Corporations Outline for the California Bar Exam

Organization and Formation

1. Pre-Incorporation Contracts

   1. Promoter = Person acting on behalf of unformed corp

      1. A fiduciaryof the corp – duty of fair disclosure and good faith

      2. Secret profit rule. – Promoter cannot make a secret profit on her dealings with the corp. Disclosure to corp is a defense.

         1. Sale of prop acquired before becoming P – profit recoverable by corp only if sold for more than FMV – [corp price – FMV]

         2. Sale of prop acquired after becoming P – any profit recoverable by the corp [corp. price – promoter price]

      3. Promoter Liability – Liable for preincorp Ks until novation (i.e. a new agreement b/n the promoter, the corp, and the other contracting party that the corp will replace the promoter under the k)

         1. May seek indemnification if corp. adopts contract.

            1. But, mere adoption of K does not relieve promoter from liability (both corp and promoter liable)

            2. If corp is never formed, promoter alone remains liable

      4. Corporation Liability – Not liable for preincorp Ks unless it adopts the contract by:

         1. Express adoption – by board resolution

         2. Implied adoption – through knowledge of the K and acceptance of its benefits

   2. Subscribers – persons or entities who make written offers to buy stock from a corporation not yet formed

      1. Pre-incorporation – irrevocable for 6 months (unless provide otherwise or all subscribers agree)

      2. Post-incorporation – Revocable until accepted.

      3. BOD is required to make a uniform request 4 payment in each class.

2. Characteristics of a Corporation

   1. Limited Liability – of owners, directors, officers – not personally liable for the obligations of the corp; owners risk only their investment

   2. Centralized Management – centralized in board of directors, who delegate management duties to officers

   3. Free Transferability of Ownership – ownership is freely transferable

   4. Continuity of Life – a corp may exist perpetually and is not affected by changes in ownership

   5. Taxation

      1. C-Corp – taxed as entity distinct from owners – results in double taxation when there is a dist. to SHs

      2. S-Corp – taxed like partnerships and yet retain benefits of corp form – not subject to double tax – profits/losses flow through the entity to the owners

         1. Fewer than 100 members w/only one class of stock

3. Formation Requirements

   1. De Jure Corporation

      1. Formation Requirements: – “A PAIN”

         1. Authorized Shares – max # of shares the corp is authorized to issue (corp may authorize or sell less)

            1. Articles must be amended to change #

         2. Purpose – general purpose and perpetual duration, presumed

            1. Can state corp’s purpose is to “engage in all lawful activity in perpetuity”

            2. Specific Statement of Purpose – if specific purpose stated, cannot engage in “ultra vires” activity – means “beyond the power”

               1. State can enjoin the ultra vires activity

               2. Corp can sue own directors and officials for losses caused by the ultra vires activity

         3. Agent – name and address of authorized registered agent

         4. Incorporators – name and address of each incorporator

         5. Name of Corporation – must contain some indicia of corp status (i.e. corp, inc., etc.)

      2. By-Laws – corp need not adopt by-laws – the BOARD has the power to adopt and amend the by-laws, unless the Articles give the power to the SHs

   2. De Facto Corporation(abolished in many states) – Treated as corporation for all purposes except action by state, when

      1. Relevant incorp. statute,

      2. Good faith colorable attempt to comply with statute, AND

      3. The conduct of business in the corp name and the exercise of corp privileges

         1. Limitation – persons who purport to act on behalf of corp knowing that there has been no incorp are liable

   3. Corporation by Estoppel (abolished in many states) – One dealing with a business as a corp, treating it as a corp may be estopped from denying its corporate status.

