Business Organziations

  1. Elements of Proxy Fraud
    • Misrepresentation or omissions
    • Materiality (establishes reliance)
    • Loss Causation (shows that there is a harm to the shareholders)

    (Intent not required)
  2. Items for Proxy proposals the board does NOT have to consider
    • Something that violates state law
    • Contrary to proxy rules
    • Relates to a personal claim or greivance
    • Deals with ordinary business operations
    • Relates to the election of an office
    • Similar Previous Proposals
    • Relates to specific cash or stock dividend
  3. Things to think about when you go public
    • Must file a registration statement that (1) Fully discloses all material facts for investors and (2) Does not make a material misrepresnation of the facts
    • Provide full disclosure to the public
    • If you are planning on selling $5million and up in assets to the public
  4. Safe Harbor Exemptions for SEA 1933
    • When you sell up to $1 million to any number of investors within 12 months
    • When you sell up to $5 million with 35 investors within 12 months
    • An offereing with no limit up to 35 sophisticated investors
    • An Intrastate offering
    • Accerdited Investors (those with 1m in net worth or 200k salary)
  5. Expansion of Intrastate Exemptoin
    • The issurer must be a resident of and doing business in the state or territory where all the offers are being made
    • At least 80% of the proceeds of the offering must be used within the state
    • The issurer's principal office must be located in the state
    • All offerees and purchasers must be residents of the same state as the issuer
    • All the securities must come to rest within the state
    • No resale of the securities can be made within nine months following the close of the offer
  6. Questions to ask on the Exam regarding Offerings
    • Is this a private offering?
    • Do any of the exemptions apply?
    • Are there multiple offerings that may be interegrated or aggregated?
    • Are there any Blue Sky law or federal regulations that are applicable?
    • Does the offering involve ommission, misrepresentations, or self-dealing?
  7. Public Offerings cases
    • SEC v. Purina: To be exempt from registration requirements when offering to employees, employees must have sufficient information to make an informed business decision
    • Smith v. Gross: A solicitation contract is subject to registration requirements if it is (1) an investment of $ (2) a common enterprise (2) with profits coming solely from the efforts of others (earthworm case)
  8. Sarbanes Oxley Requirments
    • Officers must certify annul or quarterly reports that they have (1) reviewed the report and that it is not untrue and w/o omission (2) there are no material changes that could affect the controls
    • No personal loans to executive or directors (except for home improvement, purchase and consumer credit)
    • Audit Committee: must create an independent audit comittee that is independent from the directors and the co. (accountants cannot provide consulting service concurrently)
    • Attorneys Legal Obligations: must report evidence of a material violation of securities law or breach of fiduciary duty to chief counsel or CEO. If action not taken by attorney, must inform the audit committee. If no action is taken, then attorney must w/d from representation and report to SEC
    • New Security-related Crimes:Violation to destroy records or impede and investigation; felony to retaliate against whistleblowers
  9. People NOT subject to SEA 1933
    • Underwriter:Any person who has purchased shares with a view toward further distribution
    • Issuer:Corporation whose shares are being offered or any person controlled by the corp
    • Dealer:Person who acts as an agent, broker, or principal part-time or full-time in the business of offering/buying/selling
    • Accredited Investors:Banks, Insurance Co., Invesment Co., Business Development Co., Employee Benefit Plans
  10. Difference between Derivative Actions and Direct Actions
    • Derivative Actions:Action by a director or a shareholder on behalf of the corp. against director or board for breach of duty. Corp. is a defendant, but remedy goes to the corp
    • Direct Actions:Brought by a shareholder against the corp or a purchaser or seller. Remedy goes to the shareholder
  11. Duty of Care
    • Obligations:Resaonable investigation, reliance, and honest error
    • Violation: Negligance, Waste, Recklessness, Insider-Trading
  12. Duty of Loyalty
    • Obligation:Full and complete disclosure; non-compete
    • Violation:Self-Dealing, usurpging the corporate opportunity; interested transaction; insider trading
  13. Duty of Good Faith
    • Obligation:Absence of Ill-Intent; Reasonable care, prudence
    • Violation:Bad Faith, Insider Trading
  14. What doe the Business Judgment Rule do?
    • Insulated Directors from liability for their business decisions
    • Does NOT apply to interested actions or self-dealing unless the directors are disinterested after giving full and complete disclosure. (If all directors are interested, then the board can appoint a committee to go to the shareholders).
