1. PRINCIPAL/ER LIABLE FOR AGENTS/EESI. WHEN IS PRINCIPAL LIABLE FOR AGENTPrincipal is liable when agent has:

1) Actual authority – the authority granted to the agent by the principal as possessing

the person alleging agency and resulting authority has the burden of proving that it exists

o see Dweck v. Nasser: Telling longtime lawyer to settle dispute gives lawyer actual authority to settle the litigation (so it is binding on client):

2) Implied authority – authority not explicitly given but which is implied by the actual authority the agent does have: 1) powers as are practically necessary to carry out the duties actually delegated); 2) to act in manner in which an agent believes the principal wishes the agent to act based on the agent’s reasonable interpretation of the principal’s manifestation in light of the principal’s objects and other facts known to the agent. Demonstrated by:

whether past/present conduct of principal gives agent reasonable belief that agent can/should act in a certain way or have certain authority.

nature of agent’s task (must agent have certain implied authority to perform his job?)

existence of prior similar practices is one of the most important factor

o see Mill Street Church of Christ v. Hogan - when Church told Bill he could hire an assistant and didn’t name anyone specific, they gave him IMPLIED authority to hire Sam (Fact that Church wanted Bill to hire someone else but never told him doesn’t matter).

church had allowed him to do so in the past

3) apparent authority: “the power held by an agent or other actor to affect a principal’s legal relations with third parties when a third party reasonably believes the actor has authority to act on behalf of the principal and that belief is traceable to the principal’s manifestations” (REST, 3rd, Agency, section 2.03)

Dweck v. Nasser [Probably dicta] - Lawyer had apparent authority to settle the litigation b/c client told multiple parties (including defendants relatives and husband) that he would follow what lawyer and Heyman told him to do. [BUT HE DID NOT TELL OTHER ENTITY THIS DIRECTLY PROBLEMATIC]

o if communication had been made to Dweck’s agent (e.g., her lawyer) then it would have been as if it was told to Dweck.

see Three-Seventy Leasing Corporation v. Ampex Corporation - principal gave salesman apparent authority in explicitly allowing him to be sole contact person with buyer, when it is not explicitly stated that he does NOT have the power to accept.

o absent knowledge on the part of third parties to the contrary, an agent has the apparent authority to do those things which are usual and proper to the conduct of the business which he is employed to conduct

The principal is liable for all the acts of the agent which are within the authority usually confided to that type of agent (even if forbidden by principal).

Watteau v. Fenwick (outlier) - when an agent operates business on behalf of principal under agen’ts name, the principal is still liable for the agent’s unpaid debts incurred while operating business, whether or not the third party doesn’t know about the principal

o same idea is seen in Rest, 2nd of agency, 194 & 195

BUT, SEE: REST, 3rd, 2.06. Liability of Undisclosed Principal: an undisclosed principal is subject to a third party who is justifiably induced to make a detrimental change in position by an agent acting on the principal’s behalf and without actual authority IF the principal, having notice of the agent’s conduct and that it might induce others to change their position, did not take reasonable steps to notify them of the facts.

FOR TEST: Watteua vs. REST, 3rd 2.06

Three elements required to show the existence of an agency relationship:

1. manifestation by the principal that the agent will act for him

2. acceptance by the agent of the undertaking; and 3. an understanding between the parties that the principal

will be in control of the undertaking Botticello v. Stefanovicz - ** Marital status does not create

agency relationship. o Joint ownership of land does not create agency relationship.o The facts that Walter handled a lot of the business aspects of

the farm Mary co-owned did NOT make him her agent.

Ratification – the affirmance by a person of a prior act which did not bind him but which was done on his account. Requires “acceptance of the results of the act with an intent to ratify, and with full knowledge of all the material circumstances” (Botticello v. Stefanovicz)

2. WHEN PRINCIPAL IS LIABLE FOR FRANCHISEE

No liability can be imputed to a Franchisor that has no control over the details of franchisee’s day-to-day operation for negligent acts of franchisee.

Hoover v. Sun Oil Company (Del 1965) - Sunoco could not be held liable for fire @ franchisee’s gas station b/c franchisee was an independent contractor:

o made no written reports to Sun o no sharing of profits/losseso Sunoco didn’t determine hours of operation/wages of EEs o lease was subject to termination by either party upon 30 days

written notice

Contract that is meant to achieve system-wide standardization, uniformity of commercial service, optimum public good will for the benefit of both contracting parties does NOT create an agency relationship, without day-to-day control

Murphy v. Holiday Inns, Inc. (Va. 1975) - BUT, If a franchise agreement, as a whole, establishes an agency relationship (“regulates activities of the franchise” to vest control with franchisor), then a disclaimer in the contract that it is not creating an agency relationship DOES NOT MATTER.

Franchisor MAY be liable for franchisee when franchisee is apparent employee (b/c whether McDonalds is franchise or corporate owned, customers are given the impression that all are controlled by corporation)

Miller v. McDonald’s Corp. (Ore. 1997) – McDonald’s may be liable for its franchisee b/c its franchise agreement expressly required operator to operate in compliance w/D’s prescribed standards, policies, practices and procedures, including:

o serving only food/beverages Ds designatedo following Ds specs and blueprints for equipment, layout, signs

insistence on uniformity of appearance and standards may be designed to cause the public to think of every McDonald’s, franchised or unfranchised, as part of the same system, that makes it difficult or impossible for plaintiff to tell whether her previous experiences were at restaurants that D owned or franchised

Diff between McDonalds and Holiday Inn: even tho holiday inn is required to conform to certain standards, the way the franchisee meets those standards (who it hires, methods it uses) are not stipulated therefore, Holiday Inn is not franchisor.

3. WHEN EMPLOYER IS LIABLE FOR EMPLOYEE

REST, 2nd, Agency, 219(1): a master is subject to liability for the torts of his servants committed while acting in the scope of their employment.

An employer may be liable for injuries caused by an employee’s assault WHERE: that assault is a response to victim’s interference with the employee’s ability to perform his duties.

Manning v. Grimsley (1st Cir. 1981) - Orioles can held responsible for actions of its pitcher in throwing ball into stands during game

o Ps conduct was a response to continuing conduct which was ‘presently interfering’ with his ability to pitch in the game if called upon to play”

NOTES: REST, 2nd, Agency, 231 – “serious crimes” are outside scope of

employment REST, 228(2) – a servant’s use of force against another is w/in scope

of employment if “the use of force is not unexpected by the master” (e.g. nightclub bouncer injuring a drunk while throwing him out)

4. WHEN PRINCIPAL IS LIABLE FOR ACTS OF INDEPENDENT CONTRACTOR:

Employer IS liable for the negligent acts of an independent contractor WHERE:

1. the principal retains control of the manner/means of doing the work contracted for

2. landowner hires an incompetent contractor OR 3. the activity contracted for constitutes a nuisance per se

(an INHERENTLY DANGEROUS ACTIVITY) Majestic Realty Associates, Inc. v. Toti Contracting Co. (NJ 1959)- NY

law saws that razing buildings in busy built up sections of city is inherently dangerous w/in section 416 of REST.

REST, Torts, 416 – when a landowner hires a contractor to do work that will be dangerous if special precautions are not taken, then the landowner will be liable if the contractor fails to take those precautions

2. When are Agents liable to Principals or 3rd parties?

1. WHEN ARE AGENTS LIABLE?

REST, 2nd, Agency 4(2): if the other party to a transaction has notice that the agent is or may be acting for a principal but has no notice of the principal’s identity, the principal for whom the agent is acting is a partially disclosed principal.

An agent acting on behalf of a partially disclosed or unidentified principal IS personally liable. BUT, If agent fully discloses his principle and contracting only in the principal’s name then the agent is free of all personal liability.

Atlantic Salmon A/S v. Curran (Mass. App. Ct. 1992) - Ds use of trade names/fictitious names by which he claimed Marketing Designs, Inc., conducted its business is not a sufficient identification of the alleged principal so as to protect the D from personal liability

o it doesn’t matter that P could have found out who the principal was; it’s responsibility of agent to disclose

2. FIDUCIARY DUTY/OBLIGATIONS OF AGENTS:

A. DUTY OF LOYALTYAgent must use the principal’s interest above his own. Agent may not use his as agent of principle to unjustly enrich himself, in violation of his duties. [REMEDY] If he does, principal is entitled to the money that was unjustly earned. Three situations that violate this principle:

1. agent receives money from third party for agent connecting third party to principal (kickback)

2. self-dealing (principal tells agent to guy buy house for him. agent buys house then sells it to principal at a profit)

3. using your position to profit (Reading case, below)o in this case, agent is not hurt in direct manner, so can’t sue

for damages

Reading v. Regem – Soldier who helped smugglers had to give his profits to british gov b/c it was Ps (soldier) position in the army, generally and specifically his uniform, that was the sole reasons he was able to do these illegal acts and make this illegal money.

o However, a servant may make a profit in breach of contract, AS LONG AS he doesn’t make that money based on his position as an agent (though the master can still sue for breach of contract)”

REST, 3rd, Agency, 8.02: an agent has duty not to acquire a material benefit from a third party in connection w/transactions conducted or other actions taken on behalf of the principal or otherwise through the agent’s use of the agent’s position.

Former employee cant compete with former employer over clients that employee would not know about but for original employer’s efforts

Town & Country House & Home Services v. Newbery

B. DUTY OF FULL DISCLOSURE/DUE CAREOperating another business (even in good faith) without telling employer is a breach of fiduciary duty. FULL DISCLOSURE IS PARAMOUNT

General Automotive Manufacturing v. Singer - mechanic employed by one body shop could not refer customers to other body shops (that he was involved with, and profited from) when he believed his employer couldn’t handle the job.

o D had the duty to disclose to P all the facts regarding this matter, and turn over any profit from his outside activities to P. By failing to do so, D violated his fiduciary duty to act solely for the benefit of P.

o it was not up to D to decide whether ER couldn’t handle the job

Had D received permission from ER to do this side-business he would have been OK.

o REMEDY – D had to turn over all money to P???

