4. one which the plaintiff relied.

. vii. 4. Factors that a merger is close at hand: a. misleading statements will defraud purchasers of stock even if the purchasers do not directly rely on the misstatements. Prudential Securities.  neither the identity of Hoffman’s customer not the volume of their trades would have conveyed information to the market in this fashion (b/c Hoffman was an investment advisor who was telling his private clients information – none of this was public). The causal connection between the D’s fraud and the P’s purchase of stock in such a case is no less significant in a case of direct reliance on a misrepresentations. Instructions to investment bankers c. Semi-strong form: the price reflects all the publically available information on the market 2. iii. If the transaction occurs in a more personal environment. when proof of reliance is an issue? c. vi. DE and CA have rejected this theory.Fraud-on-the-market theory i. then the P would have to show actual direct reliance. in an open and developed securities market. Therefore. Board resolutions b. current prices always and fully reflect all relevant information about the commodities being traded 1. Reliance element . The Efficient Capital Markets Hypothesis (ECMH)  In an efficient market.3. publically and privately available – the market always knows. When to disclose material facts: materiality will depend at any given moment upon a balancing of both the indicated probability that the event will occur and the anticipated magnitude of the event in light of the totality of the company activity. Actual negotiations between principals or intermediaries iii. iv. 3. Strongest form: that the price reflects all the information. a. the price of a company’s stock is determined by the available material information regarding the company and its business. explicitly rejects this form in West v.  Do not need to prove direct reliance when purchase made on the open market? ii. Inc.  the 7th Cir. Presumption that investor relied on integrity of market price – so investor need not have seen the misrepresentation. v. This presumption can be rebutted when the investors knew or should have known the information. Is this a proper class action. the fraud on the market theory is based on the hypothesis that.

The stock was priced. the stock price would not have risen. Closely related to reliance b. Have to show that the misrepresentation caused the stock price to rise.viii. Presumption of Causation? 1. d. Where reliance is presumed. but require heightened standards. . But for the fraud. Transaction causation a. Amedisys. How do we know if the market is efficient? Unger v. For this. and that information had been taken away or corrected. Omission b. Fraud caused a loss. Problems with Class Certification 1.’” You have to show more. E. have to use experts. Because of that. Ps have to prove a. iii. but you also have to show that but for that information not being there. etc.  Isolate the price movement. stock tanks due to market decline. Two Types of Causation (have to prove both) 1. Loss causation a. Akin to proximate cause b. Loss causation is not presumed. market doesn’t believe the misrepresentation. ii. which is difficult in a noisy market. we wanted some control over class action litigation – so Congress passed the Private Securities Litigation Reform Act of 1995 – it doesn’t take away the right to sue as a class. P would not have invested (or sold.) 2. “An inflated purchase price will not by itself constitute or proximately cause the relevant economic loss needed to allege and prove ‘loss causation. The court will require more to show a prima facie case.g. there would have been a differential. not artificially. court will also assume transaction causation a. Causation – Misrepresentations caused P’s injuries i. b. Fraud on the market  typically with affirmative misrepresentations 2.

When causation is presumed – easier to sue as a class e. Holding: Conduct only violates Rule 10b-5 if it is manipulative or deceptive within the meaning of the statute. that are intended to mislead investors by artificially affecting market activity. Manipulation = term of art that refers generally to practices. Types of manipulation: a. An option is a security. White wash = a wash sale occurs when you sell or trade stock or securities at a loss and within 30 days before or after the sale. Standing = need to have been a purchaser and seller of a corporation’s securities i. (like Sinclair Oil) They wanted to benefit at the expense of the minority holders. However. Scienter Element  Santa Fe Indus. such as wash sales.2. Acquire a contract or option to buy substantially identical stock or securities. matched orders. f. ii. 2. and after. 3. you: i. We delegate most corporate governance standards to the states. but have to be a buyer or seller of a security. Deutschman  court held that a call option holder had standing to sue. i. Insider Trading . ii.  these activities affect supply and demand of the stick you are acquiring (inflates or decreases price). iv. P’s alleged that the parent company obtained a “fraudulent appraisal” and gave them less than the company was worth after a short-term merger. or rigged prices. unless you hold stock before.  that is not what was going on in this case.  They essentially claim a breach of duty of loyalty – that the parent company manipulated the appraisal to give minority stockholders less. Acquire substantially identical stock or securities in a fully taxable trade iii. That is under the realm of state law. Can also be a option-holder or a bond-holder. This is to deter frivolous class actions. during. you do not have standing. 1. Buy substantially identical stock or securities ii. Federalism argument: This federal statute does not cover actions for breaches of fiduciary duties. ii. 3.

