Corporations

Conversion

A business organization can convert from one form to another (e.g., corporation to partnership). This is a fundamental change and requires a 2/3 majority vote.

Director and Officer Insurance

A corporation can purchase insurance to protect directors and officers from liability.

Limitations of Distributions

A corporation cannot make a distribution if it is insolvent or if the distribution would render it insolvent. Insolvent means either: (i) the corporation is unable to pay its debts as they come due; or (ii) total assets are less than total liabilities. Directors are personally liable for improper distributions. Shareholders are only liable if they knew the distribution was improper when they received it.

Promoters & Pre-Incorporation Contracts

A corporation is not liable on pre-incorporation contracts unless it adopts the contract. A corporation can adopt a contract expressly (i.e., the board takes an action to adopt the contract) or impliedly, by knowingly accepting the benefits of a contract. Unless the contract provides otherwise, the promoter is liable on pre-incorporation contracts unless there is a novation.

Business Judgment Rule

A court will not second-guess a business decision if it was: (i) informed; (ii) made in good faith; (iii) made without conflicts of interest; and (iv) had a rational basis.

De Facto Corporation

A de factor corporation exists if: (i) a statute exists under which the entity could have validly incorporated; (ii) there was colorable compliance with the statute and a good faith attempt to comply; and (iii) there was conduct of business in the corporate name and the exercise of corporate privileges. Anyone asserting the de facto corporation must be unaware of the failure to form a de jure corporation. A de facto corporation remains subject to attack in quo warranto proceedings by the state.

Directors - Competing Ventures

A director may not engage in direct competition with the corporation he directs.

Duty of Care

A director owes the corporation a fiduciary duty of care. A director must act: (i) in good faith; (ii) with the care that a person in a like position would reasonably believe appropriate under similar circumstances; and (iii) in a manner the director reasonably believes to be in the best interests of the corporation.

Duty of Loyalty

A director owes the corporation a fiduciary duty of loyalty. A conflicting interest transaction will not be enjoined or give rise to liability for damages due solely to the director's interest in the transaction if: (i) the transaction was fair to the corporation when entered into; or (ii) all material facts were disclosed, and the transaction was approved by: (a) a majority (at least two) of all disinterested directors (not just those at the meeting); or (b) a majority of all disinterested voting shares (not just those represented at the meeting); or (c) a majority of a committee of at least two disinterested directors. Interested director and interested shares can participate at the meeting and are counted for general quorum and voting purposes, but for the purpose of blessing the interested director transaction, only the vote of the disinterested parties matters.

Directors - Corporate Opportunity Doctrine

A director's fiduciary duties prohibits him from diverting or usurping a business opportunity from his corporation to himself without first giving the corporation an opportunity to act. The corporation's financial inability to pay for the opportunity is not a defense.

Foreign Corporations

A foreign corporation is one incorporated outside the state of Massachusetts. Foreign corporations transacting business in Massachusetts must qualify and pay prescribed fees. A corporation will be considered to be doing business in Massachusetts if it owns or leases real estate; engages in construction, alteration, or repair of any structure, railway or road; or engages in any other activity in Massachusetts requiring the performance of labor. Maintaining a bank account, holding a meeting in the state, etc. do not constitute doing business. If a foreign corporation fails to qualify and pay fees, it is subject to civil fines, liable for late fees, and cannot sue in Massachusetts (though, it can be sued).

Pre-Emptive Rights

A pre-emptive right is the right of an existing shareholder to maintain her percentage of ownership by buying stock whenever there is a new issuance of stock. Massachusetts is an opt-in regime; no pre-emptive rights exist unless they are included in the articles or bylaws.

Proxies

A proxy is a writing signed by a record holder directed to the secretary of a corporation authorizing another to vote his shares. Proxies are freely revocable unless it is a proxy coupled with an interest (e.g., seller sells buyer her shares after the record date but gives buyer her proxy for a vote). In the absence of revocation, they last for 11 months.

Controlling Shareholder Duties

A shareholder whose ownership gives her working control over the corporation owes a fiduciary duty to minority shareholders and to the corporation. She cannot use her dominant position for individual advantage at the expense of the minority shareholders or the corporation. Controlling shareholders may not sell seats on the board. Further, controlling shareholders who sell he controlling interest to individuals who subsequently loot the company to the detriment of the minority shareholders will be liable for damages unless reasonable measures were taken to investigate the character and reputation of the buyer.

Internal Affairs Doctrine

Affairs of a Massachusetts corporation are governed by Massachusetts law.

