BUSINESS ASSOCIATIONS OUTLINE

Chapter 1 Agency
Section 1: Who is an Agent?
Agency Law Why do we have agency law? - Helps us apportion liability - Allows people to act for you Downside of agency? - Liability 3 major agency issue: 1. Existence 2. Scope of agents authority 3. Duties of agent to principal Who is an agent? Legal standard is consent, control, on behalf Restatement of Agency 1: - The manifestation of consent by P to A that A shall act -- On Ps behalf -- Subject to Ps control - As consent to so act Types of Agents Authority Restatement 3d 2.02(1) Express - Authority that the principal outwardly gives to the agent 8 - Implied Apparent Authority Restatement 3d 2.03 - Agent doesnt have actual authority, but something the principal does makes the third party believe Gorton v. Doty Rule of Law: An agency relationship is created once a party agrees to act on behalf of a second party subject to the second partys control. A. Gay Jenson Farms Co. v. Cargill, Inc Rule of Law: A fiduciary agency relationship merely requires a manifestation of consent by one person to another that the other shall act on his behalf and subject to his control, and consent by the other so to act, regardless of whether a contract was formed or the intent of the parties was to be bound by the legal obligations of that relationship. A creditor who assumes control of his debtors business may become liable as principal for the acts of the debtor in connection with the business.

Section 2: Liability of Principal to Third Parties in Contract

A. The Agents Authority Mill Street Church of Christ v. Hogan Rule of Law: Rule: A person has the authority to do certain acts that will bind the principal based upon the past practices and the way that the business has operated. Implied Authority Actual authority circumstantially proven which the principal actually intended the agent to possess and include such powers as are practically necessary to carry out the duties actually delegated. The test is whether the agent reasonably believed, because of conduct of the principal, that the principal wishes him to act in a certain way or to have certain authority (clothed with indicia of authority). Apparent authority to apply what were looking for did the 3rd party reasonably believe the agent had authority based on what the principal did? Dweck v. Nasser Rule of Law: Have authority when told to act in his name. Three-Seventy Leasing Corporation v. Ampex Corporation Rule of Law: For apparent agency, must look at the principals manifestation to the third party. It is reasonable to believe a salesman has apparent/implied authority to act for a company. Types of authority An agent has apparent authority sufficient to bind the principal when the principal acts in such a manner as would lead a reasonably prudent person to suppose that the agent had the authority he purports to exercise. Absent knowledge on the part of 3rd parties to the contrary, an agent has the apparent authority to do those things which are usual and proper to the conduct of the business which he is employed to conduct. Implied authority in 370 Leasing - A kind of authority arising solely from the designation by the principal of a kind of agent who ordinarily possesses certain powers - Implied actual authority: act of putting agent in such a position that leads agent to reasonable believe he has authority - Implied apparent authority: act of putting agent in such a position that leads third party to reasonable believe agent has authority What is an undisclosed principal? Situation acting for principal but the agency relationship is not known (third party doesnt know theyre dealing with an agent)

 Restatement 3d Agency 104(2)(b): A principal is undisclosed if the third party has no notice that the agent is acting for a principal 104(2)(c): A principal is unidentified if the third party has notice that the agent is acting for a principal but does not have notice of the principals identity. When would such an arrangement be useful? - When wanted to keep price down, plans to buy private, etc. Watteau v. Fenwick Rule of Law: The situation is analogous to a partnership wherein one partner is silent but is still liable for actions of the partnership as a whole. The decision could not be based on apparent authority because the principal is disclosed under that doctrine. The principal is held liable for actions by an agent that are expressly forbidden, but the case limits a principal to actions of an agent that are reasonable under the circumstances. An undisclosed principal can be held liable for the actions of an agent who is acting with an authority that is reasonable for a person in the agents position regardless of whether the agent has the actual authority to do so. Case with Humble sign He has the inherent agency power - He has the power of being the agent even though he doesnt have apparent or actual authority. - Based on the agency relationship you still have that power In undisclosed principal cases, what is the scope of the agents authority? Watteau: The principal is liable for all the actswhich are within the authority usually confided to an agent of that character - Restatement 195 agent enters into transactions usual in such business and on the principals account. The approach of the Restatement 3rd Agency Creates a new section with no precise counterpart in the Restatement 2nd Agency Restatement 3rd Agency 2.06 makes undisclosed principals liable for the actions of their agents acting without actual authority IF a third party detrimentally relies on the agent and the principal, having notice of the agents conduct, does not take reasonable steps to notify the third party of the misplaced reliance - If applied this approach to Watteau, it would be liable B. Ratification Ratification Agent acts without authority (of any kind) Principal will only be bound if Principal ratifies the contract Requires - a valid affirmation by Principal

- to which the law will give effect Can be expressed or implied Restatement 3d Agency 4.01(2) Botticello v. Stefanovicz Rule of Law: Ratification of an agency relationship by the principal requires full knowledge of the material circumstances, regardless of the principal receiving the proceeds or benefits of the agents work. Marital relationship is not enough to ratify C. Estoppel Elements of Agency by Estoppel: 1. P creates, through intentional or negligence actions, an appearance of authority in the purported agent 2. T reasonably relies on such appearance 3. T changes position in reliance upon appearance of authority - Restatement 2nd Agency Hoddeson v. Koos Bros. Rule of Law: Absent proof of an agency relationship, a party may still have a duty of care for the other party to ensure that the other party is not disadvantaged in dealing with the party. D. Agents Liability on the Contract Agents Liability on the Contract Disclosed Principal principal whose existence and identity are known Partially Disclosed Principal principal whose existence is known but whose identity is not known Undisclosed Principal principal whose existence and identity are not known Atlantic Salmon A/S v. Curran Rule of Law: An agent can be held personally liable for actions on behalf of the principal if the agent does not disclose the principal. When agent enters into a contract on behalf of disclosed principal, agent not liable If you dont fully disclose principal, agent and principal becomes personally liable for that contract

