Chapter 19 Forms of Business Organizations

4. An S corporation cannot have more than one class of stock.

True

14. B corporations have no duty to maximize shareholder value even when there is a change of control.

True

18. Any corporation not meeting the requirements for an S corporation is automatically a C corporation.

True

1. Corporations must incorporate in the state where their headquarters are located.

False

10. C corporations are taxed as a pass-through entity.

False

12. Duty of care and duty of loyalty are known as shareholder duties.

False

13. Under the Revised Uniform Partnership Act, which all states have adopted, a general partnership agreement may be express or implied.

False

15. An outside director is also known as a dependent director.

False

16. The main issue in CASE 19.3 Burwell v. Hobby Lobby Stores, Inc. (2014) involved a question of whether the requirements for contraception under the Affordable Care Act (Obamacare) violated the due process rights of Hobby Lobby Stores.

False

17. Cumulative voting allows a greater control by the management interests of a corporation.

False

2. A creditor of a sole proprietorship may seek recovery only from business assets of the sole proprietorship, not from personal assets of the sole proprietor.

False

20. A corporation is a private entity that can be created by a mere handshake, as long as the shareholders have completed a certificate of incorporation.

False

21. An S corporation would likely be used as the corporate form for a business intending to raise money from venture capitalists.

False

22. An L3C indicates a low-profit, low-liability corporation.

False

3. A partnership may acquire property in the individual partners' names.

False

7. Partnerships and LLCs are taxed at the firm level unless they elect to be taxed at the individual level.

False

9. A corporation that is technically defective but that is formed in good faith and exercises corporate power is known as a de jure corporation.

False

11. Appraisal rights are only available to shareholders who had a right to vote on a transaction.

True

19. Limited partnerships are often used to raise capital because their limited liability for limited partners makes them attractive to investors.

True

23. If a business is operated by a partnership, LLC, or S corporation, then operating losses will be passed through to the individual partners or shareholders.

True

5. If a sole proprietorship operates under a fictitious business name, then that name must be registered with the state.

True

6. In a joint venture, the authority of one member to bind the partnership is more limited than in a general partnership.

True

8. The main function of an LLP is to insulate its partners from vicarious liability for certain partnership obligations.

True

In CASE 19.1 Gatz Properties, LLC v. Auriga Capital Corporation (2012), Gatz Properties was the managing member of Peconic Bay, LLC, controlled by the Gatz family. After failing to disclose material offers for assets of the LLC, Gatz bought out the minority members' interests in Gatz Properties LLC for $20,890. The minority members sued, winning over $800,000 based on Gatz's breach of fiduciary duties. Gatz appealed. How did the court rule on appeal, and why? a. Affirmed, Gatz had breached its fiduciary duties to the minority members of Gatz Properties, LLC. b. Affirmed, Gatz had breached its lease with Peconic Bay LLC. c. Reversed, Gatz had breached its fiduciary duties to the minority members of Gatz Properties, LLC. d. Reversed, Gatz had breached its lease with Peconic Bay LLC.

a. Affirmed, Gatz had breached its fiduciary duties to the minority members of Gatz Properties, LLC.

Jael decides to enter into a franchise agreement with XYZ Burgers to sell their burgers in the town where Jael lives. The franchise agreement did not prohibit XYZ Burgers from granting other franchises in the area, but that did not concern Jael because of the belief that XYZ Burgers would treat Jael fairly. Jael did not bother to read the franchise papers, contracts, and disclosures provided. Jael's business went well for six months. Then, however, another XYZ Burgers franchise opened just down the street from Jael's restaurant. Upset, Jael called XYZ Burgers to complain. The CEO brushed off Jael's concerns, stating that there was enough business for everyone. Jael, however, is interested in suing XYZ Burgers Refer to Fact Pattern 19-1. Which of the following is the term used when a franchisor sells a franchisee an outlet in a certain location, and then a few months later, sells another outlet a few blocks away to someone else? a. Encroachment b. Fair trace c. False competition d. Crowding

a. Encroachment

What does the term "reverse piercing" reference in regard to a corporation and its shareholders? a. Holding a corporation liable for debts of a shareholder b. Holding a shareholder liable for debts of a corporation c. Holding a corporation liable for debts of a shareholder and holding a shareholder liable for debts of a corporation d. Holding a corporation liable for debts of a shareholder, holding a shareholder liable for debts of a corporation, and holding officers liable for debts of a corporation.

a. Holding a corporation liable for debts of a shareholder

Which of the following is true regarding the effect of the death of a partner on a general partnership? a. Unless there is an agreement to the contrary, the partnership dissolves upon the death of a partner. b. Unless there is an agreement to the contrary, the partnership ceases to exist 10 days after the death of any partner. c. The remaining partners must by operation of law continue the partnership for at least one year. d. Within 90 days the remaining partners may elect to continue the partnership.

a. Unless there is an agreement to the contrary, the partnership dissolves upon the death of a partner.

