AGENCY

 FORMING THE AGENCY RELATIONSHIP

o Restatement 2nd of Agency §1 Agency; Principal; Agent
 (1) Manifestation of consent by principal
 (2) That the agent shall act on principal’s behalf and subject to principal’s control
 (3) Consent by the agent so to act for the principal
o Gorton v. Doty
 Parties:
 P = Gorton (father & son)
 D = Doty (teacher & car owner)
 Garst (deceased coach & driver)
 Relief Sought:
 Monetary damages for medical bills and injuries from accident
 Legal Issue:
 Whether there was an agency relationship between Garst as the agent and Doty as the principal
 Rule:
 Restatement 2nd of Agency §1 Test
 Holding:
 A principal-agent relationship did exist between Doty & Garst
 Reasoning:
 (1) Manifestation of consent because Doty volunteered the use of her car rather than driving it herself
and made it subject on the fact that Garst drove the car.
 (2) Garst was to be subject to Doty’s control because Doty set a condition on the use of the car, being
that Garst is the driver rather than one of the players.
 (3) Garst agreed to act on Doty’s behalf because Garst used the car to get back and forth to the game
and Garst was the one driving it.
o BUSINESS RELATIONSHIPS & DEALINGS
 Jenson Farms v. Cargill
 Parties:
o P = Farmers who grew and sold grain to Warren
o D = Cargill and Warren
 Relief Sought:
o Recovery of losses sustained when Warren defaulted on the contracts made with plaintiffs for
the sale of grain
 Legal Issue:
o Whether Cargill became liable as a principal on the contracts that were made by Warren and the
Farmers through its course of dealing.
 Rule:
o Restatement 2nd of Agency §1 Test & Restatement 2nd of Agency §14O
 Holding:
o There was a principal agency relationship with Cargill as the principal and Warren as the agent.
Therefore, Cargill was responsible for the unpaid debt.
 Reasoning:
o (1) Cargill manifested its consent by directing Warren to implement recommendations which
Cargill made to Warren.
o (2) Warren acted on Cargill’s behalf by getting grain for Cargill financed by Cargill.
o (3) Cargill exercised control by interfering with the internal affairs of Warren.
o Gave 9 factors, when considered together, showed a credit-debtor relationship where creditor
who assumes control of his debtor’s business becomes liable as principal for the acts of the
debtor in connection with the business
o Ultimate focus was on CONTROL.
 Principal-Agent v. Buyer-Supplier & Debtor-Creditor
 Restatement 2nd of Agency §14K Agent or Supplier
o One who contracts to acquire property from a third person and convey it to another is the agent
of the other only if agreed that he is to act primarily for the benefit of the other and not for
himself.
 Factors indicating that one is a supplier and not an agent are:
  (1) Receives fixed price for property no matter what price paid by him
 (2) Acts in own name and receives title to property later transferred
 (3) Has an independent business in buying and selling similar property
 Restatement 2nd of Agency §14O Security Holder Becoming a Principal
o A creditor who assumes control of his debtor’s business may become a principal with liability
for acts and transactions of debtor in connection with his business
 Merely exercising veto power by preventing purchases or sales above specified
amounts does not thereby become a principal
 Veto Power = power to say yes or no
 Creditor becomes a principal when it exercises de facto control over conduct of debtor
 LIABILITY OF PRINCIPAL TO THIRD PARTIES IN CONTRACT
o WHEN AN AGENCY RELATIONSHIP EXISTS: AUTHORITY TO ACT
 Restatement 2nd of Agency §7 Authority Defined
 Power of an agent to affect legal relations of a principal done in accordance with the principal’s
manifestation of consent to the agent
 Actual Expressed Authority
 Restatement 2nd of Agency §26 Creation of Express Actual Authority
o Authority to act can be created by written or spoken words or other conduct of the principal
which causes the agent to believe the principal desires him to act on the principal's behalf
 (1) Objective manifestation of the principal
 (2) The agent’s reasonable interpretation of that manifestation
 (3) The agent’s belief that she is authorized to act for the principal
 Actual Implied (Incidental) Authority
 Restatement 2nd of Agency §35 When Incidental Authority is Inferred
o Authority for acts which are incidental, usually accompany, or are reasonably necessary to
accomplish a transaction
 Turns on whether what the agent does is incidental or reasonably necessary to
accomplish a particular transaction
 Mill Street Church v. Hogan
o Parties:
 Mill Street Church hired Bill Hogan for paint job.
 Bill Hogan, acting as an agent for the church, hired his brother, Sam Hogan for help.
 P = Sam Hogan
 D = Mill Street Church
o Cause of Action:
 Sam’s ability to apply for worker’s comp was dependent on whether he was an
employee and whether he was an employee was dependent on whether Bill had the
authority to hire his brother
o Relief Sought:
 Ability to apply for Worker’s Comp
o Legal Issue:
 Whether Sam was an employee of the church
 Whether Bill had the authority to act on behalf of the church and whether that authority
extended to allow him to hire his brother
o Rule:
 Implied authority is actual authority circumstantially proven which the principal
actually intended the agent to possess and includes such powers necessary to carry out
the duties actually delegated
 It must be determined whether the agent reasonably believes because of present or past
conduct of the principal that the principal wishes him to act in a certain way or to have
certain authority; the nature of the task or job may be another factor to consider
 Implied authority must be necessary in order to implement the express authority
 The existence of prior similar practices is one of the most important factors
 Specific conduct by the principal in the past permitting the agent to exercise similar
powers is crucial
 Burden of proof is on the person claiming there was an agency and resulting authority
o Holding:
 Sam was considered an employee and was therefore entitled to workman’s comp for
his injuries
  Bill had actual implied authority to hire his brother, Sam
o Reasoning:
 In the past, the church allowed Bill to hire Sam if he needed help on a project
 Bill was never expressly told to hire the other guy that was mentioned (Gary)
 The church elder told Bill he could hire anyone he wanted to
 Bill needed to hire an assistant to complete the job properly
 Apparent Authority
 Restatement 2nd of Agency §8 Apparent Authority
o An acting agent binds the principal by transactions with third persons arising from the
manifestations to third persons
 Turns on a manifestation from the principal that reaches a third party and causes a third
party to reasonably believe that the agent is authorized to act
 With apparent authority, an agent can bind a principal even if the agent’s actions are
outside the scope of actual authority that has been granted as long as there is a
manifestation that can be traced to the principal, reaching a third party, and it is
reasonable for the third party to believe that the agent has authority, then the principal
may be bound
 Restatement 2nd of Agency §27 Creation of Apparent Authority
o (1) Objective manifestation from the principal
o (2) Which reaches a third party
o (3) Causing the third party to reasonably believe that another party is authorized to act for the
apparent principal
 Manifestation may consist of written or spoken words or other conduct
 What Constitutes a Manifestation:
 Direct communications from principal by letter/word of mouth
 Authorized statements of the agent
 Documents or other indicia of authority given by the principal to the agent
 Communications from third persons who have heard of the agent’s authority
from authorized or permitted channels of communication
 Appointing a person to a position like manager or treasurer which carries with
it generally recognized duties
 Communication to the public through signs or advertising
 Continuously employing the agent
 370 Leasing Corporation v. Ampex Corporation
o Parties:
 P = 370 Leasing Corporation
 Buyer under sales contract for computer equipment with seller
 Joyce = owner of 370
 D = Ampex Corporation
 Seller who was to deliver equipment purchased by 370 to Electronic Data
 Kays is employed by Ampex as salesman
 Mueller = employed by Ampex; Kay’s boss
 Electronic Data Systems is third corporation who had an agreement with 370 to lease
the computer equipment that was being sold from Ampex to 370
o Cause of Action:
 Breach of Contract
o Relief Sought:
 Damages for breach of contract to sell 6 computer core memories
o Legal Issue:
 Whether Kays, an Ampex salesman, had apparent authority as an agent to enter into the
contract with 370 Leasing
o Rule
 An agent has apparent authority sufficient to bind the principal when the principal
acts in such a manner as would lead a reasonably prudent person to suppose that the
agent had the authority he purports to exercise
 Absent knowledge on the part of third parties to the contrary, an agent has apparent
authority to do those things which are usual and proper to the conduct of the business
which he is employed to conduct
 o Holding:
 Kays had apparent authority to bind Ampex
o Reasoning:
 Kays was employed by Ampex with the title of salesman
 This was reasonable for Joyce, as a third party, to assume that a salesman had the
authority to bind his employer to sell
 Ampex did nothing to try and dismiss this reasonable inference
 The actions and inactions of Ampex provided a further basis for Joyce’s belief that
Kays was authorized to act on behalf of Ampex
 Inherent Authority
 Policy Reasoning = this exists because it is necessary for the protection of persons harmed by or
dealing with a servant or other agent
 Restatement 2nd of Agency §8A Inherent Agency Power
o Power of an agent which is derived solely from the agency relation and exists for the protection
of persons harmed by or dealing with a servant or other agent
 Restatement 2nd of Agency §161 Unauthorized Acts of General Agent
o A principal becomes liable for acts done on his account that usually accompany or are
incidental to transactions agent authorized to conduct
 What authority is CUSTOMARY for someone in that position/whether the authority
exercised by the agent would be considered customary or usual for someone to have in
that position
 Restatement 2nd of Agency §194 Acts of General Agents
o Principal is liable for acts of an agent which are customary for someone in that position
 Restatement 2nd of Agency §195 Acts of Manager Appearing to be Owner
o A principal is liable to third parties who an agent, who is entrusted with management of
principal’s business, enters into a transaction customary to that business even if contrary to
principal’s directions.
 Watteau v. Fenwick
o Parties:
 P = Suppliers of Cigars, Bovril and Other Articles on credit
 D = Brewers (owners of Victoria Hotel)
 Humble = former owner of Victoria Hotel & manager of pub at time of
supplies being ordered
o Relief Sought:
 Collection of an unpaid debt which was owed to the suppliers of cigars
o Legal Issue:
 Whether defendants are liable for the products purchased by Humble when Humble
was acting on behalf of defendants without the authority to do so
o Rule:
 Under inherent authority, the focus is on showing that what the agent did on behalf of
the principal was customary for someone in that position
o Holding:
 Humble, by ordering cigars and Bovril, was acting in a way that was customary for bar
owners and that the suppliers were unaware of any restrictions on his authority
 Plaintiffs won
o Reasoning:
 The court said that once it was established that the defendant was the real principal, the
ordinary doctrine as to principal and agent applies
 The principal is liable for all the acts of the agent which are within the authority usually
confided to an agent of that character, notwithstanding limitations, as between the
principal and the agent, put upon that authority
 Secret limitations between the principal and the agent cannot be used to defeat a third
party’s claim, otherwise plaintiffs would always lose cases where there was an
undisclosed principal.
 LIMITATIONS of Inherent Authority
o Rule Limited to General Agents = courts tend to restrict the use of inherent authority to
agents who fall within the category of general agents or general managers
 Restatement 2nd of Agency §3(1) General Agent
 General Agent is an agent authorized to conduct a series of transactions
involving continuity of service.
o Such as a CEO
 Restatement 2nd of Agency §3(2) Special Agent
 Special agent is an agent authorized to conduct a single transaction or a series
of transactions not involving continuity of service.
o Nogales v. Arco (supplemental case – red)
 Parties:
 P = Nogales Service Center (NSC)
 D = Atlantic Richfield Company (ARCO)
 Cause of Action:
 Breach of contract in original
 Now incorrect jury instructions
 Legal Issue:
 Whether the trial court erred in refusing to instruct the jury on inherent
authority
 Holding:
 The jury was properly instructed to not include inherent authority
 Reasoning:
 Although the evidence was that he did not have authority to grant the alleged
across-the-board discount, he did have authority to grant certain discounts such
as volume discounts, gasoline merchandising discounts and dealer temporary
aid discounts
o WHEN AN AGENCY RELATIONSHIP DOES NOT EXIST
 Ratification
 Elements of Ratification:
o (1) affirmance through words, conduct, or silence indicating consent
o (2) intent
o (3) knowledge of all material facts
 Restatement 2nd of Agency §82 Ratification
o Ratification consists in the affirmance by a person of a prior act which did not bind him but
which was done or professedly done on his account
 Restatement 2nd of Agency §83 Affirmance
o Affirmance through words, conduct, silence indicating consent
o Can be express or implied
 Express Affirmation = words or conduct
 Implied Affirmance = where someone accepts benefits at a time when it is possible to
decline to accept benefits provided the other requirements of ratification are also met.
 This can also occur through silence or inaction.
 It can also occur when someone brings a lawsuit to enforce a contract
 Restatement 2nd of Agency §91 Knowledge of Principal at Time of Affirmance
o In order for there to be valid ratification, at the time of the alleged affirmation by the principal,
the principal must know or have reason to know all the material facts related to the transaction
 Botticello v. Stefanovicz
o Parties:
 P = Anthony Botticello
 D = Mary and Walter Stefanovicz
 Walter leased to Anthony with an option to purchase without consulting Mary
o Relief Sought:
 Specific performance, possession of the premises, and damages
o Legal Issue:
 (1) whether there was an agency relationship such that Walter could bind Mary to the
contract
 (2) whether Mary ratified the contract
o Rule:
 Agency:
 Restatement 2nd of Agency §1 Test
 Ratification:
  Ratification consists in the affirmance by a person of a prior act which did not
bind him but which was done or professedly done on his account
 Ratification requires:
o Acceptance of the results of the act
o With an intent to ratify and
o With full knowledge of all the material circumstances
 In order for there to be valid ratification, at the time of the alleged affirmation
by the principal, the principal must know or have reason to know all the
material facts related to the transaction
o Holding:
 Agency Relationship:
 Walter did not act as Mary’s authorized agent in the discussions concerning the
sale of the farm
 Ratification:
 Walter may be liable to Anthony for breach of contract in the form of damages
 Mary is precluded from liability
o Reasoning:
 Agency Relationship:
 The existence of marital status cannot in and of itself prove the agency
relationship. Nor does the fact that the defendants owned the land jointly make
one the agent for the other
 Mary’s statement about the price of sale is by no means the equivalent of an
agreement to sell for that amount
 The fact that one of the spouses tends more to business matters than the other
does not constitute the delegation of power as to an agent
 Mary may have consented in Walter’s handling of many business matters but
Walter never signed any documents as agent for Mary, Mary always did so
 Ratification:
 The finding neither indicates an intent by Mary to ratify the agreement, nor
establishes her knowledge of all material circumstances surrounding the deal
 At most, Mary observed the plaintiff occupying and improving the land,
received rental payments from the plaintiff from time to time, knew that she
had an interest in the property, and knew that the use, occupancy, and rentals
were pursuant to a written agreement that she had not signed
 Receiving benefits and not rejecting the contract doesn’t constitute ratification.
 Before the receipt of benefits constitutes ratification, the other requisites for
ratification must first be present
 Estoppel
 Restatement 2nd of Agency §8B Estoppel – Change of Position
o (1) Principal allows another (who has no authority) to create appearance of authority and does
not correct the misimpression
o (2) Reasonable belief by third party
o (3) Change in position of third party in reliance
 Reliance is the key distinguishing factor between estoppel and ratification
 Hoddeson v. Koos Bros.
o Parties:
 P = Mrs. Hoddeson (shopper)
 D = Koos Bros. (furniture store)
o Cause of Action:
 Express actual authority, Implied authority, and Apparent authority
o Legal Issue:
 Whether the furniture store can be liable for an imposter deceitfully impersonating a
salesman of the store without defendant’s knowledge
o Rule:
 Estoppel
 The principal creates an appearance of authority in the purported agent
 The third party reasonably in good faith acts in reliance on such appearance of
authority
  Third party changes her position in reliance upon the appearance of authority
o Holding:
 Remand back to the trial court for new trial to decide the issue of estoppel
o Reasoning:
 The justification for estoppel is that it would be unfair to have the customer lose, due to
deception, that the proprietor allowed to exist
 Where a proprietor of a place of business by his dereliction of duty enables one who is
not his agent conspicuously to act as such and ostensibly to transact the proprietor’s
business with a patron in the establishment, the appearances being of such a character
as to lead a person of ordinary prudence and circumspection to believe that the
imposter was in truth the proprietor’s agent, in such circumstances the law will not
permit the proprietor defensively to avail himself of the impostor’s lack of authority
and thus escape liability for the consequential loss thereby sustained by the customer
 LIABILITY OF PRINCIPAL TO THIRD PARTIES IN TORT
o THE RELATIONSHIP AMONG THE PARTIES INFLUENCES LIABILITY
 Respondeat Superior
 RULE:
o A master (employer) is liable for the torts of its servants (employees)
o A master/servant relationship exists where the servant has agreed to:
 (a) work on behalf of the master AND
 (b) be subject to the mater’s control or right to control physical conduct of the servant
 Restatement 2nd of Agency §219 When Master is Liable for Torts of His Servants
o Master is subject to liability for torts of his servants committed in the scope of employment
 Employer/Employee (Master/Servant)
 Restatement 2nd of Agency §2(1) Master
o A principal who employs an agent to perform service in his affairs and who controls or has the
right to control the physical conduct of the other
 Restatement 2nd of Agency §2(2) Servant
o An agent employed by a master to perform service in his affairs whose physical conduct in the
performance of the service is controlled or is subject to the right to control by the master
 Right to Control Physical Conduct = right to control day to day operations of another
individual
 Restatement 2nd of Agency §220(2) Definition of Servant; Factors
o Extent of control over details of work (day to day operations)
o Engaged in distinct business or occupation
o Whether occupation is usually directed by employer or independently carried out
o Level of skill
o Who supplies the tools and place of work
o Length of time of employment
o Method of payment (hourly or per job)
o Is work part of regular business of employer
o Do parties believe they are creating master/servant relationship
o Is the principal in business
 Humble Oil v. Martin
o Parties:
 P = Mr. Martin & Daughters (victims)
 D = Humble Oil & Mrs. Love
 Humble owned the station & Love owned the car
 W.T. Schneider (operator of Humble Oil as an independent contractor)
 W.V. Manis (the only station employee present at the time of the accident)
o Cause of Action:
 Respondeat Superior
o Legal Issue:
 Whether or not the large oil companies could become liable for the negligence that
happened at the gas stations
 Whether the gas station operators were independent contractors or whether they were
employees of the oil companies
o Rule:
  Respondeat Superior
o Holding:
 Humble was found to be liable for the actions of Schneider and the other employees
because the court viewed Schneider as an employee and not an independent contractor
o Reasoning:
 The result turned on Humble’s legal right to control the manner in which Schneider
performed his job
 Humble closely supervised and controlled the way in which Schneider acted
 This, the court concluded, made him an employee instead of an independent contractor
 Independent Contractor
 Restatement 2nd of Agency §2(3) Independent Contractor
o A person who contracts with another to do something for him but who is not controlled by the
other nor subject to the others right to control with respect to his physical conduct may or may
not be an agent
 Agent-Type Independent Contractor = one who has agreed to act on behalf of
another, the principal, but not subject to the principal’s control over how the result is
accomplished
 Non-Agent Independent Contractor = one who operates independently and simply
enters into arm’s length transactions with others
 Hoover v. Sun Oil
o Parties:
 D = Sun Oil Company; James F. Barone; John Smilyk
 Sun is owner of service station & most equipment
 Barone is operator & independent contractor
 Smilyk is employee of Barone & caused fire
 P = Mr. Hoover (injured party)
o Cause of Action:
 Respondeat Superior
o Legal Issue:
 Whether or not the large oil companies could become liable for the negligence that
happened at the gas stations
 Whether the gas station operators were independent contractors or whether they were
employees of the oil companies
o Rule:
 Respondeat Superior
o Holding:
 Sun Oil was not liable because the court viewed Barone as an independent contractor
o Reasoning:
 The outcome turned on control
 Barone set the hours of operation himself & was allowed to sell competing products
 Franchises
 Terms
o Franchise = licensing system used in business (a contractual arrangement)
o Franchisor = party that grants franchise rights by contract
 Franchisor Obligations = license use of valuable name, logo and business system that
belongs to the franchisor
o Franchisee = party that contracts for franchise rights
 Franchisee Obligations = payment of royalties & advertising fees; must operate
within the franchise system (set forth in contract and/or operating manual)
 Murphy v. Holiday Inns, Inc.
