Business Organizations Outline - Docx FINAL

Introduction to Business Organizations and Agency Law
I. Agency
a. Restatement s. 1 – Agency is a fiduciary relation which results from:
i. Manifestation of CONSENT by one person (the principal) to another (the agent) that the
other shall act
1. On the Principal’s half AND
2. Subject to the Principal’s CONTROL
ii. CONSENT by the Agent so to act.
II. No formal contract is needed in order to create agency. Agencies can be created in non-business
settings.
a. Gorton v. Doty, 69 P.2d 136 ( Idaho 1937)
i. Facts: D allowed Russell Garst, coach of the football team, to borrow her car to drive
students to a football game. There was an accident and P sued D to recover expenses
incurred from P son’s injuries. D didn’t receive compensation.
ii. Issue: Was the coach an agent of D?
iii. H&R: Yes, D and Garst had a principal and agent relationship. Agency is the relationship
from the manifestation of consent by 1 person to another that the other shall act on his
behalf/subject to his control, and consent by the other so to act. The relationship of
principal and agent arises where one undertakes to transact some business or manage
some affair for another by authority and on account of the later.
iv. Dissent: Agency is more than mere passive permission; it involves request, instruction
or command.
III. There must be agreement, but not necessarily a contract, and can result in the creation of an agency,
even if the parties didn’t mean to (that can be proved by circumstantial evidence). Agency is the
fiduciary relationship that results from the manifestation of consent by one person to another that the
other shall act on hi behalf/subject to his control and consent by the other so to act.
a. Gay Jenson Farms v. Cargill, Inc. 309 N.W. 2d 285 (Minn. 1981)
i. Facts: Ps brought action against Cargill/D to recover losses sustained when Warren/D
defaulted on the contracts made with the Ps. Warren had entered into an agreement
w/Cargill for financing. Over the course of years Cargill oversaw many of its business
moves. At trial the jury found for Ps. D appeals. Ps alleged that Cargill was jointly liable
for Warren’s indebtedness as it had acted as principal for the grain elevator.
ii. Issue: Whether Cargill, by its course of dealing with Warren became liable as a principal
on contracts made by Warren with Plaintiffs?
iii. H&R: Cargill, by its control/influence over Warren became a principal with liability for
the transactions entered into by its agent Warren. It controlled Warren’s day to day
operations, wrote checks to pay farmers, and reserved the right of 1 st refusal. The court
doesn’t buy Cargill’s arguments that it only made recommendations that it was just a
financing arrangement and just a buyer/supplier relationship.
IV. The Legal Consequences of Agency: If an agency relationship exists, under what circumstances is the
Principal bound to/liable to 3rd parties based on the actions of the Agent?
a. Remember, the LEGAL CONSQUENCES of the agent’s action DO NOT depend on the type of
authority!
i. The Actual vs. Apparent Authority distinction relates to how a plaintiff PROVES that the
agent had authority to do an act and that therefore the Principal is legally bound by
Agent’s act.
b. Contractual (Consent Based) Liability of Principal to 3rd parties in Contract

i. Actual Authority – focuses on the Agent’s belief, a reasonable interpretation of the
Principal’s conduct
Business Organizations Outline - Spring 2011 1

1. Express Actual Authority (EAA)
a. Focus on what did the agent believe based on what the principal said to
him/her.
b. Principal tells Agent to do X, Agent has EAA to do X, and when Agent
does X, the Principal will become bound.
2. Implied Actual Authority (Incidental – IAA)

a. Is actual authority circumstantially proven which the principal actually
intended the agent to possess and includes powers as are practically
necessary to carry out the duties actually delegated.
b. May arise from past custody by principal toward Agent through
industry practice, custom, etc.,
c. Ex: Principal tells A to do X. In order to accomplish X, Agent has to do Y,
the Agent can infer that he/she has authority (IAA) to do Y, and if Agent
does do Y, the principal is bound.
d. Mill Street Church of Christ v. Hogan
i. Facts: Church hired Bill Hogan to help paint the church, he had
been hired before and was previously allowed hiring his
brother Sam to help. The church decided that they could hire
Gary Petty but during a discussion with a church member Bill
was told Gary was hard to contact. Bill hired Sam who fell and
became injured. Sam filed for workers comp but was denied by
the church that he was ever hired.
ii. Issue: Did Bill have the authority to hire Sam?
iii. H&R: Yes, Bill had implied authority to hire Sam. The church
allowed Bill to do so in the past, the church didn’t tell Bill he
couldn’t hire Sam, Bill had even collected payment for Sam’s
work prior to the injury.
ii. Apparent Authority (AA) – focuses on the 3rd party’s beliefs, whether Agent’s
authority, based on reasonable interpretation of Principals conduct.
1. Focus on how the third-party understands the agent’s authority.
2. Ex: Principal tells Agent to do X, Agent has EAA to do X, when Agent does X, the
Principal is bound.
3. Is not actual, it’s held out by the principal as possessing. Agency can’t be proven
by a mere statement, but it can be established by circumstantial evidence
including the acts and conduct of the parties such as the contentious course of
conduct of the parties covering a number of successive transactions.
4. An agent has apparent authority sufficient to bind the principal when the
principal acts in such a manner as would leave a reasonably prudent person to
suppose that the agent had the authority he purports to exercise. Absent
knowledge on the part of 3rd parties to the contrary an agent has the apparent
authority to do those things which are usual and proper.
5. 370 Leasing Corp. v. Ampex Corp, 528 F.2d 993 (5th Cir 1976)
a. Facts: P contracted with D to buy computer core memory. D claimed
that Kay’s, an employee of D’s, never had the authority to finalize any
contracts or sales. District Court found that there was an enforceable
contract between 370 and Ampex.
b. Issue: Was there a valid contract and acceptance by D?
c. H&R: Yes, Kay’s had apparent authority to act for D. Where document
submitted to buyer by seller's salesman had a signature block for seller
which was unsigned at the time it was submitted, the document, when
signed by buyer, at most constituted an offer by him to purchase, but as

salesman had apparent authority to bind seller, salesman's letter to
buyer confirming delivery date could reasonably be interpreted as an
acceptance
iii. Inherent Agency Power (IAP – aka inherent authority)

1. Restatement s.8A Inherent Agency Power - The power of the agent is derived
solely from the agency relation, it’s not power derived from authority, apparent
authority or estoppel, but solely from the agency relation and exists for the
protection of persons harmed by or dealing with a servant or other agent.
2. Undisclosed principals are liable for acts of an agent done on his account, if
usual or necessary, even if forbidden by the principal. It is based on how the
principal holds out its agent; and whether others believe the agent has
authority.
a. Restatement s.4 (3) if the other party has no notice that the agent is
acting for a principal, the one for whom he acts is an undisclosed
principal.
3. Potential Breadth of IAP: Principle is liable on a contract made by the agent,

because it is a kind of contract usually made by such an agent, even though:
a. The agent was forbidden to enter into it (so no EAA or IAA) and,
b. There was no manifestation of authority by the Principal to the Third
Party, so no AA existed.
4. Basic Theory of IAP:

a. Exists for the protection of persons harmed by or dealing with an
agent
5. Watteau v. Fenwick, 1893 1 Queen’s Bench 346 (1892)

a. Facts: Humble was the manager for the D (he originally owned the
business but transferred the business to D), his name was over the
door, and the licenses were in his name. Humble and D agreed that
Humble wouldn’t have authority to buy any good except ale and
mineral waters. P sold cigars on credit to Humble thinking he was an
agent of D.
b. Issue: Is D liable? Was there agency in fact?
c. H&R: Yes. Ds were undisclosed principals and allowed Humble to carry
their business as an agent. The goods supplied were within the
reasonable scope of the agent’s authority. The Court held that the
principal is liable if the behavior is something an agent in that position
might usually normally do.
c. Ratification
i. Restatement s. 82
1. Affirmance by a person of a prior act, which didn’t bind him before but which
was done or professedly done on his account, and due to the affirmance binds
him.
a. Example, at the time that the event occurred, the agent had no
authority but once the principle found out and later said it was okay,
the principal is ratifying, they are affirming the event was okay.
ii. Restatement s. 83
1. Affirmance is the principal is electing to show that he/she accepts them as an
agent with authority.

a. (a) a manifestation of an election by on whose account an unauthorized
act has been done to treat the act as authorized, or
b. (b) Conduct by him justifiable only if there were such an election.
2. Implied
a. Knowing material facts
b. Implied affirmance by silence
c. Suing on the contract
3. Express
d. Estoppel
i. Principal is liable to a third party if: The third party changed his position (spent
money, suffered a loss or subjected to legal liability) because the third party believed the
transaction was entered into by/for the principal
1. Restatement s.8B Estoppel
a. (1) A person who is not otherwise liable as a party to a transaction
purported to be done on his account, is nevertheless subject to liability
to persons who have changed their positions because of their belief that
the transaction was entered into by or for him, if the principal,
i. (a) Intentionally or carelessly caused the third party’s belief OR
ii. (b) Knew of the situation but did not take reasonable steps to
notify the third party of the facts.
ii. Hoddeson v. Koos Bros, 47 NJ Super 224 (App. Div. 1957)

1. Facts: P went to D’s furniture store to buy furniture. They were greeted by a
man who sold her furniture. When the P’s furniture never arrived, she called,
the individual turned out to be an imposter.
2. Issue: Does Estoppel bar D from denying liability of the apparent authority of
the imposter?
3. H&R: The duty requires the exercise of reasonable care and vigilance to protect
the customer from loss occasioned by the deceptions of an apparent salesman.
When you act in a certain way, you may be estopped from denying liability.
4. Why isn’t there actual or apparent authority?
a. The principal must have done something to lead the imposter think he
had authority or to lead Mrs. Hoddeson to believe that the imposter
was authorized. The principal hadn’t done anything. But the court felt
that this leaving the plaintiff with no remedy, so the court goes the
route of estoppel.
e. Tort Liability of Principal to 3rd parties:

i. Servant v. Independent Contractor
1. A master-servant relationship exists where the servant has agreed to work on
behalf of the master and be subject to the master’s control or right to control the
physical conduct of the servant (manner of how the job is done). Look out for
the extent of control by one of the parties, the more control there is, the more
likely there is a M/S relationship.
a. Restatement s. 2
i. (1) A master is a principal who employs an agent to perform
service in his affairs and who controls or has the right to
control the physical conduct of the other in the performance of
the service.
ii. (2) A servant is an agent employed by a master to perform
service in his affairs whose physical conduct in the
performance of the service is controlled or is subject to the
right to control by the master.

iii. (3) An independent contractor is a person who contracts with
another to do something for him but who is not controlled by
the other no r subject top the other’s right to control with
respect to his physical conduct in the performance of the
undertaking. He may or may not be an agent.
b. Restatement s. 219 – Respondeat Superior
i. The master is liable for servants’ torts if committed “while
acting within the scope of their employment (SOE).”
ii. Master is no liable for torts of servants “Acting OUTSIDE the
scope of their employment, UNLESS one of the exceptions
applies:
1. The master intended conduct or consequences.
2. Agent-Independent Contractor agrees to act on behalf of another (principal)

but not subject to principal’s control.
3. Non-Agent Independent Contractor – operates independently and simply

enters into arm’s length transactions with others.
ii. Scope of Employment

1. Restatement 228(1) Conduct is within the scope of employment ONLY IF:
a. (a) It is the KIND that the Servant is employed to perform
b. (b) Substantially within the authorized TIME AND SPACE limits
c. (c) Actuated, at least in part, by PURPOSE to serve the Master
i. Goes to the motivation. In the Miller case, did defendant throw
the ball because he’s angry on his own or was he serving his
master?
d. (d) If intentional FORCE, was not un-expectable by the Master
i. Foreseeable, as a boss, for example that your bouncer would
use forced in throwing someone out.
(a)(b) and (c) MUST ALL OCCUR
e. Example 1: Delivery Man Case

i. “If intentional FORCE, was not un-expectable by the Master” –
furniture deliveryman case – customer won’t give check until
the deliveryman brings up the mattress for inspection; but the
deliveryman wants payment 1st in case (as instructed by the
employer), a violent assault occurs.
1. Was the force foreseeable (not “unexpectable”)?
Court said D’s instruction of “cash only,” and “payment
first,” to employees put D/employer on notice that
some violence might occur.
2. Was the purpose to serve the master? The Court
states employees’ violence was a purpose to serve the
master and the fight ensued from that.
3. What did the court say? D wasn’t entitled summary
judgment.
f. Example 2: Road Rage Case

i. Truck driver stabs motorist who used obscene hand gesture –
purpose to serve master?
1. No, because the truck driver was angry and acted out
of proportion to necessities of master’s business so
outside of the scope of employment.

ii. Truck driver causes accident that injures the plaintiff, whose
case passed him – are altercations between drivers
foreseeable?
1. Yes.
2. Versus opposite view – force not foreseeable unless
the employment is of such a nature that use of force
may be contemplated to protect the master’s interests.
2. Restatement 228(2) - Conduct is NOT within the scope of employment

ONLY IF:
a. DIFFERENT IN KIND from authorized conduct,
b. FAR BEYOND authorized time or space limits, or
c. TOO LITTLE ACTUATED by purpose to serve master
3. Restatement 229 – Kind of Conduct within Scope

a. (1) of the same general nature as authorized conduct, or incidental to it
b. (2) Helpful facts to determine if conduct is so similar/incidental to the
within the scope of employment.
4. Restatement 230
a. Can be w/in the scope of employment even if forbidden or done in a
forbidden manner.
5. Restatement 231
a. Can be within the scope of employment even though consciously
criminal or tortius.
iii. Franchising – Agency or not?

1. Murphy v. Holiday Inns., Inc 216 Vs. 490 (1975)
a. Facts: P slip and fell while staying at a holiday inn. She sued the parent
corporation alleging that D owned and operated the Holiday Inn. D
denied that it does and that the particular Inn was a franchisee. At trial,
the court found that the D didn’t own the premises and there was a no
principal, agent, master-servant relationship. P argued that there was a
master/servant relationship.
b. Issue: Was there a master/servant relationship?
c. H&R: No, actual agency is consensual. A fiduciary relation which results
from the manifestation of consent by one person to another that the
other shall act on his behalf/subject to is control/consent by the other.
Court states that a franchisee-franchisor relationship does not always
protect the franchisor from becoming a M/S relationship.
f. Tort Liability & Apparent Agency

i. Miller v. McDonald’s Corp., 945 P.2d 1107 (Ore. App 1997).
1. Facts: P was injured after eating at a local McDonalds. She didn’t sue the
franchisee owner, she sued the corporation. At trial, the judge gave D summary
judgment.
2. Issue: Was the franchisee owner an agent of the D?
3. H&R: Yes, through a national campaign the principal/D held out the franchisee
owner as an agent and P relief on that when choosing to eat at McDonalds. D
had maintained a right to control the franchisee, and the right to control
(right to control the method by which the franchisee performed its obligations
under the agreements) actual agency relationship that would make the D
vicariously liable for its agent negligence.

a.If the practical effect of the franchise agreement goes beyond
setting standards and allocates to the franchisor the right to
exercise control over the daily operations of the franchise, than an
agency relationship exists. (This is the difference between the
Holiday Inn case and this one)
b. Even though there was a sign in the business that indicated that D was
not the owner of that local McDonald, it wasn’t enough since D still had
overall control.
4. P.58 Note – Reliance: holding out by the principal and reliance by the plaintiff
that the franchisee was an agent of theirs.
ii. Manning v. Grimsley, 643 F.2d 20

1. Facts: P was injured by a ball thrown by D during a baseball game. D is a
professional baseball player who was warming up on the side of the stands for
the game and was being heckled and boo’ed by the fans in the stands. Trial
judge directed a verdict for D’s on battery and the jury entered a verdict for D’s
on the negligence count. P appealed the battery account.
2. Issue: was D liable for battery?
3. H&R: A jury could have concluded that the D committed battery against the P. P
would need to show that the employee’s assault was in response to the Ps
conduct, which was presently interfering with the employee’s ability to perform
his duties successfully. A jury could have reasonably found so, since D’s assault
was a response to the heckling, which would interrupt interfere with his ability
to play.
V. Agents’ Fiduciary Obligations

a. Section 1: Agency is a fiduciary relation which results from the manifestation of consent by one
person to another that the other shall act on his behalf and subject to his control and consent by
the other so to act.
b. Section 379(1): Agent must act with standard care and with standard skill + exercise any special
skill.
c. Section 387: There is a general duty of loyalty, to act solely for the benefit of the principal
d. Other duties include:
i. Section 380: Agent must act in good conduct and protect the reputation of the principal.
ii. Section 381: Agent must give Principal relevant information, agent is subject to a duty to
use reasonable efforts to give his principal info which is relevant to affairs entrusted to
him and which, as the agent has notice,
iii. Section 382: Keep and render accounts of money, etc.,
iv. Section 383: Agent must act only as authorized
v. Section 385: Obey directions of the principal.
vi. Section 388: Account for profits
vii. Section 389-392: No self dealing
viii. Section 393: No competing with the principal
ix. Section 394: No conflict of interest
x. Section 395: Can’t use or share confidential information
xi. Section 398: Can’t commingle property, agent receiving or holding things on behalf of
the principal is subject to a duty to the principal not to receive or deal with them so that
they appear to be his own, and not to mingle them with his own things as to destroy
their identity.
e. Remedies:
i. Section 399: Principal has an “appropriate remedy,” such as restitution.
ii. Section 401: An agent is subject to liability for loss caused to the principal by any breach
of duty.

iii. Section 403: Liability for things received in violation of duty of loyalty – if an agent
receives anything as a result of his violation of a duty of loyalty to the principal, he is
subject to a liability to deliver it, its value, or its proceeds, to the principal.
f. General Auto Manufacturing Co. v. Singer, 19 Wis. 528 (1963)

i. Facts: D was the general manager at P’s business but was also running a side business
that earned him secret profits from the P (he was a respected mechanic and business
would go to him asking for to purchase supplies, the P’s business didn’t make the parts
so D made other arrangements and made the profits from the sales).
ii. Issue: Was D’s side business a violation of his fiduciary duty to the P?
iii. H&R: Yes, D had board powers of management and conducted the business activities of
P. In this role he was P’s agent and owed a fiduciary duty to them. D was bound to act in
the utmost faith/loyalty so that he didn’t act adversely to P. D is liable for the profits he
earned, minus 3%.
VI. Duties During & After Termination of Agency

a. Town & Country House and Home Services, Inc. v. Newbery, 3 NY 2d 554 (1958)
i. Facts: P sued for injunction/damages on unfair competition. D’s worked for P and then
left and formed a similar business and solicited customers who transferred business.