  15. When does the Business Judgment Rule arise?
    • When the Director exercises reasonable care in performance of the Duties. (Includes reasonable reliance on experts)(Full disclosure required)
    • Approve or ratify a decision after the fact
    • Decide whether to pursue a derivative action against a director (Directors must be disinterested and give full/complete disclosure)(If interested, form a committe to go to the shareholders)
    • Decide whether to dismiss a derivative action by a shareholder given w/o demand (on the basis that the demand was futile)
  16. Cases regarding the Business Judgment Rule
    • In re Caremark: No liability on directors for bad/stupid/erroneous decisions when the directors acted in GF and took reasonble steps to institute a rational process (Medicare kickback program)
    • Stone v. Ritter:You cannot bring a derivative action on breach of Good Faith alone; you must first establish a breach of loyalty or care (bank had to pay 50m in fines for filing violating filing requirements)
    • Aronson v. Lewis:Shareholder must make demand to board before filing derivative action UNLESS the complaint alleges enough facts to show the demand would be futile and the board is interested and not independent (10-year employment K post-retirement)
    • Cuker v. Mekalauskas:BJR may be invoked after a derivative suit is brought to dimiss it if the corp. appoints an independent committee that makes are reasonble investigation and makes a written report [FACTORS:(1) litigation committee was disinterested (2) was assisted by counse (3) prepared written reports (4) concluded adequate investigation (5) acted in GF (7) did what was in the best interest of the corp.
  17. Steps to Bring a Derivative Action
    • Go to the board and make a demand
    • Board decides if the BJR applies
    • Board must be disinterested (disinterest is presumed by directors even though they may incur liability as directors)(holding stock or being a family member does not make the director an interested party)
    • If a disinterested board say that no BJR applies, the suit goes forward
    • If a disinterested board says that the BJR does applies, the suit stops
    • If there is no shareholder derivative action, the shareholder can puruse a direct action
    • If the shareholder can show that the board is interested and a demand upon them would be futile, the shareholder may make a demand directly to the SEC
  18. Director's Duty of Care
    • General duty to refrain from negligence and/or imprudence (exception when the BJR applies)
    • Liability:Director is personally liable for all direct and proximate losses suffered by cooperation; a director is liable if it is an illegal action (regardless of good faith or if negligent)
    • Defenses:Relying on experts, age/experience, unanimous shareholder ratification
  19. What is self-dealing?
    When a shareholder or directors are pesonally involved in a transaction with the corporation and benefit at the expense of the corporation or the minority shareholders
  20. Self-Dealing Rules of Thumb
    • If a court believes that a transaction is fair, it will be upheld
    • If a transaction involves fraud, is overreaching, or wastes corporate assets it will be set aside
    • If it doesn't involve elements in 2 but the court is not sure if if is fair, it will be upheld only if the D can sholw the transaction was approved by a disinterested board without participation by the interested parties after a full disclosure of the material facts
  21. Intrinsic Fairness Test
    • Applies when the Business Judgment Rule is not available b/c all parties are interested
    • If a disinterested board or shareholders ratify the action, apply the BJR (burden on P to show the transaction is unfair)
    • If the transaction is fair to the corporation based on the motives of the director and effect on the corp., the action will be valid
    • If an interested director is required for a quorum and particpates in the meeting but does not vote, then apply the intrinsic fairness test
  22. Where does self-dealing usually arise?
    • A director gives or receives a personal loan to/from the corp.
    • Director decides on: Retirement plan for himself
    • Director decides on compensation for himself
    • Distribution to the shareholders who are also directors
    • Purchase of Director's Property
  23. Cases on Self-Dealing
    • Brehm v. Eisner:Executive Compensation will not be deemed excessive as waste when it is approved by a disinterested board (UNLESS:there was no reliance on an expert, there was no reliance on good faith, the cost of the package was so material and available that the failure to consider results in gross negligence, the decision was unconscionable)
    • Weinberger v. UOP:interlocking directors owe a strict duty to both corporations in a cash merger to ensure an overall fair price in the merger ($24/share v. $21/share)
    • Marciano v. Nakash:Interested transactions are not voidable per se; if the transaction is fair to the corp a court will not void simply b/c of self-interest (Shareholder/officer loaned the company $, the corp went bankrupt and the other shareholder/officer sought to void the loan)
  24. Corporate Opporunity Doctrine
    • Director cannot take an opporunity that should first be offered to the corporation if:
    • (1) the opportunity was discovered while working for the corp
    • (2) the opportunity is in the same or competing buisness
    • (3) The corporation has an interest in the opportunity
  25. General rules under Corp. Opprotunity Doctrine
    • If there is no logical relaiton to the business, or the corporation lacks the financial and technical capability to pursue the opportunity there is no corporate opportunity as a matter of law
    • If there is no fraud or breach of fair dealing (b/c of full disclosure) and the opportunity is found not to be a corp opp., no liability
    • If there is a corp opp. but no breach of any duty, there is no liability
    • If the corp. votes not to take advantage of the opportunity, the officer/director can take advantage
    • Presence/absence of GF or loyalty is NOT an absolute defense if it is closely related to the corp
  26. Caes re Corporate Opportunity
    North Harbor Golf:Opportunity where director repeatedly did not disclose opp to buy property around the golf course; opp must first be offered to the corp before acting on it
  27. Remedies for violation of Corporate Opportunity Doctrine
    • Recover Profits or force the director to convey the property to the corporation at cost
    • Corporation gets a constructive trust if the director has converted the property to cash
    • Damages if the corporate business is injured
  28. Elements of 10(b)(5) actions
    • Make a material omission or misrepresentation in the....