Materiality and Texas Gulf Sulphur . indirectly. Property Rights Analysis a. and therefore not liable. the D did not have a fiduciary duty to the P. No insider trading. b. Evolution of State Common Law  has moved away from this. Have to disclose material information before selling. Assumes the market cannot adjust prices when there is material nonpublic information 3. 9. 8. It can be anyone who has a duty to disclose but trades on that confidential information anyways. If we allow certain individuals to capitalize on unknown information. reporters at Wall Street Journal. Insider Trading and Market Efficiency: a. 5. Information was highly speculative (materiality). (1) the purchase or sale of a security on the basis of nonpublic information about that security of issuer. Agassiz a. Definition: illegal insider trading means a trade that violates breach of loyalty to the corporation. The rationale for prohibiting insider trading is precisely the same as that for prohibiting patent infringement or theft of trade secrets b. Assumes that ECMH strong form is false (that the market knows everything – wouldn’t be a reason for punishing insider trading otherwise). ii. Holding: Defendants had no duty to disclose before trading. Now with electronic trading. being a director or officer for a public company ii. you may only need to wait a few seconds. because they are trading based on non-public information. i. “on the basis of” = person making the purchase or sale was aware of the material nonpublic information hen the person made the purchase or sale. Majority Rule: There may be a duty to disclose when there are special circumstances that are causing you to trade.1. Relief in civil case brought by the SEC i. printers. iii. (2) in breach of a duty of trust or confidence that is owed directly. b. or derivatively to the issuer of that security or the shareholders of that issuer b. Federal Rule: you either hold or disclose. Minority Rule: Insiders have a duty of full disclosure of material information whenever they purchase shares from shareholders. May apply to lawyers. Goodwin v. Private suits 10. that will chill the market. 4. “manipulative and deceptive devices” prohibited by Rule 10-b includes: i. Treble money sanctions under ITSA b. Where does insider trading come from?  Rule 10b5-1 a. Injunctions  forbidding violator from being EEed in the securities industry. The duty ran to the corporation. Disgorgement of profits iii. 2. There was no face-to-face transaction. 6. The transaction was at armslength in the market ii. etc. Criminal indictment c. It’s really an innovation argument that has won the day. 7. Penalties a.

” i. With respect to contingent facts: probability/magnitude balancing (Basic) b. ii. without disclosure of such use to the principal. the investing public 11. but the insider herself is not doing the trading. d. Whether there is a substantial likelihood that a reasonable investor would consider the omitted fact important in deciding whether to bur or sell securities. A tippee therefore can be held liable only when: i. b. the courts must determine whether the insider personally will benefit. “The essence of the Rule is that anyone who … has “access. “arising from his role as a participant after the fact in the insider’s breach of a fiduciary duty. i. Legal rule: Where an insider has material nonpublic information the insider must either disclose such information before trading or abstain from trading until the information has been disclosed.e.” c. “The Rule is based in policy on the justifiable expectation of the securities marketplace that all investors trading on impersonal exchanges have relatively equal access to material information. b.a. Held: The misappropriation theory is a valid basis on which to impose insider trading liability. and ii. rather she is sharing the information with an outsider and that person using that information to buy or sell. 482 12. The tipper breached a fiduciary duty by disclosing information to the tippee. Tipping involves an insider. Looking at objective criteria. General Test: i. Preserving the BJR? e. from his disclosure. Holding: In general. Is the mere fact of the tip a sufficient breach?  No. directly or indirectly. iii. Chiarella. the tippee’s liability is derivative of the tipper’s.” 2. for personal gain constitutes fraud in connection with the purchase or sale of a security and thus violates Rule 10b-5. or gifts. p. ii. Rationale: 1. to information intended to be available only for a corporate purpose and not for the personal benefit of anyone” may not take “advantage of such information knowing it is unavailable to those with whom he is dealing. Insider defendants i. ii. enhanced reputation that will translate into future profits. Pecuniary gain. Tipping and Dirks v. . Misappropriation  O’Hagan a. The tippee knows or has reason to know of the breach of duty. SEC a. directly or indirectly. *** A fiduciary’s undisclosed use of information belonging to his principal.

