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Texas Bar Exam: Essay Topics > Corporations > Flashcards

Flashcards in Corporations Deck (97)
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1
Q

How are pre-incorporation transactions treated?

A

Generally: Sometimes persons will act on behalf of a corporation before the corporation is formed. The question is . . . who is liable?

PROMOTERS - liable for pre-incorporation transactions.

CORPORATION - NOT LIABLE for pre-incorporation transactions UNTIL the corporation ADOPTS THE CONTRACT.

2
Q

How is a pre-incorporation contract adopted? If it does, what happens to the promoter? What is a novation?

A

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

THE PROMOTER REMAINS JOINTLY AND SEVERALLY LIABLE on the contract along with the corporation UNTIL A NOVATION IS EXECUTED.

A novation is an agreement executed by the corporation, the promoter, and the third party agreeing to release the promoter as a party to the contract.

3
Q

How is a corporation formed?

A

The filing of a Certificate of Formation with the Secretary of State brings the corporation into existence. The CoF is prepared by an “organizer” (can be anyone over 18 years old).

The CoF is a contract between the corporation, its shareholders, and the State of Texas.

4
Q

What are the formalities of a CoF?

A

The CoF must have basic information (contract provisions) and they are the following:

1) NAME - the corporation’s name must have any of the following after it: “Corporation;” “Incorporated;” “Company;” or “Limited” OR ANY ABBREVIATION OF THESE WORDS (corp., inc., co., ltd.); AND
2) PURPOSE - CoF MUST state a purpose. This can be a broad statement (ex: “the purpose for which this corporation is formed is for the transaction of any and all lawful business for which a for-profit corporation may be organized under the Texas Business Organizations Code.”);
3) AUTHORIZED SHARES - MUST be set forth (number of shares corp. is authorized to issue). Par value is the minimum price for which shares can be issued. If there is no par value, the CoF must state so.
4) IF MORE THAN ONE CLASS OF STOCK - CoF must state so. Each class is “series” designated (Series A / Series B). Further, the number of shares in each class and the par value should be stated if there is one. Lastly, must have the rights, preferences, and privileges for each class of stock.
5) DURATION - By DEFAULT, the corporation’s existence is PERPETUAL. If a specific period of time is desired, the CoF must have it stated.
6) NAME AND ADDRESS OF CORPORATE AGENT - Must be included in the CoF (for service of process purposes).
7) ORGANIZER’S NAME AND ADDRESS - So SoS can contact if CoF has a defect.
8) DIRECTORS - The number must be set out along with their names and addresses.
9) OTHER PROVISIONS - allowed if wanting better customization of corporate governance structure.

5
Q

What is NOT allowed in a corporation’s name?

A

May NOT have a name or phrase that indicates corporation is engaged in a business that corporation is NOT authorized to engage in.

“Lotto” or “Lottery” is PROHIBITED.

CANNOT imply that corporation is created to benefit war veterans UNLESS APPROVED TO DO SO.

CANNOT BE DECEPTIVELY SIMILAR TO OTHER CORPORATIONS DOING BUSINESS IN TEXAS.

6
Q

How long can corporation names be reserved?

A

Corporate names can be reserved for 120 DAYS or until the application is withdrawn.

7
Q

What specific combination of business activities can a corporation never be incorporated for?

A

(1) The business of raising cattle; (2) operating stock yards; AND (3) slaughtering, canning, or packing meat.

8
Q

When does a corporation come into existence?

A

When the Secretary of State APPROVES THE CoF. The approved CoF is then issued to the corporation. The corporation comes into existence at this point.

9
Q

What goes on at the Board Organizational Meeting?

A

The initial board is required to call an organizational meeting for initial corporate housekeeping matters:

1) Adopting Bylaws;
2) Elect Officers; AND
3) Transact the company business.

10
Q

What are ultra vires actions? What are the consequences.

A

“Beyond the Scope”

Corporations can state an express purpose for which the corporation is formed. If the corporation engages in activities beyond this scope, they are deemed to be ULTRA VIRES acts.

Generally cannot be invalidated, but these acts can be challenged in the following situation: A pending contract that has not commenced or been executed yet–a shareholder can file suit to enjoin the corporation from executing the ultra vires action.

Court will grant the injunction ONLY if all parties are present and granting the injunction would be equitable. The court will grant damages caused by the injunction, BUT NOT for loss of anticipated profits.

11
Q

Issues relating to deficiencies in the formation process.

A

EXAM TIP: Not clear whether Texas follows these doctrines. If discussing them, start with “assuming the doctrine has not been abolished,” and discuss the descriptions below:

1) De Jure Corporation - CoF accepted by the SoS creates a De Jure Corporation. At this point, the corporation (instead of the promoter) can incur liability.
2) De Facto Corporation - A corporation for whatever reason fails to complete the statutory protocols to receive the legal designation of a corporation. But, the agents for the unformed entity incur liability on what they think is the corporation’s behalf. Who is liable? Make the De Facto Corporation” argument. MUST PROVE THE FOLLOWING:
a) There is statutory law for the formation of the corporation;
b) There was a good faith attempt to comply with that law; and
c) The owners and directors were operating under the corporate name.
3) Corporation by estoppel - When third party has dealt with corporation believing it to be a corporation, the third party is estopped form later claiming that the corporation did not exist *usually limited to contract cases, not tort cases).