      1. Applicable to contract actions, not torts.

   4. Pierce the Corporate Veil – general rule, a SH is not liable for the debts of a corp, but courts will disregard the corp entity and hold individuals liable for corporate obligations to avoid fraud or unfairness if:

      1. Alter ego – where the corporation ignores corporate formalities such that it may be considered the “alter ego” of the SHs or another corporation – SHs treating corporate assets as own, and not respecting separateness of corporation

         1. Sloppy administration not enough

      2. Undercapitalization – Undercapitalized when formed (SHs failed to invest enough to cover potential liabilities) or failure to maintain sufficient funds to cover foreseeable liabilities

      3. To prevent fraud or prevent SH from using entity to avoid liability

      4. Note: Cts more willing to PCV for a tort victim vs. a K claimant

4. By Laws

   1. Purpose: for internal governance (i.e. spell out responsibilities)

   2. Not condition precedent to formation or corp (not req’d)

   3. Articles control over bylaws

   4. Not filed with the state (internal)

   5. Adoption by the BOD initially, amended/repealed by SH or BOD.

5. Foreign Corporation – foreign corps transacting business in this state must qualify by getting Certificate of Authority with the Secretary of State that includes “A PAIN” info, pay fees, appt registered agent here

   1. Consequences for failure – civil fine; can be sued but cannot sue.

Stock Issuance and Structure

1. Debt Securities – arise where a corp has borrowed funds from outside investors and promises to repay them – holders do not have an ownership interest in the corp

2. Equity Securities (Shares) – give their holders an ownership interest in the issuing corp

3. Stock Subscriptions – promises from subscribers to buy stock in the corp

   1. Pre-Incorporation Subscription – irrevocable for 6 months

   2. Payment – unless otherwise provided, payment is upon demand by the board

4. Issuance – When corporation sells or trades own unissued stock.

5. Consideration – what must the corporation receive when it issues stock?

   1. Form.

      1. Traditional Rule – Money, tangible or intangible property and services already performed for corp.

         1. Not allowed – Promissory notes (unless fully secured – some states), and future services.

      2. MT – Any tangible or intangible property or benefit, past, present or future. (future promises/promissory notes ok)

   2. Amount of consideration – BOD responsible for putting a value on consideration received for issuance – conclusive as long as good faith.

      1. Par Value – Minimum issuance price for new stock (may never receive less)

         1. Example – corp sells 10,000 shares of $3 par stock, must receive at least 30k

         2. No Par – no minimum; BOD sets issuance price – any valid consideration may be received if deemed adequate by the board

         3. Acquiring Property – Boards valuation conclusive if in good faith – any valid consideration can be received so long as the board values the consideration to be worth at least par value

      2. Sale of Treasury Stock (previously issued and reacquired stock)

         1. It can be resold

         2. No par value required for a valid consideration – any amount deemed adequate by the board

      3. Watered Stock – CL – Par value stock issued at less than par value.

         1. Corporation or creditors can sue:

            1. Directors if they knowingly authorized issuance.

            2. Original acquirer of the stock – buyers of shares of stock must pay full consideration for shares

            3. Subsequent transferees if not acting in good faith.

6. Preemptive Rights

   1. Right of existing SH to maintain his % ownership in corp – i.e. right to buy stock when corp offers new issuance of stock for money.

      1. Example: S owns 1,000 shares of C Corp. There are 5,000 shares outstanding. C Corp is planning to issue an additional 3,000 shares for cash. If S has preemptive rights, then S has the right to:

         1. Maintain his existing 20% ownership interest by buying up to 20% of those newly issued 3,000 shares for cash – has right to 600 shares