Section 3: Liability of Principal to Third Parties in Tort

A. Servant Versus Independent Contractor Restatement 2d Agency 2 Independent contractor types

 Independent contractor (agent type) - Subject to limited control by P with respect to chosen result - A has power to act on Ps behalf Nonagent independent contractor - Perhaps less control on Ps part, but - A has no power to act on Ps behalf Humble Oil & Refining Co v. Martin Rule of Law: Determining whether a master-servant relationship exists, rather than an independent contractor relationship, is a question of fact that will be answered in the affirmative when the master exerts a considerable amount of control over the responsibilities of the servant. Hoover v. Sun Oil Company Rule of Law: A master-servant relationship does not exist when an independent contractor controls the day-to-day operations of the entity that is responsible for damages suffered by a plaintiff. Different than Humble because of the level of control Murphy v. Holiday Inns, Inc. Rule of Law: The court noted that franchise agreements can still establish a master-servant relationship, but the agreement here did not meet the burden. However, the court seems to raise the bar for proving an agency relationship when the master-principal is obligated to exert further control to protect a trademark. When establishing an agency relationship through a contract, the nature and extent of the control agreed upon will determine whether the agency exists. Vandemark v. McDonalds Corp. Rule of Law: Control must be control over the alleged instrumentality that cause the harm B. Tort Liability and Apparent Agency Restatement 2d Agency 267 justifiably to rely Miller v. McDonalds Corp. Rule of Law: A franchise agreement that goes beyond the stage of setting standards, and allocates to the franchisor the right to exercise control over the daily operations of the franchise, an agency relationship exists. Sequential analysis of tort liability Agency relationship between P and A? Is A Ps servant or independent contractor? - If a servant. -- A master is subject to liability for the torts of his servants committed while acting in the scope of their employment. Restatement 2d

Is apparent agency the same as apparent authority? Apparent Agency is the actual relationship but the Apparent Authority is whether the authority is being applied to exert that authority Biggest distinction is reasonable reliance in Apparent Agency C. Scope of Employment Ira S. Bushey & Sons, Inc. v. United States Rule of Law: An employer will be held liable under respondeat superior if the actions of the employee arise out of the course of his employment. Manning v. Grimsley Rule of Law: An employer is liable for damages resulting from an assault by an employee when the assault was in response to a plaintiffs interference of the employees duties. To be foreseeable, the torts must be a direct outgrowth of the employees instructions or job assignment. It is not enough that an employees job provides an opportunity to commit an intentional tort. D. Statutory Claims Arguello v. Conoco, Inc. Rule of Law: Once a master-servant relationship is established, a master is subject to liability for the torts of the servant when the servant is acting within the scope of their employment E. Liability for Torts of Independent Contractors Majestic Realty Associates, Inc. v. Toti Contracting Co. Rule of Law: Principal is not liable for torts committed by an independent contractor or employees thereof Exceptions Principal retains control over the aspect of the work in which the tort occurs Principal engages an incompetent contractor Activity contracted for is a nuisance per se or inherently dangerous

Section 4: Fiduciary Obligations of Agents

A. Duties During Agency Transaction with 3rd party situation Agent uses their position to make a personal profit from someone with no relationship to

the principal Reading v. Regem Rule of Law: An agent has a duty to act solely for the master, and any profit earned while violating this duty belongs to the master. (Army guy trying to collect his money) B. Duties During and After Termination of Agency: Grabbing and Leaving Town and Country House & Home Service v. Newberry Rule of Law: An employer can owe a fiduciary duty to their employer for the employers trade secrets after their service has been terminated. Approach to agency question Is it an agent? Do we have an agency relationship? - Look for consent, control, acting on behalf or benefit or a person Agent and a principal? - Fiduciary duty issues - Duties during and after relationship Principal/Agent and third party? - Is it a tort? -- Agent liable for torts ALWAYS -- Principal is liable for tort agent commits: --- Is this an employee or independent contractor? ---- Independent contractor is not generally liable, except... amount of control maintained, hire incompetent or inherently dangerous ----- Employee if its in scope ----- If yes, principal liable ----- If no, principal not liable - Is it a contract? -- Agents liability and principals liability --- Liable if principal is undisclosed or partially disclosed --- Principals side is agents authority --- What kind of authority? ---actual express, actual implied, apparent? ----If yes, principal is liable ---- If no, principal is liable ---- Ratification? Estoppel?

Chapter 2 Partnerships

Section 1: What is a Partnership? Who are the Partners?

Partnerships UPA (1914) Sec. 6(1) A partnership is an association for two or more persons to carry on as o-owners of a business for a profit` You dont see a lot of them Agreement is necessary to form a partnership Downside of partnership Liability Alternatives to partnerships LLC, LLP Why do we still have them? They are easy to form What is a Partnership? UPA (1914) Sec. 6(1) A partnership is an association for two or more persons to carry on as o-owners of a business for a profit Fenwich v. Unemployment Compensation Commission Rule of Law: The sharing of profits does not alone create a partnership, despite the parties intentions. (salon case with profits) The parties referred to themselves in the agreement as partners, ruling that a partnership is determined by how the relationship works day-to-day rather than the parties intentions. Factors for addressing the partner vs. employee issue: - Intention of the parties - Agreement to share in the profits - Obligation to share in losses - Ownership and control of partnership capital - Power in administration of management of the business - Language of agreement - Conduct toward third parties - Rights of parties on dissolution B. Partners Compared with Lenders Martin v. Peyton (broker case) Begins idea that rule of partnership law makes each partner potentially liable for all of the debts of the partnership Rule of Law: An agreement that offers a degree of control by a first party to protect first partys assets should not be considered a partnership if factors as a whole indicate that the other party still maintains day-to-day control of the business. UPA 40 important because owing creditors that arent partners comes first UPA 15 all partners are liable jointly and severally for everything chargeable to the partnership under sections 13 and 14

