Business organizations
1. General partnerships
a. Pursuit of a business by 2 or more sharing profit and control.
1. Limited partnerships
a. 2 types of partner
• General: takes business decisions and exerts control
• Limited: invest with a money
1. Limited liability partnerships
a. Traditional LLP provides limited liability, especially for tort claimspreferred business entities for professionals.
1. Corporation
a. A legal entity: separate and distinct from its owners(shareholders)
b. Has legal personality: contracts /loans /own assets /sue /be sued.
c. Shareholders enjoy profits via dividends.
d. Shareholders are not personally liable for corporation debts.
Agency: know the definition of the agency
• the manifestation of one person (the Principal) to another (the Agent)。
• Examples - of principal and agent relationship - attorney and client; employer and
employee; real estate agent and prospective buyer-seller; actor and talent
• that the other person – the Agent – will act on his (the principal’s) behalf and subject
to his control. Agent 是出席代表方，表达的是 P 的意志。
• and the Agent consents to so act. P 则是真正表达意志的那个人。
•
•
To determine whether a Principal is bound to a Third Party by his – or the Principal’s
agent – it is necessary to find how much authority the agent had and whether it carries
sufficient authority to have legal consequences.
The agency relationship is essentially a consensual（一致同意的） relationship.
Authority:
• Actual Express Authority (AEA: principal tells agent everything agent has to do)
1. AEA 包含了 agent 事无巨细的任务内容
2. Comprehensive to how to carry on the task.
• Actual Implied Authority (principal tells agent the essence of the task)
1. AIA 只包含了基本的任务内容： basic!
2. Omit some of the info that is reasonable to the task.
3. AIA involves the omission of information.
• Apparent Authority (impression created on a third parties mind)
1. AA involves what the P tells a THIRD PARTY or the IMPRESSION that P
creates in the THIRD PARTY’s mind!
• Inherent Agency Power
• Ratification 批准认可 (first no authorization but then ratified)
1. 并不是全权代表或者是直接认可；是事后补全的行为，时候批准同意。
•
2. 即时当时 agent 的行为并不是授权的，但是经过 principal 确认（明示/暗
示），对第三方负责。
3. 追溯性批准
4. Needs to know all the details!
Estoppel (Koos Bros case - negligence like Duldungsvollmacht)
Fiduciary Duties: Acting the loyalty of P, and making the benefits for P.
•
- duty of absolute loyalty
•
- act solely for the benefit of the principal
•
- entitled to reasonable compensation
•
- but NO secret profits
•
- NO supplementary benefits
•
- must NOT put his interests or those of a third party above those of the principal
•
- must NOT secretly conduct business with the principal or deal with him as an
adverse party
Gorton v. Doty
a. Doty 把车借给 Gorton（consent)，但是要求 G 来开车(condition)。
b. Doty manifested consent by volunteering the use of her car. 提供车辆表示同意。
c. Garst can be seen to have acted on her behalf and subject to her control by driving the car
subject to the imposed condition that he be the driver.
d. It can be shown that he consented by the fact he did, indeed, drive her car.
Applies the definition of the relationship: how they express the test.
Controlling creditor
The creditor becomes a principal at that point which assumes de facto control over the
conduct of the debtor.
Gay Jensen Farms v Cargill
• Cargill is a large company and Warren is a fake small outfit.
• Cargill lends money to Warren. C 开始向 W 派驻自己的代表，并且提供关于如何
经营管理公司的建议，以至于最后越陷越深。
• Active participant: Cargill eventually exercises so much control that it becomes the
Principal - instead of a mere Lender – because it “runs the show” at Warren. 基本
变成 C 在管理和控制 W 公司，变成实际控制人。
Held. The Court rules that Cargill and Warren are in an agency relationship and – therefore –
the farmers who are owed money by Warren (the Agent) can collect from Cargill (the
principal).
In this case, W must have agreed/consented to act as C’s agent.
1. Active participant.
2. Have the right to make critical decisions.
3. The regional manager was sent to work with W.
4. C thought operation profitable!
A fiduciary agency relationship merely requires a “manifestation of consent by one person
to another that the other shall act on his behalf and subject to his control, and consent
by the other so to act,” regardless of whether a contract was formed or the intent of the
parties was to be bound by the legal obligations of that relationship.委托代理关系只需要委
托方同意代理方代表委托方并且受代理方控制，并且代理方也同意这种做法。不考虑
他们之间的合同关系是否成立以及双方的意图是否是受该关系的法律约束。
1. Agency relationships are consensual.
2. Based on the concept that parties mutually agree:
a. The agent will act on behalf of the principal.
b. Agents will be subject to the principal's direction and control.
1. The agreement can be expressed or implied – does not require a formal written contract.
Liability of principal to third parties in contact
To determine whether a principal is bound to a Third Party by the Principal’s agent – it is
necessary to find how much authority the agent had and whether it carries sufficient authority
to have legal consequences.
Mill Street Church v Hogan
Church elders need the church decorating. They ask Bill Hogan. Bill hires Sam. Sam is
injured – and seeks compensation. Sam was only entitled if Bill had the authority to hire Sam
on behalf of the Church.
• The court looks to how things were handled in past / previous practice/ type of
industry.
• History: past practice! What’s being done before-additionally, actual implied
authority. The skill of painting the church needs more people to complete the task.
• 这里涉及两个部分： 一个是从前的惯例；另一个是任务本身要求需要更多人
来完成这个任务-实际上是默认了 Bill 可以招募来完成这个任务。
2 types of authorities at work here
1. Implied: because of the nature of the task
2. Apparent: based on precedent
Determining whether is AIA/AA:
1. AIA: Bill needs help to finish the task-he c/t completes it by himself.
2. AA: B has had the authority in the past to hire the additional to accomplish the
completion of the job.
Watteau v. Fenwick
1. The undisclosed principal is personally liable for debts incurred by the Agent
even when the agent’s acts are prohibited as long as those acts are within the
scope of other agents engaged in similar activities.
2. W 隐名持有酒店的所有权。H 是前任经理，被告知应当从 W 等人处购买所有
物品，但是 H 违反了这一要求，在 P 处买了雪茄等，后面消失了。现在 P 想要
追回货款。
3. Ratification:
a. Can be expressed or implied:
b. The principal must know or have reason to know all material facts.
Botticello v. Stefanowicz
1. A marital relationship is not enough to make one spouse the agent of another.
2. Mary d/t ratify b/z she d/t accepts the payments or benefits with an intent to ratify,
and with full knowledge of all the material circumstances.
Hoddeson v Koos Brothers
Estoppel: = Agency rules + Negligence 表见代理-为了保护善意第三人
• Estoppel: a combination of agency law and tort law.
• 强调的是营造了有权代理的表象
• Creation of appearance of authority by conduct：行为创造有权代理的表象
• Reliance on that appearance by a third party：第三人产生依赖性
• Changing of position by third party：第三人改变立场
• negligence
Acts or omissions by the principal, either intentional or negligent, create an appearance of
authority in the purported agent.
Koos Bros had to prevent imposters from falsely representing them.
Reading v Regem
A British soldier serving in Egypt. Enriched himself by taking money from smugglers.
Violated duty of loyalty to make a profit from himself. The sole cause of enrichment: a
position as a soldier wearing a British Army uniform. 利用英国军制服的形象走私并且收
受不当利益。
• Violate the duty of loyalty.
• The agent was required to pay over to the principal the secret profits made because of
his misuse of the agency position.
Rash v JVIC
Violated duty of loyalty by failing to inform JVIC of ownership interest in scaffolding
company.
• Duty to disclose – includes areas of potential conflict.
Town & Country v Newbery
• Duty of loyalty may continue after termination of the agency agreement.
• Agents and employees do not necessarily escape their fiduciary obligations by
leaving their jobs. Trade secret!
Defendants accessed customer lists and information compiled with concerted effort over a
considerable period.
Partnerships: general and limited
• UPA § 101(6): "Partnership" means an association of two or more persons to carry on
as co-owners a business for profit.
• Nelson v. Abraham: a partnership connotes co-ownership in the partnership property
with a sharing in the profits and losses of a continuing business.
• The crucial elements of a partnership are (1) an intention to be partners (“like a
marriage”), (2) co-ownership of the business, and (3) a profit motive.
Characteristics of partnership
Characteristic 1:
1. Agreement between 2 or more.
2. Share profit and control (both must be present)
3. A partnership like a marriage
4. Relationship pf equality
5. Each partner assumes responsibility for the debts and obligations of others.
Characteristic 2:
1. Partners may make decisions that bind other partners.
2. Voting generally by the majority
3. Partners act as agents for one another
4. No written agreement is required (partnership could be determined from conduct/the
totality of the circumstances)
Advantages of partnership
1. Simplicity
2. A single layer of taxation
3. More resources than a sole proprietorship
4. Cost-sharing
5. Variety of skills and experience
Disadvantages
1. Unlimited liability (compare with the limited liability of corp.)
2. Potential for conflict
3. Expansion, succession, and termination.
Fiduciary Obligations of Partners: care and loyalty
§ 409. General Standards of Partner’s Conduct:
(a) A partner owes to the partnership and the other partners the duties of loyalty and care
stated in subsections (b) and (c).
(b) A partner’s duty of loyalty to the partnership and the other partners is limited to the
following:
(1) to account to the partnership and hold as trustee for it any property, profit, or
benefit derived by the partner:
(A) in the conduct or winding up of the partnership’s business.
(B) from use by the partner of the partnership’s property; or
(C) from the appropriation of a partnership opportunity;
(2) to refrain from dealing with the partnership in the conduct or winding up of the
partnership business as or on behalf of a person having an interest adverse to the
partnership; and
(3) to refrain from competing with the partnership in the conduct of the
partnership’s business before the dissolution of the partnership.
(c) The duty of care of a partner in the conduct or winding up of the partnership business is to
refrain from engaging in grossly negligent or reckless conduct, willful or intentional
misconduct, or a knowing violation of the law.
Some actions which may violate this fiduciary duty include:
• Competing with the partnership
• Taking a business opportunity away from the partnership
• Using partnership property for private profit
• Conflicts of interest
Partnership Dissolution UPA § 801(5):
“A partnership is dissolved on application by a partner, by a judicial decree that: (i) the
economic purpose of the partnership is likely to be reasonably frustrated; (ii) another partner
has engaged in conduct relating to the partnership business that makes it not reasonably
practicable to carry on the business in partnership with that partner; or (iii) it is not otherwise
reasonably practicable to carry on the partnership business in conformity with the partnership
agreement.”
Common clause
1. Ownership of partnership and partnership assets.
2. Accounting procedures
3. Distribution of profits and losses
4. Liability of each partner to the others
5. What happens if partner resigns or dies
6. Dispute resolution
7. Termination and what happens upon termination. The agreement must be executed by
all parties
Fenwick v. Unemployment
Cheshire and Fenwick (D) entered into a partnership agreement, pursuant to which Fenwick
contributed all capital investments, possessed exclusive control over the management of the
business, and bore the risk of all business losses.
-> Defining feature is that partners share profit and control
Martin v. Peyton
Martin (P) sued Peyton (D), Perkins (D), and Freeman (D), as alleged partners of a firm that
owned Martin (P) money, when the defendants entered into an elaborate loan agreement with
the firm.
Black Letter Rule: A partnership is created by an express or implied contract between two
persons with the intention to form a partnership.
•
•
•
•
PPF had substantial control but no agreement to associate themselves with KNK as
co-owners of a business for profit
PPF were passive and couldn’t initiate any business decisions at KNK (in contrast to
the Cargill case where Cargill actively participated in agent’s affairs)
Profit Sharing and Control are the most important factors in determining if
partnership exists
Court reckons that control there was merely indirect and passive
Young v. Jones / PwC (partnership by estoppel?)
Young (P) and others invested money in reliance upon a fraudulent audit statement prepared
by Price Waterhouse-Bahamas. $500k disappears.
• there is no evidence that PWC-US and PW-B are partners
• if they are partners by estoppel, then PWC-US would be liable - under general
partnership law principles - for the negligent acts of PWC-B
• But no evidence of share in control and profit.
• PW is in fact a franchise（特许经营权）-McDonalds
• PW-worldwide is a company that sets standards of practice.