      2. CL – Preemptive right DO exist unless articles take away

      3. Default MT – Preemptive rights do NOT exist unless expressly granted in the articles

Directors

1. Statutory Requirements

   1. Number – 1 or more. Adult, natural persons.

   2. Election – SHs elect Ds @ annual meeting (elect whole board or stagger terms)

      1. Classified board – class of Ds elected by share classes.

   3. Removal – SHs can remove directors before terms expire with or without cause by majority of shares entitled to vote.

      1. Replacement – By shareholders, or by BOD.

   4. Valid Action – BOD can take action only by at a valid meeting or unanimous written consent to act w/o a meeting.

   5. Valid Meetings – including telephone conference calls.

      1. Required unless all directors unanimously consent in writing to act w/o a meeting

      2. Notice

         1. Regular meetings – notice can be set in bylaws

         2. Special meetings – 2 days notice, unless waived or attend w/o objections

      3. Proxies and voting agreements – Not allowed.

      4. Quorum – if no quorum, any action taken is void.

         1. Must have majority of all directors to form quorum then

         2. Must have majority of those present to pass resolution

            1. i.e. if there are 9 directors, at least 5 directors must attend the meeting to constitute a quorum. If 5 directors attend, at least 3 must vote for a resolution in order for it to pass

         3. If directors leave, quorum may be lost.

         4. Each director is presumed to have concurred in board action unless his dissent or abstention is recorded in writing

2. Liability of Directors to Corp and SHs.

   1. Duty to Manage – directors have a duty to manage the corp – directors may delegate management functions to a committee of one or more directors that recommends action to the board

   2. Fiduciary Duty – owe a corp duties of care and loyalty

   3. Duty of Care – a director owes the corp a duty of care – He must act (1) in good faith, (2) with the care that a prudent person would use with regard to his own business, (3) in the best interest of the corporation, unless the Articles have limited director liability for a breach of the duty of care. At common law this was known as the business judgment rule. (Burden of proof on P)

      1. Business Judgment Rule – in managing corp, directors are protected from liability – presumption that the directors manage the corp in good faith in the best interests of the corp and its SHs – as such directors will not be liable for innocent mistakes of business judgment

         1. Note – D/O can only raise this defense if they did not breach duty of care

      2. Nonfeasance – Director does nothing, fails to attend meetings may be liable if P shows  causation + damages

         1. Must show breach and that breach caused a loss

      3. Misfeasance – Board does something that hurts corporation.

   4. Duty of Loyalty – a director owes the corp a duty of loyalty – a director may not receive an unfair benefit to the detriment of the corp or its SHs, unless there has been material disclosure and independent ratification

      1. Self-Dealing – director who receives an unfair benefit to himself (or his relative, or another business) in a transaction w/his own corporation will be liable for damages and the transaction set aside unless

         1. Disclosure of all material facts AND deal approved by majority of disinterested directors or shares. OR

         2. If no disclosure, the deal was fair to corp at time it was entered

            1. Majority of states require fair, disclosure and approval

         3. Remedy = constructive trust, rescission, profits or damages.

         4. D can set own compensation – must be reasonable or waste

         5. May not sell their offices/seats for private gain or as a condition of a stock sale/merger – ILLEGAL

      2. Usurping Corporate Opportunities (Corporate Opportunity Doctrine) – director receives an unfair benefit by usurping for himself an opportunity which the corp would have pursued

         1. RULE – Directors cannot usurp (take advantage of) corporate opportunity UNTIL disclose to Board and wait for board’s rejection.

            1. Opportunity – Opp. corp is interested in, has an expectancy in OR w/in line of business

         2. Financial inability – not a defense.

         3. Remedy: constructive trust, rescission, damages, profits.

         4. Competing ventures – Cannot compete with own corp b/c owes his corp a fid duty of loyalty

            1. Remedy: constructive trust on profits/damages if co harmed

      3. Ratification – directors may defend a claim by obtaining independent ratification through (a) a majority vote of independent directors, (b) majority vote of a committee of at least 2 independent directors, or (c) majority vote of shares held by independent shareholders

3. Other Director Rules

   1. Loans to Ds are ok if board finds it is reasonably expected to benefit corp

   2. RULE – Director is presumed to have concurred w/board action unless dissent/abstention noted in writing in corp records:

      1. Entering dissent in minutes, or dissent in writing to corp sec at meeting, or dissent immediately following meeting (i.e. send letter)

