COPYRIGHT © 2011 South-Western/Cengage Learning. Click your mouse anywhere on the screen to advance the text in each slide. After the starburst appears, click a blue triangle to move to the next slide or previous slide.

COPYRIGHT © 2011 South-Western/Cengage Learning. Quote of the Day “CORPORATION, n. An ingenious device for obtaining individual profit without individual responsibility.” Ambrose Bierce, American writer, “The Devil’s Dictionary”

COPYRIGHT © 2011 South-Western/Cengage Learning. Incorporation Process  The person who organizes a corporation is called a promoter. The promoter is personally liable on any contract signed before formation.  The corporation is not liable unless it adopts the contract after incorporation. The promoter is no longer liable if the other party agrees to a novation – a new contract.  Where to Incorporate? In a state –either the home state of the business or a state which has favorable laws for corporations (often Delaware)

COPYRIGHT © 2011 South-Western/Cengage Learning. Incorporation Process  Charter’s Required Provisions Name of corporation Address and Registered Agent Incorporator –person who signs the charter and delivers it to the Secretary of State for filing (perhaps the lawyer or the promoter) Purpose –can be a broad statement, such as “to conduct lawful business” Stock – number, par value and types (classes and series) offered

COPYRIGHT © 2011 South-Western/Cengage Learning. Stock  Stock can be: Authorized and unissued Authorized and issued or outstanding Treasury stock (been issued, then bought back by company)  Par value - minimum issue price  Classes and series Owners of preferred stock have preference on dividends and liquidation. Common stock is last in line for any corporate payouts, including dividends and liquidation.

COPYRIGHT © 2011 South-Western/Cengage Learning. After Incorporation  Directors and officers are elected, unless all shareholders agree to not have a board of directors. Small corporations may elect directors by written consent.  Minute book holds records of all meetings.  Bylaws set the rules for the corporation.

COPYRIGHT © 2011 South-Western/Cengage Learning. After Incorporation (cont'd)  Issuing Debt – corporations often need to borrow funds for start-up. Bonds – long term debt secured by company assets. Debentures – long term, unsecured debt. Notes – short term, either secured or unsecured.

COPYRIGHT © 2011 South-Western/Cengage Learning. Death of a Corporation  May be voluntary (shareholders’ vote) or forced (by court order).  Piercing the Corporate Veil -- court may hold shareholders liable for debt in the case of: Failure to observe formalities (such as holding meetings, keeping records) Commingling of assets (using corporate funds to pay personal debts, etc.) Inadequate capitalization (the corporation should obtain insurance against liability for torts) Fraud (injured party may recover from the guilty party, even if the action was the corporation’s)

COPYRIGHT © 2011 South-Western/Cengage Learning. Termination  Terminating a corporation is a three- step process: Vote by a majority of the shareholders. Filing Articles of Dissolution with the Secretary of State. Winding up – paying debts and distributing assets.

COPYRIGHT © 2011 South-Western/Cengage Learning. Managers vs. Shareholders: The Inherent Conflict  Managers – want, first to keep their jobs and second, to build a strong company. Managers have a fiduciary duty to act in the best interests of the shareholders.  Shareholders – want the price of stock to increase.  Stakeholders – want the business to grow and continue to use the stakeholders’ services.

COPYRIGHT © 2011 South-Western/Cengage Learning. Resolving the Conflict: The Business Judgment Rule  Business Judgment Rule -- The manager has a duty of loyalty and a duty of care. The manager must act without a conflict of interest, with the care of an ordinary prudent person and in the best interests of the company.  This rule allows directors to do their job without fear of excessive court intervention.

COPYRIGHT © 2011 South-Western/Cengage Learning. Duty of Loyalty  The duty of loyalty prohibits managers from making a decision that benefits them at the expense of the corporation.  Self-Dealing is a violation of the duty of loyalty. See next slide for more on self-dealing.  Corporate Opportunity Managers are in violation of the corporate opportunity doctrine if they compete against the corporation without its consent.

COPYRIGHT © 2011 South-Western/Cengage Learning. Self-Dealing  A manager makes decisions that benefit himself or another company associated with the manager.  Self-dealing transactions may be acceptable if: The disinterested members of the board of directors approve the transaction. The disinterested shareholders approve it. The transaction was fair to the corporation.

COPYRIGHT © 2011 South-Western/Cengage Learning. Duty of Care  The duty of care requires officers and directors to act in the best interests of the corporation and to use the same care that an ordinarily prudent person would in the management of her own needs. Decisions must have a rational business purpose. Decisions and actions are legal. Managers must make informed decisions.

