I. Introduction
a. General Characteristics of Corporation
i. (1) Limited Liability
1. One of the basic principles of corporation law is that its owners/shareholders have limited liability.
ii. (2) Free transfer of ownership interest
1. Ownership interests are represented by stock.
2. Stocks are freely transferable.
iii. (3) Continuity of Existence
1. Corporations have a perpetual existence unless a shorter term is stated in the certificate of incorporation.
iv. (4) Centralized Managemenet
1. Shareholders have no right to participate in management.
2. Management is in the hands of the board of directors.
v. (5) Entity Status
1. This means that corporations can sue and be sued.
b. How do you start a corporation?
i. To incorporate, all you have to do is file a ceritificate of incorporation/articles of incorporation/charter. Incorporating is quite easy. You just have to follow what the statute says
ii. What do you include in this article?
1. File it with the secretary of state.
2. Put in the name, nature of business, address
3. As we’ll see you can impinge on the board, you can have supermajority voting provisions, and the exculpatory provisions that eliminate duty of care violations.
c. Pre-Incorporation Transactions
i. Promotors
1. Prior to filing a certificate of incorporation, it’s not uncommon to call a promoter. Promoters conduct all of the preparatory work for a net yet formed corporation
ii. What is the liability of a promoter if a not yet formed corporation enters into business with a third party?
1. General Rule: The promoter remains personally liable and is a co-obligor with the corporation after the corporation is formed.
2. Must remember: Until formed, a corporation cannot legally be bound to anything.
a. If a corporation isn’t formed yet, it cannot be bound. However, a corporation could be bound later by ratification, adoption, or novation.
3. What if there is performance before incorporation?
a. Lazaroff says that, generally, the promoter is bound.
4. If there is an existing contract, the contract must be with the promoter, because the corporation is not yet formed.
a. If there is no contract, then the supposed contract is simply only an offer.
5. Absent a clear intent to release the promoter, he will still be bound after the corporation is formed. But again, it’s up to the parties and what they have contracted for.
d. Primary Objective of Corporations
i. Making Money
1. ALI Principles of Corporate Governance § 2.01
a. (a) A corporation should have as its objective the conduct of business activities with a view to enhancing corporate profit and shareholder gain.
b. (b) Even if corporate profit and shareholder gain are not advanced, the corporation, in the conduct of its business:
i. (2) may take into account ethical considerations that are reasonably regarded as appropriate to the responsible conduct of businesses
ii. (3) may devote a reasonable amount of resources to public welfare, humanitarian, educational, and philanthropic purposes.
c. Lazaroff says maximizing corporate profit is considered the same thing as maximizing shareholder value.
d. Making money is in (a),. But the non traditional aims of these corporations are listed in (b), where profit may not be the only consideration.
2. Maximizing Net Present Value
a. Corporate managers should take risks to maximize current shareholder wealth so long as it contributes to present value.
b. Hu suggests that this involves taking risks and diversifying.
c. Shareholders desire more high risk high reward opportunities. The directors are interested in the long term success of the corporation, while diversified shareholders, with smaller interests, are more willingn to take risks.
d. If a corporateion always tries to maximize net present value, it may not be in the best interests of the corporation or its creditors.
i. Creditors depend on the long term viability of the corporation and they need the corporation to survive to collect.
ii. If a corporation is too risky, it could disappear too quickly.
ii. Charitable Contributions by Corporations
1. Dodge
a. Facts: Ford said it was the policy of the co. to not pay special dividends but to put it back into the business for the future of the company. He wanted to employ more men, spread benefits to as many people as possible and help new employees build up their lives and their homes.
i. Basically he limited the dividends paid out to shareholders so he could leave money in the corporation to hire more people and help them out in society by giving them jobs and homes.
b. Rule: A corporation is carried on primarily for the profit of its stockholders. The discretion of directors is to be exercised toward the attainment of profits, and does not extend to the reduction of profits or to the nondistribution of profits among stockholderse in order to devote them to other purposes.
c. Court didn’t allow the charitable contributions. A corporation is organized and carried on primarily for the profit of the shareholders.