      2. Cannot change mind after meeting/no oral dissent

   3. Exceptions:

      1. Absent directors are not liable – (min) have to dissent in writing later

      2. Good faith reliance on competent financial statement.

Officers

1. Owe same duties of care and loyalty as directors

2. Are agents of the corp and bind the corp by their authorized activities

   1. Actual, apparent and inherent authority.

3. Corps must have president, secretary, and treasurer. MT- holding multiple offices at same time ok.

4. Directors have virtually unlimited power to select officers, and may remove them from office at any time, but the corp will be liable for breach of k damages

Indemnification of Directors and Officers – director and officer has incurred costs, atty’s fees, fines, a judgment, or settlement in the course of corporate business and he seeks reimbursement from the corp

1. No Indemnification – When corp is barred from indemnifying:

   1. Officer held liable to corp or held to have received improper personal benefits.

2. Mandatory Indemnification – When corp. required to indemnify:

   1. D/O wins lawsuit against any party

3. Permissive Indemnification – When corp has discretion to indemnify:

   1. Anything else (watch for settlement & unsuccessful suits)

   2. Liability to third-parties or settlement w/corp

   3. Director must show good faith and reasonable belief acted in corp. best interest.

   4. Who Determines:

      1. Majority of independent directors

      2. Majority of a committee of independent directors

      3. Majority of shares held by independent SHs

      4. Special atty’s opinion could recommend

4. Court may order reimbursement if justified under the circumstances.

5. Articles can provide for limitation or elimination of liability for damages but not breach of duty for loyalty, intentional misconduct, or improper personal benefit.

6. Corporation may purchase D&O Insurance for liability

Shareholder Rights

1. Shareholder Direct Actions – a direct action may be brought for a breach of a fiduciary duty owed to the SH by an officer or director.

   1. To distinguish breaches of duty owed to the corp and duties owed to the SH, ask: (1) who suffers the most immediate and direct damage, the corp or the shareholder, and (2) to whom did the D’s duty run, the corp or the SH?

   2. Any recovery is for the benefit of the individual shareholder.

2. Shareholder Derivative Suits – SH sues for enforcement of corporation’s cause of action – always ask – could the corp have brought this suit?

   1. Requirements:

      1. Standing – contemporaneous stock ownership at time of wrong – must own at least 1 share of stock when the claim arose and in most states, throughout the litigation

         1. Adequate representation – SH must fairly rep interests of corp

      2. Written demand to BOD that the corp bring their own suit unless demand would be futile.

         1. Must be made and rejected or @ least 90 days must have passed since demand was made

      3. Verified complaint – alleging w/ specificity efforts to get corp. to sue or why demand is excused.

      4. Bond – May be required to post security for costs.

   2. Corp. may move to dismiss if independent directors or Special Litigation Committee finds suit not in corp. best interest.

      1. Courts will scrutinize independence and merits.

   3. Recovery goes to the corporation, but SH recovers costs/fees from corp

      1. Exception: recovery goes to SH if bad guys would get it.

   4. Unsuccessful suits: SH cannot recover costs/fees, and liable for X’s atty fees if sued w/o reasonable cause.

   5. Litigation issues.

      1. Corp. must be joined initially as defendant.

      2. Defenses –

         1. Substantive defenses that could be raised against corp.

         2. Plaintiff disqualification defenses.

      3. No dismissal/settlement of derivative suit w/o court approval.

3. Voting

   1. Voting Privileges – ONLY record owner as of record date has the right to vote – it is irrelevant who owns shares at the time of the meeting (record date is never the same as the meeting date)

      1. Exceptions

         1. Corporation does not vote treasury stock.

         2. Death of shareholder – Executor votes.

         3. Proxies – someone else votes in SH’s place

            1. Requires:

               1. A writing

               2. Signed by record SH

               3. Directed to Secretary of Corp

               4. Authorizing another to vote the shares

               5. Valid for only 11 months

            2. Always revocable unless (1) proxy expressly states that it is irrevocable, AND (2) it is coupled w/an interest (right to shares themselves)

   2. Meeting – SHs may act either through a meeting, OR w/o meeting by unanimous written consent of all voting shares

      1. Annual Meeting – Every corp must have a properly noticed annual meeting at which 1 director position is open for election

      2. Written notice required for all SH meeting – must state place, time, date, purpose; meeting is limited to this purpose only.