12
Q

If the Certificate of Formation is inconsistent with the company by laws, what prevails?

A

The CoF prevails.

13
Q

Who are the shareholders?

A

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

14
Q

Where are shareholder votes exercised?

A

Annual and Special meetings.

ANNUAL MEETING - Required by law to be held EACH YEAR. Time and place shall be specified in the by laws. General purposes are to (1) elect directors, (2) approve proposed amendments to the CoF, (3) vote on shareholder proposals, and (4) consider any other business subject to shareholder consideration.

SPECIAL MEETING - Called when something significant has transpired between annual meetings and shareholder consideration is required. These are held to approve: (1) mergers or consolidation, (2) sale of all or substantially all of the corporations assets, and (3) a dissolution or termination of the business.

15
Q

What notice is due for shareholder meetings (timing, contents, method)?

A

Proper notice MUST be given for BOTH the annual and special meetings. The notice must include the matters to be addressed and must b e sent to EACH shareholder, REGARDLESS OF WHETHER THEY CAN VOTE.

TIMING - Must be given at least 10 DAYS PRIOR to the meeting but NO EARLIER THAN 60 DAYS PRIOR to the meeting. IF FOR A MERGER OR OTHER FUNDAMENTAL TRANSACTION, MUST GIVE AT LEAST 21 DAYS NOTICE.

CONTENTS - Place, day, and time of meeting. If for a special meeting, must include the purpose. If remote communication, must include instructions for access. If merger, conversion, or interest exchange plan is the subject, must include a copy or summary of the plans.

METHOD - First-class mail, personal notice, OR electronic transmission (if shareholder consents to such service).

16
Q

Which shareholders are eligible to vote?

A

Shareholders of record AS OF THE RECORD DATE are eligible to vote at an annual or special meeting. This is to prevent confusion when shares are sold or traded throughout the year.

The record date may not be more than 60 DAYS prior to an annual or special meeting.

11 DAYS PRIOR to the meeting, an officer must make an alphabetical listing of eligible voters; this list must be kept on file at the registered office. This is prima facie evidence of entitled voters.

17
Q

How many shareholders are needed to pass a corporate action?

A

GENERALLY - Actions needing sharehold approval are done when a QUORUM is present (whether by person or proxy) and the action is approved by a MAJORITY (more than half) of those shareholders PRESENT at the meeting.

QUORUM - A majority of the shares entitled to vote constitutes a quorum (more than half of the entitled shares).

18
Q

Can “quorum” requirements be adjusted up or down?

A

Yes. If quorum requirements are adjusted down, they CANNOT BE LOWER THAN 1/3 of the eligible voters.

19
Q

Where are quorum requirements located?

A

Either in the CoF or the by laws.

20
Q

Can voting requirements be made higher than a majority?

A

Yes. In fact, some matters are required by law to have greater voting requirements. Also, a corporation may require higher voting requirements for specific matters.

If the corporation elects to do so for specific matters, they must be specified either in the CoF or the by laws.

21
Q

What is cumulative voting and how does it work?

A

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

Example - A owns 30 shares. B owns 70 shares. They are voting on three director positions. Thus, A has 90 votes (30 X 3) and B has 210 (70 X 3). A can blow all 90 votes on one director. Without cumulative voting, B would simply outvote A every time 70 to 30 on each director spot.

22
Q

When is cumulative voting available to a corporation?

A

For Corporations FORMED AFTER SEPTEMBER 1, 2003, cumulative voting is an OPT-IN provision. Corp. must make a specific election in its CoF to provide for cumulative voting.

For Corporations FORMED BEFORE September 1, 2003, cumulative voting is an OPT-OUT election; the corporation is entitled to cumulative voting UNLESS the corporation makes a specific election not to have cumulative voting in its CoF.

23
Q

What may have a negative effect on cumulative voting?

A

STAGGERED TERMS - hinders the effective use of cumulative voting because it will then require more votes to elect each director.

REMOVING DIRECTORS - If using cumulative voting, a corporation may not remove a director if the votes cast against the director’s removal would be sufficient to elect the director in a general election when cumulative voting was utilized.

24
Q

What is a proxy?

A

A process used to facilitate voting where shareholders voting in person would not be feasible or practical. Allows a shareholder to authorize someone else to vote on shareholder’s behalf.

25
Q

Can a proxy be revoked?

A

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

Example - Creditor extends corporation credit and one of the credit terms is a requirement that the lender be apportioned a proxy right for a set number of shares. In this instance the proxy would be irrevocable because creditor gave consideration for the proxy rights.