A member of the board who also serves as an officer is a(n) __________ director. a. inside b. interested c. outside d. employed

a. inside

A shareholder who cannot be present at a meeting can vote by __________, that is, by a written authorization for another person to vote on his or her behalf. a. proxy b. allowance c. record d. nomination

a. proxy

A __________ is a public offer to all the shareholders of a target corporation to buy their shares at a stated price, usually __________ the market price. a. tender offer; higher than b. leveraged buyout; higher than c. tender offer; below d. leveraged buyout; below

a. tender offer; higher than

Which of the following statements is true regarding the characteristics of a corporation? a. A corporation as a legal entity is not distinct from its owners. b. A corporation is owned by shareholders. c. The shareholders are responsible for the corporation's liabilities. d. The board of directors implements the decisions of the officers.

b. A corporation is owned by shareholders.

Which of the following is false regarding decision making in a partnership? a. Each partner's assets are vulnerable to the poor business decisions of the fellow partners. b. A partnership is prohibited from placing managerial control of the business in one partner. c. Unless the partners expressly agree otherwise, partnership law requires unanimous agreement of all partners on all but the most ordinary matters. d. If the partners in an informal partnership cannot agree on a decision, they may disband the partnership, distribute its assets, and terminate it.

b. A partnership is prohibited from placing managerial control of the business in one partner.

Which of the following is NOT an element of a merger? a. The merger agreement is negotiated by the boards of the two companies. b. Consummation of a merger generally depends on approval of the transaction by the boards and the shareholders of both companies. c. A merged corporation must adopt a name that does not belong to either of the parties to the merger. d. The disappearing corporation relinquishes its separate corporate existence and becomes part of the surviving corporation.

b. Consummation of a merger generally depends on approval of the transaction by the boards and the shareholders of both companies.

__________ refers to a method by which courts hold shareholders individually liable for claims against a corporation. a. Reverse liability b. Piercing the corporate veil c. Upholding the ethical theory d. Unveiling

b. Piercing the corporate veil

__________ of a general partnership occurs when all the affairs are wound up and the partners' authority to act for the partnership is completely extinguished. a. Dissolution b. Termination c. Winding up d. Staged end

b. Termination

Which of the following requirements must be met by a corporation to qualify for S corporation status? a. The corporation must have more than one class of stock. b. The corporation must file a timely election signed by all the shareholders to be treated as an S corporation. c. The corporation must have no more than twenty-five shareholders. d. The corporation can be a domestic or foreign corporation.

b. The corporation must file a timely election signed by all the shareholders to be treated as an S corporation.

Macon and Valo verbally agree to form a dog grooming partnership called "XYZ Grooming." They file nothing with the state. Macon puts up 80 percent of the capital needed for the partnership, and Valo supplies 20 percent. Macon assumed that Valo would do extra work to account for the small amount of capital contributed, but that did not occur. Macon groomed more than 90 percent of the animals. Macon told Valo that, doing only 10 percent of the work, Valo was only entitled to 10 percent of the profits. Valo disagreed, and a heated argument occurred. Not surprisingly, Macon and Valo decided to end the partnership. While winding up affairs, Macon discovered that Valo paid an excessive amount for some dog shampoo and told Valo that paying for the shampoo was entirely Valo's responsibility because Macon had not agreed to the purchase. Macon and Valo also became aware of a lawsuit filed by the owner of a Welsh Pembroke Corgi complaining that the dog developed a skin rash following bathing by Valo in the expensive shampoo, and that the owner lost money because the dog could not be entered into shows. Macon stated that the litigation was entirely Valo's responsibility and disavowed any liability to the plaintiff. ​ Refer to Fact Pattern 19-2. Which of the following is true regarding liability on the lawsuit brought by the Corgi owner? a. The partnership is liable and Valo is liable in the event there are insufficient partnership assets to pay any judgment, but Macon would not be liable on any judgment. b. The partnership is liable, and so are both Valo and Macon if insufficient partnership funds exist to pay any judgment. c. Valo is liable on any judgment, but neither Macon nor XYZ Grooming would be liable. d. Since the winding-up process has begun, neither Macon, Valo, nor XYZ Grooming would be liable on any judgment obtained.

b. The partnership is liable, and so are both Valo and Macon if insufficient partnership funds exist to pay any judgment.