3. WHEN IS PARTNERSHIP ESTABLISHED/PARTNERSHIP LIABILITY

1. WAS PARTNERSHIP ESTABLISHED…

A. BY ACTION?*** You form a general partnership by acting like partners (nothing specific you need to do this can be good or bad)

Partners must share profits

UPA (1914) section 7-12-18: receipt of share of profits of a business is prima facie evidence that recipient is a partner, EXCEPT IF it is given as:

a debt by installments wages of an employee or rent to a landlord as an annuity to widow interest on a loan consideration for the sale of a good will of a business

CLASS NOTES: Every partner in general partnership

can bind partnership is jointly and severally liable for debts of partnership

Important aspects of corporations ** PARTNERS SHARE PROFITS corporations have perpetual duration (lasts until it is dissolved thru

bankruptcy, shareholder dissolution, etc) partnerships are non-transferable

o partner can assign his income stream to someone else

o partner can’t assign right to manage partnership to someone else.

** In a general partnership, each general partner has the power under the UPA to manage the entity (make binding contractual and business decisions)

shareholders get to vote on major things (mergers, sales of assets, dissolving company, etc) but otherwise can’t interfere w/management

No partnership when one party has no authority or control, doesn’t share the losses and is not held out as a partner.

Fenwick v. Unemployment Compensation Commission – owner of beauty shop and receptionist entered into a partnership. Receptionist didn’t invest any capital, had no control, didn’t get a raise (tho she’d get part of any profits) and therefore was an employee NOT a partner.

o After the “partnership” went into effect, the operation of the business continued exactly as it had before.

o right to share in profits exists, but no inference or partnership arises because this right to share in profits was given as payment of wages of an employee

Class Q: How could you draft a partnership agreement so one person has all the power?

A. hard in a partnership but in a corporation you make Fenwick the majority shareholder.

The ABILITY to take control of firm under certain conditions does NOT make someone as a partner when that person has no ability to initiate any transaction or bind the firm by any action of their own

Martin v. Peyton - The terms of the loan to brokerage that had lost tons of money speculating did not make the lenders partners:

o 1) Agreement that partners would not speculate in international markets did not make investors partners, it was just evidence of ordinary caution.

o 2) Assignment of interest to Ds did not create partnership it was just another security measure (so firm doesn’t

make loans to members, etc), and does NOT stop firm from dissolving at any time

o 3) Option permitting investors to enter the firm at a later date by buying into it did not make them partners While “option” is unusual, it is not enough in itself to show that a partnership was created at the time the loan agreement was signed.

B. BY CONTRACT

Contract stating that parties want to become partners does NOT create a partnership in the absence of other factors indicating the existence of a partnership (see above).

Southex Exhibitions v. Rhode Island Builders - Evidence that there was NO partnership:

o prescribes a fixed (albeit renewable) termo one party bears all the operating costs/advances all the

money to produce the show, but also indemnifies party for losses (no sharing of losses).

o party entered into contracts and conducted business with 3rd parties in its own name, rather than the name of the putative partnership

o parties did not contribute corporate property w/the intent that it become jointly owned partnership property (this is esp. important since IP was at issue)

C. PARTNERSHIP BY ESTOPPEL

Young v. Jones – When D convinces a third party that D is a partner, the D is liable to that third party ONLY WHEN the third party acts in reliance on this representation.

class note - Apparent authority/agency argument might have been more succesful

SUMMARY OF PARTNERSHIP CASES **** no formalities for forming general partnership, you just have to

start acting like partners this casual formation means we have to look substantively to what actions form partnerships:

o sharing profits raises rebuttable prima facie presumption of partnership

1. beauty shop – sharing profits inadequate when it was otherwise ER-EE

2. martin v. peyton – sharing profits but it was creditor/debtor relationship, not partnership

3. southex – sharing profits insufficient when the relationship was just contractual, no shared control

4. belief of partnership is insufficient to prove partnership by estoppel, need to prove reliance on that belief.

2. FIDUCIARY DUTIES OF PARTNERS

A. DUTY OF LOYALTY

DUTY OF LOYALTY IMPOSES A DUTY OF CANDOR!!

Joint adventurers, like copartners, owe to one another, while the enterprise continues, the duty of the finest loyalty.

*** Meinhard v. Salmon – For partnership, when one partner begins a new venture related to the old adventure, he must at least INFORM his other partner and MAY also have to offer the other partner the opportunity to JOIN new venture.

o ** The fact that D was in control charged him w/ the duty of disclosure, since only through disclosure could opportunity be equalized.

o class note: Had D started negotiating this new deal AFTER his venture with P ended, then there was no problem.

o REMEDY: D had to give P share non-controlling share of stock of new venture (49%)

***** two ways of reading Meinhard ***** D has to disclose AND offer P to participate D just has to disclose (so P has chance to compete)

*** conflicts of interest can be VOIDED by full candor, full disclosure and CONSENT of other party.

Self-dealing transaction violates general partners duty of loyalty to the limited partners.

[CASH OUT MERGER] Peretta v. Prometheus Development Company, Inc. (9th circuit, 2008) – Partnership agreement provision allowing interested partner to vote in his own favor is manifestly unreasonable b/c it subverts the very purpose of ratification itself.

o Issue of fiduciary duty is raised when there is SELF-DEALING (Majority shareholders are treated differently than minority shareholders)

** question is not whether interested parties benefitted but whether partnership or other partners were harmed

o but, if a self-interested partner informs the disinterested partners of his plan and they ratify his actions then there is no violation of duty to loyalty. [sterilizing vote?]

o When majority of minority shareholders do not approve merger, the burden remains on majority to show that transaction had complete good faith and fairness to the other limited partners

The essence of a breach of fiduciary duty between partners is that one partner has ADVANTAGED HIMSELF at the expense of the firm.The basic/minimum fiduciary duties are:

1) a partner must account for any profit acquired in a manner injurious to the interests of the partnership

2) a partner cannot, without the consent of the other partners, acquire for himself a partnership asset, nor may he divert to his own use a partnership opportunity AND

3) he must not compete with the partnership w/in the scope of the business.

Day v. Sidley & Austin (1977) - P, law firm partner, approved law firm merger based on assurance that no partner would be better off, and was then demoted.

o he had no claim b/c there is no fiduciary duty to disclose information that doesn’t produce any profit for the offending partners nor any financial losses for the partnership as a whole.

o Representation can only be fraudulent when reliance on it deprives P of a LEGAL RIGHT, and P had no legal right to remain chairman of Wash office.

B. RIGHTS OF PARTNERS IN MANAGEMENT Section 18(e) of the UPA - in the absence of an agreement to the

contrary “all partners have equal rights in the management and conduct of the partnership business”

18(h) - “any difference arising as to ordinary matters connected with the partnership business may be decided by a majority of the partners” (UPA 103, 401(f) and (j) say the same thing)

If, however, there are only two partners, there can be no majority vote that will be effective to deprive either partner of authority to act for the partnership.

C. WHEN IS ONE PARTNER RESPONSIBLE FOR THE ACTIONS OF ANOTHERA partner that acts within his rights under the partnership agreement binds the other partners personally, unless the partner so acting has no authority to act for the partnership in the particular matter, and the THIRD PARTY with whom he is dealing has knowledge of the fact that he has no such authority.

National Biscuit Company v. Stroud (1959 - 2 50/50 partners in grocery store. One partner said they didn’t want any more bread, the other ordered more bread; the partnership and both members were liable for the cost of the bread:

o as general partner, there were no restrictions on partner’s authority to act w/in the scope of the partnership business.

o buying bread for a grocery store is definitely within scope of the business

But, where one of the partners CONTINUALLY voices objections to the actions of the other partner (and doesn’t sit idly by and acquiesce in the actions of his partner), it is manifestly unjust to permit recover of an expense which was incurred individually and not for the benefit of the partnership but rather for the benefit of one partner.

Summers v. Dooley (1971) - Summers wanted to hire another guy, but Dooley objected. Dooley was NOT required to help pay for the additional man Summers hired.

o * They had partnership agreement requiring UNANIMOUS consent for all decisions (no such clause in Nabisco)

DO HYPO ON PG 144

3. DISSOLUTION OF PARTNERSHIPStatutes:

Uniform Partnership Act (1914), 29-40 Uniform Partnership Act (1997), 601-603; 701, 801-803; 807

Q: How do the legal rules resolve management disputes among the partners in a two-person partnership? Are the rules the same for the sharing of profits and losses?

Under Old UPA when partnership dissolved, the entity technically dissolved and partners had to agree to continue it

under NEW UPA, when partnership dissolves, partner can disassociate himself without partnership being dissolved.

When dissolution is caused in contravention of the partnership agreement, the partner who didn’t cause the wrongful dissolution shall have the right to:

sue for damages for breach [REMEDY!] continue the business in the same name for the term agreed

to in the partnership

Pav-Saver Corporation v. Vasso Corporation (1986) – in order to allow the business to be continued, patents originally owned by partner who dissolved corporation in violation of contract remained with the corporation upon dissolution.

o Since the business cannot continue without the patents, and since the right to continue the business upon dissolution is an essential part of the parties’ agreement, the business gets to hold onto the patents.

Concurrence/Dissent: patents should go back to go original owner “The option to continue

the business does not carry with it any guarantee or assurance of success and it may often well be that liquidation rather than continuation would be the better option for a partner not at fault”

A partner who shares profits but does not contribute funds or agree to share losses is NOT liable for partnerships losses.

Kovacik v. Reed - in the absence of an agreement to the contrary, partners or joint adventurers participate equally in the profits and losses of the common enterprise, irrespective of any inequality in the amounts each contributed to the capital employed in the venture.

BUT, where one partner contributes money and the other contributes ONLY skill and labor, neither party is liable to the other for the contribution of any loss sustained (b/c they have tacitly agreed that their contributions were of equal value)

note for test: Kovacik is rejected by the UPA in section 401(b): each partner is entitled to an equal share of the partnership profits and is chargeable with a share of partnership losses in proportion to the partner’s share of the profits.

NOTES: UPA 40(b): upon dissolution, liabilities of the partnership shall be

paid in the following orderso creditors, other than partnerso partners other than for capital and profits

o partners in respect of capitalo partners in respect of profits

4. LIMITED PARTNERSHIP

A. FIDUCIARY OBLIGATIONS OF LIMITED PARTNERS AND LLCS

Limited partnerships – handful of general partners and a stream of limited partners who are like shareholders. limited partnerships non-transferable, unless partnership elects transferability.

NOTE: When you haven’t filed a charter w/secretary of state you can’t be a corporation or LLC, ONLY a general partnership

Partners may plan to compete with the partnership to which they owe allegiance, “provided that in the course of such arrangements they do not otherwise act in violation of their fiduciary duties” - Meehan

Partners have a duty of full disclosure concerning anything affecting the partnership upon demand by a partner (no duty to volunteer, but duty of candor)

Meehan v. Shaughnessy - Partners in a law firm (D) left old firm to start new firm, taking many of firms clients with them and didn’t tell other partners what they were doing when partners asked.

