Corporations

HOW MANY SHAREHOLDERS ARE NEEDED TO PASS A CORPORATE ACTION

(generally majority vote where quorum is present)? • Generally: Actions needing shareholder approval are done when a quorum (whether in person or by proxy) is present and the action is approved by a majority (greater than half) of those shareholders present at the meeting. A majority of the shares entitled to vote constitutes a quorum.

When is a Texas attorney general FORCED to dissolve a corporation?

(i) The secretary of state has sent notice to the corporation instituting termination proceedings and the corporation has not cured those problems within 31 days of receiving notice: OR ii) The attorney general has independently determined that cause exists for termination.

What is a Shareholder's Agreement?

- (a customized management structure) - An agreement entered into by ALL the corporation's shareholders when a modified or customized corporate governance structure is adopted. Examples: a) Confer all management power to the shareholder and eliminate the Board of directors b) How profits and losses will be allocated c) How and on what matters shareholders will vote d) Pre-specified voting power • Are binding and enforceable against all shareholders regardless of the manner in which the shares were acquired • Are binding on the shareholders regardless of whether the shareholder was aware of the shareholder's agreement • Are binding on the shareholder even if the shares were acquired through transfer or assignment

WHICH SHAREHOLDERS ARE ELIGIBLE TO VOTE?

- Shareholders of record as of the record date • Generally: Appreciate that share ownership can change hands prior to either an annual or special meeting. Accordingly the corporation must have a "cut-off" date to say, "Okay, these are the shareholders who are eligible to vote at the next meeting." • Shareholders of record as of the record date are eligible to vote at the annual or special meeting. The record date may not be more than 60 days prior to an annual or special meeting.

What are the activities that the TBOC says a for-profit corporation may not engage in?

- The business of raising cattle - The business of operating stockyards - The business of slaughtering, canning or packing meat.

What are possible scenarios during the share price discussion between the corporation and the SH during appraisal rights?

1) Corporation can agree to shareholder's fair value assessment and send payment. The Corporation has 90 days from the approval date to make payment. 2) The corporation may counter with its own fair value assessment. The two sides will work to come to an agreement. The corporation then has 120 days after the two parties have agreed to a price in which to make payment. 3) I f the corporation and the shareholder can't come to an agreement, the price may be determined by court action.

COF formalities-Name

1) Name - The corporation's name must have any of the following after it - "corporation", "incorporated" "company" or "limited" - OR an abbreviation of these words ("Corp.", "Inc.","Co." or "Ltd.") a) May not have a name or phrase that indicates corporation is engaged in a business that corporation is not authorized to engage in - Example: The "Texas Lotto Corporation" b) "Lotto" or "Lottery" prohibited c) Cannot imply that corporation is created to benefit war veterans unless approved to do so. d) Cannot be deceptively similar to other corporations doing business in Texas - Example: "Cuzin's B-B-Que" would be deceptively similar to "Cousins' Barbeque" and would therefore be prohibited. e) Corporate names can be reserved for 120 days or until the application is withdrawn.

INCORPORATION-How is a Corporation Formed?

1. Certificate of Formation (COF) - brings the corporation into existence o Filed with the Secretary of State. The COF is prepared by an organizer (can be any person 18 or older; person need not be a Texas resident) o Is a contract between the corporation, its shareholders, and the State. a. COF Formalities - The COF must have certain basic information. These are mandatory provisions.

What are other Merger-Like transactions and what are the procedures of each?

1. Conversions - i.e. converting from an LLC to a corporation. Procedure - Board resolution + two thirds of shares entitled to vote. 2. Interest Exchanges - One corporation purchases all the outstanding shares of another corporation resulting in a wholly owned subsidiary. Procedure - Board resolution +two thirds of shares entitled to vote. 3. Asset Sales - Corporation A purchases substantially all the assets of corporation B. Procedure - Board resolution + two thirds of shares entitled to vote from the selling company only.

When is director indemnification mandatory? Prohibited? Permissive?

1. Mandatory Indemnification - Corporation is required to indemnify director in a completely successful defense (i.e. successful on all issues). 2. Prohibited Indemnification - Corporation prohibited from indemnifying against liability when the director received an improper financial benefit. 3. Permissive Indemnification - Corporation may (but is not required to) indemnify director when director acted in good faith with a reasonable belief that conduct was in the corporation's best interest.

What are the Board of Director Meeting Requirements?

1. Meeting Types - May hold regular or special meetings as needed to conduct corporate business. 2. Presence at meetings - Physical presence is not required - conference call - video conferencing - internet - e-mail - As long as members can communicate with each other during the meeting. If directors are voting, voters must be properly identified and there must be and the directors must make an appropriate record of the vote. 3. Board Action Without Meeting - Board may act without holding a meeting. Board may take action by written consent. If action done by written consent, action must be unanimous - unless bylaws or COF express otherwise.

What are types of Duty of Care Violations?

1. Oversight Failure - Board has a duty to oversee/monitor those aspects of the corporation that would be expected of an ordinarily prudent person under similar circumstances.  Basis for Liability - Plaintiff must prove two elements - 1) That director failed to carry out his oversight/monitoring duties using the requisite standard of care AND 2) that such failure was the proximate cause of the harm suffered. 2. Decision Making Failure -  Context: Occurs where the board as a whole considers a corporate action and the decision turns out to be a bad one. Board will be held liable if the decision making process did not meet the requisite fiduciary duty standard of care. i.e. Directors will not be held liable if they acted in good faith, after reasonable investigation and there was a rational basis for the decision.  Also: In carrying out their board duties, directors can rely on others (such as company employees, consultants, lawyers, executive officers) as long as that reliance is warranted.