Macon and Valo verbally agree to form a dog grooming partnership called "XYZ Grooming." They file nothing with the state. Macon puts up 80 percent of the capital needed for the partnership, and Valo supplies 20 percent. Macon assumed that Valo would do extra work to account for the small amount of capital contributed, but that did not occur. Macon groomed more than 90 percent of the animals. Macon told Valo that, doing only 10 percent of the work, Valo was only entitled to 10 percent of the profits. Valo disagreed, and a heated argument occurred. Not surprisingly, Macon and Valo decided to end the partnership. While winding up affairs, Macon discovered that Valo paid an excessive amount for some dog shampoo and told Valo that paying for the shampoo was entirely Valo's responsibility because Macon had not agreed to the purchase. Macon and Valo also became aware of a lawsuit filed by the owner of a Welsh Pembroke Corgi complaining that the dog developed a skin rash following bathing by Valo in the expensive shampoo, and that the owner lost money because the dog could not be entered into shows. Macon stated that the litigation was entirely Valo's responsibility and disavowed any liability to the plaintiff. ​ Refer to Fact Pattern 19-2. Is Macon, XYZ Grooming, or Valo responsible for payment of the shampoo purchased by Valo? a. The partnership is liable and Valo is liable in the event there are insufficient partnership assets, but Macon is not liable on the debt. b. The partnership is liable, and so are both Valo and Macon if insufficient partnership funds exist to pay the debt. c. Valo is liable on the debt, but neither Macon nor XYZ Grooming is liable. d. Since the winding-up process has begun, neither Macon, Valo, nor XYZ Grooming is liable.

b. The partnership is liable, and so are both Valo and Macon if insufficient partnership funds exist to pay the debt.

The __________ theory applies to the situation in which owners of a corporation have so mingled their own affairs with those of the corporation that the corporation does not exist as a distinct entity. a. undercapitalization b. alter ego c. per se d. absolute

b. alter ego

The __________ set forth the steps that must be taken to establish a corporation in a state. a. Uniform Federal Rules b. corporate statutes of each state c. corporate bylaws d. corporate charter requirements

b. corporate statutes of each state

A corporation can conduct business as a(n) __________ in states other than its state of incorporation. a. domestic corporation b. foreign corporation c. pass through entity d. alien

b. foreign corporation

A(n) __________ is created when two or more persons agree to place their money, labor, or skills in a business and to share the profits and losses. a. sole proprietorship b. general partnership c. S partnership d. C corporation

b. general partnership

In most states, partnership agreements may: a. not alter the obligation of equal fiduciary duty. b. prescribe the standards by which the performance of good faith is to be measured. c. eliminate the obligation of good faith. d. reduce the duty of care.

b. prescribe the standards by which the performance of good faith is to be measured.

When directors on a board serve for a fixed term but are not elected all at once it is known as a(n) __________ board. a. cumulative b. staggered c. proxy d. inside

b. staggered

ANY Corporation has made a public offer to all the shareholders of Buyer, Inc., to buy their shares at a stated price. This activity is known as a: a. leveraged buyout. b. tender offer. c. target bid. d. merger.

b. tender offer.

In most jurisdictions, there is no quorum unless the holders of at least _____ of the outstanding shares are present in person or by proxy. a. 25 percent b. 33 percent c. 50 percent d. 75 percent

c. 50 percent

Which of the following is true regarding incorporation? a. A corporation must be incorporated in the state in which it has its principal place of business. b. Laws regarding incorporation and the rights and duties of corporations are uniform from state to state. c. Since the mid-1930s, Delaware has been considered the preeminent state for incorporation. d. Incorporation may be done pursuant to common law as well as statute.

c. Since the mid-1930s, Delaware has been considered the preeminent state for incorporation.