No breach of duty of good faith where partners act under clause in partnership agreement that has been freely negotiated and entered into, regardless of motivation (as long as that act does not cause a wrongful withholding of money or property).

Lawlis v. Kightlinger & Gray - Partnership Agreement allowed the firm to expel P without stating a reason or case, and therefore, they could fire P for being a drunk and not making money w/out breach of fiduciary duty

o Ps expulsion was not based on a “predatory purpose” of increasing the firm’s lawyer to partner ratio. Firm tried hard to KEEP P, suggesting that the firing was in good faith

3. LLC

A. FIDUCIARY OBLIGATIONS OF LLC

2 Ends of Spectrum of Organizations of LLC: 1. Member-managed LLC

o like general partnership; each member’s actions binds LLC 2. Manager-managed LLC

o more like corporation, members will elect managers once per year (members have no right or power beyond this)

Most LLCs are about halfway between

Generally, members of LLC owe each other duty of utmost trust and loyalty, BUT this duty must be considered in the context of members’ ability, pursuant to operating agreement

McConnell v. Hunt Sports Enterprises - D did not breach fiduciary duty to LLC by making deal with corporation, b/c the operating agreement of the LLC defines the scope of the fiduciary duties imposed upon its members, and the agreement here explicitly allowed members of LLC to compete w/LLC

4. THE NATURE OF THE CORPORATION; DGCL 141 is important

CORPORATE FORMATION

REST, Agency, 2nd: “Unless otherwise agreed, an agent who makes a profit in connection w/transactions conducted by him on behalf of the principal is under a duty to give such profit to the principle.

“Where a party has contracted w/ a corporation and is sued upon the contract, neither is permitted to deny the existence, or the legal validity of such corporation.”

Southern-Gulf Marine Co v. Camcraft - party should not be permitted to escape performance by raising an issue as to the character of the organization to which it is obligated, unless its substantial rights might thereby be affected.

o Ds substantial rights were not affected by Ps lack of incorporation:

P relied upon the contract and secured financing D relied on contract and began construction of vessel.

o ME: What if the party selling the boat been the one that hadn’t incorporated and the buyer used this to cancel the contract would the facts be the same? Would it have been incurring obligations in its favor?

Note: if the objectionable/incompetent act happened AFTER the contract, things would be different.

NOTE: USUALLY IT IS THE BUYER TRYING TO GET OUT OF THE CONTRACT,

BUT HERE IT IS THE SELLER

HOW TO INCORPORATEDel. Gen. Corp. Law:

101:o a) anyone can incorporate by filing certificate of incorporation o b) corporation may be incorporated/organized to conduct any

lawful business or purposes

o corporations for public utilities within state are also subject to Title 26

102:o a) certificate of incorporation must have:

UNIQUE name of corporation (w/certain words – see pg 99)

cant be confusingly similar to another already registered business

address of corporation’s registered agent (to receive service of process for corporation)

nature of business Corporate equity structure

who owns what stock what class of shares there are if corporation has only 1 class of stock, the total

number of shares of stock that can be issued and value of stock

106:o once papers are filed w/secretary of state, and executed, the

incorporator(s) who signed the certificate are a corporation. 107:

o If directors of corp are diff from incorporators, incorporators will be in charge until directors are elected

108o after filing certificate of incorporation, an organization

meeting of incorporators, or Board of directors must be held w/2 days notice

109o AFTER CORPORATION IS FORMED, IT MUST ADOPT

BYLAWS bylaws may contain any provision not inconsistent

w/law or certificate of incorporation, relating to business of the corporation, conduct of its affairs, and the rights of its stockholders, directors, officers or employees

if you put in the charter that board of directors can amend bylaws, both Board AND shareholders can amend bylaws

Class: *** section 141 gives you the basic rules for voting on board

members (we’ll get to that later) section 151 – how to capitalize the company (probably by

selling common shares)

Corporate Limited Liability

PIERCING THE CORPORATE VEIL

EXAM: P wants to pierce when corporate D is insolvent

contract cases are much more likely to be able to pierce corporate veil, whereas tort cases (where P did not choose to get involved with corporation) are much LESS likely to pierce corporate veil

piercing much more likely when shareholder is human being than when it is another corporation

o public shareholders are NEVER personally liable for corporation.

Theories under which courts can impose liability in disregard of the corporate fiction:

Enterprise liability - individual entities (for example, otherwise legally unrelated corporations or people) can be held jointly liable for some action on the basis of being part of a shared enterprise

o intermingling of assets goes to enterprise liability Fraudulent conveyances - a transfer of property made by a debtor

with intent to defraud, hinder, or delay his or her creditors. o e.g., when corporation pays dividend to shareholder when it’s

insolvent, creditors can claw back the dividend under fraudulent conveyance theory

o constructive fraudulent transfer - Unlike the intentional fraudulent transfer, no intention to defraud is necessary.

If you maintain formalities and you don’t comingle funds, it’s very unlikely your corporate veil will be pierced

Valid reasons for piercing corporate veil: 1. corporation is a fragment of a larger corporate combine

which actually conducts the businesses. o in this instance, only a larger corporate entity would be held

financially responsible 2. corporation is a “dummy” for its individual stockholders

who are in reality carrying on the business in their personal capacities for purely personal rather than corporate ends.

o Walkovszky v. Carlton (TORT CASE - Taxi cab) - Corporate veil may NOT be pierced when it has not been proved that D is really acting as individual and merely using corporations to shuttle money. The fact that the corporate form has been deliberately split up among many corporations, does not make it easier for a corporation’s stockholder to be held personally liable.

the law permits the incorporation of a business for the very purpose of enabling its proprietors to escape personal liability

FOR TEST: there are three separate legal doctrines that the P might invoke in a case like Walkovsky:

o 1) enterprise liabilityo 2) respondeat superior (agency)o 3) disregard of the corporate entity (piercing the

corporate veil)

Individual should ONLY be held liable for judgment against corporation if:

1. there is a unity of interest and ownership:o failure to maintain adequate corporate records or to

comply with corporate formalitieso commingling of funds or assetso undercapitalizationo one corporation treating the assets of another

corporation as its own 2. circumstances must be such that adherence to the fiction

of separate corporate existence would sanction a fraud or promote injustice; some element of unfairness - fraud, deception, existence of compelling public interest - must be present that is beyond a creditor’s inability to collect, e.g.:

rules of adverse possession would be undermined former partners would be able to escape their monetary

obligations unjust enrichment of a party

Sea-Land Services v. Pepper Source (CONTRACT CASE) - Corporate entity will be disregarded when D move funds between corporations with impugnity, never held board meetings, etc

Corporation’s subsidiary is not the alter ego of a different subsidiary: The subsidiary of an organization CANNOT be responsible for the actions of ANOTHER of its parent’s subsidiary.

Roman Catholic Archbishop of SF v. Sheffield - P could NOT sue Roman Catholic Church of California for actions Roman Catholic Monastery in Europe b/c

o no unity of interest among subsidiaries While Pope or any other entity in Rome may be held

liable for actions of monastery but the Archbishop of CALIFORNIA is NOT an alter ego of the monastery, or vice versa

o P did not prove that ruling for D would create inequitable result: the fact that P wont be able to get his money back (b/c it would be too expensive to sue the Vatican) is insufficient.

When the corporation is so controlled (“substantially dominated”) by a stockholder that it is the alter ego or mere instrumentality of its stockholder, the corporate form may be disregarded in the interests of justice (controlling stockholder may be sued). Substantial dominance may be demonstrated by showing:

common directors, officers, business departments consolidated financial statements and tax returns parent finances subsidiary Subsidiary receives no business except that given to it by

parent Parent uses the subsidiary’s property as its own subsidiary does not observe the basic corporate formalities

such as keeping separate books and records and shareholder meetings

In re Silicone Gel Breast Implants Product Liability Litigation (disagreement about whether it’s tort or contract claim) - P may be able to hold the parent corporation liable when it is the sole shareholder in the subsidiary.

o no finding of injustice here, but court finds that comingling and lack of formalities is sufficient to breach corporate veil

Formation of LLC: LLC is alt. form of organization combining corporation with general

partnership may be managed by all members (as in partnership) or by managers who may or may not be members (as in a corporation)

Kaycee Land and Livestock v. Flahive – LLC can be pierced like corporation

BUSINESS JUDGMENT RULE

THESE ARE THE BIG CORPORATE LAW CASES THAT ALL CORPORATE LAWYERS KNOW:

FORD IS AN OUTLIER, DON’T ASSUME IT IS RIGHT may be only case where Court ordered publicly traded corporation to pay dividends

LAW IS GOOD:The directors of a corporation alone have the power to declare a dividend and to determine its amount. courts of equity will not interfere in the management of the directors unless:

1) management is guilty of fraud or misappropriation of the corporate funds OR

2) management refuses to declare a dividend when o the corporation has a surplus of net profits which it

can, without detriment to its business, divide among its stockholders AND

o a refusal to do so would be an abuse of discretion constituting a fraud or breach of good faith which management is bound to exercise towards stockholders

Dodge v. Ford Motor Company: APPLICATION OF LAW IS WRONGFUL/PROBLEMATIC

Keeping money to lower prices and win customer loyalty was ignored by Court, b/c Ford said he wanted to help his workers/society. Court took that to mean withholding dividends was an arbitrary refusal to do what the circumstances required to be done.

For test: argue that AP Smith v. Barlow shows that corporation’s actions may have long-term benefits, even if it doesn’t immediately help corporation

NOTE ON FORD: if you’re ford’s lawyer, argue that there IS legit business purpose:

long term lower costs will be made up for in higher sales, lead to higher profits, we can pay higher wages to get best workers (who would otherwise be working at dodge or chevy) and make best products.

paying workers higher wages allows workers to buy cars, too, widening customer base. this decision should be within business judgment rule.

(STRONGEST INTEPRETATION OF BUSINESS JUDGMENT RULE) In a purely business corporation, the authority of the directors in the conduct of the business of the corporation is unquestioned by court unless there is showing of fraud, illegality, or conflict of interest

Shlensky v. Wrigley (1968) - Chicago Cubs management’s decision to not invest in lights/play night games should be respected and is NOT mismanagement/breach of duty to shareholders

o MERE FAILURE TO “FOLLOW THE CROWD” (play night games like other teams) is not such a dereliction.