• A contract between the separate and independent firms that practice accounting in
various parts of the world authorize them to use the name: price Waterhouse-adhering
to standard of practice that PW sets in the same way that McDonalds sets their
standard.
•
Meinhard v. Salmon (opportunity)
S came across an opportunity because of a leasing agreement in which both he and M were
partners.
• Not honesty alone, but the punctilio of an honor the most sensitive, is then the
standard behavior.
• Joint venturers, like copartners, owe to one another, while the enterprise continues,
the duty of the finest loyalty.
• Duty of undivided loyalty. -> Duty of disclosure
• Case tells us that person with informational advantage must tell his partner(s) of new
development.
o “Only through disclosure could opportunity be equalized”
o NO secrecy, NO silence, NO exclusion
Sandvick v. LaCrosse (elements of joint venture)
• A joint venture is similar to a partnership but is more limited in scope and duration,
and principles of partnership law apply to the joint venture relationship.
•
•
Difference between Partnership (P/S) and JV:
o P/S = continuing association
o JV = temporary association
For a business enterprise to constitute a joint venture, the following four elements
must be present: (1) contribution by the parties of money, property, time, or skill in
some common undertaking, but the contributions need not be equal or of the same
nature; (2) a proprietary interest and right of mutual control over the engaged
property; (3) an express or implied agreement for the sharing of profits, and usually,
but not necessarily, of losses; and (4) an express or implied contract showing a joint
venture was formed.
Meehan v. Shaughnessy
Instant Facts: 原合伙人另立门户。Meehan (P), Boyle (P), and Cohen (P) separated from
Parker Coulter (D), their former law partnership, to form a new law firm with cases removed
from Parker Coulter (D).
• Questionable/Improper conduct upon exit of law firm:
a. Taking desk/client files; Contact clients before announce departure; Not
inform clients of right to have counsel of own choice; Lying about plans;
Keep plans confidential; Solicit subordinates
b. Clearly improper:
• Take client files
• Contact clients before announce departure
• Not inform cliets of right to have counsel of own choice
• Lying about plans
Law firms-departures and dilemmas
1. Proper / acceptable:
a. Solicit fellow partners to leave too.
b. Contract clients before leaving firm, so long as disclosed fact of leaving to
firm.
c. Remind clients of right to have counsel of own choice.
d. Locate space
Lawlis v. Kightlinger & Gray
Plaintiff was expelled from the firm after a long battle with alcoholism.
• Partner can be expelled by ⅔ majority of partner votes for any reason if agreement
has no cause expulsion clause and they act in bona fide manner.
• Defendant followed the procedures of the agreed-upon partnership agreement when
they voted to expel Plaintiff from the firm.
• They act in good faith regardless of motivation if that act does not cause a wrongful
withholding of any money or property of Plaintiff’s.
Partner’s authority - 1914 Act
1. UPA: every partner is an agent of the partnership for the purpose of its business, and
the act of every partner for apperantly carrying on in the usual way the business of the
partnership of which he is a member binds the partnership. 每个合伙人都是合伙企
业的代理人角色！！意味着合伙人作出的决定，背后是代表着合伙企业的意
志，是受代理人规则约束的！
2. 一般情况下合伙人签订的文书对整个合伙企业都有约束力！除非在特定事项
中，合伙人没有授权，或者与该合伙人打交道的人明确指导该合伙人没有授
权。
National Biscuit Company v. Stroud
National Biscuit Company (P) sold bread to Stroud’s (D) partner. Stroud (D) advised National
(P) beforehand that he would not be responsible for this delivery. Regardless, National (P)
still made delivery.
If performed on behalf of a partnership and within the scope of the partnership’s business, the
acts of a partner are binding upon the co-partners.
• Partners act as agents of partnership.
• full personal liability for debts of the partnership. If the partnership is liable on
the contract, so is Stroud.
• Majority: 在没有相反协议的情况下，合伙企业的决定由多数决定！
• The partners needed a majority vote to change the policy. 合伙企业的规则改变
是需要多数投票通过才能视为规则的改变。否则应该依照惯例，惯性进行。
Summers v. Dooley
Summer’s (P) action is against his partner Dooley (D) for reimbursement of $11,000 that
summers used to hire an employee. (D) contends that because he, as a majority of partners,
did not agree to the hiring, that (P) should not be reimbursed for his unilateral hiring
decision.
合伙企业的事务是由多数决定！！！
If no other agreement between partners speaks for the issue, then business differences
between partners must be decided by the MAJORITY of partners.
NBC and Summers cases wrapped up:
Cases illustrate a clash of two principles:
• All partners are agents of the partnership with power to bind the partnership
• All partners have equal rights to participate in the management of the partnership
• As between the partners and some third party, the former principal controls (National
Biscuit). As between the partners, the latter controls (Summers).
• 对外：所有合伙人都是合伙企业的代理人；对内：合伙人有相同的权利参与合
伙企业的事务
How to get rid of this deadlock: 如果投票出现了僵局
• For any action requiring approval by a Majority Vote of the Members, if there is a
deadlock,
•
•
•
尽力解决通过协议或者解决僵局：the Members shall use their best efforts
to resolve the deadlock by agreement or mediation, and
30 天内不提起和僵局有关的诉讼：shall not commence any legal
proceeding related to such deadlock for at least thirty (30) calendar days
after such deadlock occurs.
如果实在无法解决僵局，则掷硬币。
Day v Sidley and Austin
SA = international law firm w/ tons of partners across the globe = need for centralized
decision-making. Partnership agreement makes it clear: Executive Committee (EC) runs the
show here!
Why have a EC? Consensus v. authority
实际上是两种组织形式的区别：公司集权，合伙同权。合伙企业是人合，企业是资
和。
1. Consensus: 一致看法
a. Collective decision-making
b. Used when constitutes have
• Similar interest
• Comparable information
• Low collective action problems
a. Partnership optimized for these characteristics
1. Authority: 权力集中
a. Central decision--making body
b. Needed when constitutes have
• Differing interest
• Asymmetric information
• Serious collective action problems
a. Corp. optimized for these characteristics
Owen v. Cohen
O and C partners in Bowling Alley.
• A partner may move for a dissolution of the business when another partner’s conduct
negatively affects the business or another partner willfully or repeatedly breaches the
partnership agreement in such a way as to make it impractical to carry on the
business.
• Appellant refused to do his share of the work required and talked of pressuring
Respondent out of the business. Appellant also took money from the business above
and beyond the agreed amounts.
• Business cannot be run to mutual benefit of both parties given C’s misconduct
Prentiss v. Sheffel
S&I unable get along w/Prentiss and EXCLUDE him from p/ship decision making.
• This case involves a “partnership at will”
•
•
This is a p/ship which any of the partners can choose to dissolve at any time without
penalty
“Freeze out” of a partner in contrast to “undivided loyalty” in a partnership
relationship
LLP
1. Limited partnerships:
a. General partners:
• Responsible for management of business.
a. Limited partners:
• Play no role in running the business but are passive investors.
1. LLP: principal feature provides partners with reduced liability protection in respect of
the wrongdoing of other partners. 有限责任合伙企业-实际上是对合伙人承担因其
他合伙人的过错而导致的损失进行了限制，保护了无过错的合伙人。
Corporations
Corporation
1. Legal entity
2. Formation depends on compliance with state laws.
3. Separate entity from owners-stockholders
4. Treated as a legal person
5. Can only operate through its appointed agents - namely its directors and officers
6. None of people involved is personally liable for corporation’s loss/obligation.
• 公司只以其本身承担债务，不承担个人责任。
1. Creditors are limited to corp. Assets to meet their claims.
2. Unlimited life
3. Ownership can be transferred easily
4. Central management
5. Investors elect Board of Directors who in turn hire managerial staff
Articles of incorporation (charter) 成立章程
1. Corp. name
2. Shares
3. Registered agent
4. Incorporations
5. Optional provisions
Bylaws
1. Govern internal workings of corp.
2. Qualifications and number of directors
3. Meetings
4. Procedures
5. Titles of officers
Limited Liability (piercing the corporate veil) 揭开公司的面纱
• PCV: removing the business organization’s shield or veil protecting it from liability
and holding the owners personally liable for the company’s debt/liabilities.
o owners ‘s homes, bank accounts, assets…
o Courts reluctant
o Often do so in the face of misconduct
o Respect formalities
• “A corporate entity will be disregarded, and the veil of limited liability pierced when
two requirements are met: (1) there must be such unity of interest and ownership that
the separate personalities of the corporation and the individual no longer exist; (2)
circumstances must be such that adherence to the fiction of separate corporate
existence would sanction a fraud or promote injustice.” Van Dorn Co. v. Future
Chemical and Oil Corp., 753 F.2d 565 (7th Cir. 1985).
• For disregarding separate entities, four factors are in focus: “(1) the failure to
maintain adequate corporate records or to comply with corporate formalities; (2) the
commingling of funds and assets; (3) undercapitalization; and (4) one corporation
treating the assets of another corporation as its own.”
Piercing the LLC Veil
Limited Liability Company
1. Corporate entity
2. Members (owners) not liable for debts/liabilities
3. Combine elements of corporation and partnership
4. Similar taxation to p/ship
5. Articles of organization filed with state
6. LLC = partnership-style CONTROL/MANAGEMENT + corporation-style
FREEDOM FROM LIABILITY.
“The shareholders of a corporation and the members of an LLC generally are not liable for
the debts of the entity. Nonetheless, the distinction between the entity and its owner may be
disregarded to require an owner to answer for the entity’s debts. With respect to the limited
liability of owners of a corporation, Delaware law permits a court to pierce the corporate veil
where there is fraud or where the corporation is in fact a mere instrumentality or alter ego of
its owner.” “To prevail under the alter-ego theory of piercing the veil, a plaintiff need not
prove that there was actual fraud but must show a mingling of the operations of the entity and
its owner plus an overall element of injustice and unfairness.”
Differences between p/ship and LLC
1. LLC: Members’ property and assets are insulated from any LLC debts/liabilities.
2. P/ships: partners are liable for each other’s debt and obligation.
3. LLC may be managed by all its members (like the p/ships) or by professional
managers ( who may be members also but need not necessarily members)
Walkovszky v. Carlton
Defendant was a shareholder in ten separate corporations wherein each corporation has two
cabs registered in its name. A single shareholder for multiple corporations is a common
practice for the cab industry. Each cab has only $10,000 worth of insurance coverage, which
is the statutory minimum. 通过成立多家公司来分散风险是行业中的常见做法
Held. Defendant would be held liable under “the respondeat superior doctrine” if he
controlled the corporation for his personal benefit at the expense of the corporations benefit.
The fact that the corporations may have been one large corporation, however, does not prove
that Defendant was controlling the corporations for his own behalf.
• Piercing the corporate veil requires IRREGULARITY
• 揭开公司的面纱需要公司存在违规行为！本案中不存在违规行为
Sea-Land Services Inc. v. Pepper Source
Plaintiff delivered a shipment of peppers for Pepper Source, but they were not paid. Marchese
was the sole shareholder of Pepper Source. P asserted that the corporations were shells
wherein Marchese shifted money around the different entities to avoid creditors collecting
from the corporations. Evidence was presented that showed Marchese treated the corporate
accounts as his own personal account, and he frequently shifted money around.
•
The veil of limited corporate liability will be pierced when the plaintiff proves that
o 1) there is a unity of interest between the individual and the corporation, 个
人和公司的利益杂糅 and
o 2) to allow the limited liability would promote an injustice or sanction a
fraud. 如果承认有限责任则会促进不公正或者欺诈。
• Sea-Land couldn’t provide evidence to the “injustice/fraud” req. of piercing the
corporate veil!!!
To determine whether A exist(unity of purpose and ownership), the court has a 4 factor test:
1. Lack of corp. Formalities：缺乏公司手续
2. Comingling of funds/asset：资本混用
3. Under-capitalization：资本不足
4. Use by 1 corp. Of asset of another corp.：一家公司使用另一家公司资产
NetJets Aviation, Inc. v. LHC Communications, LLC
N contract w/ LHC re jet use. LHC insolvent. Sole member of LHC is Z. = Alter ego?