26
Q

What are Pooled Shareholder Voting Arrangements? What are voting trusts?

A

At times, SHs or a faction of SHs will want to vote as a group to maximize their collective voting power. This can be accomplished through voting pools or voting trusts.

VOTING POOL - A contractual agreement between a group of SHs regarding how they will collectively vote their shares. These decisions are based on the desired vote of the majority of the voting pool participants. Voting pool agreements are SPECIFICALLY ENFORCEABLE. THE POOLING AGREEMENT MUST BE DEPOSITED WITH THE CORPORATION AT ITS PRINCIPAL OFFICER OR REGISTERED OFFICE.

VOTING TRUSTS - A separate legal entity to which the SH’s stock is transferred. The trust, through its trustee, votes in a collective block. The trustee votes in accordance with the terms set forth in the trust. TRUST AGREEMENTS MUST BE FILED WITH THE CORPORATION AS WELL.

27
Q

Do SHs have a right to inspect?

A

Yes

Commensurate with share ownership is the right to inspect the corporation’s BOOKS AND RECORDS AS LONG AS THE REASON FOR INSPECTION IS PROPER.

To qualify for inspection rights, the SH MUST have been a SH for ATLEAST 6 MONTHS, OR OWN AT LEAST 5% of the outstanding shares.

28
Q

Do SHs have a right to sue?

A

Yes, share ownership also gives the SH the right to sue in his capacity as a SH. There are two types of suits that a SH may bring:

1) DIRECT SUIT - Used to address a situation in which the SH is being deprived a legal right commensurate with share ownership. The key is direct suits are suits in which the SH is addressing harm suffered by the shareholder.
2) DERIVATIVE SUIT - Brought by a SH but derived from some type of harm being exacted upon the corporation. The most common types of derivative suits are ones being brought against corporate directors for fiduciary duty breaches.

29
Q

What damages are available in a derivative suit?

A

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

30
Q

What are the procedural requirements of a derivative suit?

A

The key with derivative suits is to ensure that the statutory protocols have been met for bringing the suit in the first place.

STANDING - SH must have been a SH at the time the alleged conduct occurred.

BOARD DEMAND - SH must make a WRITTEN DEMAND on the corporation prior to filing a derivative suit to give the corp. the opportunity to address the situation first. SH must give company 90 DAYS TO DECIDE what action, if any, it will take. SH may file suit SOONER BUT must plead in complaint why waiting the 90 days would cause IRREPARABLE HARM.

IF DEMAND IS REJECTED - If suit is still filed, the complaint must contain a statement demonstrating that the board’s rejection of the suit was NOT PROPER due to the decision not being made by the requisite number of disinterested directors.

IF BOARD DISMISSES SUIT - BOARD MUST FOLLOW PROPER PROTOCOL. Must be made by a majority vote of disinterested directors at a meeting comprising a quorum of disinterested directors.

31
Q

Must a court grant a corporation’s dismissal of a derivative suit?

A

A court shall dismiss a derivative suit on motion of the corporation IF the corp. determines in good faith, after reasonable inquiry and based on factors the person or group considers appropriate under the circumstances, that continuation of the derivative proceeding is NOT in the corporation’s BEST INTERESTS.

32
Q

What is the general rule regarding SH liability?

A

SHs are generally NOT PERSONALLY LIABLE for obligations the corporation incurs. BUT THERE ARE EXCEPTIONS.

33
Q

What is “piercing the corporate veil?”

A

Common law doctrine that allows third party tort victims or third party contract claimants to pierce the corporation’s protective veil and hold offending SHs personally liable for contract or tort claims that the corporation incurs.

34
Q

How does one pierce the corporate veil?

A

DECIDED ON A CASE-BY-CASE SUBJECTIVE ANALYSIS. The following factors (not elements) are considered:

1) Under Capitalization - When forming the corporation, did the SHs infuse enough capital into the corp. to cover reasonably foreseeable obligations? (there is a $1,000 minimum required by law but that is only the minimum).
2) Disregard of Corporate Formalities - Failure to issue stock, hold board meetings, and keep separate books and records. The idea here is if you want to be treated like a corporation, you have to ACT like a corporation.
3) Commingling of Corporate Assets with Personal Assets - A corporation is supposed to be a separate “person” or separate legal entity. Personal and corporate assets should NOT be commingled.
4) Self-Dealing with the Corporation - Transactions with corporation should be “arms-length” transactions.
5) Fund Siphoning - SHs draw money out of the corporation that should go to paying pre-existing obligations.
6) Use of Corporate Form to Avoid Legal Obligations - ex: former employee in a non-compete agreement can’t create a corporation to hide behind and compete with former employer.
7) SHs in Impermissible Control or Domination Over the Corporation - SHs with equal ownership but one SH controls, runs, and dominates the operation sometimes to the other’s detriment.
8) Wrongful, Misleading, or Fraudulent Dealings with a Corporate Creditor - In other words, the presenceof some untoward behavior that strikes as fundamentally unfair or not right.

