LAW 250 CHPT 14, 15, 16 (EXAM 3)

arrearages

. Usually, arrearages can be accumulated for only a limited period of time (e.g., three years).

Revised Model Business Corporation Act (RMBCA)

A 1984 revision of the MBCA that arranges the provisions of the act more logically, revises the language to be more consistent, and makes substantial changes in the provisions.

C Corporation

A C corporation is a corporation that does not qualify for or has not elected to be taxed as an S corporation. Where there is a C corporation, there is double taxation; that is, a C corporation pays taxes at the corporate level, and shareholders pay taxes on dividends paid by the corporation.

licensing

A business arrangement that occurs when the owner of intellectual property (the licensor) contracts to permit another party (the licensee) to use the intellectual property

Formation of a General Partnership

A business must meet four criteria to qualify as a general partnership under the UPA [UPA Section 6(1)]. It must be (1) an association of two or more persons (2) carrying on a business (3) as co-owners (4) for profit. A general partnership is a voluntary association of two or more persons. All partners must agree to the participation of each co-partner. A person cannot be forced to be a partner or to accept another person as a partner. The UPA's definition of person who may be a general partner includes natural persons, partnerships (including limited partnerships), corporations, and other associations. A business—a trade, an occupation, or a profession—must be carried on. The organization or venture must have a profit motive in order to qualify as a partnership, even though the business does not actually have to make a profit. A general partnership may be formed with little or no formality. Co-ownership of a business is essential to create a partnership. The most important factor in determining co-ownership is whether the parties share the business's profits and management responsibility. Receipt of a share of business profits is prima facie evidence of a general partnership because nonpartners usually are not given the right to share in a business's profits. No inference of the existence of a general partnership is drawn if profits are received in payment of (1) a debt owed to a creditor in installments or otherwise; (2) wages owed to an employee; (3) rent owed to a landlord; (4) an annuity owed to a widow, widower, or representative of a deceased partner; (5) interest owed on a loan; or (6) consideration for the sale of goodwill of a business [UPA Section 7]. An agreement to share losses of a business is strong evidence of a general partnership.

promoters' contracts

A collective term for items such as leases, sales contracts, contracts to purchase property, and employment contracts entered into by promoters on behalf of the proposed corporation prior to its actual incorporation.

indenture agreement (indenture)

A contract between a corporation and a holder that contains the terms of a debt security.

Judicial dissolution.

A corporation can be involuntarily dissolved by a judicial proceeding. Judicial dissolution can be instituted by the attorney general of the state of incorporation if the corporation (1) procured its articles of incorporation through fraud or (2) exceeded or abused the authority conferred on it by law [RMBCA Section 14.30(1)]. If a court dissolves a corporation, the court enters a decree of dissolution that specifies the date of dissolution [RMBCA Section 14.33].

foreign corporation

A corporation in any state or jurisdiction other than the one in which it was formed.

domestic corporation

A corporation in the state in which it was formed.

closely held corporation (privately held corporation)

A corporation owned by one or a few shareholders.

joint venture corporation

A corporation owned by two or more joint venturers that is created to operate a joint venture. The joint venture corporation is liable for its debts and obligations. The joint venturers are liable for the debts and obligations of the joint venture corporation only up to their capital contributions to the joint venture corporation. Example Suppose that ChevronTexaco Corporation and ConocoPhillips Corporation form a third corporation, called Canadian Imperial Corporation, to operate a joint venture. ChevronTexaco and ConocoPhillips each contribute $100 million capital to Canadian Imperial Corporation, and each becomes a shareholder of Canadian Imperial Corporation. If the joint venture fails and Canadian Imperial Corporation owes $1 billion to its creditors, which it cannot pay, ChevronTexaco and ConocoPhillips each lose their $100 million capital contributions but are not liable for any further unpaid debts or obligations of Canadian Imperial Corporation.

S Corporation

A corporation that has met certain requirements and has elected to be taxed as an S corporation for federal income tax purposes. An S corporation pays no federal income tax at the corporate level. The S corporation's income or loss flows to the shareholders and must be reported on the shareholders' individual income tax returns.

alien corporation

A corporation that is incorporated in another country.

multinational corporation (transnational corporation)

A corporation that operates in more than one country.

Centralized management

A corporation usually has a centralized management composed of the board of directors and officers of the corporation. The board of directors makes policy decisions concerning the operation of a corporation. The members of the board of directors are elected by the shareholders. The directors, in turn, appoint corporate officers to run the corporation's day-to-day operations. Together, the directors and officers form the corporate management.

shareholders

A corporation's shareholders own the corporation (see Exhibit 16.3). Nevertheless, they are not agents of the corporation (i.e., they cannot bind the corporation to contracts), and the only management duty they have is the right to vote on matters such as the election of directors and the approval of fundamental changes in the corporation.

d.b.a.

A designation for a business that is operating under a trade name; it means "doing business as."

bylaws

A detailed set of rules adopted by the board of directors after a corporation is incorporated that contains provisions for managing the business and the affairs of the corporation. Examples Bylaws typically specify the time and place of the annual shareholders' meeting, how special meetings of shareholders are called, the time and place of annual and monthly meetings of the board of directors, how special meetings of the board of directors are called, the notice required for meetings, the quorum necessary to hold a shareholders' or board meeting, the required vote necessary to enact a corporate matter, the corporate officers and their duties, the committees of the board of directors and their duties, where the records of the corporation are kept, directors' and shareholders' rights to inspect corporate records, the procedure for transferring shares of the corporation, and so on. The shareholders of a corporation have the absolute right to amend the bylaws, and the board of directors may also usually amend the bylaws [RMBCA Section 10.20]. The bylaws are binding on the directors, officers, and shareholders of the corporation. The board of directors has the authority to amend the bylaws unless the articles of incorporation reserve that right for the shareholders. The shareholders of the corporation have the absolute right to amend the bylaws even though the board of directors may also amend the bylaws [RMBCA Section 10.20].

piercing the corporate veil (alter ego doctrine)

A doctrine that says if a shareholder dominates a corporation and uses it for improper purposes, a court of equity can disregard the corporate entity and hold the shareholder personally liable for the corporation's debts and obligations. Courts will pierce the corporate veil if (1) the corporation has been formed without sufficient capital (i.e., thin capitalization) or (2) separateness has not been maintained between the corporation and its shareholders (e.g., commingling of personal and corporate assets, failure to hold required shareholders' meetings, failure to maintain corporate records and books). The courts examine this doctrine on a case-by-case basis.

certificate of cancellation

A document filed with the secretary of state upon the dissolution of a limited partnership.

fictitious business name statement

A document filed with the state that designates a trade name of a business, the name and address of the applicant, and the address of the business. These requirements are intended to disclose the real owner's name to the public. Noncompliance can result in a fine. Some states prohibit violators from maintaining lawsuits in the state's courts.

certificate of interest

A document that demonstrates evidence of a member's ownership interest in an LLC.

limited partnership agreement (articles of limited partnership)

A document that sets forth the rights and duties of general and limited partners; the terms and conditions regarding the operation, termination, and dissolution of a partnership; and so on. It is good practice to establish voting rights in a limited partnership agreement or certificate of limited partnership. The limited partnership agreement can state which transactions must be approved by which partners (i.e., general, limited, or both). General and limited partners may be given unequal voting rights. A limited partnership agreement may specify how profits and losses from the limited partnership are to be allocated among the general and limited partners. If there is no such agreement, the RULPA provides that profits and losses from a limited partnership are shared on the basis of the value of each partner's capital contribution [RULPA Section 503]. Example Four general partners each contribute $50,000 in capital to the limited partnership; four limited partners each contribute $200,000 capital. The total amount of contributed capital is $1 million. The limited partnership agreement does not stipulate how profits and losses are to be allocated. Assume that the limited partnership makes $3 million in profits. Under the RULPA, each general partner would receive $150,000 in profit, and each limited partner would receive $600,000 in profit.

certificate of limited partnership

A document that two or more persons must execute and sign and that makes a limited partnership legal and binding.

duty of loyalty (LLC)

A duty owed by a member of a member-managed LLC and a manager of a manager-managed LLC to be honest in his or her dealings with the LLC and not to act adversely to the interests of the LLC. Example Ester, Yi, Maria, and Enrique form the member-managed LLC Big.Business.com, LLC, which conducts online auctions over the Internet. Ester secretly starts a competing business to conduct online auctions over the Internet. Ester is liable for breaching her duty of loyalty to the LLC with Yi, Maria, and Enrique. Ester is liable for any secret profits she made, and her business will be shut down.

duty of loyalty (Corp)

A duty that directors and officers have not to act adversely to the interests of the corporation and to subordinate their personal interests to those of the corporation and its shareholders. Some of the most common breaches of the duty of loyalty are (1) usurping a corporate opportunity (taking a corporate opportunity for oneself), (2) undisclosed and unauthorized competing with the corporation, (3) undisclosed and unauthorized self-dealing (e.g., selling property to the corporation), and (4) making a secret profit (e.g., taking a bribe).

