BUSINESS ORGANIZATIONS MIDTERM EXAM Professor Gregory ... · PDF fileBUSINESS ORGANIZATIONS...

BUSINESS ORGANIZATIONS MIDTERM EXAM

Professor Gregory Kelly Fall Semester, 2010

EXAM INSTRUCTIONS

This is a three hour exam. There are three essay questions to be answered. Each essay question is equally weighted. This midterm exam counts for one-third (1/3) of your grade for the course. The final exam grade to be given at the end of the second semester will count for two-thirds (2/3) of your grade for the course.

Your essay answers should demonstrate your ability to analyze the facts in the question, to tell the difference between material facts and immaterial facts, and to discern the points of law and facts upon which the case turns. Your answers should show that you know and understand the pertinent principles and theories of law, their qualifications and limitations, and their relationships to each other.

Your answers should evidence your ability to apply the law to the given facts and to reason in a logical, lawyer-like manner from the premises you adopt to a sound conclusion. Do not merely show that you remember legal principles. Instead, try to demonstrate your proficiency in using and applying them.

If your answers contain only a statement of your conclusions, you will receive little credit. State fully the reasons that support your conclusions, and discuss all points thoroughly.

Your answers should be complete, but you should not volunteer information or discuss legal doctrines which are not pertinent to the solution of the problem.

BUSINESS ORGANIZATIONS MID TERM EXAM Fall Semester, 2010

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ESSAY QUESTION NO. 1

Discount, Inc. is a properly formed and privately held corporation which specializes in the online delivery of coupons for major retail stores. The corporation's board consists of 7 members and has only one class of stock with 1 million shares held by investors and another 200,000 shares held in treasury by the corporation.

In late August, the CEO of Find, Inc., a properly formed and publicly traded corporation which specializes in online search results, contacted Discount's CEO to express Find's interest in Discount and offer to purchase all of its shares for $3 5 per share.

On October 10111 at 10:30 am, Discount's board held a special meeting at its corporate headquarters to consider the purchase offer. The meeting was properly noticed and all members attended in person without objection. The corporations independent financial consultants gave a 20 minute presentation to the Board in which they presented their valuation ofthe corporation and explained the methodology used to arrive at a value of $3 3 per share. The consultant's provided a one page written summary to each of the directors and opined the Discount's offer was "very reasonable" for the present economy.

Immediately following the consultant's presentation, the Board discussed Find's offer and the consultant's valuation. Two directors took issue with the methodology and valuation performed by the consultants. These directors believe that the consultant's failed to take into account the imminent closure of a deal to provide coupon delivery services for Retail. com, the largest retailer in the northern hemisphere. These directors also expressed frustration with the board's quickness to recommend the sale and charged that the remaining five directors, who each own 20,000 shares of Discount's stock, were just trying to cash out. Ultimately, the board voted 5 to 2 in favor of recommending that the shareholders accept Find's offer. The meeting ended at 11:30 am.

On November 2, Discount's board noticed a special shareholder meeting. The shareholders were told of the time, date, place and purpose of the meeting. In particular, the shareholders were told ofFind's $35 per share offer and the consultant's valuation of$33 per share. Voting was to take place in person at or by returning a proxy by mail to its corporate headquarters no later than November 30. The shareholders were also told that a copy of the consultant's valuation summary would be made available for inspection at its headquarters. The concerns of the dissenting board members were not communicated to the shareholders.

Eighty-seven percent (87%) ofDiscount, Inc.'s shareholders, excluding the members of the board, voted to accept the Find, Inc.'s offer. Discount, Inc.'s by-laws require an affirmative vote of eighty-five percent (85%) of all shares to approve a sale of the company.

Shar has owned twenty shares of Discount stock since the day it was formed and seeks to invalidate the transaction.

(1) Discuss whether the members of the board have breached their fiduciary duties. (2) Can Shar bring an action to successfully invalidate the transaction? Discuss why or why not.