Statutes: Del. Gen. Corp. Law ' 141(a): every corporation shall be managed by board of directions unless

certificate of incorpoation says otherwise. in that case, then powers BoD would have will be given to person/people empowered in certificate of incorporation

PROBLEMS ON PAGE 280Test Q (?): Does the law require corporate managers to maximize shareholder revenue at the expense of employees, consumers, creditors and the general public? Should it?

5. FIDUCIARY DUTIES OF OFFICERS, DIRECTORS, OTHER INSIDERS

HOW DO COURTS GET AROUND THE BUSINESS JUDGMENT RULE: when managers breach duties, act badly

1. DUTY OF DUE CARE

to breach duty of due care, D has to KNOW he has duty and STILL REFUSE TO ACT

BUSINESS JUDGMENT RULE applied to duty of due care

Courts will not interfere with business judgment of board of directors unless it appears the directors have acted in bad faith/dishonestly/negligently [error of judgment is insufficient]

Kamin v. American Express Company (BUSINESS JUDGMENT RULE) - fact that company distributed stock it had bought as dividend to shareholders rather than write it off was NOT a breach of fiduciary duty to stockholders b/c there is no appearance of bad faith/dishonest/negligence.

o Ds had valid reason for not selling stock (b/c impact on net income in balance sheet would have affected stock market price of AmEx)

Desired REMEDY DENIED in this derivative action: RECISSION (rescinding distribtution of stock)

Van Gorkom is about NONFEASANCE - board DIDN’T TRY TO FIGURE OUT WHAT COMPANY WAS ACTUALLY WORTH)

P OVERCOMES BUSINESS JUDGMENT RULE BY SHOWING GROSS NEGLIGENCE ON PART OF BOARD. The determination of whether a business judgment was informed turns on whether the directors have informed themselves “prior to making a business decision, of all material information reasonably available to them.

*** Smith v. Van Gorkom (Del. 1985) - By accepting price for leveraged buy out price chairman/CEO came up with at its face, directors of Trans Union breached their fiduciary duty to inform themselves b/c they:

o relied solely on CEO’s oral presentation w/out asking about his role in forcing sale of company and establishing per share purchase price

o didn’t have any knowledge about intrinsic value of companyo the defenses offered by Board are unavailing:

fact that sale price was much larger than stock price at the time is insufficient, in the absence of sound valuation information

the later “market test” to see if company could get a higher price did not cure their earlier negligence b/c there was no evidence it actually gave Board freedom to put company up for auction to highest bidder

NOTE: Various factors that must be considered in an analysis of the entire

fairness of a transaction:o timingo initiatingo negotiationo structure of transactiono full disclosure to and approval by directorso full disclosure to an approval by shareholders

***** one result of this case is that Delaware added section 102(b)(7) of DGCL – no money damages for breach of duty of care

After Smith v. Van Gorkom, how would you advise boards faced with merger decisions to protect themselves from potential duty of care liability?

premium, standing alone, does not demonstrate a fair price but, showing cash flow/income for company for next 5 years and

then basing premium off that is much clearer evidence of fair price had board been able to conduct a REAL auction, it would have cured

their earlier stupidity get outside opinions/expertise EARLY AND OFTEN

CINERAMA v. TECHNICOLOR: even though Technicolor board had blindly followed CEO’s proposed price as in Van Gorkom, CEO had done thorough investiation and price was fair, so even tho Technicolor board violated its duty of due care, no recission action for shareholder (Cinerama)

Class Notes: hard view of business judgment rule that you sometimes see

in Del courts (as in Kamin) court will not look at decision making process ABSENT REALLY BAD BEHVIOR (e.g., fraud, self-dealing, etc).

in Technicolor, court looked at softer version of business judgment rule: P ARGUES PROCESS DID NOT MEET DUTY OF DUE CARE AND IF THIS ARGUMENT IS COMPELLING, THEN COURT WILL LOOK AT SUBSTANCE OF DECISION

*** Statutes: Del. Gen. Corp. Law 102(b)(7) – (no money damages for breach of due care)

*** V. IMPORTANT – why placement of good faith as separate duty or subset of due care duty is important:

if breach of good faith is a subject of due care, no money damages. if breach of good faith is NOT a subject of due care, may be money damages

Francis - For director to be liable, it must be found that: 1) she had a duty to shareholders, 2) she breached that duty AND 3) her breach was a proximate cause of their losses

Directors are under a continuing duty to be stay informed about and generally monitor the corporation.

Francis v. United Jersey Bank (NJ 1981) - Directors nonfeasance in failing to monitor other directors makes director liable for their misappropriations from the company.

o Director‘s inattentiveness created environment in which other directors could steal from company and she was therefore liable to shareholders.

o Ways D could have absolved herself from liability: informing the directors of the impropriety and voting for

a proper course of action objecting

duty of good faith – duty of loyalty – duty of due care -

HYPO after Jersey Bank: Q1: raises issue of fiduciary duty

o health club that is on the lip of insolvency, 5k in cash, if they liquidated there wouldn’t be enough to pay creditors in full. a lot of creditors are members (b/c they have to pre-pay membership dues). Should they spend 5k on ad campaign?

o probably not a breach of fiduciary duty (business judgment rule)

or, maybe board should distinguish between current creditors (who sign onto venture knowing that its possible to lose money) and any new members they’d sign up in their ad campaign (this would be close to fraud, when you know you’re 95% certain to close soon)

Derivative Actions and Duty of Loyalty

A shareholder derivative suit is a lawsuit brought by a shareholder on behalf of a corporation against a third party, usually officers of corporation.

1) Requirement of Demand on the Directors

A stockholder filing a derivative suit must allege either 1) that the board rejected his pre-suit demand that the board assert the corporation’s claim OR 2) allege with particularly with the stockholder was justified in not having made the effort to obtain board action (e.g. board is not disinterested)

Grimes v. Donald (Del. 1996) - when P makes pre-suit demand, he recognized legitimacy of board, and the board is entitled to presumption of business judgment rule UNLESS P can allege facts w/particularity that create reasonable doubt in competence of board.

o No such doubt created here b/c board’s contract with CEO (to not unreasonably interfere) was an informed decision to delegate a task is as much an exercise of business judgment as any other, and was not an abdication of directorial authority merely b/c it limited a board’s freedom of future action.

*** Grimes – demand rule is important for 3 policy reasons 1. alt dispute resolution

o to bring this issue to outside directors and give them opportunity to come up with the most appropriate remedy, which usually avoid lawsuit(fire the bad actors, put in internal controls, dock salary)

2. if ADR doesn’t work, Board can bring lawsuit 3. if its meritorious claim, shareholders can bring lawsuit

Case Note: Distinction between direct and derivative claims depends on

o the nature of the wrong alleged (wrong against corporation) AND

o the relief, if any which could result if P were to prevail. Can there be a judgment for money damages against corporation in

derivative suit?? DGCL 145(b) – corporation may pay Ds expenses if court

determines that D is failry entitled to indemnity

The Role of Special Committees

Special committee is entitled to BJR as long as it is 1) properly appointed and 2) appropriately disinterested

Auerbach v. Bennett (NY 1979) – Committee’s finding that derivate action should not proceed was entitled to BJR:

o no evidence that committee was not independent/disinterested

o **** court can evaluate methodologies and procedures of SLC. However, methods were fine here (talked to lots of people, hired outside experts, due diligence, etc)

A self-interested board MAY still be able to validly appoint an independent committee of disinterested board members that is entitled to BJR unless there’s a claim of bad faith, lack of independence or less-than-full investigatin).

Zapata Corp. v. Maldonado (Del 1981) – P did not make prior demand, b/c it would be futile

“a stockholder may sue in equity in his derivative right to assert a cause of action in behalf of the corporation, without prior demand upon the directors to sue, WHEN it is apparent that a demand would be futile” (McKee)

BUT, an independent committee of disinterested directors determines in good faith that that litigation initiated by one of its stockholders must be dismissed, a court must oblige, absent a claim of bad faith, lack of independence, or inadequate investigation.

o BUT, committee must show MORE than business judgment o excuse the suit, esp if it was properly brought

ZAPATA: ***** where stockholder wants suit to continue and Board says NO, what should Court of Chancery do?

two steps:o 1. court looks into independence and good faith of the

committee and the reasonableness of its investigation. if this is ok, then

o 2. court independently determines whether granting denial of derivative action would be proper (would it prematurely terminate a stockholder grievance deserving of further consideration in the corporation’s interest)

DEFININING “INDEPENDENCE” OF SLC

In re Oracle Corp. Derivative Litigation (Del. Ch. 2003) the question of independence turns on whether a director is, for any substantial reason, incapable of making a decision with only the best interests of the corporation in mind.

SLC did not meet its burden to show that it was independent/impartial, b/c the committee members were Stanford profs and Ellison was benefactor of Stanford

Court shouldn’t ignore social norms (pressure on these investigators not to find against people important to the university that employs them).

In Beam ex re. Martha Stewart Living (2004) – to render a director unable to consider demand, a relationship must be of a bias-producing nature. Allegations of mere personal friendship or a mere outside business relationship ON THEIR OWN, are insufficient to raise a reasonable doubt about a director’s independence.

the SLC has the burden of establishing its own independence by a yardstick that must be “above reproach”

**** RECAP:derivative action – shareholder bringing lawsuit on behalf of corporation against corporation’s management/directors

(exception to rule that board of directors manages corporations and shareholders have no rights to manage corporation)

DEMAND REQUIREMENT (shareholder asks board of directors to bring lawsuit).

in some states demand is mandatory with no exceptions (NY, DE) in other states, demand can be excused if futile

3 fact patterns where lack of demand can be excused as futile:

1. where majority of board is interested/compromised (P must raise reasonable doubt that board is interested)

2. if board is dominated by someone who is interested 3. if P can raise reasonable doubt that underlying

transaction was not an exercise of proper business judgment.

o Aronson – If P makes demand, P can’t argue that demand was futile (so most Ps don’t make demand, go right away to claim that demand would be futile)

GO OVER DIFF APPROACHES TO DERIVATIVE ACTIONS (NY & DE)

2. DUTY OF LOYALTY

The business judgment rule yields to the rule of undivided loyalty. Rule of undivided loyalty applies in every situation in which a trustee chooses to deal with another in such close relation with the trustee that possible advantage to such other person might influence, consciously or unconsciously, the judgment of the trustee.