o Parties:
 P = Kyran Murphy
 D = Holiday Inns (franchisor)
 Betsy-Len Motor Hotel Corporation (franchisee) (owner & operator of hotel)
o Cause of Action:
 Respondeat Superior
o Relief Sought:
 Damages for slip and fall accident
 o
Legal Issue:
 Whether Holiday Inn, franchisor, can be liable for damages that were caused by the
negligence of Betsy-Len, franchisee
o Rule:
 Respondeat Superior
 The existence of a master/servant relationship, which involves a deeper form of
control than does an agency relationship
 This requires control over the physical conduct
 Control over the day to day operations
o Holding:
 There was no control by Holiday Inn over the methods or details of running the
business
 As a result, the court found no master/servant relationship that was created under the
franchise agreement
 Because there was no master/servant relationship, there was no liability on Holiday
Inn’s part
 Even though there was strong control under the franchise arrangement it was not the
kind of control that gives rise to Respondeat superior liability, especially because the
accident was caused by an aspect of the operation that Holiday Inns did not have
control over.
o Reasoning:
 Control exercised by Holiday Inn was system-wide standardization control only
 It was the type of control needed to ensure uniformity of business identity, uniformity
of commercial service, and target good will within the Holiday Inn franchise system
 The regulatory provisions did not give defendant control over the day to day operation
of Betsy-Len’s motel
 While it was true that Holiday Inn was empowered to regulate the architectural style of
the buildings and the type and style of furnishings and equipment, defendant was given
no power to control daily maintenance of the premises nor business expenditures nor
charging for accommodations nor hiring/firing nor profit shares
o OTHER FORMS OF LIABILITY
 Apparent Agency in Franchise Relationship (DO NOT CONFUSE WITH APPARENT AUTHORITY)
 Apparent Agency v. Apparent Authority
o Apparent agency is a distinct concept from apparent authority.
o Apparent agency creates an agency relationship that does not otherwise exist, while apparent
authority expands the authority of an actual agent.
o Right to Control Test = the relationship that would make defendant liable requires that the
defendants have the right to control the method by which an agent performed its obligations
under the agreement
 Restatement 2nd of Agency §267 Reliance Upon Care or Skill of Apparent Servant or Other
Agent
o (1) One who represents another as his servant or agent
o (2) Causing a third party to justifiably rely on care or skill of such agent
o (3) Is liable for harm caused by lack of care or skill of such agent
 Restatement 2nd of Agency §228 General Statement of Scope of Employment Doctrine
o (1) When conduct is within the scope of employment
 Of the kind the is employed to perform
 Within authorized time and space limits
 Purpose to serve the master
 If force intentionally used, use of force is not unexpectable by the master
o (2) Conduct of a servant is not within the scope of employment if it is different in kind from
that authorized, far beyond authorized time or space limits, or too little actuated by a purpose to
serve the master.
 Restatement 2nd of Agency §229 Kind of Conduct Within Scope of Employment
o (1) To be within the scope of employment, conduct must be of same general nature as that
authorized, or incidental to the conduct authorized.
o (2) Factors to be considered for scope of employment:
 Act commonly done by servants
  Time, place & purpose of act
 Previous dealings between principal & agent
 How business is apportioned between different servants
 Act outside of enterprise of master or not entrusted to servant
 Master expectation that act will be done
 Similarity to act authorized
 Instrumentality of harm was furnished by master
 Extent of departure from normal methods
 Is act seriously criminal
 Miller v. McDonald’s Corp.
o Parties:
 P = Miller
 D = McDonalds (franchisor)
 3K Restaurants (franchisee)
o Cause of Action:
 Actual agency liability & Apparent agency liability
o Legal Issue:
 Whether McDonalds, the franchisor, can be liable for damages caused by the
negligence of 3K, franchisee
o Rule:
 Actual Agency
 There must be a right to control by McDonalds
 Control must be greater than standardization or standard setting control
 McDonalds must exercise control over the day to day operations
 The relationship that would make defendant liable requires that the defendants
have the right to control the method by which 3K performed its obligations
under the agreement
 Apparent Agency
 One who represents another as his servant or agent
 Causing a third party to justifiably rely on care or skill of such agent
 As a result, the first party who represents another as his agent can be liable for
harm caused by lack of care or skill of such agent
o Holding:
 Actual Agency
 The trial court, in granting summary judgment, gave inappropriate relief
because the jury could find that the defendant retained sufficient control over
3K’s daily operations and therefore an actual agency relationship existed
 Apparent Agency
 The trial court’s grant of summary judgment was inappropriate because there
was an issue of fact about whether defendant held 3K out as its agent
o Reasoning:
 Actual Agency
 The agreement did not simply set standards that 3K had to meet. Rather, it
required 3K to use the precise methods that defendant established
 Thus, there is evidence that defendant had the right to control 3K in the precise
part of its business that allegedly resulted in plaintiff’s injuries
 Apparent Agency
 Everything about the appearance and operation of the restaurant led plaintiff to
believe that it was connected with McDonalds
 Appeals court reversed the judgment of the lower court
 Independent Contractor EXCEPTION
 General Rule = there is no vicarious liability because Respondeat superior liability arises where there
is a master/servant or an employer/employee relationship
 EXCEPTION = where a person engages a contractor, who conducts an independent business by means
of his own employees, to do work not in itself a nuisance, he is not liable for the negligent acts of the
contractor in the performance of the contract
 Restatement 2nd of Torts §416 Work Dangerous in Absence of Special Precautions
o One who hires an independent contractor is not liable for such contractor’s negligent actions
  EXCEPTIONS to this rule
 (1) retain control of manner and means of doing work;
 (2) engages an incompetent contractor;
 (3) inherently dangerous activity
 Restatement 1st of Torts §520 Defining Ultra-Hazardous Activities
o Ultra-hazardous activities are described as one which
 (a) Necessarily involves a serious risk of harm to the person, land, or chattels of others
which cannot be eliminated by the exercise of the utmost care and
 (b) Is not a matter of common usage
 Majestic Realty v. Toti Contracting
o Parties:
 P = Majestic Realty & Bohen’s Inc
 Majestic was owner of the building
 Bohen was tenant of that building
 D = Toti Contracting & Parking Authority of the City of Paterson, NJ
 Toti was demolishing structures owned by Parking Authority
o Relief Sought:
 Compensation for damages to Majestic’s building and to Bohen’s goods
o Legal Issue:
 Whether the Parking Authority can become liable for the negligence committed by Toti
o Rule: EXCEPTION to the general rule
 (1) where the landowner retains control of the manner and means of the doing of the
work which is the subject of the contract
 If the injury occurred where there was a lot of control, the owner may be liable
 (2) where he engages an incompetent contractor
 Could be liable if incompetent
 (3) where the activity contracted for constitutes a nuisance per se (inherently dangerous
activity)
 Retained to perform inherently dangerous work
 This is the grounds where the court decides the case
o Holding:
 Taking down a building in a city neighborhood is an inherently dangerous activity
 Toti was negligent in not following procedure in an inherently dangerous activity
o Reasoning:
 When hiring an independent contractor to conduct an inherently dangerous activity, the
landowner is liable if the contractor is negligent in conducting such inherently
dangerous activities
 Toti was negligent because there was a standard procedure for taking down the
building safely and this procedure was not followed
 BREACH OF FIDUCIARY DUTY OF AGENCY RELATIONSHIP
o Restatement 2nd of Agency §1 Agency; Principal; Agent
 Agency is a fiduciary relationship
o Restatement 2nd of Agency §387 General Principle Duty of Loyalty
 Agent is subject to a duty to act solely for the benefit of the Principal in all matters relating to the agency
o DUTIES DURING AGENCY RELATIONSHIP
 Misuse of Employer Assets
 Restatement 2nd of Agency §388 Duty to Account for Profits Arising Out of Employment
o If Agent makes a profit in connection with transactions conducted by him on behalf of the
Principal, Agent must turn over profit to Principal
 Restatement 2nd of Agency §404 Liability for Use of Principal’s Assets
o Agent must pay over profit if uses assets of Principal in violation of a duty
o Agent is not liable for profits made by use of time to be devoted to principal unless he violates
duty not to act adversely or in competition with Principal
 Reading v. Regem
o Parties:
 P = Reading, a Soldier and Sargent in the Royal Army Medical Corps
 D = the Crown (English case)
o Relief Sought:
  Reading sued to recover the money taken from him by the government
o Legal Issue:
 Whether or not the employee is using asset facilities for his own profit and if so,
whether or not the Crown is entitled to the money
o Rule:
 If a servant takes advantage of his service and violates his duty of honesty and good
faith to make a profit for himself, in the sense that the assets of which he has control,
the facilities which he enjoys, or the position which he occupies, are the real cause of
his obtaining the money as distinct from merely affording the opportunity for getting it,
that is to say if they play the predominant part in his obtaining the money, then he is
accountable for it to his master
 Moonlight EXCEPTION:
 Duty of honesty and good faith.
 Court mentions moonlighting and gambling.
 Gambling does not necessarily require misuse of employer’s property.
 May be breach of contract, but not a breach of duty.
o Holding:
 Although the Crown has suffered no loss, the court orders the money to be handed over
to the Crown
o Reasoning:
 The Crown is the only person to whom the money can be properly paid
 The agent’s duty of loyalty includes not using his position as an agent and not to use
properties or facilities of the principal for the agent’s own benefit unless the agent has
received the principal’s consent
 The agent has a duty to act solely for the principal in all matters connected to the
agency including not misusing assets, facilities, or the agent’s position
 Reading misused his military uniform for his own benefit in violation of a duty of
honesty and good faith that he owed to the crown, his employer
 Competing in Same Line of Business
 Restatement 2nd of Agency §393 Competition as to Subject Matter of Agency
o Agent is under a duty not to compete with principal concerning the subject matter of the agency
 Restatement 2nd of Agency §396(a) Using Confidential Information After Termination of Agency
o After termination of agency relationship, barrier to competition ends
 General Automotive v. Singer (supplemental case – green)
o Parties:
 P = General Automotive (employer)
 D = John Singer (employee)
o Cause of Action:
 Breach of Fiduciary Duty of Loyalty
o Relief Sought:
 Disgorgement of the profits made by side business
o Legal Issue:
 Whether Singer’s consulting business on the side was competition with General
Automotive and thus a violation of his duty of loyalty.
o Rule:
 An agent owes a fiduciary duty to his principal to be bound to the exercise of the
utmost good faith and loyalty so that he does not act adversely to the interests of the
principal by serving or acquiring any private interest of his own. He is bound to act for
the furtherance and advancement of the interest of the principal.
o Holding:
 By failing to disclose all the facts relating to the orders and by receiving secret profits
from these orders, Singer violated his fiduciary duty to act solely for the benefit of
Automotive.
 Therefore he is liable for the amount of the profits he earned in his side line business.
o Reasoning:
 Singer was bound to act in a manner that was not adverse to the interests of employer
by serving or acquiring any private interests of his own
 He was bound to act for the furtherance and advancement of the interests of employer
 He did not act in this way, he acted in his own self interest
 
If singer had disclosed what was going on, especially that there was more work coming
in that could be handled, his employer might have decided to fulfill the orders
themselves by adding more employees or getting more equipment. They also could
have decided to themselves subcontract and keep the profits of such activity
o DUTIES AFTER AGENCY RELATIONSHIP
 Misuse of Confidential Information
 Restatement 2nd of Agency §395 Using or Disclosing Confidential Information
o During agency relationship, Agent has duty not to use or disclose confidential info given to him
or acquired by him during course of agency to compete with or harm principal
 Restatement 2nd of Agency §396(b) Using Confidential Information After Termination of Agency
o EXCEPTION. After termination of agency relationship, Agent has a duty not to use in
competition with Principal or to his injury trade secrets, written lists of names, or other similar
confidential matters given to him for principal’s use or acquired by agent in violation of duty
 You cannot use confidential information derived from agency relationship
 Town & Country v. Newbery
o Parties:
 P = Town & Country Cleaning Service
 D = former employees who started own service and stole former employer’s customers
o Cause of Action:
 They sued because the former employees set up a competing business by taking with
them the customer list from town and country
 This was more than the names and addresses of clients. It included lists of various tasks
that were performed for each customer and the price being charged to each customer
and the information was unique to each customer
o Relief Sought:
 Injunction and damages
o Legal Issue:
 Whether Newberry violated their fiduciary duty of loyalty when they used Town &
Country’s secret client list to take Town & Country’s clients after they left.
o Rule:
 Even where a solicitor of business does not operate fraudulently under the banner of his
former employer, he still may not solicit the latter’s customers who are not openly
engaged in business in advertised locations or whose availability as patrons cannot
readily be ascertained but whose trade and patronage have been secured by years of
business effort and advertising, and the expenditure of time and money, constituting a
part of the good will of a business which enterprise and foresight have built up.
o Holding:
 Former employees were liable because they took the customer list
 The court ordered the employees to stop using the customer list (issuing an injunction)
and they ordered that plaintiffs be paid damages for lost business
o Reasoning:
 Based on trade secrets law and implies a breach of duty of loyalty
 The former employees couldn’t engage in business at all without breach of the
confidential relationship
PARTNERSHIPS
 UPA §6(1) Partnership Defined
o An association of two or more persons to carry on as co-owners a business for profit
 DEFAULT RULES
o Default Rules = the statutory rule that the court will automatically apply unless the partis have made agreements
otherwise in a contract; the UPA consists of default rules
o CHANGING MANAGEMENT RIGHTS BY CONTRACT
 Default rules are often changed in the following areas:
 Delegating decision making to a managing partner or executive committee
 Weighting partnership voting to reflect pro rata contributions to capital
 Changing requirement of unanimous consent for certain important events
 Requiring supermajority voting for important decisions where partners feel a majority is not sufficient
 Right to expel partners of a partnership
 CATEGORIES OF PARTNERS
 o General Partners = a partnership composed of one or more persons who control the business and are personally liable
for the partnership's debts
 The most basic type of partnership
 A partnership in which all partners participate fully in running the business and share equally in profits & losses
 The partners' monetary contributions may vary
o Limited Partners = persons who contribute capital and share profits but who cannot manage the business
 They are liable only for the amount of their contribution
 Purpose is to enable persons to invest money in business without taking an active part in managing the business
 CREATING A PARTNERSHIP
o PARTNERSHIP CHARACTERISTICS
 UPA §18(a) Rules Determining Rights and Duties of Partners: Equal Sharing of Profits and Losses
 Partners share equally in profits and losses
 UPA §18(e) Rules Determining Rights and Duties of Partners: Equal Control Rights of Partners
 All partners have equal rights in the management and conduct of the partnership business
 UPA §7(4) Rules for Determining the Existence of a Partnership: Sharing of Profits
 Share of profits is prima facie evidence of partnership but not if received as wages of an employee or as
interest on a loan
 Fenwick v. Unemployment Compensation Commission
 Parties:
o P = Unemployment Compensation Commission
o D = John Fenwick (entered into business partnership with Arline Chesire)
 Legal Issue:
o Whether Chesire was in fact a partner or whether she continued to be an employee, even after
the date the partnership agreement was signed
 Rule:
o Existence of Partnership - Judicial Factors
 Intention
 Sharing of Profits
 Sharing of Losses
 Contribution of Capital and Share in Capital Upon Dissolution
 Control of Business
 Language in Agreement
 Conduct Towards Third Parties
 Holding:
o Chesire was an employee, not a partner
o Even though there was a partnership agreement, the court viewed it as not controlling
o Instead, it looked at the nature and substance of the relationship
 Reasoning:
o The court looked to the definition of partnership and said the agreement was nothing more than
one to provide a method of compensating the girl for the work she had been performing as an
employee
o She had no authority or control in operating the business, she was not subject to losses, and she
was not held out as a partner
o PARTNERSHIP BY ESTOPPEL
 UPA §16 Partnership by Estoppel
 If a person represents himself as a partner in an enterprise or allows another to so represent him and
 Third party relies on that representation and enters into a transaction with the supposed partnership
 That person is liable to third party on that transaction
 Young v. Jones
 Parties:
o P = investors who lost money by sending contributions to a South Carolina bank
o D = Price Waterhouse US; Price Waterhouse Bahamas
 Cause of Action:
o Partnership by Estoppel
 Legal Issue:
o Whether there was a partnership in fact or an actual partnership that was created between Price
Waterhouse Bahamas and Price Waterhouse US
o Whether there was a partnership by estoppel between the two entities
  Rule:
o Actual partnership/partnership in fact
 Requires proof that there was an arrangement between the 2 entities to enter into a
business as co-owners and to share profits and control
o Partnership by Estoppel
 (1) If a person represents himself as a partner in an enterprise (or allows another to so
represent him) and
 (2) Third party relies on that representation and enters into a transaction with the
supposed partnership (has given credit)
 (3) That (first) person is liable to the third party on that transaction
 Necessary to have representation by Price Waterhouse US that it is in partnership with
Price Waterhouse Bahamas and that plaintiffs relied on that representation and entered
into a transaction with the partnership
 Holding:
o There was no actual partnership/partnership in fact between the entities
o There was also no evidence of partnership by estoppel
o Therefore, both of plaintiffs’ arguments fail
 Reasoning:
o On the actual partnership issue, the court stated that no evidence had been presented that Price
Waterhouse US and Price Waterhouse Bahamas were in fact partners. They were separately
organized based on the evidence that the entities presented
o On the partnership by estoppel issue, the court stated that plaintiffs did not assert that they had
seen or relied on the brochure that was introduced as evidence. It was something that the
plaintiffs’ lawyers had discovered after the fact.
 The court said that nothing in the brochure suggested that there would be liability for
all for the negligence of one
 There was also no evidence of a representation that the firms were partners
 There was no evidence that the plaintiffs relied by giving credit to the partnership
because the plaintiffs’ sent money to SAFIG via the SC bank, not to Price Waterhouse.