Describe the different types of stock valuation.

1. Par Value = The minimum price for which a corporation can issue its shares. Note: Corporation not required to designate a par value. But if it does, shares cannot be issued for less than the par value. 2. Watered Stock = Occurs when corporation receives consideration that is worth less than par value. Shareholder is liable for the difference. 3. No Par Stock - Stock that does not have a par value. Therefore no minimum price for which stock can be issued. 4. Treasury Stock - Previously issued stock that the corporation repurchased is said to be held in the corporation's treasury.

What are the Board of Director Voting Requirements?

1. Quorum Rules - Board action requires the presence of a quorum. Generally a majority unless the COF or Bylaws express a different quorum requirement. Quorum requirements can never be less than one third of the members. NOTE: Director voting by proxy is not allowed in Texas.

What is Piercing the Corporate Veil?

A common law doctrine that allows third party tort victims or third party contract claimants to pierce the corporation's protective veil and hold offending shareholder(s) personally liable for contract or tort claims that the corporation incurs.

What is a voting pool?

A contractual agreement between a group of shareholders regarding how they will collectively vote their shares. Voting decisions are based on the desired vote of the majority of the voting pool participants. Voting pool agreements are specifically enforceable.  The pooling agreement must be deposited with the corporation at is principal officer or registered office.

Board of Director Number and Makeup?

A corporation can have as few as 1 director; actual number must be specified either in the corporation's bylaws or its COF. Directors are not required to be shareholders or Texas residents.

What is a Foreign Corporation?

A corporation incorporated in another state - (not another country)

What is a voting trust?

A separate legal entity to which the shareholder's stock is transferred. The trust, through its trustee, votes in a collective block. The trustee votes in accordance with the terms set forth in the trust.  Likewise, trust agreements must be filed with the corporation as well.

What are corporate distributions?

A transfer of cash to current shareholders, usually in the form of dividends.

What approach should you take to determine if the directors have breached their fiduciary duty of care?

APPROACH: First - State the standard - "When carrying out directors duties, each director must carry out such duties in good faith and in a manner that an ordinarily prudent person would in similar circumstances." Here - clear that board's action caused harm - BUT - Board will not be held liable if the facts bear out that the board acted in good faith-(i.e. was it their pure intent to try and better the company's fortunes) Reasonable Investigation - (Did they do reasonable market research? Were the reports reasonably analyzed? Did they discuss and document their findings and basis for decision?) Recall - The board's actions will be judged against the Business Judgment Rule which is a deferential standard. Absent a showing that the board's actions were not in good faith, boards have to fall very short in their decision making process to be found liable.

How do the actual roles and responsibilities work?

Actual roles and responsibilities of the three factions (shareholders, officers, and directors) is context driven. Roles vary between large publicly held corporations and small closely held corporations.

Are agents/officers liable for performing corporate duties?

Agents generally not liable to third parties merely for performing corporate duties. Liability will attach to the agent personally when agent is engaging in some act BEYOND the scope of his agency or employment and there is no argument for apparent authority

When are appraisal rights for dissenting SHs triggered?

Appraisal rights are triggered when a corporation is considering merging, selling substantially all of its assets, or consolidating with another company and a minority shareholder group objects to the terms of the fundamental change.

How many classes of stock is every corporation required to have?

At the very least, every corporation is required to have 1 class of stock that is entitled to vote on matters of corporate governance and is entitled to the net assets upon dissolution. Typically common stock has these characteristics.

When will shareholders use voting pools and voting trusts?

At times shareholders or a faction of shareholders will want to vote as a group to maximize their collective voting power. This exercise can be formalized and made into a legal arrangement through the use of mechanisms such as voting pools or voting trusts.

What kind of authority do corporate officers have?

Authority - The Executive officers are agents for the corporation. They are the ones to incur liability on the corporation's behalf. 1. Express Authority - Defined by corporate bylaws or set by board of directors. Additionally officers have implied authority to perform those tasks that are necessary to carry out the officers' expressly assigned tasks. 2. Apparent Authority - Derived from manifestation between the third party and the corporation. If the corporation's manifestations to the third party were such that third party would reasonably believe that officer had the authority to so act, apparent authority will be present.

How do sale of securities work in Closely Held Corporations?

Because of the more intimate nature, shareholders in closely held corporations will be more selective in who they allow to become fellow shareholders. As a result, they may invoke restrictions on the sale of their shares such as: i. Buy-sell Agreement - Agreement when shareholder agrees to offer his shares either to the corporation, other shareholders, or a specified third party. ii. Right of First Refusal- Current shareholders have the right to decide if they want to buy shares at the same price as negotiated with a 3rd party. iii. Shareholder or Corporate Consent is Required- Shareholder required to get corporation's consent prior to sale; valid if consent requirement is there to prevent violating state or federal law. iv. Third party approval Required - A sale that requires 3rd party approval prior to consummation. v. Restrictions as to whom shares can be transferred - Are okay as long as those restrictions are reasonable -(such as a restriction on selling shares to one of the corporation's competitors) vi. Restrictions requiring maintenance of close corporation or subchapter S status - Corporation can stipulate that the buying shareholders maintain the corporation's status -- such as its status as a closely held corporation or as a S corporation

Board dismissal - Derivative suits

Board can have suit dismissed if Board follows proper protocol. - The right directors - The decision to dismiss must be made by a majority vote of disinterested directors at a meeting comprising a quorum of disinterested directors. - A court shall dismiss a derivative proceeding on a motion by the corporation if the corporation (meaning a properly convened group of directors) determines in good faith, after conducting a reasonable inquiry and based on factors the person or group considers appropriate under the circumstances, that continuation of the derivative proceeding is not in the corporation's best interest.