PARTNERSHIPS
What is a partnership? Who are the partners?
I. What is a Partnership? Who are the Partners? Partners Compared with Employees
a. What is Partnership Law
i. Common Law
ii. UPA/RUPA – 1914 v. 1997
iii. Partnership Agreement – why have one?
b. Uniform Partnership Act (1914)

i. S.6 Partnership Defined
1. (1) A partnership is an association of 2 or more persons to carry on as co-
owners a business for profit.
a. Co-owner = 2 elements, which typically reflect owners’ usual
expectations. Such as equal share of profits (profit sharing is a key
element as prima facie evidence that a partnership was created), share
of responsibilities, management control, etc.,
ii. S. 7 Rules for Determining the Existence of a Partnership

1. In determining whether a partnership exists, these rules shall apply:
a. (1) Except as provided by § 16 persons who are not partners as to each
other are not partners as to third persons
b. (2) Joint tenancy, tenancy in common, tenancy by the entireties, joint
property, common property, or part ownership does not of itself
establish a partnership, whether such co-owners do or do not share any
profits made by the use of the property.
c. (3) The sharing of gross returns does not of itself establish a
partnership, whether or not the persons sharing them have a joint or
common right or interest in any property from which the returns are
derived.
d. (4) The receipt by a person of a share of the profits of a business is
prima facie evidence that he is a partner in the business, but no such
inference shall be drawn if such profits were received in payment:
i. (a) As a debt by installments or otherwise.
ii. (b) As wages of an employee or rent to a landlord,
iii. (c) As an annuity to a widow or representative of a deceased
partner,
iv. (d) As interest on a loan, though the amount of payment vary
with the profits of the business.
v. (e) As the consideration for the sale of a good-will of a business
or other property by installments or otherwise.
iii. S.18 Role of Consent – No one can become a member of a partnership unless everyone
agrees.
c. Forming the Partnership

i. Deliberately – Intended/Sought out
ii. Inadvertently – they attempted to not form a partnership, but by their actions are like
partners
d. Aspects of a Partnership
i. Intention of the parties to form a partnership
ii. Right to share in profits (not every partnership has to agree in this though)
iii. Obligation to share in losses
iv. Ownership and control of the partnership property and business.

v. Community of power in administration and the reservation in the agreement of the
exclusive control of the management of the business
vi. Language in the agreement, i.e., parties can call themselves partners and the business a
partnership but the language doesn’t indicate it.
vii. Conduct of the parties toward 3rd persons, whether or not they acted like partners to
others.
e. Partners Compared with Employees

i. Fenwick v. Unemployment Compensation Commission, 133 N.J.L. 295 (1945)
1. Facts: Fenwick was the owner of the beauty salon and employed Chesire. One of
the questions was whether Chesire was a partner or an employee. Chesire was
employed for a while, and then asked for a raise. Fenwick wanted to pay her
more, but was not sure if the store had the business to do it. They came up with
an agreement. In the agreement it stated that they were going into a
partnership, that Chesire didn’t invest capital, didn’t control or manage the
business, would maintain her same job, have no liability and that she would get
an extra 20% of net profits, if the business warrants it.
2. Issue: Was there a partnership formed?
3. H&R: No, there were several aspects to partnership that was not formed. They
didn’t hold themselves out as partners; she had no liability or control.
f. Partners Compared with Lenders

i. Rule of partnership law makes each partner potentially liable for all of the debts of the
partnership.
ii. Martin v. Peyton, 246 N.Y. 213 (1927)
1. Facts: P/Creditor claim that the D made investments in the firm and were
partners. D claims that they were only creditors. The P is not claiming estoppels,
just that an actual partnership was formed. D argues that they only had an
interest in making sure their money was returned and that their interest in the
profit sharing was merely a way of getting their money back.
2. Issue: Are or did the Ds associate themselves as partners?
3. H&R: No, D’s took normal precautions to protect their assets, no partnership
was created. The Ds were not allowed to initiate transactions like a partner or
bind the firm by any actions of their own
iii. The risk of liability could have been avoided in the case if the creditors had been
organized as a corporation, under which they would have enjoyed limited liability as
equity investors (kind of like partners). The same would be true if they formed a
“limited liability company,” or a “limited liability partnership.”
g. Partners By Estoppel
i. § 16. Partner by Estoppel.
1. (1) When a person, by words spoken or written or by conduct, represents
himself, or consents to another representing him to any one, as a partner in an
existing partnership or with one or more persons not actual partners, he is
liable to any such person to whom such representation has been made, who has,
on the faith of such representation, given credit to the actual or apparent
partnership, and if he has made such representation or consented to its being
made in a public manner he is liable to such person, whether the representation
has or has not been made or communicated to such person so giving credit by
or with the knowledge of the apparent partner making the representation or
consenting to its being made:
a. (a) When a partnership liability results, he is liable as though he were
an actual member of the partnership.

b. (b) When no partnership liability results, he is liable jointly with the
other persons, if any, so consenting to the contract or representation as
to incur liability, otherwise separately.
2. (2) When a person has been thus represented to be a partner in an existing
partnership, or with one or more persons not actual partners, he is an agent of
the persons consenting to such representation to bind them to the same extent
and in the same manner as though he were a partner in fact, with respect to
persons who rely upon the representation. Where all the members of the
existing partnership consent to the representation, a partnership act or
obligation results; but in all other cases it is the joint act or obligation of the
person acting and the persons consenting to the representation.
ii. Young v. Jones, 816 F.Supp.1070 (D.S.C. 1992)

1. Facts: P argues that PW–Bahamas issued a letter that made them believe that
SAFIG was a good company to invest in, so they invested $5million into a bank
which just disappeared. P argues that they were induced to invest to their
detriment. That letter later turned out to be fraudulent. P argues that PW-US
and PW-Bahamas are partners by estoppels, stating that they appeared to the
outside world as partners.
2. Issue: Was a partnership by estoppel created?
3. H&R: No, P failed to show that PW-Bahamas and PW-US were partners or that
there was any extension of credit to either PW-Bahamas or PW-US by Ps (don’t
need to show extension of credit, must show detrimental reliance).
iii. General Rule: as a rule, persons who are not partners as to each other are not partners
to 3rd persons. However, a person who represents himself or permits another to
represent him, to anyone as a partners in an existing partnership or with others not
actual partners, is liable to any such person to whom such a representation is made who
has, on the faith of the representation, given credit to the actual or apparent partnership.
iv. Partnership By Estoppel

1. Holding Out
2. Plaintiff has knowledge of such holding out
3. Detrimental Reliance by Plaintiff

PARTNERSHIPS
The Fiduciary Obligations of Partners
I. Introduction: Partners are agents to each other and are subject to agency law.
a. UPA (1914)
i. § 20. Duty of Partners to Render Information - Partners shall render on demand true
and full information of all things affecting the partnership to any partner or the legal
representative of any deceased partner or partner under legal disability.
ii. § 21. Partner Accountable as a Fiduciary
1. (1) Every partner must account to the partnership for any benefit, and hold as
trustee for it any profits derived by him without the consent of the other
partners from any transaction connected with the formation, conduct, or
liquidation of the partnership or from any use by him of its property.
2. (2) This section applies also to the representatives of a deceased partner
engaged in the liquidation of the affairs of the partnership as the personal
representatives of the last surviving partner.
iii. § 22. Right to an Account - Any partner shall have the right to a formal account as to
partnership affairs:
3. (a) If he is wrongfully excluded from the partnership business or possession of
its property by his co-partners.
4. (b) If the right exists under the terms of any agreement,
5. (c) As provided by § 21,
6. (d) Whenever other circumstances render it just and reasonable.
b. Meinhard v. Salmon , 249 N.Y. 458 (1928)

i. Facts: D leased an old hotel and renovated it, borrowing money from P. The writing
stated that all losses would be shared equally, that D would be the sole manager and that
D would give P a portion of profits to pay back the money borrowed. The two were
coadventrurers and were subject to fiduciary duties similar to partners. D was given a
chance to enter a new lucrative deal, and did so without informing P. There was nothing
express about how long the partnership would last (usually, 1. At will, however long; 2.
For a term; 3. For an undertaking-a specific project).
ii. Issue: Did D have a duty to inform P about the new deal?
iii. H&R: Yes, D acted in secrecy and excluded his fellow co-adventurer. D was in charge of
managing the property and had a duty to disclose, and undivided loyalty to P, to have
honorable and selfless dealings and to act in good faith.
iv. Dissent: Saw that the relationship was limited and that there should have been no
expectation of duty.
c. Joint Adventurers - Like co-partners and owe to each other the duty of the finest loyalty.
d. Trustees – held to a stricter standard than honesty alone.
II. Grabbing & Leaving

a. Meehan v. Shaughnessy, 404 Mass 419 (1989)
i. Facts: P’s were unhappy with their firm and decided to leave and form a new law firm,
they thought of which associates they might take and which clients they should inform.
After they left, Ps commenced action for money they earned as former partners. Ds sued
for breach of duty. At trial the judge found Ps entitled to recover amounts owed under
their former partnership agreement, and that Ds were allowed to recover expenses on
the cases P removed to their firm.
ii. Issue: Did Ps properly remove clients from Ds office to Ps new office?
iii. H&R: No, they delayed giving the client list, lied about leaving, used former partners
letterhead to say they were leaving and provided a one-sided view that they did give
clients the option to stay.

1. Fiduciaries may plan to compete with the entity to which they owe allegiance, if
in the course of such arrangements they do not otherwise violate their fiduciary
duties.
2. A partner is obligated to render on demand true and full info of all things
affecting the partnership to any partner.
b. Planning – What should the Partnership Agreement Say?

i. Say whatever the deal is. Should discuss all the different components before you become
partners.
III. Expulsion
a. When a partner is involuntarily expelled from a business, the expulsion must have been
“bona fide” or in “good faith” for a dissolution to occur without violation of the
partnership agreement.
b. Lawlis v. Knightliner & Gray, 562 N.E.2d 435 (1990)
i. Facts: P had an alcohol abuse problem and the firm gave him several chances to redeem
himself. Eventually he made a recovery, but the firm had already decided to vote him
out. During the time that he was there he was given a share of the profits even though he
didn’t really work anymore. The UPA doesn’t have an expulsion statute, this is usually
dealt with in the partnership agreement, and the P had one with D. P claims that there
was wrongful expulsion and that it was done in bad faith.
ii. Issue: Was the P expelled wrongfully and did it violate D’s fiduciary duties to P?
iii. H&R: Court said he was not wrongfully expelled, and that he was expelled in accordance
with the partnership agreement. The fiduciary relationship between partners was in
good faith, they didn’t just cut him loose, they provided him with benefits until he could
find a new position.

PARTNERSHIPS
Partnership Property
I. Each partner has 3 Property Rights: 1) Right in Specific Partnership Property; 2) Interest in the
partnership and 3) Right to Participate in Management
a. Right in Specific Partnership Property
i. S. 25 - Right in Specific Partnership Property
1. (1) A partner is co-owner with his partners of specific partnership property
holding as a tenant in partnership.
2. (2) The incidents of this tenancy are such that:
a. (a) A partner, subject to the provisions of this Act and to any agreement
between the partners, has an equal right with his partners to possess
specific partnership property for partnership purposes; but he has no
right to possess such property for any other purpose without the
consent of his partners.
b. (b) A partner's right in specific partnership property is not assignable
except in connection with the assignment of rights of all the partners in
the same property.
c. (c) A partner's right in specific partnership property is not subject to
attachment or execution, except on a claim against the partnership.
When partnership property is attached for a partnership debt the
partners, or any of them, or the representatives of a deceased partner,
cannot claim any right under the homestead or exemption laws.
d. (d) On the death of a partner his right in specific partnership property
vests in the surviving partner or partners, except where the deceased
was the last surviving partner, when his right in such property vests in
his legal representative. Such surviving partner or partners, or the legal
representative of the last surviving partner, has no right to possess the
partnership property for any but a partnership purpose.
e. (e) A partner's right in specific partnership property is not subject to
dower, curtesy, or allowances to widows, heirs, or next of kin.
ii. Compare UPA § 25 with UPA § 502 Transferable Interest in Partnership

1. The only transferrable interest of a partner in the partnership is the partner’s
share of the profits and losses of the partnership and the partner’s right to
receive distributions. The interest is personal property.
b. Interest in the partnership

i. § 26. Nature of Partner's Interest in the Partnership. A partner's interest in the
partnership is his share of the profits and surplus, and the same is personal property.
ii. Assignment of Partner's Interest - section 27

1. Only a partner’s economic rights are freely assignable (“transferrable”). A
partner may not assign or transfer to someone else the right to participate
in management or the right to use partnership p[property for partnership
purposes, unless an agreement among the partners allows the assignment.
2. § 27 (1) A conveyance by a partner of his interest in the partnership does not of

itself dissolve the partnership, nor, as against the other partners in the absence
of agreement, entitle the assignee, during the continuance of the partnership to
interfere in the management or administration of the partnership business or
affairs, or to require any information or account of partnership transactions, or
to inspect the partnership books; but it merely entitles the assignee to receive in
accordance with his contract the profits to which the assigning partner would
otherwise be entitled.

3. § 27(2) In case of a dissolution of the partnership, the assignee is entitled to
receive his assignor's interest and may require an account from the date only of
the last account agreed to by all the partners.
4. Compare UPA § 27 with UPA § 503 Transfer of Partner’s Transferable

Interest
a. (a) A transfer, in whole or in part, of a partner's transferable interest
in the partnership:
i. (1) is permissible;
ii. (2) does not by itself cause the partner's dissociation or a
dissolution and winding up of the partnership business; and
iii. (3) does not, as against the other partners or the partnership,
entitle the transferee, during the continuance of the
partnership, to participate in the management or conduct of
the partnership business, to require access to information
concerning partnership transactions, or to inspect or copy the
partnership books or records.
b. (b) A transferee of a partner's transferable interest in the partnership

has a right:
i. (1) to receive, in accordance with the transfer, distributions to
which the transferor would otherwise be entitled;
ii. (2) to receive upon the dissolution and winding up of the
partnership business, in accordance with the transfer, the net
amount otherwise distributable to the transferor; and
iii. (3) to seek under (6) a judicial determination that it is
equitable to wind up the partnership business.
c. (c) In a dissolution and winding up, a transferee is entitled to an

account of partnership transactions only from the date of the latest
account agreed to by all of the partners.
i. (d) Upon transfer, the transferor retains the rights and duties
of a partner other than the interest in distributions
transferred.
ii. (e) A partnership need not give effect to a transferee's rights
under this section until it has notice of the transfer.
iii. (f) A transfer of a partner's transferable interest in the
partnership in violation of a restriction on transfer contained
in the partnership agreement is ineffective as to a person
having notice of the restriction at the time of transfer.
iii. Putnam v. Shoaf, 620 S.W.2d 510 (1981)

1. Facts: Putnam and Charltons owned a portion of Frog Jump Jin. When Putnam
died his wife/P took over his share and business began to decline. The Shoafs
agreed to take over Mrs. Putnam’s shares/liability. It was later discovered that
the previous bookkeeper was stealing money. P hearing of this claimed that she
should have a share of the money. In a quit claim deed the P conveyed all of her
interest to the Shaofs/D.
2. Issue: What interest did the P convey?
3. H&R: This didn’t create a partnership between the Charltons and the Shoafs (in
order for a partnership to develop they would have to create one), the quit
claim deed only conveyed P’s interest.

iv. Rights of a Partner’s Judgment Creditors – the Charging Order
1. Judgment creditors seeking to collect on a claim on an individual partner can’t
attach or levy the partnership’s property (belongs to more than one person),
and they have no right to the partner’s non-economic rights. A charging order is
given by court which functions as a type of garnishment, and a judgment lien.
2. § 28. Partner's Interest Subject to Charging Order.