Schedule C (Profit or Loss from Business)

A federal income tax form that is attached to a sole proprietors federal personal income tax form that shows the income or loss from his or her sole proprietorship. which must be attached to the taxpayer's Form 1040.

Sarbanes-Oxley Act

A federal statute that establishes rules to improve corporate governance, prevent fraud, and add transparency to corporate operations.

Foreign Corrupt Practices Act

A federal statute that makes it a crime for U.S. companies, or their officers, directors, agents, or employees, to bribe a foreign official, a foreign political party official, or a candidate for foreign political office, where the bribe is paid to influence the awarding of new business or for the retention of a continuing business activity.

sole proprietorship

A form of business in which the owner is actually the business; the business is not a separate legal entity.

action for an accounting

A formal judicial proceeding in which the court is authorized to (1) review the partnership and the partners' transactions and (2) award each partner his or her share of the partnership assets. Example If a partner suspects that another partner is committing fraud by stealing partnership assets, the partner can bring an action for an accounting.

Area franchise

A franchisor authorizes a franchisee to negotiate and sell franchises on its behalf in designated areas The area franchisee is called a subfranchisor Example If Starbucks wanted to enter a foreign country to operate its coffee shops, it could grant an area franchise to a foreign company operating in the foreign country, which would then choose the individual franchisees in that country.

chain-style franchise

A franchisor licenses a franchisee to make and sell its products or distribute its services to the public from a retail outlet serving an exclusive territory. Example The Pizza Hut Corporation franchises independently owned restaurant franchises to make and sell pizzas to the public under the Pizza Hut name.

distributorship franchise

A franchisor manufactures a product and licenses a franchisee to distribute the product to the public Example Ford Motor Company manufactures automobiles and franchises independently owned automobile dealers (franchisees) to sell them to the public.

processing plant franchise

A franchisor provides a secret formula or process to the franchisee and the franchisee manufactures the product and distributes it to retail dealers. Example The Coca-Cola Corporation, which owns the secret formulas for making Coca-Cola and other soft drinks, sells syrup concentrate to regional bottling companies, who add water and sweeteners and produce and distribute soft drinks under the Coca-Cola name and other brand names.

unlimited personal liability of a general partner

A general partner's personal liability for the debts and obligations of the general partnership.

Limited Liability of Shareholders

A general rule of corporate law that provides that generally shareholders are liable only to the extent of their capital contributions for the debts and obligations of their corporation and are not personally liable for the debts and obligations of the corporation. Example Tina, Vivi, and Qixia form IT.com, Inc., a corporation, and each contributes $100,000 capital. The corporation borrows $1 million from State Bank. One year later, IT.com, Inc., goes bankrupt and defaults on the $1 million loan owed to State Bank. At that time, IT.com, Inc.'s only asset is $50,000 cash, which State Bank recovers. Tina, Vivi, and Qixia each lose their $100,000 capital contribution, which IT.com, Inc., has spent. However, Tina, Vivi, and Qixia are not personally liable for the $950,000 still owed to State Bank. State Bank must absorb this loss.

tenant in partnership

A legal rule providing that general partners are co-owners with the other general partners of the specific property owned by the partnership.

special meeting of a board of directors

A meeting convened by a board of directors to consider important topics such as the issuance of new shares, merger proposals, hostile takeover attempts, and so forth. Special meetings are usually convened for reasons such as issuing new shares, considering proposals to merge with other corporations, adopting maneuvers to defend against hostile takeover attempts, and the like. The board of directors may act without a meeting if all the directors sign written consents that set forth the actions taken. The RMBCA permits meetings of the board to be held via conference calls [RMBCA Section 8.20(b)].

regular meeting of a board of directors

A meeting held by the board of directors at the time and place established in the bylaws.

outside director

A member of a board of directors who is not an officer of the corporation.

No Fiduciary Duty Owed

A member of a manager-managed LLC who is not a manager owes no fiduciary duty of loyalty or care to the LLC or its other members [ULLCA Section 409(h)(1)]. Basically, a nonmanager member of a manager-managed LLC is treated equally to a shareholder in a corporation. Example Felicia is a member of a 30-person manager-managed LLC that is engaged in buying, developing, and selling real estate. Felicia is not a manager of the LLC but is just a member-owner. If a third party approaches Felicia with the opportunity to purchase a large and valuable piece of real estate that is ripe for development, and the price is below fair market value, Felicia owes no duty to offer the opportunity to the LLC. She may purchase the piece of real estate for herself without violating any duty to the LLC.

inside director

A member of the board of directors who is also an officer of the corporation.

distributional interest

A member's ownership interest in an LLC that entitles the member to receive distributions of money and property from the LLC.

Uniform Partnership Act (UPA)

A model act that codifies partnership law. Most states have adopted the UPA in whole or in part.

Uniform Limited Liability Company Act (ULLCA)

A model act that provides comprehensive and uniform laws for the formation, operation, and dissolution of LLCs.

board of directors

A panel of persons who are elected by the shareholders that make policy decisions concerning the operation of a corporation.

registered agent

A person or corporation that is empowered to accept service of process on behalf of a corporation.

promoter

A person or persons who organize and start a corporation, negotiate and enter into contracts in advance of its formation, find the initial investors to finance the corporation, and so forth.

entrepreneur

A person who forms and operates a new business either by him- or herself or with others. Examples Bill Gates and Paul Allen started Microsoft Corporation, which grew into a giant software company. Mark Zuckerberg and others founded Facebook, Inc., an extremely successful social networking service. David Filo and Jerry Yang founded Yahoo!, which is a leader in providing Internet services. Jack Ma and others founded Alibaba Group, an online services and business to business platform in China. Jack Dorsey, Evan Williams, and others started Twitter, Inc., an online social networking and microblogging service. Jeremy Stoppelman and Russel Simmons founded Yelp, Inc., an online urban guide and business review site. Reid Hoffman and others started Linkedin Corporation, which operates a professional networking service. It is when merchants dispute about their own rules that they invoke the law.

tortfeasor

A person who intentionally or unintentionally (negligently) causes injury or death to another person. A person liable to persons he or she injures and to the heirs of persons who die because of his or her conduct.

preferred stockholder

A person who owns preferred stock.

Form 1040 U.S. Individual Income Tax Return

A personal income tax form that is filed by a sole proprietor with the federal government that reports his or her personal income.

supramajority voting requirement (supermajority voting requirement)

A requirement that a greater than majority of shares constitutes a quorum of the vote of the shareholders.

shareholder resolution

A resolution that a shareholder who meets certain ownership requirements may submit to other shareholders for a vote. Many shareholder resolutions concern social issues. Even if management is not in favor of a resolution, a shareholder has a right to have the shareholder resolution included in the corporation's proxy materials if it (1) relates to the corporation's business, (2) concerns a policy issue (and not the day-to-day operations of the corporation), and (3) does not concern the payment of dividends. The SEC rules on whether a resolution can be submitted to shareholders.