Board of Director Committees

Board may take action through one or more committees. Board authority may be exercised through committees, except for those actions that by law require that the action be taken by the board as a whole. The board as a whole may be held liable for committee level board decisions.

What is the procedure with a merger?

Board of Directors - (for each corporation)must adopt Resolution  SHAREHOLDER APPROVAL-(for each corporation) Written notice of meeting which must include a summary of the proposed plan (at least 21 days prior) required vote = two thirds of shares entitled to vote (unless otherwise specified in the COF).  Certificate of Merger Filed with the state

COF Formalities - Duration

By default, the corporation's existence is perpetual. If corporation wants to form for a specific period of time, that time must be stated in the Certificate of Formation.

What are examples of officers and what do they do?

CEO, CFO, Treasurer - manage the day to day operation of the business - answer to the Directors

De Jure Corporation

COF accepted by the secretary of state creates a de jure corporation. Now the corporation (instead of the promoter) can incur liability.

What are Closely Held Corporation Requirements?

COF must expressly state "This corporation is a close corporation" - There are no minimum or maximum share requirements for closely held corporations.

COF Formalities-Purpose

Certificate must state a purpose. A broad statement will suffice i.e. "The purpose for which this corporation is formed is for the transaction of any and all lawful business for which a for-profit corporation may be organized under the Texas Business Organizations Code."

What are shareholder inspection rights and who qualifies for them?

Commensurate with share ownership is the right to inspect the corporation's books and records as long as the reason for inspection is proper. • To qualify for inspection rights, the shareholder must have been a shareholder for at least 6 months, or own at least 5% of the outstanding shares.

COF Formalities-Corporate Existence

Corporation comes into existence once the Secretary of State the COF. The approved COF is then issued to the corporation. The corporation comes into existence at this point.

What are stock dividends?

Corporation may issue additional shares of stock to existing shareholders = Stock dividend or stock split. No additional cash outlay here, therefore not considered a distribution.

When are corporations prohibited from engaging in capital reductions?

Corporations may not engage in capital reductions if the capital reduction renders the corporation unable to meet its payment obligations to preferred shareholders in the event the corporation is dissolved.

When can creditors seek a corporate involuntary dissolution?

Creditor may seek an involuntary dissolution when corporation is insolvent IF creditor establishes that irreparable damage will ensue to the corporation's unsecured creditors.

What are grounds for involuntary termination of corporate status?

Creditor's grounds Shareholders' Grounds State Agency Dissolution

WHAT IS CUMULATIVE VOTING?

Cumulative voting is a voting method that allows shareholders to cumulate all the votes they are entitled to cast and allocate them in a manner they see fit.

Who do damages go to in a derivative suit?

Damages from a successful derivative suit will go to the corporation - (since the corporation is the one being harmed).

What restrictions do corporate debt distributions have?

Debt Distributions are subject to the same insolvency restrictions that pertain to dividend payments.

When may a SH bring a derivative suit?

Derivative Suits - An action brought by a shareholder but derived from some type of harm being exacted upon the corporation. The most common types of derivative suits are ones being brought against corporate directors for fiduciary duty breaches.

When may a shareholder bring a direct suit?

Direct Suits - A shareholder may bring a direct suit to address a situation in which the shareholder is being deprived of a legal right commensurate with share ownership. The key is direct suits are suits in which the shareholder is addressing harm suffered by the shareholder.

Direct Dissent

Directors can incur liability for their board decisions. To avoid potential liability, the director(s) must have their dissent memorialized. When a director is not in agreement with a particular board action, that disagreement must be properly recorded for the record. Therefore, director must: i. Promptly object to the holding of the meeting; ii. Ensure that director's dissent or objection is noted in meeting minutes; OR iii. Not vote in favor of the action and deliver written notice of dissent to the presiding officer before meeting adjourns OR to the corporation immediately after the meeting adjourns.

When/where/how are Directors Selected and Removed

Directors elected at the annual or special meeting by plurality (as opposed to majority) of votes cast. 1. Director Removal - May be removed at any time with or without cause. Unless the COF or bylaws provide otherwise. 2. Director Replacement - When vacancy, either directors or shareholders may fill vacancy. The director's vacancy can be filled by majority vote of the remaining directors regardless of whether they constitute a quorum, OR the director's vacancy can be filled by majority shareholder vote at the annual meeting or at a special meeting called for the specific purpose of replacing the director.

Directors-Competing With the Corporation (DoL)

Directors have a general obligation not to engage in activities that directly compete with the corporation.  Directors may be held liable to the extent their competing actions have damaged the company's profits.

What is a Director's Liability for Unlawful Distributions?

Directors involved in approving an unlawful distribution are liable for the portion that exceeds the lawful amount. All culpable directors have joint and several liability. Paying directors have a right of contribution from other culpable directors. The director is not liable for an unlawful distribution if the director exercised ordinary care and made a good faith reliance on financial reports and records used to determine the company's net worth.