Bayer v. Beran (NY 1944) - Ps claim that company spent money on a radio show to feature the wife of the company’s president (she was a well-known singer). This claim failed b/c

o other directors didn’t know wife might be included until after they approved this type of radio show

o wife was paid regular rate; no evidence that program was designed to foster/subsidize wife’s career

o while this wasn’t approved by full meeting of board, approval of every board member individually is acceptable

**** VERY IMPORTANT:Del Law 144: no contract/transaction between corporation and director/officer shall be invalidated because of conflict of interest, IF:

1) the board of directors knows about director/officer’s interest in the contract/transaction and is still authorized by a majority vote of the board’s disinterested directors

2) the shareholders know about director/officer’s interest in the contract/transaction and a majority approve it AND

3) the contract/transaction is fair to the corporation when it is authorized

NOTE: DGCL 144 DOES NOT PROVIDE IMMUNITY TO D’S (TRANSACTION STILL HAS TO BE FAIR)

****** FOR TEST: IF P PROVES THAT D VIOLATED DGC 144, THEN BURDEN OF

PROOF SHIFTS TO D TO PROVE THAT ACTION IS OK UNDER “FUNDAMENTAL FAIRNESS” STANDARD.

Benihana of Tokyo v. Benihana Inc (Del. 2006) - Approval of board will allow director to negotiate on behalf of other party w/out breaching duty of loyalty to corporation on which he is a director

Abdo did not breach section 144(a)(1) duty of loyalty by negotiating on behalf of other company, b/c:

o Abdo’s role as negotiator was known to the board and all relevant parties before they made their decision

o Abdo did not use any confidential Benihana info when he negotiated w/BFC.

A. CORPORATE OPPORTUNITIES (subset of duty of loyalty)

Broz - *** Doctrine of corporate opportunity – a corporate officer/director may not independently take advantage of an opportunity (without first offering it to the corporation) that is

1) in the corporations’ line of business; 2) an opportunity which the corporation is financially able to

undertake;

o class note : it is not up to the individual director to determine whether corporation is financially able to take advantage of the opportunity

3) an opportunity the corporation would be interested in; 4) is of practical advantage to the corporation and 5) would conflict with the corporation if the officer/director

took advantage of it

Broz v. Cellual Information Systems Inc. (Del. 1996) - When director receives permission to pursue opportunity from head corporation, he is not breaching corporate opportunity doctrine

TEST NOTE: While there is no requirement of formal presentation where corporation doesn’t have interest, finaincial ability to take that oppritunity, Broz should have gone to full board for an accurate determination of whether CIS had the capability/capacity to invest in the cell tower Broz wanted.

Broz was under no duty to consider that a company buying CIS in the future would want to buy the cell tower he was buying. No duty to consider contingent and uncertain plans

In re eBay, Inc. Shareholders Litigation (Del Ch. 2004) - directors’ acceptance of stocks at IPO price WAS a violation of doctrine of corporate opportunity b/c

the directors were given these opportunities b/c of the past (and potentially future) work that eBay has given Goldman Sachs.

eBay would have been financially able to exploit the opportunities in question

o TEST NOTE: even if there was no corporate opportunity claim, there would be a cognizable claim under Redding v. Regan – agent’s profit b/c of his position as an agent he must turn over profits to principal)

No single Broz factor is dispositive, rather all factors must be balanced as they apply to a particular case

B. DUTY OF LOYALTY OF DOMINANT SHAREHOLDERSFundamental fairness test: **** When fiduciary duty is of loyalty is violated by self-dealing, intrinsic fairness standard applies (DEFENDANT has burden to prove transaction was OBJECTIVELY FAIR)

*** Sinclair Oil Corp v. Levine (Del. 1971) – parent forcing subsidiary to pay dividends is governed by BJR b/c there was no self-dealing: minority shareholders of Sinven also benefited from dividends in relation to the proportion of stock they owned).

o Parent received nothing from subsidiary to the exclusion of its minority stockholders.

Parent company forcing subsidiary to contract with another subsidiary (and not enforce payment) IS self-dealing, & fails under intrinsic fairness test

o parent benefitted from the products produced by Sinven while the minority shareholders of Sinven were not able to share in the receipt of these products.

o it was not intrinsically fair to the minority shareholders of Sinven for Sincalir to force Sinven not to enforce the contract.

When a stockholder is voting as a stockholder, he may have the legal right to vote with a view of his own benefits and to represent himself only; HOWEVER, when a stockholder votes as a director he has a fiduciary duty to the other stockholders. (can’t benefit himself at expense of other stockholders)

Zahn v. Transamerica Corporation (3d Cir. 1947) - Company’s assets were worth more than company. Majority shareholder got company to buy back shares from minority stockholders and then dissolve the company in order to profit from the sale of the assets.

o majority shareholder of stock owes a duty of loyalty to other shareholders

Remedy: Damages to injured shareholders measured by what they would have been worth at dissolution if they had been allowed to keep them.

CLASS – what majority should have done is told class A that their assets were worth a lot more, that company was going to be liquidated and that board wanted to by stock at pre-established price (so that class-A stockholders will convert their shares to class B so they can benefit from the tobacco windfall)

NOTE:if the board has fiduciary duty to two classes of stock, this may create a conflict of interest when the two classes have conflicting interests, as in this casethe fiduciary duty is paid to the LOWEST class of shareholders (common shareholders).

C. RATIFICATION

EXAMPLE OF WHAT A CORPORATION SHOULD DO & HOW COURTS INTERPRET 144(a)(2) (ratification by shareholders):

EXAMPLE OF OBJECTIVELY FAIR DEAL:Ratification by majority of “disinterested” shareholders of an “interested transaction,” shifts the burden of proof to an objecting shareholder to demonstrate that the terms are so unequal as to amount to a gift or waste of corporate assets. Otherwise, D must prove that transaction was OBJECTIVELY FAIR unless there is a shareholder ratification (by majority of uninterested shareholders).

Fiegler v. Lawrence (Del. 1976) - majority of disinterested shareholders did not approve deal to buy company owned by corporation’s president, but Court found deal was objectively fair b/c

o 1) corporation received properties which, by themselves were clearly of substantial value

o 2) corporation received a promising, potentially self-financing and profit-generating enterprise w/proven markets an commercial capability which could well be expected to provide corporation with the cash it sorely needed to explore/develop its own properties.

INTERESTED TRANSACTION (waste management got treated differently in merger than the ordinary shareholders - it directly increased its share in other corporation while public shareholders got less)

BURDEN SHIFTING TEST - Where interested transaction between corporations is approved by an informed vote by majority of the disinterested stockholders, then the burden of proof of fundamental unfairness shifts to the P.

Wheelabrator Technologies (Del Ch 1995) - the merger was approved by a fully informed vote of a majority of Wheelabrator’s disinterested shareholders (144(a)(1) sterilizing vote)

o board’s quick decision is not sufficient evidence to support an uninformed decision Wheelabrator’s directors already had a substantial working knowledge of Waste (they’d been working together a long time) and heard from investment bankers and attorneys

NOTE: standard for proving a decision was not informed is fairly high – must be direct evidence of info intentionally being withheld from stockholders of being so grossly distorted that no reasonable person could determine it was not the truth.

TEXTBOOK Q. Why should the effect of a fully informed shareholder on the standard of review be different for duty of care cases than for duty of loyalty cases NOT involving de jure or de facto control?

3. DUTY OF GOOD FAITH

A. Executive Compensation

Disney: breach of good faith: RE-READ DISNEY 1. when D are intentionally trying to harm company (clearly

bad faith)

2. Directors negligently or recklessly don’t do their job (don’t practice due care – e.g. directors in van gorkom)

3. *** Directors KNOWINGLY violate their duty

Disney – BJR rebutted if P shows breach of duty of care, loyalty or bad faith. If P shows one of these then burden shifts to directors to demonstrate that their actions wre fair to the corporation and its shareholders.

In re The Walt Disney Co. Derivative Litigation (Del 2008)- Neither the approval of the $130 million employment agreement/severance package nor the way Ovitz was fired constituted a breach of fiduciary duty of board of good faith by directors

board was fully informed and knew the consequences of their actions

BEST PRACTICE: BOARD SHOULD AND DID create committee/group of outside directors and delegated responsibilities to them, including exec. comp.

board was fully informed that if Ovitz was fired w/out cause, his severance would be quite large.

NO BREACH OF DUTY OF GOOD FAITH IN FIRING OVITZ agency issue : Disney bylaws said Chairman/CEO has power

of general/active management. Since this is ambiguous, courts turn to extrinsic evidence, which support conclusion that Eisner had the power to fire Ovitz.

SEVERANCE PACKAGE WAS NOT CORPORATE WASTE To prove corporate waste, P must prove that deal was so

one-sided that no business person of sound judgment could conclude that the corporation had received adequate consideration.

The payment of a contractually obligated amount cannot constitute waste unless the contractual obligation is itself wasteful.

Notes from Ovitz:

de facto officer - one who actually and rightfully assumes possession of an office and who is actually discharging the duties of that office but for some legal reason lacks de jure legal title to that office.

TEST Q: did Eisner have actual, applied authority etc to see if he had

power to fire Ovitz? BOARD UNDERSTOOD THAT EISNER AS CHAIR AND CEO HAD

POWER TO FIRE PEOPLE

Jones v. Harris (7th Cir. 2008) – financial adviser owes fiduciary duty of candor in negotiation and honesty in performance, but this doesn’t mean he can’t negotiate a compensation higher than market rates.

B. OVERSIGHT

Caremark: directors have duty to attempt in good faith to assure that an adequate corporate information and reporting system, exists

failure to do so under some circumstances may, in theory at least, render a director liable for losses caused by non-compliance with applicable legal standards.