Revised Uniform Limited Liability Company Act (RULLCA)

A revision of the ULLCA.

Revised Uniform Limited Partnership Act (RULPA)

A revision of the ULPA that provides a comprehensive law for the formation, operation, and dissolution of limited partnerships.

Revised Uniform Partnership Act (RUPA)

A revision of the Uniform Partnership Act (UPA) that provides a more modern, comprehensive law for the formation, operation, and dissolution of general partnerships.

control rule

A rule providing that a limited partner who takes part in the management of the affairs of the limited partnership, and who has not been expressly elected to office to do so, loses his or her limited liability shield and becomes a general partner and is personally liable for the debts and obligations of the limited partnership. Example Laura is an investor and a limited partner in a limited partnership. At some time after she becomes a limited partner, Laura thinks that the general partners are not doing a very good job managing the affairs of the limited partnership, so she participates in the management of the limited partnership. While she is doing so, a bank loans $1 million to the limited partnership, believing that Laura is a general partner because of her involvement in the management of the limited partnership. If the limited partnership defaults on the $1 million loan owed to the bank, Laura will be treated as a general partner and will be held personally liable for the loan, along with the general partners of the limited partnership.

right of survivorship

A rule providing that, on the death of a general partner, the deceased partner's right in specific partnership property vests in the remaining partner or partners; the value of the deceased general partner's interest in the partnership passes to his or her beneficiaries or heirs.

business judgment rule

A rule that says directors and officers are not liable to the corporation or its shareholders for honest mistakes of judgment. Example After conducting considerable research and investigation, the directors of a major automobile company decide to produce large and expensive sport-utility vehicles (SUVs). Three years later, when the SUVs are introduced to the public for sale, few of them are sold because of the public's interest in buying smaller, less expensive automobiles due to an economic recession and an increase in gasoline prices. Because this was an honest mistake of judgment on the part of corporate management, their judgment is shielded by the business judgment rule.

Section 303 of the RULPA

A section that permits limited partners to participate in the management of a limited partnership without losing their limited liability shield.

proxy

A shareholder's authorizing of another person to vote the shareholder's shares at the shareholders' meetings in the event of the shareholder's absence.

wrongful dissolution

A situation in which a partner withdraws from a partnership without having the right to do so at that time. Example Ashley, Vivi, Qixia, and Tina form a general partnership called "DownScale Partnership" to operate an upscale men's clothing store. The partnership has a stated term of five years. After one year, Ashley decides to quit the partnership. Because Ashley has the power to quit the partnership, the four-partner partnership dissolves when she does quit. Ashley does not have the right to quit the partnership, and her action causes the wrongful dissolution of the partnership. She is liable for any damages caused by her wrongful dissolution of the partnership.

right to participate in management

A situation in which, unless otherwise agreed, each partner has a right to participate in the management of a partnership and has an equal vote on partnership matters. Example Maude, George, Hillary, and Michael form a general partnership; $200,000 capital is contributed to the partnership in the following amounts: Maude, $60,000 (30 percent); George, $10,000 (5 percent); Hillary, $100,000 (50 percent); and Michael, $30,000 (15 percent). Although the capital contributions of the partners differ significantly, each of the four partners has an equal say in the business. The partners can, by agreement, modify the UPA's majority rule by delegating management responsibility to a committee of partners or to a managing partner.

trade name

A sole proprietorship can operate under the name of the sole proprietor or a trade name. For example, the author of this book can operate a sole proprietorship under the name "Henry R. Cheeseman" or under a trade name such as "The Big Cheese."

limited liability partnership (LLP)

A special form of partnership in which all partners are limited partners, and there are no general partners. LLPs are creatures of state law, not federal law. An LLP can only be created pursuant to the laws of the state in which the LLP is being organized. These statutes, commonly referred to as limited liability partnership codes, regulate the formation, operation, and dissolution of LLPs. The state legislature may amend its LLP statutes at any time. The courts interpret state LLP statutes to decide LLP and member disputes. LLPs enjoy the flow-through tax benefit of other types of partnerships; that is, there is no tax paid at the partnership level, and all profits and losses are reported on the individual partners' income tax returns.

straight voting (noncumulative voting)

A system in which each shareholder votes the number of shares he or she owns on candidates for each of the positions open. Example A corporation has 10,000 outstanding shares. Erin owns 5,100 shares (51 percent), and Michael owns 4,900 shares (49 percent). Suppose that three directors of the corporation are to be elected from a potential pool of 10 candidates. Erin casts 5,100 votes for each of her three chosen candidates. Michael casts 4,900 votes for each of his three chosen candidates, who are different from those favored by Erin. Each of the three candidates whom Erin voted for wins, with 5,100 votes each.

flow-through taxation

A tax rule providing that the income and losses of a sole proprietorship, general partnership, limited partnership, limited liability company, limited liability partnership, and S corporation are reported on the owner's personal income tax return.

preferred stock

A type of equity security that is given certain preferences and rights over common stock.

common stock

A type of equity security that represents the residual value of a corporation.

Limited Partnership (Special Partnerships)

A type of partnership that has two types of partners: (1) general partners and (2) limited partners. Many businesses operate as limited partnerships. Limited partnerships have both general partners and limited partners, whose rights, duties, and liabilities differ. Limited partnerships are used for business ventures such as investing in real estate, drilling oil and gas wells, movie productions, and the like.

domain name

A unique name that identifies an individual's or a company's website.

resolution

A vote taken by the board of directors of a corporation that authorizes certain actions to be taken on behalf of the corporation. Examples Resolutions taken by the board of directors can include authorizing the corporation to enter into contracts and leases, employ an accountant or other professionals, appoint a new officer, declare a dividend, authorize entering into a banking relationship, and issue shares of stock.

general partnership agreement (articles of general partnership) (articles of partnership)

A written agreement that partners sign to form a general partnership. The parties can agree to almost any terms in their partnership agreement, except terms that are illegal. The articles of partnership can be short and simple or long and complex. If an agreement fails to provide for an essential term or contingency, the provisions of the UPA apply. Thus, the UPA acts as a gap-filling device to the partners' agreement.

Distribution of Assets On Dissolution

After partnership assets have been liquidated and reduced to cash, the proceeds are distributed to satisfy claims against the partnership. The debts are satisfied in the following order [UPA Section 40(b)]: Creditors (except partners who are creditors) Creditor-partners Capital contributions Profits The partners can agree to change the priority of distributions among themselves. If the partnership cannot satisfy its creditors' claims, the partners are personally liable for the partnership's debts and obligations [UPA Sections 40(d), 40(f)]. After the proceeds are distributed, the partnership automatically terminates. Termination ends the legal existence of the partnership [UPA Section 30].

distribution of assets of a limited partnership

After the assets of a limited partnership have been liquidated, the proceeds must be distributed. The RULPA provides the following order of distribution of assets of a limited partnership on the winding up of the partnership [RULPA Section 804]: Creditors of the limited partnership, including partners who are creditors (except for liabilities for distributions) Partners with respect to: Unpaid distributions Capital contributions The remainder of the proceeds The partners may provide in the limited partnership agreement for a different distribution among the partners, but the creditors must retain their first priority.

articles of amendment

An LLC can amend its articles of organization at any time by filing articles of amendment with the secretary of state.

Liability of an LLC

An LLC is liable for any loss or injury caused to anyone as a result of a wrongful act or omission by a member, a manager, an agent, or an employee of the LLC who commits the wrongful act while acting within the ordinary course of business of the LLC or with authority of the LLC [ULLCA Section 302]. Example Sable, Silvia, and Samantha form SSS, LLC, to own and operate a business. Each member contributes $10,000 capital. While on LLC business, Sable drives her automobile and accidentally hits and injures Damon. Damon can recover damages for his injuries from Sable personally because she committed the negligent act. Damon can also recover damages from SSS, LLC, because Sable was acting within the scope of the ordinary business of the LLC when the accident occurred. Silvia and Samantha have limited liability only up to their capital contributions in SSS, LLC.

foreign LLC

An LLC may do business in other states, however. To do so, the LLC must register as a foreign LLC in any state in which it wants to conduct business.