Rights of Shareholders to Inspect the Books and Records of the Corporation

Any shareholder has standing to inspect books and records. For routine documents (e.g., articles, bylaws, annual report, etc.), there is an unqualified right to inspect so long as the shareholder makes a written demand five days in advance. The shareholder may inspect regardless of purpose. For other documents, a shareholder must make a written demand stating a proper purpose for inspection. Directors have unfettered access to records.

Shareholder Duties - Traditional Rule

As a general rule, shareholders do not owe fiduciary duties to each other or to the corporation. They may act in their own self-interest.

Massachusetts Consumer Protection (Chapter 93A)

Chapter 93A extends to the sale of securities. Unfair and deceptive practices and unfair methods of competition are prohibited. For example, any stock offering must be accurate in all material respects. The selling corporation cannot fail to disclose material facts about the company's worth. In the sale of securities, a party is limited to actual damages, even for willful violations. Chapter 93A does not apply to governance issues - the duties of fiduciaries cover those.

Close Corporations

Close corporations have a small number of shareholders. There is no public market for their stock, and the shareholders usually participate in management. In Massachusetts, shareholders in a close corporation get additional protection. They owe one another a fiduciary duty of "utmost good faith and loyalty," which the courts have defined as the same duty that partners owe each other. A shareholder sued for violating the duty of utmost good faith and loyalty can defend by demonstrating a legitimate business purpose for its action. If a legitimate business purpose is shown, the plaintiff can then demonstrate that the same legitimate objective could have been achieved through a practicable alternative course of action less harmful to the plaintiff's interest.

General Role of Directors

Directors manage the business of the corporation. They set policies, supervise officers, declare distributions, determine when to issue stock, and recommend fundamental changes.

Dissolution

Dissolution may be VOLUNTARY if approved by the board of directors and 2/3 majority of all shares entitled to vote. The corporation must file articles of dissolution and notify creditors. Dissolution may also be INVOLUNTARY: (i) 40 percent or more of the voting shares can petition because of deadlock of directors that threatens irreparable harm to the corporation or deadlock of shareholders that results in at least two meetings without filling a vacant board position. (ii) a creditor can petition if the corporation is insolvent and either the creditor has an unsatisfied judgment or the corporation admits the creditor's debt in writing. Dissolution can also be ADMINISTRATIVE, if the secretary of state brings an action to dissolve for failure to file required reports or if the corporation has become inactive and dissolution is in the public interest. (90 days must be given to cure any problems). Dissolution is not the end of the corporation. The corporation must be wound up, with creditors being paid first.

Distributions

Distributions are in the board's discretion. There is no right to a distribution until is declared by the board. An action to compel distribution is direct (not derivative), and it is tough to win. It requires a very strong showing of abuse of discretion. Dividends are paid according to whether stock is common, preferred, cumulative, and/or participating.

Mergers

Generally requires board of director action from both companies and notice to all shareholders. Shareholders of both companies may have the right to vote. This is NOT the case if there is no significant change to the surviving corporation, in which case only the disappearing corporation's shareholders must vote. Additionally, no shareholder approval is required in short-form merger (where a 90 percent or more owned subsidiary is merged into a parent). In a merger, the surviving company succeeds to all rights and liabilities of the assumed company.

Shareholder Voting - Who Can Vote

Generally, the recorded shareholder as of the record date has the right to vote. The record date is a voter eligibility cutoff date, set no more than 70 days before a meeting. An executor can vote the shares of a record shareholder who dies after the record date but before the vote is taken. The corporation does not vote reacquired/treasury shares.

Watered Stock

If the articles of organization provide for a minimum par value and prohibit selling under that par value, and the corporation sells stock for below that par value, the corporation may seek to recover the "water."

Shareholder Derivative Suits

In a derivative suit, a shareholder sues to enforce the corporation's claim, not a personal claim. Most cases involve breach of the duty of care or loyalty. If the shareholder plaintiff wins, the corporation normally gets any award. Though, the shareholder plaintiff may get costs and attorneys' fees. If the shareholder plaintiff loses, she can only recover costs and attorneys' fees if the suit brought substantial benefit to the corporation. To bring a shareholder derivative suit, the shareholder plaintiff must: (i) have owned stock when the claim arose or received it by operation of law (e.g., inheritance or divorce decree) from someone who owned it then; (ii) fairly and adequately represent the interests of the corporation (e.g., own the stock throughout the litigation); (iii) make a written demand on the board for the corporation to bring suit; (iv) not bring suit until 90 days after demand has been made unless demand has been rejected or waiting would cause irreparable injury to the corporation; (v) the corporation may move to dismiss a derivative suit if a majority of disinterested directors (at least two) or a majority of disinterested shares find in good faith, after reasonable inquiry, that the suit is not in the corporation's best interest; (vi) the corporation must be joined as a defendant; and (vii) the parties may settle only with court approval.

