AGENCY EXAM APPROACH—Questions to ask:
1.) Is there a Principal-Agent relationship/and what type?
2.) If so, does the issue involve a TORT or CONTRACT?
Agency: An agency is a fiduciary relationship that arises when one person (a principal) manifests assent to another person (an agent) that the agent shall act on the principal’s behalf and subject to the principals control. o There are three parts:
1.) Manifestation of consent by the principal that the agent act on the principal’s behalf; AND
2.) subject to the principal’s CONTROL;
3.) the agent manifests CONSENT
AND
Three players in agency Questions:
1.) The Principal 2.) The Agent 3.) The Third Party
Agency Problems Involving Contract: When facing a fact pattern where a contract is involved the question is whether the principal is not whether the principal is liable, but whether the principal is bound by the agent’s actions.
General rule: An agent has the ability to bind a principal to an agreement, provided that the agent has some form of authority.
Types of Authority: 1.) actual authority, 2.) apparent authority, 3.) ratification, and 4.) agency by estoppel. o 1.) Actual Authority (Express and Implied): Actual authority exists when P communicates to A about the activities in which the agent may engage and the obligations the agent may undertake. This communication may be spoken Or written (express actual authority). It may be through silence or implied by the job (implied actual authority).
Actual Express Authority— Involves examining the principal’s explicit instructions.
Actual Implied Authority—
Involves examining P’s explicit instructions and asking what else might be reasonably included in those instructions (i.e. implied) to accomplish the job.
Implied authority includes actions that are necessary to accomplish the principal’s original instructions to the agent; it also includes those actions that the agent reasonably believes the principal wishes him to do, based on the agent’s reasonable understanding of the authority granted by the principal.
o 2.) Apparent Authority
Apparent authority is created when a person (principal or apparent principal) does or says something or
creates a reasonable impression/manifestation that another person (the apparent agent) has the authority to act on behalf of that apparent principal.
It is about what a third party reasonably believes the principal has authorized the agent to do.
o 3.) Ratification—―Authority given after the fact‖:
Ratification is the authority granted after the contract has been made. It involves situations in which an agent enters into an agreement on behalf of the principal without any authority (actual or apparent).
P’s affirmation may be express or implied (i.e. implied by accepting the benefits of the transaction).
Once agreement or transaction has been ratified the law treats it as if it were originally done by the agent with actual authority. Thus, binding both parties to the agreement (i.e. principal and third-party).
To be VALID, P must know or have reason to know, at the time of the alleged ratification, the material facts relating to the transaction.
P MAY NOT PARTIALLY RATIFY a transaction. P must ratify the whole transaction. Its all or nothing.
Limitations on Ratification:
If a third party manifests an intention to withdraw from the transaction, prior to ratification, the principal may not ratify the agreement.
Ratification will be denied when necessary to protect the rights of innocent third parties. Ex. Annie (agent) enters into an agreement with Ted (third-party) to sell Pat’s (Principal) house on day one. On day two, P’s house burns down. P cannot ratify on day three and say ―Ok, I accept the agreement.‖ (P. 22)
Ratification might also be denied if the passage of time affects the rights and liability of a third party.
o Questions to ask to determine whether there is a valid ratification: A.) Did P through word or deed manifest his
assent to affirm the agreement? B.) Will the law give effect to that assent?
o 4.) Agency by Estoppel: (P.23)
Estoppel is not really a form of authority. Estoppel is an equitable doctrine which prevents the principal from denying that an agency relationship exists.
Estoppel generally arises in agency situations in which the principal has done something improper.
As used in agency, estoppel involves:
1.) Acts or omissions (generally wrongful) by the principal, either intentional or negligent, which
creates an appearance of authority in the purported agent.
2.) The third party reasonably, and in good faith, acts in reliance on the appearance of authority.
3.) The third party changes her position in reliance upon that appearance of authority.
Difference between between ESTOPPEL and APPARENT Authority:
1.) Estoppel requires that the third party alter his or her position in reliance on the purported authority. There is no such requirement for apparent authority.
2.) Apparent authority requires a manifestation by the principal (directly or indirectly) to the principal.
No such manifestation is required for estoppel, merely some culpable act or omission by the principal.
Estoppel might arise when the principal takes some improper action. Yet, the improper action is not sufficient to amount to a manifestation to the third party.
o Inherent Agency power: This is a term used by the restatement of Agency to indicate the power of an agent which is derived not from authority, apparent authority or estoppel, but solely from the agency relation and exists for the
protection of persons harmed by or dealing with a servant or other agent. (Statute bk, 2)
Agent’s Liability for Contracts
Liability of--Undisclosed Principal: (P.22/29) o Definition--A principal is undisclosed when the principal authorizes an agent to act on the principal’s behalf with respect to third parties, but the principal is undisclosed and the third party is unaware that the principal exists.
Agent acts with authority: If the agent acts with the principal’s actual, express or implied, authority, then the principal is bound.
There can be no apparent authority with an undisclosed principal, because an undisclosed principal by definition cannot have made a manifestation to the third party.
These situations are covered under the concept of liability of an undisclosed principal (was formerly known as ―inherent agency‖).
Under this concept the law will sometimes hold an undisclosed principal liable for certain unauthorized transactions of his agent when a third party has made a detrimental change in position, if the principal had notice of the agent’s conduct and that it might induce third parties to change their positions, and the principal did not take reasonable steps to notify the third
parties of the facts. (Third Restatement Agency § 2.06)—P.23
Liability of Partially Principal for Contract: o A partially disclosed principal exists when an agent tells a third party that the agent is acting on behalf of a principal, but the identity of the principal is not disclosed. (P.30)
Liability of Agent for Contract: o General Rule-- An agent is not liable as a party to the contracts that the agent enters into on behalf of a disclosed principal. o There are two situations when an agent will be treated as a party to a contract:
1.) Agent is acting on behalf of an undisclosed principal; OR
2.) Agent is action on behalf of a partially disclosed principal (i.e. unidentified principal).
o In both instances, the agent is bound by the agreement at the election of the third party. The third party may choose to sue the authorized agent OR principal.
UNLESS the parties specifically agree that the agent will not be bound OR the original agreement provides that, upon identification of the principal, the agent will no longer be bound.
o However, in most situations in which the agent would be found liable under an agreement the agent would have a claim for indemnification provided that the agent acted
with P’s authority and did not cause the breach of the agreement. (P.30)
EXAM APPROACH (Questions to Ask): (P. 28-29)
1.) Did Principal give Actual Authority to the Agent (*either express or implied)?
2.) Did the principal make some manifestation to the third party creating Apparent Authority?
3.) Was the Principal undisclosed, creating liability of an undisclosed principal (formerly Inherent Agency Power (IAP))?
4.) Did the Principal ratify the contract?