When MAY a Texas Attorney General institute a dissolution?

Discretionary Dissolution - The Texas Attorney General may institute a dissolution proceeding if: i) Corporation failed to comply with any condition precedent to forming corporation. ii) The Corporation has procured its COF by fraud iii) The corporation is transacting business beyond the scope of its certificate of formation iv) The corporation has fraudulently misrepresented any matter in any required report, affidavit, application, etc.; or v) If public interest requires winding up the corporation because the corporation or its high ranking officer has been convicted of a felony, the felonious actions are persistent, and terminating is necessary to prevent future felonious actions.

Example-Director Usurpation of Corporate Opportunity (DoL)

Doug is a Director at Corporation A. Corporation A is a land developer in the state of Texas. Doug is contacted in his capacity as a director of Corporation A and presented with a business opportunity for Corporation A for a land development project. It just so happens that Doug is a land developer as well and this particular opportunity would be perfect for Doug's personal business. Question: As a Director of Corporation A, what are Doug's obligations? Here - Doug must 1) disclose this opportunity to the Corporation A directors; and 2) Give the Board the opportunity to accept or reject the opportunity. If Doug fails to do so he may be required to sell the opportunity to the corporation for what he paid for it. Or if Doug has already commenced the project he may have to remit that profit over to the corporation.

DIRECTOR FIDUCIARY DUTIES

Duty of Care • Board oversight/supervision • Board Decision Making Duty of Loyalty • Conflicting interest transactions • Usurpation of Corporate Opportunity • Competing with the Corporation • Directors Salaries

Deficiencies in the Formation Process

EXAM NOTE: Because it is not clear whether Texas follows these doctrines, when discussing them, start with "assuming the doctrine has not been abolished", and discuss the descriptions, below.

What BUSINESS ENTITIES are SUBJECT TO THE TAX?

Entities Chartered, organized or doing business in Texas are subject to this tax. • S- Corporations • C- Corporations • Partnerships • LLP's • LLC's • Professional Associations • Professional Corporations • Business Trusts • Joint Ventures • Holding Companies

What is an example of how Cumulative Voting works?

Example: A owns 30 shares of X, Inc. B owns the remaining 70 shares. X, Inc. has 3 directors. A and B each have 3 nominees they would like to elect to the board. Answer: Absent the use of cumulative voting, A would not be able to elect any directors. B would simply cast all 70 votes for each of his nominees. A's 30 votes would never exceed B's 70 and none of A's nominees would get elected Cumulative Voting: With cumulative voting, however, A can elect at least one director by cumulating his votes (i.e. 30 votes per director x 3 directors) and casting them all for one director which would give that one director 90 votes.

What is an example of a de facto argument?

Example: Joe Organizer prepares a proper Certificate of Formation to form Newton, Inc. Organizer gives the Certificate to his lawyer to file. Unbeknownst to Organizer, the lawyer fails to file the certificate and the owners commence operation unaware of this failure. Are the shareholders personally liable due to the corporation not yet being formed? Answer: Yes - unless the court applies the De Facto Corporation doctrine Applying the Elements Texas has a corporate formation statute- (the TBOC). The organizers made a good faith effort to comply by giving the certificate to their attorney to file and acting under the understanding and belief that he did in fact file. The shareholders commenced operation under what they thought was Newton, Inc.

What is an example of a challenge to an Ultra Vires act?

Example: Newton Inc.'s Certificate of Formation indicates that its purpose is to sale running shoes and running apparel only. The corporation considers branching out into selling road bikes as well and signs a contract with a local road bike manufacturer. The selling of the road bikes is an Ultra Vires act (beyond the corporation's scope of stated purpose). What Result? Answer: 1) A shareholder can sue to seek an injunction of the ultra vires activity. 2) Responsible managers can be held liable to corporation for any losses from ultra vires activities. 3) The road bike manufacturer would likely be entitled to costs such as any road bikes that were built for Newton but never sold. 4) But the bike manufacturer could not sue for the profit it would have made on the contract (anticipated profits).

What's an example of a quorum?

Example: Newton, Inc. has 200 shares outstanding. A quorum would require shareholders representing at least 101 of those outstanding shares to be present at the meeting. To pass an action at that meeting would require the affirmative vote representing at least 51 of those shares 101 shares represented at the meeting.

What are the special requirements for foreign corporations in order for them to do business in the state of Texas?

Foreign corporations must file an application of registration with Texas Secretary of State. If foreign corporation fails to file this application they are precluded from filing suit as a result of any business transacted in Texas (however they are still subject to being sued for liabilities incurred in Texas). - cannot sue but can be sued

Who authorizes corporate distributions?

Generally distributions are at the board's discretion as to when and amount.

Which Shareholders are Liable when the Corporate Veil is pierced?

Generally those shareholders that actively participated in the conduct that incurred the obligation are liable. Passive investors who acted in good faith will not be vulnerable to a veil piercing case. o Liability is joint and several for those shareholders who actively participated in the offending conduct.

What are the 2 Director Duties?

Generally--- Two basic Duties - the duty of care and the duty of loyalty.

What is DISSENTING SHAREHOLDER'S RIGHT OF APPRAISAL?