Professional Corporations

In a professional corporation, each incorporator, officer, director, and shareholder must be licensed to practice the relevant profession. The professional corporation can employ non-professionals but not to render the professional services. Shareholders of such firms are not liable for each other's malpractice but do remain liable for their own malpractice.

Indemnification of Directors and Officers

No indemnification is allowed if a director/officer is held liable for: (i) a breach of the duty of loyalty; (ii) acts or omission not in good faith or which involve intentional misconduct or a knowing violation of law; (iii) an improper personal benefit; or (iv) an improper distribution. Indemnification is mandatory if a director/officer is wholly successful on the merits or otherwise. Indemnification is discretionary in all other situations.

Board Meetings

No notice is required for regular board meetings. For special board meetings, the board must give at least two days notice of date, time, and place. Failure to give notice voids whatever occurs at the meeting, unless the directors not notified waive notice (i) in writing or (ii) by attending without objecting. Board meetings must have a quorum of all directors to do business (unless a different percentage is set by bylaws). If a quorum is present, passing a resolution requires only a majority vote of those present. Quorum can be lost by members leaving.

General Duties of Officers

Officers are agents of the corporation; they can bind the corporation when they have authority. Massachusetts requires a president, secretary, and treasurer. One person can hold multiple offices at the same time. In Massachusetts, the implied actual authority of the president is extremely limited. Officers are selected by and removed by the board, which also sets officer compensation. Officers may be fired at will, but the corporation may be liable if the officer had an employment contract.

Corporation by Estoppel

Persons who have dealt with an entity as if it were a corporation will be estopped from denying the corporation's existence. This doctrine does not apply to tort victims.

S Corporations

S corporations can avoid income tax at the corporate level. An S corporation has no more than 100 shareholders, all of whom are human and U.S. citizens or residents. There is only one class of stock and it is not publicly traded.

Massachusetts Uniform Securities Act

Section 101 of the Massachusetts Uniform Securities Act is an antifraud provision. It prohibits any fraud, misstatements of material fact, and material omission made in connection with the sale, offer, or purchase of any security.

Voting Agreement

Shareholders can enter into voting agreements that are in writing and signed. Shareholders may agree that they will vote their shares to elect each other to the board, but once on the board, they may not agree what they will do as directors.

Voting Trusts

Shareholders can form a voting trust to achieve "block voting." This requires: (i) written trust agreement controlling how the shares will be voted; (ii) filing of an executed copy with the corporation; (iii) transfer of legal title to the shares to the voting trustee; (iv) original shareholders receive trust certificates and retain all shareholder rights except for voting.

Removal of Directors

Shareholders can remove directors with or without cause by a majority of the shares that actually vote. For staggered boards, directors can only be removed for cause. Directors can remove fellow directors on majority vote, but only for cause.

Rights of Appraisal

Shareholders dissenting from a fundamental change may have the right to have the corporation purchase their shares. Appraisal rights may arise from: amendment to the articles, merging, transferring substantially all assets not in the ordinary course of business, converting to a different type of business, etc. Even if the corporation is doing one of those things, no appraisal rights arise if the corporation is listed on a national exchange and has 1,000 or more shareholders. To perfect the right of appraisal, a shareholder must file a notice of objection and intent to demand payment; abstain or vote against the proposal; and after the proposal is approved, make a demand to be bought out. The corporation then pays what it thinks is the fair value of the shareholder's stock. The shareholder then has 30 days to challenge this amount. If the corporation does not want to pay the shareholder's asserted amount, it must ask the court to determine the fair value.

Shareholder Voting - Process

Shareholders usually take action at a meeting satisfying quorum and voting rules. Otherwise, they may act by unanimous written consent. Annual meetings are required. Shareholders elect directors and consider other matters. Special meetings may be called by the board, anyone specified in the bylaws, or holders of at least 10 percent of the voting shares (40 percent if a public corporation). Notice must be given to every shareholder entitled to vote for every meeting between seven and 60 days prior to the meeting. The notice must state when, where, and why. The statement of purpose of the meeting limits the business that can be handled at the meeting. Failure to give notice voids all actions taken at the meeting unless notice is waived by those not receiving notice through express writing or attending without objection. A quorum is required for the meeting. Generally, a quorum requires a majority OF OUTSTANDING VOTING SHARES (not necessarily shareholders). Once a quorum is present, it is NOT lost if shareholders leave. If a quorum is present, a majority of VOTES ACTUALLY CAST on a proposal constitutes approval (abstentions do not count). Cumulative voting can be used to elect directors. However, there are no cumulative voting rights unless the articles call for it.

