§ 5: Improper Incorporation

• Errors in incorporation procedures when a 3^rd party seeks to bring an action against a corporation that may not have complied perfectly with every incorporation law.

• Problematic for shareholders who may be personally liable.

• In addition, entity may not be able to enforce contracts.

• De Jure: substantial statutory requirements are met; cannot be attacked by state or 3^rd parties.

• De Facto: statutory requirements not met, but promoters made good faith effort to comply with corporate law;corporate status can only be attacked by state.

• By Estoppel: if it acts like a corporation, cannot avoid liability by claiming that no corporation exists.

§ 6: Disregarding the Corporate Entity

• “Piercing the Corporate Veil” occurs when a court, in the interest of justice or fairness,” holds shareholders personally liable for corporate acts.

• Court concludes that shareholders used corporation as a “shield” from illegal activity.

Piercing the Corporate Veil

• Factors a court considers:

  • 3^rd party tricked into dealing with a corporation rather than the individual.

  • Corporation is set up never to make a profit or remain insolvent or is under capitalized.

  • Statutory formalities are not followed.

• Corporation is “alter ego” of majority shareholder and personal and corporate interest are commingled such that the corporation has no separate identity.

§ 7: Corporate Financing

Bonds vs. Stocks

• Debt Ownership/equity

• Fixed ROI Dividends (variable)

• No votes Vote for Management

• Optional Required

• Priority over stock Paid last

• Stocks: Common vs. Preferred

Bonds

Type	Definition
Debentures	No specific corporate assets are pledged as collateral. Backed by corporation’s general credit rating.
Mortgages	Pledge specific real estate. If corporation defaults, bondholders can foreclose.
Convertible	Conditions trigger bonds to convert to corporate stock.
Callable	Can be “called in” by principal and repaid according to bond conditions.

Stocks

• Common Stock: represents true ownership of a corporation. Provides pro-rata (proportional) ownership interest reflected in control, earnings and assets.

• Preferred Stock: has preferences over common stock.

  • Cumulative Preferred.

  • Participating Preferred.

  • Convertible Preferred.

  • Redeemable or Callable Preferred.

Directors, Officers and Shareholders.

§ 1: The Role of Directors and Officers

• Every corporation is governed by a board of directors that are elected by the shareholders.

• Individual directors are not agents of corporation, only the board itself can act as a “super-agent” and bind the corporation.

• A director can also be a shareholder, especially in closely-held corporations.

Election of Directors

• Subject to statutory limitations, the number of directors is set forth in the articles of incorporation:

  • Directors appointed at the first organizational meeting.

  • In closely held companies, directors are generally the incorporators and/or the shareholders.

  • Term of office is generally for one year.

  • Director can be removed for cause (for failing to perform a required duty).

Directors’ Meetings

• Directors hold meetings pursuant to bylaws with recorded minutes.

• Special meetings may be called with sufficient notice.

• Meetings require QUORUM (minimum number of directors to conduct official corporate business, usually majority).

• Each director generally has one vote.

Rights of Directors

• Directors have the right to:

  • Participate in corporate decisions and inspect corporate books and records.

  • Compensation (usually a nominal sum) and indemnification. If a director is sued for acts as director, the corporation should guarantee reimbursement (indemnification) or purchase liability insurance to protect the board from personal liability.

Directors’ Management Responsibilities

• Directors have general responsibility for all management decisions:

  • All major corporate policies

  • Appointment and removal of all corporate officers and their compensation.

  • Financial decisions, including dividends and retained earnings.

Corporate Officers and Executives

• Officers serve at the pleasure of the Board of Directors but have fiduciary duties to company as well.

• Their employment relationships are generally governed by contract law and employment law.

• Officers may be terminated for cause.

• Officers and executives are hired by the board of directors.

• Act as agents for the corporation.

• Most states same person can be both officer and director.

• Officers are employees of the corporation and have fiduciary and loyalty duties.