__________ is the simplest and most prevalent form of business enterprise in the United States. a. S corporation b. Partnership c. Sole proprietorship d. Joint venture

c. Sole proprietorship

In CASE 19.2 Holmes v. Lerner (1999), Lerner (a wealthy entrepreneur) talked to Holmes about setting up a cosmetics business called Urban Decay. Holmes received assurances from Lerner about finances and setting up the business. Later Lerner negotiated a separate deal for Urban Decay without including Holmes, and drafted articles of incorporation which gave Holmes only a 1 percent interest in Urban Decay. Holmes sued, insisting that even though they had no written agreement, she should have been a full and equal partner. How did the court rule and why? a. The court held for Lerner as a full and equal partner, because the oral and written expressions and discussion of profits was a prerequisite to form a partnership. b. The court held for Lerner; there was insufficient evidence of intentions to form a partnership. c. The court held for Holmes as a full and equal partner, because the oral and written expressions and discussion of profits was a prerequisite to form a partnership. d. The court held for Holmes, because under state law, she automatically became a limited partner.

c. The court held for Holmes as a full and equal partner, because the oral and written expressions and discussion of profits was a prerequisite to form a partnership.

Which of the following is true regarding taxation of losses of a C corporation? a. The operating loss is passed on to shareholders, but the corporation itself does not realize any benefit. b. The operating loss is recognized at the corporate level, and shareholders also receive a tax benefit. c. The operating loss will be recognized at the corporate level, shareholders receive no tax benefit, and the corporation receives no benefit until it has operating income against which its prior losses can be deducted. d. The operating loss is not recognized at the corporate level; and although shareholders may receive a deduction, they must wait until they receive some amount of profit from the corporation at which point they can deduct up to 10 percent of the losses per year.

c. The operating loss will be recognized at the corporate level, shareholders receive no tax benefit, and the corporation receives no benefit until it has operating income against which its prior losses can be deducted.

Which of the following statements is true regarding the advantages and disadvantages of a sole proprietorship? a. A sole proprietorship cannot be created without formal agreements or state filings. b. The proprietor reports income from the business as corporate tax. c. The proprietor alone bears liability for the losses. d. It is usually easy for sole proprietorships to raise capital.

c. The proprietor alone bears liability for the losses.

Five accountants have formed an organization within which they will provide their services. What type of organization have they most likely chosen and why? a. They have formed a corporation in which members are liable for their own malpractice but not for the malpractice of other members. b. They have formed a partnership because members are not liable for their own malpractice or for the malpractice of other members because recovery for malpractice may only be obtained from assets of the partnership itself. c. They have formed a limited liability partnership because members are liable for their own malpractice but not for the malpractice of other members. d. They have formed a corporation because the tax structure is most beneficial to the five of them this way.

c. They have formed a limited liability partnership because members are liable for their own malpractice but not for the malpractice of other members.

Sage Smith works as a laser technician for a local dermatology center consisting of physicians operating under a partnership agreement. Sage purchased supplies through the mail from a medical supply facility totaling $5,000, signing the contract agreeing to pay for the supplies under the name, Sage Smith. A few weeks later the dermatologists became embroiled in a bitter dispute regarding profits and terminated the partnership. Unfortunately, the partners were not aware of the debt owed to the medical supply facility; and the bill remained unpaid. Sage received a bill from the supply company for $5,000. Is Sage liable to the medical supply company, and why or why not? a. No, because Sage was only employed as a technician. b. No, because the medical supply facility should have asked for proper identification. c. Yes, because the contract was signed in Sage's name. d. Yes, but only because the partnership terminated.

c. Yes, because the contract was signed in Sage's name.