a. (1) On due application to a competent court by any judgment creditor
of a partner, the court which entered the judgment, order, or decree,
or any other court, may charge the interest of the debtor partner with
payment of the unsatisfied amount of such judgment debt with
interest thereon; and may then or later appoint a receiver of his share
of the profits, and of any other money due or to fall due to him in
respect of the partnership, and make all other orders, directions,
accounts and inquiries which the debtor partner might have made, or
which the circumstances of the case may require.
b. (2) The interest charged may be redeemed at any time before

foreclosure, or in case of a sale being directed by the court may be
purchased without thereby causing a dissolution:
i. (a) With separate property, by any one or more of the
partners, or
ii. (b) With partnership property, by any one or more of the
partners with the consent of all the partners whose interests
are not so charged or sold.
c. (3) Nothing in this Act shall be held to deprive a partner of his right, if
any, under the exemption laws, as regards his interest in the
partnership.
v. Compare UPA § 28 with UPA § 504 Transferable Interest

1. § 504. Partner's Transferable Interest Subject to Charging Order.
a. (a) On application by a judgment creditor of a partner or of a partner's
transferee, a court having jurisdiction may charge the transferable
interest of the judgment debtor to satisfy the judgment. The court may
appoint a receiver of the share of the distributions due or to become
due to the judgment debtor in respect of the partnership and make all
other orders, directions, accounts, and inquiries the judgment debtor
might have made or which the circumstances of the case may require.
b. (b) A charging order constitutes a lien on the judgment debtor's

transferable interest in the partnership. The court may order a
foreclosure of the interest subject to the charging order at any time.
The purchaser at the foreclosure sale has the rights of a transferee.
c. (c) At any time before foreclosure, an interest charged may be

redeemed:
i. (1) by the judgment debtor;
ii. (2) with property other than partnership property, by one or
more of the other partners; or
iii. (3) with partnership property, by one or more of the other
partners with the consent of all of the partners whose
interests are not so charged.

d. (d) This [Act] does not deprive a partner of a right under exemption
laws with respect to the partner's interest in the partnership.
e. (e) This section provides the exclusive remedy by which a judgment

creditor of a partner or partner's transferee may satisfy a judgment
out of the judgment debtor's transferable interest in the partnership.
c. Right to Participate in Management
i. § 18. Rules Determining Rights and Duties of Partners. The rights and duties of the
partners in relation to the partnership shall be determined, subject to any agreement
between them, by the following rules:
1. (a) Each partner shall be repaid his contributions, whether by way of capital or
advances to the partnership property and share equally in the profits and
surplus remaining after all liabilities, including those to partners, are satisfied;
and must contribute towards the losses, whether of capital or otherwise,
sustained by the partnership according to his share in the profits.
2. (b) The partnership must indemnify every partner in respect of payments made
and personal liabilities reasonably incurred by him in the ordinary and proper
conduct of its business, or for the preservation of its business or property.
3. (c) A partner, who in aid of the partnership makes any payment or advance
beyond the amount of capital which he agreed to contribute, shall be paid
interest from the date of the payment or advance.
4. (d) A partner shall receive interest on the capital contributed by him only from
the date when repayment should be made.
5. (e) All partners have equal rights in the management and conduct of the
partnership business.
6. (f) No partner is entitled to remuneration for acting in the partnership

business, except that a surviving partner is entitled to reasonable
compensation for his services in winding up the partnership affairs.
7. (g) No person can become a member of a partnership without the consent of all
the partners.
8. (h) Any difference arising as to ordinary matters connected with the

partnership business may be decided by a majority of the partners; but no
act in contravention of any agreement between the partners may be done
rightfully without the consent of all the partners.
ii. § 9. Partner Agent of Partnership as to Partnership Business.

1. (9)(1) Each partner = agent of the partnership UNLESS the partner so acting
has in fact
a. no authority to act for the partnership in the particular matter, and
b. the person with whom he is dealing has knowledge of the fact that he
has no such authority.
2. 9(2): Acts that are NOT apparently for carrying on the partnership business in
the usual way do NOT bind it UNLESS authorized by the other partners.

3. 9(3): Unless authorized by the other partners or unless they have abandoned
the business, one or more but less than all the partners have no authority to:
a. (a) Assign the partnership property in trust for creditors or on the
assignee's promise to pay the debts of the partnership,
b. (b) Dispose of the good-will of the business,
c. (c) Do any other act which would make it impossible to carry on the
ordinary business of a partnership,
d. (d) Confess a judgment,
e. (e) Submit a partnership claim or liability in arbitration or reference.
4. (9)(4) No act of a partner in contravention of a restriction on authority shall

bind the partnership to persons having knowledge of the restriction.
iii. National Biscuit Company v. Stroud, 249 N.C. 467 (1959)

1. Facts: Stroud and Freeman entered into a general partnership to sell groceries
under the name of Stroud's Food Center. Thereafter plaintiff sold bread
regularly to the partnership. Then defendant Stroud advised an agent of plaintiff
that he personally would not be responsible for any additional bread sold by
plaintiff to Stroud's Food Center. Even so, P at the request of the Freeman, sold
and delivered bread in the amount of $171.04 to Stroud's Food Center. Stroud
and Freeman shortly after dissolved the partnership. Proceeding by seller of
bread against former partners who had operated food store for value of goods
sold and delivered. Superior Court rendered judgment for seller, and partner
appealed.
2. Issue: Is Stroud liable for the bread purchase?
3. H&R: Yes! Purchase of bread by food store operated as going concern by two
partners was an ordinary matter connected with partnership business within
statute to effect that any difference arising as to ordinary matter connected with
partnership business may be decided by majority of partners, and although
partner told bread seller he would not be personally responsible for additional
bread sold to store, partner and partnership were liable for such purchase by
copartner.
a. One partner can not restrict the power/authority for each other.
If they wanted to they could have put a clause in their
partnership agreement, or have additional partners and/or
separate the duties of individuals.
b. UPA 18(e) and (h) were also important in this case.
iv. Partnership Management -- Majority Rule Hypo

1. Partnership profit sharing deal: A: 60%, B: 20%, C: 20%
2. Partners disagree on a decision about a business deal & vote on it; B & C
approve of it but A does not.
3. Result? Majority vote wins. Key UPA section: UPA18(h)
4. Role of PA? Partners can always change the roles and draft in more or less
bargaining power.
v. Day v. Sidley & Austin, 394 F.Supp. 986

1. Facts: Action was brought by former partner because he was unhappy that the
old partnership merged with another company. P initially approved of the
merger idea. P alleges that there was fraud and misrepresentation based on the
idea that no Sidley Partner would be worse off as a result of the merger.
2. Issue: Was there fraud that deprived P of any legal right as a result of his
reliance on the idea that no Sidley partner would be worse off?
3. H&R: P failed to show any cause of action for fraud as a result of merger
pursuant to agreement to which he subscribed, there was no showing of any

breach of contract or of fiduciary duty by partners negotiating merger. The
partnership agreement (PA) he signed made no specific mention of his status as
a partner, he read and signed the authorization of the PA.
a. Partners have a duty to make a full and fair disclosure to other
partners of all information which may be of value to the partnership.
The basic duties are:
i. A partner must account for any profit acquired in a manner
injurious to the interests of the partnership, such as
commissions or purchases on the sale of partnership
property
ii. Partner cannot without consent of the other partners,
acquire for himself a partnership assets, nor may he divert to
his own use a partnership opportunity
iii. He must not compete with the partnership within the scope
of the business.

PARTNERSHIPS
Partnership & Partner Liability
I. Partnership/Partner Liability
a. Partnership liability:
i. Sec. 13 – Partnership Bound by Partner's Wrongful Act. Partner’s wrongful
act/omission in ordinary course of business makes the partnership is liable to the same
extent as the partner so acting or omitting to act
3. ex. torts
ii. Sec. 14 – Partnership Bound by Partner's Breach of Trust. Partner’s misapplication
of $/property of a TP which was received by a partner or the partnership
4. ex. Embezzlement
b. Partner liability: § 15. Nature of Partner's Liability.

i. 15(a) Jointly and severally for everything chargeable to the partnership under § 13 and
14.
ii. 15(b) Jointly for all other debts and obligations of the partnership; but any partner may
enter into a separate obligation to perform a partnership contract.
c. Can a partner recover from the partnership for paying its obligations?
i. 18(b) – partners’ right to contribution: (b) The partnership must indemnify every
partner in respect of payments made and personal liabilities reasonably incurred by him
in the ordinary and proper conduct of its business, or for the preservation of its business
or property.
d. Compare UPA (1997) re: partner liability:

i. Sec. 306: liability sharing rule: all partners are liable jointly and severally for all
obligations of the partnership unless otherwise agreed by the claimant or
provided by law.
II. How do partners make $$? – This is all subject to the Partnership Agreement
a. Salary – Not Guaranteed
i. UPA 18(f) No partner is entitled to remuneration for acting in the partnership business,
except that a surviving partner is entitled to reasonable compensation for his services in
winding up the partnership affairs.
b. Share of profits – Equal Sharing

i. 18 (a) Each partner shall be repaid his contributions, whether by way of capital or
advances to the partnership property and share equally in the profits and surplus
remaining after all liabilities, including those to partners, are satisfied; and must
contribute towards the losses, whether of capital or otherwise, sustained by the
partnership according to his share in the profits.
c. Transfer of interest in partnership

i. UPA 27(1) vs. 18(g)
1. 18(g) No person can become a member of a partnership without the consent of
all the partners.
2. § 27. Assignment of Partner's Interest.
a. (1) A conveyance by a partner of his interest in the partnership does
not of itself dissolve the partnership, nor, as against the other partners
in the absence of agreement, entitle the assignee, during the
continuance of the partnership to interfere in the management or
administration of the partnership business or affairs, or to require any

information or account of partnership transactions, or to inspect the
partnership books; but it merely entitles the assignee to receive in
accordance with his contract the profits to which the assigning partner
would otherwise be entitled.
d. Role of partnership agreement?

i. provide for salary
ii. share of profits/losses can be altered
iii. can alter consequences/restrict transfer of interest in partnership

PARTNERSHIPS
Partnership Dissolution
I. Partnership Dissolution
a. What is Dissolution & How Does it Occur?

i. Voluntary vs. Involuntary
ii. Role of partnership agreement (above)
iii. What is meant by “dissolution”?
1. Sec. 29 - Someone is no longer associated with the others to operate the
business
iv. What happens after a dissolution event occurs?

2. Section 30 –Doesn’t mean partnership is gone, there’s a wind up period then
termination.
v. Sec. 31 – Which causes violate the partnership agreement? Which causes do not?
1. Legal vs. Business Consequences:
a. Legal – No longer a partnership
b. Business - might still be running
2. Relevance of duration of the partnership? How long was the partnership
designed for, at will, for term or for an undertaking?
vi. Distinguish power vs. right to dissolve
vii. Role of courts: Courts have the power to dissolve a partnership; they have the
discretion and are not required to.
1. Sec. 32 Dissolution by Decree of Court.
a. (1) On application by or for a partner the court shall decree a
dissolution whenever:
i. (a) A partner has been declared a lunatic in any judicial
proceeding or is shown to be of unsound mind,
ii. (b) A partner becomes in any other way incapable of
performing his part of the partnership contract,
iii. (c) A partner has been guilty of such conduct as tends to affect
prejudicially the carrying on of the business,
iv. (d) A partner willfully or persistently commits a breach of the
partnership agreement, or otherwise so conducts himself in
matters relating to the partnership business that it is not

reasonably practicable to carry on the business in partnership
with him.
v. (e) The business of the partnership can only be carried on at a
loss,
vi. (f) Other circumstances render dissolution equitable.
b. (2) On the application of the purchaser of a partner's interest under §

27 or 28:
i. (a) After the termination of the specified term or particular
undertaking
ii. (b) At any time if the partnership was a partnership at will
when the interest was assigned or when the charging order
was issued.
b. Power vs. right to dissolve/Breach of Partnership Agreement vs. not

i. Owen v. Cohen, 19 Cal.2d (1941)
1. Facts: They agreed to open a bowling alley together, plaintiff lent money to the
partnership, D refused to do a lot of the required work. P sued for dissolution.
The trial judge dissolved the partnership.
2. Issue: Whether or not the evidence warrants a decree of dissolution of the
partnership?
3. H&R:
a. Yes, there was no express agreement in the partnership agreement for
how long the partnership would last, they disagreed on practically all
matters regarding the operation of the partnership, the business was
financially stable and at a profit, not a huge factor for the Court,
although other courts typically look at profits.
b. Why did the P seek a court dissolution rather than just giving notice of
dissolution himself to begin winding up?
i. Section 31(b) he could have dissolved on his own, but perhaps
it was too difficult for him to buy out the D.
ii. P wanted his loan money back.
iii. One could argue that there was an implicit agreement that the
partnership was long term.
c. Consequences of Dissolution
i. Prentiss v. Sheffeel, 20 Ariz.App. 411 (1973)
1. Facts: Ps sought dissolution of the partnership they formed with D (the
purchase of the shopping center). P contends that D was negligent of his duties.
Trial court concluded that it was a partnership at will and that there was a
freeze out of the D from management and affairs of the partnership.
2. Issue: Was D “frozen out?” Should Ps have been able to buy back the
shopping center at the mall?
3. H&R: D was excluded from the management of the partnership, but there was
no indication that such exclusion was done wrongfully. The partnership
agreement stated that the partnership was at will and no one was set to be the
manager. Ps argue that they shouldn’t have been able to buy the assets at the
auction, but Court says that they should be able to.
ii. Dissolution: Sec. 38’s Two Paths

1. Dissolution w/o Partnership Agreement Violation: unless o/w agreed, each
P can force liquidation; pay partnership liabilities; pay surplus (if any) to Ps
2. Dissolution in contravention of Partnership Agreement.: innocent Ps can
choose:
a. (a) liquidate; wrongful P pays damages OR

b. (b) continue bus. using partnership property
iv. Must pay wrongful P value of his interest in partnership
MINUS damages; ignore value of good-will of business
iii. Death of a Partner

1. FMV = Fair Market Value
iv. Options available to partners
v. Sharing of losses/division of remaining assets

1. § 40. Rules for Distribution. In settling accounts between the partners after
dissolution, the following rules shall be observed, subject to any agreement to
the contrary:
a. (b) The liabilities of the partnership shall rank in order of payment, as
follows:
i. (I) Those owing to creditors other than partners,
ii. (II) Those owing to partners other than for capital and profits,
iii. (III) Those owing to partners in respect of capital,
iv. (IV) Those owing to partners in respect of profits.
b. (d) The partners shall contribute, as provided by § 18 (a) the amount
necessary to satisfy the liabilities; but if any, but not all, of the partners
are insolvent, or, not being subject to process, refuse to contribute, the
other partners shall contribute their share of the liabilities, and, in the
relative proportions in which they share the profits, the additional
amount necessary to pay the liabilities.
c. (f) Any partner or his legal representative shall have the right to
enforce the contributions specified in clause (d) of this paragraph, to
the extent of the amount which he has paid in excess of his share of the
liability.
2. Kovacik v. Reed, 49 Cal.2d 166 (1957)

a. Facts: P asked D to become a job superintendent and estimator on jobs
that P found. P invested money into the business. He did not ask D to
invest any money into the venture. The venture began to lose began to
lose money and P asked D to share for the losses. D claimed that he
never agreed to be liable for losses and refused to pay.
b. Issue: Are the partners equally liable for losses when they did not both
invest capital?
c. H&R: Profits and losses are generally split equally when both parties
have contributed capital. When however, one partner contributes the

money capital as against other’s skill and labor than neither party is
liable to the other for contribution for any loss sustained. Upon the loss
of the money, the party who contributed is not entitled to recover any
part of it from the party who contributed only services.
3. Note - UPA (1997) response to Kovacik: UPA is on the side of Kovacik.

Nothing in the UPA helps Reed out. 18(a) states that if Reeds wanted a salary,
then he should have bargained for it. In UPA 1997, the writers wanted to make
it clear that Kovacik was wrongly decided and that Reed should have been held
liable for losses.
d. Buyout agreements - A buy out or buy-sell, agreement is an agreement that allows a partner to
end his/her relationship with the other partners and receive a cash payments, or some assets of
the firm, in return for her/his interest in the firm.
i. What kinds of events trigger a buyout event?