Form 2553

An S corporation election is made by filing Form 2553 with the Internal Revenue Service (IRS). The election can be rescinded by shareholders who collectively own at least a majority of the shares of the corporation. If the election is rescinded, however, another S corporation election cannot be made for five years.

continuation agreement

An agreement among the surviving or remaining general partners of a partnership to continue a partnership after its dissolution. When a partnership is continued, the old partnership is dissolved, and a new partnership is created. The new partnership is composed of the remaining partners and any new partners admitted to the partnership. The creditors of the old partnership become creditors of the new partnership and have equal status with the creditors of the new partnership [UPA Section 41].

operating agreement

An agreement entered into among members that governs the affairs and business of the LLC and the relations among members, managers, and the LLC.

franchise agreement

An agreement that a franchisor and franchisee enter into that sets forth the terms and conditions of a franchise.

strategic alliance

An arrangement between two or more companies whereby they agree to ally themselves and work together to accomplish a designated objective.

Franchise

An arrangement whereby one party (the franchisor) licenses another party (the franchisee) to use the franchisor's intellectual property and business model in the distribution of goods and services.

general partnership (ordinary partnership)

An association of two or more persons to carry on as co-owners of a business for profit [UPA Section 6(1)]. A general partnership, commonly referred to as a partnership, is a voluntary association of two or more persons for carrying on a business as co-owners for profit. The formation of a general partnership creates certain rights and duties among partners and between the partners and third parties. These rights and duties are established in the partnership agreement and by law. General partners , or partners, are personally liable for the debts and obligations of the partnership (see Exhibit 14.2).

member

An owner of an LLC.

limited liability company (LLC)

An unincorporated business entity that combines the most favorable attributes of general partnerships, limited partnerships, and corporations. An LLC may elect to be taxed as a partnership, the owners can manage the business, and the owners have limited liability for debts and obligations of the partnership. Many entrepreneurs who begin new businesses choose the LLC as their legal form for conducting business. are creatures of state law, not federal law. An LLC can only be created pursuant to the laws of the state in which the LLC is being organized

issued shares

Authorized shares that have been sold by a corporation.

unissued shares

Authorized shares that have not been sold by the corporation.

Subchapter S Revision Act

Congress enacted the Subchapter S Revision Act to allow the shareholders of some corporations to avoid double taxation by electing Subchapter S corporation status.

Uniform Limited Partnership Act (ULPA)

Contains a uniform set of provisions for the formation, operation, and dissolution of limited partnerships

Free transferability of shares

Corporate shares are freely transferable by a shareholder by sale, assignment, pledge, or gift unless they are issued pursuant to certain exemptions from securities registration. Shareholders may agree among themselves as to restrictions on the transfer of shares. National securities markets, such as the New York Stock Exchange and NASDAQ, have been developed for the organized sale of securities.

incorporating a corporation

Corporations are creatures of statute. Thus, the organizers of a corporation must comply with the state's corporation code to form a corporation. The procedure for incorporating a corporation varies somewhat from state to state. The procedure for incorporating a corporation is discussed in the following paragraphs.

Introduction to Corporations and Corporate Goverance

Corporations are the most dominant form of business organization in the United States, generating more than 85 percent of the country's gross business receipts. Corporations range in size from one owner to thousands of owners. Owners of corporations are called shareholders. Shareholders are owners of a corporation who elect the board of directors and vote on fundamental changes in the corporation. The directors are responsible for making policy decisions and employing officers. The officers are responsible for the corporation's day-to- day operations. After decades of many financial frauds and scandals involving directors and officers at some of the largest companies in the United States, in 2002 Congress enacted the Sarbanes-Oxley Act (SOX). This federal statute established rules to improve corporate governance, prevent fraud, and add transparency to corporate operations.

Perpetual existence

Corporations exist in perpetuity unless a specific duration is stated in a corporation's articles of incorporation. The existence of a corporation may be voluntarily terminated by the shareholders. The death, insanity, or bankruptcy of a shareholder, a director, or an officer of a corporation does not affect its existence.

Cumulative dividend right.

Corporations must pay a preferred dividend if they have the earnings to do so

Creation of a Sole Proprietorship

Creating a sole proprietorship is easy. There are no formalities, and no federal or state government approval is required. Some local governments require all businesses, including sole proprietorships, to obtain licenses to do business within the local jurisdiction. If no other form of business organization is chosen, the business is by default a sole proprietorship.

voluntary dissolution

Dissolution of a corporation that has begun business or issued shares upon recommendation of the board of directors and a majority vote of the shares entitled to vote.

corporate officers

Employees of a corporation who are appointed by the board of directors to manage the day-to-day operations of the corporation. At a minimum, most corporations have the following officers: a president, one or more vice presidents, a secretary, and a treasurer. The bylaws or the board of directors can authorize duly appointed officers the power to appoint assistant officers. The same individual may simultaneously hold more than one office in the corporation [RMBCA Section 8.40]. The duties of each officer are specified in the bylaws of the corporation. Officers and agents of a corporation have such authority as may be provided in the bylaws of the corporation or and as determined by resolution of the board of directors [RMBCA Section 8.41]. Because they are agents, officers have the express authority granted to them, as well as implied authority and apparent authority, to bind a corporation to contracts.

antecedent debt

Existing debt of a partnership when a new partner joins the partnership.

negligence

Failure of a corporate director or officer to exercise the duty of care while conducting the corporation's business.

corporate electronic communications (corporate e-communications)

For example, the Delaware General Corporation Law recognizes the following uses of electronic technology: Delivery of notices to shareholders may be made electronically if the shareholder consents to the delivery of notices in this form. Proxy solicitation for shareholder votes may be made by electronic transmission. The list of shareholders of a corporation that must be made available during the 10 days prior to a shareholders' meeting may be made available either at the principal place of business of the corporation or by posting the list on an electronic network. Shareholders who are not physically present at a meeting may be deemed present, participate in, and vote at the meeting by electronic communication; a meeting may be held solely by electronic communication, without a physical location. The election of directors of the corporation may be held by electronic transmission. Directors' actions by unanimous consent may be taken by electronic transmission. The use of electronic transmissions, electronic networks, and communications by e-mail make the operation and administration of corporate affairs more efficient.

Franchising has several advantages

For example, the franchisor can reach lucrative new markets, the franchisee has access to the franchisor's knowledge and resources while running an independent business, and consumers are assured of uniform product quality.

unlimited liability of general partners of a limited partnership

General partners are personally liable for the debts and obligations of a limited partnership. The RULPA permits a corporation or limited liability company to be a general partner or the sole general partner of a limited partnership. Where this is permissible, this type of general partner is liable for the debts and obligations of the limited partnership only to the extent of its capital contribution to the partnership.

Liability of Franchisors and Franchisees

If a franchise is properly organized and operated, the franchisor and franchisee are separate legal entities. Therefore, the franchisor deals with the franchisee as an independent contractor. Franchisees are liable on their own contracts and are liable for their own torts (e.g., negligence). Franchisors are liable for their own contracts and torts. Generally, neither party is liable for the contracts or torts of the other. Example Suppose that McDonald's Corporation, a fast-food restaurant franchisor, grants a restaurant franchise to Tina Corporation. Tina Corporation opens the franchise restaurant. One day, a customer at the franchise spills a chocolate shake on the floor. The employees at the franchise fail to clean up the spilled shake, and one hour later, another customer slips on the spilled shake and suffers severe injuries. The injured customer can recover damages from the franchisee, Tina Corporation, because it was negligent. It cannot recover damages from the franchisor, McDonald's Corporation.

joint venture partnership

If a joint venture is operated as a partnership, then each joint venturer is considered a partner of the joint venture. This is called a joint venture partnership. In a joint venture partnership, each joint venturer is liable for the debts and obligations of the joint venture partnership.