C. Partnership Versus Contract Southex Exhibitions, Inc. v. Rhode Island Builders (show homes case) Rule of Law: The determination of whether a partnership exists requires an analysis of a extensive set of factors that indicate the extent of the relationship in question. Court said were not saying we wouldnt call this a partnership. Were saying the lower court decided that and there was no error there. Factors the court considered: (analysis Qs 1-4) - Who is entitled to profits? - Who bore risk of loss? -- SEM bore most of risk of loss -- Suggests not a partnership - Who had control? -- SEM controls a lot of it, on the other hand its not uncommon for partners to divvy up responsibilities - What was the duration? -- 5 years, renewable if they wanted to. Either way doesnt push towards partnership or not. D. Partnership by Estoppel Young v. Jones (Unqualified audit letter for investment entity, confusion whether they relied on US company or only foreign) Rule of Law: Partnership by estoppel creates a liability to third parties who rely upon representations that a partnership exists.

Section 2: The Fiduciary Obligations of Partners

A. Introduction Meinhard v. Salmon Rule of Law: Members of a partnership owed a duty of loyalty to each other and must so disclose opportunities that arise in order for both to have the opportunity to take advantage of it. Sandvick v. LaCrosse Rule of Law: Partners Rights in Specific Partnership Property UPA (1914) 25(1) A partner is co-owner with his partners of specific partnership property holding as a tenant in partnership Partners Interest in the Partnership UPA (1914) 26 A partners interest in the partnership is his share of the profits and surplus, and the same is personal property. Can it be assigned?

share

- UPA (1914) 27(1): Yes, but no right in decision-making or management or partnership books. Doesnt become a partner, just entitles him to of profits - RUPA 502, 503(a) and 503(b)

Partners Capital Accounts A running balance reflecting each partners ownership equity - UPA (1914) silent - RUPA 401(a) Allocation of profits increases capital account Allocation of losses decreases capital account Taking a draw decreases capital account Rule for Distribution UPA (1914) 40 - Those owing to creditors other than partners - Those owing to partners other than for capital and profits - Those owing to partners in respect of capital - Those owing to partners in respect of profits Partnership Profits What if the agreement were silent on how profits are to be divided? - Look to UPA (1914) 18 - Split between them equally What if one partner contributed 60% of the initial capital? - Wanted to make a difference they shouldve agreed to that - If not negotiated, split equally What if one partner does more than the other? - UPA (1914) 18(f) share of profits is compensation so more work doesnt exactly equal more money C. Grabbing and Leaving Meehan v. Shaughnessy Rule of Law: A partner has the obligation to render a true and full account of business affecting the partnership.

Section 3: Partnership Property

Putnam v. Shoaf (dishonest bookkeeper & money collected) Rule of Law: A conveyance of partnership property by one partner held in the name of the partnership is made in the name of the partnership and not as a conveyance of the individual interests of the partners. Cannot collect money that is acquired after transfer of partnership.

Section 5: The Rights of Partners in Management

Rights of a Partner under UPA UPA (1914) 24 RUPA 401(f) and (j) National Biscuit Company v. Stroud (bread delivery case) Rule of Law: Each partner has an equal right to the management of the business and any business performed under the scope of the partnership can only be contravened by a majority of the partners Summers v. Dooley (garbage collector case) Rule of Law: A partner will not be permitted to recover expenses that benefit the partner individually rather than benefiting the partnership. Can we reconcile National Biscuit with Summers v. Dooley? National Biscuit Any difference arising as to ordinary matters connected with the partnership business may be decided by a majority of the partners Contract binding because Stroud was not, and count not be, a majority of the partners Summers v. Dooley business differences must be decided by a majority of the partners provided no other agreement between the partners speaks to the issues Contract not binding because A majority of the partners did not use the service Reconciliation Cases illustrate a clash of two principles: 1. All partners are agents of the partnership with power to bind the partnership 2. All partners have equal rights to participate in the management of the partnership As between the partners and some third party, the first principle (agency) controls (National Biscuit) As between the partners, the second principle (equal rights in management) (Summers) Day v. Sidley & Austin (law firm case) Rule of Law: The fiduciary duty in a partnership ensures that a partner does not profit for themselves and the expense of the partnership. Illustrates extent to which courts allow partnership agreement to derogate from statute

Section 6: Partnership Dissolution

After dissolution, the partnership must be wound up, absent agreement among the partners to carry on the business Authority of partners to act on behalf of partnership terminated except in connection with winding up of partnership business. An agreement to continue the partnership creates a new partnership Creditors of former partnership automatically become creditors of new partnership Continuation per Agreement: Effect on Departing Partner Departing partner entitled to accounting - Fair value of partnership - Interest from date of dissolution in event of unreasonable failure to pay Departing partner remains liable on all form obligations unless released by creditors A. The Right to Dissolve UPA provides that a partnership may be dissolved by the express will of any partner when no definite term or particular undertaking is specified. UPA (1914) 31 Causes of Dissolution UPA (1914) 32 Dissolution be Decree of Court Owen v. Cohen (bowling alley case) Rule of Law: A partner can move to dissolve a partnership if another partners conduct undermines or breaches the partnership agreement. UPA (1914) 31(2) Power to dissolve UPA (1914) 38(2) Rights of partners on dissolution in contravention of partnership agreement Collins v. Lewis (cafeteria case) Rule of Law: A partner does not have the right to dissolve a partnership when his conduct is the only conduct that is adversely affecting the partnership. Put a money cap in agreements Reconcile difference between Owen v. Cohen & Collins v. Lewis Both had bad blood between partners and one wanted out Court let Owen out, Collins stuck. - Term of partnership - Type of misconduct at issue - Nature of the relationship, ability of partnership to prosper