EXAM TIP 1 - PCV questions are never clear cut, you will need to apply the factors to the facts.

EXAM TIP 2 - Always ask what type of plaintiff you are dealing with. An argument for piercing in the instance of tort claimants should be stronger since their involvement with the corporation was not voluntary.

35
Q

If the corporate veil is pierced, which SHs are liable?

A

Generally, those shareholders that ACTUALLY PARTICIPATED in the conduct that incurred the obligation are liable. Passive investors who acted in GOOD FAITH will not be vulnerable to a veil piercing case.

LIABILITY IS JOINT AND SEVERABLE for those SHs who actively participated in the offending conduct.

36
Q

What does the Board of Directors do?

A

Generally, the board oversees HIGH LEVEL corporate activities; sets policy; hires and fires the corporation’s CEO; sets compensation levels for executive officers; etc.

37
Q

What is the number and makeup of a board of directors?

A

Can have as few as one director; the actual number must be specified either in the by laws or the CoF.

38
Q

T/F - Directors are required to be SHs or Texas Residents.

A

False. Neither.

39
Q

How are directors selected?

A

Elected at the annual or special meeting by a PLURALITY (as opposed to a majority) of votes cast. This means the top (however many) vote getters are elected.

40
Q

How are directors removed and replaced?

A

May be removed at ANY TIME WITH OR WITHOUT CAUSE UNLESS THE COF OR BY LAWS PROVIDE OTHERWISE.

When there is a vacancy, either directors or SHs may fill the vacancy. The director’s vacancy can be filled by MAJORITY VOTE OF THE REMAINING DIRECTORS REGARDLESS OF WHETHER THEY CONSTITUTE A QUORUM, OR the director’s vacancy can be filled by majority shareholder vote at the annual meeting or at a special meeting called for the specific purpose of replacing the director.

41
Q

T/F - If a director is voting, he/she must be properly identified and there must be and the director must make an appropriate record of the vote.

A

True.

42
Q

Can a board act without a meeting?

A

May act without holding a meeting by WRITTEN CONSENT. If action done by written consent, action must be UNANIMOUS unless by laws or CoF express otherwise.

43
Q

T/F - Physical presence of a director is required at a meeting.

A

False. Can do conference calls.

44
Q

What types of meetings can directors hold?

A

Regular or special.

45
Q

What are the voting requirements for board action?

A

Requires the presence of a QUORUM. Generally a majority is required unless CoF or by laws express a different quorum requirement.

REMEMBER - QUORUM REQUIREMENTS CAN NEVER BE LESS THAN 1/3 OF THE MEMBERS.

46
Q

Can a director vote by proxy?

A

NO, NOT ALLOWED IN TEXAS.

47
Q

What must a director do to avoid liability if he or she dissents to a board action?

A

Directors can incur liability for their board decisions. To avoid potential liability, the director(s) must have their dissent memorialized. When a director is not in agreement with a particular board action, that disagreement MUST BE PROPERLY RECORDED FOR THE RECORD.

The dissenting director must do the following:

1) Promptly object to the holding of the meeting;
2) Ensure that director’s dissent or objection is noted in the meeting minutes; AND
3) NOT vote in favor of the action and deliver written notice of dissent to the presiding officer BEFORE meeting adjourns OR to the corporation immediately after the meeting adjourns.

48
Q

How can a board use committees?

A

Board may take action through one or more committees. Board authority may be exercised through committees, EXCEPT for those actions that by law require that the action be taken by the board as a whole.

The board as a whole may be held liable for committee level board decisions.

49
Q

What duty does the board owe? What is the Business Judgment Rule?

A

Each director must carry out their duties in GOOD FAITH and in a manner that an ORDINARILY PRUDENT PERSON would in similar circumstances.

Board actions are viewed through a deferential lens known as the BUSINESS JUDGMENT RULE - which presumes that board actions are carried out in good faith, after reasonable investigation, and for acceptable reasons. There is a high bar to clear to overcome the Business Judgment Rule.

THE BOARD OWES TWO DUTIES:

1) Duty of Care; AND
2) Duty of Loyalty.

50
Q

What is the corporation’s duty of care?

A

There are two types of duty of care violations:

1) OVERSIGHT FAILURE - Board has a duty to oversee/monitor those aspects of the corporation that would be expected of an ordinarily prudent person under similar circumstances. To show liability, the plaintiff must prove: (a) failure to carry out oversight/monitoring duties using the requisite standard of care; AND (b) failure was the PROXIMATE CAUSE of the harm suffered.
2) DECISION MAKING FAILURE - Occurs when the board as a whole considers a corporate action and the decision turns out to be a bad one. Board will be held liable if the decision making process did not meet the requisite fiduciary duty standard of care. Directors will not be held liable if they acted in GOOD FAITH, after REASONABLE INVESTIGATION and there was a RATIONAL BASIS FOR THE DECISION.