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C:(J ,_J'

1)

1. Did the Board breach their fiduciary duty?

The board of directors ("Board") of a corporation is responsible for setting the policy

and direction of the company in accordance with the Articles of Incorporation and by

laws. They are elected by the shareholders, who are the owners of the corporation,

and can be removed by the shareholders for cause (some states also allow removal

without cause). They act through voting at Board meetings. Regular Board meetings

are set in the by-laws and do not require additional notice. Special meetings do require

notice--the facts here state that the meeting in question was a properly noticed special

meeting. In order to establish quorum a majority of the Board, including vacant seats,

must be present. Here, the facts state that all 7 Board members were physically

present. Once quorum is established, a proposed action requires a majority vote of

those Board members present. Here, 5 out of the 7 present Board members voted to

approve the sale of Discount, Inc. stock to Find, Inc. at $35 per share. It would appear

that a proper Board vote occurred. Because the technical requirements for passage

have been met, we must next examine whether or not any breach of duty occurred.

Directors have two primary fiduciary duties: the duty of care, and the duty of loyalty.

The duty of care requires that Directors: 1) act with that degree of care and skill which

would be exercised by a reasonably prudent person in the same or similar

circumstances; and 2) act with the utmost good faith in carrying out the interests of the

company. Here, it could be argued that the Board breached their duty of care for a

variety of reasons. First, the argument could be made that the Board did not act with

the degree of care and skill required because they appear to have rushed to a decision

without consideration of all the facts/information. Second, an accusation has been

raised by two of the Board members that the other five members were moving quickly

on the proposal in order to cash out their own shares. And third, it appears that the

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(Question 1 continued)

Board intentionally withheld pertinent information from the shareholders when putting

forward the proposal for shareholder approval.

As a defense to an accusation of a breach of the duty of care, the Board may invoke

the business judment rule ("BJR"). BJR requires: 1) Board/director action; 2) a fully

informed decision; 3) which is not self-interested; and 4) which there is a reasonable

good faith belief that the action is in the best interests of the company. Here, the Board

acted by voting to approve Find, Inc.'s offer of buy out and subsequently submitting the

proposal to the shareholders for approval. However, the remaining requirements for

BJR are extremely arguable. The Board's action was based entirely upon a report from

a consultant (who admittedly was independent) in a single 20-minute long presentation.

The consultant apparently (or at least, allegedly) failed to take into account the iminent

closure of a deal to provide coupon delivery services for Retail.com, the largest retailer

in the northern hemisphere. This oversight was brought to the Board's attention, and

certainly would have an impact on the valuation of Discount, Inc.'s stock. This would

likely indicate that the Board did not reach its decision based on full information of

pertinent facts and information, but instead relied on a single source of information

which they had reason to believe was incomplete. Additionally, the 5 approving Board

members each hold 20,000 shares of Discount stock. Since a quick sale of stock at

$35 per share (an increase of $2 over the then current valuation of the stock's worth)

would result in a fast profit for those Board members, thus would likely be considered a

self-interest in the transaction. While the self-interest was known (disclosed) to the

Board, a majority of the disinterested Board members did not approve the action (since

the 2 remaining disinterest Board members were presumably the 2 "no" votes), nor was

this self-interest in the transaction disclosed to the shareholders for their approval.

Finally, it could be argued that the Board's action was. not a reasonable good faith belief

that the action was in the best interests of the company. While it is true that Find, Inc.'s

offer exceeded the then current value of the stocks according to the consultant's report,

it did not take into account the imminent closure of the deal with Retail. com.

Additionally, the Board apparently did not take into consideration the ramifications of a

complete buyout by another corporation, how it would affect the business model/plans

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or future of the business in general; they did not take into account the goals and

expectations of the shareholders. Additionally, since they subsequently withheld

pertinent information from the shareholders (the concerns of the idssenting board

members, the imminent closure of the deal with Retail. com, or their own self-interest in

the transaction), it likely would be viewed as action taken more for their own benefit that

the interests of the corporation as a whole.

It is therefore likely that the BJR would fail as a defense and the Board would be found

in breach of their duty of care.

The duty of loyalty requires that Directors: 1) act in good faith; 2) disclose any self

interest; and 3) not take a corporate opportunity. As stated above, the Board's self

interest (ownership of shares) was known (disclosed) to the other Board members.

Whether or not a corporate opportunity is taken is determined by a variety of test. The

line of business test requires that the opportunity be in the same type of business in

which the company opperates, that the company have the financial ability to accept the

opportunity, and that company be given the opportunity to decline. The All test

requires that a Director disclose the opportunity and wait until the opportunity is

declined by the company before acting on it him/herself. Since the opportunity in

question is a full buy out of Discount, Inc., neither test would result in a breach of the

duty not to take a corporate opportunity. However, for the same reasons stated above

under duty of care, it is likely that the Board would be found to have breached their duty

to act in good faith under their duty of loyalty.