5.) Is Estoppel an issue? o Did P do something wrong or fail to do something, that created an impression with the third party? o Did the third party rely and alter his or her position to his or her detriment?
Agency Problems Involving Torts:
1.) First determine whether an employee/employer relationship existed. o Asses whether the principal had the right to exert control over the manner and the means by which the agent performed his duty.
It is not just the actual exercise of control that is critical. It is also the right to exercise control that is evaluated.
Factors involved in assessing P’s right to exert control over A: 1.) Extent of control that the agent and principal have agreed the principal may exercise over the details of the work. 2.) Whether A is engaged in a distinct occupation
or business 3.) Whether type of work done by agent is customarily done under P’s direction or without P’s supervision. 4.) The skill required in A’s occupation 5.) Who supplies the tools or instrumentalities required for work and place to perform work? 6.) Length of time A is engaged by P 7.) Whether A is paid by the job or by time worked 8.) Whether P and A believe they are creating an employment relationship; AND 9.) Whether the principal is or is not in business.
Employee vs. Independent Contractor: Under the doctrine of Respondeat Superior, P is responsible for the torts committed by its employee within the course and scope of employee’s employment. Generally, P is not responsible for the torts of their independent contractors.
Non-Employee Agents and independent contractors: It is possible to have an agency relationship in which the agent is not an employee.
The Third Restatement refers to some individuals as non-employee agents. Other sources still use the term independent contractors
Rule: When a fact pattern involves an independent contractor OR a non-employee agent, if the tort occurs over an area which the principal exercises some control, the principal might still be liable. (SEE Fiona example on p. 15)
EXCEPTIONS to independent contractor rule: There are certain situations in which a principal is still liable for the torts of an agent who Is not an employee and over whom the principal exercises no control. Those situations are:
1.) Inherently dangerous activities—any activity likely to cause harm or damage unless some precautions are taken.
2.) Non-delegable duties—a duty that a person may not avoid by the mere delegation of the task to another person. The hiring of the agent to perform the task will not discharge or transfer the principal’s responsibility or liability.
3.)Negligent hiring—this is not about vicarious liability. Rather, it is direct negligence. Liability is based on the principal’s negligence in hiring the independent contractor, not on attributing responsibility for the tortuous act to an
independent contractor or to an innocent principal.
2.) Was Agent/employee acting within Scope of employment?: o Intentional Torts: Principals/employers are not liable for the intentional torts of their agents/employees.
Exception: However, when the employer’s job is such that some part of the intentional tort might be characterized as being done with the intent of serving the employer P will be liable. o Ex. Club bouncer who ejects patron from the club.
o Frolic & Detour:
1.) Frolic—when an agent leaves employment to do something for personal reasons.
2.) Detour—If an employee is still engaged in employment but strays only slightly from the direct assignment, that is known as a mere ―detour.‖
Ex. An agent who is driving to the bank to deposit money for the store which employs him and takes a longer route so he can drive by the new sculpture in the park is on a detour. If he gets in an accident while driving by the sculpture, the employer will still be liable.
3.) Apparent Agency: (P.16-19) o Apparent agency arises in situations in which the person committing the tort is not an employee , or perhaps not even the agent, of the principal.
Under the traditional agency analysis, P would not be liable for the alleged agent’s tort. However, if there are circumstances which led the injured third-party to reasonably believe that an employment or agency relationship existed between the P and alleged A and those circumstances existed because of some action or inaction on the part of P, then P might still be liable under the theory of apparent agency.
Many courts (but not all) require proof that if the alleged agent was under the control of P, then P would or could have exercised control to avoid the tort which took place.
REMEMBER: o The Agent is always liable for his own negligence. o Also, the principal always responsible for his or her own negligence (in such an situation the doctrine of respondeat superior does not ably).
EXAM APPROACH—TORT (Questions to ask):
1.) Is there an Employee—Employer relationship?
2.) If the agent is an employee, did the tort occur within the scope of the employment or was it clearly outside the scope (frolic or detour)?
3.) Even if there is NO Employee/Employer relationship—is there sufficient control to create a ―non-employee agent,‖ and if so, did the tort occur within the scope of that control?
4.) Even if there is no control exercised over agent, does the event fall into an exception such as an: i.) inherently dangerous activity, ii.) a non-delegable duty, OR iii.) negligent hiring?
5.) If there is no liability for the Principal under a control analysis, is there a claim for Apparent Agency because the third party reasonably relied on the appearance of the agency and was harmed as a result of the reliance?
Rights and Responsibilities: (P.32-33)
Agent—The agent has certain duties and obligations to P. The agent’s knowledge is imputed to P. o 1.) Duty of care, competence, and diligence o 2.) Duty of loyalty o 3.) Duty not to acquire material benefits arising out of the agency o 4.) Duty not to act as (or on behalf of) an adverse party o 5.) Duty not to Compete o 6.) Duty not to use the principal’s property o 7.) Duty not to use confidential information o 8.) Duty of good conduct o 9.) Duty to provide information
NOTE: o While some of these duties may be waived by the principal, such a waiver requires that the principal ne fully informed and that the agent still act in good faith and still deal fairly with the principal. (P.33)
Principal—The principal has certain duties and obligations to the agent. (P.34) o 1.) Duty to indemnify o 2.) Duty of good faith and fair dealing
Partnership Background: Partnerships are generally governed by state law. Most states have adopted some version of the Uniform Partnership Act (1997) (RUPA—which stands for the ―revised Uniform Partnership Act‖). The codified versions of RUPA are known as the default rules, because the apply if the partnership is not governed by an agreement or if the partnership agreement does not cover a particular area. Although most provisions of RUPA can be modified by an agreement there are some that cannot.(See P. 41)
NOTE—No formal partnership agreement is needed, but it is recommended.
Types of Partnership
1.) General Partnership (Outline based on general partnerships)
2.) Limited Liability Partnerships
3.) Limited Liability Companies
Partnership
A partnership is : o 1.) An association of two or more persons o 2.) To carry on as co-owners of a business o 3.) For profit.
Attributes Associated with a Partnership:
1.) Each partner is jointly and severally liable for the debts of the partnership
2.) Each partner has the ability to participate in the control and management of the partnership. o Under the Uniform Partnership Act (1997) (RUPA)—Each partner is entitled to at least one vote regardless of how much capital he or she contributed.
3.) In a partnership profits are shared equally. So, when a partnership is dissolved, the money is divided up among the partners.
4.) TAX—Partnerships are not taxed on their income.
5.) Partners owe each others owe each other the highest level of fiduciary duty.
Partnership by Estoppel
There are instances, even if someone is not a partner in a partnership, where he or she might still be responsible for the debts of the partnership. o Ex.