NOTE: Board can rely on third parties such as company employees, consultants, lawyers, and executive officers as long as that reliance is warranted.

51
Q

What is the duty of loyalty that a director owes?

A

Requires that the director place the corporations financial interests ahead of their own. Courts are less deferential in duty of loyalty cases because of the conflicting interest nature of the transactions.

Four things to consider:

1) CONFLICTING INTEREST TRANSACTIONS - Any transaction between the corporation and a director (such as when a director owns another company the corporation is doing business with).
2) USURPATION OF CORPORATE OPPORTUNITY - Can’t take a business opportunity offered to the company for your own personal financial gain.
3) COMPETING WITH THE CORPORATION - General obligation NOT to engage in activities that directly compete with the corporation. Directors may be held liable to the extent their competing actions have damaged the company’s profits.
4) SALARIES - Directors get no salary but are paid for their service as directors. Officer salary amounts will be upheld UNLESS they are so large as to constitute a waste of corporate assets.

52
Q

What must be done if there is a conflict of interest for a director?

A

Director MUST disclose the nature and existence of the conflict to the other board members (but director is not required to disclose confidential information).

Board members that are not conflicted must consider and decide through MAJORITY vote whether to go ahead with the transaction.

If these protocols are followed, the transaction is SAFE-HARBORED from challenge.

53
Q

What is the Fairness Test?

A

Invoked when corporation fails to follow statutory protocols and the transaction creating a conflict of interest is challenged. If the transaction is challenged, the court will make an assessment as to whether the transaction was FAIR to the corporation.

54
Q

What must a director do if he wants to take a business opportunity for himself?

A

MUST:

1) Disclose the opportunity to the corporation directors; AND
2) Give the Board the opportunity to accept or reject the opportunity.

55
Q

Explain indemnification when directors are liable for board action?

A

1) MANDATORY INDEMNIFICATION - Corporation is required to indemnify director in a completely successful defense (successful on all issues) for all costs.
2) PROHIBITED INDEMNIFICATION - Corporation is prohibited from indemnifying against liability when the director received an IMPROPER FINANCIAL BENEFIT.
3) PERMISSIVE INDEMNIFICATION - Corporation MAY (but is not required to) indemnify director when director acted in GOOD FAITH with a REASONABLE BELIEF that conduct was in the corporation’s BEST INTERESTS.

56
Q

Who are executive officers?

A

Oversee the corporation’s DAY-TO-DAY operations. These are your CEO, CFO, and Treasurer (can be many others).

Texas Law requires corporations to have at least a SECRETARY AND PRESIDENT. Positions are filled by board elections as set forth in the by laws.

57
Q

What authority to executive officers have?

A

Executive Officers are AGENTS for the corporation. They are the ones who incur liability on the corporation’s behalf.

1) ACTUAL AUTHORITY - Defined by corporate by laws or set by board of directors (this is EXPRESS AUTHORITY). Additionally, officers have IMPLIED AUTHORITY to perform those tasks that are necessary to carry out the officers’ expressly assigned tasks.
2) APPARENT AUTHORITY - Derived from manifestations between the third party and the corporation. If the corporation’s manifestations to the third party were such that third party would reasonably believe that officer had the authority to act, apparent authority will be present.

58
Q

What duties does an executive officer owe?

A

Generally the same duties of care and loyalty as directors.

ADDITIONALLY, their specific duties will be outlined in the by laws or set out by the board of directors. The officer can adhere to his duty of care while relying on others so long as that reliance is warranted.

NOTE: Officers of publicly held companies are governed by provisions of the Sarbanes Oxley Act of 2002 (SOX). Under SOX, the CEO and CFO must certify as to the accuracy of their corporation’s financial reports.

59
Q

Are executive officers personally liable to third parties?

A

Agents are generally not liable to third parties merely for performing corporate duties. Liability will attach to the agent personally when the agent is engaging in some act BEYOND THE APPARENT AUTHORITY.

Example: A hired chef makes a call to purchase advertising. Not within his scope of authority. He will be liable.

60
Q

Are executive officers entitled to indemnification?

A

Yes. They are subject to the same insurance rules as directors.

61
Q

How are executive officers removed?

A

Officers serve at the board’s pleasure and may be removed at ANY TIME WITH OR WITHOUT CAUSE.

OFFICERS UNDER CONTRACT - Generally does not prevent removal, but may provide remedies to the officer as set forth in the contract.

62
Q

T/F - At the very least, every corporation is required to have one class of stock that is entitled to vote on matters of corporate governance and is entitled to the net assets upon dissolution. Typically, preferred stock has these characteristics.

A

False

Common Stock

63
Q

T/F - Stock represents ownership in a corporation.

A

True

64
Q

How is stock authorized and issued?

A

Board authorizes the issuance of stock.

MUST HAVE VALID CONSIDERATION: Anything that confers a benefit to the corporation whether tangible or intangible (cash, promissory notes, services performed or to be performed, property, shares of stock in other corporations, goods of any kind, etc.)