Page v. Page (linen store case) Rule of Law: Unless specified, a partnership may be dissolved at will by any partner exercising good faith. B. The Consequences of Dissolution Prentis v. Sheffel (selling off company) Rule of Law: Absent bad faith or an agreement that states otherwise, a partner may bid on the resale of the partnership. Pav-Saver Corporation v. Vasso Corporation (concrete business w/ patents) Rule of Law: A party responsible for the dissolution of a partnership is not entitled to collect for the value of goodwill. Never ever enter into a permanent partnership C. The Sharing of Losses Kovacik v. Reed (kitchen remodeling w/ losses in business) Rule of Law: In a partnership where on partner contributes capital and the other labor, the partner contributing capital can not hold the other accountable for money lost, just as the partner responsible for services can not hold the other responsible for any losses he suffered. Split losses! Exceptions Courts do not apply the Kovacik rule where: The service partner (Reed) was compensated for his work The service partner (Reed) made a capital contribution, even if that contribution was nominal RUPA (19970 401(b) Each partner is entitled to an equal share of the partnership S profits and is chargeable with a share of partnership losses in proportion to the partners share of the profits

Chapter 3 The Nature of Corporation Section 1: Promoters and the Corporate Entity
Critical attributes 1. Legal personality - Corporation is an entity with separate legal existence from others -- Legal fiction -- Possesses some constitutional rights

-- Separate taxpayer -- Requires formal creation 2. Limited liability 3. Separation of ownership and control - All corporate powers exercised by or under authority of its board of dir. 4. Liquidity - Secondary trading markets -- NYSE or NASDAQ 5. Flexible capital structure The Board of Directors A corporation is governed by a board of directors elected by the shareholders Individual directors are NOT agents of corporation; only the board of directors as a whole can bind the corporation A director can also be a shareholder, especially in closely-held corporations Each director generally has one vote Directors hold meetings pursuant to bylaws with recorded minutes - Special meetings may be called with sufficient notice - Meetings require quorum Shareholders Boards ACT Shareholders REACTS Entitled to vote on: - Election of directors - Any amendments to the articles of incorporation - Fundamental transactions - Odds and ends, such as approval of independent auditors Rule of Corporate Officers Officers are hired by the board of directors Act as agents for the corporation (have fiduciary duties) Same person can be an officer and director Debt and Equity Securities Bonds and other debt consist of two distinct rights - Right to receive a stream of payments in form of interest of years - Return of principal at the end of the bonds prescribed term - Creditors not owners Equity Securities (stock) - Represent the units into which proprietary interests are divided - A limited right to participate in corporate decision making by electing directors and voting on major corporate decisions - Owners not creditors

Forming a Corporation MBCA 2.01 Incorporations: One or more persons may act as the incorporator or incorporators of a corporation by delivery articles Post Incorporation 1. Draft bylaws 2. Organizational meeting a. Name directors, if necessary b. Adopt bylaws c. appoint officers d. authorize the sale of founders stock e. issue stock Liability of Pre-Incorporation Activity Promoter: someone who purports to act as an agent of the business prior to its incorporation Legal issues 1. Once the articles are filed does the corporation become a party to the contract? 2. Once the articles are filed, is the promoter liable if the corporation breaches the contract? 3. If the articles are filed, is the promoter liable on the contract? 4. If the articles are not filed or are defectively filed, can the defectively formed entity or individuals enforce the contract? Southern-Gulf Marine Co., No. 9, Inc. v. Camcraft, Inc. Rule of Law: A party can not justify the nonperformance of a contractual obligation by the other partys lack of corporate capacity or the lack of stated corporate capacity. A third party who dealt with the firm as though it were a corporation and relied on the firm, not the individual defendant, for performance is estopped. De facto corporation v. corporation by estoppel De Facto: Treat firm as a corporation if the organizers: 1. in good faith tried to incorporate 2. had a legal right to do so 3. acted as a corporation Estoppel: Treat firm as though it were a corporation if the person dealing with the firm: 1. thought it was a corporation all along 2. would earn a windfall if now allowed to argue that the firm was not a corporation

Section 2: The Corporate Entity and Limited Liability

Limited liability A shareholder of a corporation is not personally liable for the acts or debts Is it improper to incorporate your business for the express purpose of avoiding personal liability? - No Is it improper to split a single business enterprise into multiple corporations so as to limit the liability exposure of each part of the business? - No Walkovszky v. Carlton (cab case & piercing the corporate veil) Rule of Law: The court will only pierce the corporate veil and hold the stockholders liable if it can be shown that the stockholder was conducting business in his individual capacity. The corporate veil may not be disregarded just because the assets of the corporation, together with the liability insurance, are insufficient to assure recovery. Sea-Land Services, Inv. v. Pepper Source Rule of Law: The veil of limited corporate liability will be pierced when the plaintiff proves that 1) there is a unity of interest between the individual and the corporation, and 2) to allow the limited liability would promote an injustice or sanction a fraud. Enterprise liability youre trying to piece them together Reverse piercing Roman Catholic Archbishop of SF v. Sheffield Rule of Law: There are no factors of piercing the corporate veil when there is no unity of interest. In re Silicon Gel Breast Implants Products Liability Litigation Rule of Law: In tort actions against corporations, a plaintiff needs to show that the corporation is an instrument of the stockholder, but there is no burden to prove fraud.