1. Death
2. Disability
3. Will of any partner
ii. Option v. Obligation?

1. Firm
2. Other investors
3. Consequences of refusal to buy
a. Obligation
b. No Obligation
4. Do the other partners have to buy it out, or can they liquidate?
iii. Price? How is the price determined? Have a set formula. This is something negotiated in
the beginning.
1. Book valve
2. Appraisal
3. Formula
4. Set price each year
5. Relation to duration
iv. Payment Terms? When and how does it have to be paid? Payment in installments.
1. Cash
2. Installments
v. G&S Investments v. Belman, 145 Ariz. 258 (1984)

1. Facts: Nordale was partners with the plaintiffs. The Ps sought a dissolution and
wanted to buy out Nordale because there were continuing disputes between the
two parties. Nordale’s estate argues that the dissolution event occurs when the
Ps filed the petition (because that would give the estate higher portion of the
partnership property).
2. Issue: Whether the surviving general partner, Plaintiffs, is entitled to continue
the partnership after the death of Nordale, and how the value of Nordale’s
interest in the partnership property is to be computed.
3. H&R: Nordale’s conduct was in contravention of the partnership agreement and
affected the daily business. Court looks to UPA s.32 which allows for dissolution
by decree of the court. Partnership buy out agreements are valid and binding
although the purchase price agreed upon is less or more than the actual value of
the interest at the time of death.

vi. Lawlis & Dissolution by Expulsion
1. Strategy: Why did Lawlis argue that notice re: upcoming meeting to expel him
and removal of files as expulsion?
2. UPA – does it give a right to expel?
3. UPA – any limitations on expulsion?
a. Only for cause?
b. Bona fide? Must be in good faith. What would be bad faith? Withholding
money that was legally the individual who they are expelling.
vii. UPA (1997) Dissociation

1. s. 601 – dissociation, versus the 1914 terminology of dissolution
2. s. 602 – power to dissociate at any time, but may be wrongful and be basis for
damages; 2 paths…
3. Article 7 – Dissociation when business is continuing, purchase dissociated
partner’s interest at buyout price (default calculation method + pay interest
from date of dissociation.
4. Article 8 – Dissociation when business is being dissolved and wound up;
dissolution (liquidation) events listed (s.801)

PARTNERSHIPS
Limited Partnerships
I. Limited Partnerships
a. Limited Partnership – Key Points

i. Nature and Definition of LP:
1. General Partners’ role and liability – management roles & liabilities like
partners
2. Limited partners’ – have limited role and liability, similar to corporate
shareholders
a. If a limited partner oversteps their roles they may become viewed as a
general partner
b. Method of Formation
i. Must take steps towards forming a limited partnership, it doesn’t matter if you call
yourselves limited partners if you fail to file the proper paper works it doesn’t matter,
the business may not be deemed limited partnership.
c. Hybrid Between General Partners and Corporation; compare—

i. Formation - formed by filing, like corporation
ii. Personal Liability of owners - some owners have personal liability (like General
Partners) and others do not (like corporate shareholders)
iii. Management role of owners - some owners manage the business (like GP) but others
play a passive role (like SHs)
d. Limited partners risk of losing limited liability

i. Holzman v. De Escamilla, 86 Cal. App.2d 858 (1948) – Limited Partners liable as
General Partners for taking part in control of the business (ULPA)
1. Facts: There were two limited partners who were part of farming venture. The
farm went out of business and the main partner wanted them to share in the
loss. In practice, all three partners had a say in the daily operations of the farm.
2. H&R: Even though the partners agreed to be limited partners, they didn’t act
that way and acted like partners.
3. Why form a limit partnership? Some people will be active in running the
business; others will invest money but will not participate in the business and
just expect profits. Investors have different degrees of involvement.
ii. RULPA 303 lessens risk loss of limited liability

1. Limit persons to whom may be liable
a. if take part in control, only liable to persons who transact business w/
the LP & and reasonably believe LP is a GP
2. Safe Harbor – actions limited partners can take without being deemed to
participate in control:
a. act as officer/director/SH of a corp. that is a GP
b. consult with and advise a GP
c. propose and/or vote on certain matters, such as dissolution, removal of
an LP or GP, etc.
e. Current status/outlook - now largely eclipsed by newer hybrid forms, esp. LLCs

CORPORATIONS
Formation
I. Corporations – Participants
a. Shareholders
i. Don’t manage the day to day business
b. Board of Directors
i. Elected and manage the business
c. Officers
i. Are chosen by the Board and run the daily business
d. Corporation
i. Viewed as a separate entity from the people that
own it.
e. Corporate Veil
i. Shields the shareholders from liability of the
corporation
II. Nature of Corporation

a. Promoters and the Corporate Entity
i. Fiduciary duty of the promoters (below)
ii. Pre-incorporation contracts: promoter liability vs. corporate liability
b. Formation of the Corporation (below)
c. The Corporate Entity and limited liability

i. Piercing – “Piercing the Corporate Veil”
ii. Contract v. Tort
iii. Individual shareholder v. parent/subsidiary
d. Role and Purposes of the Corporation
III. Corporation Formation Timeline

a. Pre-Incorporation Period - There’s an idea – making plans on how the business will succeed, how
it will run. Many times contracts are signed before the company incorporates.
b. Incorporation – only at this point are owner protected with limited liability.

IV. Corporations: Formation
a. How to Form a Corporation – take the steps that the State outlines
b. Where to form a corporation? One state or multiple
c. Basic Incorporation Documents (“Charter”)

i. Articles of/Certificate of Incorporation
ii. Bylaws
iii. Minutes of Organizational Meeting (or unanimous written consent)
d. Model Business Corporation Act (MBCA) – the Model Act vs. Uniform Act
i. § 2.02. Articles of Incorporation.
1. (a)The articles of incorporation must set forth:
a. (1) a corporate name for the corporation that satisfies the
requirements of section 4.01
b. (2) the number of shares the corporation is authorized to issue;
c. (3) the street address of the corporation's initial registered office and
the name of its initial registered agent at that office; and
d. (4) the name and address of each incorporator.
2. (b) The articles of incorporation may set forth:

a. (1) the names and addresses of the individuals who are to serve as the
initial directors;
b. (2) provisions not inconsistent with law regarding:
i. (i) the purpose or purposes for which the corporation is
organized;
ii. (ii) managing the business and regulating the affairs of the
corporation;
iii. (iii) defining, limiting, and regulating the powers of the
corporation, its board of directors, and shareholders;
iv. (iv) a par value for authorized shares or classes of shares;
v. (v) the imposition of personal liability on shareholders for the
debts of the corporation to a specified extent and upon
specified conditions;
c. (3) any provision that under this Act is required or permitted to be set
forth in the bylaws;
d. (4) a provision eliminating or limiting the liability of a director to the
corporation or its shareholders for money damages for any action
taken, or any failure to take any action, as a director, except liability for
(A) the amount of a financial benefit received by a director to which he
is not entitled; (B) an intentional infliction of harm on the corporation
or the shareholders; (C) a violation of section 8.33; or (D) an intentional
violation of criminal law; and
e. (5) a provision permitting or making obligatory indemnification of a
director for liability (as defined in section 8.50(5)) to any person for
any action taken, or any failure to take any action, as a director, except
liability for (A) receipt of a financial benefit to which he is not entitled,
(B) an intentional infliction of harm on the corporation or its
shareholders, (C) a violation of section 8.33 or (D) an intentional
violation of criminal law.
3. (c) The articles of incorporation need not set forth any of the corporate
powers enumerated in this Act.

4. (d) Provisions of the articles of incorporation may be made dependent
upon facts objectively ascertainable outside the articles of incorporation
in accordance with section 1.20(k).
ii. § 4.01. Corporate Name.

1. (a) A corporate name:
a. (1) must contain the word corporation, incorporated, company, or
limited, or the abbreviation and
b. (2) may not contain language stating or implying that the corporation is
organized for a purpose other than that permitted by section 3.01 and
its articles of incorporation.
2. (b) Except as authorized by subsections (c) and (d), a corporate name

must be distinguishable upon the records of the secretary of state from:
a. (1) the corporate name of a corporation incorporated or authorized to
transact business in this state;
b. (2) a corporate name reserved or registered under section 4.02 or 4.03;
c. (3) the fictitious name adopted by a foreign corporation authorized to
transact business in this state because its real name is unavailable; and
d. (4) the corporate name of a not-for-profit corporation incorporated or
authorized to transact business in this state.
3. (c) A corporation may apply to the secretary of state for authorization to

use a name that is not distinguishable upon his records from one or more
of the names described in subsection (b). The secretary of state shall
authorize use of the name applied for if:
a. (1) the other corporation consents to the use in writing and submits an
undertaking in form satisfactory to the secretary of state to change its
name to a name that is distinguishable upon the records of the
secretary of state from the name of the applying corporation; or
b. (2) the applicant delivers to the secretary of state a certified copy of the
final judgment of a court of competent jurisdiction establishing the
applicant's right to use the name applied for in this state.
4. (d) A corporation may use the name (including the fictitious name) of
another domestic or foreign corporation that is used in this state if the
other corporation is incorporated or authorized to transact business in
this state and the proposed user corporation:
a. (1) has merged with the other corporation;
b. (2) has been formed by reorganization of the other corporation; or
c. (3) has acquired all or substantially all of the assets, including the
corporate name, of the other corporation.
5. (e) This Act does not control the use of fictitious names.

CORPORATIONS
Promoters
I. Promoters & Estoppel

a. Southern-Gulf Marine v. Camcraft, 410 So.2d 1181 (1982)
i. Facts: P, a corporation chartered under the laws of Cayman, British West Indies, field
suit alleging breach of contract to furnish a ship. D countered that there was no cause of
action based on P’s lack of corporate existence at the time of entering into the contract
and subsequent incorporation in another sovereign different from the original state.
While P initially said they would incorporate in Texas, they subsequently sent a letter to
D that they were choosing to incorporate in the Cayman Islands and D signed off on this
agreeing to it.
ii. Issue: Whether D should be estopped from asserting the P’s lack of corporate capacity at
the time of the contract was executed after dealing with the P as a corporation?
iii. H&R: Having promise to construct the vessel, D will not be permitted to escape
performance by raising an issue as to the character of the organization to which it is
obligated, unless substantial rights might thereby be affected.
1. As a general rule, one who contracts with what he acknowledges to be and
treats as a corporation, incurring obligations in its favor, is estopped from
denying its corporate existence, particularly when the obligations are
sought to be enforced.
b. Practice tips
i. No one should sign before incorporation.
ii. Require evidence of:
1. incorporation
2. authority to sign
iii. If do so, insist that person signing be personally liable (tho’ that person might refuse), at
least until corp. is formed and adopts the contract.
iv. Also might insist on right to suspend manufacture if not incorporated by certain date.
II. Promoters – Duties and Liabilities

a. Issues:
i. What is a promoter? Promoters identify a business opportunity and puts together a
deal, forming a corporation as the vehicle for investment by other people.
ii. Issues arise as to:
1. Dealings between promoter and third parties
2. Dealings between promoter and corporation
b. Promoter Fiduciary Obligations

i. A promoter owes a fiduciary obligation to the corporation. This obligation is like that
of an agent to a principal, even though no principal exists yet.
1. Duty of good faith and honesty toward corporation coming into existence
a. Fully disclose facts, including personal interest
b. Refrain from misrepresentations
2. Duty of loyalty
a. Refrain from taking secret profit
b. Refrain from using corp. funds for personal purposes
ii. Example: Duties re: sale of land to new corp. – cannot take a secret profit from pre-
incorporation dealings:
1. Promoter buys land, suitable for development; P knows an investor who wants
to develop the land; P causes a corporation to be formed, with the investor
owning all of the stock; P sells the land to the corp. at a profit, without revealing
the fact that he is making a profit

a. Is this a breach of duty? Yes, he’s not being honest
b. Remedy? When an agent does this, he is disgorged from the profits-this
is similar here.
c. What about if P is just good at bargaining? He needs to pass on the
benefits from driving that bargain.
III. More on Pre-incorporation Contracts: These are default rules unless there is intention otherwise
a. Once a corporation exists, is it automatically bound? NO!
i. If not, how can it become bound?
1. There should be action by the corporation to adopt as its own, even if it’s not
express.
b. Is the promoter who signed liable?
i. If so, does the promoter liability end automatically once incorporation occurs?
1. No, promoter is liable if the promoter signs before the company is incorporated
then he/she is liable.
2. But the corporation could indemnify the promoter.
ii. If not, how can promoter liability end?
1. The promoter needs to get the corporation to agree to let them off the hook.
c. NOTE: These principles apply UNLESS OTHERWISE INTENDED, i.e., unless the promoter and
other side intended otherwise when the contract was signed.

CORPORATIONS
Corporate Liability
I. Mechanics of Incorporation
a. Select a Corporate Name (MBCA 4.01)
b. File Articles/Certificate of Incorporation (2.01-03)

i. Mandatory vs. permissible contents
ii. MA “articles of Organization”
1. Article I: Name of organization
2. Article II: Name & purpose of the corporation, along with how many shares
there will be
3. Article III: What kinds and how many stocks will the corporation will sell
4. Article IV: What rights will be given for what kind of stock—such as do you have
the right to vote, right to certain dividends.
5. Article V: Are there any restrictions on the right to transfer?
a. One of the benefits is that stocks are typically fully transferable.
6. Article VI: Describe the type of business, where the principal office is and
address where the records are kept.
7. Article VIII: who are the directors
c. Hold Organizational Meeting (MBCA 2.05)

i. Elect directors (if not named in Article), appoint officers
1. 2. If articles don’t name directors, incorporator holds meeting. Then either:
a. Incorporator chooses directors and completes organization
b. Incorporator chooses directors and THEY complete organization
ii. Approve bylaws (2.06)
iii. Authorize bank account; approve minute book, form of stock certificate, etc.,
d. Issue of share of stock to initial shareholders
II. Corporate Entity & Limited Liability

a. Limited Liability - Courts will disregard the corporate form, or in other words, “pierce the
corporate veil,” whenever necessary to prevent fraud or to achieve equity.
i. Walkovsky v. Carlton,18 N.Y2d 414 (1966) – when limited liability is enough to
protect the shareholders
1. Facts: P was severely injured when a taxi ran into him. He attempted to sue the
corporation but couldn’t get much money because the cab only had 10K in
insurance liability. Then he sued D stating that all the corporations should be
liable for P’s injuries. D is a shareholder of a bunch of corporations. The claim
against D, is that as a shareholder he should be held liable. Enterprise liability-
there are a bunch of cabs, owned by several different corporations, but it acts
like it’s owned by one, they are repaired by the same place, and garaged at the
same place.
2. Issue: Did D use the agency for his personal gain?
3. H&R:
a. No, he didn’t. There were no allegations that D conducted business in
personal capacity for personal ends, using corporation as dummy so
that as a shareholder D would have been liable under respondeat
superior. If D was operating the business fraudulently that would
justify piercing the corporate veil.
b. Also, no allegations that did business in individual capacity, shuttling
personal $ in and out w/o regard to formality and to suit own
convenience; not enough to say corp. was undercapitalized and assets
were intermingled

c. Relevance of Lack Assets: not having enough assets is not enough to
pierce the veil.
d. Relevance of Inadequacy of Insurance? It’s not fraudulent for the
owner to take out only the minimum liability. It’s not for the court
decide, if people are unhappy, they need to complain to the legislature.
ii. Sea-Land Services, Inc. v. Pepper Source, 941 F.2d 519 (7th Cir. 1991) When limited
liability will not protect the shareholder, and the court WILL pierce the corporate
veil
1. Facts: D orders a shipment for a large amount of goods. The bill was very large,
and D never paid for it. P sues, district court entered a default judgment in favor
of P, but Pepper Source couldn’t be found, it was dissolved. P then brought an
action against Marchese and 5 business entities that he owns. P wanted to
pierce the corporate veil and render Marchese liable, and “reverse pierce” the
other corporations that Marchese owns. (Some jurisdictions will consider
“reverse piercing, but not all).
2. H&R: A corporate entity will be disregarded and the veil of limited liability
pierced when 2 requirements are met:
a. 1) first there must be unity of interest and ownership that the
separate personalities of the corporation and the individual (or
other corporation) no longer exist
i. Inadequate records and formalities
1. In this case, Marchese never held minutes.
ii. Commingling of funds and assets
1. Used corporate funds for personal purposes, such as
paying child support and alimony.
2. Undercapitalization
3. Treated corporate assets as own
b. 2) Circumstances must be such that adherence to the fiction of
separate corporate existence would sanction a fraud or promote
injustice.
i. The party was harmed because he was not paid; if the court
didn’t do something there would be unjust enrichment. There
was also a deliberate attempt to use the corporation to escape
creditors.
1. Higher Court states that there needs to be more than
just nonpayment, such as unjust enrichment, that a
shareholder used a corporation to avoid its
responsibilities to creditors.
3. Advice?
a. Respect corp. formalities
b. Provide reasonable capitalization
c. Follow financial practice norms
i. separate bank accts
ii. don’t drain out $ regularly, use for personal expenses
d. NOTE – Piercing Corporate Veil liability is like lightning striking – rare
but potentially devastating
iii. In Re Silicone Implants Product Liability Litigation

1. Look at the totality of the circumstances to see if the party is liable. The parents
and the subsidiary have similar directors. 2 of MCE directors were Bristol
directors. MCE used Bristol and Myers health care group and legal group.
2. Plaintiffs wants to pierce the corporate veil since the parent company controlled
so much of the subsidiary. Bristol & Meyers were very involved, stating that the

implants were safe and even stamping the implants with their name; it would
only be equitable if they were held liable.
3. Plaintiff’s first theory was that Bristol Meyers controlled the subsidiary and
therefore the corporate veil should be pierced. The 2nd theory is Bristol Meyers
should be held liable for direct liability. They presented themselves as backing
up the product in public.