Court applies 2 part test to determine liability/whether LLC veil can be pierced:
1. whether entities (LHC and Z) acted as a single economic entity:- Court finds
evidence that LHC and Z operated as one /as a single entity / completely dominated
LHC / used LHC’s bank account as “one of his pockets”
2. whether there was any injustice/unfairness:- Z operated LHC in his own self interest
and did so in such a way that unfairly disregarded the rights of LHC’s creditors
McConnell v. Hunt Sports Enterprises (on Fiduciary Obligations and Dissolution)
Hunt Sports Enterprises and John McConnell were part of an LLC that was bidding for a
professional hockey franchise. McConnell personally made a bid for a franchise after Hunt
rejected numerous lease agreements and stalled the application for the franchise WITHOUT
AUTHORITY.
1. Normally, the presence of a fiduciary relationship would preclude direct competition
between members of the company.
2. CHL operating agreement expressly allows competition. The members of an LLC can
define the scope of their fiduciary duty! 看合同中对于竞争关系的认定。
0. No basis for finding breach of fiduciary duty!
-> Tort of interference with a business relationship = “occurs when a person, without a
privilege to do so, induces or otherwise purposely causes a third person not to enter into or
continue a business relationship with another”
Racing Investment Fund 2000, LLC v. Clay Ward Agency, Inc.
Racing Investment purchased insurance from Clay Ward. Racing Investment failed to pay.
The Operating Agreement requires members to make occasional capital infusions for business
expenses.
If the members of the LLC were legally responsible for their pro rata share of the LLC's
business debt, that would in effect mean that the shield of limited liability had been lifted.
Rejected personal liability for an LLC's debt unless the members clearly agreed in writing to
assume personal liability, which the LLC's members had not done.
New Horizons Supply Cooperative v. Haack
Haack admitted that she never properly dissolved the LLC.
Haack is personally liable for the debt incurred by LLC owed to Plaintiff. The creditors were
not properly notified of the dissolution, and creditors have priority over former partners of the
LLC for the assets of the dissolving LLC.
Business Judgment Rule
• A rule that insulates company directors from liability for business decisions as long
as:
“In making those decisions the directors of a company acted on an informed basis, in
good faith and in the honest belief that the action was in the best interests of the
company”.
•
BJR has TWO hallmarks: 免除处罚管理人员出于善意作出的商业决定而带来的
损失
i)
immunization from liability AND
ii)
judicial policy of deference to the exercise of good-faith business
judgment in management decisions
•
A court will not substitute its own judgment for that of the board of directors if the
board’s decision can be attributed to any rational business purpose.
It’s a rule designed to strike a balance between preventing directors from taking
irresponsible actions AND preserving directorial discretion. Both are crucial to
running business organizations.
BJR does not apply in cases of fraud, illegal conduct, and conflict of interest
o Directors owe shareholders Duty of Care: Exercise that degree of skill,
diligence, and care that a reasonably prudent person would exercise in similar
circumstances
o Duty of Loyalty – Refrain from engaging in anything that would represent
conflict of interest and fraud or illegality (i.e. undermine, destabilize the
corporation purposely, intentionally, deliberately, consciously / “commercial
treason”)
•
•
BJR meaning, § 102(b)(7) DGCL
• After van Gorkum: Legislative Response: Delaware adopted s. 102(b)(7) which
absolves Directors of breaches of their Duty of Care (like making uninformed
decisions!!!) …. (but NOT - obviously their Duty of Loyalty)
§ 102(b)(7): “A provision eliminating or limiting the personal liability of a director to
the corporation or its stockholders for monetary damages for breach of fiduciary duty
as a director, provided that such provision shall not eliminate or limit the liability of a
director:
(i) For any breach of the director's duty of loyalty to the corporation or its
stockholders.
(ii) for acts or omissions not in good faith or which involve intentional misconduct or
a knowing violation of law.
(iii) under § 174 of this title; or
(iv) for any transaction from which the director derived an improper personal benefit.
No such provision shall eliminate or limit the liability of a director for any act or
omission occurring prior to the date when such provision becomes effective. All
references in this paragraph to a director shall also be deemed to refer to such other
person or persons, if any, who, pursuant to a provision of the certificate of
incorporation in accordance with § 141(a) of this title, exercise or perform any of the
powers or duties otherwise conferred or imposed upon the board of directors by this
title.”
•
•
•
permits a Delaware Corporation- through a certificate in its articles of
incorporation – to exculpate directors for breaches of duty of care but expressly
prohibits exculpation for acts or omissions not in good faith / in breach of duty
of loyalty (i.e., undermine, destabilize the corporation purposely, intentionally,
deliberately, consciously / “commercial treason”).
PLUS § 145 DGCL allows a corporation to indemnify a director or officer for
liability incurred by reason of a violation of a duty of care but not for a violation of
the duty to act in good faith (bad faith)!
The combination of the deferential BJR AND § 102(b)(7) makes it extremely difficult
to hold directors liable for breaches of fiduciary duty without showing conflict of
interest/self-dealing.
Dodge v. Ford
Dodge holds 10% in Ford. At one point, the cars were sold for $900, but the price was slowly
lowered to $440 – and finally, Ford lowered the price to $360. Henry Ford admitted that the
price negatively impacted short-term profits, but Ford defends his decision, saying that his
ambition is to spread the benefits of the industrialized society with as many people as
possible. Instead of using the money to pay dividends, Ford decided to put the money into
expanding the corporation.
Issue. The issue is whether Dodge can force Ford to increase the cost of the product and limit
the money invested into expansion to pay out a larger dividend.
Result: Ford must continue payment of special dividends BUT it can build new factory.
•
1.
2.
3.
4.
Court will not interfere with Defendant’s business judgments regarding the price set
on the manufactured products or the decision to expand the business.
However, Ford is arbitrarily withholding money that could go to the shareholders.
Here, Ford was running corporation as a eleemosynary institution (!) and NOT as a
business institution! So, court orders payment of dividends!!!
Directors owe shareholders
1) Duty of care: exercise that degree of skill, diligence and care that a
reasonably prudent person would exercise in similar circumstances.
2) Duty of loyalty: refrain from engaging in anything that would represent
conflict of interest
3) Absence of fraud or illegality
4) BJR insulates directors from making mistakes.
However, the court will not question whether the company is better off with a higher
price per vehicle, or if the expansion is wise, because those decisions are covered
under the business judgment rule.
Shlensky v. Wrigley (baseball)
W is the director of the Chicago National League Ball Club, which is the company that owns
the Chicago Cubs. Although every other major league team had installed lights, Defendant
did not install them for the Cubs because he was concerned that night baseball would be
detrimental to the surrounding neighborhood. Minority shareholders argued that the team was
losing money.
• Minority Shareholders sue Directors that owned Chicago Cubs for:
- refusing to install lighting that would allow nocturnal baseball games
- Minority shareholders claim offering night games would make Chicago Cubs more
profitable
Issue: Does this apparent disinterest in improving the team’s fortunes constitute a breach of
the Duty of Care owed to the shareholders?
In context of BJR 4 things to bear in mind:
1. BJR provides insulation from liability
2. Importance of lack of fraud illegality or conflict of interest
3. Duty of care
4. Duty of loyalty
NO fraud, illegality, or self-dealing -> Director’s decisions not subject to review by courts!
The court cites precedent that asserts that business decisions should not be disturbed just
because a defendant can make a reasonable case that the policy chosen by the company may
not be the wisest policy available.
• Give directors wide BUT NOT UNLIMITED decision-making powers, AND in
seemingly questionable decision-making involving alleged fraud, illegality or selfinterest, irrationality THEN involve the courts!
Kamin v. American Express
Amex held stock Donaldson Lufkin & Jenrette stock; Bought it for $30m. Now worth $4m (!)
= Really bad decision. Basis of Derivative Suit: Amex should have sold the stock.
Derivative suit: the action whereby shareholders may be permitted to bring a lawsuit on
behalf of the corp. that corp has failed to bring and which alleges harm to the corp. Not the
shareholder.
No breach of duty of care because the directors held special meeting to discuss the possible
sale. Decided against sale because it would make their financial statements look bad. That’s a
sound business reason.
No breach of Duty of Loyalty -> Board of Directors took decision to issue dividend rather
than sell stock unanimously.
Conclusion: BJR provides directors with immunity for making - essentially - stupid
decisions.
• Directors liable under Duty of Care ([Gross] Negligence) if decision is irrational
• No breach of Duty of Loyalty (Conflict of Interest) because of unanimity of decision.
Clearly no evidence of fraud or illegality.
BJR protects directors if:
1. No fraud
2. No illegality
3. No conflict of interest
4. No gross negligence
Smith v. Van Gorkum (important policy decision)
CFO Romans suggested that Trans Union should undergo a leveraged buyout. The suggestion
came without any substantial research, but Romans thought that a $50-60 share price (on
stock currently valued at a high of $39½) would be acceptable.
Van Gorkom set up an agreement with Pritzker to sell Pritzker Trans Union shares at $55 per
share. Van Gorkom also agreed to sell Pritzker one million shares of Trans Union at $39 per
share if Pritzker was outbid.
Van Gorkom did not distribute any information at the voting (20-minute presentation!), so the
Board had only the word of Van Gorkom, the word of the President of Trans Union (who was
privy to the earlier discussions with Pritzker), advice from an attorney who suggested that the
Board might be sued if they voted against the merger, and vague advice from Romans. 2
hours later, the Board approved the merger, and it was also later approved by shareholders.
Issue. The issue is whether the business judgment by the Board to approve the merger was an
informed decision.
•
•
•
•
BJR does not protect UNINFORMED decisions. -> The shareholders themselves
couldn’t make an informed decision. BJR 不保护未告知的决议
Board was GROSSLY negligent in failing to inform themselves of all material
information reasonably available to them.
Board here clearly violated fiduciary duty / Duty of Care by:
- failing to investigate the offer
- acted on basis of insufficient information
- acted hastily
- failed to seek expert guidance
- failed to test market effectively
In short, BJR can’t protect Van G and his Board when – according to the court:
1) They fail to inform themselves of all information reasonably available to them and
relevant to decision to recommend Pritzker merger and
2) By their failure to disclose all material information that a reasonable stockholder
would consider important in deciding to whether to accept Pritzker deal.
Held. The Delaware Supreme Court held the business judgment to be gross negligence. The
Board has a duty to give an informed decision on an important decision such as a merger.
Bayer v. Beran
Defendants sold Celanese. There was a need to expend more resources to make the distinction
between Celanese and competing products. The president suggested a $1 million radio
campaign. Star of the program is also his wife who is an amazing opera singer. The Board
approved the campaign. But the Board didn’t consciously vote on the involvement of the
wife. The Board also continues to approve an employment agreement for Dr. Camille
Dreyfus’ brother, Dr. Henri Dreyfus, but the agreement prevents him from working
elsewhere. 聘用妻子作为广告代言人
Issue. The issue is whether Dreyfus’ ties with his wife and his brother, breach their fiduciary
duty of loyalty to the corporation by approving the radio deal and employee contract at issue.
• Given the apparent conflict here, burden of proof is on President & Directors to
demonstrate FAIRNESS of using wife
Wife wasn’t unreasonably paid; company got value and its money worth from sponsoring
programmed.
-> Lack of board authorization wasn’t fatal! 这个不是致命的
Benihana of Tokyo v Benihana
Due to financial problems and a change of corporate control, three of the members of
Benihana’s board of directors considered the issuance of convertible stock and its sale to BFC
Financial Corporation (BFC). (BFC Vice-Chairman/Director who owned 30% of BFC stock =
John Abdo, is also Director of Benihana, so Abdo – both sides of the deal). Ultimately, the
entire board approved resolutions ratifying the execution of a stock purchase agreement with
BFC and authorizing the stock issuance.
Was Benihana, Inc. authorized to issue $20 million in preferred stock and did Benihana's
board of directors act properly in approving the transaction?
Held. The record clearly established that the board possessed all the material information
when it approved the transaction. Transaction was a valid exercise of its business judgment.