In a partnership by estoppel, if A, B, and C are partners, and X Is not a partner, X still can be held liable as a partner IF X allows the partners to act in a way that third parties reasonably believe X to be a partner. (P.41)
To be liable under this theory, X must make some manifestation which creates an impression, allowing others outside the partnership to reasonably believe that X is a partner; AND the third party claiming partnership by estoppel must rely on that impression to his or her detriment. (P.42)
Partnership by Estoppel requires: (P.42) o 1.) Actual reliance— o 2.) Reliance must be reasonable— o 3.) Some manifestation (by the alleged partner)—
Difference between Partnership by Estoppel and Apparent Authority: o
Fiduciary Obligations of Partners –(―The punctilio of an honor most sensitive‖): 1.) Partnership Duty of Loyalty: 2.) o
CORPORATIONS CORPORATIONS
Background: Corporations are a method of doing business. It enables promoters to do business through them. The corporation is the one doing the business. The law treats corporations as legal persons as opposed to natural persons. There are articles of corporation filed with the secretary of state (the date they are filed that is the corps birth date) By-Laws: There are set of rules for running the corp. When the corporation wants to conduct business, natural persons that are in charge of its affairs natural persons have to conduct meetings. A record of those meetings are called MINUTES. The agreements (resolutions) made in the meetings are called RESOLUTION. A Corp. can own shares in another corp. Shareholders—are the owners of the corporation. They provide the capital to the corp. and receive corps. Residual net profits (after creditors are paid). The shares are evidenced by stock certificates. You keep a certified copy in the corporate notebook and the original in a safety deposit box. Shareholders are required to meet once a year. In that meeting one of their primary functions is to elect a board of directors and consent to any changes to any organizational fundamental issues (i.e. changes in articles of incorporation)
Board of directors (highest level of fiduciary duty to the corp.)—is a high position of power in corp. They have the exclusive power to manage the corporations business. They determine if and when dividends are paid. They are not required to contribute any money to corp. or share in losses. They are the guardians of the corporation. They do not get to share in the profits of the crop. as a member of the board of directors. However, they can be compensated or not as part of the board of directors. Note: A shareholder could also be on the board of directors. Board of directors elect the officers of the corporation. The officers work day to day in the corporation. Its their job. They are responsible for carrying in day to day business (9 to 5 job) Example: President, VP, secretary, CEO, CFO, They are fiduciaries of the corporation
Dejure corportaion—A straightforward corp. formed by filing articles of incorp. With secretary of state. Corp. by Estoppel Third party seeking to avoid a contract. Elements: 1.) The court treats a firm that is not incorporated as if it were 2.) if a third person regarded them as such 3.) and third person would gain a windfall if they court now failed to recognize the firm as a corp.
Benefits: Allows individuals to take risks shielding them from personal liability (or limited liability). This is the hallmark of doing business as a corporation. Allows individuals to take risks in commerce. Allows more people to take risks and develop business.
Defacto Corp Elements: 1.) Promoters tried to incorporate in good faith 2.) had legal right to do so 3.) AND acted as a corporation.
Southern-Gulf Marine Co. No. 9, Inc. v. Camcraft, Inc. Corporation by Estoppel Facts: Plaintiff, Southern-Gulf Marine Co. No. 9, Inc., contracted with Defendant, Camcraft, Inc., to buy a supply vessel from Defendant. Defendant refused to comply with the agreement, arguing that the contract was invalid because Plaintiff was not incorporated in Texas as the initial agreement stated.
Enterprise Liability involves a bunch of different corporation. The plaintiff wants to include all of the assets of each of the separate corporation that are operating in a single enterprise. The plaintiff wants to pool the assets of the corporation in order to pay for damages suffered. Walkovszky v. Carlton
Piercing the Corporate Veil
Sea-Land Services, Inc. v. Pepper Source
Piercing the Corporate Veil:
General Rule: o Generally, the owners of a corporation, as well as the directors and officers can not be held personally liable for the obligations of the corporation.
Exception: o However, in some circumstances, even though a corporation has been validly formed, the courts will hold the shareholders, officers, or directors personally liable for the corporations obligations to avoid fraud or in justice.
Van Dorn test—2 PRONG TEST (for Piercing the Corporate vail) (P. 213-14) o A corporate entity will be disregarded and the veil of the limited liability pierced when two requirements are met:
PRONG (1.) there must be such unity of interest and ownership that the separate personalities of the corporation and the individual [or other corporation] no longer exist;
Four Factors—to determine whether a corporation is controlled by another to justify disregarding their separate identities:
i. the failure to maintain adequate corporate records or to comply with corporate formalities;
ii. The comingling of funds or assets;
Iii. Undercapitalization; AND
Iv. One corporation treating the assets of another corporation as its own.
PRONG (2.) circumstances must be such that adherence to the fiction of separate corporate existence would sanction a fraud or promote injustice.
Board of Directors (Control):
The Board of Directors are in charge of managing the corporation. The Board of Directors hold office until the next annual meeting unless the Articles of Incorporation states otherwise. They can delegate duties relating to management to Officers who are employees of the corporation. The Board of Directors is vicariously liable for the actions of the officers. The Board of Directors selects the employee/officers and determines how much salary they will make. If a shareholder is not an employee, then the shareholder will only receive money through dividends. The Board of Directors determines how much, if any dividends will be paid. There decisions are limited by fiduciary duties, but they their decisions are also protected by the business judgment rule.
Shareholder Control-- Voting Rights: (Acing 141-143)
Shareholders control the corporation indirectly to some extent by their voting rights.
The right to vote is held by the shareholder of record on the stock transfer book as of the day the book is closed on record day. (Flem. 10) o Shareholders have the right to vote: 1.) for the election and removal of directors (with or without cause at anytime) 2.)to adopt, amend or appeal laws 3.) shareholders must approve ―fundamental corporate changes.‖ (Flem. 10/Barbri 20)
Shareholders may vote in their own self-interest whereas directors are bound by their fiduciary duties and must act based upon their good faith determination of what is best for the corporation and all the shareholders.
Voting Trusts o A device whereby two or more shareholders place their shares in trust. The trust has a trustee who is responsible for voting the shares. o The trust is typically governed by a trust agreement, which determines how long the trust will last and how many shares will be voted.
Typically voting trust are limited to 10 years in most states.
o Benefits:
There is little question about enforcement , since trustee holds and votes the shares.
They avoid problems of deadlocks among shareholders.
o Disadvantages:
Shareholders might be uncomfortable with turning over possession of their shares to a trustee and the loss of control that accompanies relinquishing possession.
Vote Pooling Agreement o An agreement between or among, two or more shareholders which states that the parties’ shares will be voted in a certain way, based upon some criteria.
Vote pooling agreements are very flexible. They can be used in a variety of situations, for example:
It may cover all shareholder votes or only certain votes such as the election of directors;
It may be for an unlimited period of time or a defined period;
It may cover a portion of a shareholder’s shares or all of their shares (e.g. John will vote 60% of his shares pursuant to a Vote pooling Agreement with Sally, but he may vote the other 40% as he chooses); and
It may delegate control to an individual who has a relatively small ownership percentage.