Reimbursement of bonuses and incentive pay

If a public company is required to restate its financial statements because of material noncompliance with financial reporting requirements, the CEO and CFO must reimburse the company for any bonuses, incentive pay, or securities trading profits made because of the noncompliance.

Promoters' liability and the corporation's liability on promoters' contracts follow these rules:

If the corporation never comes into existence, the promoters have joint personal liability on the contract unless the third party specifically exempts them from such liability. If the corporation is formed, it becomes liable on a promoter's contract only if it agrees to become bound to the contract. A resolution of the board of directors binds the corporation to a promoter's contract. Even if the corporation agrees to be bound to the contract, the promoter remains liable on the contract unless the parties enter into a novation, a three-party agreement in which the corporation agrees to assume the contract liability of the promoter with the consent of the third party. After a novation, the corporation is solely liable on the promoter's contract.

Limited Liability of Partners

In an LLP, there does not have to be a general partner who is personally liable for the debts and obligations of the partnership. Instead, all partners are limited partners who have limited liability and stand to lose only their capital contribution if the partnership fails. None of the partners is personally liable for the debts and obligations of the partnership beyond his or her capital contribution Example Suppose Shou-Yi, Patricia, Ricardo, and Namira, all lawyers, form an LLP called Shou-Yi, Namira LLP to provide legal services. While providing legal services to the LLP's client Multi Motors, Inc., Patricia commits legal malpractice (negligence). This malpractice causes Multi Motors, Inc., a huge financial loss. In this case, Multi Motors, Inc., can sue and recover against Patricia, the negligent party, and against Shou-Yi, Namira LLP. Shou-Yi, Ricardo, and Namira can lose their capital contribution in Shou-Yi, Namira LLP but are not personally liable for the damages caused to Multi Motors, Inc. Patricia is personally liable to Multi Motors, Inc., because she was the negligent party.

Manager-managed LLC

In this type of LLC, the members designate a manager or managers to manage the LLC and, by doing so, they delegate their management rights to the manager or managers. Designated manager or managers have the authority to manage the LLC, and the members no longer have the right to manage the LLC. Certain actions cannot be delegated to managers but must be voted on by all members of the LLC. These actions include (1) amending the articles of organization; (2) amending the operating agreement; (3) admitting new members; (4) consenting to dissolve the LLC; (5) consenting to merge the LLC with another entity; and (6) selling, leasing, or disposing of all or substantially all of the LLC's property [ULLCA Section 404(c)]. In a manager-managed LLC, the managers have authority to bind the LLC to contracts, but nonmanager members cannot bind the LLC to contracts. Example Alexis, Derek, Ashley, and Sadia form an LLC. They designate the LLC as a manager-managed LLC and name Alexis and Ashley as the managers. Alexis, a manager, enters into a contract to purchase goods from a supplier for the LLC. Derek, a nonmanager member, enters into a contract to lease equipment on behalf of the LLC. The LLC is bound to the contract entered into by Alexis, a manager, but it is not bound to the contract entered into by Derek, a nonmanager member.

Member-managed LLC

In this type of LLC, the members of the LLC have the right to manage the LLC. each member has equal rights in the management of the business of the LLC, regardless of the size of his or her capital contribution. Any matter relating to the business of the LLC is decided by a majority vote of the members [ULLCA Section 404(a In a member-managed LLC, all members have agency authority to bind the LLC to contracts. Example If Theresa, Artis, and Yolanda form a member-managed LLC, each one of them can bind the LLC to a contract with a third party such as a supplier, purchaser, or landlord.

defective formation

Incorrect creation of a limited partnership that occurs when (1) a certificate of limited partnership is not properly filed, (2) there are defects in a certificate that is filed, or (3) some other statutory requirement for the creation of a limited partnership is not met.

personal liability

Liability imposed on individuals whereby they are personally liable for their own debts, and are sometimes held liable for other party's debts and obligations such as being a guarantor of another person's debt or a general partner of a general or limited partnership.

joint liability

Liability of partners for contracts and debts of the partnership. A plaintiff must name the partnership and all of the partners as defendants in a lawsuit.

contract liability

Liability of principals and agents for contracts entered into with third parties.

limited liability of limited partners of a limited partnership

Limited partners are liable only for the debts and obligations of a limited partnership up to their capital contribution; they are not personally liable for the debts and obligations of a limited partnership. Example Gertrude and Gerald are the general partners of a limited partnership called Real Estate Development, Ltd. They each invest $50,000 in the limited partnership. Lin, Leopold, Lonnie, and Lawrence are limited partners of the limited partnership and each invest $50,000 in the limited partnership. Real Estate Development, Ltd., borrows $2 million from City Bank. After two years, the limited partnership has spent all of its capital, has no assets, and goes bankrupt, still owing City Bank $2 million of unpaid debt. In this case, the four limited partners each lose their $50,000 capital investment but are not personally liable for the $2 million debt owed by the limited partnership to City Bank. The two general partners each lose their $50,000 investment and are each personally liable to City Bank for the limited partnership's unpaid $2 million loan to City Bank.

Formation of a Limited Partnership

Name of the limited partnership. General character of the business. Address of the principal place of business and name and address of the agent to receive service of legal process. Name and business address of each general and limited partner. Latest date on which the limited partnership is to dissolve. Amount of cash, property, or services (and description of property or services) contributed by each partner and any contributions of cash, property, or services promised to be made in the future. Any other matters that the general partners determine should be included. The certificate of limited partnership must be filed with the secretary of state of the appropriate state and, if required by state law, with the county recorder in the county or counties in which the limited partnership carries on its business. The limited partnership is formed when the certificate of limited partnership is filed. The certificate of limited partnership may be amended to reflect the addition or withdrawal of a partner and other matters [RULPA Section 202(a)]. Under the RULPA, the law of the state in which the limited partnership is organized governs the partnership, its internal affairs, and the liability of its limited partners [RULPA Section 901].

Liability on a Personal Guarantee

On some occasions, when limited partnerships apply for an extension of credit from a bank, a supplier, or another creditor, the creditor will not make the loan based on the limited partnership's credit history or ability to repay the credit. The creditor may require a limited partner to guarantee the repayment of the loan personally in order to extend credit to the limited partnership. If a limited partner personally guarantees a loan made by a creditor to the limited partnership and the limited partnership defaults on the loan, the creditor may enforce the personal guarantee and recover payment from the limited partner who personally guaranteed the repayment of the loan.

limited partners

Partners in a limited partnership who invest capital but do not participate in management and are not personally liable for partnership debts beyond their capital contributions.

general partners of a limited partnership

Partners in a limited partnership who invest capital, manage the business, and are personally liable for partnership debts.

general partners of a general partnership

Persons liable for the debts and obligations of a general partnership.

dividend

Profit corporations operate to make a profit. The objective of the shareholders is to share in those profits, either through capital appreciation, the receipt of dividends, or both. Dividends are paid at the discretion of the board of directors [RMBCA Section 6.40]. The directors may opt to retain the profits in the corporation to be used for corporate purposes instead of as dividends. Once declared, a cash or property dividend cannot be revoked. Shareholders can sue to recover declared but unpaid dividends.

equity securities (stocks)

Representation of ownership rights to a corporation.

outstanding shares

Shares that are in shareholder hands, whether originally issued shares or reissued treasury shares. Only outstanding shares have the right to vote.

corporation codes

State statutes that regulate the formation, operation, and dissolution of corporations. The state legislature may amend its corporate statutes at any time. Such changes may require a corporation's articles of incorporation to be amended.

Cumulative preferred stock

Stock that has a right to receive regular dividends that were not declared (paid) in prior years.

redeemable preferred stock (callable preferred stock)

Stock that permits a corporation to buy back the preferred stock at some future date.

Convertible preferred stock

Stock that permits the preferred stockholders to convert their shares into common stock.

CEO and CFO certification

The CEO and chief financial officer (CFO) of a public company must file a statement accompanying each annual and quarterly report called the CEO and CFO certification. This statement certifies that the signing officer has reviewed the report; that, based on the officer's knowledge, the report does not contain any untrue statement of a material fact or omit to state a material fact that would make the statement misleading; and that the financial statement and disclosures fairly present, in all material aspects, the operation and financial condition of the company. A knowing and willful violation is punishable by up to 20 years in prison and a monetary fine.