COPYRIGHT © 2011 South-Western/Cengage Learning. More Conflict: Takeovers  There are three ways to acquire control of a company: Buy the company’s assets. Merge with the company. Buy stock from the shareholders.  Takeovers and tender offers are regulated: Federal Regulation of Tender Offers: The Williams Act State Regulation of Takeovers Common Law of Takeovers

COPYRIGHT © 2011 South-Western/Cengage Learning. Prevention of Takeovers  Companies may try to prevent takeovers in many ways: Transferring assets, re-distributing stock, re-structuring the board of directors, etc. These tactics are sometimes called “shark repellants”  When establishing takeover defenses, shareholder welfare must be the board’s primary concern.

COPYRIGHT © 2011 South-Western/Cengage Learning. State Anti-Takeover Statutes  Most states have passed statutes to deter hostile takeovers: Statutes that automatically impede hostile takeovers. Statutes that authorize companies to fight off hostile takeovers.

COPYRIGHT © 2011 South-Western/Cengage Learning. The Role of Shareholders  Directors, not shareholders, have the right to manage the corporate business. Inside directors -- officers in the corporation, typically control their company’s board. Outside directors (also called independent directors) -- do not work for the company and typically have less control.

COPYRIGHT © 2011 South-Western/Cengage Learning. Rights of Shareholders  Shareholders have neither the right nor the obligation to manage the day-to-day business of the enterprise.  Right to Information Under the Model Act, shareholders with a proper purpose have the right to inspect and copy the corporation’s minute book, accounting records, and shareholder lists.  Right to Vote A corporation must have at least one class of stock with voting rights.

COPYRIGHT © 2011 South-Western/Cengage Learning. Shareholder Proposals  Under SEC rules, any shareholder who owns at least 1 percent of the company or $2,000 of stock can require that one proposal be placed in the company’s proxy statement to be voted on at the shareholder meeting.  Only a small percentage of these proposals are passed, but their presence may cause the directors to adopt the proposal’s statement anyway.

COPYRIGHT © 2011 South-Western/Cengage Learning. Shareholder Meetings  Annual meeting of shareholders are the norm for publicly traded companies.  Companies whose stock is not publicly traded may either hold an annual meeting or use written consent from their shareholders.

COPYRIGHT © 2011 South-Western/Cengage Learning. Officers and Directors  Election and Removal of Directors Shareholders have the right to elect directors and also to remove them from office, though this is a complex and expensive process and is rarely done.  Compensation for Officers and Directors Typically, directors set their own compensation (unless the charter or bylaws provide otherwise).

COPYRIGHT © 2011 South-Western/Cengage Learning. Fundamental Corporate Changes  A corporation must seek shareholder approval before undergoing any of the following fundamental changes: Mergers Sales of Assets Dissolution Amendments to the Charter Amendments to the Bylaws

COPYRIGHT © 2011 South-Western/Cengage Learning. Right to Dissent  If a corporation decides to undertake a fundamental change, the Model Act and many state laws require the company to buy back the stock of any shareholders who object to this decision.

COPYRIGHT © 2011 South-Western/Cengage Learning. Right to Protection  Controlling shareholders have a fiduciary duty to the minority shareholders.  Minority shareholders have the right to overturn a transaction between the corporation and a controlling shareholder, unless the the transaction is fair to the minority shareholders.

COPYRIGHT © 2011 South-Western/Cengage Learning. Sarbanes-Oxley Act  In response to corporate scandals, Congress passed the Sarbanes-Oxley Act in Requires all publicly-traded companies to adopt effective financial controls. CEOs and CFOs must personally certify their company’s financial statements. A board’s audit committee must be independent. No personal loans to directors or officers. If a company has to restate its earnings, its CEO and CFO must reimburse the company for any bonus or profits they have received from selling company stock in the past year. Each company must disclose if it has an ethics code and, if it does not, why not. It is a felony to interfere with a federal fraud investigation. Whistleblowing employees are protected. A new Public Accounting Oversight Board has been established to oversee the auditing of public companies.

COPYRIGHT © 2011 South-Western/Cengage Learning. Enforcing Shareholder Rights  Derivative Lawsuits Brought by shareholders to remedy a wrong to the corporation. All proceeds of the litigation go to the corporation.  Direct Lawsuits Shareholders are permitted to sue the corporation directly only if their own rights have been harmed.

COPYRIGHT © 2011 South-Western/Cengage Learning. “Entrepreneurs often become impatient with the legal technicalities required to form and maintain a corporation. However, these legalities can have a profound impact on the success of the business.” “Entrepreneurs often become impatient with the legal technicalities required to form and maintain a corporation. However, these legalities can have a profound impact on the success of the business.”