Chapter 36 Corporate Formation and Financing

Introduction  Corporation: A fictitious legal entity that is created according to statutory requirements  Shareholders: Owners of a corporation who elect the board of directors and vote on fundamental changes in the corporation  Corporations codes: State statutes that regulate the formation, operation, and dissolution of corporations  Courts interpret state corporation statutes to decide individual corporate and shareholder disputes Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 36-2

The Corporation as a Legal “Person”  A corporation is a separate legal entity (or legal person)  Corporations can  Sue or be sued in their own names  Enter into and enforce contracts  Hold title to and transfer property  Be found civilly and criminally liable for violations of law Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 36-3

Characteristics of Corporations  Free Transferability of Shares  National securities markets have been developed for the organized sale of securities  Perpetual existence (unless a specific duration is stated in a corporation’s articles of incorporation)  Its existence can be voluntarily terminated by the shareholders Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 36-4

Characteristics of Corporations  Centralized Management  Board of directors makes policy decisions concerning the operation of a corporation  Limited Liability of Shareholders  Corporations are liable for their own debts and obligations Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 36-5

Corporation Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. Key TermDescription Board of directorsA panel of persons who are elected by the shareholders that make policy decisions concerning the operation of a corporation Corporate officersEmployees of a corporation who are appointed by the board of directors to manage the day-to-day operations of the corporation Limited liability of shareholders A general rule of corporate law that provides that generally shareholders are liable only to the extent of their capital contributions for the debts and obligations of their corporation and are not personally liable for the debts and obligations of the corporation 36-6

Exhibit 36.1: Corporation Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 36-7

Case 36.1– Shareholder’s Limited Liability  Case  Menendez v. O’Niell  986 So.2d 255 (2008)  Court of Appeal of Louisiana  Issue  Is Fraioli personally liable for the debts of Triumvirate, a corporation of which is the sole shareholder? Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 36-8

Public and Private Coorporations  Public Corporation  A corporation formed to meet a specific governmental or political purpose  Local government corporations are often called municipal corporations  Private Corporation  A corporation formed to conduct privately owned business Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall. 36-9

Profit and Not-for-Profit Corporations  Profit Corporation  Created to conduct a business for profit  Can distribute profits to shareholders in the form of dividends  Not-for-profit Corporation  A corporation formed to operate charitable institutions, colleges, universities, and other not- for-profit entities Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

Publicly Held and Closely Held Corporations  Publicly Held Corporation  Many shareholders  Shares traded on organized security markets  Shareholders rarely involved in management  Closely Held Corporation  Few shareholders  Shareholders may have buy-and-sell agreements  Shareholders often involved in management Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

Professional Corporation  A corporation formed by lawyers, doctors, or other professionals  Shareholders are called members  Members not usually liable for torts committed by agents or employees  May be liable for malpractice of members Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

Types of Corporations Description DomesticA corporation is a domestic corporation in the state in which it is incorporated ForeignA corporation is a foreign corporation in states other than the one in which it is incorporated AlienA corporation is an alien corporation in the United States if it is incorporated in another country Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

Selecting a State for Incorporating  A corporation can be incorporated in only one state  Can do business in all other states in which it qualifies to do business  Selecting a corporate name  Must contain corporation, company, incorporated, or limited  Cannot be trademarked by another company  Availability as a domain name on the Internet Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

Incorporators  The person or persons, partnerships, or corporations that are responsible for incorporation of a corporation.  Primary duty – sign the articles of incorporation  Promoter: A person or persons who organize and start a corporation, or  Negotiate and enter into contracts in advance of its formation  Find the initial investors to finance the corporation Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

Promoters’ Liability for Preincorporation Contracts  Corporation never comes into existence – promoters have joint personal liability on the contract  Unless exempted by the third party  Corporation is formed – it is liable on a promoter’s contract only if it agrees to become bound to the contract  Corporation agrees to be bound to promoter’s contract – promoter remains liable  Unless the parties enter into a novation Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

Articles of Incorporation  Basic governing document of the corporation  Must be filed with secretary of state of state of incorporation  Contains name of corporation, number of shares authorized, name and address for registered agent and incorporators  May contain term, purpose, limitations, regulations of affairs Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

Amending the Articles  Amendments made to contain any provision that could have been lawfully included in the original document  Corporate status  RMBCA provides that corporate existence begins when the articles of incorporation are filed  Conclusive proof – secretary of state’s filing of the articles of incorporation Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