Model Business Corporation Act (MBCA)

The Committee on Corporate Laws of the American Bar Association first drafted the Model Business Corporation Act (MBCA) in 1950. The model act was intended to provide a uniform law regulating the formation, operation, and termination of corporations.

domestic LLC

The LLC is a domestic LLC in the state in which it is organized.

Bar from acting as an officer or a director.

The Securities and Exchange Commission (SEC), a federal government agency, may issue an order prohibiting any person who has committed securities fraud from acting as an officer or a director of a public company.

Penalties for tampering with evidence

The act makes it a crime for any person to alter, destroy, mutilate, conceal, or create knowingly any document to impair, impede, influence, or obstruct any federal investigation. A violation is punishable by up to 20 years in prison and a monetary fine.

Prohibition on personal loans

The act prohibits public companies from making personal loans to their directors or executive officers.

dissolution of a general partnership

The change in the relationship of partners in a partnership caused by any partner ceasing to be associated in the carrying on of the business.

Liability of Outgoing Partners

The dissolution of a general partnership does not, of itself, discharge the liability of an outgoing partner for existing partnership debts and obligations. If a general partnership is dissolved, each general partner is personally liable for debts and obligations of the partnership that exist at the time of dissolution.

duty of care (Corp)

The duty of care requires corporate directors and officers to use care and diligence when acting on behalf of the corporation. To meet this duty of care, the directors and officers must discharge their duties (1) in good faith, (2) with the care that an ordinary prudent person in a like position would use under similar circumstances, and (3) in a manner they reasonably believe to be in the best interests of the corporation [RMBCA Sections 8.30(a), 8.42(a)].

articles of organization

The formal documents that must be filed at the secretary of state's office of the state of organization of an LLC to form the LLC. The name of the LLC The address of the LLC's initial office The name and address of the initial agent for service of process The name and address of each organizer Whether the LLC is a term LLC and, if so, the term specified Whether the LLC is to be a manager-managed LLC and, if so, the name and address of each manager Whether one or more of the members of the LLC are to be personally liable for the LLC's debts and obligations

articles of limited liability partnership

The formal documents that must be filed at the secretary of state's office of the state of organization of an LLP to form the LLP.

Liability of General Partners

The general partners of a limited partnership have unlimited liability for the debts and obligations of the limited partnerships. Thus, general partners have unlimited personal liability for the debts and obligations of the limited partnership. This liability extends to debts that cannot be satisfied with the existing capital of the limited partnership.

ownership interest

The interest that a partner owns of a partnership.

limited liability of members of LLCs

The liability of LLC members for the LLC's debts, obligations, and liabilities is limited to the extent of their capital contributions. Members of LLCs are not personally liable for the LLC's debts, obligations, and liabilities. Example Jasmin, Shou-Yi, and Vanessa form an LLC, and each contributes $25,000 in capital. The LLC operates for a period of time, during which it borrows money from banks and purchases goods on credit from suppliers. After some time, the LLC experiences financial difficulty and goes out of business. If the LLC fails with $500,000 in debts, each of the members will lose her capital contribution of $25,000 but will not be personally liable for the rest of the unpaid debts of the LLC.

limited liability of partners of LLPs

The liability of LLP partners for the LLP's debts, obligations, and liabilities is limited only to the extent of their capital contributions. Partners of LLPs are not personally liable for the LLPs' debts, obligations, and liabilities.

When starting a new corporation, the organizers must choose a name for the entity.

The name must contain the words corporation, company, incorporated, or limited or an abbreviation of one of these words (i.e., Corp., Co., Inc., Ltd.). A trademark of the name can be obtained if available and desired.

authorized shares

The number of shares provided for in the articles of incorporation.

sole proprietor

The owner of a sole proprietorship.

incorporators

The parties who sign the articles of incorporation

licensee

The party to whom a license is granted.

licensor

The party who grants a license.

franchisor (licensor)

The party who grants the franchise and license to a franchisee in a franchise arrangement.

franchisee (licensee)

The party who is granted the franchise and license by a franchisor in a franchise arrangement.

unlimited personal liability of a sole proprietor

The personal liability of a sole proprietor for all the debts and obligations of a sole proprietorship. Example Nathan opens a clothing store called "The Clothing Store" and operates it as a sole proprietorship. Nathan files the proper statement and publishes the necessary notice of the use of the trade name. Nathan contributes $25,000 of his personal funds to the business and borrows $100,000 from a bank in the name of the business. After several months, Nathan closes the business because it is unsuccessful. At the time it is closed, the business has no assets, owes the bank $100,000, and owes other debts of $25,000. Nathan, the sole proprietor, is personally liable to pay the bank and all the debts of the sole proprietorship from his personal assets.

winding up and liquidation

The process by which a dissolved corporation's assets are collected, liquidated, and distributed to creditors, preferred shareholders, and common shareholders.

winding up

The process of liquidating a partnership's assets and distributing the proceeds to satisfy claims against the partnership. The process of winding up consists of the liquidation (sale) of partnership assets and the distribution of the proceeds to satisfy claims against the partnership. The surviving partners have the right to wind up the partnership. If a surviving partner performs the winding up, he or she is entitled to reasonable compensation for his or her services [UPA Section 18(f)].

quorum to hold a meeting of the shareholders

The required number of shares that must be represented in person or by proxy to hold a shareholders' meeting. The RMBCA establishes a majority of outstanding shares as a quorum. Example A corporation has 20,000 shares outstanding. A shareholders' meeting is duly called to amend the articles of incorporation, and 10,001 shares are represented at the meeting. A quorum is present because a majority of the shares entitled to vote are represented. Suppose that 5,001 shares are voted in favor of the amendment. The amendment passes. In this example, just over 25 percent of the shares of the corporation bind the other shareholders to the action taken at the shareholders' meeting.

liquidation preference

The right to be paid a stated dollar amount if a corporation is dissolved and liquidated A liquidation preference is normally a stated dollar amount. Example A corporation issues a preferred stock that has a liquidation preference of $200. This means that, if the corporation is dissolved and liquidated, the holder of each preferred share will receive at least $200 before the common shareholders receive anything. Note that because the corporation must pay its creditors first, there may be insufficient funds to pay this preference.

dividend preference

The right to receive a fixed dividend at stipulated periods during the year (e.g., quarterly). The dividend rate is usually a set percentage of the initial offering price. Example A stockholder purchases $10,000 of a preferred stock that pays an 8 percent dividend annually. The stockholder has the right to receive $800 each year as a dividend on the preferred stock.

Administrative dissolution

The secretary of state can obtain administrative dissolution of a corporation if (1) it failed to file an annual report, (2) it failed for 60 days to maintain a registered agent in the state, (3) it failed for 60 days after a change of its registered agent to file a statement of such change with the secretary of state, (4) it did not pay its franchise fee, or (5) the period of duration stated in the corporation's articles of incorporation has expired [RMBCA Section 14.20]. If the corporation does not cure the default within 60 days of being notified of it, the secretary of state issues a certificate of dissolution that dissolves the corporation [RMBCA Section 14.21].