Generally: - Dissenter's rights give the dissenting shareholder the right to have the corporation purchase the shareholder's shares at fair value as determined by the company and assessing the value of the shareholder's shares. These appraisal rights are generally granted to the selling company, not the company that is acquiring.

Can Ultra Vires Acts be invalidated?

Generally: Corporate actions that are Ultra Vires cannot be invalidated. BUT challenges to Ultra Vires Acts can occur in the following situations: o A pending contract has not commenced or been executed yet. -A shareholder can file suit to enjoin the corporation from executing the Ultra Vires action. The court will grant the injunction only if all parties are present and granting the injunction would be equitable. The court will grant damage awards caused by the injunction, but not for loss of anticipated profits. o Corporation can file an action against a director, officer, or employee who engages in ultra vires action.

PRE-INCORPORATION TRANSACTIONS-How does liability work?

Generally: Sometimes persons will act on behalf of a corporation before the corporation is formed. Who is liable then? 1. Promoters are liable for pre-incorporation transactions (as there is no corporation yet formed). 2. The corporation is not liable for pre-incorporation transactions until the corporation adopts the contract. NOTE: The promoter remains liable on the contract along with the corporation until a novation is executed; an agreement executed by the corporation, the promoter, and the third party agreeing to release the promoter as a party to the contract.

Who is the BOARD OF DIRECTORS?

Generally: The board of directors oversee high level corporate activities; sets policy; hires and fires the corporation's CEO; sets compensation levels for executive officers, etc.

What is the DUTY OF LOYALTY?

Generally: The duty of loyalty requires that the director place the corporation's financial interests ahead of their own. Courts are less deferential in duty of loyalty cases because of the conflicting interest nature of the transactions.

WHERE ARE SHAREHOLDER VOTES EXERCISED?

Generally: To properly allow shareholders to express their desires through voting, formal mechanisms need to be in place so that this can happen. These formal mechanisms or venues are the annual meeting and special meetings.

TX Franchise Tax APPORTIONMENT

If Texas entity is doing business in other states, revenues are apportioned. The TX corporation is taxed on only the portion that was derived from doing business in Texas.

COF Formalities-Board Organizational Meeting

Initial board required to call an organizational meeting for initial corporate housekeeping matters - (i) adopt bylaws; (ii) elect officers; and (iii) transact the company business.

Exam tips-CPV

It is astute to distinguish what type of plaintiff you are dealing with; a tort claimant or a contract claimant. The argument for piercing in the instance of tort claimants should be stronger since their involvement with the corporation was not voluntary. • PCV Analysis = Factors, not Elements • Discuss each factor in light of the facts • Distinguish between Tort Claimants and Contract Claimants

What is the management structure of a closely held corporation?

Liberal management structure - (i) Board of Directors; (ii) some modified management structure as specified in the COF or by a properly adopted Shareholders' Agreement

COF Formalities-Name and Address of Corporate Agent

Must be specified in the COF (this is the person or place to whom service of process is sent).

Salaries - Directors

Officers &Directors - No Salary but are paid for their service as directors - Officers - Salary amounts will be upheld UNLESS, they are so large as to constitute a waste of corporate assets.

How does INDEMINIFICATION AND INSURANCE work with Corporate Officers?

Officers are entitled to and subject to the same insurance rules as directors.

How does OFFICER REMOVAL work?

Officers serve at the board's pleasure and may be removed at any time with or without cause. • Officers Under Contract - Generally does not prevent removal but may provide remedies to the officer as set forth in the contract.

What are the procedural requirements of a derivative suit?

Procedural Requirements: The key with derivative suits is to insure that the statutory protocols have been met for bringing the suit in the first place. i. Standing - A Shareholder must have been a shareholder at the time the alleged conduct occurred. ii. Board Demand - Shareholder must make written demand on the corporation prior to filing a derivative suit (this is to give the company the opportunity to address the situation first). The shareholder must give company 90 days to decide what action, if any, it will take. Shareholder may file suit sooner but must plead in complaint why waiting the 90 days would cause irreparable harm. iii. If Demand Rejected - If Board rejects Demand then Shareholder's suit, if filed, must contain a statement demonstrating that the board's rejection of the suit was not proper due to the decision not being made by the requisite number of disinterested directors. iv. Board Dismissal

What is a CAPITAL REDUCTION?

Process by which corporation reduces capital by repurchasing shares that have been outstanding and then cancelling those shares.

Pre-Incorporation Transactions-Who is liable

Promoters are liable for pre-incorporation transactions (as there is no corporation yet formed). The corporation is not liable for pre-incorporation transactions until the corporation adopts the contract.

What are the notice requirements for shareholder meetings?

Proper notice must be given for both the annual and special meetings. The notice must include the matters to be addressed and must be sent to each shareholder, regardless of whether they can vote. o Timing - Notice must be given at least 10 days prior to the meeting but no earlier than 60 days prior to the meeting. If a merger, conversion, or interest exchange is being considered, corporation must give at least 21 days notice.

What do directors do?

Provide Oversight - Supervision - Strategic Direction and Planning-Hire/fires CEO

Can a corporation adjust quorum?

Quorum (special considerations) - A corporation may adjust quorum requirements up or down. If quorum requirements are adjusted down, they cannot be lower than 1/3 of the eligible voters. Quorum requirements can be noted either in the Certificate of Formation or the bylaws.