         1. Failure to give notice – action taken is void.

            1. Unless express (written) or implied waiver (attendance w/o objection).

      3. Special Meeting – meetings to vote on proposals or fundamental corp changes

         1. Notice must contain the meeting’s special purpose

         2. Nothing else can take place at the meeting unless it’s in the notice

         3. Called by board, President, 10% voting shares or via articles.

   3. Quorum – there must be a quorum represented at the meeting – determination focuses on the # of shares represented, not the number of SH.

      1. Requires a majority of outstanding SHARES when the meeting BEGINS, unless otherwise provides in the Articles

         1. Compare – Brd meetings req. majority throughout

   4. Vote – if quorum is present, action is approved if the votes cast in favor of the proposal exceed the votes case against the proposal (abstentions do not count)

   5. Pooled or Block Voting Methods – shareholders who own relatively few voting shares decide that they can increase their influence by agreeing to vote alike

      1. Voting trusts.

         1. Formal written agreement delegating voting power to a trustee

         2. Must give copy to corporation.

         3. Transfer legal title of shares to voting trustee.

         4. Trust certificates issued and SHs retain all rights except voting.

         5. Good for a maximum of 10 years, unless extended by the agreement

      2. SH Voting (pooling) Agreement – written agreement to vote shares as required by agreement itself

         1. Allowed if in writing and signed.

         2. No time limits or other formalities

   6. Cumulative Voting for Directors –

      1. Traditional Straight Voting – if multiple directorships are open, multiple separate elections are held and can only vote once in each election

      2. Cumulative Voting – only one election held for all open directorships, SH may multiple the number of shares times the number of electors to be elected – can place all votes for one candidate – top vote getters win

         1. No Right to engage in cumulative voting unless expressly granted in the articles

4. Right of SH to Inspect Records and Books of Corp – any shareholder shall have access upon notice and proper times

   1. But not physical plant.

   2. Trad. – SH who owned at least 5%, MT-Any shareholder

   3. Procedure: make written demand, state proper purpose.

5. Dividends/Distributions – declared in Board’s discretion unless the corp is insolvent or would be rendered insolvent by the dividend – board members are liable personally for unlawful distributions, but have a defense of good faith reliance on financial officer’s reps re solvency

   1. Priority of Distribution

      1. Preferred paid first

      2. Participating Preferred – means “pay again” w/common shares

      3. Cumulative Preferred – pay for past unpaid – “add them up”

      4. Common Stock – paid last and paid equally

   2. Hypos: Board of directors decides to declare dividends totaling $400,000.

      1. 100,000 shares of common and 20,000 shares of preferred w/$2 dividend preference

         1. Preferred gets paid first with 20,000 shares of $2 each  $40,000

         2. $360,000 left over for 100,000 shares of common stock – each gets stock at $3.60 per share

      2. 100,000 shares of common stock and 20,000 shares of $2 preferred that are participating

         1. Preferred gets paid first with 20,000 shares of $2 each  $40,000

         2. $360,000 left over – preferred shares get paid again with common stock – 120,000 shares/$360,000 = each gets $3.00 per share

         3. Preferred gets total of $5.00 per share

      3. 100,000 shares of common and 20,000 shares of $2 preferred that are cumulative and no dividends have been paid out in the 3 previous years

         1. Cumulative shares have a right to receive 3 prior unpaid yrs + the current year of payments and get paid first

         2. 4 years X $2 per preferred share = $8 per share X 20,000 shares = $160,000

         3. This leaves $240,000 left over for 100,000 common shares = $2.40 per common share

   3. Which funds may be used for distribution:

      1. Earned surplus [(all earnings) (all losses)] – prior distributions

      2. Capital surplus [value of issued stock – par value]

      3. NEVER stated capital (generated by par value of issued stock).

   4. Permissive distribution – Corp can make distributions even though it lost $ last year (not enough funds in retained earnings)