Director oversight liability requires that, while KNOWING that they were not discharging their fiduciary duties:

a. directors have utterly failed to implement any reporting or information system or controls OR

b. having implemented such a system, directors have consciously failed to monitor/oversee it, thus preventing themselves from being informed of risks or problems requiring their attention.

o Stone v. Ritter (Del. 2005) – if legit oversight system exists and there are no red flags (no reason for board to suspect malfeasance), bad outcome does not equal bad faith

6. CONTROL IN CLOSELY HELD CORPORATIONS1. CUMULATIVE VOTING AND CONTRACTUAL CONTROL DEVICES

A. Limits in Voting

Shareholders may agree to vote cumulatively w/another shareholder Ringling Bros. - Barnum & Bailey Combined Shows v. Ringling (Del

Ct. Ch. 1947) – problem in this case was that parties agreed to vote together and to submit votes to a mediator, but NOT that the losing party would be bound by mediator’s decision.

o REMEDY: the dissenting party’s votes were just not counted (rather than counted along w/the winning party the way the agreement meant them to be)

publicly owned corporations are incorporated in Delaware privately owned corporations are usually incorporated in the state

they do business in

Board of directors cannot enter into contract that stops them from changing officers, salaries or policies (this is breach of directors’ duty to shareholders)

McQuade v. Stoneham (NY 1934) REMEDY: contract to retain board members forever was illegal and void

Clark v. Dodge (NY 1936) - lifetime employment agreement among directors is OK ONLY IF the parties involved in the agreement are the only stockholders b/c there is no potential harm to other shareholders, despite DGCL section 27.

The holding of McQuade should be confined to the facts of that case.

o remedy – suit for breach of contract allowed to continue (?)o for test: how do you ensure that future shareholders are on

notice about these provisions? (put legend on certificate saying as much)

B. Abuse of Control

Stockholders in the corporation owe one another the “utmost good faith and loyalty.”

Wilkes v. Springside Nursing Home, Inc . (Mass 1976) - Terminating a minority stockholder’s employment or by severing him from a position as an officer or director (freeze out) without valid business purpose is a breach of duty of utmoth good faith and loyalty

o the majority effectively frustrate the minority stockholder’s purpose in entering on the corporate venture and also deny him an equal return on his investment.

o a guarantee of employment with the corporation may have been one of the “basic reasons why a minority owner has invested capital in the firm”

o REMEDY: money damages based around what he would have made had D remained an officer and director of the corporation

Wilkes: COURTS TEST FOR WHEN MINORITY STOCKHOLDERS ALLEGING BREACH OF STRICT GOOD FAITH DUTY OWED TO THEM BY MAJORITY:

1) did the controlling group can demonstrate a legit business purpose for its action

2) if yes, did this legitimate business purpose outweigh the practicability of a less harmful alternative? [even if BJR applies, P gets another chance to demonstrate that corporation could have used another, less harmful alternative]

Ingle v. Glamore Motor Sales, Inc. (NY 1989) - A minority shareholder who agrees by contract to have his shares repurchased upon termination of his employment for any reason acquires NO right from the corporation or majority shareholders against at-will discharge.

courts will generally enforce shareholders agreement, including buy-out provisions

[the way to resolve Ingle and Wilkes is that in Ingle the P specifically contracted to have his shares repurchased, whereas in Wilkes there was no such provision]

Whether a “freeze outs” has occurred is determined in light of of the P shareholders “reasonable expectations” (both explicitly and implicitly)

Brodie v. Jordan - Ds interefered with Ps reasonable expectations by:

o excluding her from corporate decision makingo denying her access to company information AND

o hindering her ability to sell her shares on the open market

***** the proper remedy for a freeze-out is to restore the minority shareholder as nearly as possible to the position she would have been in had there been no wrongdoing/fiduciary breach – w/e Ps reasonable expectation of what she would have gotten from corporation w/out breach (corporate bylaws influence reasonable expectations)

Brodie – P is not entitled to a forced buy-out b/c P had no reasonable expectation that Ds would ever buy Ps shares (nothing in corporate bylaws)

REMEDY: o if breached expectations can be quantified, money

damages are appropriateo prospective injunctive relief may be granted to ensure

Ps participation in the businesso if Ds drained off corporate earnings for themselves,

court may also compel declaration of dividends

DISTINGUISHING BRODIE FROM WILKES CASE in Wilkes, the problem was that the other shareholders FIRED P. In

Wilkes his expectation was to have a livelihood. In this case, it has to be remanded to figure out what the expectations (of Ps dead husband) were.

When board director/shareholder refuses to act, w/the knowledge that his refusal may harm the corporation, this refusal is a breach of his fiduciary duty to other stockholders

Smith v. Atlantic Properties (1981) - When refusal to vote for dividends prevents company from doing so, leading to IRS investigation, refusal IS a breach of fiduciary duty to the other stockholders.

o Had Wolfson suggested improvements to spend the money on instead, he might have won

o REMEDY: Wolfson had to reimburse D corp for the IRS penalties and interest and court ordered corp. to declare a reasonable dividend then and as appropriate in the future.

NOTE: most people think this case is an outrage, even though Wolfson is rather notorious

not every state takes Mass position that shareholders of closed corporations have a fiduciary duty to each other.

Nixon v. Blackwell – if you have a closed corporation you have an OPPORTUNITY to negotiate a shareholder agreement, and if you choose not to do so, we are not going to impose duty. (the usual rules of corporations apply, no duty except in Sinclair v. Levine type fact pattern)

A close corporation buying its own stock from stockholders, it has a fiduciary duty to disclose material facts to stockholders.

Jordan v. Duff and Phelps, Inc. (1988) - Corporation had a duty to disclose imminent sale to P, employee who was leaving company

REMEDY:o P may be entitled to damages if he can show that the

nondisclosure caused him to act to his financial detriment To prove this, P must establish that had he known about

the impending sale he would have stayed at the company through its difficulties until it reached its current price.

Dissent:o agreement was employment at will, bound ee to sell shares;

conferred no right to receive such info (agreement encompassed entire relationship, and didn’t involve such a duty of disclosure) IS THIS LIKE INGLE??

*** if you have a shareholder’s agreement with a buy-out provision, courts will almost always enforce it by its terms

No breach of covenant of good faith and fair dealing when Ps lacked a reasonable expectation of participation in future benefits

Nemec v. Shrader (Del 2010) - Enforcing contract provision of buy-back of retiring directors’ stock was NOT breach of corporations’ fiduciary duty to those retiring directors when corporation knew its stock price was going to dramatically increase soon after b/c:

o Ps contract explicitly said they could get bought out in 2 years)

no breach of fiduciary duty of loyalty to Ps in redeeming Ps shares b/c this redemption was expressly included in the contract, and can only be brought as a breach of contract claim.

o implied covenant of good faith (?) only applies to developments that couldn’t be anticipated, not developments that the parties simply failed to consider.

NOTES: what if the board of directors did decide to pay Ps the higher price?

o They’d risk charges of favoritism; shareholders could sue them for breach of duty in extending option period to buy out Ps at higher price and have a good case.

2. DISSOLUTION

A. Control, Duration and Statutory Dissolution

corporation owe each other same duty of utmost good faith and loyalty that partners do (Alaska Plastics)

4 situations where corporations can be required to buy a dissatisfied shareholders shares at fair value (in order of Court’s preference/priority):

1. there is a buy-out provision in articles of incorporation/bylaws that provide for purchase of shares by corporation contingent on some event

2. shareholder petitiona court for involuntary dissolution/liquidation of the corporation (extreme remedy; not preferred)

3. after some significant change in corporate structure (merger, etc), shareholder may demand a statutory right of appraisal

4. purchase may be justified as an equitable remedy upon a finding of a breach of fiduciary duty between directors and shareholders and the corporation or other shareholders.

o Alaska Plastics, Inc. v. Coppock (Alaska, 1980) – appraisal remedy is NOT justified by the fact that majority shareholders did NOT:

notify P director/shareholder of annual meetings vote her a directors fee consult with her on purchase

o APPROPRIATE REMEDY: P MAY have action for suspect expenditures directors have made w/company money, arguing that that money should have been spent on dividends.

Where a controlling shareholder takes advantage of a special benefit (like that gained by forcing corporation to buy his shares), the fiduciary duty owed to other shareholders requires that the corporation offer such a benefit equally.

Alaska Plastics - where none of the other shareholders have sold their stock to the corporation, it would not be appropriate to order the corporation to purchase Ps stock.

B. DISSOLUTION OF LLC OR JOINT VENTURE

For LLC OR joint venture corporation with 2 shareholders, dissolution can be mandated by court whenever it is not reasonably practicable to carry on the business in conformity with the LLC agreement

*** section 273 judicial order of dissolution requireso 1. corporation has only 2 stockholders who each own

50% o 2. stockholders must be engaged in a joint ventureo 3. stockholders must be unable to agree upon whether

to discontinue the business or how to dispose of its assets

Haley v. Talcott (Del Ch. 2004) REMEDY: Dissolution IS granted, b/c in this case it was NOT reasonably practicable for the LLC to continue to carry on business in conformity with the LLC agreement

o though LLC is still technically functioning, this is just from residual inertial status quo that happens to exclusively benefit one of the 50% members.

o Exit Agreement is not alternative to dissolution here b/c it would Be INEQUITABLE (doesn’t say who gets to keep LLC if neither wants to leave; would leave one party w/no upside potential and no protection over considerable downside risk)

3. TRANSFER OF CONTROL

The sale of corporation’s assets followed by corporation’s liquidation was NOT a sale of controlling interest in corporation.

Frandsen v. Jensen-Sundquist Agency (7th Cir. 1986) - D had right of first refusal ONLY IF majority wanted to sell controlling interest in J-S. Asset sale + dissolution did not trigger this right, and neither did original merger contemplated b/c the acquired firm disappears as a distinct legal entity. Shareholders shares would have been extinguished and they would have been paid.