TX Franchise Tax Calculation - More Details

Revenue is determined by using specific lines on the federal income tax forms. Certain items can be excluded from the revenue calculation. No tax is due if total revenue after exclusions is less than $300,000 <Cost of Goods Sold> app. 40 specific rules - broken out into allowable costs (i.e. the cost of acquiring or producing goods) and disallowed costs, (generally things not directly related to producing the goods such as renting a warehouse to store the goods - or costs associated with transporting the goods, etc.) <Wages and Benefits> • Capped at $300,000 per individual • But benefits not capped. • Stock awards, stock options can be included in the compensation figures. The GREATEST of the three deduction figures is what is used as a basis for the tax.

What does corporation deal with?

Rights, duties, and objections that the parties have with each other, the corporation, and third parties.

How do sales of securities usually work?

SALE OF SECURITIES - (stock sales by existing shareholders) • Generally - Share ownership in a corporation is freely exchanged. Any willing seller can consummate the sale of his shares with any willing buyer. But there are situations when free share exchanges may not be the case such as in closely held corporations.

Can a shareholder revoke a proxy?

Shareholders can revoke a proxy, UNLESS the proxy states that it is irrevocable AND is coupled with an interest.

What are Shareholders' Grounds for involuntary termination?

Shareholders' Grounds (shareholders aren't getting along) - Grounds for involuntary termination when: i) The directors are deadlocked, the deadlock can't be resolved, and the corporation is suffering or is threatened with irreparable injury from the deadlock; ii) There is a deadlock in shareholder voting power, which hasn't been broken in two consecutive annual meetings. iii) The directors actions (or those in control) are illegal, oppressive, or fraudulent iv) The corporate assets are being wasted or misapplied. v) The shareholders are deadlocked in voting powers and have failed the previous two years to elect successors to directors whose terms have expired.

What do stock redemptions do?

Stock Purchases (redemptions) - Gives shareholder the right to have corporation buy back (redeem) his shares. The triggering event for the distribution will be specified in the Certificate of Formation.

What is corporate stock?

Stock represents ownership in a corporation. Parameters of the ownership depend on the rights, preferences, privileges, and limitations ascribed to a class or share of stock. Those rights, preferences, privileges, and limitations are set forth in the corporation's Certificate of Formation.

How is the TX Franchise Tax calculated?

Tax is based on taxpayer's margin. Calculated by subtracting the greatest of three proposed deductions from total revenue. 1) Cost of Goods Sold 2) Wages & Benefits 3) 30% of Revenue

What is the Texas Franchise Tax?

Texas Franchise Tax = "Privilege tax" or "Margin tax" or "Revised Franchise Tax"

What types of corporate officers are required by Texas Law?

Texas Law requires corporations to have at least a secretary and president. Positions are filled by board election as set forth in the bylaws.

How do appraisal rights work with "De facto" Mergers?

Texas courts will grant appraisal rights if the transaction's substance is that of a merger or a consolidation.

COF Formalities-Other Provisions

Texas law allows a corporation to prepare "Supplemental Provisions" or "Supplemental Information" - Optional provisions that can be added to customize their corporate governance structure.

Who authorizes the issuance of stock?

The Board authorizes the issuance of stock.

What are the COF Formalities?

The COF must contain: 1)Name 2)Purpose 3)Authorized Shares 4)Duration 5)Name and Address of Corporate Agent 6)The Organizers Name and Address 7)Directors 8)Corporate Existence 9)Board Organizational Meeting 10)Other Provisions

COF Formalities-The Organizers Name and Address

The COF must have the organizer's name so that the secretary has a contact person in the event there is some type of defect in the COF.

COF Formalities- Directors

The COF must set out the number of directors constituting the initial board of directors along with their names and addresses.

GOVERNANCE -What prevails if terms in the COF and bylaws contradict?

The Certificate of Formation

COF Formalities-Authorized Shares

The Certificate of Formation must set forth a) The number of shares the corporation is authorized to issue. b) The shares' par value -(the minimum price for which shares can be issued) c) If the shares do not have a par value, the certificate must so state. d) If the corporation is to have more than 1 class of stock, the Certificate of Formation must set forth: A. Each class and series designation - (i.e. Series A preferred - Series B preferred). B. The aggregate number of authorized shares for each class. C. The par value for each class or series. D. The rights, preferences, and privileges for each class of stock.

CALCULATING THE TX FRANCHISE TAX

The Tax = 1% of the taxable margin The taxable margin is figured by taking revenue minus [Costs of Goods Sold] or [Wages and Benefits] or [30% of Revenue] - Whichever deduction figure is greatest.

What are the requirements for the written demand with appraisal rights?

The demand must: 1) Be addressed to the corporation's president and secretary 2) Order that payment be made for the share's fair Value 3) Include a return address so that the corporation can send the dissenting shareholder instructions outlining the dissenting and appraisal procedures. 4) State the number of shares and the stock class that the shareholder owns along with a fair value estimate of those shares. 5) Be delivered to the corporation at its principal executive offices no later than 20 days after receiving notice that the action was approved. 6) And finally, the shareholder must relinquish his share certificates within 20 days after making the demand. At that point the person is no longer a shareholder.

What are the Key Factors Courts Look at when deciding whether to pierce the corporate veil?