There was also no evidence that Price Waterhouse US had anything to do with the audit
letter or the transaction
 UPA §15 Nature of Partner’s Liability: Joint and Several Partner Liability
 All partners are jointly and severally liable for debts and obligations of the partnership
o LIMITED PARTNERSHIPS
 ULPA §303(a) No Liability as Limited Partner for Limited Partnership Obligations
 A debt, obligation, or other liability of a limited partnership is not the debt, obligation, or other liability
of a limited partner. A limited partner is not personally liable, directly or indirectly, by way of
contribution or otherwise, for a debt, obligation, or other liability of the partnership solely by reason of
being or acting as a limited partner, even if the limited partner participates in the management and
control of the limited partnership. This subsection applies regardless of the dissolution of the
partnership
 RULPA §303 Liability to Third Parties
 (a) Limited partner is NOT LIABLE FOR OBLIGATIONS of limited partnership unless
o Limited partner is also a general partner OR
o Limited partner takes part in the control of the business
 Limited partner is liable to a third party who transacts business with the limited
partnership and who reasonably believes based on the limited partner’s conduct, that
she is a general partner
 (b) Limited partner does not participate in control solely by consulting/advising with general partner on
partnership business
 Differences from General Partnership:
 Formalities: Need to file certificate of limited partnership
 Two Categories of Partners: General Partners and Limited Partners
 Personal Liability: Limited liability for Limited Partners & Unlimited for General Partners
 Management: Management is in General Partners; Limited Partners are passive investors
 Profit and Loss Sharing: Limited Partners share in profits and losses based on their contributions
 Dissolution: Dissociation of Limited Partner does not dissolve the partnership
 Name Requirement: Must signify status as limited partnership.
  Holzman v. De Escamilla (supplemental case – blue)
 Parties:
o P = Lawrence Holzman (trustee of bankruptcy)
o D = Ricardo De Escamilla; James L. Russell; H.W. Andrews
 De Escamilla = claimed general partner
 Russell & Andrews = claimed limited partners
 Company = Hacienda Farms Limited Partnership
 Legal Issue:
o Whether Russell and Andrews, who were under the partnership agreement limited partners, are
liable to the creditors as if they were general partners
 Rule:
o Limited partners do not have joint and several liability for debts and obligations of the limited
partnership that exceed the assets of the limited partnership, that are beyond the partnership’s
ability to pay
o The general partner has unlimited personal liability for such debts and obligations, but not the
limited partners under ordinary circumstances
o EXCEPTION:
 A limited partner shall not become liable as a general partner, unless in addition to the
exercise of his rights and powers as a limited partner, he takes control of the business.
 Holding:
o The court found that Russell and Andrews, although named as limited partners in the
partnership agreement, were liable to the creditors as if they were general partners
 Reasoning:
o The limited partners exercised control over the business to be found liable
o The two men had absolute power to withdraw all the partnership funds in the banks without the
knowledge or consent of the general partner.
o Either Russell or Andrews could take control of the business from De Escamilla by refusing to
sign checks for bills contracted by him and thus limit his activities in the management of the
business.
o They required him to resign as manager and selected his successor.
 FIDUCIARY OBLIGATIONS OF PARTNERS
o DUTY OF LOYALTY
 UPA §21 Partner Accountable as a Fiduciary: Fiduciary Duty of Loyalty
 A partner must account for or hold as trustee profits or benefits derived from any transaction connected
with partnership or use of its property
o The remedy for breaching the fiduciary duty of loyalty is disgorgement of those profits
 RUPA §409(b)/§404(b) Fiduciary Duty of Loyalty
 Duty of loyalty is to account and hold as trustee profits/benefits derived from a use of partnership
property including partnership opportunity
 The duty of loyalty includes
o Refraining from conflict of interest transactions AND
o Refraining from competing before dissolution of the partnership
 Duties Included Under the Duty of Loyalty
 (1) duty not to compete with the partnership before dissolution
 (2) duty to account for profits from use of partnership property and from taking a partnership
opportunity
 (3) duty not to act adversely to the partnership in the conduct of partnership business
 Meinhard v. Salmon
 Parties:
o P = Mr. Meinhard (silent partner who provided money for renovations to the hotel)
o D = Walter J. Salmon (lessee) (manager of the building)
o Louisa Gerry (lessor) (owned Hotel Bristol)
o Eldridge Gerry (son of Louisa; became the owner of the property & started new project)
 Relief Sought:
o Inclusion in the new lease
 Legal Issue:
 oWhether a co-partner is required to inform their other partner of a business opportunity that
occurs as a result of participation in a joint venture.
 Holding:
o Salmon breached a fiduciary duty of loyalty to Meinhard by taking the lease
 Reasoning:
o Joint ventures, like co-partners, owe to one another the duty of the finest loyalty
o It was a duty that involved not honesty alone but the punctilio of an honor the most sensitive
standard of behavior. It is unbending and inveterate, it is uncompromisingly rigid
o The standard here is especially high here because Salmon was not just involved in a joint
venture, he was also serving as the manager
o The court viewed the joint venture as covering this opportunity because the keystone of the
project was Hotel Bristol
o Salmon was approached because the owner didn’t know of the existence of Meinhard
o Eldridge would have approached both parties had he known of Meinhard
o DUTY OF CARE
 RUPA §409(c)/§404(c) Fiduciary Duty of Care
 Partner must not act in a manner that is grossly negligent or reckless or engage in intentional
misconduct or knowing violation of the law
o The duty of care is a responsibility that partners have to act in a diligent and careful way when
conducting business on behalf of the partnership
o DUTY OF DISCLOSURE
 UPA §20 Duty of Partners to Render Information
 Partners shall provide on demand true and full information of all things affecting the partnership to any
partner
 UPA §19 Partnership Books
 Partners may inspect and copy partnership’s books
 RUPA §403 Partner’s Rights and Duties With Respect to Information
 Partners may inspect and copy books and records of the partnership
 Partner entitled to information from other partners and partnership that is needed for exercise of
partner’s rights and duties without making demand
 Partner entitled to other information upon demand
o DUTY OF GOOD FAITH
 UPA §31(d) Causes of Dissolution: Fiduciary Duty of Good Faith in Expelling Partner
 Dissolution is caused without violation of the partnership agreement by expulsion of any partner from
the business bona fide in accordance with such power conferred by the agreement between the partners.
o There is a duty to use good faith when partners try to expel another partner from the partnership
 PARTNERSHIP RIGHTS
o IN FINANCIAL INVESTMENT AND RETURN
 UPA §18(a) Rules Determining Rights and Duties of Partners: Equal Sharing of Profits and Losses
 Partner has a right to repayment of contribution
 Right to share equally in profits and surplus after payment of liabilities
 Obligation to contribute to losses sustained by partnership according to such partner’s share in profits
 UPA §18(b) Rules Determining Rights and Duties of Partners: Indemnity Against Expenses and Liability
 Right to indemnity against expenses and liabilities incurred in partnership business
o Indemnity = a right to be made whole
o IN PROPERTY
 UPA §8 Partnership Property
 (1) All property originally brought into the partnership or acquired for the partnership is partnership
property.
 (2) Property acquired with partnership funds is partnership property.
 (3) Title to real property can be acquired in partnership name but must convey in partnership name
 (4) A conveyance to a partnership in the partnership name passes the entire estate of the grantor unless
contracted otherwise
 UPA §24 Extent of Property Rights of a Partner (3 things that property rights of a partner consist of)
 Property rights of a partner are
o (1) his rights in specific partnership property,
o (2) his interest in the partnership, and
 o (3) his right to participate in the management.
 UPA §25 Nature of a Partner’s Right in Specific Partnership Property (nature of a partner’s right)
 (1) Partner is co-owner with partners of specific partnership property holding as a tenant in partnership.
 (2)(a) Partner has equal rights with his partners to possess specific partnership property for partnership
purposes (but not for other purposes unless other partners consent).
 UPA §26 Nature of Partner’s Interest in the Partnership (nature of partner’s interest)
 Partner’s interest in the partnership is his share of the profits and surplus and is personal property.
 UPA §27 Assignment of Partner’s Interest
 Assignee may only receive profits of assignor, but may not participate in management of partnership, or
require information or account of partnership transactions, or inspect partnership books unless there is
an agreement with the other partners
 Putnam v. Shoaf (supplemental case – purple)
 Parties:
o P = Mrs. Putnam & husband (owned 50%; he died; she sold his 25% & she kept her 25%)
o D = Mr. and Mrs. Shoaf (took over Mrs. Putnam’s 50% partnership share)
o Frog Jump Gin Company (company which partnership existed under)
o Mr. and Mrs. Charlton (final 50% share)
 Legal Issue:
o Whether Putnam was entitled to half of the total recovery for the embezzlement after she sold
her ownership interest in the partnership
 Rule:
o When a partner clearly evinces an intention to get out of the partnership, she relinquishes any
right to her share of the profits, even those that come from a judgment with respect to
dealings that occurred while she was a member of the partnership.
o This also shields that partner for liability for the same kind of situation. 
 Holding:
o Putnam gave up her interest and therefore doesn’t have a right to half of the money.
o You can’t claim specific property rights later on, unless they were specified in the agreement.
Only economic rights may be transferred.
 Reasoning:
o Putnam can only have transferred her economic rights she had no rights in specific pieces of
partnership property
o The partnership itself owned the assets
o Because UPA says each partner are owners of specific partnership property, it doesn’t matter
that the claim against the bookkeeper wasn’t named as specific property when transferring
o Putnam intended to convey her interest as a partner, and when she did, she lost her right to any
partnership property
o As a partner, you have rights in specific partnership property. That is the partnership tenancy
possessory right of equal use or possession by partners for partnership purposes. The right is
incident to the partnership and the possessory right does not exist absent the partnership.
o A partner owns no personal specific interest in any specific property or asset of the partnership.
o IN MANAGEMENT & VOTING
 One Partner = one vote, even if contributions are not equal
 UPA §18(h) Rules Determining Rights and Duties of Partners: Matters Decided by Majority Vote
 Any difference arising as to ordinary business matters connected with the partnership business may be
decided by a majority of the partners
o Some matters are decided by majority vote such as ordinary business decisions
 Contravene any agreement of the partners requires unanimous consent
 UPA §9(3) Partner Agent of Partnership as to Partnership Business: Full Partner Consent Required
 Matters requiring unanimous consent:
o Assign partnership property in trust to creditors/secure payment of debt
o Dispose of good will of partnership
o Do an act making it impossible to carry on partnership’s ordinary business
o Confess a judgment against partnership
o Submit a claim involving the partnership to arbitration
 UPA §18(g) Rules Determining Rights and Duties of Partners: Consent Requirement
 No person may become member of partnership without the consent of all the partners.
 o Admitting new partners requires unanimous consent
 UPA §18(e) Rules Determining Rights and Duties of Partners: Equal Control Rights of Partners
 All partners have equal rights in management
 UPA §9(1) Partner Agent of Partnership as to Partnership Business: Each Partner is an Agent
 Each partner is an agent for partnership and binds the partnership when apparently carrying on in the
usual way the business of the partnership
o EXCEPTION = Partner has no authority to act for partnership in the matter and third party
knows that
 UPA §15 Nature of Partner’s Liability: Joint and Several Partner Liability
 Partners are jointly and severally liable for debts and obligations of partnership
 National Biscuit Company v. Stroud
 Parties:
o P = National Biscuit Company
o D = Stroud’s Food Center (general partnership between C.N. Stroud & Earl Freeman)
 Legal Issue:
o Whether Stroud’s notice was sufficient to rid himself of liability for Freeman’s acts which the
partners disagreed about.
 Rule:
o Partners as Agents
 The acts of a partner, if performed on behalf of the partnership and within the scope of
its business, are binding upon all co-partners, regardless of the notice given
 Holding:
o Because buying bread was an ordinary matter connected with the partnership business, and
within its scope, Freeman's purchase bound the partnership and his co-partner Stroud
 Reasoning:
o All partners are jointly and severally liable for the acts and obligations of the partnership
o Each partner is an agent for partnerships and binds the partnership when apparently carrying on
in the usual way the business of the partnership
o Notice was not effective to rid oneself of liability
o Ordering bread is an ordinary business decision so majority vote was not enough and
partnership was not bound
 PARTNERSHIP DISSOLUTION
o UPA §29 Dissolution Defined
 Dissolution of a partnership is the change in the relation of the partners caused by any partner ceasing to be
associated in the carrying on as distinguished from the winding up of the business.
o UPA §30 Partnership Not Terminated by Dissolution
 Partnership is not terminated upon dissolution but continues until winding up of business is completed
 Dissolution is not the end of the partnership but it is the beginning of the process of winding off which
will eventually end the partnership
o JUDICIAL DISSOLUTION
 UPA §31(2) Causes of Dissolution: Wrongful Dissolution
 With violation of the partnership agreement, if dissolution not permitted by any other section, by
express will of any partner at any time
o Business becomes unlawful
o Death or bankruptcy of partner or bankruptcy of partnership
o Court decree
 UPA §32 Dissolution by Decree of Court
 Upon application, court shall decree a dissolution whenever: (grounds for court’s discretion)
o If partner is insane or unable to meet requirements of partnership agreement
o If partner guilty of such conduct as prejudices carrying on the business
o Partner willfully or persistently breaches the agreement or makes it not reasonably practicably
to carry on business with him
o Business can only be carried on at a loss
 RUPA §801(5) Events Causing Dissolution and Winding Up of Partnership Business
 Partnership is dissolved on application by a partner through judicial determination that
o Economic purpose of partnership is likely to be reasonably frustrated
 o
Another partner has engaged in conduct relating to the partnership business that makes it not
reasonably practicable to carry on the business in partnership with that partner OR
o It is not otherwise reasonably practicable to carry on the partnership business in conformity
with the partnership agreement
 UPA §38(2) Rights of Partners to Application of Partnership Property: Right to Damages and to
Continue the Business
 If dissolution in violation of partnership agreement occurs:
o Non-breaching partner may claim for damages against breaching partners and may continue the
business and possess the partnership property for that purpose
 If business continued (meaning the non-breaching party decides to continue the business), breaching
partner entitled to receive value of her interest less damages but not including good will of partnership
 Owen v. Cohen
 Parties: partners in bowling-alley business
o P = Owen
o D = Cohen
 Relief Sought:
o Judicial dissolution of the partnership and return of $6986.63 loan.
 Legal Issue:
o Whether or not the evidence warrants a decree of dissolution of the partnership
 Rule:
o Court shall decree a dissolution whenever
 A partner has been guilty of such conduct as tends to affect the carrying on of the
business
 A partner willfully or persistency commits a breach of the partnership agreement, or
otherwise so conducts himself in matters relating to the partnership business that it is
not reasonably practicable to carry on the business in partnership with him
 Other circumstances render a dissolution equitable
o Courts of equity may order the dissolution of a partnership where there are quarrels and
disagreements of such a nature and to such extent that all confidence and cooperation between
the parties has been destroyed or where one of the parties by his misbehavior materially hinders
a proper conduct of the partnership business
 Holding:
o The court says that judicial dissolution was an appropriate remedy because of Cohen’s
misconduct and disagreements which affected the carryon of the business
o The court also ordered that the loan be repaid first since Cohen was at fault
 Reasoning:
o Cohen’s conduct is what caused the dissolution because he made it impossible to continue the
partnership which thereby made it impossible to repay the loan through the profits of the
partnership
o Evidence Supporting Dissolution:
 The disharmony between the partners substantially effected the business
 Most of the disharmony stemmed from Cohen trying to be dominating partner and
humiliating Owen to employees and customers
 Cohen never did much work for the business but wanted Owen to do all the actual work
and labor
 Cohen told a mutual friend that Owen would not be there very long
 Cohen wanted to open a gambling room in the bowling alley, Owen did not
 Cohen started taking small amounts of money from the business for himself
 It’s Cohen’s fault that the partnership is being dissolved, and therefore cannot continue
making profits, so Owen gets his contribution back
o DURATION OF PARTNERSHIP & DISSOLUTION
 Duration Terms
 At Will = no limitation on duration or length of the partnership (default rule)
 Fixed Term = specific amount of time
o Express Term = if parties agreed to stay together for a stated number of years
o Implied Term = the court would need to see that there is strong evidence showing the
following:
 Until certain sum of money earned
  One or more partners recoup investment
 Certain debts are paid
 Certain property disposed of on favorable terms
 UPA §31(1) Causes of Dissolution: Rightful Dissolution
 (1) Without violation of partnership agreement: (AKA RIGHTFUL DISSOLUTION)
o At the end of a fixed term or with consent of all partners if partnership for a term
o By express will of any partner if partnership at will
o Upon expulsion of a partner under a clause in the partnership agreement
 Even though it is possible to terminate an at will partnership by one partner giving
notice to the other, that right must be exercised in good faith and not with the intent to
get rid of the other partner for that partner’s gain
 UPA §38(1) Rights of Partners to Application of Partnership Property: Right to Require Liquidation
 If dissolution caused in any way except in breach of agreement, each partner may request liquidation
o Liquidation = the assets of the partnership are gathered and sold and the proceeds are applied
to pay off partnership liabilities. Any leftover money is paid to the partners in liquidation
 Page v. Page (supplemental case – orange)
 Parties:
o Partners in a linen supply business
 P = HB (argues at-will partnership)
 D = George (argues term partnership)
 Cause of Action:
o Good faith
 Legal Issue:
o Whether plaintiff is entitled to dissolve the partnership by giving notice at this time
o Whether the partnership was at will or for fixed term
 Rule:
o A partnership may be dissolved by the express will of any partner when no definite term or
particular undertaking is specified (at will), but must be done in good faith.
o A partner is not bound to remain in a partnership, regardless of whether the business is
profitable or unprofitable
 Holding:
o Plaintiff has the power to dissolve the partnership by express notice to defendant

o
The partnership was at will, however a partner may not freeze out a partner and appropriate a
business to his own use; he cannot dissolve a partnership to gain the benefits of the business for
himself unless he fully compensates his co-partner for his share of the prospective business
opportunity
 Reasoning:
o The evidence was not strong enough to imply the term
o This showed only that the parties hoped to make a profit and be able to pay for expenses but the
testimony did not show that this was a partnership for a term
o The court said that there was nothing on the trial court record showing evidence of bad faith nor
was there evidence of any future profit or gain
o LAW PARTNERSHIP DISSOLUTION
 UPA §18(f) Rules Determining Rights and Duties of Partners: Extra Compensation
 A dissolved partnership continues until the winding up of unfinished partnership business. No partner
(except a surviving partner) is entitled to extra compensation for services rendered in completing
unfinished business.