65
Q

How is stock valuated? What is “watered stock?”

A

The Board sets the price for which shares will be issued.

PAR VALUE = The MINIMUM price for which a corporation can issue its shares. NOTE: Corporation not required to designate a par value. But if it does, shares CANNOT be issued for less than the par value.

WATERED STOCK - Occurs when corporation receives consideration that is worth LESS THAN par value. SHAREHOLDER IS LIABLE FOR THE DIFFERENCE.

66
Q

What is “no par stock?” What is “treasury stock?”

A

NO PAR STOCK is stock that does not have a par value. Therefore, no minimum issuance price is listed for which the stock can be issued.

TREASURY STOCK is previously issued stock that the corporation REPURCHASES and is held in the corporation’s treasury.

67
Q

What is the effect of a SH’s payment of consideration for stock?

A

Discharges SH liability. SH liability is now limited to share ownership. BUT SH is subject to piercing the corporate veil actions discussed earlier.

68
Q

What are “stock subscriptions?”

A

A person’s promise to purchase shares once corporation comes into existence. The stock subscription is merely an OFFER subject to revocation at any time prior to acceptance.

NOTE: The promise becomes an enforceable contract once corporation is formed and is accepted by the corporation.

69
Q

What are a SH’s preemptive rights?

A

Gives current SHs the right to purchase any additional shares the corporation issues. SH may waive this right if he chooses.

PURPOSE: Allow existing SHs the right to maintain their percentage of ownership in the corporation.

70
Q

Under what circumstances to preemptive rights not apply?

A

1) When stock was issued for services or property.
2) When stock is sold or granted as a form of compensation (to directors, officers, employees, etc.)
3) When shares are issued within 6 MONTHS of formation.
4) When preferred shares or non-voting shares are issued.
5) When shares with preemptive rights are not acquired within the first year of their offering.

IN THESE INSTANCES, CURRENT SHAREHOLDERS DO NOT HAVE PREEMPTIVE RIGHTS UNLESS THE CERTIFICATE OF FORMATION STATES OTHERWISE.

71
Q

What are distributions? Who authorizes them?

A

These are transfers of cash to current SHs, usually in the form of dividends.

The Board authorizes distributions at their own discretion as to when and what amount.

72
Q

When are distributions prohibited?

A

When corporation is INSOLVENT; OR paying the distribution would cause the corporation to BECOME INSOLVENT.

73
Q

What is the liability of directors for unlawful distributions?

A

Directors involved in approving an unlawful distribution are liable for the PORTION THAT EXCEEDS THE LAWFUL AMOUNT.

ALL CULPABLE DIRECTORS HAVE JOINT AND SEVERAL LIABILITY.

Paying directors have a right of contribution from other culpable directors. The director is NOT LIABLE FOR an unlawful distribution IF the director exercised ORDINARY CARE and made a GOOD FAITH RELIANCE ON FINANCIAL REPORTS AND RECORDS used to determine the company’s NET WORTH.

74
Q

What is a redemption right?

A

Gives SH the right to have the corporation BUY BACK (redeem) his shares. The triggering event for the distribution will be specified in the CoF.

75
Q

Are debt distributions allowed?

A

Yes, they are subject to the same insolvency restrictions that pertain to dividend payments.

76
Q

What are stock dividends?

A

Corporation may issue additional shares of stock to existing shareholders in the form of a STOCK DIVIDEND OR STOCK SPLIT. No additional cash outlay here, therefore NOT CONSIDERED A DISTRIBUTION.

77
Q

Can SHs sell their shares?

A

Yes, generally share ownership in a corporation is freely exchanged. Any willing seller can consummate the sale of his shares with any willing buyer. BUT there are situations when free share exchanges may not be the case.

CLOSELY-HELD CORPORATIONS because of their intimate nature, MAY INVOKE RESTRICTIONS ON THE SALES OF THEIR SHARES such as:

1) Buy-sell agreements - agreement when SH agrees to offer his shares either to the corp., other SHs, or a specified third party;
2) Right of First Refusal - Current SHs have the right to decide if they want to buy shares at the same price as negotiated with a third party;
3) SH or Corporate Consent Requirement - Valid as long is the requirement is there to prevent violating state or federal law;
4) Third Party Approval Required - A sale that requires third-party approval prior to consummation;
5) Restrictions as to whom shares can be Transferred - Okay as long as those restrictions are REASONABLE (such as prohibition of selling to competitors of the corporation);
6) Restrictions Requiring Maintenance of Close Corporation or Subchapter S Status - Corporation can stipulate that the buying SHs maintain the corporation’s status such as its status as a closely held corporation or as a Subchapter S corporation.

78
Q

How does a merger work (big picture)?

A

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

Company B poofs.

79
Q

What is the procedure for merger?