who possesses material. i. ii. nonpublic information about it iii.. Rule 10b5-2  provides a non-exclusive list of three situations in which a person has a duty of trust or confidence for the purpose of the misappropriation theory: i. pattern or practice of sharing confidences. Is not premised on breach of a fiduciary duty  but O’Hagan upholds it anyways h. nonpublic information about the offer from trading in the target’s securities ii. Whenever the person communicating info and the person to whom it is communicated have a history. Shareholder Voting a. MGM 1. Under plurality. mergers [DGCL §251] and amendments to certificate of incorporation [DGCL §242]) c. b. Who pays for proxy solicitation? . Proxy Rules and Shareholder Proposals i. to solicit … any proxy … in respect of any security … registered pursuant to Section 12 of this title iii. Rule 18e-3(D) prohibits anyone connected with the tender offer from tipping material. such that the recipient of the info knows or reasonably should know that the person communicating info expects the recipient to maintain confidentiality. by use of the mails or by any means or instrumentality of interstate commerce or of any facility of a national securities exchange or otherwise.g.c. Incumbent board sets record dates and prepares proxy and annual report 3. in contravention of such rules and regulations as the Commission may prescribe as necessary or appropriate in the public interest or for the protection of investors to interest or for the protection of investors. Rule 14e-3  Prohibits insider trading during tender offer and thus supplements Rule 10b-5. Securities Exchange Act §14(a)  “It shall be unlawful for any person. Directors voted by plurality [DGCL §216(3))] i. By putting them all on one person is going to help. Incumbent board sets agenda b. the shareholder can put down number of votes for any director. Tule 14e-3(a) prohibits anyone. that the shareholder wants to elect to the board. pattern. may be more than one. Incumbent board committee selects director candidates 2. DGCL §211(b) a. Once substantial steps towards a tender offer taken. Levin v. Certain matters require vote of majority of outstanding shares (e. ii. except the bidder. Cumulative voting allows shareholders to take all of their votes and put them for one director. The Annual Meeting 1. unless recipient shows that history. or practice indicates no expectation of confidentiality. or sibling. DGCL §216 – Decisions must be approved by the vote a majority of the shares present. Whenever a person agrees to maintain info in confidence ii. Whenever the info is obtained from a spouse. or iii. child. parent. d. --> distinguished from cumulative voting.