Zatlin v. Hanson Holdings (NY, 1978) - Minority shareholders are not entitled to share equally in premium paid for controlling interest in corporation, absent acts of bad faith on part of controlling shareholder

Controlling stockholder, acting in good faith, can sell controlling interest at a premium price b/c those who invest the capital necessary to acquire a dominant position in the ownership of a corporation have the right of controlling that corporation

EXCEPTION:

majority stockholder can sell controlling interest at premium EXCEPT when 1) the sale results in a sacrifice of a corporate advantage derived from a favorable market situation and 2) the stockholder gains extra profit from selling this corporate advantage

Perlman v. Feldmann (DERIVATIVE ACITON) - director violated his fiduciary duty by giving up a power inherent in the corporation (the ability to control allocation of steel in times of short supply) for his personal gain

o Both as director and as dominant stockholder, D stood in a fiduciary relationship to the corporation AND to the minority stockholders.

o While there is no fraud, misuse of confidential info or outright looting of helpless corp, Ds actions do not comply with high standard of utmost loyalty to corporate fiduciaries

o REMEDY:???CLASS NOTE: you’d almost certainly have to show a lot more now

**** Statutes: Delaware General Corporation Law 202

7. MERGERS AND TAKEOVERSI. MERGER1. friendly negotiated merger (this is the norm)

2 corporations are going to JOIN, one will survive and the other will disappear (surviving corporation takes over all assets and liabilities)

o usually, there has to be a vote of shareholders of disappearing corporation, (and sometimes also a vote of shareholders of surviving corporation).

o EXCEPTION : short-form merger if you have a parent corporation that owns an overwhelmingly large percentage of the subsidiary then you don’t have to have the subsidiaries shareholders vote. (required % that parent owns changes state by state)

statutory merger – A merger in which one of the merging companies continues to exist as a legal entity, rather than being replaced by the new entity. opposite of statutory consolidation.

requires approval by votes of both boards of directors and shareholders of each corporation AND shareholders of each corporation who voted against the merger would have an “appraisal right” (they would have been entitled to demand that they be bought out at the fair value of their shares.)

practical mergers: a) exchanging shares

o no vote of directors or shareholders would be required.o no appraisal rights

b) Cash payment for controlling interest c) Company buys all of the other company’s assets

o the acquiring corporation does not succeed to unforeseen liabilities of the acquired corporation as it would under a statutory merger.

*** REMEDY: APPRASIAL ACTION - if you vote against a merger you have a right to have the Chancery determine the fair value of stock and then receive that fair value in lieu of what you would have got from the merger.

2. freeze-out merger

STANDS FOR LOTS OF PROPOSITIONS IN DELAWARE LAW (IMPORTANT CASE ON CASH-OUT MERGERS)

TENDER OFFER remember in reading cases from the 80s, cash out mergers were

brand new. Chancery starts coming into the 20th Century in valuation. THIS IS A CLASS ACTION!!

When there is self dealing by controlling shareholder (majority and minority shareholders are treated) FAIRNESS STANDARD APPLIES BURDEN IS ON D b/c P has shown that there was misconduct.

Weinberger v. UOP, Inc. (1983) – The elimination of UOP minority shareholders by cash-out merger between UOP and its majority owner, violated duty of candor b/c minority stockholders were denied critical info that majority was willing to pay $24/share:

o All conflicts of interest were resolved by Signal in its own favor without divulging any aspect of them to UOP

o Deal was entirely initiated and rushed through by Signal (alone, this is not indicative of lack of fairness, but together w/lack of disclosure is damning)

o Signal rushed transaction/rushed Lehman brothers.REMEDY:

usual remedy is appraisal action if you can prove self-dealing/unfairness then remedy will still be an

appraisal action (?) – here it is a class action, so even shareholders who votes FOR the merger will be entitled to the appraisal aciton

NOTES: NO BUSINESS PURPOSE RULE IN DELAWARE DE. CHANCELLOR CAN USE ANY TRADITIONAL MEANS OF VALUING

CORPORATION (DELAWARE 262 – valuing shares)

BURDEN OF PROOF FOR CASH-OUT MERGER: In a suit challenging a cash-out merger P must allege

specific acts of fraud, misrepresentation or other items of misconduct to demonstrate unfairness of merger terms to minority. THEN, burden of proof is on majority shareholder to show by a preponderance of the evidence that the transaction.

If there is a vote of a majority of the minority shareholders (and D is able to prove that the vote was INFORMED) THEN the burden shifts to the P to show the transaction was unfair to the minority.

class notes: don’t have EEs on board of subsidiaries should not be doing the

fairness evaluation, UNLESS you are willing to have them disclose everything they do to subsidiaries’ directors.

Delaware used to require that there be a valid business purpose for a merger. It doesn’t anymore, but MASSACHUSETTS DOES!!

FOR TEST: valid business purpose – Delaware NO, Mass YES

Delaware does not say that directors owe fiduciary duties TO EACH OTHER, Mass DOES SAY THAT (Check this!)

Coggins v. New England Patriots Football Club (Mass, 1986) - Controlling stockholder who is also director standing on both sides of transaction has to show that merger had legit business purpose AND that it was fair to the minority. (WILKES duties apply here – check this)

NOTE: Delaware doesn’t use this b/c business owner can almost always come up with SOME business purpose

Coggins v. New England Patriots Football Club (Mass, 1986) - *** Business Purpose test – controlling stockholders violate their fiduciary duties when they cause a merger to be made for the sole purpose of eliminating a minority on a cash-out basis

D fails to prove business purpose here here: the merger was a freeze-out merger undertaken for no legitimate business purpose but just for personal benefit of Sullivan.

o The sole reason for the merger was to restructure Patriots so Sullivan could repay his personal debts a director of a corporation violates his fiduciary duty when he uses the corporation for his or his family’s personal benefit in a manner detrimental to the corporation.

REMEDY: Recission is not feasible b/c the merger happened 10 years ago, too complicated to get people back to position they were before merger. SO, Ps Wind up getting current value of the shares they would have had. (opposite of an appraisal action)

TEST ARGUMENTS if Business Purpose rule applies: (almost always a good business reason for any action)

Wrigley: argue that contested action is in the long-term advantage of corporation

Dodge: don’t just say that “I want to do good in the world” NY: Biz purpose requirement for freeze-out mergers

What are the fiduciary duties of a majority shareholder contemplating a freeze-out under Delaware law?

IN STATUTORY MERGER, ALL ASSETS AND LIABILITIES TRANSFER TO THE REMAINING CORPORATION.

3. ASSET SALE (DE FACTO MERGER)de facto merger merger through sale of assets

de facto arguments don’t work in Delaware or many states – EXTREME CASE shareholders always have right to approve merger,shareholders do NOT have right to approve asset PURCHASES (unless it is in corporate bylaws?)

De facto merger (asset sale) that fundamentally changes company REQUIRES that shareholders have appraisal rights. (Otherwise, P would forced to accept shares in what is essentially a different corporation.)

Farris v. Glen Alden Corporation (PA 1958) - asset sale was a de facto merger, which required that shareholders be allowed appraisal rights when there was a fundental change:

o business model changedo size of corporation dramatically increasedo board of directors changed (List would take over 11 of 17

spots on board)o Ps proportionate interest would be reduced to 2/5 of what it

was before mergero P would suffer financial loss after merger, b/c value of new

stock would be worth $17/share less than old stock

NOTES: Terry v. Penn Central – interpreting new PA law (passed in

response to Farris; defeated de facto merger doctrine in PA) - an acquisition by merger with a subsidiary should NOT be treated as a de facto merger with the parent

TEST NOTE: NO DE FACTO MERGER IN DELAWARE!! (But there is in NY or someplace else – check this)

the sale-of-assets statute and the merger statute are indpendent of each other . . . Framers of a reorganization plan may resort to either type of corporate mechanics to achieve the desired end. Hariton v. Arco Electronics (Del. 1983)

note: fraud and misrepresentation are actionable regardless of form HOWEVER, no appraisal action if statute doesn’t say you get an

appraisal action no vote if statute doesn’t say you get a vote

Statutes: Delaware General Corporation Law: 251, 262, 271

What does the Hariton v. Arco case indicate about Delaware’s approach to statutory construction?

statutes regulating assets sales and statutes regulating mergers are separate (?)

II. TAKEOVERS

1) tender offer may or may not be followed by a merger may be friendly or hostile

In a tender offer, the bidder contacts shareholders directly; the directors of the company may or may not have endorsed the tender offer proposal.

once tender offer starts there has to be complete equality (among shareholders offered buy-out??)

1) how far above market price is tender offer? 2) why does buying corporation value your corporation more than

market price? (they think mgmt is bad) in short, when there’s a tender offer you want to hold on to your

shares b/c they’re probably about to get a lot more valuable once the other company takes over.

CB: 743-661) Development

two-tiered front loaded cash tender offer: single offer to acquire 100% control of a target corporation in two steps

step 1: offeror acquires, usually for cash, some of the target company’s shares

step 2: offeror acquires the remainder of the target’s shares in exchange for securities worth less than the cash paid in the first step.

two-tiered method is attractive to offeror b/c it increases the offeror’s prospects for success b/c it prompts many

target company shareholder to tender their stock quickly, before expiration of the first-step cash offer and before the target can consolidate itse defenses

2. it is less expensive than a partial tender offer for control (with no mention of a second step) with the acquiror later deciding to acquire the remainder of the outstanding shares)

In Unocal, Court discusses and criticizes the “two-tier front loaded cash tender offer” – not difficult for a determined board of directors to resist, by 1990s they had virtually disappeared

FOR TEST: ALWAYS HAVE TO HAVE A SHAREHOLDER VOTE FOR:

o MERGERo SALE OF SUBTANTIALLY ALL ASSETS

SOLE EXCEPTION: SHORT FORM MERGER (Where parent already owns a statutorily-mandated amount of shares in subsidiary)

LAW FOR TENDER OFFER:

OUTLINE:Unocal – standard of scrutiny in DEFENDING company

Revlon – standard for board’s behavior when it is INEVITABLE that company was going to be broken up

ENHANCED BUSINESS JUDGMENT RULE IN LIGHT OF HOSTILE TENDER OFFER: board is protected by BJR in opposing a takeover offer IF board 1) is fully informed and reasonably believes the tender offer is harmful to the corporate enterprise AND 2) the board acts reasonably in relation to the threat posed.

Unocal Corporation v. Mesa Petroleum (Del. 1985) – Unocal’s response to tender offer that was lower than actual value of stock (making a self-tender offer ONLY TO NON-MESA SHAREHOLDERS) was ok under heightened BJR b/c:

o 1) board had reasonable belief of danger: Unocal directors reasonably and in good faith concluded

that Mesa’s two-tiered tender offer was coercive and inadequate:

shareholders are going to be merged out at inadequate price

junk bonds used to finance this deal are very dicey value

o 2) board responded reasonably (reaction was related to threat and aimed to ensure minority shareholders receive equal value of their shares):

board acted to defeat inadequate offer or, if they failed to defeat it, provide the stockholders who would otherwise get “junk bonds” with $72 worth of “senior debt”

TEST NOTE: BOARD’S PROCEDURE IN REJECTING TENDER OFFER/COMING UP WITH ALTERNATIVE PLAN WAS IMPECCABLE

meetings was 9 ½ hours advised by two sets of investment bankers who both said proposal

was inadequate board had 8 outside directors and 2 inside directors

o inside directors left and outside directors unanimously decided to reject tender offer

board also proposed alternatives.

self-tender offer - A firm's offer to buy back its own stock for a price well above fair market value. Usually excludes a targeted number of shareholders. If a firm becomes its own majority or plurality shareholder, it makes a hostile takeover impossible or much more expensive.