CORPORATIONS
Role and Purpose of Corporations
I. MBCA § 3.02(13) to make donations for the public welfare or for charitable, scientific, or educational
purposes
a. A.P. Smith Mfg Co. v. Barlow, 13 N.J. 145 (1953)
i. Facts: Company frequently donated money and wanted to donate money to Princeton
University, in the sum of $1500. Certain stockholders objected. The stockholders
instituted a declaratory judgment action to stop the donation. Company president
thought it was a sound investment, as it obtained good will within the community, and
that they were furthering the corporation’s self-interest in assuring the free flow of
properly trained personnel. The stockholders argue that the plaintiff’s cert of
incorporation doesn’t expressly authorize the contribution and the corp doesn’t have
implied/incidental powers to make the contributions. The stockholders 2nd argument is
that the NJ statute was enacted after the incorporation of the business, and thus doesn’t
apply.
ii. Issue: Is the donation valid?
iii. H&R: there is no suggestion that it was made indiscriminately or to a pet charity of the
corporate directors. The corp was donating to an institution of higher learning, was a
modest amount and within the limitations of the statutory agreement.
1. NJ Statute = allowed corporations to cooperate with other corps’ and people in
the creation and maintenance of community funds and charitable
instrumentalities conducive to public welfare and could spend corporate funds
by the directors “deem expedient and as in their judgment will contribute to the
protection of the corporate interests.”
2. Compare other statutory approaches:
a. Delaware – one of the corps’ general powers but must serve basic corp
purpose – making money
b. California – Power to make regardless of specific benefit
c. New York – Power to make irrespective of benefit
b. Dodge v. Ford Motor Co.

i. Facts: Investors got yearly dividends of 1.2mil + higher 'special' dividends. Ford decided
to later stop supplying investors with 'special' dividends and to reinvest that money in
Ford motor co,. Ford wanted open an iron ore smelting plant to allow for price
reduction. Dodge brothers, 10% owner, tried to sell shares back to Ford, Ford denied
offer. Dodge sued to enjoin from stopping special dividends
ii. Issue: Should Ford be accountable for the dividends?
iii. H&R: Yes, while Ford argues he has implied powers to do what he felt needs to be done
for the company the Court disagrees and held that he needed to pay the special
dividends. Courts will not interfere unless they see evidence of fraud or
misappropriation of corporate funds , where plenty of $ is had, and refusal to distributer
amounts to fraud/bad faith.
iv. Basic rule re: dividends, etc.
1. MBCA 6.40(a): basic principal that directors have the discretion to declare
dividends
2. 8.01(b): power of the directors to manage the business
3. 3.02(13): basic idea of having the power to engage in charitable actions. To
make contributions and other philanthropic types of decisions
c. Shlensky v. Wrigley
i. Facts: Case brought by the shareholders of the Cubs, they wanted the D/owner to install
lights so that they could have night games at Wrigley, they argued that other major
leagues had lights and because of that attendance went up meaning greater the

profitability. D refused arguing that the lights would devalue and disrupt the
neighborhood by bringing in large, unwanted crowds.
ii. Issue: Is D unwillingness to install lights a bad faith act?
iii. H&R: No, courts will not step in and interfere with honest business judgments unless
there is a showing of fraud, illegality, or conflicts of interest. Judgment of directors
enjoys the benefit of presumption that it was done in good faith and done to benefit and
in the best interest of the corporation. Only if a party comes up with evidence that the
other side acted in fraud or with illegality, will the courts further investigate the
directors.
II. Corporation Social Responsibility (“CSR”)

a. Some examples of corps.’ different areas of focus:
b. Why choose particular areas? Determinative factors?
c. How do corps. generally describe CSR endeavors? “Good corporate citizen” claim?
d. Some examples of corps.’ descriptions of specific projects/ goals/motivations: Any other
goals/motivations?
i. Starbucks tried to do fair trade coffee

1. Gives $ to groups to help subsidize fair trade
2. Commitment; idea of a shared planet;
3. Importance of fair trade and ethics - just a part of who they are as a corporation
4. Present themselves as having environmental and humanitarian responsibilities
5. Good business sense to do so too.
6. They say that when they deliver in various areas of their mission, they pass the
success along to their share holders.
7. AP Smith - today, people look to corps to do these good deeds. Starbucks feels as
though they're looked at to "set the new standard, yet again..."
ii. RJ Reynolds
1. To advocate for children to NOT smoke, seemingly contradictory to the interest
of the shareholders
2. Better to have kids wait until they're older because they'll have more money to
spend, and they'll lessen damage to their health during development years
which will keep them smoking as an adult longer
3. SOME of their charity work is court ordered
4. Make RJ a good place to work
5. Making policies for smoking in the workplace
6. Done as expectation ( legal expectation requirements)
7. Doing these sorts of things match up to the expectations of their shareholders.
iii. GAP
1. Watch out for who's making their products
2. Make sure the factories in which their clothing is produced don't involve child
labor.
3. Occasionally happens, then have to conduct damage control - subcontracted
without consent. K has since been cancelled. Guidelines to subcontractors
explicitly say no child labor, etc…
4. "Not just a good feeling, its good business…"
5. Want to point out how decisions are good for business too.
iv. Ben & Jerry's

1. Known for promoting themselves as people with a social mission? Deep respect
for human beings?
2. Talk about their social, product and economic mission
3. Interrelated - linked prosperity

4. They do right by delivering a good product that's good for society, and good for
them in an economic level.
5. B&J eventually want to get 100% cage-free, but to do that now would be too
much at the detriment of shareholders.
e. Implementation challenges that corporations may encounter?

i. Ex. Swinegate, Ben & Jerry’s ice cream debacle. Tried to be eco-friendly by “recycling” ice
cream water waste by giving it to local pig farmers. B&J’s didn’t do research as to
whether pigs could drink that much ice cream water. While the pigs gained weight, they
also died quickly and their meat was too fatty to sell.
f. What are other pitfalls of CSR endeavors?
g. How do/should SHs view these endeavors?
h. How does/should the public view these endeavors?
i. What is the significance for corporation managers of SH’s and the public

CORPORATIONS
The Roles of Officers, Directors and Other Insiders & The Duty of Care
I. Directors Role in the Corporation

a. s. 8.03: 1 or more directors (see articles/bylaws determines how many directors there)
b. Election s. 8.03 – when and by whom?

i. Elected annually at shareholders meeting
ii. Unless otherwise provided, shareholders have 1 vote per share; quorum – majority of
shares; directors elected by plurality of votes cast (7.25 and 7.28)
c. Term of Office: s. 8.05 – 1 year
d. Role 8.01 – corp powers exercised by/under their authority and business/affairs managed
by/under their direction and subject to their oversight
i. Declaring dividends: 6.40(a)
e. Mode of Taking Action: Meeting (8.20)

i. Quorum requirement* (8.24) majority
ii. Required vote* (8.24b) majority present – must have 33% of the shareholders present
f. Alternative to action under 8.20*: 8.21
i. Unanimous written consent
g. Default rules or absolute requirements?

i. *Unless articles/bylaws provide otherwise
II. Officers’ Role in the Corporation

a. What officers does a corporation have?
i. 8.40(a) – set out in bylaws or designated by board
ii. 8.40(c) – need one assigned to prepare board and shareholder meetings minutes and
maintain records
b. How are they selected?

i. 8.40(b) by board or by other officers
ii. 8.40(d) 1 person may hold 2 offices
c. What authority and functions do they have?

i. 8.41 – set out in bylaws or given by board or by other officers
ii. Act as agents of the corporation, not the shareholders
d. Officers’ role vs. directors’ role (8.01) – officers act under the board’s authority and direction
e. Removal (8.43) at any time, with or without cause, by board, appointing officer or other
authorized officer
f. See also sample bylaws, section 4

i. Designated officers, terms of office
ii. 3 sources of duties and powers

III. Directors’ Duties - Duty of Care and the Business Judgment Rule
a. There is no protection for directors who have made “an unintelligent or unadvised
judgment” under the business judgment rule.
b. Kamin v. American Express Company, 89 Misc.2d 809 (1976)

i. Facts: Ps demanded that the directors rescind the previously declared dividend in shares
and to take steps to preserve the capital loss which would result from selling the shares.
The board rejected. The Ps claim that the Board was wasting corporate assets. The court
examined the case and did not see a claim of fraud or self-dealing, or any bad faith or
oppressive conduct.
ii. Issue: Whether or not dividend is to be declared or a distribution of some kind should be
made is exclusively a matter of business judgment for the Board?
iii. H&R:
1. Courts will not interfere unless the powers have been illegally or
unconscientiously executed or unless it be made to appear that the acts were
fraudulent or collusive and destructive of the rights of the stockholders.
a. For there to be actionable wrongdoing there must be a claim of fraud
or bad faith.
b. More than imprudence or mistaken judgment must be shown.
2. Business Judgment Rule not applicable here.
c. Key Duty of Care Concept: The Business Judgment Rule (“BJR”)

i. BJR: defendant directors are entitled to a presumption … (Shlensky p. 277) – Courts will
presume that the directors acted in good faith, and in the best interest of the corporation.
ii. How does the BJR operate as to requests for judicial review of a board decision?
1. It insulates the Board from Review.
iii. Task of plaintiff alleging breach of Duty Of Care:
1. Must overcome presumption that Board met its duty of care.
2. Must show bad faith, conflict of interest or arbitrary decisions.
iv. How does the BJR operate as to directors’ potential personal liability?
1. Helps shield them from their decisions and from personal liability.
d. Plaintiffs’ Task in Duty Of Care Litigation: Rebutting Business Judgment Rule

Presumption
i. A.P. Smith (charitable donation): show no reasonable belief it was in best interests, was
excessive in amount or was made for personal reasons.
1. Court stated it would not get involved in such a small amount of money in
comparison to the company profits, and in a donation that was not made for
personal gains.
ii. Dodge (dividends): show fraud, misappropriation of assets, bad faith, or arbitrariness
(i.e., no rational business purpose for decision)
iii. Shlensky (decision re: lights): show fraud, illegality, or conflict of interest
iv. Kamin: Court held the same thing, must show fraud, conflict of interest and bad faith.
v. Van Gorkom: Board must act on an informed basis, in good faith, and the action must be
in the best interest
vi. IN SUM, plaintiff must show defendants breached one of their duties – care, loyalty,
or good faith
e. Smith v. Van Gorkom, 488 A.2d 858

i. Facts: There was a spilt on the board, there were inside directors (more deeply involved
in the corporation, only sat for this corporation; this was their full time position) and
outside directors (who were less involved, and were involved in other businesses). Ps
brought a lawsuit against D from coming up with a plan as a merger and selling stock at
only $55/share (which they regarded as too low). The board decided to sell based on a 2
hour meeting and one person’s presentation.

ii. Issue: Did the board breach their fiduciary duty by not reaching an informed business
judgment and making a fast decision, based on only one individual’s presentation when
agreeing to sell the Company?
iii. H&R: Yes!
1. The Court doesn’t buy the Board’s arguments: The Board did not
adequately inform themselves as to Van Gorkom’s roles in forcing the sale of
the company and in stabling the per share purchase price, they made an
uninformed as to the intrinsic value of the company. Given these circumstances
were grossly negligent in approving the sale of the company upon 2 hours
consideration, without prior notice and without the exigency of a crisis or
emergency.
a. Size of the premium – not enough, doesn’t show it was adequate
b. Market test of offer price – someone could have paid more, but no
one came forward
c. Board experience – “other ppl might have needed to be more
informed but this board knew Transunion and didn’t need additional
information.”
d. Relied on the Advice of a lawyer – Doesn’t matter, part of the job of
the Board is the possibility of being sued.
2. Was the Board at least more informed after the 9/20 meeting? Court says
they were EVEN less informed!
3. Remanded – the lower court must determine the fair value of the shares,
based on the intrinsic value of Transunion.
4. Dissent: A lesser experienced Board would have needed more time, but they
didn’t because they were experts in their own company.
5. Standard: Gross negligence is the proper standard for determining whether a
business judgment reached by a board of directors was an informed one.
6. Rule: The Board has a duty to act on an
a. Informed basis – requires the Board to make a reasonable effort to
be diligent in informing themselves of all material information
reasonably available to them (this depends on the facts and
circumstances of the case).
b. In good faith
c. And the action must be in the best interest
f. Aftermath of Van Gorkom

i. Some of the directors became personally liable, this is very different from the
Dodge/Dividend case (where the Court made the CORPORATION pay, but none of the
directors).
ii. After the case many Boards felt very uncomfortable making merger decisions without the
aid of outside lawyers and investment bankers to give advice.
g. Justifying the BJR: Why Should Courts Defer to Directors’ Judgment?

i. Judges’ lack of competence of business matters
ii. Courts didn’t want to undermine the advantages of corporate structure, passive business
partners tend to step down and the best tend to step up.
iii. The Board is willing to serve on board but if we didn’t have the BJR and people always
feared being sued how likely would they participate.
iv. The Courts want the Boards to continue to be willing to take business risks, because some
risks are good risks.

IV. Duty of Care:
a. Duty of Care (“DOC”) – Section 8.30: [8.42—officers] -- focus on diligence, attentiveness, &
prudence
i. Act
1. Must be in good faith
2. Must be in a manner “reasonably believes to be in the best interests of the
corporation”
a. focus on substance of decision-making – decision must be related to
FURTHERING THE BEST INTERESTS of corp. (must have a REAS.
BELIEF that furthers best interests)
i. “Reasonable belief” - focus on substance of decision-
making – decision must be related to FURTHERING THE
BEST INTERESTS of corp. (must have a REAS. BELIEF that
furthers best interests)
ii. “Reasonable care” - focus on process of decision-making
and oversight – become INFORMED in performing their
DECISION-MAKING & OVERSIGHT functions with the CARE
that a reasonable person in like position would reasonably
believe appropriate “in a like position” – establishes
objective standard “under similar circumstances” – take
account of complexity/urgency
ii. When becoming informed, discharge duties “with the care that that a person in a like
position would reasonably believe appropriate under similar circumstances”
1. “in a like position” – establishes objective standard
2. “under similar circumstances” – take account of complexity/urgency
iii. Duty to Act in Good Faith – either separate duty or included in DOC (as in 8.30)
1. Be honest, truthful and don’t misrepresent
2. Cannot have/be swayed by a conflict of interest
3. Cannot approve or acquiesce in illegal activity
b. Francis v. United Jersey Bank

i. Facts: Insurance company, they would take on risks and allot some of the risks to a 3rd
company. This was Mrs. Britchard’s husband’s company and she didn’t want anything to
do with the business. Her son’s also ran the business but they would take out “loans”
against the company and essentially not pay. Eventually the business went under.
ii. Issue: Was there a breach of duty by Mrs. Britchard?
iii. H&R: Yes, she didn’t do anything in her time as a director, a simple glance at the financial
statements would have clearly shown that the sons were stealing money from the
business.
1. Basic Obligations Knowledge & Monitoring
a. Understanding the business
b. Keeping informed
c. Monitoring corporation affairs and reviewing financial
information.
2. Any statutory excuses? Not liable if she had in good faith relied on
a. Opinion of counsel
b. Reports prepared by company accountant
c. President/officers of the board of reports
3. How can directors avoid liability if they are aware of misconduct?
a. If a director sees that other directors do something they don’t like
they can avoid liability by stating in a writing that he/she disagrees.
And even though she resigned eventually, she did so too late (she
resigned right before the company went under). Instead of resigning

she should have tried to stop the corruption. Her neglect to act
contributed to the free roam of the sons and their corruption.
4. Why isn’t the BJR mentioned? BJR not mentioned b/c it shields directors
from liability for decisions they made; decisions not to act are also protected;
here, though, she did not exercise any business judgment at all

CORPORATIONS
Duty of Loyalty - Self-Dealing & Corporate Opportunity Doctrine
I. Duty of Loyalty
a. Duty of Loyalty (“DOL”)
i. fairness &
ii. subordinating self-interest to corp.’s interest; avoid self-dealing & don’t take corp.
assets/opportunities
b. Overview of Approaches to Self-dealing Transactions

i. Traditional common law approach:
1. Per se voidable, regardless of fairness/ratification
ii. Modern common law/statutory approach:
iii. substantive test and/or procedural test:
1. not voidable if intrinsically fair (substantive test) and/or approved by
disinterested, informed directors/SHs (procedural test)
iv. Burden of proof?
1. Defendant has burden of proof; show transaction was fair (no BJR
presumption) and/or proper approval was given
v. Defendant entitled to BJR presumption? Yes
c. Directors & Managers

i. Business Judgment Rule
1. To encourage freedom of action on the part of directors, and to discourage
interference with the exercise of their free and independent judgment, the
Business Judgment Rule will defer to the directors.
2. Questions of policy of management, expediency of contracts/action,
adequacy of consideration, lawful appropriation of corporate funds o
advance corporate interest are usually left to the directors, unless a
showing of fraud, improper motive or personal interest can be shown for
the court to intervene.
3. The BJR yields to the rule of undivided loyalty.
4. If there is any evidence of improvidence or oppression, any indication of
unfairness or undue advantage, the transactions will be voided….their
dealings with he corporate engagements with the corporation are

challenged the burden is on the director(s) not only to prove good faith, but
also to show inherent fairness.
ii. Bayer v. Beran, 49 N.Y.S.2d 2 (Sup. Ct. 1944)