Business Environment Delaware Corporation Law

The state of Delaware is the corporate haven of the United States. More than 50 percent of the publicly traded corporations in the United States, including 60 percent of the Fortune 500 companies, are incorporated in Delaware. In total, more than 500,000 business corporations are incorporated in Delaware. But why? Remember that the state in which a corporation is incorporated determines the law that applies to the corporation: The corporation code of the state of incorporation applies to details such as election of directors, requirements for a merger to occur, laws for fending off corporate raiders, and so on. Even if a corporation does no business in Delaware, it can obtain the benefits of Delaware corporation law by incorporating in Delaware. On the legislative side, Delaware has enacted the Delaware General Corporation Law. This law is the most advanced corporation law in the country, and the statute is particularly written to be of benefit to large corporations. For example, the Delaware corporation code provides for corporations incorporated in Delaware to adopt so-called poison pills, which make it difficult for another company to take over a Delaware corporation unless the board of directors of the target corporation agrees and removes such poison pills. In addition, the legislature keeps amending the corporation code as the demands of big business warrant or need such changes. For instance, the legislature has enacted a state antitakeover statute that makes it difficult to take over a Delaware corporation unless the corporation's directors waive the state's antitakeover law and agree to be taken over. On the judicial side, Delaware has a special court—the court of chancery—that hears and decides business cases. This court has been around for more than 200 years. In that time, it has interpreted Delaware corporation law favorably for large corporations in matters such as electing corporate boards of directors, eliminating negligence liability of outside directors, upholding the antitakeover provisions of the Delaware corporation code, and so on. In addition, there are no emotional juries to worry about. The decisions of the chancery court are made by judges who are experts at deciding corporate law disputes. The court is known for issuing decisions favorable to large corporations because the court applies Delaware corporation law to decide disputes. Appeals from the court of chancery are brought directly to the supreme court of Delaware. Thus, Delaware courts have created a body of precedent of legal decisions that provides more assurance to Delaware corporations in trying to decide whether they will be sued and what the outcome will be if they are sued. The state of Delaware makes a substantial sum of money each year on fees charged to corporations incorporated within the state. Delaware is the "business state," providing advanced corporate laws and an expert judiciary for deciding corporate disputes.

cumulative voting

This means that each shareholder is entitled to multiply the number of shares he or she owns by the number of directors to be elected and cast the accumulative number for a single candidate or distribute the product among two or more candidates [RMBCA Section 7.28]. Cumulative voting gives a minority shareholder a better opportunity to elect someone to the board of directors. Example Suppose Lisa owns 1,000 shares of a corporation. Assume that four directors are to be elected to the board. With cumulative voting, Lisa can multiply the number of shares she owns (1,000) by the number of directors to be elected (four). She can cast all the resulting votes (4,000) for one candidate or split them among candidates as she determines.

joint and several liability

Tort liability of partners together and individually. A plaintiff can sue one or more partners separately. If successful, the plaintiff can recover the entire amount of the judgment from any or all of the defendant-partners who have been found liable. Example Nicole, Jim, and Maureen form a general partnership. Jim, while on partnership business, causes an automobile accident that injures Catherine, a pedestrian. Catherine suffers $100,000 in injuries. Catherine, at her option, can sue Nicole, Jim, or Maureen separately, or any two of them, or all of them.

Taxation of LLCs

Under the Internal Revenue Code and regulations adopted by the Internal Revenue Service (IRS) for federal income tax purposes, an LLC is taxed as a partnership unless it elects to be taxed as a corporation. Thus, an LLC is not taxed at the entity level, but its income or losses flow through to the members' individual income tax returns in a process called flow-through taxation. This avoids double taxation. Most LLCs accept the default status of being taxed as a partnership instead of electing to be taxed as a corporation.

Formation of an LLC

Under the ULLCA, an LLC may be organized by one or more persons. Some states require at least two members to organize an LLC. In states where an LLC may be organized by only one member, sole proprietors can obtain the benefit of the limited liability shield of an LLC. An LLC can be organized in only one state, even though it can conduct business in all other states. When choosing a state for organization, the members should consider the LLC codes of the states under consideration. For the sake of convenience, most LLCs, particularly small ones, choose as the state of organization the state in which the LLC will be doing most of its business. When starting a new LLC, the organizers must choose a name for the entity. The name must contain the words limited liability company or limited company or the abbreviation L.L.C., LLC, L.C., or LC. Limited may be abbreviated as Ltd., and company may be abbreviated as Co. [ULLCA Section 105(a)].

right to share in profits

Unless otherwise agreed, the UPA mandates that a general partner has the right to an equal share in the partnership's profits and losses. Example Maude, George, Hillary, and Michael form a general partnership. Capital is contributed to the partnership in the following amounts: Maude, 30 percent; George, 5 percent; Hillary, 50 percent; and Michael, 15 percent. The partnership makes $100,000 profit for the year. Although the capital contributions of the partners differ significantly, each of the four partners share equally in the profits of the business—each receives $25,000.

Business Environment Advantages of Operating a Business as an LLC

What are the advantages of operating a business as an LLC rather than a sole proprietorship, general partnership, limited partnership, C corporation, or S corporation? Some of the differences and advantages are as follows: An LLC can have any number of member-owners, whereas an S corporation can have only 100 shareholders. An LLC has flow-through taxation the same as general and limited partnerships and S corporations. Unlike an S corporation, an LLC does not have to file a form with the IRS to obtain flow-through taxation. S corporations cannot have shareholders other than estates, certain trusts, and individuals, whereas an LLC can have these and other types of shareholders such as general and limited partnerships, corporations, and other LLCs. An LLC can have nonresident alien member-owners, whereas an S corporation cannot have nonresident aliens as stockholders. An S corporation can have only one class of stock, whereas an LLC can have more than one class of interest, thereby permitting a more complex capital structure. An S corporation may not own more than 80 percent of another corporation, whereas an LLC may own 100 percent of other businesses. An S corporation cannot be affiliated with other businesses, whereas an LLC can be part of an affiliated group of businesses. Members of LLCs can manage the LLC similarly to general partners, who can manage a general partnership or a limited partnership, whereas shareholders of an S corporation do not have rights to manage the corporation. Members of LLCs can manage the business and still have limited liability, whereas the general partners of a general or limited partnership can manage the business of the partnership but do not have limited liability. Members of an LLC have limited liability like limited partners of a limited partnership, but unlike limited partners, member-owners of an LLC have a say in management without losing their limited liability. A limited partnership must have at least one general partner who is personally liable for the obligations of the partnership. An LLC provides limited liability to all members. Similar to corporations having professional management, an LLC can choose to be a manager-managed LLC whereby designated managers manage the affairs of the business. Nonmanager members thereby do not have rights to manage the LLC's business affairs. An LLC can be owned by one owner in most states. Therefore, an owner obtains limited liability that is not available to a sole proprietor of a sole proprietorship. The formation of an LLC is no more complex than forming a corporation. The formation of an LLC is more complex and costly than forming a sole proprietorship and usually more complex and costly than forming a general partnership and limited partnership. For these reasons LLCs have become a preferred form of operating businesses in the United States.

international subsidiary corporation

a corporation that is organized under the laws of the foreign country that is owned by a multinational corporation Examples Toyota Motor Corporation is based in Japan, and Ford Motor Company is headquartered in the United States; each of these companies owns subsidiary corporations that manufacture and sell automobiles and other vehicles around the world. Citigroup Inc. ("Citi") operates banking and financial services subsidiaries worldwide.

Subchapter S corporation

a creation of the tax codes; shareholders elect to be taxed as a partnership (no double taxation) without losing corporation status The corporation must be a domestic corporation. The corporation cannot be a member of an affiliated group of corporations. The corporation can have no more than 100 shareholders. Shareholders must be individuals, estates, or certain trusts. Corporations and partnerships cannot be shareholders. Shareholders must be citizens or residents of the United States. Nonresident aliens cannot be shareholders. The corporation cannot have more than one class of stock. Shareholders do not have to have equal voting rights.

partnership for a term

a partnership created for a fixed duration

partnership at will

a partnership created with no fixed duration

Participating preferred stock

allows a preferred stockholder to participate in the profits of the corporation along with the common stockholders. Participation is in addition to the fixed dividend paid on preferred stock. The terms of participation vary widely. Usually, the common stockholders must be paid a certain amount of dividends before participation is allowed.

Publicly held corporations

are for-profit corporations that have many shareholders. Often, they are large corporations with hundreds or thousands of shareholders, and their shares are usually traded on organized securities markets. Examples Google, Inc.; Facebook, Inc.; eBay, Inc.; Starbucks Corporation; Apple Computer, Inc.; The Procter & Gamble Company; Wal-Mart Stores, Inc.; Ford Motor Company; and Yahoo!, Inc. are examples of publicly held corporations.