   5. Invalid distributions – corp. cannot make distributions if

      1. It isinsolvent or would become insolvent as result of distrib

         1. Insolvent: unable to pay debts as they become due, OR total assets would be less than the sum of its total liabilities

      2. Nimble dividends – dividend paid out of current earnings, when there is not sufficient surplus for a dividend (not allowed by majority of states)

   6. Liability for unlawful distribution

      1. Directors personally liable for unlawful distributions that exceed what could have been properly distributed

         1. CL – strict liability

         2. MT – at least negligence

            1. not liable if approval based on good faith reliance of what financial ppl told them

      2. SHs who are actually aware of unlawfulness when receive dividend are also personally liable

6. SH Agreements to Eliminate Corporate Formalities (Closely Held Corps)

   1. Requirements:

      1. Unanimous SH election choice in Articles, by-laws, or final agreement

      2. Usually a reasonably share transfer restriction

   2. Consequences:

      1. No piercing the corporate veil even if failed to observe formalities

      2. Possible S-Corp tax status to avoid corp tax

         1. S-Corp can have no more than 100 SHs and only one class of stock

7. Professional Corporations

   1. Licensed Professionals (i.e. attorneys, accountants, medical professionals) may incorporate as Professional Corporation (P.C.)

   2. Requirements

      1. Organizers filed Articles w/name designated as “Professional Corporation”

      2. The SHs must be licensed professionals

      3. The corp may practice only one designated profession

   3. Consequences

      1. The professionals are liable personally for their own malpractice

      2. But, the professionals are NOT liable personally for each other’s malpractice or the obligations of the corp itself

8. Shareholder Liabilities

   1. General Rule – SH are not liable for corp obligations

   2. Exceptions

      1. Piercing the Corp Veil

      2. Controlling Shareholders

         1. Owe a fiduciary duty to minority SHs

         2. Liable for selling corp to a party who loots the corp, unless reasonable measures were taken to investigate the buyer’s rep and plans for the corp

         3. Liable for the sale of their shares at a premium where the premium was really paid to illegally sell the corp assets for their own benefit

      3. Close Corporations – shareholders in a close corporation (i.e. a corporation with few shareholders) are generally held to owe each other the same duty of loyalty and utmost good faith that is owed by partners to each other.

Fundamental Corporate Changes – Unusual occurrences

1. Recognized Fundamental Corporate Changes

   1. Merger (A becomes B)

   2. Consolidation (A and B become C)

   3. Dissolution (A dissolves)

   4. Fundamental Amendment of Articles

   5. Sale of Substantially All of Corp’s Assets

2. Procedural Steps

   1. Resolution by Board at a Valid Meeting

   2. Notice of Special Meeting

   3. Approval by Majority of all shares entitled to vote, and by majority of each voting group that it adversely affected by the change

      1. Exception – no SH approval required for “Short Form Merger” where a parent corp that owns 90% or more of the stock in its subsidiary merges w/the subsidiary

   4. Right of Appraisal

      1. SH who does not vote in favor of a fundamental change has the right to force the corp to buy her shares at fair value

      2. Actions by SH to perfect the right

         1. Before SH vote, file written notice of objection and intent to demand payment;

         2. Do not vote in favor of the proposed change;

         3. Make prompt written demand to be bought out

      3. If Corp and SH cannot agree on fair value, crt has power to appoint an appraiser to value the shares, binding on the parties

   5. File Notice with the State (Articles of Merger)

3. Mergers and Consolidations

   1. Requires: BOD approval of both co’s, notice to SH of both co’s, and SH approval of both co’s. (by majority of shares entitled to vote)