There is no requirement that the person who controls the shares under a Vote Pooling Agreement and that person’s relative percentage of ownership in the corporation correlate.
Shareholder Agreements
o Shareholder Agreements deal with a wide variety of matters. (See Acing 143)
Limitation on Shareholder Voting Agreements: o General Rule
Shareholders may agree on how they will act as shareholders (i.e. they may agree that they will elect each other onto the board of Directors),
But they MAY NOT:
agree on how the directors they elect will act (because directors have fiduciary duties); OR
agree that once they are on the Board of Directors they will elect each other as officers. (Acing 145)
o Exceptions:
Shareholders can agree on how they will vote as directors IF:
1.) the agreement is signed by ALL the shareholders (shareholder unanimity exception) OR
2.) In some states, even if the all the shareholders are not parties to the agreement, the agreement is still enforceable provided that:
a.) the shares of the corporation are closely held;
b.) the minority shareholders (i.e. they were not a party to the agreement) do not object (or cannot object); AND
c.) the agreement is reasonable.
Proxies: (Acing Biz Org--P.126--138)
A shareholder may vote his shares either in person OR by proxy executed in writing by the shareholder OR his attorney in fact. o A proxy is valid for only 11 months UNLESS it provides otherwise. (Barbri, 22)
Proxies are subject to federal control under the Securities Exchange Act of 1934. (Barbri, 22)
A. Proxy Often a shareholder is not able to attend a meeting but would still like to vote on a matter. In these instances, the shareholder may give a proxy to someone else to vote that shareholder’s shares. o A proxy is a written (or electronic) document which is given to someone else, allowing them to vote on a person’s behalf. (Acing, 126)
It is a power of attorney given by the shareholder to someone else to exercise the voting rights attached to his shares. (Flem. 11)
o Proxies may give the holder discretion or no discretion in that they may provide specific instructions on how the shares are
to be voted, or they may leave the discretion of how to vote to the proxy holder.
Importance of Proxies: o Proxies are often important because in order to have a meeting of the shareholders of the corporation a quorum is required. A quorum is a minimum number of people, voters, or votes (in this case shareholders), who must be present at a meeting in order to make the meeting valid. Without the use of proxies a corp’s shareholders would be unable to vote because the quorum requirements would not be met.
[quorum requirements are usually established by statute, but may be modified subject to statutory limitations).]
A typical quorum requirement for shareholder vote would be 50% of votes, plus one. Because shareholders vote based upon percentages, it is the number of shares that is relevant and not the number of shareholders.
Ex.
If a corporation has $5,000 shares issued and an outstanding, 2,502 shares would be required to be represented at a meeting in order to have a quorum.
Revocability of Proxy: (Barbri, 23) o An appointment of a proxy generally is REVOCABLE by a shareholder and may be revoked in a number of ways.
Ex.
In writing By the shareholder showing up to vote himself, OR By later appointment of another proxy.
o A proxy will be IRREVOCABLE only if:
the appointment form CONSPICIOUSLY states that it is irrevocable; AND
the appointment is coupled with an interest
Ex.
A pledgee;
A person who purchased OR agreed to purchase the shares;
A creditor of the corporation who extended credit to the corp. under terms requiring appointment;
An employee of the corp. whose employment contract requires the appointment; OR
A party to a voting agreement.
o The proxy may be ―irrevocable‖ for as long as the interest lasts. (Acing 144) o Death or Incapacity of Shareholder—appointing a proxy does not affect the right of the corporation to accept the authority of the proxy holder
UNLESS:
the corporate officer authorized to tabulate votes receives written notice of the death or incapacity prior to the time proxy holder exercises her authority under the appointment. (Barbri, 23)
B. Proxy Holder The person who is give the authority is called the proxy holder and he becomes the shareholder’s agent to vote the shares in question. (Flem. 11) C. Solicitation of Proxies
Several rules in Regulation 14A, adopted under the SEC Act of 1934 govern the entire proxy process, regulating the manner and means by which proxies may be obtained or solicited.
Prior to the time that any person makes a ―solicitation,‖ the person being solicited must 1st receive or/ have received a ―Proxy statement.‖ (SEC Rule 14a-3). o Solicitation includes: (Acing 127)
Any request for a proxy
Any request to execute OR not to execute, OR to revoke a proxy; and
Furnishing of a form or proxy or other communication, reasonably calculated to result in the procurement, withholding, or revocation of a proxy (See. Long Island Lighting Co. v. Barbash)
Solicitation does not include: (Acing 128)
Public statements or speeches or advertisements stating how a shareholder intends to vote AND the reasoning behind the vote;
Solicitations by someone (other than an affiliate of the corporation OR a party in interest) who does not intend to act on another’s behalf;
Any solicitation made to 10 or fewer persons, provided it is not made by the corporation; AND
Advice to any person with whom the person furnishing the advice has a business relationship.
D. Proxy Fights
A proxy fight—is a battle to obtain control of a corporation through a vote of the shareholders. o Insurgent group—the group who wants to gain control and oust existing management.
They attempt to gain control by soliciting proxies from a large enough number of shareholders to elect its own representatives to the Board of Directors.
Access to shareholders--Rule 14a-7 (SEC Act 1934) provides that when an insurgent group wants to contact shareholders and provide materials related to the contested vote, EITHER:
1.) management may mail the insurgent group’s material to the shareholders directly and charge the group for cost; OR
2.) management can give the insurgent group a copy of the shareholder list and let the insurgent group distribute its own materials (this option is generally disfavored by management. (Acing 129)
o Incumbent group—the existing management
E. Reimbursement for Costs Associated with Obtaining Proxies:
Once the proxy battle is over and one side has won and the other has lost, the parties often turns to the issue of reimbursement.
Incumbent directors/management can use corporate funds to defend corporate policy (i.e. by waging proxy campaigns) as long the expenses are not excessive or illegal AND the shareholders are fully informed. o The rules of reimbursement are the following:
1.) The corporation MAY NOT reimburse either party, UNLESS the dispute involves a question of corporate policy.
The dispute cannot be personal—i.e. an argument that one group is better than the other.
NOTE—because of this rule most proxy battles are presented as matters involving ―policy disputes.‖
2.) The corporation may ONLY reimburse reasonable and proper expenses.
3.) The corporation may reimburse the incumbents whether; AND
4.) The corporation may reimburse insurgents only if they win AND the corporation’s shareholders ratify the reimbursement, after full disclosure.
Shareholder Proposals—(Shareholders’ rights to include their proposals in Proxy statements)—(SEC Rule 14a-8):
Issue—The biggest question that arises in this area is o What needs to be satisfied in order for a shareholder proposal to ―qualify‖ to be included in the proxy statement? (Acing 130)
The proposals must relate to certain areas over which the shareholders have control. o In order to satisfy the requirement that a proposal be within an area which is a proper subject for action by the shareholders, most proposals are worded as recommendations, rather than mandates and are nonbinding in nature.