Section 3: Shareholder Derivative Actions

A. Introduction Derivative Suit vs Direct Suit Derivative Suit Brought by a shareholder on corporations behalf Cause of action belongs to the corporation as an entity Arises from an injury done directly to the corporation as an entity Direct Suit Brought by the shareholder in his or her own name Cause of action belongs to the shareholder in individual capacity

 Arises from an injury directly to the shareholder Cohen v. Beneficial Industrial Loan Corp. (New Jersey law) Rule of Law: A shareholders derivative suit will follow state non-procedural laws regarding the derivative suits when possible. Eisenberg v. Flying Tiger Line, Inc. Rule of Law: When the injury suffered was personal, rather than an injury of the corporation, the suit should not be considered derivative for the purposes of requiring a posting of security for opposing legal expenses. In most derivative suits, the shareholder is required to first make a demand, and then post security. The Delaware Supreme Court adopted a two prong test to determine whether a stockholders claim is derivative or direct. 1. Who suffered the alleged harm, the corporation or the suing individual? 2. Who would receive the benefits of any recovery, monetary to the corporation or non-monetary?

Section 4: The Role and Purposes of Corporations

A.P. Smith Mfg. Co. v. Barlow (donation to Princeton) Rule of Law: Corporate gift-giving is an allowable method of increasing goodwill, but the gift should be less than 1% of capital and surplus and directed to an institution owning no more than 10% of the company stock. Pet charity Dodge v. Ford Motor Co. (decreased price to make less profit) Rule of Law: The purpose of a corporation is to make a profit for the shareholders, but a court will not interfere with decisions that come under the business judgment of directors. Dont have discretion to mess with profits. Shlensky v. Wrigley Rule of Law: A court will not interfere with an honest business judgment absent a showing of fraud, illegality or conflict of interest.

Chapter 4 The Limited Liability Company

Section 1: Formation
Taxation of LLCs IRS regulations specified six factors in determining whether an unincorporated association should be taxed as though it were a corporation: 1. Associates

2. A business purpose 3. Continuity of life 4. Centralization of management 5. Limited liability 6. Free transferability of ownership First two were met in all LLCs. Test focused on only the 4 factors. If no more than 2 of the 4 factors were met, LLC taxed as a partnership Water, Waste & Land, Inc. d/b/a/ Westec v. Lanham Rule of Law: State statutes providing constructive notice to third parties when an LLC has been incorporated do not extend to agency law. This case is really about agency principals Tasks of LLC: - Choose and register a name (include LLC) - Designate an office and agent for service of process - Draft operating agreement --Governing affairs and issues of voting, etc.

Section 2: The Operating Agreement

Elf Atochem North America, Inc. v. Jaffari Rule of Law:The Delaware LLC statutes give great deference to the freedom of LLC members to contract, providing the terms do not overstep any of the mandatory statutory provisions. Conversion of Existing Entities: Partnerships ULLCA 902 authorizes conversion of partnerships or limited partnerships to LLC ULLCA 903(b)(2) converts debts of partnership to debts of LLC - 902(g) members remain liable as partners for pre-conversion partnership debts For tax purposes, conversion is treated as a nonrecognition event Conversion of Existing Entities: Corporations No ULLCA provisions - How to effect? -- ULLCA 904(a) deals with mergers into a Corporation - Create new LLC and merge Corporation into it For tax purposes, conversion is a potential recognition event (may trigger tax liability for gains on appreciated assets) - Tax free reorganization provisions do not apply Members Interest A members rights include: Financial interest

- Right to distributions and liquidate participation - Profit and Loss Sharing -- Allocate profits and losses on basis of the value of members contributions -- Compare partnership laws equal division --- ULLCA 405(a) uses partnership like equal shares rule - Withdrawal -- Member may withdraw and demand payment of his/her interest upon giving the notice specified in the statute or the LLCs operating agreement Management rights - Each member has equal rights in the management of the LLC, ULLCA 404(a)(1) -- Most matters decided by majority vote, ULLCA 404(a)(2) -- Significant matters require unanimous consent, ULLCA 404(c) --- merger, admission of new member, dissolution, etc. - Manager-managed LLC option available, ULLCA 404(b) -- Be structured as board of directors, a CEO, or both -- Must be specified in articles of organization Assignment of LLC interest Unless otherwise provided in the LLCs operating agreement, a member may assign his financial interest in the LLC - An assignee of a financial interest in an LLC may require other rights only by being admitted as a member of the company if all the remaining members consent or the operating agreement so provides. See ULLCA 501-503 - Analogous to partnership rules LLC liabilities ULLCA 303(a) No member or manager of a LLC is obligated personally for any debt, obligation, or liability of the LLC solely by reason of being a member of acting as a manger of the LLC - Butsince an LLC has limited liability like a corporation, should veil piercing apply as well?

Section 3: Piercing the LLC Veil

Kaycee Land and Livestock v. Flahive Rule of Law: For the purposes of piercing the corporate veil, there is no law or policy that would require treating limited liability companies (LLCs) different from corporations. No real facts.just a certified question of law Inappropriate for court to comment on what is require to pierce LLC veil Requirements for LLC Veil Piercing

Found in Sea-Land Services, Inc. v. Pepper Source 1. Unity of Interest - Failure to maintain adequate records/observe corporate formalities - Commingling of funds/assets - Undercapitalization - One corporation treating assets of another as its own 2. Sanction a fraud/promote injustice Differences between Corporation and LLC that will contribute to piercing Failure of a LLC to observe the usual company formalities or requirements relating to the exercise of its company powers of management of its business is not a ground for imposing personal liability on the members or managers for liabilities of the company (ULLCA 303(b)) No board of directors, more loosely managed

Section 4: Fiduciary Obligation

McConnell v. Hunt Sports Enterprises Rule of Law: Members of an LLC can agree to limit the scope of the fiduciary duty they owe to the LLC including allowing to permit competition with the current LLC.