A(n) __________ is a for-profit corporation that uses the power of business to solve social and environmental problems. a. close corporation b. S corporation c. benefit corporation d. closely held corporation

c. benefit corporation

In a(n) __________ a stock purchase is financed by debt. a. cash-out merger b. freeze-out acquisition c. leveraged buyout d. illegal purchase

c. leveraged buyout

In most corporations a director could be elected as long as he or she received a __________ of the votes cast for any nominee, without regard to the number of votes withheld; but more recently, the process in which a director must receive a __________ of the shares voted to be elected has become more prevalent. a. proxy; majority b. quorum; proxy c. plurality; majority d. quorum; plurality

c. plurality; majority

Which of the following refers to a merger in which some shareholders are required to surrender their shares in the disappearing corporation in exchange for cash? a. Illegal merger b. Termination merger c. Surrender consolidation d. Freeze-out merger

d. Freeze-out merger

Which of the following is NOT true regarding limited partnerships? a. General partners of a limited partnership assume no liability for partnership obligations beyond the amount of capital they contributed. b. Limited partners assume liability for all partnership debts. c. Limited partners are responsible for the management of the partnership. d. Limited partnerships are often used to raise capital.

d. Limited partnerships are often used to raise capital.

In Estate of Countryman v. Farmers Cooperative Association, the plaintiffs attempted to hold an active member of an LLC personally liable as the LLC's manager, after propane gas delivered by the LLC exploded. How did the court rule? a. Only the LLC could be held liable. b. The manager was subject to personal liability along with the LLC regardless of whether it could be established that the manager participated in tortious conduct in performing his duties. c. Only the manager, not the LLC, could be held liable. d. The manager who participated in tortious conduct while performing managerial duties was not shielded from personal liability.

d. The manager who participated in tortious conduct while performing managerial duties was not shielded from personal liability.

Jael decides to enter into a franchise agreement with XYZ Burgers to sell their burgers in the town where Jael lives. The franchise agreement did not prohibit XYZ Burgers from granting other franchises in the area, but that did not concern Jael because of the belief that XYZ Burgers would treat Jael fairly. Jael did not bother to read the franchise papers, contracts, and disclosures provided. Jael's business went well for six months. Then, however, another XYZ Burgers franchise opened just down the street from Jael's restaurant. Upset, Jael called XYZ Burgers to complain. The CEO brushed off Jael's concerns, stating that there was enough business for everyone. Jael, however, is interested in suing XYZ Burgers Refer to Fact Pattern 19-1. What is the position of the Federal Trade Commission regarding a franchisor selling a franchise very near to an existing franchise? a. The practice is illegal. b. The practice is illegal unless the first franchisee provides specific permission for the sale to the second franchisee. c. The practice is legal and no disclosures are required. d. The practice is legal but certain disclosures must be made to the first franchisee when that agreement is made.

d. The practice is legal but certain disclosures must be made to the first franchisee when that agreement is made.

Macon and Valo verbally agree to form a dog grooming partnership called "XYZ Grooming." They file nothing with the state. Macon puts up 80 percent of the capital needed for the partnership, and Valo supplies 20 percent. Macon assumed that Valo would do extra work to account for the small amount of capital contributed, but that did not occur. Macon groomed more than 90 percent of the animals. Macon told Valo that, doing only 10 percent of the work, Valo was only entitled to 10 percent of the profits. Valo disagreed, and a heated argument occurred. Not surprisingly, Macon and Valo decided to end the partnership. While winding up affairs, Macon discovered that Valo paid an excessive amount for some dog shampoo and told Valo that paying for the shampoo was entirely Valo's responsibility because Macon had not agreed to the purchase. Macon and Valo also became aware of a lawsuit filed by the owner of a Welsh Pembroke Corgi complaining that the dog developed a skin rash following bathing by Valo in the expensive shampoo, and that the owner lost money because the dog could not be entered into shows. Macon stated that the litigation was entirely Valo's responsibility and disavowed any liability to the plaintiff. ​ Refer to Fact Pattern 19-2. Which of the following is true regarding Valo's entitlement, if any, to share in profits of the business? a.Because Valo was not doing an equal share of the work, Valo was not entitled to any profits. b. Valo was entitled to 10 percent of the profits. c. Valo was entitled to 20 percent of the profits. d. Valo was entitled to 50 percent of the profits.

d. Valo was entitled to 50 percent of the profits.

Which of the following involves settling accounts and liquidating assets of a partnership for the purpose of making distributions and ending the partnership? a. Debt resolution b. Bypassing formalities c. Termination d. Winding up

d. Winding up

When a third party, based on all of its transactions with the enterprise, acts as if it were doing business with a corporation, the third party is prevented from claiming that the enterprise is not a corporation because a __________ has been formed. a. partnership by estoppel b. corporation de facto c. corporation de jure d. corporation by estoppel

d. corporation by estoppel