Include with opposing statement 3. No violation of proxy rules or regulations to pay outgoing board of directors. AFSCME v. Proxy contests are time consuming and expensive b. In general. Summary of Levin and Rosenfield: 1. If directors are not allowed to freely answer challenges of outside groups and in good faith defend their actions. and is not otherwise significantly related to the company’s business 3. Lovenheim v. May reimburse for policy (which direction should the corporation take? This rests heavily on BJR). Economic 1. May reimburse only reasonable and proper expenses 3. disclosure. Rule 14a-8 – Shareholder Proposals 1. Construed to preclude shareholders from nominating director 2. vi. b. Inc 2. Rule 14a-8(i)(8) precludes proposals relating “to an election for membership on the company’s board of directors” a. Expenses thus borne by the company Usual Response to Proposals 1. Attempts to exclude on procedural or substantive grounds a. and 4. insurgent only entitled reimbursement if they win c. And have proxies solicited in favor of them in the company’s proxy statement b. Rosenfield  management may look to the corporate treasury for the reasonable expenses of soliciting proxies to defend its position in a bona fide policy contest. Wide range of possible compromises . Iroquois Brands ii. Must have specific reason to exclude that is valid Rule 14a-8 b. May reimburse incumbents whether win or lose. Holding: a. Court found this to be a question of policy. Bottom line: it is really hard to unseat an incumbent group of directors. 3. It is very expensive to have proxy fights. Grounds for excursion: i. Disclosure. Negotiate with proponent a. but not personnel disputes (not for self-perseveration) 2. But when should corporations pay for incumbents’ expenses? 2. Not otherwise significant 2. Rule 14a-8(i)5): If the proposal relates to operations which account for less than 5 percent of the company’s total assets at the than 5 percent of the company’s total assets at the end of its most recent fiscal year. Elections 1. v. May reimburse insurgents only if they win and with shareholder ratification (fully informed with full disclosure of expenses). AIG.iv. Allows qualifying shareholders to put a proposal before their fellow shareholders a. a. disclosure  the incoming disclosed all material facts about reimbursing outgoing board. not personnel. and for less than 5 percent of its net earnings and gross sales for its most recent fiscal year. vii.

i.

4. Adopt proposal as submitted viii. Proxy Access 1. Big push after recession to allow more shareholder access to corporate matters. 2. Delaware enacted legislation effective August 2009 – can allow by amending bylaws to allow shareholders more voting power. 3. SEC proposed a rule that allowed long-time shareholders more voting power – but a DC CC vacated the rule, holding that it was arbitrary and capricious. Shareholder Voting Control i. Voting for Directors 1. Straight v. cumulative a. Straight  If there are four directors, the most I can vote for any directors are my number of shares, for each director. Majority shareholders dominate. i. “Under straight voting each shareholder votes the number of shares he owns for as many candidates as may be elected.” b. Cumulative  I have eight votes to cast, and I can cast these votes any way I want. I can put them all in one director, or spread them out. It gives minority shareholders a little more power. i. “Under cumulative voting, which is a procedure designed to give some control to minority shareholders, each shareholder gets a black of votes equal to the number of shares he owns multiplied by the number of directors to be elected.” 2. Plurality v. Majority a. Plurality  whoever gets the most votes. b. Majority  the candidate needs to get at least 51% of the vote. i. Get more qualified candidates in the seats. ii. If only one candidate gets 51% of the vote, then that is the only person appointed to the board and there are vacancies to fill. iii. Usually combined with straight voting. (would probably be much more challenging under cumulative). ii. Common Stock as Bundle of Rights for Shareholders 1. (nice, because we have been focusing on directors the whole semester. But there aren’t a whole lot of rights that attach to the shareholder status). 2. Economic Rights a. Receive dividends (distribution of profits) when and as declared by the board of directors. b. Residual claim on assets in liquidation. 3. Voting Rights a. Elect directors (though not as powerful as it seems, since the incumbent board determines the slate of directors to be nominated)/ b. Approve some extraordinary matters. Like whether to decide to merge or liquidate. 4. These rights can be determined by contract. a. There is huge flexibility in the LLC b. There is much less flexibility in the structure and governance of the corporation. There are state statutes that govern what you can do with your ownership interests. Whether you can parse them out into classes of stock, whether or not you can give more voting rights to one group over another is all determined by state law. 5. Packaging Rights a. MBCA §6.01(b) i. At least one class with unlimited voting rights ii. At least one class with residual claim. iii. May be the same – but need not be.