2. Barlow
a. Facts: Basically the company started donating money to Princeton. They thought it was a sound investment, would obtain good will in society.
b. Common law rule: Those who managed the corporation could not disburse any corporate funds for philanthropic or other worthy public cause unless the expenditure would benefit the corporation.
c. Modern Rule: Generally, corporations are able to donate a reasonable amount of resources to charities, etc., and the power to donate usually does not hing on any benefit to the corporation or shareholders.
i. What Barlow suggest might be reasonable?
1. Look at the amount contributed in relation to the company’s expenditures, size, profits.
d. NJ statute here allowed donations and the modern trend was moving towards allowing corporations to donate.
3. “Pet” Charities
a. If there is a strong connection between the board and members of a non-profit, a challenge to the donation might be more likely to succeed.
b. Pet charity is like something the board members really like or have given to personally before they became directors.
II. Allocation of Power – Tension between shareholders and Directors
a. What is this about?
i. Shareholders are allowed to vote on certain items. Their right to vote is by statute.
b. Removal of Directors
i. For Cause – There is no doubt that shareholders can remove directors cause.
ii. Without Cause – Some states allow this; some states allow this if the by laws of the corporation would allow it.
c. Generally, as stated above, shareholders have a right to vote by statute. But what happens when directors try to interfere with the shareholders’ right to vote?
i. Schnell
1. Facts: Mgmt wanted to advance the date of the annual stockholders’ meeting.
2. The court said that the board moved up the date to prevent stockholders from exercising their right to undertake a proxy contest against mgmt. This was an inequitable purpose.
3. This wasn’t in the best interests of the stockholders because they need to be able to vote effectively
a. The company wanted their people on the board. With the earlier vote, stockholders couldn’t review materials or get their people up there in time. The stockholders gear their campaign to be on the board based on the meeting date set in the bylaws.
ii. Blasius Standard
1. Facts: Blasius wanted to restructure the corporation financially. They were a new shareholder of Atlas. They wanted to amend Atlas bylaws so that the board would go from 7 to 15. They wanted to elect 8, so that they would have the majority. Atlas added 2 more directors so that they would have 9 of the 15 proposed directors.
a. Atlas took this action so that a majority of shareholder voters, even if they wanted to, could not add a new majority of shareholders based on Blasius’s consent solicitation.
b. Atlas said they did this to protect shareholders from having an impractical, dangerous, recapitzliation program foisted upon them.
2. So, the issue really is whether Atlas can, in good faith, take the action that it did, which prevents the stockholders from voting a new majority of directors onto the board, if they wanted to?
3. Holding/Rule: No. If the board acts for the primary/sole purpose of thwarting a shareholder vote, even if in good faith, then the board must have a compelling justification for doing as such. While this is not a per se rule against the interference of shareholder voting, a court will impose a high level of scrutiny and heavy burden on the board.
4. Business Judgment Rule
a. In essence, this is a lenient standard in reviewing the conduct of directors and officers. Officers and directors are given the benefit of the doubt it their decisions unless the decisions were irrational.
b. However, the business judgment rule is not used when there is conduct that interferes with shareholding voting, even if the decision was made in good faith.
c. As Blasius holds, this standard of compelling justification is used.
5. Why doesn’t the business judgment rule apply?
a. The court seemed to say that voting is legitimates the exercise of power that the directors and officers have over the corporation, which is property they don’t really own.
b. When there’s action that interferes with effectiveness of vote, that’s a tension between the board and the shareholder. The board is an agent of the shareholders.
c. The agent doesn’t decide how to vote, so it can’t be left to the agent’s business judgment.