NOTES ON UNOCAL: Unocal - one of the factors a board may consider in

determining how to react to a takeover threat is the quality of the securities being offered.

junk bonds – debt obligations of a corporation that are usually subordinate to other debt and bear a relatively high level of risk and high interest rate. unclear why shareholder should be concerned about riskiness of junk bonds:

o 1. junk bonds are riskier than a corporation’s investment-grade bonds, they are less risky than the common stock the shareholder already owns

BUT, the problem comes when junk bonds are valued at higher worth than they are actually worth

***** for test: DURING A TAKEOVER, MUST APPLY UNOCAL STANDARD TO EVERY ACT OF BOARD

APPLYING UNOCAL STANDARDS:

Revlon v. MacAndrews:defensive tactics that were OK under Unocal:

1) Poison pill - board had power to adopt it and it was reasonable b/c it STIMULATED, rather than stopped, BIDDING.

2) self-tender (the company’s exchange offer for 10 million of its shares) - board believed price offered was too low so this was was reasonable and proportionate response.

Paramount v. TimeDefensive tactics OK under Unocal:

restructuring of time-warner transaction, including the adoption of several preclusive defense measures, was a reasonable response in relation to a perceived threat:

**** Time’s response was not aimed at forcing Time-Warner merger on its shareholders but rather was just meant to carry forward a pre-existing transaction in an altered form.

OMNICARE UNDER UNOCAL: DEAL PROTECTION DEVICES FAIL UNDER UNOCAL WHEN THEY ARE PRECLUSIVE AND COERCIVE RESPONSIVE TO DANGER lack of fiduciary-out clause fails under unocal b/c it makes merger a fait accompli; this applies even when there is a fiduciary out clause but it is ineffective (for test: argue that such language on test is similarly ineffective)

The reasonableness of deal protection (DEFENSIVE MEASURES) are to be evaluated at the time a competing bid emerges, and not at the time the merger agreement is entered into. 

POISON PILLSpoison pill = A strategy used by corporations to discourage hostile takeovers. With a poison pill, the target company attempts to make its stock less attractive to the acquirer. There are two types of poison pills:

flip-in pill allows holder of right to purchase stock – except acquirer and affiliates or associates -- to buy 2 shares of the target’s common stock at half price. This massively dilutes the value of the target stock

"flip-over" allows stockholders to buy the acquirer's shares at a discounted price after the merger, dramatically impairing and diluting that company’s interests.

Once sale of company appears inevitable, the board must work to maximize the company’s value to ensure the highest possible price for their shareholders.

Revlon v. MacAndrews & Forbes Holdings, Inc . - no-shop provision and the lock-up options given to one company was inappropriate response to hostile tender offer from another company once it became evident that Revlon would be bought by a third party the directors b/c at that point Revlon had a DUTY to the shareholders to get the best price for their shares (which lock-up and no-shop provision prevented)

o *** Lock-ups and related agreement are permitted under Delaware law where their adoption is 1) untainted by director interest or other breaches of fiduciary duty AND 2) there is a rationally related benefit for shareholders.

in granting an asset option lock up to Forstmann, the directors allowed considerations other than maximizing shareholder profit to affect their judgment and took actions that hurt shareholders. this was a breach of the director’s duty of care.

NOTE: Lock-ups which draw bidders into the battle benefit shareholders (and are therefore legal) but measures which end an active auction and foreclose further bidding operate to the shareholder’s detriment, and are therefore illegal.

3. APPLICATION OF REVLON DUTIES unclear how Revlon duties come into effect and how you satisfy

Revlon duties.

REVLON DOES NOT APPLY where there is neither 1) a merger negotiation does NOT make the dissolution or break-up of the corporate entity inevitable (as was the case in Revlon) OR 2) transfer of CONTROL of corporation

Paramount v. Time – Time wanted to merge w/Warner (felt it would be best option to maintain journalistic integrity) through stock-swap, deal had no shop clause, Time went to banks and asked them not to finance any third party bids. Paramount then made a higher offer for Time, which Time rejected and recast its merger w/Warner as a straight purchase of stock. (NO BREAKUP).

o REVLON DOES NOT APPLY: restructuring the original merger (from stock-

swap to outright cash purchase) and thereby foreclosing their shareholders from any prospect of obtaining a control premium did NOT trigger Revlon duties

o Revlon does not prevent Board from acting to protect THREAT TO LONG-TERM PLANNING:

1) break-up was not inevitable 2) there is no transfer of CONTROL of corporation: Before deal, both Time and Warner were owned by

thousands of shareholders, neither of which has controlling interest, and Time-Warner would be owned by thousands of shareholders, none of whom have controlling interest;

o Therefore, Time Board’s decision to merge w/Warner rather than Paramount is entitled to BJR.

Time’s decision was made after an exhaustive appraisal Unocal test applies to all director actions taken following

receipt of Paramount’s hostile tender offer that were reasonably determined to be defense.

A BIG DIFF BETWEEN REVLON AND TIME IS THAT REVLON DECIDED TO SELL ITSELF TO AVOID PANTRY PRIDE. IN PARAMOUNT, TIME HAD BEEN NEGOTIATING A LONG TIME TO MERGE WITH WARNER, SO IT HAD REASONABLE REASON TO WANT TO CONTINUE THAT/BELIEVE IT WAS BETTER DEAL THAN PARAMOUNT OFFERED.

Enhanced scrutiny applies and directors are obligated to seek the best value reasonably available for stockholders WHEN: 1) there is a pending sale of CONTROL of corporation OR 2) a break up of corporation

Paramount v. QVC (Del 1994) – CHANGE OF CONTROL when public stockholders who currently own a majority of Paramount’s voting stock would no longer do so (sale of control leads to impediment/diminution of shareholder votes).

o Directors were obligated to reasonably seek the transaction offering the best value (not just price) reasonably available to stockholders

the Stock Option Agreement, coupled with the Termination Fee and the No-Shop Clause impeded the realization of the best value reasonably available to the Paramount stockholders.

the problem was that the board interpreted the fiduciary out clause of the no shop provision to mean that they couldn’t negotiate if they thouguth the alternate offer is CONDITIONAL. This makes the no shop clause unreasonable - cant interpret contract to override your fiduciary duties

o REMEDY: Failure to consider QVC offer was breach of fiduciary duty and therefore the merger agreement between Paramount and Viacom was invalid.

NOTE: NO SHOP CLAUSES ARE NOT UNREASONABLE PER SE

3 things they’re concerned about in QVC (CHECK THIS): sale of control diminution of share value impeding voting rights

FOR TEST: ARGUE THAT SHAREHOLDERS VOTE IS NOT ACTUALLY BEING IMPEDED

e.g. in QVC case, shareholders only get to vote on merger, they don’t get to choose between mergers offered, so its unclear why court is worried about this

FOR TEST: ARGUE THAT THERE WON’T BE DIMINUTION OF SHAREHOLDERS VOTES

all the shareholders of a public company like this are minority shareholders. if they already own VERY SMALL percentage, how can their individual votes really be diminished?

Revlon duties do NOT arise immediately when a company is “put in play” but only when a company EMBARKS on a transaction that will result in a change of control.

Lyondell Chemical Company v. Ryan (Del 2009) – board that took “wait and see” approach when it knew offer for company COULD be made did NOT breach duty of loyalty b/c Revlon duties did not arise until the target directors actually began negotiating the sale of Lyondell. So, the decision to "wait and see" was subject to the deferential business judgment rule.

o there was no evidence from which to infer that the directors knowingly ignored their responsibilities, thereby breaching their fiduciary duty of loyalty.

Lyondell – Board’s actions OK under BJR b/c board acted in good faith:

it met several times to consider offer generally aware of value of their company knew the chemical company market solicited and followed advice of their financial and legal advisors attempted to negotiate higher offer approved merger b/c it was simply too good not to pass along for

stockholders’ consideration

*** GOOD FAITH IS A SUBSET OF LOYALTY IN DELAWARE

DGCL 102(b)(7) – corporation can include in its incorporation papers that stockholders can’t get damages from suit for breach of duty of due care

LOCK-UPs

The appropriate standard of review for deal protection devices that lock-up a transaction is the enhanced scrutiny standard of Unocal. An exclusive merger agreement -- such as a no-shop or best efforts clause -- must include a fiduciary out, at least where the agreement presents target shareholders with a “fait accompli.”

Omnicare v. NCS Healthcare (2003) - agreement that fully locks-up a proposed merger vote and has no fiduciary out will not be enforceable under Delaware law.

o NCS’ board HAD to submit the Genesis deal to a shareholder vote even if the board thought it was a bad deal

o No shop clause o A shareholder lockup of NCS shareholders

The vast majority of the Class B stock was owned by NCS’ board chairman and its CEO, giving him effective voting control of NCS.

At Genesis’ insistence, the chairman and CEO agreed to vote in favor of the merger.

While REVLON DUTIES APPLY TO NEGOTIATIONS, in stock-for-stock merger it is not change in control, therefore UNOCAL and not REVLON applies, so we look at

whether there is risk? whether there is reasonable response to that risk?

court has never been very helpful in saying what IS an acceptable fiduciary out.

FOR TEST:

UNOCAL AND REVLON DO NOT SAY YOU HAVE TO GET THE HIGHEST DOLLAR AMOUNT, JUST MAXIMIZE THE VALUE FOR STOCKHOLDERS (SO ARGUMENT THAT FUTURE W/ONE COMPANY WILL BE BETTER IS SOLID)

COURT DOESN’T LIKE IT WHEN DIRECTORS BIND THEIR DISCRETION (but all contracts do this)

8. ROLE AND PURPOSE OF CORPORATIONTHE ROLE AND PURPOSE OF CORPORATIONS

Corporation has implied powers beyond its certificate of incorporation AP Smith Mfg. Co v. Barlow (NJ Chancery Division, 1953) -

Corporations shareholders had no action against board of directors for Donation to Princeton, even though certificate of incorporation did not expressly authorize it, b/c it was w/in scope of corporation’s implied and incidental powers

Delaware General Corporation Law 122 (pg 105 of statute book)

12/13/11 2:52 PM