Purpose of a Corporation Key TermsDescription General-purpose clause A clause that can be included in the articles of incorporation that permits the corporation to engage in any activity permitted by law Limited-purpose clause A clause that can be included in the articles of incorporation that stipulates the activities that the corporation can engage in Registered agentA person or corporation that is empowered to accept service of process on behalf of a corporation Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

Corporate Bylaws  A detailed set of rules adopted by the board of directors after the corporation is incorporated  Contains provisions for managing the business and the affairs of the corporation  Governs internal management structure  May be amended by the board of directors  Corporate seal – A design that contains the name of the corporation and the date of incorporation Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

Organizational Meeting of the Board of Directors  Organizational meeting: A meeting held by the initial directors of the corporation after the articles of incorporation are filed  Directors adopt bylaws, elect officers, and transact business Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

Corporate Powers Key TermsDescription S CorporationA corporation that has met certain requirements and has elected to be taxed as an S corporation for federal income tax purposes C CorporationA corporation that does not qualify for or has not elected to be taxed as an S corporation Express powersPowers given to a corporation by (1) the U.S. Constitution, (2) state constitutions, (3) federal statutes, (4) state statues, (5) articles of incorporation, (6) bylaws, and (7) resolutions of the board of directors Implied powersPowers beyond express powers that allow a corporation to accomplish its corporate purpose Ultra vires actAn act by a corporation that is beyond its express or implied powers Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

Delaware Attracts Corporate Formations  More than 50 percent of the publicly traded corporations in America are incorporated in Delaware  60 percent of the Fortune 500 companies  Delaware General Corporation Law – most advanced corporation law in the country  Court of chancery – hears and decides business cases  Judges are experts at deciding business disputes 36-23

Financing the Corporation  Equity securities (stocks): Representation of ownership rights to a corporation  Common Stock: A type of equity security that represents the residual value of a corporation  Has no preferences  Does not have a fixed maturity date  Par value shares – common stock on which the corporation has set the lowest price  No par value shares – no assigned par value Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

Preferred Stock  A type of equity security that is given certain preferences and rights over common stock  Preferred stockholder: A person who owns preferred stock  Dividend preference: The right to receive a fixed dividend at stipulated periods during the year  Liquidation preference: The right to be paid a stated dollar amount if a corporation is dissolved and liquidated Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

Preferred Stock  Cumulative dividend right – Corporations must pay a preferred dividend if they have the earnings to do so  Right to participate in profits – Allows a preferred stockholder to participate in the profits of the corporation along with the common stockholders  Conversion right – Convertible preferred stock permits the preferred stockholders to convert their shares into common stock Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

Redeemable Preferred Stock  Stock that permits a corporation to buy back the preferred stock at some future date  Terms of the redemption are established when the shares are issued  Nonredeemable stock is more common than redeemable stock Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

Types of Shares Type of ShareDescription AuthorizedShares authorized in the corporation’s articles of incorporation IssuedShares sold by the corporation TreasuryShares repurchased by the corporation; these shares do not have the right to vote OutstandingIssued shares minus treasury shares; these shares have the right to vote Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

Types of Debt Securities Debt InstrumentDescription DebentureA long-term, unsecured debt instrument that is based on a corporation’s general credit rating BondA long-term debt security that is secured by some form of property NoteA short-term debt instrument with a maturity of five years or less; notes can be either unsecured or secured Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

 Consideration to be paid for shares – RMBCA allows shares to be issued in exchange for any benefit to the corporation  Indenture agreement: Contract between the corporation and the holder that contains the terms of debt security 36-30

Voluntary Dissolution  Dissolution of a corporation that has begun business or issued shares upon recommendation of the board of directors and a majority vote of the shares entitled to vote  Articles of dissolution must be filed with the secretary of state of the state of incorporation Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

Administrative Dissolution  Secretary of state will administratively dissolve corporation if it:  Failed to file annual report  Failed to maintain registered agent for 60 days  Failed to file change of registered agent  Did not pay franchise fee  Period of duration stated in articles has expired  Secretary issues a certificate of dissolution Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

Judicial Dissolution  Dissolution of a corporation through a court proceeding instituted by the state  Instituted by attorney general of state of incorporation  Procured articles through fraud  Exceeded or abused authority  Decree of dissolution issued Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

Winding-up and Liquidation  The process by which a dissolved corporation’s assets are collected, liquidated, and distributed to  Creditors  Shareholders  Other claimants Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

Termination  The ending of a corporation that occurs only after the:  Winding-up of the corporation’s affairs  Liquidation of its assets  Distribution of the proceeds to the claimants Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

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