 Jewel v. Boxer (supplemental case – dark pink)
 Parties:
o P = Howard Jewel (30%); Brian Leary (16%)
o D = Stewart Boxer (27%); Peter Elkind (27%)
 Legal Issue:
o How to allocate legal fees that are received after the date of dissolution by cases that began
before dissolution but weren’t resolved until after so payment didn’t come until after
 Rule:
o Rule Against Extra Compensation
  Under the UPA, a dissolved partnership continues until the winding up of unfinished
partnership business. No partner (except a surviving partner) is entitled to extra
compensation for services rendered in completing unfinished business. UPA §18(f)
 After dissolution of a law partnership, income received by the former partners from
cases unfinished at the time of dissolution is to be allocated on the basis of the partners’
respective interests in the dissolved partnership, not on a quantum meruit basis
Holding:
o In the absence of a partnership agreement, the attorneys’ fees received on cases in progress
upon dissolution of a law partnership are to be shared by the former partners according to their
right to fees in the former partnership, regardless of which former partner provides legal
services in the case after the dissolution.
o The fact that the client substitutes one of the former partners as attorney of record in place of
the former partnership does not affect this result
 Reasoning:
o The fees should not be allocated on this basis and should be allocated based on the partners’
respective interests in the old firm
o This was regardless of whether the former partner in the old firm provided legal services in the
case after the date of dissolution
o Legal fees were to be distributed based on the original percentages
o DISTRIBUTION FOLLOWING DISSOLUTION
 UPA §40(b) Rules for Distribution: Payment of Liabilities Ranking
 Payment to creditors other than partners
 Payment to partners other than for capital or profits
 Payment to partners for capital
 Payment to partners for profits
 UPA §40(d) Rules for Distribution: Partnership Contribution
 Partners must contribute the amount necessary to satisfy the liabilities.
o Partnerships establish capital accounts for each partner where the following are recorded:
 Additions = initial capital contributions and additional capital contributions, fair market
value of contributed assets at time of contribution, profits allocated to partners from
ongoing activities
 Subtractions = interim withdrawals of capital, losses allocated to partners from ongoing
activities
 Post-contribution appreciation or depreciation of contributed asset does not affect
capital accounts.
 UPA §38(2)(a)(II) Rights of Partners to Application of Partnership Property: Right to Damages and to
Continue the Business
 Each partner who has not caused dissolution wrongfully shall have the right to damages for each partner
who has caused the dissolution wrongfully.
 Liquidation v. Consolidation
 Default Rule = upon dissolution caused in any way (except in breach of partnership agreement) any
partner may request liquidation.
 Buy-Sell Agreements = allows partners to part ways based on negotiated terms agreed to upon
formation of partnership
 In a rightful dissolution, where the partnership is liquidated, the assets are sold.
o Out of the proceeds, partners receive value of their capital accounts after creditors and partner
loans are paid off.
o Profits are what remains and that is divided according to the default rule of equal sharing or as
agreed by the partners.
 In a wrongful dissolution, settling among partners is the same except breaching partner share is
decreased by damages
CORPORATIONS
 THE INCORPORATION PROCESS
o CHARACTERISTICS
 Formalities Required
 Limited Liability
 Free Transferability
 Continuity
  Centralized Management
 Board of Directors = charged under state corporation law statutes for running the business and setting
policies and exercising oversight functions
 Officers of Corporations = oversees day to day operations; gets authority from shareholders
 Double Taxation
o STEPS IN SETTING UP A CORPORATION
 Choice of Corporate Form
 Choice of State of Incorporation
 Reserve Corporate Name
 Draft, Sign and File Certificate of Incorporation
 Hold First Meeting of Directors
 Issue Shares and Accept Paid in Capital
 Take Steps to Qualify as a Foreign Corporation in all States Where Corporation will be Doing Business
o CERTIFICATE OF INCORPORATION & BYLAWS
 DGCL §102 Contents of Certificate of Incorporation
 Mandatory Provisions = must be included or else it will not be accepted
o Corporate name, Address, Business/Purpose of corporation, Capitalization structure,
Incorporators’ names and addresses, Directors’ names and addresses
 Optional Provisions = can be included but isn’t required
o Provisions on management and provisions limiting powers of corporation, directors,
shareholders, Preemptive shareholder rights (aka anti-delusion provisions), Provisions changing
the voting rules of DGCL, Limit on duration of business, Exceptions to limited liability of
shareholders, Limits on monetary damages for director breach of fiduciary duty
 DGCL §108 Organization Meeting of Incorporators or Directors Named in Certificate of Incorporation
 By-laws adopted at organization meeting of directors or incorporators
 DGCL §109 Bylaws
 May contain provisions on conduct of affairs, rights or powers of shareholders, directors, officers
o PARTIES INVOLVED
 Shareholders = the individuals who have an ownership interest in the business by owning equity shares or
stock shares in the corporation; they have voting rights; they typically do not have strong control rights in the
management of the corporation; delegate to directors; aka stockholders
 Directors = individuals who make important policy and business decisions on behalf of corporation; limited in
number; cannot handle day-to-day operations; delegate to officers
 Officers = take care of the day to day operations which the directors delegate to them
 Incorporators = people who are going to incorporate the business by filing the certificate of incorporation;
they do not have to play a significant role in the business and they do not have to become shareholders,
directors, or officers
o INCORPORATORS
 DGCL §101 Incorporators; How Corporation is Formed; Purposes
 Any person may incorporate a corporation by filing certificate with Division of Corporations of
Secretary of State
 DGCL §103 Execution, Acknowledgement, Filing, Recording and Effective Date of Original Certificate of
Incorporation and Other Instruments; Exceptions
 Signed & dated, pay filing fees
 DGCL §107 Powers of Incorporators
 If no directors named in certificate, incorporators will manage the business until directors are elected
o FILING & AMENDMENT
 Filing
 DGCL §101(a) How Corporation is Formed; Purposes
o File certificate of incorporation with the secretary of the state
o Must be signed, dated, and filed
o Filed documents are a matter of public record
 DGCL §131 Registered Office in State; Principal Office or Place of Business in State
o Registered office required; may or may not be place of business of corporation
 DGCL §106 Commencement of Corporate Existence
o Corporation exists from the date of filing until dissolution
 Amendments
 The articles of incorporation may be amended at any time; 3 step process is normally involved:
 o (1) the board of directors must recommend the amendment to the shareholders
o (2) the shareholders must approve the amendment
o (3) the amendment must be filed with the secretary of state’s office
 DGCL §241 Amendment of Certificate of Incorporation Before Receipt of Payment For Stock
o (a) Before getting any payment for stock, corporations may amend its certificate of
incorporation at any time, in any respects, as long as its amended certificate of incorporation
contains only lawful provisions to insert in an original certificate of incorporation.
o (b) Amendments must be adopted by majority of incorporators or directors, whichever
applicable. Must provide certificate of no stock payment or members. Amendment is effective
as to original filing date, except if people are substantially adversely affected.
o (c) Applies to nonstock corporation before having members and all references to directors are
references to members of the governing body of the corporation.
 DGCL §242 Amendment of Certificate of Incorporation After Receipt of Payment For Stock;
Nonstock Corporations
o (a) After receiving payment for any stock, or after a nonstock corporation has members, it may
amend its certificate of incorporation, from time to time. In particular, without limitation upon
power of amendment, a corporation may amend its certificate of incorporation, from time to
time, to:
 (1) Change its corporate name; or
 (2) Change, enlarge or diminish the nature of business or corporate powers and
purposes; or
 (3) Increase/decrease or reclassify authorized stock by changing value, rights,
classification, or combining shares; or
 (4) Cancel/affect the right of shareholders to receive dividends; or
 (5) Create new classes of stock having rights and preferences to the stock of any class,
whether issued or unissued; or
 (6) Change the period of its duration; or
 (7) Delete:
 a. Provisions of original certificate of incorporation naming incorporators,
initial board of directors and original subscribers for shares; and
 b. Provisions in amendments to the certificate of incorporation which are
necessary to effect change of stock if the change is effective. Any changes are
effected by an amendment.
o (b) The manner in which amendments shall be made and effected.
o (c) An amendment to the certificate of incorporation may provide that at any time before
effectiveness, with authorization, the board of directors may abandon the amendment without
further action by shareholders or members.
o DISSOLUTION
 DGCL §275 Dissolution Generally; Procedure
 (a) & (b) Resolution to dissolve by majority of the old board plus vote of majority of outstanding stock
entitled to vote, and filing of Certificate of Dissolution with Secretary of State, OR
 (c) All shareholders consent to dissolution in writing and filing of Certificate of Dissolution with
Secretary of State
 (d) Certificate of Dissolution must be executed, acknowledged & filed in accordance with DGCL §103;
 (d) Minimum contents:
o Name of corporation;
o Date dissolution authorized;
o Whether authorized under (a) and (b) or under (c);
o Names and addresses of directors and officers; and
o Filing date of original certificate of incorporation
 (f) Corporation will be dissolved upon certificate becoming effective in accordance with DGCL §103
 LIABILITY
o GENERAL RULE = corporations that are under common ownership are not responsible for the debts of other affiliates
o PROMOTER’S LIABILITY
 Promoters = refers to someone who has an economic interest in setting up the enterprise and who make take
certain actions in setting up the business prior to the filing of the certificate of incorporation
 Fiduciary Duties
 Problem of self-dealing
  Promoter has status akin to joint ventures or partner
 Duties owed among promoters and to corporation to be formed
 It is a breach of fiduciary duty to act on behalf of interest of self instead of corporation
 Liability for Pre-Incorporation Contracts
 If promoter forms the corporation later on:
o The corporation can become a party to the contract if they adopt it through formal board
resolution or implicitly if the corporate directors or officers who have authority to take action
on behalf of the corporation knew of the advantage in the contract
o The promoter can become liable for pre-incorporation contract
 Restatement 2nd of Agency §326 Principal Known to be Nonexistent or
Incompetent
 Purported agent (promoter) acting for a non-existent principal (corporation yet
to be formed) can become a party to the contract so the purported agent
(promoter) can be liable unless otherwise agreed
o If no corporation is formed, the defective corporation is still liable even if process was
incomplete or a different corporation resulted
 Corporation by Estoppel
 TEST = were substantial rights affected by the fact that a corporation other than what was originally
contemplated was formed or no corporation was formed at all?
 Would earn a windfall if allowed to evade liability based on absence of incorporation
 Person acted as though he was dealing with a corporation
 De Facto Corporation
 Promoters tried in good faith to incorporate and
 Had a legal right to do so and
 Acted as a corporation
 But somewhere along the line there was a defect and the corporation was never validly formed
o ENTERPRISE LIABILITY & PIERCING THE CORPORATE VEIL
 Enterprise Liability
 Enterprise Liability = an EXCEPTION to the general rule claiming that if the owner of the multiple
corporations doesn’t keep them separate, then the court shouldn’t respect that corporate separation and
all assets of all corporations should be available to creditors
 Treats all corporations as one single entity so that all assets are available to a creditor
 TEST = plaintiff has to prove that defendant does not respect the separate identities of the corporation
and the corporations were not separately operated when it came to the assignments, use of bank
accounts, ordering of supplies and other similar matters
 Piercing the Corporate Veil
 Piercing the Corporate Veil = a judicially created EXCEPTION to the general rule which holds that a
shareholder cannot be held liable for debts and obligations of the business beyond its available assets
 Only used when individuals are the shareholders of corporations; not used when a large corporation has
many shareholders
 Shareholder’s personal assets may be available to creditor who is seeking to recover from the personal
assets of a shareholder
 Plaintiff must allege that the shareholder has ignored the existence of the corporation and establish
some proof of wrongdoing or injustice that would result from allowing limited liability to stand under
the circumstances
 Reverse Piercing = creditor seeks to recover debts owned by the corporation’s owner from other
corporations assets
 Van Dorn TEST:
o A corporate entity will be disregarded and the veil of limited liability pierced when two
requirements are met:
 (1) Unity of Interest/Alter Ego. There must be such unity of interests and ownership
that the separate personalities of the corporation and the individual or other corporation
no longer exist; and
 (2) Fraud/Injustice. Circumstances must be such that the adherence to the fiction of
separate corporate existence would sanction a fraud or promote injustice
 (3) OPTIONAL. Assumption of Risk. Did the creditor know of the risk of nonpayment
and fail to take steps to mitigate that risk?
o Under the Unity of Interest/Alter Ego prong, factors to consider include:
  (1) the failure to maintain adequate corporate records or to comply with corporate
formalities
 (2) the commingling of funds or assets
 (3) undercapitalization and
 Undercapitalization = shareholder siphoning of available corporate assets
without disclosure to creditors, such that corporation is deliberately made
insolvent, justifies piercing in some cases.
 (4) one corporation treating the assets of another corporation as its own
o Under the Fraud/Injustice prong of the test, this requires sanctioning of fraud or promoting
injustice if piercing does not occur. Unless piercing occurs, some wrong beyond a creditor’s
inability to collect would result such as:
 The common sense rules of adverse possession would be undermined
 Former partners would be permitted to skirt the legal rules concerning monetary
obligations
 A party would be unjustly enriched
 A parent corporation that caused a subsidiary’s liabilities and its inability to pay for
them would escape those liabilities
 An intentional scheme to squirrel assets into a liability-free corporations while heaping
liabilities upon an asset-free corporation would be successful
o Optional 3rd prong of Assumption of Risk
 Even if the first 2 prongs are met in the piercing the corporate veil test, some courts
may now allow piercing if they find that the creditor assumed the risk of nonpayment
o A corporate entity will be disregarded, and the veil of limited liability pierced, when (1) there must be
such unity of interest and ownership that the separate personalities of the corporation and its shareholders
or shareholders no longer exist and (2) circumstances must be such that adherence to the fiction of
separate corporate existence would sanction a fraud or promote injustice
 Closely Held Corporations
 Walkovszky v. Carlton
o Parties:
 P = Walkovszky (injured when rundown by a taxi owned by defendant)
 D = Carlton; Marchese; Seon Cab Corporation
 Carlton = shareholder of 10 corporations, including Seon Cab Corp.
 Marchese = operated the cab which hit plaintiff
 Seon Cab Corp = Owned two cabs and no other assets & had min liability
insurance required under NY State law
o Cause of Action:
 Enterprise liability and piercing the corporate veil
o Legal Issue:
 Whether shareholders of the company can be held personally liable for damages
because the multiple corporate structure constitutes an unlawful attempt to defraud
members of the general public who might be injured by the cabs
o Holding:
 Plaintiff’s complaint did not state a cause of action against defendant Carlton in his
individual capacity
o Reasoning:
 There was no allegation that Carlton was conducting business in his individual capacity
 Piercing is based on agency concepts, not fraud
 The undercapitalization is not sufficient to justify piercing
 There is no fraud because each individual had the minimum required insurance and it is
up to legislature to provide for higher amount
 Sea-Land Services, Inc. v. Pepper Source
o Parties:
 P = Sea-Land Services, Inc.
 Ocean carrier who shipped peppers on behalf of The Pepper Source
 D = The Pepper Source; Caribe Crown, Inc.; Jamar Corp.; Salescasters Distributors,
Inc.; Tie-Net International, Inc.; Gerald Marchese
 Marchese is sole owner of all defendant entities except Tie-Net which he has
half ownership in
 The Pepper Source didn’t pay P’s bill & corporation dissolved with no assets
 o Cause of Action:
 Piercing the corporate veil and reverse piercing
o Legal Issue:
 When multiple companies share all the funds and staff with each other and with their
owner, can a creditor to one of those businesses collect its debt from the other
companies?
o Holding:
 The court found that the first prong of the test was met but the second prong needed to
be looked at by the district court on remand
o Reasoning:
 First prong was met because Marchese never held a single corporate meeting, had no
corporate documents, and used the corporation’s funds for his own personal use
 On remand, Sea-Land is required to show the kind of injustice to merit the use of the
court’s essentially equitable power to prevent injustice
 Parent-Subsidiary Relationships
 Corporate Control & Substantial Domination TEST
o Deals with piercing the corporate veil to abrogate limited liability and hold a parent responsible
for actions of its subsidiaries.
o When a corporation is so controlled as to be the alter ego or mere instrumentality of its
shareholder, the corporate form may be disregarded in the interests of justice. Factors to
consider include whether:
 The parent and subsidiary have common directors or officers
 The parent and subsidiary have common business departments
 The parent and subsidiary file consolidated financial statements and tax returns
 The parent finances the subsidiary
 The parent caused the incorporation of the subsidiary
 The subsidiary operates with grossly inadequate capital
 The parent pays the salaries and other expenses of the subsidiary
 The subsidiary receives no business except that given to it by the parent
 The parent uses subsidiary's property as its own
 The daily operations of the two corporations are not kept separate
 The subsidiary does not observe the basic corporate formalities, such as keeping
separate books and records and holding shareholder and board meetings
 Direct Liability TEST
o Theories include strict products liability, negligence, negligent failure to warn, negligence per
se for not complying with FDA regulations, misrepresentation, fraud, and participation.
o A duty that would not otherwise have existed can arise when an individual or company
nevertheless undertakes to perform some action.
o The potential liability for failure to use reasonable care in such circumstances extends to
persons who may reasonably be expected to suffer harm from that negligence.
o Restatement 2nd of Torts §324A Liability to Third Person for Negligent Performance of
Undertaking
 One who undertakes to render services is subject to liability to third party for physical
harm due to failure to exercise reasonable care if:
 Failure to exercise reasonable care increased risk of harm
 Undertaken to perform duty owed by the other to third party
 Harm by third party suffered because of reliance
 In Re Silicone Gel Breast Implants Products Liability Litigation (supplemental case – light blue)
o Parties:
 P = class action of females injured by defective implants
 D = Bristol-Myers Squibb Co.; Mechanical Engineering Corporation (MEC)
 Bristol-Myers is parent and sole shareholder of MEC
 MEC alone manufactured and distributed the defective product
o Cause of Action:
 Piercing and direct liability
o Legal Issue:
 Whether Bristol-Myers’s motion of summary judgment, arguing that evidence was not
provided to justify piercing the corporate veil, should be granted
 o Rule:
 Substantial domination test for piercing to show corporate control
 Direct liability test
o Holding:
 Bristol-Myers is not entitled to summary judgment
o Reasoning:
 There are material facts in dispute
 Piercing:
 The court said there was evidence where someone could conclude that there
was substantial domination
 Court looks to the fact that MEC is supposed to have a separate board of
directors separate from Bristol-Myers but there are substantial ties between the
two such as 2/3 directors on MEC’s board were also on Bristol-Myers’s board
 Evidence of common departments that were shared
 Bristol-Myers used MEC’s assets as its own
 The court didn’t believe that M was operated as a separate business
 If fraud/injustice is necessary, the court says that this prong would be satisfied
 Direct Liability:
 By allowing Bristol’s name to be on the packaging, they held themselves out as
supporting the product to increase sales
 Bristol-Myers also had press releases stating that the product was safe
 Because marketing and use of Bristol-Myers name, they cannot deny liability
 SHAREHOLDER DERIVATIVE ACTIONS
o THE BUSINESS JUDGMENT RULE
 Provides broad protection for directors from lawsuits that might seek to challenge their business judgment.
 The idea is to give directors wide latitude in taking steps to benefit a corporation using their best judgment.
 RULE = the protections apply unless plaintiff can show any of the following conditions:
 (1) fraud
 (2) illegality or wrongful conduct
 (3) conflict of interest
 (4) bad faith
 (5) egregious/irrational decision
 (6) waste
 (7) uninformed decision
 (8) no decision/no action taken when it should have been
o WHAT IS A DERIVATIVE LAWSUIT?