Chapter 5 The Duties of Officers, Directors & Other Insiders

Section 1: The Obligations of Control: Duty of Care
Kamin v. American Express Company Rule of Law: A court will not interfere with the decision of a companys directors unless there is evidence of fraud or dishonest practice. The court will not overrule a business decision of the directors of a company unless there is evidence of fraud or dishonesty. Balance sheet Estimate of company worth on a given date Assets liabilities = owners equity - Assets = things the company owns - Liabilities debts; creditors claims on companys assets - Owners equity = net worth = owners claims on companys assets -- Usually called retained earnings for a corporation The Business Judgment Rule Directors are entitled to exercise their honest business judgment and are protected from liability for violating their duty of care, as long as they are exercising reasonable judgment and are not engaging in fraud of self-dealing, or acting in bad faith.

Smith v. Van Gorkom Rule of Law: Directors are liable if they were grossly negligent in failing to inform themselves. The Board breached their fiduciary duty of care to stockholders by (1) failure to inform themselves of all info reasonable available to them and relevant to their decision to recommend the merger and (2) failure to disclose all material info such as a reasonable stockholder would consider important in deciding whether to approve the offer. Francis v. United Jersey Bank (reinsurance company, loans misappropriated by sons) Rule of Law: A director can be personally liable, even to third parties, if they neglect to provide the ordinary care of staying current with corporate affairs as one would normally do in that position, and that neglect is the proximate cause of the damages. What does a company do with excess cash? 1. Use cash to acquire other businesses/assets (grow the company) 2. Distribute a dividend 3. Repurchase the companys own stock 4. Sell the company

Section 2: The Duty of Loyalty

Duty of loyalty Conflicts of interest arise and they become concerns for directors, officers and insiders of the corporation Pay attention to different categories of conflict Types of duty of loyalty (Issues in Chapter 5, Sec. 2) Conflict of Interest - Bayer v. Beran - Benihana Corporate Opportunities - Broz v. Cellular Information Systems, Inc. - In re eBay, Inc. Shareholders Litigation Dominant Shareholders - Sinclair Oil Corp. v. Levien - Zahn v. Transamerica Corporation Duty of Loyalty Must not put own interests ahead of corporation No self-dealing - Directors interest must not influence decision - ALI 5.02 requires disclosure and fairness - Transaction authorized by disinterested directors or shareholders - Remedies, rescission or restitution No excessive compensation, consistent waste No seizing of corporate opportunity

- Closeness of opportunity to type of business of corporation - Full disclosure if corporation rejects opportunity, then fiduciary duty no longer exists A. Directors and Managers Bayer v. Beran (radio show with directors wife singing) Rule of Law: A director has a fiduciary duty to support the corporations interest over his or her own conflicting interests, and any competing interests renders the business judgment rule inapplicable. If this had not been the Presidents wife, then the business judgment rule comes into play but adding her throws in a conflict Benihana of Tokyo, Inc. v. Benihana, Inc. Rule of Law: If the directors know about the conflict, and the majority of the ones unconflicted still vote to allow the transaction, then it is protected by the business judgment rule. B. Corporate Opportunities Broz c. Cellular Information Systems, Inc. Rule of Law: The corporate opportunity doctrine holds that an officer or director of a corporation can take a corporate opportunity if the opportunity is presented to them in their individual capacity, the opportunity is nonessential to the corporation, the corporation has no expectation for the opportunity, and they have not wrongfully utilized corporate resources to take advantage of the opportunity. In re eBay, Inc. Shareholders Litigation Rule of Law: A corporation has an interest or expectancy in a business opportunity if the opportunity would further an established business policy of the corporation. D. Dominant Shareholders Sinclair Oil Corp. v. Levien Rule of Law: A standard of intrinsic fairness will be applied in any self-dealing transaction by a parent corporation whose majority ownership places a fiduciary duty upon the parent corporation, but the transaction only be self-dealing if the transaction is to the detriment of minority shareholders. Complaints: 1. Excessive dividends No self-dealing BJR 2. Usurping Sinvens corp. opportunities Not corp. opportunity BJR 3. Allowing Sinclair International to breach K w/ Sincen Self-dealing Intrinsic fairness

Zahn v. Transamerica Corporation Rule of Law: Unlike a director, a shareholder, majority or otherwise, is entitled to vote in a manner that is most beneficial to their interests. P is entitled to equitable relief for a decision made by the majority shareholder that was otherwise allowable under the corporate charter. Parent liable for subsidiary - Generally parent not liable - Exception: active participation and control - Liable for failure to maintain clear separation Enterprise liability - Generally Ct. may treat all pieces as belonging to one enterprise from which creditors may be satisfied D. Ratification DGCL 144(a) No contract or transaction between a corporation and 1 or more of its directors or officersshall be void or voidable solely for this reason if: the material facts as to the directors or officers relationship or interest and as to the contract or transaction are disclosed or are known to the shareholders entitled to vote thereon, and the contract or transaction is specifically approved in good faith by vote of the shareholders Fliegler v. Lawrence Rule of Law: Shareholder ratification of a transaction between the corporation and an interested party will not be legitimate if the majority of the shareholders are the interested parties. In re Wheelabrator Technologies, Inc. v. Shareholders Litigation Rule of Law: Ratification should be viewed together with other pertinent factors. There are different types of ratification. There is the shareholder ratification that is absolutely required or else the directors actions are void, and there is ratification that merely acts as an affirmance of the director decisions while not being legally required. In neither case does a shareholder ratification automatically extinguish breach of duty of loyalty claims. A shareholder ratification does not automatically extinguish a duty of loyalty claim, but it does make the business judgment rule the applicable standard that a plaintiff would have to overcome. Duty of Care - Fully informed shareholder vote extinguishes duty of care claim Duty of Loyalty - Two different situations 1. Interested transaction cases -- Shareholder approval BJR (gift/waste) 2. Controlling shareholder cases -- Directors have BOP to prove entire fairness