1. Facts: D is a director and spent a lot of money on radio ads, and of hiring a
station where is wife happened to be working for as a singer. He is charged
with waste and negligence by the shareholders. Generally BJR would
dismiss this case, but because the wife was singing on the show the court
decided to look further into the case. The shareholders argued that the
director was using the radio for a personal interest and secondly that the
agreement to spend the radio money was illegal since there was no formal
board meeting.
2. Issue: Whether the action of the directors was intended or calculated to
subserve some outside purpose, regardless of the consequences to the
company and in a manner inconsistent with the company interest? Was the
decision illegal because a board meeting wasn’t held?
3. H&R:
a. There was no breach of fiduciary duty: The board researched
how much, and where to place their radio ads. There was care,
diligence and prudence exercised by the directors before they
committed the company to the ads.
b. General rule is that directors acting separately and not
collectively as a board can’t bind the corporation (the reason
for this is because the collective procedure is necessary so that there
can be a discussion of ideas first and secondly, directors are agents of
the stockholders and are not given power by the law to act except as
a board).
i. The court doesn’t buy that this because this particular
board were fulltime and met frequently.
c. Role of BJR here?
i. Meant to “encourage freedom of action on the part of
directors” & “discourage interference with the exercise of
their free and independent judgment,” “yields to the rule of
undivided loyalty.”
ii. “The burden is on the director … to show the deal’s
inherent fairness”
iii. Benihana of Tokyo, Inc. v. Benihana, Inc. 906 A.2d 114 (Del. 2006)
1. Facts: Conflict within the family over who would take control or have
control of the business. They also wanted to gain additional capital in order
to remodel the Benihana restaurants. In order to do this they decided to
create new stock. They came up Class A stock and common stock. Abdo was
involved in the trying to sell and buy the stock. , he negotiated with some
board members behind doors and others not. The trial court found that the
board was not informed that Abdo had negotiated the deal on behalf of BFC,
but they did know he was a principal of BFC.
2. Issue: Did Abdo breach his duty of loyalty?
3. H&R: No.
a. Abdo did not set the terms of the deal
b. Did not deceive the board
c. Did not dominate or control the other directors’ approval of the
transaction.
d. The board chose the best financial option.

iv. MBCA Re: Conflicting Interest Transactions (essentially self-dealing)
1. What is a “director’s CIT?” 8.60
a. (1) Conflicting Interest Transaction – a transaction that involves
a conflict, which include a director, a related person of a director or
officer is interested in the deal.
b. (4) Material Financial Interest – A financially interest that can
reasonably impair someone’s objectivity.
c. (5) Related Person – Family members, and any other business
entities that a director might have an interest in.
2. What must a director do to insulate a director CIT from a

damages/equitable relief claim?
a. 8.61(b) A director's conflicting interest transaction may not be
enjoined, set aside, or give rise to an award of damages or other
sanctions, in a proceeding by a shareholder or by or in the right of
the corporation, because the director, or any person with whom or
which he has a personal, economic, or other association, has an
interest in the transaction, if:
i. (1) directors' action respecting the transaction was at any
time taken in compliance with section 8.62;
ii. (2) shareholders' action respecting the transaction was at
any time taken in compliance with section 8.63; or
iii. (3) the transaction, judged according to the circumstances
at the time of commitment, is established to have been fair
to the corporation.
3. Key definitions:
a. Fair to the Corporation 8.60(6)
i. The transaction as a whole was beneficial to the
corporation, taking into appropriate account whether it
was
1. (i) fair in terms of the director’s dealings with the
corporation, and
2. (ii) comparable to what might have been
obtainable in an arm’s length transaction.
b. Required Disclosure 8.60(7)

i. Disclosure of
1. (i) The existence and nature of the director’s
conflicting interest, and
2. (ii) all facts known to the director respecting the
subject matter of the transaction that a director
free of such conflicting interest would reasonably
believe to be material in deciding whether to
proceed with the transaction.
c. Qualified Director 1.43(3) is not a director

i. (i) as to whom the transaction is a director's conflicting
interest transaction, or
ii. (ii) who has a material relationship with another director
as to whom the transaction is a director's conflicting
interest transaction
4. Director not liable for damages if:

a. Sec. 8.62 – the transaction has been authorized by the affirmative
vote of a majority (but no fewer than 2) of the qualified directors
who voted on the transaction, after required disclosure by the
conflicted director of information not already known by such
qualified directors or after modified disclosure in compliance OR
b. Sec. 8.63 if a majority of the votes cast by the holders of all qualified
shares are in favor of thetransaction after 1) notice to shareholders
describing the action to be taken respecting the transaction, 2)
provision to the corp etc… OR
c. Transaction proven fair
d. MBCA Re: Corporate/Business Opportunities

i. 8.70(a) -- What can a director do to insulate taking advantage of a business
opportunity from a damages/equitable relief claim? 2 possibilities:
1. Get approval from qualified directors, those who are disinterested in
the transaction.
a. Disclaiming disinterest in corporate opportunity
b. Compliance with 8.62 – self-dealing transaction; directors have to
be informed of potential conflict and the terms of the deal in
question.
2. Shareholder Approval
a. 8.63 – have shareholders with knowledge of the terms of the deal,
with knowledge of the opportunity of the terms, have them
disclaim the opportunity.
ii. 8.70(b) – Is this the only way to avoid potential liability, or just an optional
“safe harbor”?
1. One approach to immunize opportunity from further attack.
iii. Corporate Opportunity: In re eBay, Inc. Shareholders Litigation

1. Facts: Shareholders of eBay filed derivative actions against certain eBay
directors for usurping corporate opportunities. Ps allege that eBay’s
investment banking adviser engaged in “spinning,” a practice that involves
allocating shares of lucrative initial public offerings of stock to favored
clients. Ds argue that it was not a corporate opportunity within the
corporation’s line of business or an opportunity in which the corporation
had an interest or expectancy—court does not buy it.
2. Issue: Did the Ds take part in corporate opportunities?
3. H&R:
a. The defendant directors were not free to accept this consideration
from their investment banking advisors. In the present case eBay
was financially able to exploit the opportunities, was in the
business of investing in securities, investing is an integral part of
eBay’s cash management strategies and eBay was never given an
opportunity to turn down the IPO allocations as too risky.
b. 4 Guth Factors - If all present, Director/Officer can’t take the
opportunity w/o board of directors approval:
i. Corp. has financial capacity to undertake the opportunity
ii. Opportunity is in corp.’s line of business
iii. Corp. has interest or reasonable expectancy in opportunity
iv. Conflict of interest if O/D takes opp.
4. Notes:
a. Litigation Settlement Agreement (2005):
i. individual defendants to pay total of $3 million
ii. Goldman to pay $395,000

iii. $ to go into settlement fund; proceeds (minus attys.’ fees,
etc., not to exceed $850,000) to go to eBay; give 50% to
charity
iv. eBay revised conflict of interest policy – employees &
directors can’t purchase IPO allocation shares “if to do so
would appear to influence the employee’s business
judgment”
v. No admission of liability – maintain opps. were given to
def. solely as brokerage customers
iv. Ratification by Shareholders (SHs): Fliegler v. Lawrence, 361 A.2d 218 (1976)
1. Facts: Shareholder derivative action brought on behalf of Agau Mines, a
Delaware corporation against its officers and directors and USAC, a
Montana corporation. Lawrence/D, president of Agau acquired certain
properties under a lease-option and offered to transfer to Agau, but after
meeting with some other Agau directors, he and they agreed that the
corporations legal/financial position wouldn’t permit
acquisition/development of the properties, so the properties were instead
transferred to USAC (which is a closely held corporation, formed just for
this purpose, and a majority of stock owned by Ds). But an option was held
open for Agau to take over stock of USAC. The trial court entered judgment
in favor of defendants and plaintiff appealed.
2. Issue: Whether the defendants, in their capacity as directors and officers of
both corporations, wrongfully usurped a corporate opportunity belonging
to Agau and whether all defendants wrongfully profited by causing Agau to
exercise an option to purchase that opportunity?
3. H&R:
a. Where defendant officers, directors, and shareholders of the first
corporation had held a significant interest in the second
corporation which was acquired by the first corporation, burden
was on those defendants to show the intrinsic fairness of the
transaction, and that defendants met that burden.
b. In view of evidence that corporation was not in a position, either
financially or legally, to accept corporate opportunity at the time
that it was offered to it by the president of the corporation,
president and other persons associated with the corporation were
entitled to acquire the opportunity for themselves after it was
rejected by the corporation.
c. Shareholders approved to exercise this option; Even though it's a
conflict of interest, there's no problem because there was
disclosure to the shareholders, and the shareholders still approved
of exercising the option

CORPORATIONS
Closely Held Corporations & Abuse of Control
I. Basic Roles & Rights of Shareholders

a. Liability for corporate acts/debts 6.22(b)
i. Shareholders expect to not be liable for Corp debts/acts
ii. Once they pay for their share, not personally liable for acts of corporations simply
by being shareholders
b. Have “preemptive rights” IF in articles 6.30
i. What are they?
1. A right that a SH might have to buy new shares as they're being sold for the
first time by the corporation
a. If your stock has preemptive rights, you get first dibs on newly
issued shares before going to public
b. Allows you to maintain your percentage ownership of the
corporation
2. Don't have preemptive rights unless the corp's articles of incorporations
say you do
3. Generally seen with smaller corporations
a. Where people are concerned with having a particular ownership
percentage of their corp; want to prevent dilution by entrance of
new shareholders
b. Large corps not overly concerned; individuals generally have small
%
i. .002% of IBM doesn't give you much "pull"
c. Receive Dividends IF declared 6.40
i. Power of Board of Director's (BoD) to authorize dividends to SH's
1. Right to receive distributions if declared by BoD's
2. Big "IF"- at discretion of BoD
d. Annual Meeting 7.01

i. Annual meeting of SH's; vote on matters before them;
1. Typical matter is voting for directors
e. Votes per share 7.21

i. Usual is 1 vote per share, except as otherwise provided by the articles of
incorporation (Benihana - 1 share=1/10 vote)
f. Proxy Voting OK 7.22

i. Have someone else cast your vote on your behalf
1. If not able to go to the meeting, can still cast your vote through TP
g. Elect directors by plurality (7.28)

i. No director needs majority; just plurality
ii. Compare 7.25:
h. May bring derivative suit (7.40-7.46)

i. Shareholders can bring derivative suits
1. COA on behalf of the corps- reedy for damages against the corp
a. Any damages recovered belong to the corp rather than the
shareholders
2. Assume much more active role than usual;
a. Dir's and officers are often the D's in these cases
b. Need to inform BoD's of lawsuit to bring action

i. Vote on conflicting interest transactions (8.63), business opportunities (8.70); amend
articles (10.03); some mergers (11.04)
i. is it ok
ii. Vote on taking of bus opportunity
iii. Other extraordinary/rare actions
1. Decision of BoD to amend articles req shareholder approval
iv. Mergers
1. Shareholders must approve merger deal in order to go through
j. PLUS any extra rights for “preferred stock” (6.01)
i. Dividend and/or liquidation preference
ii. Preferred stock gives additional rights
1. Special rates, etc would be set out in articles of incorporation
2. First crack at dividends
3. Liquidation preference
a. If corp is dissolved, whatever is leftover is left to shareholders, but
preferred shareholders might get a set amount per share BEFORE
regular shareholders
II. Bylaw Provisions – Shareholders

a. 2.5 Action at Meeting [of Shareholders]
i. [A] majority of the votes entitled to be cast . . . shall constitute a quorum . . . . [I]f a
quorum . . . exists, (1) favorable action on a matter, other than the election of
directors, is taken . . . if the votes cast . . . favoring the action exceed the votes cast
opposing the action, & (2) directors shall be elected by a plurality of the votes cast.
b. 2.6 Voting and Proxies
i. [E]ach share shall have one vote on any matter to be considered at the meeting.
Shareholders may vote either in person or by proxy . . . .
c. 2.7 Action by Consent
i. Any action required or permitted to be taken at a shareholders' meeting may be
taken without a meeting if the action is taken . . . by all shareholders entitled to vote .
. . . [as] evidenced by . . . written consents . . . .
III. Galler v. Galler, 32 Ill.2d (1964)

a. Facts: 2 brothers owned a drug company. Owned it together 1919-24. In 1924 it was
incorporated business- 50-50. Sold 12 total shares to employee, sold back to only one
brother. In 1955 there was an argument that when 1 died spouse would receive salary to
support family. 1 brother died, other brother denies intent to honor agreement. Son took
control of co. Wife filed suit.
b. Issue: whether public policy requires invalidation of shareholders' agreement?
c. H&R:
i. Dealings Between Shareholders or Members of Same Corporation: Unless
agreement is part of corrupt scheme, agreements between stockholders dealing on
equal terms should be invalidated on grounds of public policy only where corrupt or
dangerous tendency clearly and unequivocally appears on face of agreement or is
necessary inference from matters expressed.
ii. For purpose of determining whether public policy requires invalidation of
shareholders' agreement, a “close corporation” is one in which stock is held in a
few hands, or in few families, and wherein it is not at all, or only rarely, dealt in by
buying or selling.
1. Where corporation was close corporation, clause of stockholders'
agreement providing for election of certain persons to specified offices for
period of years did not require invalidation.
iii. Where the agreement was not a voting trust but a straight contractual voting control
agreement which did not divorce voting rights from ownership of stock in a close
corporation, the duration of the agreement, which was interpreted as continuing so

long as one of the two majority stockholders lived, did not offend public policy and
did not render the agreement unenforceable.
IV. Share Agreement Provisions

a. Directors
i. Husbands or wives would serve as Directors (people are the SH's, and maybe other
members of the family. They will run/be directors of the corp). Court leaves this
stuff usually alone. Usual role shareholders play- electing directors. If they want to
agree to this ahead of time, courts feel confident to allow them to have the
agreement and enforce that provision
b. Officers
i. Upheld provisions in the past where persons are specified as officers for a certain
amount of time.
1. In these agreements, careful deliberation by those who created them.
2. Less of a reason to invalidate them by the court
a. Historically, courts were reluctant to enforce this ( job of directors)
ii. In close corp, where shareholders are in agreement as to who Dirt's are to be,
wouldn’t they agree on who the officers would be too?
1. Cts recognize this and took more modern approach- as long as no minority
shareholders are objecting, where's the problem? .why should it not be
enforced? ( rhetorical)
c. Annual dividends
i. Up to Director's to decide
1. Min. annual div of 50k, limited so long as annual surplus is 500k. Below that
affects dividend
a. Ct approves, min surplus protects corp, no reason to have a
problem with the annual dividend
b. Protects corp and creditors
i. With protection in place, no problem. No harm caused by
requirement
d. Salary continuation
i. Surviving spouse receives 2x annual amount paid to husband for 5 yrs. following
death
1. Court sees these agreements as a common feature of corp exec employment
2. Limit protection for tax-deductible basis for corp
a. Built-in protection for corp agreed to by both parties
3. Historically, waste of $. Both sides agreed already; A-ok!
ii. Right of first refusal if want to sell shares
1. If one bros wanted to sell shares, before selling to outsider, had to offer to
other shareholders
a. After current shareholders accept/pass, goes off to public
b. Concerned for outsiders to come in and take over corp
c. Commonly done
d. Shareholder only matter; courts have no problem with this either
e. Courts Conclusion
i. All this seems ok; no problem
ii. Closely held corp
1. These things are common ebay case shareholders are in this situation with
potential to be taken advantage of by shareholders. Protects their interests
ahead of time
f. Other factors to support enforceability
i. No apparent public injury
1. No way public could be injured by enforcement of this agreement
ii. Absence of complaining minority interest
1. No min shareholders

iii. No apparent prejudice top creditors
1. No injury to creditors either
2. Financial limitations in agreement protects creditors
iv. No clearly prohibitory statutory language is violated
1. Haven't agreed to something they're not lawfully allowed to do
V. “Freeze Out”
a. Meaning – when the majority frustrates the minority’s reasonable expectations of benefit
from their ownership of shares
b. Techniques
i. May refuse declare dividends
ii. May drain off the corporation’s earnings in the form of exorbitant salaries and
bonuses to the majority share-holder offers and perhaps to their relatives, or
iii. Deprive minority shareholders of corporate offices and of employment by the
company
iv. May cause the minority shareholders to sell out its shares at an inadequate price.
VI. Donahue – duties of shareholders in close corporations:

a. Standard: strict good faith and loyalty standard.
b. Rationale/Concern:
i. Stockholders in the corporation owe one another substantially the same fiduciary
duty in the operation of the enterprise that partners owe to one another.
ii. Stockholders in close corporations must discharge their management and
stockholder responsibilities in conformity with this strict good faith standard. They
may not act out of expediency, or self interest, in derogation of their duty of loyalty
to the other stock stockholders and the corporation.
VII. Abuse of Control:

a. Wilkes v. Springside Nursing Home, Inc. 370 Mass 842 (1976)
i. Facts: Wilkes acquired an option to purchase a building and lot and organized a
corporation and used the lot as a nursing home. At the time of incorporation it was
understood by all the parties that each would be a director of the nursing home and
each would be active in the management and decision making involved in operating
the corporation. Eventually bad blood formed between the directors and Wilkes
attempted to sell his shares. At an annual meeting Wilkes was not reelected as a
director, or reelected as an officer, and left off a list of those who were paid. Despite
the strained relationship, Wilkes continued to consistently carry out his
responsibilities in a satisfactory manner.
ii. Issue: Was there a legitimate business purpose, if any, against the practicability of a
less harmful alternative
iii. H&R: There was a freeze out with no legitimate business purpose. At a minimum,
the duty of utmost good faith and loyalty would demand that the majority consider
that their action was in disregard of a long-standing policy of the stockholders.
1. Rule: Must balance right to “selfish ownership,” against duty to the
minority shareholders.
2. Two-Prong Test:
a. Prong 1: Controlling group must show legitimate business purpose,
b. Prong 2: If it does, then minority must show same goal could have
been accomplished by alternative course of action less harmful to
minority’s interest
c. Court’s role: weigh legitimate business purpose against
practicability of less harmful alternative
iv. Aftermath of Wilkes
1. Some states have adopted the 2-prong test.
2. Some states have only followed by taking the first prong of the test.