A

1) Board of Directors must ADOPT THE RESOLUTION;
2) SH APPROVAL - Written notice of meeting which must include a summary of the proposed play must be given at least 21 DAYS PRIOR to the meeting. REQUIRED 2/3 VOTE OF SHARES ENTITLED TO VOTE (unless otherwise specified in the CoF);
3) CERTIFICATE OF MERGER - is filed with the state.

80
Q

What are other “merger like” transactions?

A

1) Conversions - Converting from an LLC to a Corporation is one example. PROCEDURE: Board Resolution + 2/3 vote of shares entitled to vote.
2) Interest Exchanges - One corporation purchases all the outstanding shares of another corporation resulting in a wholly owned subsidiary. PROCEDURE: Board resolution + 2/3 vote of shares entitled to vote.
3) Asset Sales - Corporation A purchases substantially all of the assets of Corporation B. PROCEDURE: Board Resolution + 2/3 vote of shares entitled to vote from the SELLING COMPANY ONLY.

81
Q

What are capital reductions?

A

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

PROCEDURE FOR PAR VALUE SHARES: Board Resolution Only.

PROCEDURE FOR NO PAR VALUE SHARES: Board Resolution + MAJORITY SH vote of shares entitled to vote.

NOTE: Corporations may not engage in capital reductions that render the corporation unable to meet its payment obligations to preferred SHs in the event the corporation is dissolved.

82
Q

What is a dissenting SH’s right of appraisal? What are De Facto Mergers?

A

Dissenter’s rights give the dissenting SH the right to have the corporation purchase the SH’s shares at FAIR VALUE as determined by the COMPANY and assessing the value of the SH’s shares. Generally granted to the selling company, NOT the company that is acquiring.

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

EXCEPTIONS: SH may not invoke their dissenter’s rights IF:

1) MARKET-OUT EXCEPTION - SHs do not get appraisal rights when the shares are listed on a national securities exchange, or held by more than 2,000 SHs. Rationale here is that the rights are not necessary since there is already a forum where the SH can sell his shares.
2) 90% OWNERSHIP EXCEPTION - No appraisal rights where surviving corporation already owns 90% of the target corporation.

DE FACTO MERGERS - Texas courts will grant appraisal rights if the transaction’s substance is that of a merger or a consolidation.

83
Q

What are the procedural requirements to asset appraisal rights of a dissenting SH?

A

1) SH must be notified of appraisal rights by the corporation considering a fundamental corporate change that gives rise to the appraisal rights;
2) No favorable vote - Dissenting SH may not vote in favor of the proposed action;
3) Demand for payment - After the merger is approved, the SH must make a written demand to the corporation for payment. THE DEMAND MUST:
a) Be addressed to the corporation’s president and secretary;
b) order that payment be made for the share’s fair value;
c) Include a return address for instructions outlining the dissenting and appraisal procedures;
d) State the number of shares and the stock class that the SH owns along with a fair value estimate of those shares;
e) Be delivered to the corporation at its principal executive offices NO LATER THAN 20 DAYS AFTER RECEIVING NOTICE that the action was approved; AND
f) SH must relinquish his share certificates WITHIN 20 DAYS AFTER MAKING THE DEMAND (no longer a SH after this).
4) PRICE FOR SHARES - The corporation and the SH must come to an agreement on the share’s FMV.

84
Q

How does a corporation and a dissenting SH come to an agreement on the value of the SH’s shares?

A

1) Corporation can agree to the SH’s fair value assessment and send payment. The corporation has 90 DAYS FROM THE APPROVAL DATE to make payment;
2) Corporation may counter with its own fair value assessment. The two sides will work to come to an agreement. The corporation then has 120 DAYS AFTER AGREEMENT to make payment;
3) If the corporation and SH can’t agree, the price may be determined by court action;

85
Q

Explain the termination of corporation status.

A

TWO OPTIONS:

1) Voluntary Termination - Either (1) written consent from ALL SH’s; OR (2) Board adopts resolution and resolution is passed by 2/3 of all outstanding shares entitled to vote.
2) Involuntary Termination - Can be on Creditor’s Grounds; SH’s Grounds; or by State Agency.

86
Q

When is a corporation’s status terminated involuntarily on Creditor’s Grounds?

A

Creditor may seek involuntary dissolution when corporation is insolvent - IMMEDIATE IF CREDITOR ESTABLISHES IRREPARABLE DAMAGES WILL ENSUE TO THE CORPORATION’S UNSECURED CREDITORS.

87
Q

When is a corporation’s status terminated involuntarily on Shareholder’s Grounds (SHs are not getting along)?

A

Grounds when:

1) Directors are deadlocked, the deadlock can’t be resolved, and the corporation is suffering or is threatened with irreparable injury from the deadlock;
2) There is a deadlock in SH voting power, which hasn’t been broken in TWO CONSECUTIVE ANNUAL MEETINGS;
3) The directors’ actions (or those in control) are illegal, oppressive, or fraudulent;
4) The corporate assets are being wasted or misapplied; OR
5) The SHs are deadlocked in voting powers and have failed the two previous years to elect successors to directors whose terms have EXPIRED.