2. Can Shar invalidate the transaction?

Shareholders are the owners of the corporation, though they do not participate in the

management or control of the company. They elect the Board of Directors and act

through shareholder meetings. Where a minority shareholder's interests are unfairly

hindered by the majority, the minority shareholder may take certain actions. Here, Shar

likely would be seeking to invalidate the transaction based on the Board's breach of

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their duty of care and duty of loyalty, as well as the fact that the shareholder vote

approving the transaction was not based on all pertinent facts.

Shar would be filing a dirivitive shareholder suit, where the shareholder seeks to

force action by the company. Since Shar was a shareholder at the time of the action,

she would have the proper standing. Fundmental changes to the corporation such as

approval of a corporate buy-out (as well as changes to the Articles of Incorporation,

and/or disposal of all or a substantial portion of the company assets other than through

the normal course of business) require not only a majority vote of the Board of Directors

but also a majority vote of the shareholders. Here, the by-laws of Discount, Inc. require

an 85% affirmative vote of all shares in order to approve sale of the company. The

facts state that 87% of Discount, Inc.'s shareholders, excluding the members of the

Board (who apparently collectively hold 100,000 shares) approved the proposal to

accept Find, Inc.'s offer. This would appear to mean that 783,000 of the 900,000 voting

shares approved the measure. Since the by-laws require an affirmative vote of 85% of

all shares, it would appear that approval by the shareholders was not properly met

(783,000 of the 1 million outstanding= 78.3%).

Shar would also argue that since the shareholders were not informed of the dissenting

Board members' concerns and the imminent closure of a deal with Retail.com, the vote

was improperly obtained. Additionally, shareholder meetings require notice. The

amount of notice required depends upon the applicable statutes in the state of

incorporation, but typically require no less than 30 days. While this number can be

changed in the by-laws or Articles, no facts indicate such. The shareholder meeting in

question provided only 28 days notice, and therefore likely would be considered

improper notice, thus invalidating the vote.

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ESSAY QUESTION NO. 2

Two years ago, Abe started restoring antique cars under the business name "Restoration Associates." Shortly after, Abe met Bill, who shared Abe's passion for automobiles, and asked Bill to work with him at Restoration Associates. Over drinks at a local bar, the two reminisced over cars, jobs and friends they had and lost over the years. By night's end, the two devised a plan on the back of a napkin and set off the make a name in the world of car restoration.

According to the plan, Abe would provide the bulk of the financing, $300,000 and provide services as general manager and handle the mechanical and metal work. Bill would contribute $100,000 and would handle paint and interiors. Both would cover the front desk, phones, ordering parts and other clerical work.

Bill needed a small but steady paycheck and entered into an employment contract with Restoration Associates that provided him $20,000 per year. After the first year, Restoration Associates had a $40,000 profit. Abe took $30,000 and gave Bill a bonus of$10,000.

In May this year, when Terry Smith was looking to have his 1963 Aston Martin DBS restored, he went down to Restoration Associates to get an estimate. Bill happened to be at the front desk when Terry arrived and handled the estimate. Pleased with the estimate, Terry agreed to use Restoration Associates and Bill prepared the restoration services contract.

Over the next six months, Abe and Bill worked diligently to restore Terry's car. Bill made a habit of calling Terry every other week to give him an update on the progress ofthe restoration. Yesterday the final touches were being made on the car and Bill was to call Terry to arrange for delivery and final payment. But, Bill caught the flu and did not come to work so Abe made the call. As soon as Terry said "Hello, this is Terry" a chill ran down Abe's spine. Abe and Terry once were friends but had a falling out several years ago over a job Abe did for Terry and each vowed never to speak to the other again.

Terry was furious. He demanded the return of his car immediately and refused to pay Abe. Had he known Abe was working on his car he would never have brought it to Restoration Associates.

Abe was furious and immediately called Bill and told him "I can't believe you betrayed me! You're fired!" Terry has not paid his $37,250 bill.

(1) Discuss the legal nature of Restoration Associates and the relationship between Abe and Bill prior to Bill's telephone conversation with Terry yesterday.

(2) Discuss whether Abe's statements to Bill yesterday have altered the relationship between Abe and Bill, or the legal status of Restoration Associates.

(3) In terms of agency law, is Terry bound to the restoration contract? Discuss why or why not.