3. Possible solutions in Galler/Wilkes scenarios
a. Buyout by the majority shareholders
b. Dissolution of the corporate assets by the shareholders
c. Dissolution by a court
b. Brodie v. Jordan, 447 Mass. 866 (2006)

i. Facts: Malden is a MA corporation that operates a machine shop. The plaintiff’s
deceased husband, Walter, was one of the founding members. Jordan was also a
director. Walter and Jordan each held 1/3 share. Walter made requests for the
company to buy his shares but they were rejected. Plaintiff asked D to perform a
valuation of the stock, but it was never made.
ii. Issue: Whether Plaintiff was entitled to the remedy of a forced buyout of shares by
the majority?
iii. H&R: No, a buyout would have put her in a better situation than she is entitled
to and she would have enjoyed a position significantly better than she would have
absent wrongdoing and would have exceeded her reasonable expectations.
1. Rule: Stockholders in a close corporation owe one another substantially the
same fiduciary duty in the operation of the enterprise that partners owe to
one another.
2. 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.”
VIII. Summary: Devices/Strategies for Control in Closely Held Corporations

a. Shareholder agreements - these are very important (some consider malpractice if as an
attorney you don’t suggest this). They typically consist of:
i. Electing directors, choosing officers, buy-out opportunity, etc.,
ii. See MBCA Sec. 7.32 – Very open ended, gives you room to agree to almost whatever
you want.
b. Special statutory provisions (where available)
i. A set of provisions that allows you to choose close corporation status allows for
management by shareholders, etc.
c. “Bail out” via court-ordered dissolution/buyout
i. Brodie case was reluctant to order a buyout.
d. Organize instead as limited liability company (LLC) under LLC statute
i. Can choose to be managed by “members” (like partnership) or “managers” (like
corporation)

Introduction to Federal Securities Law:
Securities Act of 1933
Disclosure & Fairness
I. Trading in corporate securities, such as stocks or bonds, takes place on 2 basic types of markets:
a. Primary Market – the issuer of the securities i.e. company that created the securities-sells
them to investors
b. Secondary Market – investors trade securities among themselves without any significant
participation by the original issuer.
i. Securities Exchange Act of 1934 – principally concerned with secondary market
transactions, such as insider trading, corporate insiders, and regulation of
shareholder voting.
II. Securities Act of 1933 – primarily concerned with the primary market. In drafting it Congress was
concerned with 2 goals: mandating disclosure of material information to investors & the prevention of
fraud.
a. Anti-Fraud Rule
i. Plaintiffs have an easier time when they bring a suit under securities laws than they
would if they had to bring a suit under state common law fraud rules.
b. Securities
i. Stock (aka equity securities) – represents ownership interest in corporation
common, preferred, etc.,
ii. Bonds etc. (aka “debt securities”) – represent debt owed by the corporation to the
bondholder; example: notes, bonds, and debentures.
1. Debt Securities is when the corporation borrows money from the public.
c. Basic Rule – Must register with Securities & Exchange Commission (SEC) before you can
sell any securities to the public, UNLESS you have an exemption.
i. Congress was trying to stop fraud so that the stocks wouldn’t crash again. Congress
was very concerned about fraud as well; they focused on disclosure requirements so
that people would have all the information before they invested.
d. Section 5 – Registration
i. Cannot offer to sell stock, etc. before filing a “registration statement” AND
ii. Cannot sell stock, etc. UNTIL:
1. Stock is REGISTERED* with the SEC &
a. Even though a stock is registered it doesn’t mean the SEC is saying
it’s a good investment, they are simply saying that in comparison to
other stocks that stock has fulfilled the disclosure requirements.
2. Buyer of stock received copy of the PROSPECTUS – Can’t take people’s
money until you give them a prospectus.
a. What is the prospectus? Kind of info included? Prospectus includes
key disclosure/sales document; = core of the registration
statement
i. General information about the business
ii. Information about the stock, what kind of rights an
individual will get by purchasing it.
iii. NOTE: Prospectus has conflicting purposes/goals
1. It’s a disclosure document, but it’s also a sales document, leads to tricky
issue to those who draft it, people who won’t disclosure and those who sell.
iv. *“Registered” = SEC signed off on registration statement’s compliance w/ disclosure
requirements in SEC registrations., NOT on merits/value of the stock, etc.…UNLESS
an EXEMPTION is available

e. 1933 Act – Liability
i. Common law fraud – liability for misrepresentation of a material fact vs. 1933 Act.
In common law fraud cases there was no liability for omissions.
ii. 1933 Act – liability for misrepresentation OR omission; creates:
1. Private right of action &
2. Basis for criminal prosecution
iii. Other foundations for 1933 Act liability:
1. Not registering when should have
2. Failing to deliver prospectus
III. When is a Sale Exempt from the Registration Requirement?

a. Exempted securities
i. Ex. issued by US or a state
ii. Ex. issued by a bank
b. Exempted transactions
i. Ex. not involving a “public offering”
ii. Ex. small offering of securities; $ limit; limited amount of people with limited about
of money.
iii. Ex. offering (within $ limit) of securities to “accredited investors” ( = institutions &
wealthy/ sophisticated individuals)
c. NOTE: If exempt from registration requirement, the corporation still cannot commit FRAUD.
d. Private Offering Exemption:

i. Doran v. Petroleum Management Corporation
1. Facts: Doran bought unregistered LP interest (= a security); sued for
Securities Act violation (alleging that the company had failed to register.
PMC’s defense was that it was exempt from having to register because they
had a private offering. Sec. 4(2) language: “transactions by an issuer not
involving any public offering” – this does NOT define what a private or
public offering is. The court determined that it was a small amount of
offerings, but the key focus is whether there was disclosure?
2. Issue: Was there disclosure? Did Doran have a realistic opportunity to learn
about the facts essential to making a good investment?
3. H&R: The court is not concerned with the small amount of units offered, the
relatively modest financial stakes or the offering being characterized by
personal contacts. The problematic factor is the number of offerees, there
were only 5 and Doran found out about the stock through a broker who
knew PMC, Doran did not know PMC personally himself.
a. Requirements to qualify for 4(2) -- 4 factors:
i. Number of offerees & relationship to each other & issuer
ii. Number of units offered
iii. Size of the offering
iv. Manner of the offering
b. Doesn’t matter how sophisticated an investor is, they must have
all the information a registration document would give them.
Sophistication is not a substitute for access to the information that
registration would disclose.

IV. Pros and Cons of Registration
a. Cons
i. Cost of Process - Very expensive to register, lots of filling fees
ii. Time commitment to the process - Might require the company to go back and fix
forms if SEC don’t approve it
iii. Disclosure concern (initial, ongoing)
b. Compare to the Pros: Benefits of registration

i. Distribution to wider market- Registered stocks can be sold publicly, meaning
more people and potential for high sales.
ii. Ease of sale (b/c of ease of re-sale) - Because the stocks are registered anyone can
buy it and re-sell it. If someone buys stock that was exempt from registration they
will have a very difficult time re-selling it, the exception would be that if an
individual bought stock they could re-sell if they are also exempted, safe harbor rule
144.
iii. Psychological appeal of Initial Public Offerings (IPO) - Have the feeling that you
made it. That you are selling stock in your company.
c. Other Exemptions
i. Regulation D
1. Provides a series of safe-harbors that issuers can use to come within the
private-placement exemption and avoid or reduce their required
disclosure.
ii. Safe Harbor Rule: Rule 144
1. Subject to various qualifications, the rule allows buyers to resell stock they
acquire in a Regulation D offering if they first hold it for 1 year and then
resell it in limited volumes.
V. Disclosure & Exchange Act

a. Covered corporations must register with the SEC by filing an initial Form 10.
b. The corporation thereafter must annually file a form 10-K, which contains audited financial
statements and management’s report of the previous year’s activities and usually also
incorporates the annual report sent to shareholders.
c. 10-Q must be filed for each of the 1st three quarters of the year. It must contain unaudited
financial statements and management’s report on material recent developments
d. Form 8-K must be filed within 15 days after certain important events affecting the
company’s operations or financial condition.
VI. Attorneys’ Roles

a. Where are the attorneys? Issuer, UW, SEC
b. Prepare reg. statement/prospectus (issuer/UW)
i. Under Writers’ attorneys.’ role – “due diligence” review
1. Review corp. minute books, articles & bylaws, annual & other reports, etc.
2. Interview corp. officers, etc.
3. Goal – conduct reasonable investigation re: accuracy & adequacy of
disclosure in reg. statement.
c. Prepare other deal documents
d. Prepare closing documents

SECURITIES FRAUD & INSIDER TRADING
I. Securities Exchange Act of 1934 – Congress is focused on securities transactions/matters after initial
issuance by corporation; covers:
a. Securities fraud, including insider trading
b. Periodic public disclosure requirements
i. Must be a continuing obligation to disclose information.
c. Annual, quarterly, certain events, insiders’ trades
i. Must file annual reports with SEC.
d. Takeover regulation
i. The process of how one corporation takes over another corporation.
e. Proxy regulation
i. Giving someone else authority to hold their shares at the meeting.
II. 1934 Act – Rule 10b-5’s Breadth

a. Applies to all persons.
b. Covers . . .any public or private.
i. Untrue statements of a material fact/omissions of material facts
1. Failure to tell the truth and lying.
2. To engage in any act, practice, or course of business which operates or
would operate as a fraud or deceit upon any person.
3. . . . in connection with the purchase or sale of any security
ii. Deals with any securities.

1. i.e., securities fraud in general
2. Insider trading
3. Other kinds of fraud, deceit, etc.
c. Provides a FEDERAL remedy for securities fraud.
III. Rule 10b-5: SEC v. TX Gulf Sulphur Co., 401 F.2d 833 (1969)
a. Facts: They did an exploratory dig and found valuable mineral, but they didn’t want to drive
the price of the land up so they put a gag order on all its workers. Rumors spread that the
company was going to strike a large amount of minerals. In order to calm the growing
rumors it released a statement stating that their drills were in the ordinary course of
business and it was nothing to speculate about. The court below found that two of the
defendants had violated Section 10(b), and Rule 10b-5, but otherwise the Commission's
complaint was ordered dismissed. Appeals were taken. Court of Appeals held that not only
are directors or management officers of corporation ‘insiders' within meaning of rule of
Securities and Exchange Commission, so as to be precluded from dealing in stock of
corporation, but rule is also applicable to one possessing information, though he may not be
strictly termed an ‘insider’ within meaning of Securities Exchange Act, and thus anyone in
possession of material inside information is an ‘insider’ and must either disclose it to
investing public, or, if he is disabled from disclosing it in order to protect corporate
confidence, or he chooses not to do so, must abstain from trading in or recommending
securities concerned while such inside information remains undisclosed.
i. 2 claimed Rule 10b-5 violations
1. 10b-5(1): Trading “on the basis of” material nonpublic information in
insider trading cases.
2. 10b-5(2): Duties of trust or confidence in misappropriation insider trading
cases.
b. H&R:
i. All transactions in TGS stock or calls by individuals apprised of the drilling results of
K-55-1 were made in violation of Rule 10b-5.

ii. It was the intent of Congress that all members of the investing public should be
subject to identical market risks.
iii. No inside trading! - Purpose of provision of Securities Exchange Act that it shall be
unlawful for any person, directly or indirectly, by use of any means or
instrumentality of interstate commerce, or of mails, or of any facility of any national
securities exchange, to use in connection with purchase or sale of any security any
manipulative or deceptive device in contravention of rules of Securities and
Exchange Commission was to prevent inequitable and unfair practices and to insure
fairness in securities transactions generally, whether conducted face-to-face, over
the counter or on exchanges. Securities Exchange Act of 1934, § 10(b)
c. Insider trading claim

i. Duty of “anyone” with material inside info:
ii. Test of materiality:

1. Balancing aspect of test:
iii. Application to K-55-1 discovery & related IT:

1. Material? Any thing that could affect the stock price. Anything the average
and reasonable investor would want to know about when they are
buying/selling the stock.
2. Trades violated the law? Yes.
IV. Insider Trading: Dirks v. SEC

a. What did Secrest & Dirks do, and why?
i. Secrest asked Dirks to investigate alleged fraud at Secrest’s corp., EFA, which Dirks
did; Dirks told others about his suspicions; did it to expose fraud & never traded or
benefited himself
b. What was Dirks charged with & what duty did the SEC argue he had as a “tippee”?
i. Charged with aiding & abetting Rule 10b-5 violation by repeating fraud allegations
to others who traded their EFA stock
ii. SEC said that he knew that the info was confidential and came from an insider so he
had a duty, inherited from the insider, to disclose or abstain (p. 484); he breached
his duty by tipping potential traders (p. 485); b/c the SEC thought his action brought
a fraud to light, however, he was just censured (p. 484)
c. What did Chiarella say about the basis for 10b-5 liability & the disclosure duty?
i. To show a Rule 10b-5 violation, must show:
1. Relationship giving access to info only for corp. purposes and
2. Unfairness of allowing insider to use info for trading w/o disclosure (p.
484)
3. The duty, it does not exist where the person who traded was not the
corporate agent, was not a fiduciary, & was not someone in whom the
sellers of securities had placed their trust & confidence (p. 485)
ii. Chiarella – there must be a fiduciary duty that has been breached for a 10b-5
violation.
1. C was charged with insider trading.
2. First time SEC went after someone on criminal prosecutions.
3. At the Supreme Court, the question is whether Dirks was properly indicted?
The Court says no, that he didn’t violate Rule 10b-5
d. BUT it was UNCLEAR how all of this applied to TIPPEES, who, unlike insiders, usually have
NO relationships/duties re: corp. and its SHs, SO it was unclear how a tippee inherits an
abstain or disclose duty (p. 485)

e. When does a tippee have a duty to disclose or abstain?
i. NOT just b/c the tippee has knowingly received nonpublic material info from an
insider
ii. only inherit duty if info was made available to them IMPPOPERLY, i.e., in breach of
insider’s duty (p. 487)
iii. WHEN IS THE INFO MADE AVAILABLE IMPROPERLY? (p. 488)
1. When the insider will benefit, directly or indirectly, from the disclosure
2. SO if insider received no personal gain, then giving the tip did not breach a
duty to SHs, so there’s no derivative breach
f. Application to Dirks? Result?

i. Dirks was a stranger to EFA (so no personal duty to SHs, etc. – p. 488) & did not
illegally obtain the info, so he had no duty unless Secrist breached a duty in tipping
him, which he did not – no personal benefit or purpose of giving gift, etc.
ii. Dirks therefore had no duty to SHs that was breached
V. U.S. v. O’Hagan
a. Even if you were not breaching a duty as an insider, if you can be seen as misappropriating
information that can be the basis of a 10b-5 violation.
b. O’Hagan was a partner in a firm, the firm was retained to tender an offer to take over
another company. Early on O’Hagan he bought a lot of stock and options to stock, he owned
more than any other individual investor, over the company that was buying over. He ended
up making a large sum of profit by taking advantage of the advance notice of the take over.
c. Basic question – Does federal insider trading law reach beyond the “classical” form of insider
trading?
i. Distinguish:
1. corporate insiders (including temporary) - Classic kind if someone is a
corporate insider and they trade in their own stock, which breaches their
fiduciary duty. Temporary insiders also have an obligation not to inside
trade.
vs.
2. outsiders
d. Def.’s actions re: “material” inside info:
i. He’s misappropriating information from his client. Him and his client received
information from a client that was buying over another company, but then he took
that information, deceptively, and for his own purposes and profit and bought
stocks. The Court finds that he misappropriated the information.
e. Traditional/Classical Insider Theory

i. Content of Duty? – to refrain or disclose information
ii. Source of Duty? – source is that you have a relationship of trust and confidence with
that corporation, which gives rise to a duty to abstain from disclosing.
iii. Duty owed to whom? It’s owed to the corporation, and shareholders of the
corporation.
f. Misappropriation Theory
i. Content of Duty? Making use of the information for your own purposes. If you want
to do something with that information then you need to ask/inform that you would
use that information to trade/by stock.
ii. Source of Duty? It’s the relationship you have with the source, the relationship of
loyalty and confidentiality.
iii. Duty Owed to Whom?

g. Court’s view of misappropriation theory: Look at 1934 Act, Sec. 10(b)
i. “Deceptive device”? – fraudulent conduct
ii. “In connection w/ purchase/sale of a security”? - Yes, he ultimately went
h. Rule 14e-3(a); if they can’t get the person under a 10b-5 violation, the SEC can try under
Rule 14e-3(a). Anyone who has information that is not public and takes substantial step(s)
to commerce, commenced or tenders an offer will have committed a fraudulent, deceptive or
manipulative act or practice.
VI. Summary: Insider Trading – Scope of Rule 10b-5

a. Corporate insiders: violate 10b-5 by if trade in corp.’s stock on basis of confidential info
b/c owe fiduciary duty to corp. & its SHs
i. “Permanent” insiders: directors/officers
ii. “Temporary” insiders/fiduciaries: attys., etc.
b. Corporate outsiders: violate 10b-5 if make use of tip improperly given by insider
(Dirks) OR misappropriate and trade on confidential info in breach of duty of trust or
confidence owed to the source of the info (O’Hagan)
i. Rule 10b-5 DOES NOT REACH other “outsiders” w/ no inherited duty, duty of trust
& confidence, etc.
1. ex. Barry Switzer case; eavesdropper – q. 2 489, Switzer
a. Not liable
b. Dirks: “there is no general duty to disclose before trading on
material nonpublic information”; duty to disclose arises from “the
existence of a fiduciary relationship” (p. 484)
ii. Compare general “outsiders”:

1. Chiarella (1980)
a. Defendant (corp. “outsider”) relied on non-public info to trade BUT
defendant was not a corporate “insider” – NOT LIABLE under Rule
10b-5 because there was no “duty of trust and confidence” between
Chiarella and the SHs of the corps. whose shares he traded
VII. Policy & Penalties

a. Why prohibit insider trading? Why not just treat IT profits as a “perk” for corporate
insiders?
i. Property rights
1. If someone is inside trading, they are using trading on someone else’s
property rights. This is a violation of that person’s property rights.
ii. Fairness
1. People who have access to the info and trade on it have an affect on the
stock market. It’s an unfair advantage.
iii. Market confidence
1. If others in the market feel that there are people involved in insider trading
they won’t want to risk putting their money and investments in the market.
iv. Perverse incentives
1. If people know they can take advantage of the market they might withhold
information so that they can have an upper hand. They will recognize that
corporate officers are in a position that they can make money if they take
part in insider trading.
b. Available penalties: criminal prosecution (willful violations), civil penalties (including treble
damages), liability to contemporaneous traders, disgorgement of profits, etc.; informant
bounties

VIII. Insider Trading & Attorneys
a. Can be corp. “insiders” as to corp. whose material non-public info they have access to:
i. “Permanent” (ex. Directors/officer of a corp.) or
ii. “Temporary” insiders/fiduciaries (such as attorneys doing some legal work for
corp.)
iii. Corporate insiders violate 10b-5 by trading in corp.’s stock on basis of confidential
info b/c owe fiduciary duty to corp. & its SHs
b. Can be corp. “outsiders” but STILL may be prohibited from trading on inside info
-- ex. O’Hagan (misappropriation theory)
i. Corporate outsiders: violate 10b-5 by trading when inherited duty from tipper or
by misappropriating confidential info for trading purposes in breach of duty of trust
or confidence owed to the source of the info
1. ex. attorney uses info received from law firm client to trade in the stock of
another corporation
c. Example of yielding to temptation: what NOT to do during your first month at a Wall Street
firm – the Craig Spradling story . . .