    • Purchase or sale of securities in a closely held or public corporation
    • With the intent to deceive
  29. Types of Corporate Fraud
    • Insider Trading
    • Misappropriation
    • Aiding and Abetting
    • Tipper/Tippee insider Trading
  30. Checklist for 10(b)(5) Analysis
    • Look for material misrepresentation or omission of material non-public info in connection w/the sale or purchase of a security
    • In the case of an omission consider whether the person is an insider
    • If its an omission and the person who trades is not an insider, consider whether she is a tippee
    • If no tipper/tippee or insider, consider misappropriation
    • Material = when a reasonable person would attach importance or significance to the information that would influence his decision re the stock
  31. Remedies Under 10(b)(5)
    • Rescind the contract:if the stock was not resold
    • Recission damages: if the stock is resold, the damages = buyer's profit (the price the stock was bought for - price stock was sold for)
    • Out of pocket damages:difference between the price you bought or sold the stock for and what the stock is worth
    • Cover or conversion:Difference between the price purchased and the market price at which you could sell or repurchase once the fraud is revealed (duty to mitigate)
    • No punative damages under 10(b)(5)
    • SEC can issue treble damages
  32. Directors obligations under 10(b)(5)
    • Fiduciary duty to refrain from trading on inside information
    • Affirmative duty to correct misleading information that may be attributed to the corp if they have reason to believe that people may be trading on it
  33. How does 10(b)(5) affect outsiders?
    If they have a special relationship that gives them access to confidential information, they may not trade on it (will be liable under misappropriation theory)
  34. 10(b)(5) Cases
    • Blue Chip Stamps v. Manor Durg Stores:Private plaintiffs must prove intent to decieve or defraud under 10(b)(5)
    • Ernst & Ernst:Only purchasers and sellers have a right to bring a private action under 10(b)(5)
    • Central Bank:Only the SEC may bring an actoin for aiding and abetting
    • Texas Gulf:Directors or officers who receive non-public information have an affirmative duty to disclose or refrain from trading on it
    • Enron:A private action under 10(b)(5) may be brought against primary violators who engage in a fraud (Ponzi scheme); suggests that while there is no private action for aiding and abetting, private action is available against aider who is shown have intent deceive and particpated in the fraud (receipt of fees was evidence of scienter)
    • Dirks v. SEC:A tippee who receives non-public info w/o deceit and who does not use the info for personal benefit, AND who has no fiduciary duty is not liable (tipper was analyst who told clients & reporter and did not receive commission)
  35. Rules regarding Director and Officer Investments
    • Periodic investments are fine as long as they are approved and are part of a plan
    • OK to buy stock after 30 days from the date the annual report was issued
    • Avoid trading 3-4 months before an announcement (must wait until after announcement and dissemination)
    • Might be OK to trade if you contact the CEO before the trade if info needs to be made public when (1) quarterly reports are issued (2) the markets is relatively stable (3) you're disseminating information broadly regarding status of corp.
  36. Exam tips regarding insider information
    • Is there a mutual existence of trust?