Private corporations

are formed to conduct privately owned business. They are owned by private parties, not by the government. They range from small one-owner corporations to large multinational corporations such as Microsoft Corporation.

Annual shareholders' meetings

are held to elect directors, choose independent auditors, and take other actions. These meetings must be held at the times fixed in the bylaws [RMBCA Section 7.01].

Treasury shares

cannot be voted by the corporation, and dividends are not paid on these shares. Treasury shares can be reissued by the corporation

Nonparticipating preferred stock

does not give the holder a right to participate in the profits of the corporation beyond the fixed dividend rate. Most preferred stock falls into this category.

Debt securities (also called fixed income securities

establish a debtor-creditor relationship in which the corporation borrows money from the investor to whom the debt security is issued. The corporation promises to pay interest on the amount borrowed and to repay the principal at some stated maturity date in the future. The corporation is the debtor, and the holder is the creditor.

Operating a business as a sole proprietorship

has several major advantages, including the following: Forming a sole proprietorship is easy and does not cost a lot. The owner has the right to make all management decisions concerning the business, including those involving hiring and firing employees. The sole proprietor owns all of the business and has the right to receive all of the business's profits. A sole proprietorship can be easily transferred or sold if and when the owner desires to do so; no other approval (e.g., from partners or shareholders) is necessary. This business form has important disadvantages, too. For example, a sole proprietors' access to the capital is limited to personal funds plus any loans he or she can obtain, and a sole proprietor is legally responsible for the business's contracts and the torts he or she or any of his or her employees commit in the course of employment.

articles of incorporation (corporate charter)

he basic governing documents of a corporation. It must be filed with the secretary of state of the state of incorporation. The name of the corporation The number of shares the corporation is authorized to issue The address of the corporation's initial registered office and the name of the initial registered agent The name and address of each incorporator The articles of incorporation may also include provisions concerning (1) the period of duration (which may be perpetual), (2) the purpose or purposes for which the corporation is organized, (3) limitation or regulation of the powers of the corporation, (4) regulation of the affairs of the corporation, or (5) any provision that would otherwise be contained in the corporation's bylaws. Today, corporations most often provide their articles of incorporation online.

common stockholder

investors who own the firm's common stock. Common stockholders are the residual owners of the firm

Debenture

is a long-term (often 30 years or more), unsecured debt instrument that is based on a corporation's general credit standing. If the corporation encounters financial difficulty, unsecured debenture holders are treated as general creditors of the corporation (i.e., they are paid only after the secured creditors' claims are paid).

Bond

is a long-term debt security that is secured by some form of collateral (e.g., real estate, personal property). Thus, bonds are the same as debentures except that they are secured. Secured bondholders can foreclose on the collateral in the event of nonpayment of interest, principal, or other specified events.

corporation

is a separate legal entity (or legal person) for most purposes. Corporations are treated, in effect, as artificial persons created by the state that can sue or be sued in their own names, enter into and enforce contracts, hold title to and transfer property, and be found civilly and criminally liable for violations of law. Because corporations cannot be put in prison, the normal criminal penalty is the assessment of a fine, loss of a license, or another sanction.

Note

is a short-term debt security with a maturity of five years or less. Notes can be either unsecured or secured. They usually do not contain a conversion feature. They are sometimes made redeemable.

Joint Venture

is an arrangement in which two or more business entities combine their resources to pursue a single project or transaction.

The incoming partner

is personally liable for debts and obligations incurred by the general partnership after becoming a partner. Example Bubble.com is a general partnership with four partners. On May 1, Frederick is admitted as a new general partner by investing a $100,000 capital contribution. As of May 1, Bubble.com owes $800,000 of preexisting debt. After Frederick becomes a partner, the general partnership borrows $1 million of new debt. If the general partnership goes bankrupt and out of business still owing both debts, Frederick's capital contribution of $100,000 will go toward paying the $800,000 of existing debt owed by the partnership when he joined the partnership, but he is not personally liable for this debt. However, Frederick is personally liable for the $1 million of unpaid debt that the partnership borrowed after he became a partner.

The board of directors

is responsible for formulating policy decisions that affect the management, supervision, control, and operation of the corporation (see Exhibit 16.4) [RMBCA Section 8.01]. Such policy decisions include deciding the business or businesses in which the corporation should be engaged, selecting and removing the top officers of the corporation, and determining the capital structure of the corporation. Boards of directors are typically composed of inside and outside directors. An inside director is a person who is also an officer of the corporation. An outside director is a person who sits on the board of directors of a corporation but is not an officer of that corporation. Outside directors are often selected for their business knowledge and expertise.

manager of an LCC

may be a member of an LLC or a nonmember. Whether an LLC is a member-managed or manager-managed LLC has important consequences on the right to bind the LLC to contracts and on determining the fiduciary duties owed by members to the LLC.

Special shareholders' meetings

may be called by the board of directors, the holders of at least 10 percent of the voting shares of the corporation, or any other person authorized to do so by the articles of incorporation or bylaws (e.g., the president) [RMBCA Section 7.02]. Special meetings may be held to consider important or emergency issues, such as a merger or consolidation of the corporation with one or more other corporations, the removal of directors, amendment of the articles of incorporation, or dissolution of the corporation. A corporation is required to give the shareholders written notice of the place, day, and time of annual and special meetings.

The partnership and partners who are made to pay tort liability

may seek indemnification from the partner who committed the wrongful act. A release of one partner does not discharge the liability of other partners.

articles of dissolution

must be filed with the secretary of state of the state of incorporation. A corporation is dissolved upon the effective date of the articles of dissolution [RMBCA Section 14.03].

Termination

occurs only after the winding up of the corporation's affairs, the liquidation of its assets, and the distribution of the proceeds to the claimants. The liquidated assets are paid to claimants according to the following priority: (1) expenses of liquidation and creditors according to their respective liens and contract rights, (2) preferred shareholders according to their liquidation preferences and contract rights, and (3) common stockholders.

franchise application

often includes detailed information about the applicant's previous employment, financial and educational history, and credit status

Large corporations generally

opt to incorporate in the state with the laws that are most favorable to the corporation's internal operations (e.g., Delaware).

limited liability company codes

regulate formation, operation, and dissolution of LLCs

Equity securities (or stocks

represent ownership rights in the corporation

Joint ventures

resemble partnerships, except that partnerships are usually formed to pursue ongoing business operations rather than to focus on a single project or transaction. Unless otherwise agreed, joint venturers have equal rights to manage a joint venture. Joint venturers owe each other the fiduciary duties of loyalty and care. If a joint venturer violates these duties, it is liable for the damages the breach causes.

organizational meeting

the initial directors of a corporation must be held after the articles of incorporation are filed. At this meeting, the directors must adopt the bylaws, elect corporate officers, and transact such other business as may come before the meeting [RMBCA Section 2.05]. Examples Actions taken at the meeting may include accepting share subscriptions, approving the form of the stock certificate, authorizing the issuance of the shares, ratifying or adopting promoters' contracts, authorizing the reimbursement of promoters' expenses, selecting a bank, choosing an auditor, forming committees of the board of directors, fixing the salaries of officers, hiring employees, authorizing the filing of applications for government licenses to transact the business of the corporation, and empowering corporate officers to enter into contracts on behalf of the corporation.

noncumulative preferred stock

there is no right of accumulation. In other words, the corporation does not have to pay any missed dividends.

common stock certificates

to show evidence of their ownership interest in the corporation. However, electronic registration of common stockholder ownership interests is supplanting paper stock certificates. Corporations are no longer required by law to issue paper certificates, and many do not.

fiduciary duties

trust and competence to the corporation and its shareholders. These duties include the (1) duty of loyalty and (2) the duty of care. The duties of obedience, care, and loyalty owed by directors and officers to their corporation and its shareholders.

parent corporation

usually owns all or the majority of the subsidiary corporation

minutes

written record of topics discussed and actions taken during meeting sessions