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2)

1) Before the phone call to Bill

Partnership

Before the phone call from Abe to Bill, the two men may have been in a partnership

together. A partnership is two or more people who co-own a business for profit. There are no

formalities required to form a partnerhsip, and a partnership may be formed through the

conduct of the parties. Under UP A's aggragate theory the partners are jointly and severably

liable for contracts, and severably liable for torts. Under RUPA's entity theory, partners are

jointly and severably liable for both contracts and torts as long as partnership assets are

exhaused priro to coming after personal assets. Partners have unlimited personal liability.

No no facts indcate that there was an express agreement to form a partnership between

Abe and Bill. However, a partnership may be formed through conduct by looking at whether ,.....---------,.-~___,.-.-.,-..

there was an agreement to share profits, liabilities, management, and to advance the bottom --line.

Here the facts indicate that Bill and A be ended up receiving the same amount of money

apiece after the first year (30,000 apiece.) This indicates that they ag_rE3~d!o share profits.

However, this may have only been incidental to the fact that there was 40,000 dollars of profit

that year. The partners may have intended for Abe to make more than Bill because Bill was

given a salary of 20,000 per year. In a year where more profit was made, Bill very well may not

have shared in the increase in income and may have been stuck with a regular salary.

No facts indicate an agreement to sh~r.E3 liabilities bewteeen Bill and Abe. However, the

fact that Abe contribed three times the capital than Bill may indicate that he may be subject to

more of a loss in the event that Restoration Associates is sued. This may indicate that Bill and

Abe indended for Abe to be more resonable than Bill for liabilities.

Partners have equal rights to management as well. The facts state that Abe was the

companies "general manager." This indicates that Abe and not Bill had management and

control over the business. Partnerships may have a general manager, however, the fact that Bill

does clerical work and physical labor only indicates that he may have not been intended to have

Page 1 of 5


any interest in management. The fact that one partner contributed more than the other does not

affect their rights to equal management. Therefore, the fact that Bill contributed less than Abe

would not have affected his management rights. However, the fat that Bill and Abe formed a

"plan" together indicates that they may have actually been equal in managing the company; if

only Abe was the manager, he would not have wanted Bills input in the bar when the plan was

made. The name of the business "Associates" indicates that there may have been an areement

to share management.

The fact that there was a plan to "make a name in the world" indicates that both men

wanted to advance the bottom line of the company; a fact that favors the finding of a

partnership. Making a name in the world implies making lots of money and increasing the

company's value.

There was not likely a partnership formed.

Agency

There may have also been an agency relationship between Abe and Bill. Agency is a

fiduciary relationship where a principal and an agent manifest asset that the agent is to act on

behalf of the principal and under the principal's control.

Many of the same factors that indicate Bill and Abe did not form a partnership indicate

that there was an agency relationship between the two men. The fact that Bill took a salary

indicates that he had a smaller interest in Restoration Associates, and that Abe (as the

principal) was to receive all the profits. Agents typically do not make more than a principal.

Furthermore, the fact that Billl received a salary has a tendency to show that he was an

employee, rather than a partner. Employee's are agents of an employer.

Additionally, the fact that Abe is the general manager for Restoration Associations

indicates that he provides director and insruction to others working in the shop, like Bill. If Bill

and Abe were not in an agency relationship, Bill would have equal rights in management and

would not be doing clerical work.

It is more likely that there was an agency relationship between Bill and Abe.

Page 2 of 5


2) After Abe's statements to Bill ...

Abe's statement "You're Fired" which he made to Bill strongly suggests that there was

an agency relationship, rather than a partnership. As stated above, an employee is an agent to

the employer. The act of firing someone is indicative of them being an employee (and therefore

an agent.) This is because partners cannot fire each other. There could be a written agreement

in a partnership for one partner to have the ability to expel! the other, but here there was no

agreement.

The fact that Abe fired Bill confirms that Bill was under his control. By firing Bill he

stopped consenting to Bill acting under his direction and control and terminated the agency

relationship.

3)

Agency (see above defintion.) Terry's obligation to pay the 37 thousand dollar invoice

will depend on whether or not Bill acted with requisite authority as Abe's agent.