Delaware political reaction
1. Legislative response: absolves directors of breaches of their duty of care (but
not obviously their duty of loyalty)
2. Breach of fiduciary duty as a director, provided that such provision shall not
eliminate or limit the liability of a director
1) For any breach of the director’s duty of loyalty to the corporation or
its stockholders
2) For acts or omissions not in good faith or which involve intentional
misconduct or a knowing violation of law
3. s. 102 (b)(7) permits a Delaware Corporation- through a certificate in its
articles of incorporation – to exculpate directors for breaches of duty of care
but expressly prohibits exculpation for acts or omissions not in good faith / in
breach of duty of loyalty
eBay (on corporate opportunities)
• eBay/E used Goldman Sachs/GS. GS offered several E’s Directors an opportunity to
buy shares at “knock-down” prices in other companies. When Directors
•
•
•
•
PERSONALLY took advantage of these “perks,” they would often immediately sell
the shares and earn a very healthy profit FOR THEMSELVES.
Shareholders bring proceedings here to challenge E’s Directors’ conduct on the basis
that the opportunity to buy and the subsequent purchase of preferential shares was
an opportunity that the corporation as an INSTITUTION should have benefitted from
and that the chance to buy these shares should not have been limited to a very few
executives BUT should have been made available to the E as a corporation.
Directors have fiduciary duties, one of which is not to make an undisclosed
PERSONAL profit from a corporation transaction.
This should have been a corporate opportunity NOT a personal directorial
opportunity!
What is the Corporate Opportunity Doctrine?
• If a business opportunity is offered to a corporate officer or director and
• it is an opportunity which the corp. can undertake
• It’s in keeping with the Corp’s business
• It presents an advantage in which the corporation has a legitimate interest or
expectation
• then that business opportunity belongs to the corporation.
• AND if a corp. officer or director were to take that opportunity for himself
• then he would be in breach of his fiduciary duty
Broz v. CIS
B 是 RFB 的独立董事，同时也是 CIS 的董事会成员。现在有机会收购两家公司
- Never formally offers it to CIS. And the RFB acquires the companies
- B owes fiduciary duty to CIS and was reckons he violated it by purchasing for himself
and denying CIS the opportunity to acquire it.
- Court: no, he didn’t and he’s not liable for failing to formally offer the Michigan 2
opportunity to CIS.
The court identifies 4 considerations in evaluating situations
1. The corp. ability to take up opportunity financially
2. The opportunity is within corp.’s line of business
3. The corp. has an interest or expectancy in the opportunity
4. By embracing the opportunity the officer or director would create a conflict between
her self-interest and that of the corp.
Disney and the Tale of Michael Ovitz’s Pay Packet!
Duty of good faith
• DERIVATIVE SUIT brought against Disney’s Directors and Officers. It arose from
the 1995 hiring and1996 firing of Michael Ovitz / MO by his longtime friend and ally
– Michael Eisner / ME. His ‘termination’ resulted in a no-fault firing and a payment under the terms of his employment agreement – valued at $140 million.
•
•
•
•
•
When MO’s appointment was announced - Disney stock rose 4.4% in one day increasing its market capitalization by more than $1 billion!
Compensation Committee approved MO’s pay package – but it was not formally
approved by the full board.
ME informs MO that he was being fired WITHOUT CAUSE. Disney’s board had
been informed of the decision beforehand. Board didn’t formally vote to fire MO.
Board didn’t determine whether cause existed.
Derivative suit complains:
o 1) Board not properly informed
o 2) Contract constituted waste (of money)
o 3)/a Board should have fired MO for cause OR
o 3)/b at least negotiated with MO based on the possibility that MO had ‘de
facto’ resigned AND
o 4) Board members were not independent
Court: Disney Directors had not violated their duty of care nor acted in bad faith re
MO’s hiring and firing.
o 1) BJR protects directors even when information and decision-making
process wasn’t so “tidy”.
o 2) Attempting to deal with what constitutes bad faith on the part of directors,
it gave three examples:
§ a-acting with a purpose other than advancing the best interests of the
corporation
§ b-acting with intent to violate applicable law
§ c-intentionally failing to act in the face of a known duty to act. (In
other words- it needs to be shown that directors deliberately,
intentionally, and consciously disregarded their directorial
responsibilities – if lack of good faith is to be established!)
o 3) Compensation Committee had the POWER to approve MO’s pay without
referring matter to the full Disney Board / Exercised care in approving the
deal. PLUS, the full Disney Board was entitled to rely on ME and the Comp.
C’tee
o 4) Shareholders’ notion that MO’s pay deal was “wasteful” because it gave
MO incentive to get fired was nonsense! This deal had a rational business
purpose – it was designed to lure MO from his extraordinarily well-paid job
at CAA.
Stone v. Ritter (oversight duties)
• Could unconsidered inaction trigger director liability for failure to monitor?
o The court sets out 2 conditions for director oversight liability:
1) directors completely failed to implement ANY reporting or information
system or controls OR
2) having implemented such a system or controls, consciously failed to
•
•
•
monitor or oversee its operation this disabling themselves from being
informed of risks or problems requiring their attention
Directors have got to be “in the know” in order to be liable here – ignoring “red
flags”
This “monitoring” case was decided under “duty of loyalty” principles.
The original Caremark case was a “duty of care case”. Does this matter?
Yes – because § 102(b)(7) allows firms to avoid “duty of care”/van Gorkom liability
by eliminating the duty of care altogether.
The judges could not stand the idea of avoiding Caremark/duty of care liability and
they clearly didn’t like §102(b)(7) so they made Stone v Ritter a “duty of loyalty”
case
A duty of loyalty cannot be avoided under § 102(b)(7)!!!
Additionally – if directors fail to meet the “monitoring” requirement, they are acting
in bad faith!!! Bad faith is PART OF THE DUTY OF LOYALTY; IT IS NOT A
SEPARATE DUTY
Insider Trading
• Rule 10(b)(5):
prohibits individuals who owe a fiduciary duty (FD) from trading on non-public
information in breach of that duty.
Same people are not allowed to “tip” insider information
A tipper breaches his fiduciary duty when he discloses non-public info for a personal
benefit (doesn’t need to be anything in value). [see Salman]
A tippee may also be liable if he trades on such information IF the tippee knows or
should have known that the tipper was acting in breach of his (insider’s) FD. [see
Dirks]
Securities and Exchange Commission v. Texas Gulf Sulphur Co
Defendants bought shares of Texas Gulf while they secretly had positive information
regarding mining activities carried out by the company.
•
•
Insiders who traded prior to public release of information breached Rule 10(b)(5)
o Press Release: calculated to influence investors and that puts the TGS in
breach.
What’s behind this important rule? All investors should have EQUAL access to the
material (material is what a reasonable investor would consider as important)
information.
Held. The Defendants withheld information that was material to shareholders and therefore
were acting on insider information when they purchased their shares and calls on Texas Gulf
stock. The information was material:
1. they purchased a great deal of shares in Texas Gulf,
2. they deliberately kept the information from others, and
3. the timing of their purchases occurred during the period that they exclusively held the
information.
Key element was whether a reasonable person would believe that the information would be
relevant to the price of the stock. Further, Defendants should not act upon the information
until the information is disseminated to the point that the public would have had a reasonable
opportunity to act on it.
Dirks v. SEC
S worked for Equity Funding / EF. EF involved in fraud on monumental scale. S tried to
disclose fraud – alas – his story seemed so preposterous that nobody believed him. Eventually
– called Dirks / D – investment analyst. D investigates and confirms story. S and D both try to
disclose to authorities. D tells his clients – clients unload their EF stock. Despite stopping
EF’s anarchic crime spree, SEC charges D with wrongfully tipping inside information to his
clients. 交易员举报交易内幕
S violated no fiduciary duty in tipping D. Absent a fiduciary duty breach by an insider, no
Rule 10b-5 violation occurs.
• Tipper must breach a fiduciary duty and tippee knew or should have known!
Salman v. SEC
Salman argued that he couldn’t be convicted of insider trading unless the tipper’s goal was to
obtain something tangible in value. WRONG. There is a “fulfilling” feel good factor, too.
US v. O’Hagan
Planned takeover of Pillsbury. O’H was NOT one of lawyers involved. However, once he
hears of this development, he begins to buy large amounts of Pillsbury stock. Pillsbury shares
rise in value upon announcement of Grand Met’s tender.
Upon increase in value of Pillsbury stock from 39$ to 60$, O’H sells making handsome profit
of $4.3 million. He breaches a duty of confidentiality owed to the source of the information.
O’Hagan doesn’t owe any duty to Pillsbury shareholders, but his conduct still constitutes
insider trading under 10b-5.
Waltuch v. Conti indemnification/insurance
W was VP and a silver trader at Conti / C. Following silver market crash – C’s clients AND
CFTC sued W and C. C paid out $35m to them. But W had faced PRIVATE claims against
him dismissed. However – he was given a fine by CFTC = $100,000. And suspended from
trading for 6 months. W’s legal fees = $2.2 million (!!!). Now sues C to be INDEMNIFIED.
But did he act in GOOD FAITH? Important consideration! Court rules: NO indemnification
re CFTC litigation. Why?
• Although ARTICLE 9 of the CONTI CHARTER provides for indemnification in
cases like this – the court decides that s. 145 (a) of Delaware’s General Corporation
Law REQUIRES that indemnification is limited by its “good faith” requirement and
•
•
•
W not established that he acted in “good faith”. So, NO indemnification here.
HOWEVER
Re the PRIVATE litigation: § 145(c) REQUIRES firms to indemnify where the
firm’s officers are SUCCESSFUL. And W was successful in the private claims
because he paid NOTHING to the claimants / Remember: he had the claims brought
against him dismissed. (of course, it was C (!) who paid the claimants………….
that’s why he was “successful” – because somebody else namely C paid the damages
for him!!).
Court doesn’t enquire WHY W was successful. The statute only requires that he IS
successful. § 145(c) is a REQUIREMENT
If the firm’s officer is successful (doesn’t matter how!) he / W must be indemnified
and NO questions asked!
Citadel Holding Corporation v. Roven
• § 145(e) allows advancements of legal costs
Plaintiff served as the director of Defendant company from 1985 to 1988. In 1987, Plaintiff
requested, and Defendant agreed to, an amendment to strengthen his indemnification rights.
The amendment provided for an advancement to Plaintiff for legal expenses he may incur for
litigation stemming from his position with the company. Defendant brought an action under
Section: 16(b) of the Securities Exchange Act after Plaintiff purchase shares of Defendant
stock.
• Plaintiff then sought an advance for the legal expenses, but Defendant refused,
arguing that the indemnification agreement was not meant to include Section: 16(b)
actions.
•
The agreement requires Defendant to advance the costs of Plaintiff’s attorney’s fees.
The plain language of the agreement does not exclude Section: 16(b) litigation.
Medtronic
Shareholders can bring a direct claim only if she can show direct harm to her.
- Reimbursement claim: must be derivative. b/z it’s a corporate issue.
Derivative Actions
Lawsuit brought by a shareholder of a Corporation on behalf of the Corporation to enforce or
defend a legal right or claim.
1. The right of the shareholder to bring the action derives from the primary right
of the corporation to redress the wrong against itself, although its board of
directors has failed to pursue the action.
2. Derivative actions involve shareholder alleging harm has occurred to the
corp.
1)
directorial mismanagement of the corporation – occasioning a
decrease in the value of the corporation (Admittedly each
2)
3)
shareholder suffers harm but only because the value of their stock
reflects the value of the corporation)
awarding excessive salaries to officers
directorial misappropriation of a corporate opportunity
3. Direct/derivative distinction has major practical consequences
1) A challenge is derivative, the s/h need to get the approval of the board before
any action is initiated.
2) If a challenge is direct, then no such approval is necessary.
3) The test: who suffers the harm and who would benefit from the recovery or
remedy.
-
-
-
1. DIRECT CLAIMS:
1. Shareholder (s/h) can bring a direct claim only if she can show direct harm to
her e.g.
- corporation has withheld distribution/dividends from the s/h
- s/h has been denied right to inspect company books
The direct action involves an alleged harm to the shareholder (e.g., failure to pay a
mandatory dividend) where s/h seeks to pursue a personal claim, bringing a direct suit is
just like initiating any other type of claim and should not present any procedural
problems.
1. DERIVATIVE ACTIONS:
If s/h has a beef against the corp., then why not allow them to air their grievance in court
BUT ensure that they aren’t wasting corp. time/assets/energy by providing a mechanism,
which allows the board to decide whether the claim should go ahead – hence ethe need to
make demand of the corp. (demand that the board take action)
The purposes of demand are to allow the corp. to take over the action from the aggrieved
s/h or to resist it – according to the judgement of the directors.