-- Shaerholder approval shift BOP to P to prove

Section 3: The Obligation of Good Faith

A, Compensation In re The Walt Disney Co. Derivative Litigation Rule of Law: Directors conduct was less than ideal, but not in bad faith or grossly negligent. Ordinary negligence is insufficient to constitute a violation of the fiduciary duty of care. Two categories of actions that arguably constituted bad faith: Subjective bad faith, where the fiduciary conduct is motivated by an actual intent to do harm. Fiduciary actions taken solely by reason of gross negligence and without any malevolent intent (including a failure to inform oneself of the material facts). There is a difference between bad faith and a failure to exercise due care. Directors are not required to be informed of every single contingency (like if Ovitz' left early), they just have to be 'reasonably informed' in order to meet the requirements of the duty of care. B. Oversight Stone v. Ritter (bank accounts) Rule of Law: Good faith falls under duty of loyalty. Directors are not responsible for ensuring the legality of every act by the corporation's personnel, even if the illegal conduct would have been discovered if there hadn't been a failure of the corporate compliance program. When shareholders claim that the directors were ignorant to liabilities, the shareholder can only win if they show that there was a "sustained or systemic failure of the board to establish oversight." In Re Caremark Intl Inc. Manages care health company. Subject to the Anti-Referral Payments of Law which prohibits managed care organizations that receive Medicare/Medicaid from profiting form referrals. Fed prosecute and civilly sue Caremark. Caremark pleads and/or settles to pay $250 million. Created oversight procedure. What Oversight Does Caremark Require? Does the board have a duty to adopt a law compliance program? In Caremark, court said yes: must attempt on good faith to assurea corporate information and reporting system Directors become liable if there is sustained and systematic failure to attempt to assure reasonable information and reporting systems exists bad faith Partnerships vs. Corporations Tax factors - Corporations: pay tax, double taxation - Partnerships: pass-through entities, do not pay income tax -- Split the taxes when filing

 Non-tax factors - Limited liability - Transferability - Limited life - Flexibility -- Works in favor of partnership -- Corporation is a little more constrained by bi-laws, etc. Model Laws UPA (1914) UPA (1997) RUPA These are model laws, not restatements Provide default rules

Section 4: Disclosure of Fairness

A. Definition of Security Securities Act of 1933 Regulates the offering and sale of new securities The 33 Act Focuses on disclosure - Theyll have companies that want to sell stock publicly they will put into registration documents required info and that info will be filed and disclosed to the public as issuer tries to sell securities. It provides useful info to the public - Not always everything you need to know Securities Exchange Act of 1934 Regulates secondary Markey activity The 34 Act Covers periodic disclosure and fraud Focuses on trading Created the Securities and Exchange Commission The SEC Independent agency Enforce securities laws Promulgate rules and regulations to implement those laws Purpose of Securities Laws Full disclosure Prevention of fraud Issues Under the Securities Laws Is it a security?

 Is registration required? Is this a transaction that creates liability under SEC Rule 10b-5? What is a Security? Ask: 1. Securities Act requires registration only if the instrument or investment is a security 2. If it is, the requirements for proving fraud under the federal securities laws are easier than the requirements for proving common law fraud under state law Securities Act 2(a)(1) - Investment contract is the catch all phrase -- SEC v. Howey primary definition (4 elements) Apply the Howey test Investment of money? - Anything continuing legal consideration or purposes of contract law Common Enterprise? Horizontal vs Vertical commonality: - Horizontal commonality looks to the relationship between the individual investor and the other investors who put money into the scheme -- Requires a pooling of interests ---- Shareholders of a corporation, etc. - Vertical commonality looks to the relationship between the investor and the promoter of the scheme -- Requires that the investor and the promoter of the scheme be involved in a common enterprise, but no requirement of pooling of interests by multiple investors - Courts have recognized horizontal but are split on vertical Expectation of profits? - Usually not very difficult to meet - Even in tax shelter arrangements, investors expect to benefit through shielding some of their income from taxes Soley from the efforts of others? - No courts reads that phrase literally; dont take word soley seriously - The test? -- How much effort must the promoter put into the project, as opposed to the investors efforts, in order for the expectation of profits test to be met? -- The critical inquiry is whether the efforts made by those other than the investor are the undeniably significant ones, those essential managerial efforts which affect the failure of success of the enterprise Robinson v. Glynn Rule of Law: A membership interest in a LLC does not qualify as a security (neither an

