Chapter 2



Chapter 2

Chapter Outline

(last updated 21 Aug 06)

Chapter 2 Introduction to Corporate Law

A. Overview

• Key characteristics of the basic business corporation

o separate entity 

o perpetual existence

o limited liability

o centralized management

o transferability of ownership interests

• Overarching legal question: How do law and contract enable each of the participants protect themselves? 

• Overarching policy question: For whose benefit should the corporation be run?

B. Some basic terms and concepts

1. corporate statutes: MBCA vs. Delaware

2. judge-made corporate Law

3. corporate choice of law: the internal affairs doctrine

4. organic documents: Articles vs. Bylaws

5. the corporate actors: shareholders / directors / officers

6. corporate securities: common stock / preferred stock / debt

7. corporate Planning

C. Fiduciary duties and the business judgment rule

• limits on agent's actions 

• nature of fiduciary duties 

o source 

o modify by contract?

• Duty of care 

o aspirational standards 

o Business Judgment Rule

• Duty of loyalty 

o direct and indirect conflicts 

o judicial intervention

• Duties of shareholders

D. Equitable limitations on corporate actions

• valid action, but inconsistent with limits placed on other powers

o avoiding statutory protection not improper

o independent legal significance

• valid action, but violation of duty 

o perpetuating in office is "inequitable purpose"

o judiciary intervention

Chapter 2

An Introduction to the Law of Corporations

Class Notes

A. Overview

B. Some Basic terms and concepts

|1. Corporate statutes:  MBCA vs. Delaware |

|Which statute appears to be older?  Compare the structure of each: |

|MBCA (on which NC Business Corporation Act is modeled) |

|Delaware General Corporation Law |

|Does either statute mention fiduciary duties?  duty of care?  business judgment rule? |

|MBCA § 8.30 |

|Delaware § 144 |

|  |

|4. Organic documents: articles vs. bylaws |

|How do you know when a corporation's annual meeting of shareholders will be held? |

|NC BCA § 55-7-01 (annual meeting) |

|Who controls the contents of the bylaws? |

|NC BCA § 55-10- 20 (amendment of bylaws) |

|  |

|5. The corporate actors: shareholders / directors / officers |

|What are the functions of and who chooses -- |

|shareholders |

|directors |

|officers |

C. Fiduciary duties and the business judgment rule

|Bayer v. Beran |NY court: |

|(NY Sup. Ct. 1944) |Eliminating for the moment the part played by Miss Tennyson in the |

|  |radio advertising campaign, it is clear that the character of the |

|Celanese Corporation of America is a large publicly traded |advertising, the amount to be expended therefor, and the manner in |

|corporation.  Even though WWII is raging, the company wants to |which it should be used, are all matters of business judgment and |

|advertise itself on radio.  Its president Camille Dreyfus is married|rest peculiarly with the discretion of the board of directors.   ...|

|to an entertainer, Jean Tennyson.  Dreyfus asks the board to approve|The expenditure was not reckless or unconscionable. |

|a $1 million advertising program to sponsor a classical music radio |Now we have to take up an unfortunate incident, one which cannot be |

|show.  The board approves.  Unknown to the directors, Tennyson is |viewed with the complacency displayed by some of the directors of |

|one of the featured singers on the radio show, earning $500 per |the company...   |

|evening.  Put yourself in the position of a Celanese shareholder.  |  |

|What's wrong with this arrangement? |After such careful scrutiny.... the evidence fails to show that the |

|How does the court describe a director's duties?  |program was designed to foster the career of Miss Tennyson as an |

|What is the difference between duty of care and duty of loyalty? |artists.... there is nothing in the testimony to show that some |

|Where do these duties come from - statute, corporate documents, |other soprano would have enhanced the artistic quality of the |

|court imagination?  |program or its advertising appeal ... her compensation was in |

|To what extent does the court inquire into the wisdom of the |conformity with that paid for comparable work ... She received less |

|corporate decision to sponsor a radio show?  |that other artists on the program ... It also appears that the |

|To what extent does the court inquire into the specifics of Ms. |popularity of the program has increased since it was inaugurated |

|Tennyson's relationship with the radio show?  | |

|Why the different level of inquiry?  | |

|What is the risk that the court seeks to guard against? | |

|Gamble v. Queens County Water Co. |New York court: |

|(NY 1890) |A shareholder has a legal right at a meeting of the shareholders to |