Shareholder proposals have both procedural and substantive requirements they must meet. o Procedural requirements (to be eligible to submit a proposal):
A shareholder must hold $2,000 in market value of the company’s stock, and have held it continuously, for the 12 months preceding the proposal;
A shareholder may not submit more than one proposal for each shareholder’s meeting;
A proposal may not exceed 500 words
Most proposals must be submitted to the company at least 120 days before the company’s proxy statement is released; AND
Either the shareholder or shareholder’s ―qualified representative‖ must attend the meeting at which the proposal is to be considered.
o Substantive Requirements (if these requirements are not met the proposal will be EXCLUDED):
The topic must be the proper subject for actions by shareholders under state law;
The proposal may not cause the company to violate any law;
The proposal may not address personal grievance or special interest which is not applicable to other shareholders;
If the proposal relates to the company’s operations, those operations must involve at least 5% of the company’s assets, net earnings or gross sales OR the operations must otherwise be significantly related to the company’s business;
Proxy can not violate proxy rules by including material misleading statements;
The proposal may not be beyond the company’s power to implement;
The proposal may not address management functions such as the company’s ordinary business operations;
The proposal may not relate to specific amounts of cash or stock dividends; and
The proposal may not directly conflict with one of the company’s own proposals, being submitted at the same meeting.
In addition, the proposal can be excluded by company if it was previously submitted within the last 5yrs and did not receive the require percentage of votes. (Acing, 132)
Shareholder Inspection Rights
Right to shareholder lists: o Shareholders have an unqualified right to obtain a list of other shareholders and their addresses.
Right to inspection of corporate records: o Shareholders have a right to inspect corporate books and records IF Shareholder has a proper (or legitimate) business purpose.
Ex—Proper purpose:
Shareholder wants to solicit support (consistent with proxy rules) for a shareholder proposal.
Effort to gain control of corporation an effort to gain a shareholder list for someone else trying to gain control of the corporation
Effort to investigate alleged corporate mismanagement or malfeasance
Effort to gather information to asses the value of one’s shares; and
An effort to communicate with other shareholders in connection with a proxy fight or a shareholder proposal. (Acing P.133-1334)
Improper purpose: Finding potential customers for a personal business venture;
Persuading the corporation to adopt one’s social or political concerns, (irrespective of any economic benefit to the shareholders of the corporation)—See State Ex Rel. Pillsbury v. Honeywell, inc.
To institute a suit without substantive basis
Seeking proprietary information (i.e. trade secrets or other intellectual property); and
Seeking information to aid a competitor of the corporation.
Closely Held Corporation & Public Company
Public company o In a public company the stock is often owned by thousands of shareholders, most of whom do not know each other. o The stock of the corporation (or at least one class of stock) has been registered with the SEC and may be bought or sold on one of the public exchanges (i.e. the New York Stock Exchange or NASDQ). o Battles for control—In public companies battles for control can take the form of proxy fights or tender offers.
Closely held Corporation o A closely held corporation’s stock is typically held by a relative few number of shareholders. o Its shares are not publically traded and sales of stock take place in private transactions, typically requiring an exemption from the registration requirements of the 1933 Act. o Closely held corporations are often also called ―private companies and often have shareholders who also serve on the Board of Directors and hold positions as officers as well. o Battles for control—the struggle for control often focuses on a shareholder’s ability to control votes, often through agreements or structure of the business.
FREEZE-OUTS: (Acing 110/148-155)—
Ask Prof about the Delaware (Majority rule) and Massachusettes rule (Minority rule)
A freeze out involves a situation in which a minority shareholder is blocked from holding a paid position with the corporation (i.e. position as an officer or employee), by the majority. o It is not just the actions or circumstances that are relevant in evaluating a ―freeze out,‖ but also the intent behind the actions and the circumstances. o Freeze outs are not always actionable—A shareholder who owns a minority position in a corporation must know that being frozen out is a possibility--based on the mathematical realities of the situations. o Ex. Of an unlawful freeze out: Dominant shareholder pays herself a salary well in excess of a reasonable salary leaving no funds to distribute to the minority shareholders.
Dominant shareholder (Acing 110-115,120) o Generally, shareholders do not owe each other fiduciary duties to other shareholders. o However, because a dominant shareholder has more influence over the corporation and over the Board of Directors, there are certain instances when dominant shareholders are bound by certain fiduciary duties. In these instances only certain ―duty of loyalty‖ transactions are implicated.
In the instance of a dominant shareholder the board is not allowed to ―cleanse‖ the transaction and ratification
by disinterested shareholders just shifts the burden of proof to PL. (Acing 111). o Determining whether a shareholder is dominant?
Question to ask—whether the holdings of a particular shareholder is enough to exert control, over the corporation. Ex. If one shareholder has 25% of corp. stock and all other shareholders each hold 1% (or less), then the shareholder with 25% might very well be dominant. (Acing 112)
NOTE—A group of shareholders acting together , might also be considered to be a dominant shareholder.
o ―Freeze-Outs‖--Partnership Like Analysis (Wilkes case)—(Acing 152)
Shareholders in closely held corporations owe each other a duty of good faith. In a freeze out, the majority, or controlling group must have a ―legitimate business purpose‖ for its action, and, even if there is a legitimate business purpose, the minority shareholder will still have the opportunity to show that the ―same legitimate objective could have been achieved through an alternative course of action less harmful to the minority interest.
RULE 10b-5
Who can use it? o Rule 10b-5 can be used by the SEC and by private individuals in pursuing fraud claims.
Purpose of the Rule:
o It creates liability for anyone who makes misleading representations or omission that is connected to the purchase and sale of a security. o Rule 10b-5 is also used to restrict insider trading. In fact the rule’s greatest impact is to prohibit instances of trading securities on the basis of inside information. o The rule is not about correcting every wrong, it is about full disclosure. Once full and fair disclosure is made, the fairness of the transaction is not an issue under federal law.
Rule statement: o Under rule 10b-5, it is unlawful for any person, directly or indirectly, by the use of any means or instrumentality of interstate commerce or the mails , or of any facility of any national securities exchange in connection with the purchase of any security to:
1.) employ any device , scheme, or artifice to defraud;
2.) Make any untrue statement of a material fact or omit to state a material fact necessary in order to make the statements made, in light of the circumstances under which they were made not misleading; OR
3.) Engage in any cat, practice, or course of business that operates or would operate as a fraud or deceit upon any person,
o in connection with the purchase of any security. A violation of the rule can result in a private suit for damages, an SEC suit for injunctive relief , or criminal prosecution.