The following are factors - (not elements) - Each case is decided on a case-by-case subjective analysis. a. Undercapitalization - When forming the corporation, did the shareholder(s) infuse enough capital into the corporation to cover reasonably foreseeable obligations ($1,000 minimum required by law but this is only the minimum). b. Disregard of Corporate formalities - Failure to issue stock, hold board meetings, and keep separate books and records. The idea here is if you want to be treated like a corporation you have to ACT like a corporation. c. Comingling of Corporate Assets with Personal Assets - A corporation is supposed to be a separate "person" or separate legal entity - Personal and corporate assets should not be commingled. d. Self-dealing with the Corporation - Transactions with corporation should be "arms-length" transactions. e. Funds Siphoning - i.e. the shareholders draw money out of the corporation that should go to paying pre-existing obligations. f. Use of Corporate Form to avoid legal obligations g. Shareholder's impermissible control or domination over the corporation - i.e. shareholders with equal ownership but one shareholder controls, runs, and dominates the operation sometimes to the other's detriment. h. Wrongful, misleading, or fraudulent dealings with a corporate creditor - In other words, the presence of some untoward behavior that strikes as fundamentally unfair or not right. Exam Approach - PCV questions are rarely clear cut -- make the argument in light of the facts.

How can you successfully assert that a de facto corporation existed?

To successfully assert that a de facto corporation existed, defendant must prove the following. i) There is a statutory law for the formation of the corporation; ii) There was a good faith attempt to comply with that law; and iii) The owners and directors were operating under the corporate name.

Ultra Vires Actions

Ultra Vires Actions - Latin meaning "beyond the scope" - Corporations can state an express purpose for which the corporation is formed. If a corporation engages in activities beyond this scope they are deemed to be Ultra Vires Acts.

What's the protocol for voluntary termination of corporate status?

Voluntary Termination - Either (1) written consent from all shareholders; or (2) Board adopts resolution and resolution is passed by two thirds of all outstanding shares entitled to vote.

What are the two options for TERMINATION OF CORPORATION STATUS?

Voluntary termination or involuntary termination.

Can a corporation adjust voting requirements?

Voting (special considerations) - Some matters are required by law to have greater voting requirements. Also, a corporation may require higher voting requirements for specific matters. If a corporation elects to have higher voting requirements on specific matters they must be specified either in the COF or the bylaws.

What is the Duty of Care?

When carrying out directors' duties, each director must carry out such duties in good faith and in a manner that an ordinarily prudent person would in similar circumstances. • Board actions are viewed through a deferential lens known as the Business Judgment rule (BJR) - which presumes that board actions are carried out in good faith, after reasonable investigation and for acceptable reasons. There is a high bar to clear to overcome the BJR.

When are corporate distributions prohibited?

When corporation is insolvent; or paying the distribution would cause corporation to become insolvent.

What is Corporation by Estoppel?

Where 3rd party has dealt with corporation believing it to be a corporation, the third party is estopped from later claiming that the corporation did not exist (usually limited to contract cases, not tort cases).

Who is liable to whom for what in situations of De Facto and Estoppel corporations?

You make the De Facto Corporation" argument.

When is Cumulative Voting Available to a Corporation?

a. For corporations formed after September 1, 2003 cumulative voting is an opt-in provision. b. For corporations formed before September 1, 2003 cumulative voting is an opt-out election when the corporation is entitled to cumulative voting unless the corporation makes a specific election not to have cumulative voting.

What are the exceptions to appraisal rights for dissenters?

a. Market out Exception - Shareholders don't get appraisal rights when the shares are listed on a national securities exchange, or held by more than 2,000 shareholders.  Rationale - Appraisal or dissenter's rights are not necessary since there already exists a forum where the shareholder can sell his shares. b. 90% Ownership Exception - No appraisal rights where surviving corporation already owns 90% of the target corporation.

What is the Annual Meeting?

a. Required by law to be held each year. b. Time & Place specified in bylaws. c. General purpose is to (1) elect directors; (2) approve proposed amendments to the COF; (3) vote on shareholder proposals; and (4) consider any other business subject to shareholder consideration.

What are the Procedural Requirements of appraisal rights?

a. Shareholders must be notified of Appraisal rights - Any corporation considering a fundamental corporate change that gives rise to appraisal rights must notify the affected shareholders of their appraisal rights. b. No favorable vote - The dissenting shareholder may not vote in favor of the proposed action. c. Demand for Payment - After merger approved, the shareholder must make written demand to the corporation for payment. d. Price for shares - The corporation and Shareholder must come to an agreement on the share's fair market value.

What things may hinder the Effectiveness of Cumulative Voting?

a. Staggered Terms - When a corporation has staggered terms that will hinder the effective use of cumulative voting because it will then require more votes to elect each director. b. Removing a Director - When a corporation utilizes cumulative voting, a director may not be removed if the votes cast against the director's removal would be sufficient to elect the director in a general election when cumulative voting was utilized.

How does stock consideration work?

a. Valid Consideration = anything that confers a benefit to the corporation - (whether tangible or intangible). b. Valuation - The Board sets price for which shares will be issued. c. Payment of Consideration - Shareholder's payment of full amount due for shares discharges shareholder's liability. Shareholder's liability limited to share ownership - (but shareholder subject to piercing the corporate veil actions discussed earlier). d. Stock Subscriptions (the corporation is lining up shareholders prior to incorporation) - A person's promise to purchase shares once corporation comes into existence. The stock subscription is merely an offer subject to revocation at any time prior to acceptance - The promise becomes an enforceable contract once corporation is formed and is accepted by the corporation. e. Pre-emptive Rights - Gives current shareholders the right to purchase any additional shares the corporation issues. Shareholder may waive this right if he chooses.  Purpose: To allow existing shareholders the right to maintain their percentage of ownership in the corporation.