Where the directors cannot be expected to make a fair decision, demand would be futile
and excused.
Where the shareholders make demand, the P is deemed to have conceded that demand
was necessary – so the Board’s decision whether to take over the action or not is subject
to the BJR.
1)
2)
Requirement for SH to petition before launching action.
The right of the shareholder to bring the action derives from the primary
right of the corp. To redress the wrong against itself, although its board of
directors has failed to pursue the action. 股东提起派生诉讼的权利来源于
公司自我纠错的权利，即使管理层并没有实施该行为。
3)
4)
5)
6)
7)
Derivative actions are brought against insiders (the directors, management,
and other shareholders of the corp.)
The suit involves fraud, mismanagement… that are either perpetrated or
ignored by officers and Board of directors of a corp.
The suing shareholders claims to be acting on behalf of the corp., b/z the
directors and management are failing to exercise their authority for the
benefit of the company and all its shareholders.
If action successful proceeds of action, go to the business not the
shareholders.
Involve shareholder(s) alleging harm has occurred to the corporation –
because of e.g.
- directorial mismanagement of the corporation – occasioning a decrease in
the value of the corporation (admittedly each shareholder suffers harm but
only because the value of their stock reflects the value of the corporation)
- awarding excessive salaries to officers
- directorial misappropriation of a corporate opportunity
•
The direct/derivative distinction has major practical consequences:
• If a challenge is derivative, basically – the shareholders need to get the
approval (MAKING DEMAND) of the Board before any action is initiated!
• The purposes of DEMAND are to allow the corporation to take over the
action from the aggrieved shareholders OR to resist it – according to the
JUDGMENT of the directors
• If a challenge is direct, then no such ‘approval’ is necessary
•
Making DEMAND on the Board of Directors, which is a necessary requirement for
the action:
If demand is rejected by the Board, the REJECTION is subject to the BUSINESS
JUDGMENT RULE, which means that it is also protected by the BJR when sound
• the Board must make sure that the demand is treated very seriously
• shareholders can go to court to challenge the rejection of the demand
• BUT if shareholders make a demand, they practically concede that a demand
is invariably required for the derivative action, SO a BETTER WAY is to
initiate the derivative action and state that a demand would be EXCUSED
•
DEMAND will be EXCUSED if the plaintiff can allege with particularity and
detailed information why the transaction isn’t protected by the BJR if
• a majority of the Board is so directly self-interested (direct financial interest
in the challenged transaction) that there is a serious risk that the BJR would
not be effective / futile
o
•
Even where demand is excused, the corp. may still wade into the litigation by
moving to dismiss the suit on the basis that it’s not in the best interest of the
corp.
Whether Demand is REQUIRED or EXCUSED, Board of Directors can always
appoint a Special Litigation Committee to look into the matter
o A Special Litigation Committee is composed of disinterested Board
members, independent ‘outsiders’ who are convened to determine whether
the litigation is, indeed, in the best interests of the business. The SLC’s
recommendations are protected - usually – by the BJR – unless their
conclusions are procedurally significantly flawed, or their independence is
capable of real challenge.
In re Medtronic, Inc. Shareholder Litigation
Shareholders (s/h) maintain they have suffered harm because of a Medtronic/Covidien
merger. The merger through an INVERSION merger.
• A corporate inversion is a mechanism whereby a US-based corporation moves its
place of incorporation overseas to reduce its tax burden
Essentially - former Medtronic shareholders had their so-called ‘old’ shares ‘wiped out’ and
shares in new M issued to them. Meanwhile – new shares are issued to old Covidien
shareholders as part of the compensation for the deal. The results of the new share allocation
dilute the holding and voting rights of former M shareholders. The shareholders must pay tax
on these shares. Medtronic’s reimburses its directors and officers for those taxes but not its
shareholders.
Plaintiff then filed the present suit against Medtronic and its Board of Directors, alleging three
types of harm: injury due to the capital-gains tax liability imposed on shareholders; injury due
to the excise-tax reimbursement made to Medtronic officers and directors; and injury due to
the dilution of shareholders’ interest in Medtronic.
Are the claims filed by an individual shareholder derivative or direct in nature?
•
•
Put more simply, when shareholders are injured only indirectly, the action is
derivative; when shareholders show an injury that is not shared with the corporation,
the action is direct.
The test should be ‘who suffers the harm and who would benefit from the recovery
or remedy’
1. REIMBURSEMENT claim must be derivative because it’s a corporate issue.
2. The other two claims (payment of CGT and share dilution) are tied to the
shareholders - and therefore – direct because they are the ones who pay the taxes.
Grimes v. Donald
Action against the Board and Donald to invalidate Donald’s employment agreement. Donald
and the Board agreed upon an agreement that would run until Donald’s 75th birthday. The
agreement provided that if Donald was “constructively terminated without cause,” (which
would be when there is “unreasonable interference in the good-faith judgment of [Mr.
Donald’s management of the business), he would be eligible for a generous retirement
package. 无故干扰 D 对企业的善意判断中止经营之后，D 可以获得丰厚的报酬
G wrote the Board, demanding that they invalidate the agreement.
Grimes – sues – seeking 1) invalidation of agreement – alleging: abdication by Board of its
duties, 2) breach of duty of care, waste, and excess compensation. Was this direct or
derivative?
• Abdication claim: DIRECT
• Compensation-related claims: DERIVATIVE
-> Court looks to remedy being sought to assist in determining direct/derivative
question
-> If action results in monetary compensation to corporation = derivative
-> Where claim is NON-monetary (remember, Plaintiff is merely seeking
INVALIDATION of agreement) then claim = direct
•
Re: the direct claim:
o if the agreement would prevent Board from effectively exercising its
supervisory and managerial duties, contract would amount to abdication.
o Directors aren’t allowed to abdicate such duties
o So, such a contract would be unenforceable
o Here, contract represented a valid delegation
•
Court re: DEMAND FUTILITY:
o The 3 USUAL grounds for excusing demand as futile are:
A) Majority of Board has an interest in challenged transaction
B) Majority of Board is dominated/controlled by the alleged wrongdoer in the saga
C) Challenged transaction was not product of valid business judgment which could be
protected under the BJR
Held. G waived his right to contest the independence of the Board once he demanded that
they invalidate the employment contract.
Marx v. Akers
Plaintiff challenged Defendants’ decision to increase three of the outside director’s
compensation to $55,000 plus 100 shares of IBM stock.
Excessive compensation: The issue is whether demand was excused because the directors had
an interest in their own compensation.
Held. A director will always be an interested party, for the purpose of the excusal of a
demand, when the director is voting on director compensation, but a plaintiff must
demonstrate with particularity that the compensation is excessive.
•
What is needed to avoid making demand is some sort of directorial
misconduct/mischief that is supported by particularized/detailed information.
Ct identifies 3 bases upon which demand may be excused under NY law
1. Complaint alleges that a majority of board is interested in challenged transaction
2. Complaint alleges board failed to properly inform themselves about the transactions
3. Transaction so egregious that it simply couldn’t have been the product of sound business
judgment.
Re fixing compensation
1. Appropriate to dismiss b/z fails to particularize – the allegations made by the plaintiff
merely conclusionary.
Compare G v. D/M v. A
1. Difference: M v. A leans somewhat more towards adherence to the BJR, but whichever
approach is adopted the outcome is likely to be the same.
2. What is needed to avoid making demand is some sort of directorial misconduct/mischief
that is supported by particularized / detailed information.
Derivative actions process
Normally, if
1. s/h are upset about a problem
2. that’s caused damage to the corporation
3. and s/h want the board to do something about it
4. s/h would pursue a derivative action
5. b/z there’s an allegation of harm to the corp.
6. a derivative action requires s/h to write to/approach BoD requesting BoD to take the
action over / make demand.
7. b/z the action (the thing that the has upset s/h and that has allegedly caused the damage to
the corp.) belongs to the corporation
8. s/h have no right to sue re: damage to something or someone else
9. BoD runs the corp. so only the BoD can decide whether the s/h should be pursued.
10. Reqt in 6 to make demand happens in the majority of derivative actions where there is no
doubt about the integrity / bona fides
11. BoD will consider the matter BUT – as we all by know by now – they will usually reject
the s/h grievance
1） BoD’s rejection of s/h concerns is based on BJR / and – therefore – protected
by BJR
2） In order to overcome the obligation to make demand on the board b/z it
would be futile, s/h must point to something dodgy. Re: BoD – an allegation
supported by particularized/detailed information
3） s/h can then claim that making demand is excused.
12. Demand may be excused if s/h’s raise a doubt about the impartiality, prejudice of the
board or the protectiveness of the BJR.
13. Whether demand is required or excused, BoD’s can always appoint SLC to look into the
matter / their conclusions usually help BoD
Auerbach v. Bennett
In 1975, after reports of several multinational companies offering bribes and kickbacks to
foreign officials, GTEC appointed outside counsel and auditors to determine if anyone at
GTEC was involved in similar conduct. After the outside consultants found wrongdoing by
former and current members of GTEC’s Board, Auerbach brought a shareholder’s derivative
suit against the Defendant Board. Defendants appointed a three-person special committee
comprised of members who were not on the board at the time of the wrongdoing. The
committee reviewed the auditor findings and decided that in the best interests of the company
that they should not pursue an action against the Board members. Wallenstein continued the
suit arguing that any committee appointed by the corrupted directors should be considered
interested parties. 收受贿赂，并且认为由腐败董事会任命的委员会也是利益相关者
LC: litigation c’tee – LC comprised Directors who joined Board after the challenged
transactions. LC decides not to sue earlier directors.
Court: Courts may not have commercial acumen or expertise, but they are well-equipped and
experienced in dealing with matters of PROCEDURE – considered to be adequate.
Committee was INDEPENDENT and followed proper and complete PROCEDURES (by way
of conducting a reasonable investigation) in making decision NOT to litigate this matter.
Ct: will normally agree to dismiss s/h complaints / take the side of the corp., if SLC is:
1. Truly independent and
2. Conducted a reasonable investigation (its decision is also protected
by BJR)
Zapata v. Maldonado
Maldonado brought a deriv. suit on behalf of Z brought against several officers and directors.
M claimed demand is excused! However, an INDEPENDENT committee concludes M’s
complaint should not be pursued.
The court applied a two-step test to determine if the Committee should be permitted to
dismiss the litigation.
-
-
1. Step 1: inquiry into the independence and good faith of the c’tee; inquiry into the
bases supporting the c’tee’s recommendations.
Ct decides whether there was a reasonable basis for the decision.
Whether IC acted independently: Defendant corporation has the burden to prove that the
Committee is independent and
is exercising good faith
with reasonable investigation.
2. Step 2: ct may go on to apply its own business judgement as to whether the case is to
be dismissed.
the court (???) should undertake an independent enquiry into whether the s/h’s grievance /
suit should be rejected / dismissed (in other words / reviewing SLC’s business judgment)
•
The purpose of this two-step process is to attempt to strike a balance between:
1) the right of the Board members to control corporate affairs AND
2) the right of the shareholders to protect their own interests
Consider the following
1. In the sort of case where demand is required, the board is – at least nominally – not faced
with any conflict of interest / bias issue – court feels it can defer to the board where the
board seeks to dismiss the derivative suit
2. But in demand excused cases, clearly the board was not independent at the time of the
initial suit, so perhaps there needs to be greater judicial/review scrutiny of (the IC’s
decision)
•
Zapata = far more intrusive judicial review than usual. Why?
o Context: Demand was excused because board disabled from acting due to
conflicted interests
o Committee appointed by the disabled board
o Potential for structural bias!!!!
Delaware County Employees Retirement Fund v Sanchez
Sanchez Family-owned PRIVATE SANCHEZ COMPANY.
In this derivative action – pointing to obvious conflict of interest, claims, demand was
EXCUSED because at least 3/5 Members of the Board were interested Directors; 2/5 were
Sanchez - FATHER and SON.