investment contract nor stock), where the holder of that interest is a knowledgeable executive in the company and able to exercise control over the investment. Registration of Securities One of the purposes of the federal securities law is disclosure Registration is a necessary component of the regulatory system put into place to address the issue Disclosure 1933 Securities Act Transactional - Registration statement filed with SEC - Prospectus distributed to investors Required in connection with any public sale 1934 Securities Exchange Act Periodic disclosures that have to be made for the companies - Form 10 (once) - Form 10-K (annual) - Form 10-Q (quarterly) - Form 8-K (episodic) Only required of registered companies Selling Securities under the Securities Act of 1933 (No selling activity) 1.Registration statement filed with SEC (Offers permitted but no sales) 2. SEC reviews for adequacy of disclosure, not the merits of investment opp. 3. Registration statement effective (Sales allowed) 4. Prospectus must be delivered Exemptions/Exclusion under 33 Act Private placement exemption Doran v. Petroleum - Not very precise, have to look at the case and the requirements Mgt. Corp private placement exemption Regulation D Safe Harbors SEC Rules 504, 505 and 506 - 504 no more than 1 million in securities to unlimited amount of buyers - 505 no more than 5 million to 35 buyers - 506 more than 5 million to no more than 35 buyers and they have to be financially sophisticated Being exempt from federal securities laws doesnt exempt you from state securities laws States can be broader so in a lot of cases so they regulate substance of invest.

Important Civil Liabilities 1933 Act 11 - Fraud in the registration statement -- If material misrepresentation & purchase based on that it creates civil liability -- Long list of defendants, including anybody signed registration - Due diligence defense 1933 Act 12(a)(1) - Strict liability for illegal offers and sales - Rescission remedy 1933 Act 12(a)(2) - Fraud in a prospectus or oral sales communication - Reasonable investigation defense B. The Registration Process The Securities Act prohibits the sale of securities unless the company issuing the securities has registered them with the SEC. The Act imposes three basic rules 1. a security may not be offered for sale through the mails or by use of other means on interstate commerce unless a registration statement has been filed with the SEC 2. securities may not be sold until the registration statement has become effective; 3. the prospectus (disclosure document) must be delivered to the purchaser before a sale To register securities, the issuer must give the Commission extensive information about its finances and business. Because of the cost and delay associated with the registration process, many issuers work hard to find ways to sell securities without registration. The Securities Act includes two types of exemptions to the registration requirement 1. Private placement 42 U.S.C. 77d(2) - Number of offerees and their relationship to each other and issuer - Number of units offered - Size of offering - Manner of the offering 2. Transactions by another person other than an issuer Doran v. Petroleum Management Corp. Rule of Law: Absent a registration statement, factors that determine whether an offering is private include the number of offerees and their relationship to each other and the issuer, the number of unites offered, the size of the offering, and the manner of the offering. Owners of LLC members Owners of Incorporation shareholders Owners of Partnership partners

C. Rule 10b 5 1934 Act Section 10(b) unlawful to use or employany security registered on a national securities exchange or any security not so registeredany manipulative or deceptive device or contrivance Not self-executing, requires issue rules and regulations Rule 10b 5 It shall be unlawful for any person Justice Department: Willful violations are a felony SEC: Bring civil action Private parties - No express cause of action - Supreme Court implied private right of action in Superintendent of Insurance v. Bakers Life & Casualty Co. Elements: Jurisdictional nexus - Have to have the use of any means of interstate commerce or of the mails, or of any facility of any national securities exchanged - Interstate commerce is very broad Transactional nexus - In connection with the purchase or sale of any security - Only purchasers or sellers have standing to sue (Blue Chip Stamps v. Manor Drug Stores) - Blue Chip P decided NOT to buy due to fraud, no standing Material misrepresentation or omission - To make any untrue statement of a material fact -- Whether there is substantial likelihood that a reasonable shareholder would consider the fact important TSC Indus. V. Northway - Basic Inc. v. Levinson -- Probability/magnitude balancing approach. Probability: indicia of interest in transaction at highest corporate levels. Magnitude: size of the two entities and potential premiums over market value Reliance - Presumed in omission cases (Affiliated Ute Citizens of Utah v. US) - Fraud on the Market Theory: Creates a rebuttable presumption that investor relied on integrity of market price so investor need not have seen misrepresentation. The fraud on the market theory is based on the hypothesis that, in an open and developed securities market, the price of a companys stock is determined by the available material information regarding the company and its business. - How can D rebut fraud on the market presumption? BOP shifts to D to get away from fraud on the market presumption -- Market makers not deceived

of Prove stock

--- Companies that trade in the stock on open market, tend to be companies that provide significant volume shared trading. Have lots of info, well informed. they were not deceived, prove market price of the wasnt artificially changed. -- Corrective statements -- Specific P would have sold anyway Causation - Transaction causation -- Closely related to reliance -- But for the fraud, P would not have invested or sold, etc. - Loss causation (forseeability) -- Akin to proximate cause -- Fraud cased the loss -- Generally shown by analysis of effect of fraud on stock prices Scienter - State of mind: -- Intent to defraud (Sup Ct) -- Reckless disregard of falsity of statement (all circuits) Fraud or manipulation - Manipulation: Practices that artificially affect market activity for the purpose of misleading investors - Santa Fe Industries v. Green -- Used short form merger statute from Delaware. No shareholder approval. Minority shareholders can get appraisal rights dispute price and have court review the price - Breach of fiduciary duty without fraud NOT a violation of Rule 10b-5

and

Basic v. Levinson Rule of Law: Basics denial of merger to stockholders was found to be Santa Fe Industries v. Green Rule of Law: Conduct only violated Rule 10b-5 if manipulative or deceptive. There was no deception because no omission or misstatement in merger documentation. Courts didnt jump in and create breach of Rule 10b-5 for something that is a breach of a fiduciary duty state law claim. Efficient Market hypothesis: Idea that companys stock adjusts automatically based on publicly available material and that if in fact you are making the statements about facts that would affect price of stock in market price, then your actions are a type of fraud on the market because its effecting price on the market and you can presume investors relied on the integrity of that market price and you dont have to prove individual reliance