88
Q

When is a corporation’s status terminated involuntarily on State Agency Grounds?

A

MANDATORY - Texas Attorney General must dissolve a corporation IF:

1) SOS has sent notice to the corporation instituting termination proceedings and the corporation has NOT cured those problems WITHIN 31 DAYS of receiving notice; OR
2) The Attorney General has independently determined that cause exists for termination.

DISCRETIONARY - Texas Attorney General MAY institute a dissolution proceeding IF:

1) Corp. failed to comply with any condition precedent to forming corporation;
2) Corp. has procured its CoF by fraud;
3) Corp is transacting business beyond the scope of its CoF;
4) Corp has fraudulently misrepresented any matter in any required report, affidavit, application, etc.; OR
5) If public interest requires winding up the corporation because the corp. or its high ranking officer has been convicted of a felony, the felonious actions are persistent, and terminating is necessary to prevent future felonious actions.

89
Q

What is a Closely Held Corporation? What requirements are necessary for formation? What is its management structure?

A

Characterized by:

1) Small number of SHs;
2) Shares are NOT publicly traded;
3) Frequent overlap for officers and directors (same people);
4) A relaxed or modified corporate governance structure;
5) Restrictions on the sale or transfer of shares; and
6) Requires a special notation in the COF.

REQUIREMENTS:

1) CoF must EXPRESSLY STATE “This corporation is a close corporation.”
2) No minimum or maximum share requirements for closely held corporations.

MANAGEMENT - Liberal structure - Board of directors OR some modified management structure as specified in the CoF or by a properly adopted SH’s agreement.

90
Q

How does a shareholder agreement in a closely held corporation work?

A

This is a customized management structure. The agreement is entered into by ALL the corporation’s SHs when a modified or customized corporate governance structure is adopted.

Example: (1) Confer all management power to eh SH and eliminate the BOD; (2) How profits and losses will be allocated; (3) How and on what matters SHs will vote; (4) Pre-specified voting power; etc.

BINDING AND ENFORCEABLE against all SHs regardless of the manner in which the shares were acquired; whether the SH was aware of the agreement; and even if the shares were acquired through transfer or assignment.

91
Q

What is a “foreign corporation?”

A

A corporation incorporated in another state (NOT in another country).

SPECIAL REQUIREMENTS IF DOING BUSINESS IN TEXAS:

1) Must file an “Application of Registration” with the Texas Secretary of State;
2) IF FAILURE TO DO SO, they are precluded from filing suit as a result of any business transacted in Texas;
3) HOWEVER, they are still SUBJECT TO being sued for liabilities incurred in Texas.

Bottom line . . . file the damn application.

92
Q

What is a Professional Corporation?

A

A corp. with a stated purpose that legally limits its function to rendering professional services such as medical services provided by a doctor or legal services provided by a lawyer.

SHs must be a member of the profession.

SHs in a professional corporation are NOT shielded from liability arising out of malpractice for instance.

93
Q

What is an S Corporation?

A

A special election that a corporation makes under Subchapter S of the IRC. Puts a regular corp. into a special category that confers different tax treatment than a regular C corporation.

S Corporations are afforded a “PASS-THROUGH” tax treatment of its income. This means that the Corporation is NOT TAXED AS A SEPARATE STANDALONE ENTITY (the members are the ones who are taxed individually).

TO QUALIFY, CORPORATION MUST:

1) Have only ONE class of stock;
2) Have no more than 100 SHs; AND
3) All SHs must be United States residents.

94
Q

What is the Texas Franchise Tax?

A

Based on taxpayer’s margin - calculated by subtracting the GREATEST of the three proposed deductions below from TOTAL REVENUE:

1) Cost of Goods Sold;
2) Wages and Benefits; OR
3) 30% of Revenue

THE TAX IS 1% OF THE TAXABLE MARGIN.

THUS, you figure out your total revenue, take the greatest number of the three deductions above (so that you get the lowest possible tax margin so you pay the least tax) and multiply that number by 1%.

BOOM, you have your Texas State Franchise Tax amount. PAY UP.

95
Q

Who does the Texas Franchise Tax apply to?

A

Entities chartered, organized, or doing business in Texas are subject to this tax. Including:

1) S-Corp.
2) C-Corp.
3) Partnerships
4) LLPs
5) LLCs
6) Professional Associations
7) Professional Corporations
8) Business Trusts
9) Joint Ventures
10) Holding Companies

ENTITIES THAT ARE NOT SUBJECT TO THE TAX ARE:

1) Sole Proprietorships
2) General Partnerships
3) Passive entities as defined under Texas law
4) Grantor Trusts

96
Q

What is “apportionment” with regard to the Texas Franchise Tax?

A

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

97
Q

What is the “business judgment rule” again?

A

Courts will not hold a director liable for a business decision that was informed, made in good faith, and had a rational basis. This is the “business judgment rule.”