Court held that P had failed to establish sufficient facts to support conclusion that the others
were not independent. On this appeal, S Ct focuses exclusively on 1/3: ALAN JACKSON
AJ was long-standing close friend of Chairman Sanchez PLUS much of AJ’s income and
wealth depended on his job…at an insurance subsidiary of Public Company. Insurance
subsidiary provided services to Public Company and other Sanchez affiliates.
The lower court had erred by separating…its consideration of friendship from its
consideration of financial dependence. This friendship was much more than moving in the
same social circles. At the pleading stage there is enough to question AJ’s impartiality in
relation to matters of economic importance to the Sanchezes.
City of Birmingham Retirement and relief system v. Good
The P stockholders had failed to plead demand futility with their Caremark-style claim for
failure of oversight.
Oversight/monitoring/supervision
- Obligatory/Mandatory
Failure to provide/operate above
- Major violation of fiduciary duty of loyalty
No exculpation of breaches of d/loyalty: No breaches forgivable under the section but not
duty of loyalty breaches/bad faith.
No statutory exculpation: directors are personally liable.
When assessing demand futility for an alleged failure of oversight claim under Caremark – Pmust plead particularized facts sufficient to show BoD inaction of exposing to substantial
likelihood of personal liability.
- P must allege with particularity that: D acted with actual or constructive knowledge that
their conduct was improper.
Ct: s/h were required to make a demand on the board to consider the claims before
filing suit.
1. Re: presentations
1) Ct concluded that P unfairly described the presentations. Board was provided
with appropriate status update.
2. Re: alleged collusion
1) P’s should have alleged in sufficient detail that D illegally colluded
with a corrupt regulator and improper collusion tied to intentional
oversight failure of the board.
2) P’s need does not have conclusive proof of all their contentions.
Must plead particularized facts that support: particularized facts that
support a rational inference of non-exculpated breaches of fiduciary
duty by a majority of the board of directors.
3.
China Agritech, Inc. Shareholder Derivative Litigation
China Agritech purportedly operates a fertilizer manufacturing business in China. According
to plaintiff Albert Rish, China Agritech is a fraud that serves only to enrich its co-founders.
Rish has sued derivatively to recover damages resulting from (i) the company’s purchase of
stock from a corp owned by the co-founders, and the suspected misuse of $23m raised by the
company in a secondary offering, (ii) the mismanagement that occurred during a remarkable
24 month period that witnessed the terminations of two outside auditing firms and the
resignations of 6 outside directors and 2 senior officers, and (II) the Special Investigation
C’tee’s decision to take no action.
The court must decide whether a reasonable doubt is created that:
(1) the directors are disinterested and independent; and
(2) the challenged transaction was otherwise the product of a valid exercise of
business judgment.
1. The litigation alleged a systematic lack of oversight at the corporation. Therefore,
the s/h was excused from making a demand because the directors were not
disinterested since they stood on both sides of the transaction and because
documentary evidence raised a reasonable doubt about the Directors’ ability to
disinterestedly consider a litigation demand.
1. Court refused to dismiss s/h derivative suit because members of the audit committee
faced a substantial risk of liability from failing to discharge their oversight duties.
• CA unable to produce minutes from a single meeting of the audit committee held
during the period. Lack of documentary evidence re: audit c’tee meetings supports a
reasonable inference that audit committee acted in bad faith!!!!
•
Director’s face substantial risk of PERSONAL liability given that they failed to have
a sufficiently effective OVERSIGHT programmed in place! (they couldn’t even
produce proper documents when asked / unable to file reports with SEC……they
really have no control over what’s happening within the company / unable to cooperate/comply with auditors / their disclosures to USA/Chinese Authorities were
different/inconsistent pattern of evasion - / in addition to which we have to consider
the allegations made against the company following the investigative visit that
McGee makes)
1. The directors also could not, under Del. Code § 102(b)(7) invoke the exculpatory
provision in the corporation's certificate of incorporation as a defense. (Remember
that failure to have an effective oversight programmed is a breach of the Duty of
Loyalty under s.102(b)(7) for which there is NO forgiveness and therefore exposes
directors to risk of PERSONAL LIABILITY!! / Stone v Ritter)
•
Why is an Oversight Programmed mandatory? It’s mandatory because Board needs to
KNOW WHAT’S GOING ON!!!
Now, universal test for determining demand futility acc to United Food and Commercial
Workers Union and Participating Food Industry Employers Tri-State Pension Fund v.
Zuckerberg:
If the answer to any of these questions is “yes” for at least half of the members of a
demand board, then demand is excused as futile
1. whether the director received a material personal benefit from the alleged misconduct
that is the subject of the litigation demand;
2. whether the director faces a substantial likelihood of liability on any of the claims that
would be the subject of the litigation demand;
3. whether the director lacks independence from someone who received a material
personal benefit from the alleged misconduct that would be the subject of the
litigation demand or who would face a substantial likelihood of liability on any of the
claims that are the subject of the litigation demand.
Control (Proxy Fights; Shareholder proposals; Shareholder inspection rights;
Shareholder transactions)
Because few shareholders of public companies attend the annual meeting, the outcome will
generally depend on which group has collected the most “proxies”. Shareholders may appoint
an agent to attend the meeting and vote on their behalf. That agent is the shareholder’s
“proxyholder”; the document by which the shareholder appoints the agent is also called the
proxy. The person with the most proxies usually wins in the meetings.
“Proxy fights” result when an insurgent group tries to oust incumbent managers by soliciting
proxy cards and electing its own representatives to the board.
Levin v MGM (proxies)
Levin and friends owned 11% MGM stock. Value = approx. $20 million. Levin on Board.
However – L’ didn’t like the way the O’Briens ran the business. So, L organizes a proxy
battle to oust O’Briens. O’B hires PR company, advisers, lawyers etc., which incurs expense
on MGM. Levin and friends object to the use of corporate money being spent on behalf of the
O’Brien group. 代理权争夺战，股东认为不应该用公司的钱聘请律师等人
MGM wins here. Expenditure was neither excessive nor illegal. This is a policy dispute
rather than a personality clash or power struggle. Amounts disclosed in proxy statement.
Amounts not considered excessive.
•
In contests over policy, the Incumbent Board may charge the firm reasonable proxy
solicitation expenses
Rosenfeld v Fairchild Engine & Airplane Corp.
The old board of directors and the new board spent over $120,000 each in soliciting proxies
for a shareholder vote for new directors. After the new board won, they authorized Fairchild
to reimburse the old board for most of their expenses, and they voted to have Fairchild
reimburse their own expenses.
The PROXY BATTLE was about CORPORATE POLICY and NOT about personal
control.
Court considers these expenses reasonable.
Rule: When there is a good faith dispute over policy the Insurgent Candidates may charge the
firm reasonable proxy solicitation expenses, provided the Insurgents win and the shareholders
approve the expenditure.
Trinity Wall Street v. Wal-Mart Stores, Inc.
Trinity Wall Street was one of the shareholders of Wal-Mart Stores, Inc. Trinity drafted a
shareholder proposal. Brand value.
• Invest where opportunities exist to enhance returns for both shareholders and society.
• The proposal calls for the C’tee to oversee the development of policies re products
that:
o especially endanger public safety and well-being.
o have the substantial potential to impair the reputation of the Company
o and/or would reasonably be considered by many offensives to the family and
community values integral to the Company’s promotion of its brand.
Under Rule 14a-8 of the Securities and Exchange Act 1934, a company must generally
include a shareholder proposal in its proxy materials unless the proposal meets one of the
specified exceptions set forth in the rule 14a-8(i)(7), which permits a company to exclude a
proposal if it simply relates to the ordinary business operations of the company - its day-today operations.
• 必须考虑公司的提案，除非该提案仅仅有关公司的普通运作
• For a policy issue here to transcend W-M’s business operations, it must target
something more than the choosing of one among tens of thousands of products it
sells.
• According to the SEC: a proposal may transcend a company’s ordinary business
operations even if the significant policy issue relates to the “nitty gritty” of its care
business.
Ct determines 2-part analysis: 3 prongs
1. What’s the subject matter of the proposal?
2. Does the identified subject matter relate to the company’s ordinary business operation,
3. If so, does the proposal implicate a significant social issue or public policy? and
4. Does the proposal’s subject matter transcend 超出 the company’s ordinary business?
According to the Court, although Trinity’s proposal addressed a significant social policy
issue, it did not transcend Wal-Mart’s ordinary business operations.
Lovenheim v. Iroquois Brands, Ltd.
Plaintiff wanted to insert a proposal to determine whether a supplier of pate de foie gras
force-fed the geese to enlarge the livers. The pate represented less than .05 percent of
Defendant's sales, and the product operated at a loss.
Rule 14a-8(i)(5) provides if s/h proposal relates to operations that account for less than 5% of
firm’s assets, earnings or sales AND is not otherwise significantly related to the firm’s
business, the proposal may be omitted from the proxy statement.
Held: the term “otherwise significantly related” is not limited to economic significance.
Rather – matters of ethical and social significance can be included because:
• Rule is ambiguous.
• The older Medical C’tee decision implied that proposals involving general political
and social concerns were acceptable.
Crane Co. v. Anaconda Co.
Preface: In battle for control, an insurgent will want to identify the holders of large blocks of
shares and spend most of their efforts trying to convince those major shareholders to support
them. This would be the “shareholder list”; but under federal proxy rules, the corporation is
not required to hand over such shareholder list. These battles are fought under state laws…
Facts: Crane made a tender offer for Anaconda stock. Crane requested a list of shareholders.
要求获得股东名册
Section 1315 of the statute requires a written demand along with an affidavit that the
inspection will be for a proper purpose, which Respondent did in this case (the proper purpose
being the tender offer).
Pillsbury v. Honeywell, Inc.
Pillsbury was part of an anti-war group that decided to target Honeywell for their
manufacturing of weaponry that would be used in the Vietnam War. P decided to purchase
shares of Honeywell for the purpose of requesting corporate documents, as a shareholder, to
identify other shareholders and corporate records re production of the bombs.
Court: Judgment for H. P lacks a proper purpose for requesting shareholder list or corporate
records
• The proper purpose must pertain to investment purposes rather than just simply
whenever a stockholder has any grievance with a company’s management.
• The court will not allow an absolute right of inspection.
Sadler v. NCR Corporation
The Sadlers, who worked with AT&T, wanted to receive NCR corporate records regarding
shareholder identity. AT&T worked with the Sadlers because the Sadlers were shareholders
that satisfied all of the requirements of § 1315(a) of the New York Business Corporation Law
that allows a request of the information, namely that it had to be from a NY resident who held
NCR stock for longer than six months.
Can AT&T effectively have Sadlers act as their agents?
Nothing in this NY Statute prevents this sort of ATT/Sadler (Principal/Agent) arrangement.
•
•
CEDE List: A list of “street names” of the shareholders = where recorded owners are
brokers, banks or other third parties.
NOBO list: non-objecting beneficial owners i.e, shareholders who don’t object to
their identities being disclosed
Dominant shareholders
Usually, Directors and Shareholders don’t have the same fiduciary duties!
股东和管理层的 FD 是不一样的
D are there to supervise the company on behalf of the shareholders, s/h are there to make
money.
However, there are circumstances where cts will impose some FD some s/h.
Shareholders may control the Board. If that is the case, then the Board can’t be an
independent monitoring body and so courts will impose the Board’s fiduciary duties directly
on the shareholders.
Some corp. actions require a s/h vote.
If a controlling/dominant shareholder uses a vote in a way that the court thinks is unfair (e.g.,
exploitation of the majority vote to get a benefit whereas the minority does not benefit) then
the court may hold that the controlling shareholders have breached their fiduciary duties to
the other shareholders.
Generally, transactions between a dominant/controlling shareholder and the corporation are
subject to a FAIRNESS test:
• Shareholder has burden of proving transaction was FAIR to corp
• BUT the test ONLY applies when there is potential for self-dealing/self-interest in the
deal
i.e., when controlling s/h gets something at the expense of the corp. or the minority s/h
Sinclair Oil Corp. v. Levien
Levien sued as a minority shareholder of Sinven which was a subsidiary of Sinclair Oil
Corporation. Levien alleged that (i) Sinclair caused Sinven to pay out excessive dividends, (ii)
Sinclair usurped Sinven’s business opportunities, and (iii) Sinclair permitted another
subsidiary - Sinclair International - to breach contracts with Sinven.