If Plaintiff is a Private Person: To recover damages under rule 10b-5 a private plaintive must show: (Barbri 60-62) o 1.) Fraudulent conduct:
PL must show DF engaged in some fraudulent conduct by either:
making a material misstatement making a material omission
OR
o 2.)Materiality:
A statement will be considered material if there is a substantial likelihood that a reasonable investor would consider it important in making her investment decision. No bright line test exists, but a plaintiff need not prove that the information us statistically significant or valid.
o 3.) Scienter:
The conduct complained of must have been undertaken with an intent to deceive, manipulate, or defraud. The Supreme Court has held that statements made knowingly suffice, but negligence alone does not suffice. However, some courts have held that ―deliberate recklessness‖ does suffice.
o 4.) in connection with Plaintiff’s Purchase or Sale of a Security:
The fraudulent conduct must be in connection with the purchase or sale of a security by the plaintiff.
The term ―in connection‖ is interpreted broadly.
The term INCLUDES transactions such as exchanges of stock assets, mergers, contracts to sell, etc.
It EXCLUDES potential purchasers who did not buy (because of the fraud) and people who already own shares and refrain from selling (because of the fraud).
Rule 10b-5 applies to ANY security, in both a public corporation and closely held corporation. (Acing 175)
The focus is on a sale or purchase by the plaintiff. The defendant need not have purchased or sold any securities.
E.g. A nontrading DF, such as a company that intentionally publishes a misleading press release, can be held liable to a person who purchased or sold securities on the market on the basis of the press release.
NOTE—Distinction between private PL and Gov.:
A private plaintiff can not bring an action based on DF’s status as an ―aider and abettor‖ of other defendants’ fraud.
However, the government may base an action on aiding and abetting.
o 5.) Interstate commerce: The fraudulent conduct must involve some means of interstate commerce.
E.g. Use of a telephone OR mail will suffice.
o 6.) Reliance: If a plaintiff brings a private action, there must be a showing that he or she actually AND justifiably relied on the defendant’s misrepresentation.
OMMISSIONS: In the case of an omission reliance is presumed.
There are some cases in which a company or an officer of the company has a duty to speak but do not, in such cases, the company’s failure to speak is considered an omission.
Rationale: o Given the duty to disclose, a person is entitled to rely that appropriate disclosures will be made. In effect, they can rely that on silence as a statement that there are no material information that the company is required to disclose , which has not been disclosed. (Acing 180)
FRAUD ON THE MAKET THEORY: Under the fraud on the market theory, in a misrepresentation action on securities sold in a well defined market (e.g. the national stock exchange), reliance on any public misrepresentations may be presumed. (Barbri, 62)
This theory is generally applied in instances involving a misrepresentation (usually involving a large group of people), which involve an affirmative statement (NOT an omission), in which plaintiff cannot show that they each relied on the statement. (Acing 180) o The fraud on the market theory was developed as a way to show how a large group of people could have relied on a misstatement.
The fraud on the market theory creates a rebuttable presumption that, even if the plaintiff did not hear the misstatement, there was still reliance. (Acing 180)
The theory creates a presumption that the investor relied on the integrity of the market price and so the investor does not even need to have seen or heard the misrepresentation to satisfy the reliance element.
If DF wanted to avoid liability, DF would need to rebut the theory by showing that the misrepresentation: 1.) did NOT affect the market price; 2.) DF issued corrective statements which
were also priced into the market; 3.) PLs would have bought OR sold anyway, even with full disclosure; OR 4.) DF did not rely on the integrity of the market.
Fraud on the ONLY works when there is an efficient market, It does NOT apply in private transactions.
o 7.) Causation:
The plaintiff has to show that statement caused the loss. It is not enough to show that the misrepresentation caused the transaction.
The plaintiff needs to show that the misrepresentation caused the lass itself. (Acing 181)
o 8.) Damages:
Plaintiff must be able to show injury/damages. Damages in a 10b-5 may take the form of:
Actual damages: o Difference between the price actually paid/or received AND the price that should have been paid without the 10b-5 violation.
consequential damages
Punitive damages (in extreme cases)
Note—Private plaintiffs have to prove two additional elements (Reliance & damages)—ASK PROF!!!
INSIDER TRADING--Rule 10(b)(5)-1 o Insider trading involves a very specific trade under 10b-5 in which someone ―deceives‖ by omission. The ―omission‖ is that the person is in possession of information, which if known, would impact the price of the security. The securities laws try to prevent theses situations by restricting the ability of someone in possession of such information to use it to profit from trading. o A person violates rule 10b-5 if by trading, he or she breaches a duty of trust and confidence owed to: 1.) the issuer; 2.) shareholders of the issuer; 3.) or in the case of misappropriators. (Barbri 62) o There is NO requirement of reliance or causation, ONLY scienter and materiality. (Acing 192). o Insider trading falls into two categories Traditional insider Trading and Misappropriation. (Acing 192). o RULE STATEMENT:
Under 10(b)(5)-1, an individual is prohibited from trading securities on the basis of inside information. A person violates this section if by trading, he or she breaches a duty of trust and confidence owed to: (1) the issuer; (2) the shareholders of the issuer; (3.) or in the case of misappropriation.
Two different types of people can be liable for insider trading—the insiders who have access to the inside information and the people who give and receive tips based on the inside information (tippers and tippees).
Tippers: Tippers are individuals who give tips of inside information to someone else who trades on the basis of such information.
Tippees: A tippee is the individual that receives the inside information from the tipper.
o Insiders: An insider is anyone who by virtue of his /her position with the company owe a duty of trust and confidence to their corporation and breaches the duty by trading on inside information for their personal benefit. (Barbri 62/Acing 191)
Ex. of Insiders: directors, officers, controlling shareholders, and employees of the issuer, etc.
Ex. Constructive insider: (also owe duty of trust and confidence): A securities issuer’s CPA, attorneys, accountant, underwriter, consultant bankers performing services for the issuer, etc.
Tipper-Tippee Liability (Traditional Analysis—Prior to O’Hagan case)
o IMPORTANT--The above analysis involves a typical; situation in which an insider actually trades on that information. However, individuals might also share inside information with others. o The insider trading rules limit the dissemination of material, non-public information (―tipping‖) by someone in possession of information (―the tipper‖) and prohibit the use of that information by the recipient (―the tippee‖). Also, tipper/tippee liability must also be based upon breach of duty AND, with regard to the tippee, knowledge of that breach of duty.
An insider is only liable for tipping if he or she violated a fiduciary duty by providing the tip.
In this analysis, the law is only interested in the duty of loyalty.
o Tipper Liability: A tipper is laible if he or she:
1.) Discloses material, non-public information to others (i.e. did he or she tip any one?); AND
2.) that disclosure is made in breach of a fiduciary duty of loyalty (OR in the case of a tippee turned tipper with the knowledge that the information was obtained as a result of breach of a fiduciary duty of loyalty); AND
The existence of a breach is measured by whether the tipper personally benefitted, directly or indirectly, from the disclosure.
o A personal benefit is broadly defined. It can include any consideration, such as a monetary benefit, a tip in exchange for a tip, an enhanced reputation, or even a gift. o A personal benefit is not the desire to do public good.