 Derivative Lawsuit = one in which a shareholder sues on behalf of a corporation to enforce the rights of that
corporation; one in which the shareholder is suing in the name and right of the corporation to redress wrongs
that are done to the corporation
 Recovery = if shareholder is successful, damages runs directly to the corporation
o If the suit is successful, the corporation will pay plaintiff’s attorney fees and expenses.
 Involves allegations of mismanagement, waste, fraud by corporate officers and directors, and breach of
fiduciary duty
 Gives standing to shareholders to go against managers who will not sue themselves or their friends
 Cohen v. Beneficial (supplemental case – brown)
 Parties:
o P = Cohen (shareholder who owned 100/2M shares of Beneficial Industrial Loan Corporation)
o D = Beneficial Industrial Loan Corporation & certain beneficiaries
 Cause of Action:
o Plaintiff claimed there was mismanagement and fraud in the company over an 18 year period
that led to waste in corporate assets exceeding $100M
o NJ statute requires plaintiff to post bond to bring shareholder suit so plaintiff challenges the
statute as being an unconstitutional violation of due process and equal protection
 Legal Issue:
o Whether the court should apply a NJ statute for security against expenses in the shareholder
derivative suit (issue of constitutional law)
 Rule:
 oA federal court with diversity jurisdiction must apply a state statute providing security for
costs if the state court would require the security in similar circumstances
 Holding:
o The court should apply the NJ statute and it is not a constitutional violation
 Reasoning:
o There is no due process violation because only security for reasonable expenses is required
under the statute
o There is no equal protection violation because the state is entitled to use a percentage of
ownership interest in a corporation as a measure of a plaintiffs good faith and responsibility
o Someone with such a small interest might not be acting in good faith so this is why the
legislature has this requirement
o DIRECT V. DERIVATIVE LAWSUITS
 Direct Lawsuit = a shareholder suit in their personal capacity to enforce rights as an individual shareholder
 Common Examples Include:
o Denial or dilution of voting rights;
o Compel payment of dividends declared but not distributed;
o Compel inspection of corporate books and records,
o Require holding of a shareholder meeting
 Tooley v. Donaldson, Lufkin, & Jenrette, Inc. TEST
 The law to be applied henceforth in determining whether a shareholder’s claim is derivative or direct
turns solely on the following questions:
o (1) who suffered the alleged harm (was it the corporation or the suing shareholder,
individually); and
o (2) who would receive the benefit of any recovery or other remedy (would it be the corporation
or the shareholder, individually)
 Standing to assert a direct action depends on whether the individual, as opposed to the corporation, suffered the
harm and would benefit from the recovery or remedy ordered
 Eisenberg v. Flying Tiger Line, Inc. (supplemental case – dark green)
 Parties:
o P = Max Eisenberg (shareholder of Original Flying Tiger Line, Inc.)
o D = Flying Tiger Line, Inc.
 Original Flying Tiger Line, Inc. (ceased to exist after merging with FTL)
 Flying Tiger Corporation (shares of original Flying Tiger Line, Inc. were converted
into shares of this holding subsidiary)
 FTL Air Freight Corporation (took over operations after reorganization) (changed name
to Flying Tiger Line, Inc.)
 Cause of Action:
o Direct lawsuit claiming a lost the right to vote on the business of the operating subsidiaries
 Relief Sought:
o Overturn the merger and reorganization
 Legal Issue:
o Whether the court should apply the New York costs security statute
o This turns on whether plaintiff’s case is a direct or derivative lawsuit
 If the claim that he is bringing is viewed as derivative, he will be required to post bond
under the NY securities against expenses statute
 If the court determines that the lawsuit is direct, then no bond is required
 Rule:
o From Lazar v. Knolls
 If plaintiff does not challenge acts of the management on behalf of the corporation, but
instead claims the defendants are interfering with the plaintiff’s rights and privileges as
shareholders, security for costs should not be required
 Holding:
o Eisenberg's action should not have been dismissed for failure to post security
o His suit is direct and shouldn’t have been dismissed because he failed to post security bond
against expenses of defendants
 Reasoning:
o Eisenberg did not own five percent of the shares of the corporation
 o The reorganization deprived him and other minority shareholders of any voice in the affairs of
their previously existing operating company
 Class Actions
 Shareholder sues in his own capacity as well as on behalf of other shareholders similarly situated
 Group of shareholders assert their individual direct claims through a representative
 Procedural rules applicable to class actions such as plaintiff must be representative of other shareholder
interests and settlement must be approved by court
 Some derivative suit procedural hurdles (like demand) may not apply to class actions but other
procedural hurdles may apply (like giving notice to class members)
o THE DEMAND REQUIREMENT
 DGCL §141(a) Role of the Board of Directors
 The business and affairs of the corporation shall be managed by or under the direction of the board of
directors.
o Basis for business judgment rule
 Delaware Court of Chancery Rule 23.1 Derivative Actions by Shareholders; Demand Requirement
 The complaint shall allege that the plaintiff was a shareholder and shall also allege with particularity the
efforts, if any, made by the plaintiff to obtain the action the plaintiff desires from the directors or
comparable authority and the reasons for the plaintiff’s failure to obtain the action or for not making the
effort.
 Universal Demand Requirement
 Does away with demand futility.
 In its place, there is a requirement that there be a written demand upon the board in all cases and it
prevents the shareholder from bringing a lawsuit for a certain number of days after demand is made
unless injury would result or the board rejects the demand
 Purpose of Demand
 Allow dispute to be resolved by corporation outside of court
 Allow corporation to take over the lawsuit if it is beneficial to corporation
 If demand is excused or wrongfully refused, shareholder will be allowed to control proceedings
 Protect corporate boards from harassment and discourage strike suits
 Chester County Employees’ Retirement Fund v. New Residential Investment TEST
 A shareholder plaintiff may satisfy the demand requirement by either:
o (1) making demand on the board to undertake corrective action or
o (2) demonstrating that any demand would have been futile and therefore demand is excused.
 Where the plaintiff fails to comply with the demand requirement and fails to plead with particularity
why a demand would be futile, the complaint will be dismissed.
 Demand Futility
 Aronson v. Lewis TEST
o Allege facts with particularity creating reasonable doubt regarding board independence
 Either:
 Majority has material financial or familial interest OR
 Majority is incapable of acting independently for another reason like
domination or control OR
 Underlying transaction is not the product of a valid business judgment
o Absent negligence, self-interest, or other biases, the fact that a majority of directors approved the
transaction under attack does not itself excuse the demand; it does not follow that these directors will
refuse to remedy the error or their business judgment when it is brought to their attention
 Marx v. Akers TEST
o Allege facts with particularity that either:
 Majority of the board is interested in the transaction OR
 Directors failed to inform themselves as reasonably necessary about the transaction OR
 Directors failed to exercise their business judgment in approving the transaction
o A plaintiff establishing that a demand on a company’s board would have been futile must show either
that the measure furthered the board’s self-interest, that the directors did not fully inform themselves
about the challenged transaction, or that the challenged transaction was so egregious on its face that it
could not have been the product of the directors’ sound business judgment
 Wrongful Refusal
 The board’s decision regarding plaintiff’s demand is protected by the business judgment rule
o To overcome the business judgment presumption, plaintiff must allege facts with particularity
creating reasonable doubt that board acted independently or with due care
 Grimes v. Donald
 Parties:
o P = C.L. Grimes
o D = James L. Donald (CEO); Board of Directors of DSC Communications Corporation
 Cause of Action:
o Abdication claim as a direct claim because plaintiff isn’t trying to get a monetary damage.
Instead, he wants the court to invalidate the employment agreement
o Waste & breach of fiduciary duty claims as derivative claims because the wrong that has
happened is to the corporation and the relief that is being sought is monetary
o Plaintiff claims that the board has breached its fiduciary duties by abdicating its authority,
failing to exercise due care, and committing waste.
 Relief Sought:
o He is seeking a declaration of the invalidity of the employment agreements between the CEO,
Donald, and the company
o He also seeks an award of damages against Donald and other members of the board for breach
of fiduciary duty of care and waste of corporate assets
 Legal Issue:
o (1) the distinction between a direct claim of a shareholder and a derivative claim
o (2) a direct claim of alleged abdication by a board of directors of its statutory duty
o (3) when a pre-suit demand in a derivative suit is required or excused
o (4) the consequences of demand by a shareholder and the refusal by the board to act on such a
demand
 Rule:
o Demand (General)
 If demand was not made, plaintiff can claim demand futility thereby excusing the
demand requirement
 If demand was made and refused, plaintiff has waived its right to claim demand futility;
however plaintiff has not waived its right to claim demand was wrongly refused
 Failure to demand or otherwise show a demand would be futile or the demand made
was wrongful, results in the case being dismissed
o Demand Futility/Excusal
 Plaintiff must allege facts with particularity creating a reasonable doubt regarding lack
of board independence or lack of valid business judgment
 Lack of board independence shows demand excusal/futility when:
o (1) A director is not supposed to appear on both sides of a transaction
o (2) It is not expected to derive any personal financial benefit from a
transaction in the sense of self-dealing, as opposed to a benefit which
would fall upon the corporation or all of the shareholders generally.
o (3) Independence means the director's decision is based on the merits
of something that comes before the board for its approval rather than
extraneous or outside considerations or influences
 Lack of valid business judgment shows demand excusal/futility when:
o (1) When a transaction is so egregious (bad or shocking) on its face
that board approval cannot possibly meet the test of business judgment
o (2) There is a substantial likelihood of director liability exists
 A substantial likelihood of director liability exists when you
can show with particularized facts that it is difficult to
conceive that a director could’ve satisfied its fiduciary duties
o Wrongful Refusal
 If a demand is made and rejected, the board is entitled to the presumption of the
business judgment rule unless plaintiff can allege facts with particularity why the
board’s refusal to act on the derivative claims was wrongful
 This can be done by alleging facts that the board acted independently or with
due care in responding to the demand
 Holding:
o Abdication (direct)
 
An abdication claim can be stated by a shareholder as a direct claim, as distinct from a
derivative claim, but here the complaint fails to state a claim upon which relief can be
granted.
 There was no abdication by the board under the agreement
o Waste & Breach of Fiduciary Duty (derivative)
 When a shareholder demands that the board of directors take action on a claim
allegedly belonging to the corporation and demand is refused, the shareholder may not
thereafter assert that demand is excused with respect to other legal theories in support
of the same claim, although the shareholder may have a remedy for wrongful refusal or
may submit further demands which are not repetitious
o Plaintiff loses on both claims and the court dismisses the case without deciding merits
 Reasoning:
o Abdication (direct)
 The agreement doesn’t formally stop the board from exercising its statutory powers and
fulfilling its fiduciary duties
 The decision to delegate a task is within the board’s valid exercise of its business
judgment
 Business decisions are not an abdication of directorial authority merely because they
limit a board’s freedom of future action
o Waste & Breach of Fiduciary Duty (derivative)
 Demand Futility?
 Too late to assert demand futility because the letter sent to the board covers all
later theories of liability that he may advance so the fact that he made a
demand, and that demand was refused, means that he has now waived his right
to claim demand futility and to contest the independence of the board
 Wrongful Refusal?
 No wrongful refusal because plaintiff doesn’t meet the standard.
 His complaint asserted only conclusory allegations and what is required to
succeed is to plead with particularity, which he did not do
o SPECIAL LITIGATION COMMITTEES
 DGCL §141(c)(2) Board Committees
 The full board may designate one or more committees, each consisting of one or more directors
 The board committee may exercise all the powers and authority of the full Board
 Zapata v. Maldonado
 Parties:
o P = William Maldonado (shareholder of Zapata
o D = Zapata & 10 officers and directors
 Cause of Action:
o Original action for breach of fiduciary duty; now challenging sufficiency of committee decision
 Legal Issue:
o Whether, after an objective and thorough investigation of a derivative suit, an independent
board committee can cause its corporation to file a motion to dismiss the derivative suit
 Rule:
o Intermediate Standard of Review for Deference to Committee Decisions
 (1) the court should inquire into the independence and good faith of the committee and
the bases supporting its conclusions
 The corporation has the burden of proving independence, good faith, and a
reasonable investigation, rather than this being presumed
 If the court determines either that the committee is not independent or has not
shown reasonable bases for its conclusions, or, if the court is not satisfied for
other reasons relating to the process, including but not limited to the good faith
of the committee, the court shall deny the corporation’s motion
 If the court is satisfied under summary judgment standards that the committee
was independent and showed reasonable basis for good faith findings and
recommendations, the court may proceed, in its discretion, to the next step.
 (2) the court should determine, applying its own independent business judgment,
whether the motion should be granted
  The court must consider and weigh how compelling the corporate interest in
dismissal is when faced with a non-frivolous lawsuit
 The court should, when appropriate, give special consideration to matters of
law and public policy along with the corporation’s best interests
 If the court’s independent business judgment is satisfied, the court may grant
the motion, subject to any necessary or desirable equitable terms or conditions
 Holding:
o Even when plaintiff claims demand futility, the board, acting through its committee, can move
to dismiss the derivative lawsuit
o The court remands with instructions on standard of review
 Reasoning:
o The court does not give business judgment rule deference to the committee’s decision because
the board is alleged to be tainted and allegedly lacks the independence required to make a good
decision on behalf of the corporation with respect to plaintiff’s complaint
o However, the corporation’s board still has the authority to control the business of the
corporation including to control litigation, even though the board is tainted
o The court is aware of structural bias of board of directors and decides to scrutinize committees
because it recognizes the right of shareholders to bring such actions and it wants to protect
against abuse of board power
 Director Independence
 In Re Oracle Corp. Derivative Litigation (supplemental case – berry)
o Parties:
 P = Shareholders of Oracle Corporation
 D = Ellison, Henley, Lucas, and Boskin (trading defendants)
 Each are officers and/or directors of the corporation and each hold high
statuses at the company and in the community
 Also includes other board members that are not included as trading defendants
o Cause of Action:
 Plaintiffs alleged insider trading which resulted in the formation of a committee to
investigate the claim
 This case challenges the independence of the special litigation committee
o Legal Issue:
 Whether the special litigation committee was truly acting independently in its decision-
making capacity
o Rule:
 TEST Judging Independence of Special Litigation Committee:
 The question of independence turns on whether a director is, for any substantial
reason, incapable of making a decision with only the best interests of the
corporation in mind; the focus is on impartiality and objectivity
 Burden of Proof:
 The special litigation committee bears the burden of establishing the absence of
a material dispute of fact about its independence
o Holding:
 The court denied the defendants’ motion to dismiss because they believe that the
special litigation committee was not truly independent
o Reasoning:
 The special litigation committee has not met its burden to show the absence of a
material factual question about its independence
 This is the case because the ties among the special litigation committee, the trading
defendants, and Stanford are so substantial that they cause reasonable doubt about the
special litigation committee’s ability to impartially consider whether the trading
defendants should face suit
 The social ties convinced the court that the committee was not independent even
though the committee attempted to disprove this and make itself look independence
 THE ROLE AND PURPOSES OF CORPORATIONS
o DGCL §102(a)(3) Purpose of a Corporation
 A corporation’s certificate of incorporation is required to set forth the nature of the business or purposes to be
conducted or promoted.
  Only a general statement is needed
 May simply say any lawful act or activity
 May contain restrictions
o DGCL §124 Effect of Lack of Corporate Capacity or Power; Ultra Vires
 No act or transfer of property shall be invalid because ultra vires but lack of capacity or power may be asserted:
 Shareholder suit to enjoin corporation from entering into such act or transfer of property
 Corporate suit against directors and officers
 Suit by state attorney general
o DGCL §121 General Powers
 Every corporation, its officers, directors and shareholders may exercise all the powers and privileges granted by
this chapter or by any other law or by its certificate of incorporation, together with any powers incidental
thereto, so far as such powers and privileges are necessary or convenient to the conduct, promotion or
attainment of the business or purposes set forth in its certificate of incorporation
o American Law Institute Principles of Corporate Governance: Analysis and Recommendations §2.01
 (a) a corporation should have as its objective the conduct of business activities with a view to enhancing
corporate profit and shareholder gain
 (b) even if corporate profit and shareholder gain are not thereby enhanced, the corporation, in the conduct of its
business:
 (1) is obligated, to the same extent as a natural person, to act within the boundaries set by law
 (2) may take into account ethical considerations that are reasonably regarded as appropriate to the
reasonable conduct of business and
 (3) may devote a reasonable amount of resources to public welfare, humanitarian, educational, and
philanthropic purposes
o CHARITABLE DONATIONS
 DGCL §122 Specific Powers
 Every corporation shall have the power to sue and be sued, acquire real or personal property and
dispose of same, conduct its business within or without this state, appoint officers, wind up and
dissolve, make donations for the public welfare or for charitable, scientific or educational purposes,
make contracts and borrow/lend money, pay pensions, buy insurance for its benefit on life of directors,
officers, employees, or any shareholder.
 California Corporations Code §207(3)
 Power to make donations regardless of specific corporate benefit for the public welfare, or for
community fund, hospital, charitable, educational, scientific, civic or similar purposes
 New York BCL §202(a)(12)
 Make donations irrespective of corporate benefit for the public welfare or for community fund, hospital,
charitable, educational, scientific, civic or similar purposes, and in time of war or other national
emergency in aid thereof
 Pennsylvania Code §515(a)
 Directors may in considering the best interests of the corporation consider the effects of their actions on
any and all groups affected by such actions, including shareholders, employees, suppliers, customers
and creditors of the corporation, and upon communities in which offices or other establishments of the
corporation are located
 A.P. Smith Manufacturing v. Barlow
 Parties:
o P = A.P. Smith Manufacturing Company & its board members
o D = shareholders of the company
 Cause of Action:
o Shareholders claimed that the donation/gift was ultra vires (outside the corporation’s power)
 Legal Issue:
o Whether the charitable donation made to Princeton University was valid because the board
failed to obtain shareholder approval or otherwise include such information in the certificate of
incorporation
 Whether the donation was an ultra vires because the certificate of incorporation did not
explain or expressly authorize the contribution and under the common law the company
did not possess any implied or incidental power to make the donation
 Whether the NJ statute allowing corporate charitable donations could be
constitutionally applied to permit this gift because the corporation was created before
the statute was enacted
  Holding:
o The corporation’s donation was within the lawful exercise of the corporation’s powers to give
 Reasoning:
o This was a lawful exercise which came within the express authority of the legislative statute
o NJ constitution allows changes to corporate charters if compelling public interest
o The court here believed there was a compelling public interest at stake because corporate
charitable giving advances worthy causes in the community and alleviates the government from
supporting such charities through taxes
o However, there are limitations. The gift must be:
 (1) not made discriminately or to a pet charity of the corporate directors in furtherance
of personal rather than corporate ends
 (2) reasonable in amount and within statutory limitations if there is a state statute
restricting amounts of such gifts; decided relative to profits/size of corporation
 (3) voluntarily made with a reasonable belief that it would aid the public welfare and
advance the interests of the corporation and of the community it operates
o CORPORATE SOCIAL RESPONSIBILITY
 Corporate Social Responsibility = companies should voluntarily decide to respect and protect the interests of a
broad range of stakeholders and to contribute to a cleaner environment and better society through active
interaction with all
 DGCL §170(a) Dividends; Payment; Wasting Asset Corporations
 Directors may declare and pay dividends out of surplus or net profits, subject to restrictions in
certificate of incorporation.