An agent may have a9tu_?_L <31Jtl1grity if a reasonablee person in their postion would

believe they had the authority to act. There was no express actual authority that Bill enter into a

contract with Terry. However, there may have been ir:n.RiiE?dac:;tualauthority for Bill to contract

with customers. The tasking for working a front desk and answering phones indicates that Bill

would be frequently interacting with customers. Generallly, managers do not handle customers

but manage other employees. As a person with lots of restoration expiernence, a reasonable

person in Bill's postion would likely be able to a reasonably accurate estimate and contract for

restoration work (and therby believe they had the implied authority to do so.)

Incidental authority is where completing one task is necessary to accomplish another. ,.-· -~--- -· --· --· -·-· .. ···-~·--···- ~--····

Here, Bill had instruction from Abe that they would "set off" and "make a name in the world of

car restoration." "Making a name in the world" necessiates that Bill be able to enter into

contracts with potential customers so that the business can make money. Additionally, the

simply act of covering the front desk and answering phones may require, incidently, that

Page 3 of 5


customer questions about estimates be anwered.

Bill likely had implied actual authority and incidental authority.

Apparent Authority is where the words or actions of the principal (Abe) cause the third

party to believe that the agent has the authority to act. Here, no facts indicate that Abe ever

made representations to Terry before the Bill caught the flu. There is a expception to apparent

authority, if the third party knows that the principal would never agree to contract with them.

Here the facts indicate that Terry and Abe had a falling out, and that Abe stated he would never

speak again. This noramlly should have indicated to Terry and Bill (as Abe's agent) did not have

the authority to enter into a contract. However, no facts indicate that Terry or Bill ever realized

that they were in a contract unitl the car was fully restored.

Inherent Authority is when an agent is acting with incidental authority and the third party ! ... - ... ~---~-... -.~-·-·~-""' •• ,.,...,.~.· ~"""'~

has a reasonable belief that the agent has the authority to act. As discussed above, entering

into conracts may have been incidental to clerical work at tthe Restoration shop. The fact that

the name of the shop was "Restoration Assocaties" indicates that there is more than one

person that owns the shop, and therefore that Bill very well may be an owner with the authority

to enter into contracts. There was likely inherent authority.

Agency by estoppel is when the principal has reason to know that the agent is acting

without authority, but fails to communicate to the third party that the agent lacks such authority.

Here, Abe should have known that the Aston Martin (a rare car) did not belong to one of the

customers he had personally contracted with. Therefore he knew that the car's owner had dealt

with Bill, and believed Bill to had authority to act. Abe never continued to work on the car

without speaking to Terry and therefore there was agency by estoppel.

If an agent acts without authority, the principal may ratify their action and thereby bind

them into a contract. If Bill acted without the authority to enter into contracts, Abe may have

ratified the contract as soon as he started to work dilligently on Terry's car.

If an agent acts without authority, the principal may acquiece the the conduct and

thereby bind them into a contract. The facts indicate that over a period of 6 months, Abe and

Bill worked together on the car every single week. This series of events may have caused Abe

Page 4 of 5


to acquiesce to Bill's conduct (entering into estimates and contracts.)

The court will likely find that Bill did not act outside the scope of his authority, and

therefore Terry will likely be bound to the contract.

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ESSAY QUESTION NO.3

Darcy Biltmore is an eccentric entrepreneur who has owned and operated many businesses, some more successful than others. In November 2008, Darcy prepared and filed incorporation documents in State X for "Gastro One, Inc."

The following month, the incorporation documents were returned to Darcy. The Secretary of State informed Darcy that the documents could not be recorded because the check he used to pay the incorporation fees was refused by the bank on account of insufficient funds. Darcy became distracted during the holiday season and failed to make the proper payment to the Secretary of State for Gastro One, Inc.

Gastro One proved to be a great success and Darcy decided to form a second corporation and open a second Gastro pub. In May 2010, Darcy filed incorporation documents in State X for "Gastro Two, Inc." The incorporation documents were properly completed and the necessary fees were paid in full.

Although not a stranger to hard work, Darcy was somewhat surprised at the amount of time and effort he has had to devote to Gastro One and Gastro Two. Given the constraints on Darcy's time and considering that he is the sole shareholder of both corporations, he had not found or made the time to hold board or shareholder meetings.

While Gastro One proved to be a very successful business venture, Darcy did not have such luck with Gastro Two. Since opening, Gastro Two has operated at a loss of nearly $30,000 per month. In effort to give Gastro Two more time to establish a client base, Darcy has used money from Gastro One's accounts to pay Gastro Two's employees and some suppliers in order to keep the doors open. Other suppliers have been willing to extend credit to Gastro Two for purchases of beverages, meat, produce, and so on.