    • Use the facts to ascertain
    • Family relationship does not automatically indicate trust (there has to be some showing of a regular/ongoing exchange of info that shows a confidential relationship)(a family member can be a temporary insider)
  37. Tipper/Tippee Insider Trading Elements
    • Tipper breached fiduciary duty
    • Tipper Communicated information for her own advantage
    • Tippee knew of or should have know of the breach
  38. Liablity in Tipper/Tippee relationship
    • Tipper = liable only if there was a breach of duty + personal benefit
    • Tippee = liable if (1) tipper has a fiduciary duty to the shareholders NOT to trade, (2) tipper has breached the duty by disclosing the information to the tippee, (3) tippee knew or should have known of the breach
  39. Misappropriation
    • Insider Trading that is a breach of duty to the source of information (often an employer, not the corp)
    • Applies to outsiders who by virtue of some special relationship get access to confidential information
  40. Examples of relationships that are valid for Misappropriation
    • Reporter
    • Husband and Wife relationship
    • Executor-heir
    • guardian-ward
    • doctor/patient
    • priest/parishioner
  41. 16(b) Insider Trading Basics
    • Can be in addition to 10(b)(5) and other causes of action
    • If you are a 10% owner of a corp or a director/officer, you cannot buy and sell within 6 month period
    • If there is no profit, there is no 16(b) action
    • Always look to 10(b)(5) as well
    • Only applies to public companies
  42. 16(b) Main Points
    • The 10% owner must have the 10% interest before each transaction
    • The officers or directors must be officers or directors before the purchase and the sale
    • Damages are determined by offsetting the highest sale price with the lowest buy price
    • SEC can impose treble damages up to $1 million
    • Purchase and sale of an option is matchable according to the same six month period
    • Remedy for 16(b) = payment to the corp
  43. Exceptions to 16(b)
    • If you have pre-existing debt with the corp., you can use the otherwise ill-gotten profits to pay it back
    • If you have a qualified compensation plan (employee benefit plan) you can sell before the six month period
  44. Proxy Regulation
    The right to allow someone else to vote your shares
  45. Proxy Regulation (Main Points)
    • Must file a registration before the broker and effect the transaction on a national exchange
    • Cannot make false or misleading statements (stricter than 10b5)
    • Proxy statements must be for specific reasons
    • Expenses are borne by the person proposing
    • Company can request a no action letter from teh SEC
    • You must submit the proposal to the board within 120 days of mailing
    • Proposal must be registered with SEC and identified as a proxy
    • 500 word limit
  46. Reasons Why a Board can turn down a Proxy
    • It violates state law
    • Contrary to proxy rules
    • Redresses a personal claim
    • Relates to operations less than 5% of total assets
    • Delas with ordinary business operations
    • Counter-proposal submitted by majority board
    • Similar to previous proposals
    • Relates to specific cash or stock dividend
    • Beyond the authority of the corporation
    • Moot
  47. Transactions Requiring Shareholder Approval
    • Election of the Board of Directors
    • Merger
    • Sale of ALL the assets
    • Sale of Stock
    • Dissolution of the corp
    • Amendment to the Articles of incorporation and the bylaws
    • Removal of directors
    • Ratification of Director's action
    • Any major change to the business model
  48. Proxy Cases
    • Rauchman v. Mobil .:A corporatoin may properly refuse to include proposals relating to specific members of the board of directors
    • TSC v. Northway:(Proxy Fraud) Material misrepresentation in a proxy statement requires a substantial likelihood that a reasonable shareholder would attach importance to the material when deciding how to vote
  49. Proxy Fraud elements (federal)
    • Material misrepresentation
    • Causation (misrepresntation must impact how the shareholders vote)
    • Reliance (presumed if the information was material)
    • Intent is not required
  50. Proxy Fraud elements (state)
    • Actual Misrepresenation of fact (not just opinion)
    • Management knew that teh statement was false
    • Actual reliance
    • Damages
  51. Proxy Fraud points
    • If an opinon is misleading but the directors believe that it is correct and nothing suggests that it is false, no liabilty under proxy fraud (even if its actionable under 10b5 or fiduciary duty)
    • If statement of fact is misleading it is actionable even if the directors did not intend it to be (no intent required; its negligence)
    • An opinion is actionable only if it stated in a conclusory fashion so that a shareholder would attach importance to it
    • If the proposal included in the proxy statement is not something being voted on, there is no proxy fraud action
  52. SEA 1933 Filing requirements
    • Must file registration statement prior to solicitation
    • The statement must disclose all material facts
    • Issuer must disclose the consideration to be paid in any offering
    • A violation in making a misrepresentation or omission in the offering statement imposes liability on the issuer to pay the purchaser for any consideration less income for the securities
  53. Inspection of Records
    The shareholders have a right to inspect the books upon a proper showing of purpose; and the court has wide parameters to determine what those are
  54. Shareholder Proposals (generally)
    • Three categories: (1) corporate governance re the structure of the board, shares (2) operational re compensation, communication business matters (3) social/political re environmental, labor, etc
    • General Rules:
    • Notice requirements are defined by the bylaws and special meetings
    • Expenses borne by the person proposing
    • Must submit proposal within 4 months of mailing them
    • Proposal must be registered with the SEC and include all pertinent information
    • 500 word/2 page limit
Card Set
Business Organziations
Prep for final