6. What is a primary purpose?
a. Hilton v. ITT – This was a case out of Nevada. Hilton tried to take over ITT.
b. The court said you look at the timing, entrenchment of the board, and the stated purpose.
7. Why is there no compelling justification?
a. (1) the board was not faced with coercive ation taken by a powerful shareholder against the interest of a distinct shareholder constituency.
i. I think court is basically saying, Blasius is only a 9% holder, not 89%. There are still a lot of shareholders out there.
b. (2) Atlas had time to inform shareholders of its views on merits of proposal.
c. The justification offered is that the Board knows better than the shareholders as to what’s in corp’s best interest.
i. This is true, but irrelevant when it comes to who should be on the board.
ii. The theory of corporation law gives the board the power of agents. They’re not Platonic masters.
iii. It’s possible a majority of the shareholders would disagree with Atlas and want to go through with this.
iii. Stroud – Del. Sup. Ct. (1992)
1. Facts: Corporation put more stringent requirements to be a director. Someone challenged and said this interfered with right to vote. Court didn’t apply Blasius Standard.
2. Why the Blasius Standard wasn’t used:
a. (1) the board acted with no threat to its control
i. In Blasius, Atlas wants to maintain control of the board. They added members to board without shareholder approval.
b. (2) there was no unilateral action by the board
i. The unilateral action by the board to maniupate shareholders was not here.
ii. The primary purpose wasn’t to interfere with vote.
iii. The changes were made with the KNOWLEDGE AND APPROVAL of the shareholders. They were informed and voted.
iv. Williams – DE (1996)
1. Facts: Bylaws were amended for tenured voting. Instead of one vote one share, holders of common stock had 10 votes.
2. Court said Blasius didn’t apply because of no unilateral board action and there was shareholder approval.
v. Liquid Audio
1. Facts: Liquid Audio wanted to expand from 5 directors to 7. MM as shareholder wanted to nominate 2 of its people as directors. MM then wanted to increase from 5 to 9, with the 4 new guys its own people. They wanted 6 of 9 then.
a. Liquid Audio did increase the board from 5 to 7. MM argued this interfered with its ability to solicit proxies in favor of its 2 nominess. They said shareholders voting fo 2 of 7 is useless as opposed to voting for 2 of 5. People would therefore not vote.
b. Liquid Audio admitted it was their primary purpose to minimize impact of election of MM’s 2 nominees to board. They wanted to diminish the influence of any of MM’s nominees.
2. This case is similar to Blasius and the rule is the same as Blasius, except that even if there is a compelling justification for thwarting a shareholder vote, that justification must be able to withstand judicial scrutiny within the Unocal standard of “reasonableness and proportionality.”
a. The court says that the board must first demonstrate a compelling justification as a CONDITION PRECEDENT to any judicial consideration of reasonableness and proportionality.
b. Lazaroff says that if the compelling justification standard is higher than this Unocal standard, then the Unocal seems useless.
c. You can’t really fail if you meet the compelling justification standard.
3. Why did this Unocal Standard apply?
a. The court said this was a “defensive measure taken in response to some threat to corporate policy and effectivness whichi touches upon issues of control.”
4. Liquid Audio admitted that its primary purpose was to thwart the effect of MM’s nominees. This impeded corporate democracy because it was done in the context of voting for directors. Shareholders couldn’t vote for these 2 guys and it also might’ve affected votes for MM’s 2 nominees. There was no justification offered.
vi. Fleming
1. Facts: Fleming put in a shareholder’s rights plan as an anti-takeover mechanism. These plans restrict shareholders rights. Prevents takeovers without approval of mgmt. Makes hostile takeovers difficult and even more expensive. These are called “poison pills.” These things stifle mergers and lead to less benefit for shareholders.
a. The shareholders proposed an amendment, through a proxy effort, which would require any rights plan implemented by the board to be put to the shareholders for a majority vote.
b. The shareholders basically wanted an opportunity to vote on any hostile takeover.