 Hunter v. Roberts TEST
 It is a well-recognized principle that directors alone have power to declare a dividend and determine its
amount. Courts of equity will not interfere in the management of the directors unless they are guilty of
fraud or misappropriation of the corporate funds, or refuse to declare a dividend when the corporation
has a surplus of net profits and when a refusal would amount to abuse of discretion as would constitute
fraud or breach of good faith.
 Dodge v. Ford Motor Company
 Parties:
o P = The Dodge brothers
o D = Henry Ford
 Relief Sought:
o Plaintiffs wanted Ford to reinstitute the special dividend payments and they wanted the court to
stop the building of the new plant
 Legal Issue:
o Whether the board of directors abused its discretion by approving the decision to terminate the
dividends and build the new plant
 Rule:
o Hunter v. Roberts test regarding the extent to which courts will grant deference to business
decision making regarding the withholding of special dividends
 Holding:
o The court decided that the payment of the dividends must be reinstituted
o They did not agree that the construction of the plant should be enjoined and stopped
 Reasoning:
o The court said the board did not act within its lawful powers with respect to the decision about
the dividends because they lacked good faith and abused their business discretion
o However, there was not a lack of good faith in the expansion of the business to build the plant
o This case stands for the proposition that in the normal course of business, a court will uphold a
director’s decision under the business judgment rule
o The court will not uphold such business judgment if there are exceptional circumstances such
as fraud and other bad faith
 CORPORATE FIDUCIARY DUTIES
o DUTY OF CARE
 DGCL §141(a) Board of Directors; Powers; Number, Qualifications, Terms and Quorum: Board
Authority
 Business and affairs of corporation shall be managed by or under the direction of a board of directors
 DGCL §141(b) Board of Directors; Powers; Terms and Quorum; Action Without Meeting: Board
Composition and Action
 A board is composed of one or more members
o This number is fixed in bylaws or certificate of incorporation
 In order to have valid board action, there must first be a quorum at the meeting at which action is
considered and then taken by the board of directors
o Quorum = majority of total number of directors
 This number can be reduced to 1/3 in the bylaws unless the certificate of incorporation
provides otherwise
o Valid board action consists of a vote of a majority of directors present at a meeting at which a
quorum present
 It is possible to require supermajority (larger number) of directors to vote in favor of
the merger in the certificate of incorporation or bylaws
 Decision Making
 DGCL §141(e) Board of Directors; Reliance Upon Books: Good Faith Reliance on Records &
Reports
o In performing their duties, board members may rely in good faith on records of corporation and
on information, opinions, reports, statements presented to the corporation by corporation’s
officers or employees
 Kamin v. American Express Company
o Parties:
 P = 2 minority shareholders of American Express Company
 D = American Express Company board of directors
o Cause of Action:
 Derivative lawsuit for waste of corporate assets
o Relief Sought:
 Plaintiffs are asking defendants not to proceed with the distribution of dividends or in
the alternative for monetary damages
o Legal Issue:
 Whether the board engaged in waste of corporate assets and engaged in negligence in
their decision making in violation of their duty of care to preserve American Express
assets in the same manner as those directors would preserve their own personal assets
o Rule:
 Gross Negligence Standard
 A simple error of judgment (aka simple negligence) is not enough to overcome
the protection of the business judgment rule
 In order to overcome the presumption of the business judgment rule, it is
necessary to allege misconduct of a higher order of magnitude such as fraud,
illegality, bad faith, malfeasance, or nonfeasance
 If a board in its decision making is fully informed on an issue and if it deliberates fully
and has a rational business purpose for its decision, the board’s actions will be upheld if
challenged in the absence of gross negligence
o Holding:
 Defendants did not violate their duty of care
 Plaintiffs have failed as a matter of law to make out an actionable claim and the motion
by defendants for summary judgment and dismissal of the complaint is granted
o Reasoning:
 Directors held a special meeting where they considered and unanimously rejected the
proposed dividend action.
 The minutes from the meeting indicate that directors were aware that a sale rather than
a distribution of the shares might result in the realization of a substantial income tax
savings but the board rejected this due to countervailing considerations
 They acted appropriately by meeting as a board and having a valid business decision
for their reason
 Cash Out Mergers = a type of corporate combination where an acquiring company pays the
shareholders of a target company the value of their shares
o The target company is merged out of existence and shareholders have no interest in any
company that results from the merger
o Shareholders’ interests of the target company are protected by fiduciary duties of directors
 o Leveraged Buyout = a purchase of a company (sometimes purchased by a group of insiders)
which is financed by a relatively small amount of equity and a large amount of debt, which
provides the leverage; often other assets of the company will be sold to pay off these debts
 Merger Approval Procedures:
o DGCL §251(b) Merger or Consolidation of Domestic Corporation: Board Approval
 The board of each merging corporation shall adopt a resolution approving an agreement
of merger and declaring its advisability
o DGCL §251(c) Merger or Consolidation of Domestic Corporation: Shareholder Approval
 The merger agreement shall be submitted to shareholders for approval if recommended
by the board
 Majority of shares entitled to vote must approve the merger
 If approved by requisite number of shareholders, the merger agreement (or certificate
of merger) is then filed and the merger becomes effective
o DGCL §216 Quorum and Required Vote For Stock Corporations
 Majority of shares entitled to vote shall constitute a quorum at a shareholder meeting
 Can reduce to 1/3 if provided in the certificate of incorporation or bylaws
 Vote of majority of those present or represented by proxy shall be the act of the
shareholders
 Except for election of directors
 Directors can be elected by a plurality vote
 DGCL §141(e) Board of Directors; Reliance Upon Books: Good Faith Reliance on Records &
Reports
o Directors are fully protected in relying in good faith on reports made by officers
 Smith v. Van Gorkom
o Parties:
 P = shareholders of TransUnion
 D = TransUnion and its board of directors (Jerome Van Gorkom is CEO)
o Cause of Action:
 Class action of shareholders disputing the cash-out merger claiming defendants are not
entitled to the protections under the business judgment rule
o Relief Sought:
 Rescission and damages against directors
o Legal Issue:
 Whether the board fulfilled its fiduciary duty of care by adequately informing
themselves prior to making a business decision of all material information reasonably
available to be afforded the presumption of the business judgment rule
 Whether the board’s approval process for the merger agreement was acceptable
 Whether the merger agreement was amended to allow for a market test to occur
o Rule:
 Standard for Fiduciary Duty of Care
 A director has a duty, along with his fellow directors, to act in an informed and
deliberate manner in determining whether to approve an agreement of merger
before submitting the proposal to the shareholders. It must use all material
information that is reasonably available
 Good Faith Reliance on Records & Reports Requirement
 At a minimum for a report to enjoy the status conferred by DGCL §141(e), it
must be pertinent to the subject matter upon which a board is called to act, and
otherwise be entitled to good faith, not blind, reliance
o Holding:
 The merger process was not acceptable
 The merger agreement was not amended to allow for a market test to occur
 The directors of TransUnion breached their fiduciary duty to their shareholders:
 (1) by their failure to inform themselves of all information reasonably available
to them and relevant to their decision to recommend the Pritzker merger and
 (2) by their failure to disclose all material information such as a reasonable
shareholder would consider important in deciding whether to approve the
Pritzker offer
o Reasoning:
  Approval Process:
 The board did not act with due care and therefore the decision was not
protected by the business judgement rule
 The board did not reach an informed business decision to sell the company
because the directors didn’t adequately inform themselves as to Van Gorkom’s
role in forcing the sale of the company and in establishing the per share
purchasing price
 The directors were uninformed as to the intrinsic value of the company
 Given these circumstances, the directors were, at a min, grossly negligent in
approving the sale of the company upon two hours of consideration, without
prior notice, and without the exigency of a crisis or emergency
 Defects in the board process included no prior notice at the meeting, no written
documentation of terms of merger agreement and no valuation study or an
appraisal of the value of shares
 Allow for Market Test:
 The market test period was actually reduced, not extended
 No evidence that the merger agreement had been effectively amended to give
the board freedom to put TransUnion up for public auction for a higher price
 Fully Informed:
 There is no evidence on any report that the Pritzker proposal was presented to
the board and the CEO’s statement was irrelevant because it wasn’t a valuation
 The oral report was uninformed because Van Gorkom hadn’t seen the
agreement when he gave the report
 Duty to Monitor & Oversight
 DGCL §102(b)(7) Contents of Certificate of Incorporation: Limits on Director Liability
o Certificate of incorporation may contain provision eliminating or limiting personal liability of
director for monetary damages for breach of fiduciary duty
 EXCEPTIONS: Cannot limit liability of a director for
 Breach of duty of loyalty to corporation or shareholders
 Lack of good faith, intentional misconduct, or a knowing violation of law
 Violation of §174 on dividends
 Transactions in which director derived improper personal benefit
o NOTE: enacted after Smith v. Van Gorkom because of directors’ fear
 Francis v. United Jersey Bank
o Parties:
 P = trustee in bankruptcy representing the interests of various creditors
 D = Lillian Pritchard as largest single shareholder of Pritchard & Baird (now bankrupt)
 She and her 2 sons were directors but she died while case was pending
o Cause of Action:
 Breach of fiduciary duty of care
o Legal Issue:
 Whether Mrs. Pritchard, as a director, is personally liable for losses caused by acts of
insiders, who were officers, directors, and shareholders because of her nonfeasance
o Rule:
 Determination of liability requires finding that the director:
 (1) had a duty to the clients
 (2) breached that duty
 (3) the breach was a proximate cause of the loss
 Standard of Care:
 The standard is the level of diligence that an ordinarily prudent director would
exercise in the management of his own affairs
 The nature and extend of due care depends on the nature of the business, the
size of the business, and its financial resources
 Bank directors are held to a heightened standard of care
 When a director discovers corporate misconduct, directors have a duty to:
 (1) inquire further if they notice evidence of wrongdoing
 (2) object to such conduct and to take corrective action
 (3) resign if the corporation decides to not do anything about the misconduct
  Failure to Act:
 A director who is present at a board meeting is presumed to concur in corporate
action taken at the meeting unless his dissent is entered in the minutes of the
meeting or filed promptly after adjournment
o Holding:
 Mrs. Pritchard had a duty to protect the clients of the corporation against policies and
practices that would result in misappropriation of money in the corporation and she
breached that duty
o Reasoning:
 Mrs. Pritchard failed to discharge any responsibilities or duties as a director
 She was passive and never went to meetings
 She never looked at any of the financial statements. If she had done so, she might have
noticed that her sons were stealing from the company
 She didn’t know the business and didn’t make any efforts to learn anything about it
 She knew her sons were taking money but did nothing to prevent that from happening
 Although she was in poor health and bedridden, the court did not accept her condition
as an excuse to failing to meet her fiduciary duties as a director of the company
 In Re Caremark Derivative Litigation (supplemental case – black)
o Parties:
 P = shareholders of Caremark International
 D = directors of Caremark
o Cause of Action:
 Shareholder derivative suit for breach of duty of care for failing to monitor and detect
o Legal Issue:
 The Settlement Offer
 Whether the court should approve the settlement offer agreed to by the parties
 Breach of Duty for Knowing Violation of Statute
 Whether the fees or payments made to the physicians were actually payments
for Medicare referrals in violation of the ARPL
 Breach of Duty for Failure to Monitor
 Whether the Caremark directors breached their fiduciary duties by failing to
monitor their employees’ activities
o Rule:
 Standard of Review for the Settlement Offer
 The standard for review is whether the settlement was fair and reasonable
 It must protect the best interest of the corporation and its shareholders because
they will be barred from further litigation if the settlement is approved
 The court must take into account the conduct of the directors in making its
determination of whether the settlement was fair and reasonable
 Duty to Monitor
 Corporate boards have affirmative duty to put corporation information and
reporting system in place to assure compliance with laws
o AKA compliance programs
 A director's obligation includes a duty to attempt in good faith to assure that a
corporate information and reporting system which the board concludes is
adequate exists
 Failure to do so under some circumstances may in theory at least render a
director liable for losses caused by noncompliance with applicable legal
standards
o Holding:
 The Settlement Offer
 Given the weakness of the plaintiffs’ claims the proposed settlement appears to
be an adequate, reasonable, and beneficial outcome for all of the parties. Thus,
the proposed settlement will be approved.
 Breach of Duty for Knowing Violation of Statute
 The Board appears to have been informed by experts that the company’s
practices while contestable, were lawful. There is no evidence that reliance on
such reports was not reasonable.
 Breach of Duty for Failure to Monitor
  The record supplies essentially no evidence that the director defendants were
guilty of a sustained failure to exercise their oversight function
o Reasoning:
 The Settlement Offer
 The court approved the settlement offer even though it involved a series of
steps that were simply adding on to the compliance steps that the company had
taken earlier and did not involve any payment by the director's because of their
misconduct
 This appears to have been a weak case on the merits and the court
acknowledged that the Corporation already had put a compliance program of
some sort into place and the changes in corporate practice that were a condition
of the settlement were not very significant
o DUTY OF LOYALTY
 Conflict of Interest
 Interested Director = between a corporation and one or more of its directors or between a corporation
in which one or more of its directors are directors or officers or between a corporation and another
corporation in which a director has a substantial financial interest
 NYBCL §713 Conflict of Interest Transactions
o Covers contracts between:
 (1) corporation and
 (2) a director of that corporation or another corporation in which director has
substantial financial interest or is a director or officer (interested director transaction)
o No contract or other transaction involving an interested director is void or voidable because the
interested director was present at a meeting and voted in favor if:
 There was material fact disclosure of a contract or other transaction and valid board
approval without counting vote of interested director the contract can be upheld even
though there was a conflict of interest OR
 Disclosure of material facts and approval of the contract by a valid vote of the
shareholders OR
 If it is not possible to get disclosure and valid board approval or disclosure and contract
approval by shareholders, then it is up to the parties to show that the transaction was
fair and reasonable to the corporation
 Bayer v. Beran
o Parties:
 P = shareholders of Celanese Corporation
 D = directors of Celanese Corporation
o Cause of Action:
 Plaintiffs claimed that the board breached its fiduciary duty because the board acted
informally and it did not meet and pass a resolution approving the advertisement
campaign through normal corporate procedures and formal channels
o Legal Issue:
 Whether the advertisement campaign was adopted to benefit the corporation or to
benefit the singing career of the president’s wife
o Rule:
 Where there is an alleged conflict of interest on the part of the board of directors, the
business judgment rule will not apply and the court will instead apply rigorous scrutiny
 The court must scrutinize the transaction to determine whether the action of directors
was intended or calculated to subserve some outside purpose, regardless of the
consequences to the company, and in a manner inconsistent with its interests
 The burden is on the director not only to prove the good faith of the transaction but also
to show its inherent fairness from the viewpoint of the corporation and those interested
therein
o Holding:
 The alleged defect in the procedure does not void the transaction
 There was no breach of the fiduciary duty of loyalty
 The directors acted in the free exercise of their honest business judgment and their
conduct in the transactions challenged did not constitute negligence, waste, or
improvidence
o Reasoning:
  Breach of Duty
 There was no evidence that the program was designed to promote the singer’s
career or that she received any special treatment
 She received less than other artists, she had a standard form contract, and there
was no special attention given to her performance in the advertisement
 Although there was some benefit to the singer, this was okay because there was
also some benefit to the corporation and the advertisement served a useful
corporate purpose and the company received the full benefit of the
advertisement
 The court concluded that this advertisement campaign was necessary to better
distinguish the company’s product from other competitors
 Voided Transaction
 The court states that the board was very closely connected and had acted
informally in the past and were successful in their business decision making on
behalf of the corporation so there was no problem with the informal procedure
 The board ratified the campaign and in doing so, this vote served as a proper
ratification of all board actions related to the advertisement campaign
 Corporate Opportunities
 Tender Offer = another kind of corporate transaction; it is an offer to buy shares of stock from
shareholders who are invited to tender (sell) their shares to the offeror for purchase at a specified price
within some specified period of time; often the completion of the transaction is made contingent on the
offeror receiving some specified number of shares, sufficient, for example, to give it control of the
target corporation
 Guth v. Loft TEST
o If all of the following factors are met, there is a corporate opportunity and the individual cannot
take the opportunity for himself:
 (1) Financial ability of the company to take the business opportunity
 (2) The business opportunity must be in the same line of business
 (3) The company must have an interest or expectancy in that opportunity and
 (4) Taking the opportunity by the corporate director would create a conflict between
the self-interest and the interest of the corporation
o EXCEPTION is if the corporation, realizing the opportunity is out there, has rejected the
opportunity
 2 things need to happen:
 There must be an analysis by the corporate officer or director who is offered
the opportunity as to whether the corporate opportunity even exists & whether
these 4 factors are met.
o If the answer is no, then the corporate officer or director is free to go
ahead to take the opportunity for him/herself
 If there is a corporate opportunity, if that opportunity is presented to the board
and the board rejects it, then the corporate officer or director would be fine to
take the opportunity for himself
o The opportunity for the board to reject is a kind of ratification
o Persons covered by doctrine = corporate officer or director
o Formal presentation to the board & rejection
 Not required before individual can take opportunity
 But may act as a safe harbor (process would have avoided an allegation that he violated
some legal principle, obligation, or requirement)
o It is a breach of fiduciary duty if the corporation’s property, information, or funds were involved in the
director’s discovering or acquiring the opportunity, or if the corporation’s facilities or employees were
used in developing it, the opportunity therefore may not be taken advantage of by a director
 Broz v. Cellular Information Systems, Inc.