THE LIMITED LIABILITY COMPANY (LLC)
I. Limited Liability Company (“LLC”) Basics

a. What is it?
i. It’s an alternative form of business organization that combines certain features of
the corporate form with others more closely resembling general partnerships.
ii. LLC investors are called members.
iii. Like a traditional corporation, the LLC provides a liability shield for its members,
while allowing for more flexibility than the corporation in developing rules for
management and control.
b. Advantageous Tax Treatment

i. The LLC offers advantageous tax treatment, in comparison to a corporation.
ii. Investors in an LLC are taxed, like partners, only once on its profit
1. Can elect pass-through tax treatment (like partnership or “S corp.”): =
owners alone pay tax on entity’s income
iii. Versus a corporation, which is like a double tax because shareholders pays tax on its
profits earned and then pay a second tax when those profits are distributed to them.
1. Double taxation (= usual “C corp.” taxation) – entity pays tax on its income
& owners also pay tax when they get some of it (ex. dividends)
c. Compare with a Limited Liability Partnership (LLP):

i. Most LLP statutes provide limited liability only for partnership debts arising from
negligence and similar misconduct (other than misconduct of which a partner is
directly responsible for), but not for contractual obligations. This is a narrow
shield.
ii. A few provide protections for both contract and tort claims/liabilities – this is a
broad shield.
II. Formation
a. Formation of an LLC, like formation of a corporation, requires some paperwork and filings
with a state agency.
b. Distinct entity
i. S. 201 of Uniform Limited Liability Company Act (ULLCA)
1. A LLC is a legal entity distinct from its members.
ii. like corp. (and partnership under 1997 UPA)
c. Participants = member(s) (and managers)

i. The default is for an LLC to be managed by members. If you want otherwise, it has to
be stated.
d. Organization s. 202
i. One or more members may organize an LLC.
e. Content of Articles (203):

i. An LLC must have articles of organizations similar to that of a corporation. It
must set forth
1. Name of the company
2. Address
3. Name & address of initial agent for service of process
4. Name & address of each organization
5. Whether company is to be term company
6. Whether company is to be manager-managed (default for LLC is that it’s
member managed).

ii. Comply with LLC name requirements, i.e., must contain “limited liability company,”
“limited company,” “LLC,” “LC” (s. 105)
f. Members MAY decide to enter an operating agreement (103)

i. An operating agreement is a mix of corporate by-laws and a partnership agreement.
ii. It provides the maximum flexibility in creating a business structure tailored to the
members’ particular needs and desires.
III. Relation of Managers & Members (& Therefore the LLC) to Third Parties
a. The LLC may be managed by all its members (as in a partnership) or by managers, who may
or may not be members (as in a corporation).
b. Agency/authority – Who are the agents?

i. Participants -- either members or managers
ii. In member-managed LLC (301(a)) -- like partnership
iii. In manager-managed LLC (301(b)) -- like corp.
c. S. 302 LLC liability for third party losses for wrongful acts or omissions, etc. like UPA
i. An LLC is liable for loss/injury caused to a person as result of a wrongful act or
omission of a member or manager acting in the ordinary course of business of the
company or with authority of the company.
d. S. 303 Limited liability– like corp.

i. Note no “piercing” for failure to observe formalities, etc.
ii. A manager or member is not liable for a debt, obligation or liability of the company
solely by reason of being or acting as a member or manager.
IV. Water, Waste & Land (“Westec”) v. Lanham, 955 P.2d 997 (199)
a. Facts: Third party brought suit against agents for limited liability company (LLC), and LLC
for amount due on contract for engineering services. Lanham & Clark were both members/
managers of Preferred Income Investors, L.L.C (PII LLC). Clark contacted Westec about
having some work done. Clark gave the Westec rep a business card that read, “P.I.I.” (w/o
“LLC”) and had Lanham’s address, the card had no indication of LLC or what PII stood for.
Westec proceeded to do the work on Clark’s instruction and later billed Lanham. County
court entered judgment in favor of Westec, finding that Clark was an agent of Lanham and
the company, there was a valid/binding K, Westec didn’t know of a business entity. District
Court reversed relying in part on the notice provision of the LLC Act, which provides that the
filing of the articles of organization serve as constructive notice of a company’s status as a
LLC.
b. Issue: Is Lanham liable under agency law, or not b/c of LLC stat. notice provision?
c. Court:
i. Applicable legal principles:
1. Common law of agency an agent is liable on a contract entered on behalf of
a principal if the principal is not fully disclosed. An agent who negotiates a
contract with a 3rd party can be sued for any breach of the contract unless
the agent discloses both the fact that he or she is acting on behalf of a
principal and the identity of the principal.
2. Altered by statute? Statutory notice provision applies only where a 3rd
party seeks to impose liability on an LLC’s members or managers simply
due to their status as members or managers of the LLC. The LLC Act’s notice
provision was not intended to alter the partially disclosed principal
doctrine.

ii. Outcome: Ct--notice provision does not trump common law agency rule-
partially disclosed principal (agent is party to a contract and liable where
existence of principal is known but not his identity).
iii. Rules:
1. Agent who negotiates contract with third party can be sued for any breach
of contract unless agent discloses both fact that he or she is acting on behalf
of principal and identity of principal.
2. Duty to disclose identity as well as existence of principal lies with agent.
a. The legislature did not intend the notice language to relieve the
agent of a LLC of the duty to disclosure its identity in order to avoid
personal liability.
3. Agent is liable on contracts negotiated on behalf of “partially disclosed”
principal; that is, principal whose existence-but not identity-is known to
other party.
4.
d. SO what must members do to avoid liability?
V. Management Rights - Management (404) & Distributions (405)

a. In member-managed LLC 404(a):
i. Each member has equal right to manage and conduct the company’s business
ii. Except for 404(c) most matters may be decided by a majority vote
b. In manager-managed LLC 404(b):

i. Each member has equal right to manage and conduct the company’s business
ii. Any matter relating to the business of the company may be exclusively decided by
the manager or if there is more than one manager then a majority.
iii. Selected by members
c. Matters requiring unanimous member vote 404(c):
i. Amendment of the operating agreement
ii. Authorization of acts or transactions that would violate the duty of loyalty.
iii. An amendment to the articles of organization
iv. Compromise of an obligation to make a contribution under s.402(b)
v. Admission of new member
vi. Consent to dissolve company
vii. Consent to merge companies
viii. And more…
d. Distributions – equal shares 405(a)
i. Any distributions made by a LLC before its dissolution and winding up must be in
equal shares.
VI. Piercing the LLC Veil (?)

a. Limited liability s. 303
i. (a): Basic rule
1. A manager or member is not liable for a debt, obligation or liability of the
company solely by reason of being or acting as a member or manager.
ii. (b): “Piercing” for failure to observe formalities
1. The failure to observe usual company formalities or requirements relating
to the exercise of its company powers or management of its business is not
a ground for imposing personal liability on the members or managers for
liabilities of the company.
iii. (c): exception allowing for member liability
1. Members can be liable for specified debts, obligations if
a. (1) a provision to that effect is contained in the articles
b. (2) the member has consented in writing to the adoption of the
provision or to be bound by it.

b. Kaycee L. and L. v. Flahive
i. Facts: Flahive is a LLC with no assets. Kaycee entered into a contract with Flahive
allowing Flahive to use the surface of its real property. P alleges damages to the land
and seeks damages, seeking to pierce the LLC veil and hold D personally liable. This
was sent as a certified question of law to the MN Supreme Court. The Ds argue that
the legislature did not intend for LLCs members to be personally held liable. Court
doesn’t buy it.
ii. Issue: Could piercing doctrine apply to all LLC’s?
iii. H&R:
1. Every state that has enacted LLC piercing legislation has chosen to follow
corporate law standards and not develop a separate LLC standard.
2. There is no reason to treat LLCs differently than corporations. If the
members and officers of an LLC fail to treat it as a separate entity as
contemplated by statute, they should not enjoy immunity from individual
liability for the LLC’s acts that cause damage to 3rd parties.
3. Keep in mind that LLCs are designed to be more flexible than corporations
s. 303(b)
VII. General Standards of Member’s and Manager’s Conduct

a. 409(b) Duty of Loyalty
i. To account and to hold as trustee for it any property, profit or benefit derived by the
member
ii. Refrain from interests adverse to the company
iii. Refrain from competing with the company
b. 409 (c) Duty of Care

i. Refraining from engaging in grossly negligent or reckless conduct, intentional
misconduct or a knowing violation of law.
c. 409 (d) Good faith & fair dealing

i. Shall discharge duties and exercise any rights with good faith and fair dealing.
d. Manager-managed 409(h)
i. Members who are not managers owe NO DUTIES to the company or to other
members.
ii. Managers: are held to the same standard of conduct as for above
VIII. Fiduciary Obligation

a. McConnell v. Hunt
i. Facts: Member of LLC formed for purpose of investing in and operating professional
hockey franchise, who had created separate corporation which competed with
company and obtained expansion franchise, brought declaratory judgment action
along with second member against company and its other members. The Court of
Common Pleas granted declaratory judgment that plaintiffs had not violated any
fiduciary duties or committed any other tortious conduct, dissolved limited liability
company, and awarded attorney fees to plaintiffs. Appeal was taken, and the Court
of Appeals, held that:
1. (1) operating agreement expressly allowed plaintiffs to compete with
company in seeking franchise;
2. (2) plaintiffs were properly granted leave to amend complaint;
3. (3) plaintiffs could properly seek declaratory judgment that they had not
violated any fiduciary duties;
4. (4) no fiduciary duties were breached during competition for franchise;
5. (5) company was properly dissolved after plaintiffs obtained expansion
franchise and company's reason for existence was eliminated; and

6. (6) award of attorney fees to plaintiffs was an abuse of discretion.
ii. H&R:
1. Affirmed.
2. Operating agreement of limited liability company formed for purpose of
investing in and operating professional hockey franchise, which expressly
provided that members of company were not prohibited from or restricted
in engaging or owning an interest in “any other business venture of any
nature,” including any venture which might be competitive with business of
company, allowed members of company to compete against company in
seeking award of expansion hockey franchise; word “other” simply meant a
business venture other than company, and did not limit type of business
venture in which members could engage.
3. Member of limited liability company formed for purposes of investing in
and operating professional hockey franchise did not breach company's
operating agreement, which allowed members of company to compete
against company in seeking award of expansion hockey franchise, when he
formed separate corporation for sole purpose of competing directly with
company's application for expansion franchise without first obtaining vote
of all members of company; because member's acts were not taken on
behalf of company, operating agreement's approval requirements were not
implicated.
b. Key factor: terms of Operating Agreement
IX. Distributional Interests, Dissociation

a. Member’s Distribution Interest (501 etc.)
i. (a) a member not co-owner of LLC property and has no transferable interest in,
property of LLC
ii. (b) a distributional interest in a LLC is personal property and subject to sections 502
and 503, may be transferred in whole or in part.
iii. (c) an operating agreement may provide that a distributional interest may be
evidenced by a certificate of the interest issued by the LLC and subject of 503, may
also provide for the transfer of any interest represented by the certificate.
b. Member’s Dissociation (601 etc.)

i. A member is dissociated from a LLC upon these trigger events
1. Member wishes to withdraw
2. Event agreed in the operating agreement causes dissociation
3. Transfer for distributional interest
c. Member’s Power to Dissociate; Wrongful Dissociation s. 602

i. A member has the power to dissociate from a LLC at any time, rightfully or
wrongfully.
ii. Wrongful if…
1. Breach of an express provision of the agreement
2. Before expiration of the term of the company
3. Member withdraws by express will
4. Member is expelled
5. Member is dissociated by becoming a debtor in bankruptcy.
d. Effect of Member’s Dissociation s. 603

i. Depends on whether at will or term LLC (and if term, whether LLC will wind up &
dissolve or not – 603)


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Introduction to Business Organizations and Agency Law

b. Contractual (Consent Based) Liability of Principal to 3rd parties in Contract

Business Organizations Outline - Spring 2011 1

2. Implied Actual Authority (Incidental – IAA)

Business Organizations Outline - Spring 2011 2

iii. Inherent Agency Power (IAP – aka inherent authority)

3. Potential Breadth of IAP: Principle is liable on a contract made by the agent,

4. Basic Theory of IAP:

5. Watteau v. Fenwick, 1893 1 Queen’s Bench 346 (1892)

Business Organizations Outline - Spring 2011 3

ii. Hoddeson v. Koos Bros, 47 NJ Super 224 (App. Div. 1957)

e. Tort Liability of Principal to 3rd parties:

Business Organizations Outline - Spring 2011 4

2. Agent-Independent Contractor agrees to act on behalf of another (principal)

3. Non-Agent Independent Contractor – operates independently and simply

ii. Scope of Employment

e. Example 1: Delivery Man Case

f. Example 2: Road Rage Case

Business Organizations Outline - Spring 2011 5

2. Restatement 228(2) - Conduct is NOT within the scope of employment

3. Restatement 229 – Kind of Conduct within Scope

iii. Franchising – Agency or not?

f. Tort Liability & Apparent Agency

Business Organizations Outline - Spring 2011 6

ii. Manning v. Grimsley, 643 F.2d 20

V. Agents’ Fiduciary Obligations

Business Organizations Outline - Spring 2011 7

f. General Auto Manufacturing Co. v. Singer, 19 Wis. 528 (1963)

VI. Duties During & After Termination of Agency

Business Organizations Outline - Spring 2011 8

b. Uniform Partnership Act (1914)

ii. S. 7 Rules for Determining the Existence of a Partnership

c. Forming the Partnership

Business Organizations Outline - Spring 2011 9

e. Partners Compared with Employees

f. Partners Compared with Lenders

Business Organizations Outline - Spring 2011 10

ii. Young v. Jones, 816 F.Supp.1070 (D.S.C. 1992)

iv. Partnership By Estoppel

Business Organizations Outline - Spring 2011 11

b. Meinhard v. Salmon , 249 N.Y. 458 (1928)

II. Grabbing & Leaving

Business Organizations Outline - Spring 2011 12

b. Planning – What should the Partnership Agreement Say?

Business Organizations Outline - Spring 2011 13

ii. Compare UPA § 25 with UPA § 502 Transferable Interest in Partnership

b. Interest in the partnership

ii. Assignment of Partner's Interest - section 27

2. § 27 (1) A conveyance by a partner of his interest in the partnership does not of

Business Organizations Outline - Spring 2011 14

4. Compare UPA § 27 with UPA § 503 Transfer of Partner’s Transferable

b. (b) A transferee of a partner's transferable interest in the partnership

c. (c) In a dissolution and winding up, a transferee is entitled to an

iii. Putnam v. Shoaf, 620 S.W.2d 510 (1981)

Business Organizations Outline - Spring 2011 15

2. § 28. Partner's Interest Subject to Charging Order.

b. (2) The interest charged may be redeemed at any time before

v. Compare UPA § 28 with UPA § 504 Transferable Interest

b. (b) A charging order constitutes a lien on the judgment debtor's