Stock Subscriptions

Stock subscriptions are promises from subscribers to buy stock in the corporation. Pre-incorporation subscriptions are irrevocable for six month unless otherwise provided or unless all subscribers consent. Post-incorporation subscriptions are generally revocable until accepted by the corporation.

Stock Transfer Restrictions

Stock transfer restrictions are valid if they are not an absolute prohibition on alienation. Rights of first refusal are okay if the corporation offers a reasonable price. A valid restriction cannot be invoked against a transferee unless either (a) it is conspicuously noted on the stock certificate or (b) the transferee has actual knowledge of the restriction.

Par Value

The MBCA has generally eliminated the concept of par and allows corporations to issue shares for whatever consideration the directors deem appropriate. However, the articles may still include a par value, if incorporators wish.

Ultra Vires Acts

The MBCA presumes "any lawful purpose," but if the corporation includes a narrow business purpose in its articles, it may not undertake activities unrelated to achieving that stated purpose. Ultra vires contracts are valid as to third parties; they are not void. Shareholders can seek an injunction to try to stop the ultra vires action. The corporation can sue responsible managers for ultra vires losses. The state may bring an action to dissolve a corporation for committing an ultra vires loss.

Limitation or Elimination of Director/Officer Liability

The articles of organization can limit or eliminate liability for damages but not for: (i) a breach of the duty of loyalty; (ii) acts or omission not in good faith or which involve intentional misconduct or a knowing violation of law; (iii) an improper personal benefit; or (iv) an improper distribution. In general, this means a corporation can eliminate liability for breaches of the duty of care, but not for breaches of the duty of loyalty.

Fundamental Corporate Changes

The board cannot adopt fundamental corporate changes alone. The changes require: (i) board action adopting a resolution of fundamental change; (ii) notice from the board to all shareholders (whether or not entitled to vote); (iii) shareholder approval by a 2/3 majority of ALL VOTING SHARES; (iv) usually a delivery of a document to the secretary of state.

How Does the Board Act?

The board may act by: (i) unanimous agreement in writing; or (ii) at a meeting that satisfies quorum and voting requirements, which can be held anywhere. Conference calls count as a meeting.

Directors - Statutory Requirements

There must be at least one director. The number of directors is set in the articles or bylaws. If those documents are silent, the statute requires: (i) one shareholder, one director; (ii) two shareholders, two directors; (iii) three or more shareholders, at lest three directors. The entire board is elected each year unless it is staggered. Publicly traded corporations MUST have a staggered board (unless the board or at least two-thirds of the votes of each outstanding class of stock votes to be exempt). Shareholders elect the board at the annual meeting.

Transfer of Substantially All Assets or Share Exchanges

This is a fundamental change for the selling company only. The selling company's shareholders get to vote and get appraisal rights. The buying company's shareholders get neither. The buying company does not assume the obligation of the selling company, because the selling company still exists.

De Jure Corporation - Formation

To form a corporation, incorporators must file articles of organization with the secretary of state. The articles must contain the name of the corporation, the number of share that the corporate is authorized to issue, and the name and address of each incorporator. The articles should also be supplemented by information regarding the names and addresses of the initial directors, president, treasurer, and secretary as well as the corporation's initial registered agent and office. A statement of the corporation's duration is not required in the articles; the MBCA presumes perpetual existence. The MBCA also presumes that a corporation is formed to conduct "any lawful business. Corporate existence begins on filing; the filing is conclusive proof of a corporate existence.

Piercing the Corporate Veil

Under the doctrine of piercing the corporate veil, the courts will disregard a corporate entity and hold individuals personally liable for corporate obligations. Piercing the corporate veil can occur in several situations: (i) where the corporation ignores corporate formalities such that it may be considered the "alter ego" of the shareholders (e.g., treat corporate assets as their own, commingles personal and corporate funds); (ii) where the corporation is inadequately capitalized, such that at the time of formation there is not enough unencumbered capital to reasonably cover foreseeable prospective liabilities; (iii) where there has been a failure to follow corporate formalities (though, it is often said that this factor alone is not sufficient to pierce). (iv) where necessary to prevent fraud or to prevent an individual shareholder from using the entity to avoid his existing personal obligations. The corporate veil is more likely to be pierced in tort, but not in contract because parties who contracted with the corporation had an opportunity to investigate its stability.