3.) Someone trades on that information. o A tipper is liable if anyone along the chain of information dissemination trades on the information, not just the tipper’s direct tippee.
NOTE---The tipper is not liable f no ―personal benefit‖ is received OR if no one trades on the information.
o Tippee’s Liability:
A tippee’s liability is based completely on the tipper’s liability. If there is no breach of duty by the tipper, there can be no liability. If the tipper has no liability, then the tippee can not have liability.
The tippee can ―inherit the tipper’s fiduciary duty to the shareholders of the corporation not to trade on material non-public, information ONLY when:
1.) tippee receives material, non-public information which was disclosed in
breach of a fiduciary duty by an insider for the insiders personal benefit at the company who’s stock is being/or will be traded, AND
2.) the tippee knows OR should know, that the tip was a breach of the tipper’s duty; o Ex. If insider provides a tip in exchange for money , the tippee only needs to know that the insider tipped for money, not that tipping for money constitutes a breach of fiduciary duty.
3.) the tippee trades on that information; OR
Provides the information to others (i.e. tips and becomes a tipper), receives a personal benefit for the tip and someone trades on that information.
o NOTE—A person can be liable both as a tipper and a tippee:
Any tippeee who knowingly receives material, non-public information, arising out of an insider’s breach of duty, can also be liable as a tipper if that individual passes that information along to others in exchange for a personal benefit.
o If by overhearing the inside information, the person realizes (or should realize) that he or she is overhearing a breach of duty, then they may not trade on the information. o A tipper may protect its tippees from liability by not telling the tippee the source of the information.
If the tippee does not know the source of the information, the tippee can not know or have reason to know of the breach.
Also, if the tippee truly did not know the source of the information, the information might not be material.
MISAPPROPRIATION (Post—United States v. O’Hagan) o Background: Prior to the O’Hagan case, in order to find liability, one needed to show that the defendant breached a duty (or in the case tippee liability, that the information arose out of a breach of duty) to the company in whose stock the defendant had traded. o The misappropriation theory broadens liability to extend to those who breach a duty to the source of the information. Instead of asking about a breach of fiduciary duty to the company, the misappropriation theory asks about fiduciary duties to the source of the information and about whether DF breached (or knew about breach of) a duty arising out of the relationship of trust and confidence to the source of the information. o COMPLETE –RULE:
A person commits fraud in a securities transaction when he or she ―misappropriates‖ material, nonpublic information in breach of a duty (typically a duty of trust and confidence ) owed to the source of the information, AND does not disclose his intentions to trade on that information.
NOTE— The breach of duty is NOT just a fiduciary duty owed to the company whose stock is being traded; rather a breach of duty owed to the source of the information.
In traditional insider trading, if there is no breach of duty by the insider, there can be no violation by the tippee, but under misappropriation a breach of duty can arise at any point in the chain of information dissemination. (Acing 202) o In evaluating whether there might be misappropriation liability, one needs to ask if anyone along the chain of information dissemination breached a fiduciary duty or a duty arising out of a relationship of trust and confidence. (Acing 190)
Since Rule 10b-5 requires some fraud or deception under the misappropriation theory the fraud or deception occurs when the misappropriation deceives the source of the information by letting the source believe the information will be treated as confidential.
As in the traditional insider trading, tippees who do not trade, do not become liable, UNLESS they become a ―tipper‖ and acquire tipper liability. (Acing 204)
o Short Exam Rule statement (for Misappropriation):
Under 10(b)(5)—2, a person can be prosecuted by the government for trading on market information in breach of a duty of trust and confidence owed to the source of the information. Under a misappropriation theory, the duty need not be to the shareholder.
o List of Circumstances under Rule 10(b)-5 under which people will be deemed to owe a duty of trust and confidence in a misappropriation case: (Non-exhaustive)
1.) when a person agrees to maintain information in confidence
2.) the parties have a history of sharing confidences
3.) When the person receives the information from a spouse, child, parent or sibling (unless person can prove they had no reason to know the information was confidential). (Acing 201)
RULE 14e—3 and Insider Trading Relating to Tender offers:(Acing 205-207)
SECTION 16(b)—SHORT SWING PROFITS (This is a rigid rule-it either applies or does not)
o The purpose of section 16(b) is to prevent unfair use of inside information and internal manipulation of price. This is accomplished by imposing strict liability for covered transactions whether or not there is any material fact that should or could have been disclosed –NO PROOF OF USE OF INSIDE INFORMATION IS REQUIRED. (Barbri, 64) o This rule DOES NOT APPLY to closely held corporations. o This rule APPLIES TO publicly held corporations whose shares are traded on a national exchange OR that have at least 500 shareholders in any outstanding class and more than $10 million in assets. o RULE:
Section 16(b) of the Securities Exchange Act of 1934 provides that any profit realized by a director, officer, or shareholder owning more than 10% of the outstanding shares of the corporation from any purchase and sale, or sale and purchase, of any equity security of the corporation within a period of less than six months must be returned to the corporation. (Barbri, 64)
o Elements:
1.) Purchase and Sale or Sale and purchase within six months;
2.) Equity Security;
An equity security, is a security other than a pure debt instrument, including options, warrants, preferred stock, common stock, etc.
3.) Officer, Director, or More than Ten Percent Shareholder;
Deputization of Director:
A person may deputize another person to act as his representative on the board. In these cases, securities transactions of the principal will come within section 16(b).
4.) Profits realized Includes not only traditional profits, but also losses avoided.
SARBANES-OXLEY ACT of 2002 (―SOA‖)—ASK PROF HOW MUCH WE NEED TO KNOW!! o The Act was an effort to increase disclosure by, and oversight of, publicly traded companies in the wake of the Enron scandal. o Some of the requirements of the Act are:
1.) A publicly traded company’s president or CEO as well as its Chief Financial Officer (aka Treasurer) must sign its financial statements, verifying these officers have each reviewed the statements, the statements are accurate, and that the signatory takes responsibility for what is in the statements.
2.) Public companies may not make personal loans to their officers or directors and must adopt a ―code of ethics‖ for their respective CEOs and various financial officers.
3.) SOA requires that attorneys who represent publicly held companies report evidence of material violation of the securities laws OR breach of fiduciary duty OR similar violation by the company or any agent thereof… to the company chief legal officer or CEO.
If proper action is not taken in response to such a report, the attorney is then required to refer the matter to a higher authority within the company.