In September 2010, Darcy approached his equally eccentric cousin Cassy to obtain funding for his now struggling restaurants. Darcy described the success and struggles of the two Gastro pubs in great detail, but failed to mention the letter from the Secretary of State concerning Gastro One. Cassy offered to provide $100,000 in exchange for 10% stock and 10% ofprofits in each restaurant. Reluctantly, Darcy agreed.

Since the Cassy's contribution, Darcy has continued to pay some Gastro Two bills with money from Gastro One's accounts. Today, both restaurants are insolvent and their creditors are anxious to be paid. Gastro One owes $55,000 to its meat supplier, Poultry Plus. Gastro Two owes $40,000 to Passion Fruit Farms, its local produce supplier.

(1) Discuss whether Darcy is personally liable for the debt owed to Poultry Plus. (2) Discuss whether Darcy is personally liable for the debt to Passion Fruit Farms. (3) Discuss whether Cassy is personally liable for the debts owned to either Poultry Plus or Passion

Fruit Farms.

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Page4 of4

3)

Question #3)

1. WHETHER DARCY (D) IS PERSONALLY LIABLE TO

POULTRY PLUS FOR DEBT

Gastro One (GO) Owes Poltry Plus $55,000

Defective Corporation

//De Jure Corporation -A De Jure Corporation is a corporation that

incorporates itself by the laws of the state it wants to be

incorporated in, as well as sending its Articles of Incorporation

and a check covering all the necessary fees to the Secretary of

State. The Articles must state what type of

corporation/partnership/company the incorporator is requesting.

Here, the facts state that initally, D did everything he was

supposed to. He prepared, included and check and filed his

incorporation documents for GO Inc., in state X. However, the

Secretary of State did NOT incorporate GO, but sent the

Page 1 of 8

' ' (Question 3 continued)

documents back stating there were insufficent funds in the

account and therefore there is no incorporation of GO in state X.

Therefore, D does not have De Jure incorporation of GO.

/ -"De Facto Corporation - A De Facto Corporation arises when the

incorporator has a good faith belief the documents were filed

correctly and the corporation is incorporated, but something

occured and the corporation was never actually incorporated by

the Secretary of State. In a De Facto Corporation, the corporation

still recieves the protections and benefits of a corporation, except

the state may bring a quo warranto suit.

The facts state that D received the returned check and

documents, and because of his busy life/holidays, the issue '

slipped his mind. The facts also state that D is eccentric, which

may go to show that he <fu!!!Q1!~-~r.J!~.the check out of b..§!.~LiaLth,

but because he was just -~·bsentrnin~t~g, therefore there was a

good faith belief GO was incorporated.

-~/Corporation by Estoppel - Corporation by Estoppel occurs when a

third party treated a corporation as though it was a corporation,

they are estopped from later asserting that there was not valid

incorporation. Here, if the court finds that GO was never formed

validly and D should have known it was incorporated, he will be

Page 2 of 8


protected under this theory because PP treated GO as though it

was a validly incorporated corporation.

If the court finds that there is a valid corporation, PP may attempt

to pierce the corporate veil of GO. ·~oo= __ ., ..... ,--·-· -- ·~·-

Piercing the Corporate Veil

In situations where a corporation is incorporated, but not acting as

a corporation should, shareholders and third party creditors may

attempt to pierce the corporate veil to receive payment on debts

by imputing personal liability. Courts do not usually pierce in

contracts, but rather in torts.

In order to pierce the corporate veil, the person or entity will have

to prove one of the following exists{1) the incorporator ignored /'/

the corporate formalities (alter ego theory), (2) there was ,.

inadequate capitalization at the outset, or13) to prevent fraud.

Here the facts state that D was surprised how much work it was at

running two corporations, and he therefore, never found time to

hold board ot shareholder meetings. It is a corporate formality to

hold an initail board meeting to organize the company and draft

the bylaws and annual shareholder and board meetings are

Page 3 of 8


required. D was ben~fitting from the nature of the corporation and

the benefits that a corporation have ~Y~ra sqLELPrQprietor$hip.

Even after D took the $100,000 from Cassy (C) and made her a

1 Oo/o shareholder, he still did not conduct any meetings.

Therefore, D was not following the proper formalities and PP

could pierce the corporate veil of GO under this prong.