b. MBCA §6.01(c)  Authorizes nonvoting stock and other variants on one shareholder vote. c. You can have a variety of combinations. The MBCA is incredibly flexible. d. The MBCA is very liberal, some states are more restrictive. Need to look at state law. e. All these conditions must be set forth in the articles of incorporation. If you wantto change the, have to amend the articles, which is more tedious. 6. Special Voting Rules a. Election of directors by plurality b. Cumulative voting c. Voting by groups i. You can have series of common stock (Class A, B, C, preferred). ii. You can divide the election of directors by class (Class A elects 2 directors, Class B elects 2). d. Some boards do not get elected every year. Some boards are staggered boards, only three of them are up for reelection every year. It’s really an anti-takeover device. If someone is trying to take over the company by buying a majority of the stock, then the person has to wait a few years before the majority stockholders can have control over the board. Most times, management has reason to be leery of who is buying up the majority of stock. iii. Stroh v. Blackhawk Holding Corp.  1. a share could contain any of those three types of rights (economic, ownership, or voting) and still be valid. 2. Current law?

V.

Closely Held Corporations
a. Close corporation typically defined as: “One in which the stock is held in a few hands, or in a few families, and wherein it is not at all, or only rarely, dealt in by buying or selling.” Galler v. Galler. b. Characteristics: i. Held in few hands ii. No secondary market for shares iii. Governed by state statute 1. In most states, you can’t have more than 30 or 35 shareholders. 2. You have to agree to not become a public company, agree not to sell shares on the secondary market 3. In exchange, you get much more flexibility in governance. You don’t need to have a board of directors, can eliminate annual meeting, can do a lot more with written consent instead of in-person meetings, etc. 4. Not every state has close corporation statute. c. Contrasting Close and Public Corporation Shareholders i. Public corporation shareholders 1. Usually have small % of shares as part of a diversified portfolio. 2. Interested in share price. 3. Aren’t really vested in the future of the corporation. If they’re dissatisfied, they sell. ii. Close Corporation Shareholders 1. Often undiversified 2. There is a different dynamic, usually involves family and/or close friends. 3. Personality conflicts can lead to deadlock or oppression. 4. If you breach your fiduciary duties, the shareholders have a right to bring a derivative suit, but very messy because the shareholders are often the directors themselves. The likelihood of an actual lawsuit being filed is low. Litigation is less frequent. d. Solution to Deadlock i. Voting Trusts

1. An agreement among shareholders under which all of the shares owned by the parties are transferred to a trustee, who becomes the nominal, record owner of the shares. 2. The trustee votes the shares in accordance with the provisions of the trust agreement, if any, and is responsible for distributing any dividends to the beneficial owners of the shares 3. DGCL §218  copy of trust document must be filed with corporation’s registered Delaware office 4. Under older Delaware statute, voting trust duration could not exceed 10 years ii. Voting Pool Agreements: Enforcement Mechanisms 1. Ringling Bros a. Overview of Facts: i. The arbitrator made a wise suggestion, but there was a problem with the arbitration agreement  it was not self-executing. There was nothing in the agreement that was self-effectuating of what the arbitrator decided. It just said that the arbitrator’s decision was binding on the parties, but nothing stopped the parties from voting how they liked (like a provision that said the arbitrator shall vote for them, or something like that, those votes will automatically be cast). ii. The court decides that the Haleys should be taken out all together, since they breached their agreement. So, the elected directors are Edith, Rob, Dunn, John, Woods, and Griffith. b. Enforcement: i. Specific performance was not granted. Why? ii. It would be unfair on North, he didn’t do anything wrong. iii. There are sort of contracts that the court are uncomfortable in enforcing, because it would be involuntary service. Courts are very reluctant to enforce voting, ground that in the reluctant to enforce service contracts. Try to structure a remedy that will bring about a fair result, but also one that does not force someone to perform a service or vote in a particular manner. c. Problems for Noos – valuable lesson i. Agreeing to serve as a mediator or arbitrator, particular ethical obligations ii. Making sure you are thoughtful of conflict resolution. Make sure you don’t cross the line beyond ethical obligations iii. So its probably good that the court took him out of the equation. 2. McQuade v. Stoneham a. Holding: The agreement is void as against public policy. i. Court really dissects the agreement – determines what realm are within shareholder spheres, and which are not. ii. Directors must exercise their independent business judgment on behalf of all shareholders. An agreement that limits the decisions of directors in the future is void as against public policy. iii. The Court saw that some other provisions as crossing into the management power sphere. To be effective, a board of directors needs to have flexibility in how they conduct management. These shareholders should be able to agree on how the directors will manage the corporation. iv. If directors agree in advance to limit their judgment, then shareholders do not receive the benefit of their independence. v. General rule: shareholders do not owe duties to each other. So shareholders can unite 3. Clark v. Dodge