o Parties:
 P = Cellular Information Systems
 D = Robert Broz & RFB Cellular (Broz is sole shareholder)
o Cause of Action:
 Challenging the acquisition as a violation of the corporate opportunity doctrine
o Legal Issue:
  Whether there was an unlawful taking of a corporate opportunity by Broz when he
acquired the license
o Rule:
 Guth v. Loft TEST
o Holding:
 Broz did not breach his fiduciary duties to CIS
 There was no obligation to consider Pricellular post-acquisition plans for Cellular
o Reasoning:
 Financial ability? No
 CIS wasn’t financially capable of exploiting license opportunity
 Same line of business? Yes
 The opportunity can be within the CIS line of business
 Interest or expectancy? No
 There was no interest in the license, CIS was in the process of divesting its
cellular license holdings and was not interested in the license
 Taking opportunity would create conflict between self-interest and interest of
corporation? No
 There was no conflict. Broz’s interest in acquiring and profiting from the
license created no duties that were inimical to his obligations to CIS
 He took care not to usurp any opportunity which CIS was willing and able to
pursue
 Post-acquisition plans? No
 Broz was under no duty to consider the contingent and uncertain plans of
Pricellular in reaching his determination of how to proceed
 He only needed to look at the situation at the time, not having to take into
consideration what might happen later on
 By requiring him to do so would deprive Broz of his right to engage in
business affairs outside of his or her fiduciary capacity
 Restatement 2nd of Agency §388 Duty to Account for Profits Arising out of Employment
o Unless otherwise agreed, an agent who makes a profit in connection with transactions
conducted by him on behalf of the principal is under a duty to give such profit to the principal
 In Re eBay, Inc. Shareholders Litigation
o Parties:
 P = shareholders of eBay
 D = certain eBay directors and officers
o Cause of Action:
 The allocation of initial public offering shares of other companies to this select group
of individuals who were executives of eBay
o Legal Issue:
 Whether the eBay directors and officers breached their fiduciary duty of loyalty or
otherwise took a corporate opportunity for themselves by purchasing initial public
offering shares of other companies which should have been offered to eBay rather than
the favored insiders
o Rule:
 Corporate Opportunity
 Guth v. Loft TEST
 Duty of Loyalty as an Agent
 An agent is under a duty to account for profits obtained personally in
connection with transactions related to his or her company
 Restatement 2nd of Agency §388
o Holding:
 The defendant directors were not free to accept the initial public offering shares of
other companies and in doing so they violated the corporate opportunities doctrine and
breached their fiduciary duties of loyalty
o Reasoning:
 Financial ability? Yes
 Same line of business? Yes
  eBay is an online auction platform but investing was also a line of business for
them because they invested more than $550M in equity and debt securities
 Interest or expectancy? Yes
 The facts alleged suggest that investing was integral to eBay’s cash
management strategies and a significant part of its business
 Taking opportunity would create conflict between self-interest and interest of
corporation? Yes
 This was a risky investment and eBay was never given the opportunity to turn
down the allocations as too risky
 Duties of Dominant Shareholders
 DGCL §170 Dividends; Payment; Wasting Asset Corporations
o Authorizes and restricts payment of dividends out of surplus/net profits of the corporation
 Pepper v. Litton Director Fiduciary Duty EXPLANATION
o A director is a fiduciary. So is a dominate or controlling shareholder or group of shareholders.
o Their powers are in trust. Their dealings with the corporation are subjected to rigorous scrutiny
and where any of their contracts or engagements with the corporation is challenged the burden
is on the director or shareholder not only to prove the good faith of the transaction but also to
show its inherent fairness from the viewpoint of the corporation and those interested therein
 Sinclair v. Levien
o Parties:
 P = shareholder of Sinclair Venezuelan Oil Company (owns 3k of 120k shares)
 D = Sinclair Oil Corporation as majority (97%) owner of its subsidiary, Sinclair
Venezuelan Oil Company (Sinven) & sole owner of its other subsidiary, Sinclair
International Oil Company (International)
o Legal Issue:
 Whether Sinclair (parent) breached its fiduciary duties regarding:
 (1) excessive payment of dividends by Sinven to its shareholders
 (2) unfair allocation of business opportunities among its subsidiaries
 (3) breach of contract between Sinven and International
o Rule:
 Intrinsic Fairness Standard
 Used only in a situation where reviewing the facts of the alleged wrongdoing,
the court sees self-dealing on the part of the dominate shareholder
 Self-dealing in this context would mean that Sinclair, by virtue of its
domination of the subsidiary, causes the subsidiary to act in such a way that
Sinclair receives something from the subsidiary to the exclusion of the
minority shareholders of the subsidiary
 Burden of Proof
 The burden is on Sinclair to prove, subject to careful judicial scrutiny, that its
transactions with Sinven were objectively fair
 Sinclair must prove that each action was fair to the corporation as a whole, not
just to Sinclair. It must also be fair to the 3% minority shareholders
o Holding:
 Regarding the excessive payment of dividends argument and the unfair allocation of
business opportunities argument, assessed under the business judgment rule, Sinclair
has not breached its fiduciary duty of loyalty
 Regarding the breach of contract argument, the intrinsic fairness standard is applied
and Sinclair is found to have failed to meet this standard
o Reasoning:
 Payment of dividends
 There was no problem because Sinven stayed within the requirements of
DGCL §170
 The court didn’t think there was self-dealing because the minority received a
proportionate share of the dividends that were paid out
 Sinclair did not engage in self-dealing because they did not receive something
that the minority shareholders did not receive
 Denial of business opportunities
  Plaintiffs prove no business opportunities which came to Sinven independently
and which Sinclair either took to itself or denied to Sinven
 All of Sinven’s operations have been conducted in Venezuela, and Sinclair had
a policy of exploiting its oil properties located in different countries by
subsidiaries located in the particular countries
 Breach of contract
 There is self-dealing in this instance because Sinclair is the 97% shareholder in
Sinven and 100% shareholder of International so Sinclair got something based
on not enforcing the contract that the 3% minority shareholders did not get
because they have no shares in International
 As a result, the proper standard for the breach of contract claim is the intrinsic
fairness standard so the burden is on defendant to demonstrate that it was fair
to Sinven that Sinclair did not enforce the contract
 The court says that Sinclair is unable to bear its burden and therefore this is a
breach of fiduciary duty
 Ratification
 DGCL §144(a) Interested Directors; Quorum: Ratification
o Interested director or officer transaction not void or voidable if:
 (1) material fact disclosure and disinterested director approval; OR
 (2) material fact disclosure and shareholder approval; OR
 (3) contract is fair to the corporation
 Gottlieb v. Heyden Chemical Corp STANDARD
o If there is shareholder ratification of an interested transaction, although less than unanimous,
shifts the burden of proof to an objecting shareholder to demonstrate that the terms are so
unequal as to amount to a gift or waste of corporate assets
o This standard freshens the atmosphere and a new set of rules are invoked where formal
approval has been given by a majority of independent, fully informed shareholders
 Fliegler v. Lawrence
o Parties:
 P = shareholders of Agau Mines Inc.
 D = officers and directors of Agau & United States Antimony Corporation
o Cause of Action:
 The allegation was that the directors and officers of both corporations wrongfully
usurped a corporate opportunity belonging to Agau
 Plaintiff also alleged that defendants wrongfully profited by causing Agau to exercise
an option to purchase that opportunity
o Relief Sought:
 Recovery of 800K and an accounting
o Legal Issue:
 Whether the individual defendants, in their capacity as directors and officers of both
corporations, wrongfully usurped a corporate opportunity belonging to Agau
 Whether all defendants wrongfully profited by causing Agau to exercise an option to
purchase that opportunity
o Holding:
 Because they are able to establish fairness, the defendants have not acted wrongfully in
this case
o Reasoning:
 The burden was on defendants to show that the transaction was fair to Agau
 They did prove intrinsic fairness
 They entered into a transaction with Agau and Agau got its money’s worth and they got
the value of the property plus cost of development so there is fairness
LIMITED LIABILITY COMPANIES
 FORMATION OF LLCS
o ULLCA §108 Nature, Purpose, and Duration of Limited Liability Company
 An LLC is a legal entity distinct from its members
o DOCUMENTS REQUIRED FOR FORMATION
 Filing of Articles/Certificate of Organization
 Filed with secretary of state in the relevant jurisdiction
  Contents are dictated by statute
Execution by members of Operating Agreement
 Not filed with the secretary of state and not publicly available
 Much longer than the articles of organization
 Often cover topics such as membership, governance, finance, dissolution
 Flexible structure can be used to revise default rules subject to limits in ULLCA §105
o ARTICLES/CERTIFICATE OF ORGANIZATION
 ULLCA §201 Formation of Limited Liability Company; Certificate of Organization
 One or more persons (organizers) may form an LLC, consisting of one or more members, by filing
articles with secretary of state
 REQUIRED
o Name of company must comply with ULLCA §112
o Street and mailing address of principal office
o Name and address of company’s registered agent
 OPTIONAL
o Other provisions can be added but must not be inconsistent with §105(c) and (d)
 The LLC comes into existence when the articles are filed with the secretary of state and at least one
person has become a member
 ULLCA §112 Permitted Names
 (a) the name must contain the phrase limited liability company or limited company or a similar
abbreviation
 (b) name must be distinguishable on the records from other names listed
 (c) consent can be given to use similar or same names if original party changes their name
 (d) how to determine whether the name is the same or not
 ULLCA §202 Amendment or Restatement of Certificate of Organization
 When filing an amendment, you must state the name of the company, date of filing of initial certificate,
and text of the amendment
 Must be filed with the secretary of state
 Westec v. Lanham (supplemental case – dark blue)
 Parties:
o P = Water, Waste, & Land, Inc., doing business under the name Westec
o D = Donald Lanham, Larry Clark, and Preferred Income Investors, LLC
 Relief Sought:
o Money due for services performed under contract
 Legal Issue:
o Does the LLC Act notice provision supplant the partially disclosed principal doctrine?
o Whether the members or managers of an LLC are excused from personal liability on a contract
where the other party to the contract did not have notice that the members or managers were
negotiating on behalf of a limited liability company at the time the contract was made
 Rule:
o The LLC Act’s Notice Provision:
 The fact that the articles of organization are on file in the office of the secretary of state
is notice that the limited liability company is a limited liability company and is notice
of all other facts set forth therein which are required to be set forth in the articles of
organization.
o Common Law Rule on Agent’s Liability on Contract Involving a Partially Disclosed Principal
 If both the existence and identity of the agent’s principal are fully disclosed to the other
party, the agent does not become a party to any contract which he negotiates. But
where the principal is partially disclosed (the existence of a principal is known but his
identity is not), it is usually inferred that the agent is a party to the contract.
 Holding:
o Plaintiff wins the case because the court says that the LLC notice provision does not supplant
the common law rule of agency on agent’s liability on contract involving a partially disclosed
principal. 
o The statutory notice provision applies only where a third party seeks to impose liability on an
LLC's members or managers simply due to their status as members or managers of the LLC.
o When a third party sues a manager or member of an LLC under an agency theory, the principles
of agency law apply notwithstanding the LLC Act's statutory notice rules.
  Reasoning:
o Court says that this notice provision means that managers and members won’t be liable simply
due to their status as managers or members.
o It does not mean that a third party who deals with the agent of limited liability company always
has constructive notice of the existence of the agent’s principal. 
o It would be necessary to name and state fact of existence as LLC for that to be known by the
other party in this case; it would be an invitation to fraud to apply the notice provision
o Statutes in derogation of common law are strictly construed
o Other sections of the LLC Act reinforce the conclusion that you need to use LLC designation
and observe formalities to get the protections of the Act. 
o OPERATING AGREEMENT
 ULLCA §105 Operating Agreement; Scope, Function, and Limitations
 (a) Members of LLC may enter into Operating Agreement that governs:
o Relations among members and between members of an LLC
o Rights and duties of a person acting as manager of an LLC
o Activities and affairs of LLC
o Means and conditions for amendment
 (b) Unless changed by Operating Agreement, the default rules of the ULLCA apply
 (c) Lists things that an Operating Agreement may not do or change
 (d) Gives limitations which an Operating Agreement must comply with
 Elf v. Jaffari
 Parties:
o P = Elf Atochem North America
o D = Cyrus Jaffari (president of Malek, Inc.)
 Cause of Action:
o Breach of fiduciary duties to Malek LLC, pushing LLC to insolvency brink by withdrawing
funds for personal purposes, interfered with business opportunities, failure to disclose, poor
manufacturing and violation of environmental regulations
 Legal Issue:
o (1) whether the LLC which did not itself execute the LLC agreement defining its governance
and operations (only the individual members signed but no one signed on behalf of the LLC
itself) is nevertheless bound by the Agreement
o (2) whether contractual provisions directing that all disputes be resolved exclusively by
arbitration or court proceedings in California are valid under the Act.
 Holding:
o The court held that the agreement is binding on the LLC as well as its members and since the
Act does not prohibit the members of an LLC from vesting exclusive subject matter jurisdiction
in arbitration proceedings or court enforcement of arbitration in California to resolve disputes,
the contractual forum selection provisions must govern. 
 Reasoning:
o Delaware policies are to give maximum freedom of contract to parties forming an LLC in their
operating agreement and also another policy favoring alternative dispute resolution
o In this case, the arbitration provision in the contract stripped the Court of Chancery of subject
matter jurisdiction.
 PIERCING THE LLC VEIL
o ULLCA §304 Liability of Members and Managers
 Debts, obligations, liabilities of LLC belong solely to the company
 Members or managers are NOT personally liable for debts, obligations and liabilities of LLC, whether arising in
contract, tort or otherwise
 Failure to observe formalities or requirements for exercise of powers or management are NOT a ground for
imposing personal liability
o Kaycee v. Flahive (supplemental case – hot/light pink)
 Parties:
 P = Kaycee Land and Livestock
 D = Flahive Oil & Gas LLC; Rodger Flahive = managing member
 Cause of Action:
 Plaintiff claims that Flahive Oil caused environmental contamination to its real property in Wyoming.
 Relief Sought:
  Plaintiff seeks to pierce the LLC veil and disregard the LLC entity of Flahive Oil and hold Roger
Flahive individually liable for the contamination
 Legal Issue:
 Absent fraud, is a claim to pierce the limited liability entity veil or disregard the LLC entity in the same
manner as a court would pierce a corporate veil, an available remedy against a Wyoming LLC?
 Rule:
 Piercing the LLC veil is possible when the court thinks that it will be unfair and unjust for creditors to
be damaged aka if injustice (something less than common law fraud) would result.
o Injustice = members and officers of an LLC should not enjoy immunity from individual
liability for the LLC’s acts when:
 (1) they fail to treat the LLC as a separate entity as contemplated by statute AND
 (2) the LLC’s acts cause damages to third parties
 Holding:
 Piercing is an available remedy for LLCs.
 If the members/officers of an LLC fail to treat it as a separate entity, they should not enjoy immunity
from individual liability for the LLC’s acts that cause damage to third parties
 The court sent the case back to the district court stating that they must conduct a fact intensive inquiry
to determine whether piercing the corporate veil is appropriate under the circumstances of this case
 Reasoning:
 The court stated that there is no reason to treat LLCs differently than corporations.
 The factors used in the context of an LLC may differ from those applied in the corporate context.
 Since piercing is an equitable doctrine, the paucity of statutory authority for LLC piercing should not be
considered a barrier to its application
 Lack of explicit statutory language should not be considered an indication of the legislature’s desire to
make LLC members impermeable
 MANAGEMENT IN LLCS & FIDUCIARY OBLIGATIONS
o STYLES OF LLC MANAGEMENT
 ULLCA §407 Management of Limited Liability Company
 (a) Default Rule
o An LLC is member-managed unless the operating agreement expressly provides that it will be
manager-managed
 (b) Member-Managed LLC
o Management is vested in members
o Members have equal rights in management
o Differences on ordinary business matters are decided by majority vote of members
o Affirmative vote or consent of all members required for taking actions outside the ordinary
course of business or for amending the operating agreement
 (c) Manager-Managed LLC
o Matters related to activities or affairs of company are decided exclusively by the manager or, if
there is more than one manager, by a majority of the managers
o If there is more than one manager, managers have equal rights in management
o Affirmative vote or consent of all members required for taking actions outside the ordinary
course of business or for amending the operating agreement
o Managers must be designated (appointed), removed, and replaced by a majority of Members
 ULLCA §301 No Agency Power of Member as Member
 A member is not an agent of LLC solely by reason of being a member of the LLC.
o FIDUCIARY OBLIGATIONS
 ULLCA §409 Standards of Conduct for Members and Managers
 (a) Standards of Conduct for Members and Managers Conduct
o Members owes duty of loyalty and care to member managed company and its other members
o These standards apply to member managed LLCs
 (b) Duty of loyalty includes the following duties:
o Account and hold as trustee any profit from winding up, use of company property,
appropriation of company opportunity
o Refrain from dealing as or on behalf of person with adverse interests
o Refrain from competing with company before dissolution
  Duty of Loyalty = accounting for profit from use of property of LLC and appropriation
of corporate opportunity, refrain from acting adversely to the LLCs interests, refrain
from competing with the company in the conduct of its business before dissolution.
 (c) Duty of Care
o Duty of care is to refrain from engaging in grossly negligent or reckless conduct, willful or
intentional conduct, or knowing violation of law
o Duty of care limited to not committing acts that are grossly negligent, reckless, intentional,
willful violation of law.
 (i) Manager-Managed Manager Duties
o Manager in a manager managed company owes duties of loyalty and care to company and
members
o Members who do not manage don’t owe such duties
o Members must discharge duties and exercise rights under ULLCA and operating agreement
consistent with contractual obligation of good faith and fair dealing
o McConnell v. Hunt
 Parties:
 P = John McConnell
 D = Lamar Hunt
 Both parties were originally investors in Columbus Hockey Limited, LLC (CHL)
 Cause of Action:
 Breach of fiduciary duty & breach of the operating agreement
 Relief Sought:
 Declaratory judgment to establish legal right to the franchise without inclusion of Hunt or CHL
 Legal Issue:
 (1) whether an operating agreement of an LLC may limit or define the scope of the fiduciary duties
imposed upon its members
 (2) whether McConnell breached its fiduciary duty in competing with Hunt
 (3) whether McConnell engaged in tortious interference with a prospective business relationship
 (4) whether Hunt breached the operating agreement by failing to obtain the approval of the other CHL
members prior to filing, in CHL’s name, the answer and counterclaim in this suit and the NY suit
 Holding:
 (1) The CHL operating agreement expressly allowed competition
 (2) McConnell did not breach his fiduciary duty
 (3) The evidence does not show that McConnell tortiously interfered with Hunt’s prospective business
relationships
 (4) Hunt wrongfully acted on behalf of CHL because under the operating agreement, he needed
approval from the other members and never even tried to get it
 Reasoning:
 (2) In general, there are fiduciary duties in the LLC context and normally there isn’t direct competition
allowed among members but because the members waived their fiduciary duty not to compete in the
operating agreement, there is no breach of fiduciary duty here
 (3) Hunt's own actions caused the termination of any relationship with Nationwide and the NHL, not
the actions of McConnell because McConnell agreed to take the deal only if Hunt didn’t.
 (4) Hunt was a member, not a manager so he needed approval from the majority of members to act; he
breached the operating agreement when he filed suit without getting approval from the other members
o NOTE: this LLC was manager-managed so only managers can make such decisions
 DISSOLUTION
o ULLCA §701 Events Causing Dissolution
 (1) An event stated in the operating agreement causing dissolution
 (2) Vote or consent of all members
 (3) Passage of 90 days where company has no members
 (4) Entry of court order
 (5) Signing and filing of a statement of administrative dissolution by Secretary of State
o ULLCA §702 Winding Up
 (a) The company continues after dissolution only for the purpose of winding up
 (b)(1) Company must:
 Discharge debts, obligations, and liabilities
 Settle and close activities and affairs
  Distribute assets
 (b)(2) Company may:
 File statement of dissolution
 Preserve activities of company for reasonable time
 Prosecute and defend actions
 Transfer property
 Settle disputes
 File statement of termination
o ULLCA §704 Known Claims Against Dissolved Limited Liability Company
 Disposing of known claims against LLC by giving notice to creditors
o ULLCA §705 Other Claims Against Dissolved Limited Liability Company
 Disposing of other claims by publishing notice to creditors in a newspaper
 Other claims are barred
 (d)(2) Member incurs liability to creditors only up to amount received in distribution from LLC
 Where statutory dissolution procedures are followed and assets of the company have been distributed after
dissolution, a member’s liability to creditors could be limited to the amount received by the member in the
distribution
o ULLCA §707 Disposition of Assets in Winding Up
 Creditors must be paid first
 This includes paying members who have extended credit through the LLC
 Members are entitled to the return of their contributions only after creditors have been paid off
o New Horizons v. Haack
 Parties:
 P = New Horizons Supply Cooperative
 D = Allison Haack (founding member of Kickapoo Valley Freight LLC)
 Relief Sought:
 Unpaid debt of $1,009.99
 Legal Issue:
 Whether defendant was personally liable for the debt incurred by Kickapoo Valley Freight LLC after
the company dissolved
 Holding:
 Hack did not establish that the amount of New Horizons’ claim exceeded the value of any liquidation
distribution she may have received from the dissolved company
 Reasoning:
 Haack did not follow proper procedures for dissolution and did not prove that the amounts distributed to
her on dissolution were less than the amount of the debt to New Horizons thereby making Haack liable.