Judgement for Levien on iii re contracts since Sinclair engaged in self-dealing. Judgment for
Sinclair on i and ii re dividends and business opportunities.
• where no “self-dealing”, BJR applies!
• Because the contracts involved self-dealing, Sinclair had a burden to proof that
transactions were fair
• P showed no evidence of self-dealing either in respect of the dividends or corp.
opportunities, so BJR applies to both these.
Zahn v. Transamerica Corporation
Preface: Corporations issue different kinds of stock:
1. Common stock: one share = one vote
2. Preferred stock: first claims on dividend distribution / usually NO voting rights / NO
CONTROL over business / Dividends paid at set price at regular intervals /
predictable and stable investment / if biz goes into liquidation, then these
stockholders are protected.
3. Class A & Class B stock: Usually the ‘A’ “Team” has the most voting rights! Class
‘B’ s/h will have lesser fractional ownership interests in corporation and therefore
less votes – so less opportunity to influence and shape corporate policy.
Zahn brought this suit after Transamerica Corp., as the majority shareholder of Axton-Fisher
(“A/F”). T/A effectively controls A/F / it owns a large slice of the A/F business so can it
“cash in” / exploit the increasing value of tobacco that A/F owns by selling off A/F and its
assets. Transamerica converted all their Class A stocks to class B stocks, and then called for a
redemption of outstanding Class A stocks at $80.80 per share (Redemption is process
whereby Corporation REQUIRES S/H to sell their stock back to the Corp). T/A caused A/F
(thru’ their CONTROL of A/F Board) to redeem Class A stock at a price considerably below
that of the liquidation’s value! Right after the redemption T/A liquidated A/F. Upon
sale/liquidation Class A shareholders would receive TWICE as much as Class B shareholders.
Issue is that T/A is exploiting s/h ignorance!
•
For the A Team to decide IN AN INFORMED MANNER whether to sell their Class
A shares back OR convert their A shares to B shares (and thereby share the profits of
any sale of A/F), THOSE SHAREHOLDERS NEED TO KNOW ABOUT:
1) THE VALUE of the TOBACCO (i.e., the value of the A/F business
2) THE PLANNED SALE OF A/F
•
By NOT informing these S/H - the Directors of T/A breached their fiduciary duty of
loyalty to their S/Hs (their principals…. the Directors are – of course – S/Hs’ agents!)
The 3 provisions
1. Redemption: The Board could ask holders of Class A shares to sell them back to A/F for
a specific price
2. Holders of Class A could convert to Class B
3. Upon sale/liquidation of A/F-Class A shareholders would receive twice as much as class
B
Ultimately - the court awarded S/H the difference between the amount the B Team received
and $80.80!
Control in Closely Held Corporations
= any corporation that only has a limited number of shareholders!!
California rule: 35 shareholder’s limits!!
Shareholders make arrangements about how they will vote - in particular - for whom they will
vote on to the Board of Directors.
Ct allows this type of arrangement.
Shareholders agreements are enormously important, such as conflict resolution provision.
• Distribution of Shares and voting powers.
Ringling Bros-Barnum v Ringling
Shares in Ringling Brothers were owned as follows: • EDITH CONWAY RINGLING – 315
• AUBREY RINGLING HALEY - 315
• JOHN RINGLING NORTH 370
Edith and Aubrey had written agreement: - would vote together for 5/7 Directors
- In event of disagreement – manner of voting would be decided by an ARBITRATOR.
Arbitrator would be LOOS who also happened to be their lawyer.
Disagreement happened w/ Loos giving a voting recommendation. It was declared by Chair
of meeting that the votes should be counted as if the agreement had been put into effect as Mr.
Loos had directed, setting Dunn as director, EVEN THOUGH Mr. Haley – acting on behalf
of Mrs. Haley – refused to vote for Dunn.
Can Edith and Abrey combine their shares to take control over the business?
•
Even though Edith and Aubrey elect 5 out of 7 directors together, they CANNOT
CONTROL those directors (no puppets), BUT the directors have their TRUST
Court decides that voting arrangements whereby shareholders pool their voting power are
perfectly permissible. / Perfectly lawful
Although the court says that this Agreement is NOT self-enforcing.
McQuade v. Stoneham
Stoneham (S) owned a majority of stock in the NY Giants. McGraw was Giants’ Manager.
McQuade was a City Magistrate. McG + McQ bought small interest in Giants from
Stoneham. At the time of purchase, the parties agreed to do everything in their power to keep
Stoneham as president, McG as vice-president and McQ as treasurer. McQ was removed for
his conflicts with Stoneham.
Ruled: The agreement was invalid as a matter of public policy. Shareholders should not be
able to usurp the decision-making normally left to the directors. The agreement potentially
jeopardizes the interests of the minority shareholders. McQ was also ineligible for
employment because he was a City Magistrate.
Clarke v. Dodge
Clark (C) and Dodge (D) together owned 2 drug companies. C owned 25% and D 75%. The
companies manufactured medicine, the formulae that were known only by C. C entered into
an agreement with D wherein C agreed to disclose the formulae for Director and General
Manager position if his performance was faithful, efficient and competent AND would
receive 25% of profits.
D fired him and claimed agreement was void, citing McQuade v. Stoneham that the
agreement was invalid because it required D as a shareholder to usurp the directors’
judgment.
The McQuade court invalidated a similar agreement because it affected the rights of others
that were not part of the agreement, and therefore it fell under the public policy argument. In
this case, the only shareholders were D and C, and therefore the agreement between the two
did not have any, or at least negligible, consequences on the public.
Galler v. Galler
Benjamin and Isadore Galler (BG and IG). IG’s son Aaron (A) was an employee. BG and
WIFE, Emma (EG – the Plaintiff) owned 47.3% (104 shares). IG and WIFE, Rose owned
47.3% (104 shares). They had sold 5.4% (12 shares) to an employee Rosenberg. Rosenberg
never heard of. BG and IG decide they need Shareholder Agreement. While agreement being
prepared - BG suffered heart attack and died in Dec 1957. Agreement was signed by 2
brothers and wives in July 1955.
Agreement provides: 2 families would each have 2 seats on Board even if one of brothers
died.
Business would pay dividends subject to limitations. Business would pay an amount to the
widow of either brother following his death.
Agreement enforceable
1. This is a close corp.
2. There is no objection by any minority s/h
3. Terms of agreement were reasonable – limited duration / would only pay
dividends if sufficient surplus / amount of money payable to widow was
The agreement was valid. The court cited Dodge v. Clark, to support the premise that because
this agreement did not harm the public and was fair to the parties of the agreement, there is no
offense to any public policy concerns. The terms of the agreement were also reasonable. Even
though Mr. Rosenberg was involved, McQuade does not apply because Rosenberg did not
object! (Acc to the court)
Ramos v. Estrada
Broadcast Group (BG) had 50% interest in Television Inc. (TV). Ventura 41 (VG) owned
other 50%. BG comprised 6 couples. RAMOSES held 5 times as much stock as the other
couples – including the ESTRADAS. Ramoses wound up with 25% of TV. Estradas with 5%
and each of the other couples with 5%. Initially BG shareholders could select 4/8 then 5/9
TV Directors.
Each member of the Broadcast group entered into a shareholder agreement that required
everyone to vote according to the will of the majority, thereby assuring that the group would
maintain a director majority. If a member of the group did not vote according to the majority,
then they were required to offer their shares for sale to the other members.
At Meeting of TV Directors, ESTRADA sided with VG in order to oust RAMOS as TV
President. At next BG meeting, group voted to nominate a group of Directors that
EXCLUDED Estradas
Estradas refused to accept and abide by the vote. So then other BG members claim they had
right to buy Estrada TV stock as provided by Agreement.
The agreement was valid despite the fact that the corporation at issue was not a close
corporation. California close corporation laws allow for such a shareholder’s voting
agreement.
• There was consideration provided for each member (to preserve their power in
controlling the board of directors), and the provision here is especially necessary
because the stock is not easily marketable, i.e., it has the characteristics of shares in a
close corporation.
Seemingly - she is punished INDIRECTLY - by enforcing the SHAREHOLDER
AGREEMENT – for DIRECTLY exercising her directorial freedom to vote however she
wanted at a BOD Meeting - and that freedom includes voting to oust Ramos!
In a nutshell from Webster: As a director she can’t be punished from voting her way but she
can be punished for violating the valid contract.
Abuse of control
Wilkes v. Springside Nursing Home, Inc.
• Court says a close corp is very like partnership!
• So court imposes on SHAREHOLDERS in close corporations a fiduciary duty that is
like the duties that partners owe each other
• Here’s how it works:
1) Shareholders in close corporations owe each other a duty of STRICT GOOD
FAITH
2) If challenged by a minority shareholder, a controlling group must show A
LEGITIMATE BUSINESS OBJECTIVE for its actions
3) A plaintiff minority shareholder can STILL prevail if she can show that the
controlling group could have accomplished its business objective in a way that
harmed her interests less
Ingle v. Glamore Motor Sales, Inc.
Glamore (G) owed auto dealership. G employs Ingle (I) to manage it. G sells I 22 then a
further 18 of the 100 shares in corp. G & I had agreement – namely: - if I were to leave G’s
employment for any reason - G had the right to buy I’s shares. G brings sons into
business/corporation; and fires I. -> I maintain he was protected from being fired because he
was a shareholder and his status as a shareholder gave him special rights which would ensure
he kept his job.
• Ingle loses since he has no employment security.
• When G wanted to fire I - which he could do for any reason – this firing triggered the
share re-purchase agreement which I entered voluntarily and cannot complain about
now
• His status as a shareholder did not protect him from losing his job or give him any
special rights as far as his job was concerned
• Ingle - unlike Wilkes - was PRIMARILY an employee and SECONDARILY a
shareholder
Brodie v. Jordan
Brodie (B) inherits 1/3 of Malder Corp shares from Walter - her husband. 2 other
shareholders - Jordan (J) and Barbuto (B) each owned one third of the shares. B sought
unsuccessfully to join Board of Directors. B wants financial and operational info about corp. J
and B didn’t have a meeting for 5 years!
Trial court said Defendants had interfered with B’s reasonable expectations by EXCLUDING
her from corporate decision-making, preventing her from having access to corporate info and
hampering her ability to sell her shares on open market. -> but trial court forced a buy-out of
B.
On appeal – the forced buy-out of B’s shares is not permissible!
• Forcing D to buy B’s shares gives B MORE than her reasonable expectations
• So enforced purchase is not an appropriate remedy
• It is easy to buy/sell shares in a publicly traded corporation (like General Motors)
because there is a ready market for such shares, there is no such ready market for
shares in small family close corporation businesses such as the one here in Brodie.
• The court cannot CREATE a market for the shares here by making the Defendants
buy the shares because such a FORCED purchase of B’s shares would be beyond the
reasonable expectations of such a shareholder.
•
Solution: “Buy back” provision in shareholder agreement incl. independent
assessment of value of the stocks.
Smith v. Atlantic Properties, Inc.
(Fiduciary duty of a minority shareholder!!)
W was worried about being frozen-out and so ensured that Atlantic’s articles of incorporation
and by-laws ensured that all important business decisions required an 80% shareholder vote.
W (who was in a higher tax bracket than the others) said he wanted to commit the profits on
property repairs and improvements (Never provided any plans). W didn’t want Atlantic to pay
dividends – the other 3 did. This was because of W’s dislike of the other investors and
because he didn’t want to end up paying more tax which he would have forced to do on
receiving dividend payments. So much profit was built up that Atlantic became liable for the
Accumulated Earnings Tax.
•
•
Minority shareholders owe other majority shareholders the same fiduciary duties as
majority shareholders owe others!
It is W’s fault that Atlantic has incurred the additional tax burden.
Alaska Plastics, Inc. v. Coppock (on dissolution)
Coppock divorced one of the three Alaska Plastics directors and was given 1/6 of the
outstanding shares in the divorce settlement. The directors offered to purchase Appellee’s
shares for $15,000, but Appellee hired an attorney and accountant to assess a higher value of
the shares. After Coppock filed an action for an equitable remedy, the lower court ordered AP
to purchase her shares for $32,000 and to pay attorney fees and interest.