   2. Right of appraisal – YES for SH of both companies (some states- unless listed on national exchange)

   3. File articles of merger (or consolidation) w/ sec of state.

   4. Effect – surviving co succeeds to all rights and liabilities of the constituent company

4. Short Form Merger – 90% owned subsidiary merges into parent corp

   1. Requires: BOD approval & notice to SH of both companies but no SH approval required.

   2. Right of appraisal – SH of subsidiary only

   3. Corporation subject to duty of entire fairness (price & dealing)

5. Sale of Substantially All of the Assets of a Corp or Share Exchange.

   1. Requires: BOD approval of both companies, notice to selling co’s SHs, and approval by majority of selling corp’s SHs entitled to vote

      1. Buyer corp SH need not necessarily approve. (this is a fund change only for selling corp)

   2. Right of Appraisal – YES for SH of selling corp ONLY.

   3. Filing of articles – in share x-change, YES; transfer of assets, NO.

   4. Effect – buying corp not liable for debts of the selling corp unless

      1. the agreement provides otherwise or

      2. buying corp is a mere continuation of selling crop

6. Amendment of Articles.

   1. Requires: majority BOD approval, notice to SHs, and approval by majority of outstanding shares entitled to vote

      1. File amended articles with state.

      2. Right of Appraisal – NO but if amendment affects a class, that class must approve the amendment.

7. Voluntary Dissolution and Liquidation.

   1. Requires – BOD resolution, notice to SH and approval by majority of shares entitled to vote, or unanimous written SH agreement.

   2. File articles of dissolution and give notice to creditors.

8. Involuntary (court ordered) Dissolution and Liquidation.

   1. SH can petition court to dissolve if:

      1. Director abuse, waste of assets, misconduct, illegal or oppressive acts,

      2. SH deadlock and failure to fill a vacancy for 2 annual meetings,

      3. Director deadlock causing irreparable harm to co

         1. Court may order a buy-out of SH instead.

   2. Creditor can petition because corp. is insolvent.

   3. Winding up – after dissolution, corp stays in business to wind up (Gather assets, convert to cash, pay creditors, distribute remainder to SHs, pro rata by share unless dissolution (liquidation) preference)

Securities Laws

1. Definition of Securities –

   1. Debt securities – investor lends capital to corp.; can be made convertible/redeemable in instrument.

      1. Bonds – corp has pledged collateral to secure payment

      2. Debentures – unsecured loan

   2. Equity securities – investor buys stock and has ownership interest in corp; can be made convertible/redeemable in articles

2. State Law Liabilities. (CL)

   1. Controlling SH- one w/ maj. of shares OR min of shares but w/ working control

      1. Duty to refrain from using control to obtain special advantage or to cause corp to take action that unfairly prejudices minority SHs.

      2. Payment of premium should put SH on notice to investigate buyer

   2. Liability of Controlling SH Selling

      1. Sale to Looters – w/o making a reasonable investigation of the buyer

         1. Liable for damage to corp

      2. Disguised Sale of Corp Assets – buyer not really interest in corp

         1. Disgorge profits, liable for damages

      3. Sale of Board Position – fiduciary cannot get paid to relinquish office (but controlling SH may elect new D’s)

   3. Controlling SH cannot subject minority SHs to detriment.

      1. Must satisfy entire fairness test when dealing w/minority SHs

         1. The action must have a legitimate corp purpose

         2. Fair price

         3. Fair course of dealing

   4. Fraud – CL fraud applies to misrepresentations in the sale of stock

      1. Covers overt lies, but NOT half-truth or failure to disclose

      2. Requirements:

         1. Misrep by D

         2. Scienter

         3. Intent to induce reliance on misrep

         4. Justifiable reliance, and

         5. Damages

   5. Nondisclosure of “Special Facts” – Affirmative duty to disclose special facts in securities transactions w/another person (CL insider trading)

      1. Special facts = facts a reasonable investor would consider important in making an investment decision.

      2. Who can sue? SH w/whom insider dealt & prospective SH in min jx

      3. Damages: Price paid – Actual value after public disclosure.

      4. Corporation can sue insider to recover profits made in market trading on inside info (some states)