a. The restrictive parts of the agreement were okay because all the shareholders were a party to the agreement.  Unlike McQuade. b. Also, they were both residual owners of the company and they managed it, so they owed duties only to themselves. 1933 SECURITIES ACT Section 11 a. Persons possessing cause of action; persons liable In case any part of the registration statement, when such part became effective, contained an untrue statement of a material fact or omitted to state a material fact required to be stated therein or necessary to make the statements therein not misleading, any person acquiring such security (unless it is proved that at the time of such acquisition he knew of such untruth or omission) may, either at law or in equity, in any court of competent jurisdiction, sue-1. every person who signed the registration statement; 2. every person who was a director of (or person performing similar functions) or partner in the issuer at the time of the filing of the part of the registration statement with respect to which his liability is asserted; 3. every person who, with his consent, is named in the registration statement as being or about to become a director, person performing similar functions, or partner; 4. every accountant, engineer, or appraiser, or any person whose profession gives authority to a statement made by him, who has with his consent been named as having prepared or certified any part of the registration statement, or as having prepared or certified any report or valuation which is used in connection with the registration statement, with respect to the statement in such registration statement, report, or valuation, which purports to have been prepared or certified by him; 5. every underwriter with respect to such security. If such person acquired the security after the issuer has made generally available to its security holders an earning statement covering a period of at least twelve months beginning after the effective date of the registration statement, then the right of recovery under this subsection shall be conditioned on proof that such person acquired the security relying upon such untrue statement in the registration statement or relying upon the registration statement and not knowing of such omission, but such reliance may be established without proof of the reading of the registration statement by such person. b. Persons exempt from liability upon proof of issues Notwithstanding the provisions of subsection (a) of this section no person, other than the issuer, shall be liable as provided therein who shall sustain the burden of proof-1. that before the effective date of the part of the registration statement with respect to which his liability is asserted (A) he had resigned from or had taken such steps as are permitted by law to resign from, or ceased or refused to act in, every office, capacity, or relationship in which he was described in the registration statement as acting or agreeing to act, and (B) he had advised the Commission and the issuer in writing that he had taken such action and that he would not be responsible for such part of the registration statement; or 2. that if such part of the registration statement became effective without his knowledge, upon becoming aware of such fact he forthwith acted and advised the Commission, in accordance with paragraph (1) of this