|  |vote upon a measure, even though he has a personal interest therein |

|Mullins, an entrepreneur, built a water system that he sold to the |separate from other shareholders. In such a meeting, each |

|local water company, Queens County Water Co. One of the Water Co |shareholder represents himself and his own interests. |

|shareholders complained that Mullins was a Water Co. shareholder and|  |

|should not be able to engage in self-dealing. |[The majority's action] must not be so detrimental to the interests |

|  |of the corporation [as to constitute] a wanton or a fraudulent |

|Should a shareholder be subject to the same duties as a corporate |destruction of the rights of the minority. |

|director? |  |

|What's wrong with shareholder self-dealing? |Generally, the rule must be that in such cases the will of the |

|Should things be different if the shareholder has voting control of |majority shall govern. The court would not be justified in |

|the board of directors? |interfering, even in doubtful cases, where the action of the |

| |majority might be susceptible of different constructions. ... |

| |Otherwise the court might be called upon to balance probabilities of|

| |profitable results ... This no business for any court to follow. |

D. Equitable limitations on corporate actions

|Bove v. Community Hotel Corp of Newport, (RI 1969) |Rhode Island court: |

|  |The question is not whether recapitalization by the merger route is |

|Newport Hotel's business has floundered for a long time, and the |a subterfuge, but whether a merger which is designated for the sole |

|company has not paid dividends to its long-suffering preferred |purpose of canceling the rights of preferred stockholders with the |

|shareholders for 24 years!  But there's a chance for a turnaround.  |consent of less than all has been authorized by the legislature. |

|An investor group is willing to put in new capital, on the condition|  |

|they receive a large chunk of common stock.  The problem is that |... that a possible effect of cooperate action under the merger |

|there can't be a new issue until any arrears on preferred dividends |statute is not possible, or is even forbidden, under another section|

|have been paid. |of the general corporation law is of no import ... |

|  |  |

|What can be done?  The charter could be amended to rescind the | |

|rights to dividends in arrears - but all the preferred would have to| |

|approve unanimously.  Or the corporation could be merged into a new | |

|corporation under terms which would pay preferred shareholders only | |

|the current value of their stock - which would require only a 2/3 | |

|vote of preferred.  What does management choose?  Why might some | |

|preferred shareholders want a merger?  What's the argument of the | |

|holdout shareholders? | |

|Schnell v. Chris-Craft Industries |Delaware Supreme Court: |

|(Del. Sup. Ct. 1971) | "... Management has attempted to utilize the corporate machinery |

|  |...    for the purpose of perpetuating itself in office ...    for |

|A group of Chris-Craft shareholders, unhappy with management's |the purpose of obstructing legitimate efforts of dissident |

|lackluster performance, sought to replace the board. |stockholders ... to undertake a proxy contest against management....|

|  | |

|Can shareholders vote out the board because the company is in the |  |

|"doldrums"?  Because shareholders just dislike the directors?   | "These are inequitable purposes, contrary to the established |

|How did the Chris-Craft board of directors respond?   |principles of corporate democracy." |

|How did the board justify its actions?  | |

|How did the dissident shareholders respond?  |Compare two cases: |

|What duty did the incumbent board violate? |Can you distinguish Schnell and Bove?  In both cases the board could|

| |do something, but it was "inequitable" in one and of "equal legal |

| |significance" in the other? |

| | |

| Board action - Timeline - 1971 |Delaware's pre-eminence |

| Sep 17 - Shareholder group forms |Notice how long it took the Delaware judiciary to decide the case?  |

| Oct 18 -  Board meeting amending bylaws |Does this decision help attract incorporation in Delaware? |

| Oct 27 -  Shareholder group learns of new meeting date |Nov 1 -  Shareholders group files action |

| Dec 08 -  Proposed new date for meeting (Cortland, NY) |Nov 10 -  Chancery Court grants group access to shareholders' list |

| Jan 11 -  Original date for meeting (bylaws) |Nov 18 -  Chancery Court denies preliminary injunction |

|Bylaw amendment of October 18: |Nov 29 -  Supreme Court remands case to postpone meeting |

|    "1. Annual Meeting.  The annual meeting of stockholders of | |

|Chris-Craft Industries, Inc. (hereinafter called the "Corporation") | |

|shall be held for the election of the directors * * * in the two | |

|month period commencing December 1 and ending on January 31 and at | |

|such time as shall be designated by the Board." | |

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