For more information see--Acing 186/Barbri 66
MERGERS & ACQUISITIONS o Merger: A merger occurs when two companies come together to form one company. If one of the two original companies survives then the process is called merger. The term is used to describe any combination of firms. o Consolidation:
If the combination results in a new company, then the process is called a consolidation.
o There are three basic ways companies may combine:
1.) Statutory merger:
A statutory merger involves a combination in accordance with applicable state law.
In traditional mergers the two companies negotiate the percentage ownership that each respective company’s shareholders will have in the new firm. In a merger/consolidation the consideration passes to the Target shareholders.
Transaction must be approved by the shareholders of both companies Shareholders who do not approve the transaction are typically entitled to appraisal rights, UNLESS both companies are publically traded.
2.) Sale of Assets: Occurs when one company purchases the assets of another. In a sale of assets the Acquirer corporation gives the Target corporation either stock or cash (or some combination of cash and stock) in exchange for the Target corporation’s assets. Following the sale the Target corporation usually has few or no assets, other than the consideration paid to the Acquirer.
In a sale of assets, the Target must usually make its creditors aware of the sale so that creditors may make a claim against the consideration being paid for the Target’s assets.
Once the Target’s creditors have been paid and the Target has received the balance of the
consideration paid by the Acquirer, the Target may then, issue a liquidating dividend to its shareholders.
If the target has a substantial number of assets, the sale of assets can be a more complicated process than a statutory merger because, among other requirements, a sale of assets will require the transfer of ownership of each of the specific asset of the Target corp.
In a sale of assets the shareholders of the Target corp. are entitled to vote on a sale of all or substantially all of the assets.
In Delaware the shareholders of the Acquirer corp. are not entitled to vote, but some other states do allow shareholders in the Acquirer corp. to vote on transactions involving the sale of assets.
In Delaware, dissenting shareholders in the Target corp. are NOT entitled to appraisal rights, BUT some states so allow the Target company shareholders in a sale of asset transaction appraisal rights.
Dissenting shareholders in the Acquirer corp. are NOT entitled to appraisal rights.
The acquiring corporation will obtain the Target corp’s assets, BUT NOT its liabilities (Acing 22324)
3.) Sale of Stock:
A stock sale involves the purchase of the stock of one company by another. Since the Target company provides stock instead of assets, the Target corporation winds up as a subsidiary of the Acquirer corp. As a result, there are two surviving corporations instead of one.
Since the Target corporation survives, its liabilities also survive.
o NOTE—Technically the first process is a merger or a consolidation and a sale of stock or assets is an acquisition. o In most basic of mergers one company is identified as the ―acquirer‖ while the other is identified as the ―Target.‖
De Facto Merger Doctrine: o The Defacto Merger Doctrine is applied when a company manipulates the form of a transaction to avoid a result which would have applied had the transaction been accomplished in a more traditional manner. (Acing 227)
Rationale: When a shareholder is faced with a transaction that so fundamentally changes the corporate character of a corporation and the interest of the plaintiff as a shareholder therein, to refuse him the rights and remedies of a dissenting shareholder would in reality force him to give up his stock in one corporation and against his will accept shares in another. (Farris v. Glen Allen Corp.—this case is in the new casebook)
o Under the de facto merger doctrine, if the transaction has the substantive effect of a merger, then the shareholders of the companies involved in the transaction are entitled to the same statutory protections they would have received had there been a merger. (Acing 227) o Delaware and a majority of jurisdictions do not recognize the de facto merger doctrine,
because the courts have reasoned that states have different processes to achieve the same results and, as long as the process is legal, courts should not recast the transactions which would only increase uncertainty and litigation (See Hariton v. Arco Electronics). (Acing 227)
FREEZE OUT MERGERS: o Freeze out mergers (aka ―cash out mergers‖) are a process by which, in some states, a majority shareholder may force the minority shareholders to sell their stock in a merger with (or acquisition by) an entity owned by the majority shareholder(s), enabling the majority shareholder(s) to acquire 100% control of the company. o These transactions involve a conflict of interest.
The standards for reviewing transactions involving a controlling shareholder and a conflict of interest and a merger is ―entire fairness.‖ (Acing 228)—Cross check with class notes!!!
The entire fairness standard requires that the transaction be accomplished by both 1) a fair process (i.e. fair dealing) and 2.) fair price.--
THIS IS DIFFERENT FROM WHAT IS IN YOUR NOTES!!! (See Week 12)
As long as the majority shareholder effectuates the freeze out merger at a fair price and by a fair process, then the merger may proceed.
o Different states have different requirements for cash out mergers:
California & Delaware—Short Form Merger (―Freeze out‖/‖cash out‖): California will only allow a majority shareholder to ―cash out‖ the minority in a ―short form merger‖ in which the majority own at least 90% of the corporation and the transaction must be approved by the California Commissioner of Corporations. (Acing 229)
Statutory Short Form Mergers: Short form mergers are often used following tender offers to eliminate any remaining minority shareholders. (Acing 229)
HOSTILE ACQUISITIONS:
Unlike ―Freeze Out Mergers‖ (and statutory short form mergers) were both firms’ Board of Directors must agree in order for the transaction to proceed, there are situations in which one firm or individual wants to acquire another, and the Board of Directors of the Target firm does not want to be acquired or does not want to be acquired by that particular person or firm. (Acing 230)
o The process of excluding the Board from an effort to acquire control of a company is generally referred to as ―hostile.‖ o There are three main approaches that might be used to circumvent the Target’s Board of Directors: (Acing 230)
Tender offers—are a public offer, usually made to all the shareholders of the Target corporation wherein the Offeror offers to buy all of the Target’s shares at a specific price. (Acing 230)
NOTE: Any person who commences a tender offer in an effort to acquire more than 5% of a company must comply with the extensive rules and regulations arising under sections 14(d) and 14(e) of the 1934 Act. --(Acing 231)
Direct Share Purchases—involve direct purchases of stock by the potential acquirer in the public market or privately negotiated transactions with limited number of shareholders.
Proxy Contest—is a battle for control of the Target’s Board of Directors through the shareholder voting process.
TAKEOVERS: (Acing 230-31) o Hostile Takeovers— A hostile takeover involves an effort to acquire sufficient shares to control the board of Directors, and then
replacing the board of Directors with the Acquirer’s own slate of directors.
This process is often followed by some form of statutory merger of the acquired Target entity into an entity controlled by the Acquirer and may or may not involve cashing out the remaining shareholders.
Defense Tactics: (Acing 232) o Below are some of the tactics companies use to resist hostile takeovers:
1.) Greenmail: Greenmail involves a payment made to a potential acquirer to incentivize them to leave the company alone.
It usually occurs when…..
2.) White knight: 3.) Poison pill: 4.) Share Repurchases: 5.) Staggered Board: 6.) Shark repellent: 7.) Golden Parachutes: 8.) Pac-man Defense:
Fiduciary Duties in Takeover Defenses: (Acing 234) o
DISSOLUTION & LIQUIDATION