reasonable ground to believe and did believe. or(ii) such part of the registration statement did not fairly represent his statement as an expert or was not a fair copy of or extract from his report or valuation as an expert. or that such part of the registration statement did not fairly represent the statement made by the official person or was not a fair copy of or extract from the public official document. Standard of reasonableness In determining. and (B) as regards any part of the registration statement purporting to be made upon his authority as an expert or purporting to be a copy of or extract from a report or valuation of himself as an expert.(i) he had. then for the purposes of paragraph (3) of subsection (b) of this section such part of the registration statement shall be considered as having become effective with respect to such person as of the time when he became an underwriter. Effective date of registration statement with regard to underwriters If any person becomes an underwriter with respect to the security after the part of the registration statement with respect to which his liability is asserted has become effective. gave reasonable public notice that such part of the registration statement had become effective without his knowledge. after reasonable investigation. he had. what constitutes reasonable investigation and reasonable ground for belief. at the time such part of the registration statement became effective. and (D) as regards any part of the registration statement purporting to be a statement made by an official person or purporting to be a copy of or extract from a public official document. that the statements therein were untrue or that there was an omission to state a material fact required to be stated therein or necessary to make the statements therein not misleading. that the statements therein were untrue. for the purpose of paragraph (3) of subsection (b) of this section. or that such part of the registration statement did not fairly represent the statement of the expert or was not a fair copy of or extract from the report or valuation of the expert. and (C) as regards any part of the registration statement purporting to be made on the authority of an expert (other than himself) or purporting to be a copy of or extract from a report or valuation of an expert (other than himself). reasonable ground to believe and did believe.subsection. and not purporting to be a copy of or extract from a report or valuation of an expert. at the time such part of the registration statement became effective. after reasonable investigation. and. he had no reasonable ground to believe and did not believe. and not purporting to be made on the authority of a public official document or statement. at the time such part of the registration statement became effective. in addition. e. d. he had no reasonable ground to believe and did not believe. c. Measure of damages. or 3. at the time such part of the registration statement became effective. that the statements therein were true and that there was no omission to state a material fact required to be stated therein or necessary to make the statements therein not misleading. that (A) as regards any part of the registration statement not purporting to be made on the authority of an expert. the standard of reasonableness shall be that required of a prudent man in the management of his own property. undertaking for payment of costs The suit authorized under subsection (a) of this section may be to recover such damages as shall represent the . that the statements therein were true and that there was no omission to state a material fact required to be stated therein or necessary to make the statements therein not misleading. or that there was an omission to state a material fact required to be stated therein or necessary to make the statements therein not misleading.

including reasonable attorney's fees. upon the motion of the other party litigant. in an amount sufficient to reimburse him for the reasonable expenses incurred by him. such costs may be assessed in favor of such party litigant (whether or not such undertaking has been required) if the court believes the suit or the defense to have been without merit. In no event shall any underwriter (unless such underwriter shall have knowingly received from the issuer for acting as an underwriter some benefit. In any suit under this or any other section of this title the court may. such costs to be taxed in the manner usually provided for taxing of costs in the court in which the suit was heard. B. and if judgment shall be rendered against a party litigant. . the term "outside director" shall have the meaning given such term by rule or regulation of the Commission. and every person who becomes liable to make any payment under this section may recover contribution as in cases of contract from any person who. or (3) the price at which such security shall have been disposed of after suit but before judgment if such damages shall be less than the damages representing the difference between the amount paid for the security (not exceeding the price at which the security was offered to the public) and the value thereof as of the time such suit was brought: Provided. For purposes of this paragraph. all or any one or more of the persons specified in subsection (a) of this section shall be jointly and severally liable.difference between the amount paid for the security (not exceeding the price at which the security was offered to the public) and (1) the value thereof as of the time such suit was brought. That if the defendant proves that any portion or all of such damages represents other than the depreciation in value of such security resulting from such part of the registration statement. The liability of an outside director under subsection (e) shall be determined in accordance with section 21D(f) of the Securities Exchange Act of 1934. 2. in connection with such suit. require an undertaking for the payment of the costs of such suit. with respect to which his liability is asserted. unless the person who has become liable was. would have been liable to make the same payment. or (2) the price at which such security shall have been disposed of in the market before suit. Joint and several liability. g. f. such portion of or all such damages shall not be recoverable. not being true or omitting to state a material fact required to be stated therein or necessary to make the statements therein not misleading. directly or indirectly. and the other was not. guilty of fraudulent misrepresentation. A. Except as provided in paragraph (2). in which all other underwriters similarly situated did not share in proportion to their respective interests in the underwriting) be liable in any suit or as a consequence of suits authorized under subsection (a) of this section for damages in excess of the total price at which the securities underwritten by him and distributed to the public were offered to the public. in its discretion. liability of outside director 1. Offering price to public as maximum amount recoverable In no case shall the amount recoverable under this section exceed the price at which the security was offered to the public. if sued separately.

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