The issue is whether C is entitled to equitable relief by forcing AP to purchase her shares at a
price determined by the lower court.
a) The parties had no contract (or by-law provision) requiring the corporation to buy the
shares.
b) Alaska corporate law does not require the firm to buy Muir’s shares.
It does permit shareholders to sue for dissolution and, if plaintiff meets the requirements for
dissolution, the courts have equitable power to order such a buy-back instead.
•
But to dissolve, the plaintiff must show oppression or fraud and the lower court made
no such finding. Dissolution should be avoided because it’s so drastic!
Haley v. Talcott
Haley and Talcott each held a 50% interest in Matt and Greg Real Estate, LLC. The LLC
owned land on which restaurant called Redfin Seafood Grill was located. The two had a
falling out and Haley sued for judicial dissolution. Talcott claimed that Haley was limited to
the exit provision in the LLC operating agreement.
•
Court grants a decree of dissolution despite the existence of an apparently exclusive
contractual exit provision!
Exit device:
(1) The barebones LLC dissolution provision may be interpreted by analogy to § 273*** of
the Delaware General Corporation Law.
(2) Under § 273***, a shareholder is entitled to dissolution on grounds of deadlock if three
conditions are satisfied: 如果满足三个条件，股东有权以僵局为理由解散
(i) the corporation must have two 50% stockholders
(ii) those stockholders must be engaged in a joint venture, and
(iii) they must be unable to agree upon whether to discontinue the business or how to
dispose of its assets.
•
It would be inequitable to limit Haley to the exit provision because doing so would
leave him subject to the guarantee he had given on the mortgage on the property.
Pedro v. Pedro
Alfred, Carl, and Eugene Pedro ran a family leather products firm. Each owned 1/3 of the
shares / each worked in the firm. The brothers entered into a stock retirement agreement that
allowed them to buy back shares of a deceased brother at 75% of net book value. Alfred
noticed discrepancy of $330,000 in the accounting records, demanded an independent
accountant to investigate. Eventually, they fired Alfred. Alfred claims they breached their
fiduciary duty owed to him, that he had a contract for lifetime employment and that he
suffered numerous injuries resulting from the termination.
The issue is whether Carl and Eugene violated a fiduciary duty owed to Alfred by the
termination and the subsequent buyout of his shares below market value.
Held: Alfred is entitled to the fair market value of his stock, to the value of his lost future
wages (on the theory that he had an employment contract for life) and attorneys’ fees.
(i) Alfred gets the amount to which he is entitled under the SRA—75% of book value. (ii)
But entitled to difference between that amount and the fair market value of the shares as
damages for breach of fiduciary duties.
Stuparich v. Harbor Furniture Mfg., Inc.
Malcolm (M) Tuttleton, Jr / Candi T. and Ann Stuparich owned equal amounts of NONvoting shares / family business. Malcolm had a majority of VOTING shares. The shares were
passed down by family members to both parties. Harbor Furniture was comprised of two
business ventures: a furniture company which lost money, and a mobile home park which was
lucrative.
The sisters sought involuntary dissolution under Cal. Corp. Code § 1800(b)(5) / applies to
corporations with fewer than 35 shareholders and requires only that the dissolution be
“reasonably necessary for the protection of the rights or interests of the complaining
shareholder of shareholders.”
The issue is whether Plaintiffs raised triable issues of fact that would justify an involuntary
dissolution of Harbor Furniture.
•
All the sisters can claim is that they can’t get along with brother – Malcolm - and
disagree with M about his stategy re: the business (judgment).
Message of the case: Just because the individuals have some issues, doesn’t mean that a
corporation must be dissolved. Ultima ratio!!
Mergers & Acquisitions
1. Three ways of structuring a transaction:
a. Stock purchase
b. Asset sale
c. Merger
1. Major considerations
a. Transferability of liabilities -> General rule: The acquirer assumes all liabilities
(exception asset sale = only designated liabilities)
b. Third party contractual consents (usually not necessary in Share Deal or Merger)
c. Stockholder approval (not necessary for asset sale)
d. Tax consequences
1. De Facto Merger Doctrine (Corporations try to cheat around stockholder rights to
accomplish an acquisition)
a. Under a statutory merger, a merger agreement is filed, and the merging company would
disappear, and all the property interests, rights, and obligations would pass by law to the
acquiring company.
A merger approval by votes of the board of directors and shareholders of
each corporation is generally required. Shareholders who voted against the
merger are entitled to be paid in cash the FMV of their shares (called
“appraisal right”).
a. Under a practical merger, no statute procedure is used, and a corporation could simply
offer its shares (or cash) to the shareholders of the other corp in return for their shares. No
votes required; no appraisal rights. Outcome: Control; and use of a subsequent “short-form
merger”.
b. Under an asset-acquisition/asset-deal, the acquiring corporation does not succeed to
unforeseen liabilities of the acquired corporation as it would under a statutory merger (known
liabilities will be satisfied by the seller or assumed by the buyer and taken into account in the
purchase price).
Appraisal Rights:
• Under s. 262 of the Delaware Code – appraisal rights are not available to shareholders
of a firm “listed” on a national securities exchange
• To recap Dissenters’ Rights are rights which corporate statutes give shareholders to
sell their stock to the corporation at its fair value.
• The rights apply only when a shareholder objects to (dissents from) specified basic
corporate transactions.
•
•
•
•
By fair value, courts generally refer to the appraised value (hence the term appraisal
rights) of the stock immediately before the transaction at issue.
If a shareholder has invested in a given firm, the firm should not be able to transform
that investment into an investment in a fundamentally different firm*** - (even an
investment of the same value)
Secondly, basic corporate changes such as mergers may cause shareholders the risk of
economic loss. In order to protect those shareholders, the law gives them the right to
have their shares redeemed at their pre-transaction value.
Although the target’s documents and state law may require a lower threshold,
acquirers typically request a very high threshold of shareholder approval (90% 100%) out of concern that stockholders who have not approved the transaction might
exercise appraisal rights
Farris v. Glen Alden Corporation
List owned 38.5% of Glen Alden. It wanted to merge the two companies. In order to do so, L
sold its assets to GA in exchange for GA stock. L then liquidated and distributed the GA
stock to its shareholders. Since L was much larger than GA, the L shareholders wound up
owning 76.5 percent of the GA shares. A GA shareholder, claimed that he was entitled to
dissenter’s rights.
• If the two corporations had merged in a statutory merger, then the boards of both and
the shareholders of both would have voted on the merger.
L was a Delaware corporation. GA was a Pennsylvania corporation. Under Delaware law,
shareholders in a merging corporation had dissenters’ rights / BUT shareholders in a
corporation selling its assets did not. Under Pennsylvania law, both shareholders in merging
corporations and shareholders in corporations selling their assets had dissenters’ rights!
•
•
This case is about de facto mergers! Appraisal Rights cause problems. In order to
circumvent these problems, business entities structure their transactions in such a way
as to avoid Appraisal Rights.
The doctrine of de facto merger is an illustration of where the court looks to
substance over form.
Fundamental change in the nature of the business and the shareholder has been forced to give
up his shares in one company and against his will accept shares in a totally different business.
•
As a result of this decision in the case, the minority is able to block the transaction by
insisting on the opportunity to be cashed out!
Hariton v. Arco Electronics, Inc.
A would transfer its assets to Loral/L in exchange for L shares. A would then liquidate and
distribute its L shares to its own shareholders. P sued to stop the transaction because: it was
ALLEGEDLY/effectively a merger that did not follow proper merger procedures!
•
Transaction is legally ok, simply a strategy to reorganize the 2 corporations.
Weinberger v. UOP, Inc. (freeze out of minority shareholders)
Signal owned 50.5 percent of the shares of UOP and controlled it. A memorandum prepared
for Signal by Arledge and Chitiea (both officers of Signal and directors of UOP!!!!), using
information they got from UOP(!!!), concluded that the acquisition of the rest would be a
good deal at any price up to $24 per share of UOP. The Signal board decided to offer $21 per
share.
Ultimately approved by the UOP board and accepted by the UOP shareholders. The market
price had been around $14! Arledge and Chitea did not reveal what they knew to the other
UOP directors OR to the UOP shareholders OR make any effort to extract a higher price.
Crawford got a fairness opinion from Lehman Brothers, but it was hurriedly prepared.
Court: The merger did not meet the test of fairness. Arledge and Chitea failed in their duty of
loyalty to UOP. -> Court applied its own fairness test!
• Fairness means fair dealing and a fair price. Fair dealing requires candor/honesty and
disclosure.
• PLUS: Never any bargaining by other board members
• Disclosure to independent directors and to minority shareholders was inadequate.
•
Finally, the Court holds that mergers need not meet any business-purpose test.
Sufficient that the majority simply wants to cash out the minority and get rid of them,
if the requirements of fair procedure and fair price are met.
•
Court: holders of dual directorships owe the same duty of good management to both
corporations. But that cannot work where there is a conflict. Signal made a fatal error
at the outset when Arledge and Chitiea were assigned the task of working for Signal
in the acquisition, while they were directors of UOP.
Suggestions for a better deal:
1. Make sure that the Signal people on the UOP board are kept completely out of any studies
or discussions of Signal strategy. They must be isolated from the entire transaction.
2. Appoint a special committee of the UOP independent directors to study the offer.
3. Hire an INDEPENDENT investment banking firm with no connection with Signal to do a
thorough study and produce a fairness opinion.
4. have Crawford withdraw from the negotiations.
5. make sure that the UOP shareholders are informed of everything significant that any of the
UOP directors or officers know.
Rauch v. RCA Corp. (De Facto-实际上的 non-Merger)
In a liquidation preferred stockholders have a greater claim to a company's assets and
earnings.
Perferred stock and common stock
• Perferred stock: priority over a company’s income-get dividends before the common
stock.
• Common stock: voting right. Last in line of a company’s income.
If GE had bought the RCA assets for cash, and RCA had then wanted to liquidate and
distribute the cash to its shareholders, it would have been required to redeem the preferred.
Instead, RCA and GE arranged for RCA to merge into a GE subsidiary. Pays the preferred
shareholders $40 (!) and the common shareholders $66! The Preferred Shareholders Plaintiffs
sue for damages and injunctive relief.
• Get the control back to be the majority in the company.
(a redemption clause 赎回条款 would give the company the right to buy back the
shares from the shareholders at a set price)
• Corp. Has the all right to buy the stocks and the preferred holders never could
trigger the decision.
Perferred stockholders never have thhe right to scale back under the redemption
clause. But could sale under other circumstances.
Here we consider circumstances in which the defendant used a merger and the plaintiff claims
that it was de facto not a merger but a liquidation 清算.
Held. The merger complied with Delaware’s merger statute, and Defendants had the right to
choose to merge rather than redeem shares.
VGS, Inc. v. Castiel (LLC Merger)
Castiel/C forms VIRTUAL GEOSATELLITE LLC. Holdings / C = 63.46%; Ellipso / C =
11.54%; Satellite / Sahagen / S = 25%. C places himself PLUS Quinn / Q on Board.
WITHOUT NOTICE TO C / S and Q MERGE LLC into a Delaware Corporation/VGS
Acting in this SECRETIVE and CLANDESTINE manner DID NOT VIOLATE:
Either Statute or LLC Operating Agreement BUT (!!!) Court rules that S and Q:
“failed to discharge their duty of loyalty to the LLC, its investors and Castiel their fellow
manager”
• Compliance with statutory provisions and/or the operating agreement may not protect
from liability!!!
Cheff v. Mathes (Takeover)
Arnold Maremont became interested and contacted Holland’s president Cheff about a merger
between Holland and Maremont’s Corporation. Maremont then began buying Holland stock.
M announces purchase publicly and demands a place on the board. Cheff refused.
股票回购 v. 赎回
股票赎回：在丧失抵押品赎回权时，有权要求公司赎回股票。
Having met resistance, Maremont offers to sell his stock to the firm at a premium over his
purchase price and over the current market price. Rather than do so, they decide to pay
greenmail / (corporate “blackmail”)—to buy the stock with corporate funds.
In general, directors can purchase the corporation’s shares if there is a proper business
purpose. And they need to show only good faith and reasonable investigation.
• they reasonably concluded that there was a reasonable threat to the continued
existence of Holland.