What are situations when pre-emptive rights do not apply?

i) Stock issued for service or property. ii) Stock sold or granted as a form of compensation - (i.e. to directors, officers, employees, etc.) iii) Shares issued within 6 months of formation iv) When preferred shares or nonvoting shares are issued. v) Shares with preemptive rights not acquired within the first year of their offering.  In these instances, current shareholders do not have pre-emptive rights UNLESS the Certificate of Formation states otherwise.

What is a Professional Corporation and what are its attributes?

• A corporation with a stated purpose that legally limits its function to rendering professional services such as medical services provided by a doctor, or legal services provided by a lawyer. • Shareholders must be a member of the profession. • Shareholders in PC are not shielded from liability arising out of malpractice for instance.

What is a Closely Held Corporation characterized by?

• A small number of shareholders • Shares are not publicly traded • Frequent overlap for officers and directors -(i.e. they are the same people) • Restrictions on the sale or transfer of shares • Requires a special notation in the COF

What is an S Corporation and what are its attributes?

• A special election that a corporation makes under Subchapter S of the Internal Revenue Code. • Puts a regular corporation into a special category that confers different tax treatment than a regular C corporation. • S Corporations are afforded "pass-through" tax treatment of its income. Meaning the Corporation is not taxed as a separate standalone entity.

DIRECTOR INDEMNIFICATION - Why have it?

• Context: being sued as a director costs money to defend. If directors (especially innocent ones) have to bear this cost burden in every circumstance, many directors would not serve. Thus, the law allows (and even requires in some cases) directors to be reimbursed for these costs.

What do Shareholders do?

• Elect Directors • Vote on Fundamental Corporate Changes -[BIG THINGS] • Vote to amend COF

What are the FIDUCIARY DUTIES of Corporate Officers?

• Generally - Officers have the same duties of care and loyalty as directors. Additionally their specific duties will be outlined in the bylaws or set by the board of directors. The officer can adhere to his duty of care while relying on others as long as that reliance is warranted. • Also - Officers of publicly held companies are governed by provisions of the Sarbanes Oxley Act of 2002 (SOX). Under SOX, the CEO and CFO must certify as to the accuracy of their corporation's financial reports.

What is the procedure for capital reductions?

• Procedure for Par Value Shares - Board Resolution only • Procedure for No Par Value Shares - Board Resolution + majority shareholder vote of shares entitled to vote

What is THE PROXY VOTING PROCESS?

• Proxy - Shareholder authorizes someone else to vote on shareholder's behalf. • A process used to facilitate the voting process where shareholders voting in person would not be feasible or practical - (consider most publicly held corporations and the number of shareholders entitled to vote).

What are the qualifications of an S corporations?

• To qualify for S Corporation treatment, the corporation must: i) Have only 1 class of stock. ii) Have no more than 100 shareholders iii) All shareholders must be US residents.

De Facto Corporation

 Context for "De Facto" and "Estoppel" Doctrines: A corporation, for whatever reason, fails to complete the statutory protocols to receive the legal designation of a corporation. But, the agents for the unformed entity incur liability on what they think is the corporation's behalf.

Duty of Loyalty and Conflicting Interest Transactions

 Context: Any transaction between the corporation and a director. Example: Doug is a Director at Corporation A. Doug is also the president and sole shareholder of Company B. Company A is contemplating a lucrative deal with Company B where A will buy a significant amount of product from company B. A: This transaction constitutes a conflicting interest transaction because Director Doug has interests on both sides of the transaction. And it is reasonable to expect that his being the sole shareholder of Company B will affect his objectivity (conflicting transactions are not prohibited in themselves but protocol must be followed.)

What is the Statutory Protocol with Director Conflicting Interest Transactions under the Duty of Loyalty?

 Director must disclose the nature and existence of his conflict to the other board members (but director is not required to disclose confidential information).  The Board members that aren't conflicted must consider and decide through majority vote whether to go ahead with the transaction.  If these steps are followed, the transaction is safe harbored from challenge. b) Fairness Test - (the fall back position) - (the Hail Mary play) - Invoked when corporation fails to follow statutory protocols and the transaction is challenged. If transaction is challenged, the court will make an assessment as to whether the transaction was fair to the corporation.

Corporate Adoption

1) Passing a board resolution to adopt the contract; or 2) Accepting the benefits under the contract

What happens in a merger?

Company A merges with Company B (target company). Company B is merged with and into company A and is merged out of existence.

Who are the Shareholders

The shareholders are the presumptive owners of a corporation. They exercise their ownership rights through voting. In addition to voting rights on certain matters, there are also certain types of rights that come with share ownership.

What is a special meeting and what happens at them?

These meetings are called when something significant has transpired between annual meetings and shareholder consideration is required. a. Approve a merger or consolidation b. Approve a sale of all or substantially all of the corporation's assets. c. Approve a dissolution or termination of the business.

What are the two types of SHAREHOLDER SUITS?

• Share ownership also gives the shareholder the right to sue in his capacity as a shareholder. There are two types of suits that a shareholder may bring, a direct suit or a derivative suit.

What Entities are NOT subject to the Tax?

• Sole Proprietorships • General Partnerships • Passive entities as defined under Texas law • Grantor trusts