The facts also state that Gastro One was very successful, at the

outset in 2008. Therefore, it is unlikely PP will be able to pierce

on the fact that there was inadequate capitalization, because it

seems that there was.

D was using monies from GO to Qa~Lfor bill.?__9nd employees of - ----===-~~~-

Gastro Two_(GI). D can not pay off debts from one corporation ,--

by money from the other. He is taking away money that could be

used to pay creditors (ie. PP) from GO and paying for GT's debts.

This is not legal and may be deemed even fraudulent. Therefore,

PP may be able to pierce on this prong as well.

However, if this is a contract issue (repayment on a contract,

money for meat) and therefore, it is likely the court will not pierce.

If it is a tort issue (fraud by paying monies from GO to GT that

should have been coming to PP) then the corporate veil will be

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deemed to be pierced and D will be personally liable.

2. WHETHER D IS LIABLE FOR DEBT TO PASSION FRUIT

FARMS (PFF)

GT Owes PFF $40,000

Here, the facts state that GT is a validly incorporated in state X, ~-

therefore it is a De Jure Corp (See rule above).

Piercing the Corporate Veil

Please see rule above.

Here the facts state that D was surprised how much work it was at

running two corporations, and he therefore, never found time to

hold board or shareholder meetings. It is a corporate formality to

hold an initail board meeting to organize the company and draft

the bylaws and annual shareholder and board meetings are

required. D was benefitting from the nature of the corporation and

the benefits that a corporation have over a sole proprietorship.

Even after D took the $100,000 from C and made her a 1 0°/o

shareholder, he still did not conduct any meetings. Therefore, D

Page 5 of 8


was not following the proper f.Q.L,mg!_iti~s .. §nd PP could pierce the

corporate veil of GO under this prong.

The facts state that since opening, GT has lost $30,000 a month.

Running a business takes money and losing $30,000 per month

seems to show that D inadequately capitalized GT at the outset of ---·--·--··- ~-"'"''~'""'"~' "" .. ., ... _,,.....,..~~-···· ·-~·-~ ............ ,, .. _ . ..,, ..... ~·-•..-.- .. ,,.,., ... ,,,_,.

incorporation. Therefore PFF would likely be able to pierce on

this theory.

The facts state that D was takin.g ... rno.n~_y_fiQ_m GO and paying for • ·-•~---."~~'"""'"'~· "'" •.:;;;- "r-··••·•-.. '" '·•••··-- ''• ~--"

debts/bills/employees of GT. This is not allowed and therefore the

court may pierce to prevent any further fraud and payment of GT

by GO.

However, if this is a contract issue (repayment on a contract,

money for fruit) therefore, it is likely the court will not pierce.

If it is a tort issue then the corporate veil will be deemed to be

pierced and D will be personally liable.

3. CASSY (C) PERSONAL LIABILITY TO PP AND PFF

C is a shareholder and may also be deemed a Limited Partner. '---~·~·-

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Corporations may enter into partnerships because corporations

are creatures of statutes and are considered· their own entity.

They may sue and be sued.

C as a Limited Partner

A limited partnership (LP) is similar to a general partnership,

however there are some differences. Limited partners owe a duty

of good faith, care, loyalty and fair dealing to each other. In a

limited partnership there are limited partners and general

partners. Limited partners provide finanances to the partnership

and the general partner deals with the management and control.

There must be at least one general partner and one limited

partner for a LP to exist. The limited partner can never participate

in the management and control over the partnership, otherwise he

is changed from a limited partner to a general partner. However,

there are specific "safe harbors" for limited partners to act ( 1) they

may meet with the general partner, (2) they may be an employee

or contractor of the partnership.

There was no express statement that C and D entered into a

partnership, but by their actions, 0 was the general partner and C

was the limited partner. Under this theory, C would not be heald

personally liable.

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C as a Shareholder in a CLOSE Corporation

Because of the small nature of the corporation and the fact that C

is D's cousin/family, it is likely that GT is a shareholder in a Close

Corporation (CC). A CC is a corporation which is held be a small

number of shareholders, usually family and it is not publically

traded. Normally in publically traded corporations shareholders

do not owe each other a fiduciary duty, but in close corporations

they do.

Therefore, D had a fiducuciary duty to diclose the fact that GO

was not incorporated to C. D never had any sharehold meetings

to bring C up to speed on the situation of the corporation.

Out of time ...

Page 8 of 8

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