 She did not have articles of organization or an operating agreement but the court seems to have
accepted the existence of the company as an LLC.
 She did not follow the statutory steps for dissolution.
 The court says that she should be held liable because she failed to establish that she took appropriate
steps to shield herself from liability for the company’s debts following its dissolution and the
distribution of its assets.
FEDERAL SECURITIES REGULATION
 REGULATORY SCHEME
o Securities Act of 1933
 Primary Market = when a company seeking to raise capital issues investments called securities into the public
market (the issuer of the securities, such as the company that created the securities, sells them to investors)
o Securities and Exchange Act of 1934
 Secondary Market = involves regulation of trading activities that take place on securities exchanges (investors
trade securities among themselves without any significant participation by the original issuer)
 Public Companies = those that meet certain definitions within the Federal Securities Laws and are subject to
periodic reporting requirements and certain kinds of regulations that other companies are not subject to
o SCOPE
 Regulates disclosure provisions & anti-fraud provisions
 Blue Sky Laws = state level regulation of securities that predates federal securities laws which protected
investors from speculative schemes which have no more basis than so many feet of blue sky
  The SEC has authority to bring a federal securities suit against issuing company that had fraudulent registration
statement. Also, §11 & §12 expressly allows harmed investors to bring private actions; §10(b) impliedly allows
harmed investors to bring private actions against the companies.
 Elements for a Private Right of Action:
o Material misrepresentation or omission
o Scienter
o Reliance
o Causation
o Damages
 NOTE: there is a substantial burden on plaintiff
 THRESHOLD ISSUES
o Threshold Issue = an issue that plaintiff must overcome in order to be able to proceed with the merits of a claim, here
being the alleged fraud
o WHAT IS A SECURITY?
 Securities Act of 1933 §2(a)(1) Definition of Security
 Security means, unless the context otherwise requires, any note, stock, treasury stock, bond, debenture,
evidence of indebtedness, investment contract or in general any interest or instrument commonly known
as a security
 Types of Securities
 Common Stock (equity)
o Cash flow rights = residual and discretionary dividend
o Liquidation rights = residual
o Voting rights = yes
 Preferred Stock (equity)
o Cash flow rights = fixed and discretionary dividends cumulate if not paid
o Liquidation rights = medium
o Voting rights = contingent
 Bonds (debt)
o Cash flow rights = fixed and certain interest payments
o Liquidation rights = highest
o Voting rights = none
 SEC v. Howey TEST for Investment Contract
 Elements (all of which must be satisfied; if one is missing, the claim fails)
o Investment of money
o In a common enterprise
o With the expectation of profits
o To come solely from the efforts of others
 The test is whether the scheme involves an investment of money in a common enterprise with profits to come
solely from the efforts of others
 Investment Contract = a contract, transaction or scheme whereby a person invests his money in a
common enterprise and is led to expect profits solely from the efforts of the promoter or a third party
 Landreth Timber v. Landreth TEST for Stock
 The characteristics typically associated with common stock are:
o The right to receive dividends contingent upon an apportionment of profits
o Negotiability
o The ability to be pledged or hypothecated
o The conferring of voting rights in proportion to the number of shares owned
o The capacity to appreciate in value (aka Capital Appreciation)
 A sale of all of the stock of a company is the sale of securities; even though the sale is simply a method to transfer
ownership of a business, the stock has all of the traditional characteristics of a security
 Economic Realities Test = it is the economic reality of a particular instrument, rather than the label
attached to it, that ultimately determines whether it falls within the reach of the securities laws
 Robinson v. Glynn
 Parties:
o P = James Robinson
o D = Thomas Glynn; Glynn Scientific, Inc; GeoPhone Company LLC
 Thomas Glynn is GeoPhone’s majority shareholder & chairman
 
Cause of Action:
o A violation of §10(b) of the 1934 Act and SEC Rule 10b-5
 Legal Issue:
o Whether or not the transaction between the parties is subject to the federal securities laws
o Turned on whether what plaintiff purchased was an investment contract or a stock (to fall
within the federal securities laws) or if it was a membership interest that would not fall within
the reach of the federal securities laws because it is not a security
 Rule:
o SEC v. Howey TEST for Investment Contract
o Landreth Timber v. Landreth TEST for Stock
o Economic Realities Test = it’s the economic reality of a particular instrument, rather than the
label attached to it, that ultimately determines whether it falls within the reach of securities laws
 Holding:
o There was no investment contract because Robinson was not relying solely on the efforts of
other people to get a profit on his investment
o The court concludes that the characteristics of stock are not satisfied by Robinson’s ownership
interest in the company.
o Plaintiff was unable to get past the threshold issue regarding whether he purchased a security
 Reasoning:
o Investment Contract
 Robinson negotiated for control rights in the company so he was not a completely
passive investor and he served on the board of managers and had the right to appoint
2/7 members of the board
 He was also on the executive committee and served as treasurer and had access to a lot
of financial information about the company
 He did not purchase an investment contract because he was not relying solely on the
efforts of others & because of the strong control rights, he cannot satisfy the test
o Stock
 There was no sharing in profits in proportion to the number of their shares. Robinson
was to receive 100% of GeoPhone’s net profits up to a certain amount, only after were
funds to be distributed pro rata to the members in proportion to their relative shares
 His membership interests were not freely negotiable because he could only transfer his
interests if he first offered other members the opportunity to purchase his interests on
similar terms
 He could pledge his interest, but the pledgee would acquire only distribution rights and
not control rights
 The parties viewed Robinson’s investment as a membership interest and never a stock.
All the investment documents termed Robinson’s investment as a membership interest
 He did not purchase stock in the sense that it was defined in the Supreme Court case
because the characteristics of the membership interest do not correspond with the
characteristics of stock in the case
o WHAT IS MATERIALITY?
 Escott v. BarChris
 Materiality = information that an average prudent investor ought reasonably to be informed about
before purchasing the registered security
 Material Facts = the facts which tend to deter him from purchasing a security are facts which have an
important bearing upon the nature or condition of the issuing corporation or its business
o The court uses an objective reasonable investor standard
 The court says there was a misstatement or omission in 2 separate parts of the registration statement
which were material
 Plaintiffs have met their burden of showing that there were material misstatements or omissions in the
registration statement
 SEC v. Texas Gulf Sulphur
 What standard of materiality does the court adopt? Probability Magnitude Test
o The reasonable investor standard refined to reflect the facts of this case
o An insider’s duty to disclose information or his duty to abstain from dealing in his company’s
securities arises only in those situations which are essentially extraordinary in nature and which
 are reasonably certain to have a substantial effect on the market price of the security if the
extraordinary situation is disclosed
o The court uses the probability magnitude test which is used when talking about speculative
information
 Speculative information = information that as of the point in making the decision on
whether to invest to disclose or not disclose, the future event is uncertain
o 2 factors should be looked at:
 (1) the probability that the future event will occur
 (2) the magnitude of impact on the company if the uncertain event does happen in the
future
o If high magnitude and high probability, the information would be considered to be material
 SUBSTANTIVE ISSUES
o REGISTRATION REQUIREMENTS & EXEMPTIONS FROM REGISTRATION
 Securities Act of 1933 §5 Prohibitions Relating to Interstate Commerce and the Mails
 It is unlawful to sell or offer for sale securities in interstate commerce unless securities are registered
with the SEC
 A security cannot be offered for sale through the use of interstate commerce unless a registration
statement with a long and detailed disclosure document has been filed with the SEC
 Issuer must provide disclosure in a prospectus
o Prospectus = a portion of the registration statement minus certain exhibits and opinions that are
typically not provided
 Remedy for selling unregistered securities is rescission
 Securities Act of 1933 §4(2) Exempted Transactions
 The provisions of §5 shall not apply to transactions by an issuer not involving a public offering
 SEC v. Ralston Purina Exemption From Registration TEST
 Did the offerees need the protection of the registration provisions of the 1933 Act or were they able to
fend for themselves?
o If the offerees had access to information in some way other than through a registration
statement, then that could be considered to be a private placement transaction
o If the offerees did not have access to information, then they would not fall within the private
placement transaction
 Access of information can turn on one of 2 things:
o Either the issuer (the company trying to sell the securities) has provided information equivalent
to the information provided in a registration statement filed with the SEC or
o The offerees had access to information by having the ability to look at files and records of the
company that contained equivalent information
 An offering to those shown to not need the protection of the Act is a transaction not involving any public offering,
and thus, is exempt from the registration requirements
 5th Circuit Factors
 Number of offerees and the relationship to each other and issuer
 Number of units offered
 Size of the offering
 Manner of the offering
 Exemptions From Registration
 Certain Types of Securities
o Congress felt that purchasers/investors of certain types of securities did not need the protection
of the federal securities laws (disclosure requirements & anti-fraud provisions)
o Example = U.S. government securities
 Certain Types of Transactions
o Exempt because of the manner in which they are sold to purchasers/investors
o Only applies to the specific sale of securities. It doesn’t apply to the securities going forward
o Example = private placement
 Private Placement Transaction = there is no requirement that a registration statement
be filed with the SEC; however, there is a requirement to provide access to information
 Regulation D Exemption
o Provides a series of safe-harbors that issuers can use to come within the private-placement
exemption and avoid or reduce their required disclosure
o More detailed in the requirements that must be met to satisfy the exemption
 oIt is a series of requirements that must be satisfied by the issuer to fall under the transaction
exemption
 Doran v. Petroleum Management
 Parties:
o P = William H. Doran, Jr
o D = Petroleum Management Corporation (PMC)
 Cause of Action:
o Plaintiff claims that he purchased a security which should have been registered but PMC failed
to do this to comply with §5
 Relief Sought:
o Filed suit seeking damages for breach of contract, rescission of the contract based on violations
of the Securities Acts of 1933 and 1934, and a judgment declaring the defendants liable for
payment of the state judgment obtained by Mid-Continent
 Rescission = puts plaintiff back to the point he was at before purchasing the limited
partnership interest
 Legal Issue:
o Whether defendants’ transaction came within the exemption from registration found in §4(2) of
the 1933 Act, the private offering exemption or private placement transaction
o Whether the transaction was sufficient because plaintiff was a sophisticated investor and
therefore did not need the protection of §5 registration
 Rule:
o SEC v. Ralston Purina TEST for Exemption From Registration
o Access to Information (defendant’s burden to prove)
 If the offerees had access to information in some way other than through a registration
statement, then that could be considered to be a private placement transaction
 If the offerees did not have access to information, then they would not fall within the
private placement transaction exemption
 Holding:
o In the absence of findings of fact that each offeree had been furnished information about the
issuer that a registration statement would have disclosed or that each offeree had effective
access to such information, the district court erred in concluding that the offering was a private
placement. Accordingly, the court reversed and remanded
 On remand, the court must determine whether the offerees knew or had a realistic
opportunity to learn facts essential to an investment judgment
o Evidence of a high degree of business or legal sophistication on the part of all offerees does not
suffice to bring the offering within the private placement exemption; both access to information
and investment sophistication is necessary
 Reasoning:
o Defendants have not met their burden on the question of the private placement exemption
o There is nothing in the record that would indicate that the offerees had access to information
o SECURITIES FRAUD
 Fraud in Registered Information
 Securities Act of 1933 §11 Civil Liabilities on Account of False Registration Statement
o Material misstatement or omission in a registration statement is actionable fraud
 (1) there must be a misstatement or omission
 (2) there must be materiality
 (3) it must be contained in a registration statement
o Person acquiring such security has standing to bring this as an express private right of action
o Against any person who signed the registration statement, any director, any expert who
prepared or certified part of registration statement, underwriters
o Subject to defenses of loss causation, statute of limitations, and due diligence
o Remedy = damages; if plaintiff meets its burden and defendants cannot establish one of the
defenses then the remedy is damages equivalent to the difference between the price paid for the
shares and the value of the securities
 Securities Act of 1933 §12 Civil Liabilities Arising in Connection With Prospectuses and
Communications
o Reaches material misstatements or omissions outside of a registration statement
o Person acquiring such security has standing to bring this as an express private right of action
  Escott v. BarChris
o Parties:
 P = purchasers of 5.5% BarChris debentures
 D = fall into 3 categories:
 (1) the persons who signed the registration statement (BarChris, 9 directors,
and Trilling, who was BarChris’s controller)
 (2) the underwriters, consisting of 8 investment banking firms, led by Drexel
 (3) BarChris’s auditors which is Peat Marwick Mitchell & Co.
o Cause of Action:
 This action is brought under §11 of the Securities Act of 1933 alleging that the
registration statement with respect to the debentures filed with the SEC contained
material false statements and material omissions
o Legal Issue:
 (1) did the registration statement contain false statements of fact, or did it omit to state
facts which should have been stated in order to prevent it from being misleading?
 (2) if so, were facts which were falsely stated material within the meaning of the Act?
 (3) if so, have defendants established their affirmative defenses of due diligence?
o Rule:
 Plaintiff’s Standard of Proof
 Plaintiff must have acquired the security through the registration statement
 Action must be against any person who signed the registration statement, any
director, any expert who prepared or certified part of the registration statement,
and any underwriters
 Plaintiff must show there was a material misstatement or omission in the
registration statement
 Due Diligence Defense
 If defendant meets its burden, it can avoid liability on a case by case basis
 The first question you must ask is where does the alleged material
misstatement or omission appear in the registration statement, is it in expertised
portions or non expertised portions? Then ask is the defendant deemed to be an
expert or a non-expert?
o Holding:
 Plaintiffs have met their burden of showing that there were material misstatements or
omissions in the registration statement
 Defendants’ motion to dismiss is denied because they were unable to establish
complete due diligence defenses (explanation in notes)
 Fraud in Corporate Disclosures
 Securities Exchange Act of 1934 §10(b) Manipulative and Deceptive Devices
o In connection with the purchase or sale of securities, using jurisdictional means, it is unlawful
to use or employ manipulative or deceptive devices in violation of SEC rules
 Using Jurisdictional Means = involving interstate commerce
 Manipulative or Deceptive Device = explained in SEC Rule 10b-5
o An implied private right of action
 SEC Rule 10b-5 Employment of Manipulative and Deceptive Devices
o In connection with the purchase or sale of securities, using jurisdictional means, it is unlawful
to employ any device to defraud, to make material misstatements and omissions, or to engage
in any act operating as a fraud or deceit
 SEC v. Texas Gulf Sulphur
o Congress intended only the device employed, whatever it might be, be of a sort that would
cause reasonable investors to rely and in connection therewith so relying causes them to
purchase or sell a corporation’s securities
o All that is needed to be shown is that the investor relied on the statements made by the
company in the press releases and that is what caused them to purchase or sell the securities
 Defenses
 Due Diligence Defense:
o Escott v. BarChris
 Expertised Portion = a portion of the registration statement that contains a statement
by an expert as defined in the statute upon which investors would rely
  EXPERT: Reasonably believes, after reasonable investigation, that the
information contained in the registration statement is true
 NON-EXPERT: No reason to believe that the information in the expertised
portion is false
 Nonexpertised Portion = everything else
 EXPERT: No liability with respect to the nonexpertised portion
 NON-EXPERT: Reasonably believes, after reasonable investigation, that the
information in the nonexpertised portion of the registration statement is true
 Loss Causation Defense
o You as a defendant are able to show that the reason plaintiff suffered loss was not due to the
material misstatement or material omission in the registration statement but was due to some
other factor
 Statute of Limitations Defense
o Securities Act of 1933 §13 Limitation of Actions
 Contains statute of limitations defense
 No more than 1 year from the date of discovery of the true information & no more than
3 years from the date of offering of the security
o INSIDER INFORMATION
 Types of Cases:
 Defective Corporate Disclosure
o Corporate disclosure that is deemed to be materially misleading
o Can occur in the context of a required government filing or a voluntary statement
 Insider Trading
 Fraud in Dealings Between Broker-Dealer & Their Customers
o Broker-dealer firms are the firms that are in the securities business and they buy and sell
securities for the accounting customers
 Insider Trading
 Securities Exchange Act of 1934 §10(b) Manipulative and Deceptive Devices
o It shall be unlawful for any person to use or employ, in connection with the purchase or sale of
any security, any manipulative or deceptive device or contrivance in contravention of rules and
regulations of the Securities and Exchange Commission
 SEC Rule 10b-5 Employment of Manipulative and Deceptive Devices
o It shall be unlawful for any person
 (a) to employ any device, scheme or artifice to defraud,
 (b) to make any untrue statement of a material fact or material omission, or
 (c) to engage in any act, practice, or course of business which operates as a fraud or
deceit upon any person
 Disclose or Abstain Rule
o In Re Cady Roberts Co. TEST for Disclose or Abstain Rule
 Recognizes a common law duty of corporate insiders (includes officers, directors, and
control shareholders) to disclose inside information when dealing in securities
 But it remained unclear who inherited these duties
o Chiarella v. US TEST for Disclose or Abstain Rule
 In order to have a violation of Rule 10b-5 based on insider trading conduct, there has to
be a relationship of trust and confidence that exists
 In order for there to be fraud, there must be a breach of a duty of trust and confidence
and taking that information and trading on it for one’s own personal gain
 This rule applies to corporate insiders who do have this duty of trust and
confidence
 It does not apply to a corporate outsider
 Corporate insider must abstain from trading in the shares of his corporation unless he
has first disclosed all material inside information known to him
 Duty to abstain arises from this relationship of trust between a corporation’s
shareholders and its employees; duty does not arise from mere possession of material
inside information
 A duty to disclose material nonpublic corporate information or abstain from trading in
the stock of the corporation which is the subject of that information requires a fiduciary
relationship with the corporation that is the subject of the stock trade
o SEC v. Texas Gulf Sulphur
 Parties:
 P = SEC
 D = Texas Gulf Sulphur (a mining company)
 Cause of Action:
 Defendant put out false and misleading press releases to the public stating there
were rumors of their find but then downplayed the finding and stated there was
no information available to conclude this resulting in insider trading
 Legal Issue:
 (1) Insider trading prohibition
 (2) Materiality of information
 (3) Interpretation of statutory language regarding “in connection with the
purchase or sale of a security”
 Rule:
 Disclose or Abstain Rule (insider trading)
o Those in possession of material inside information must either:
 (1) disclose it to the investing public, OR
 (2) if he is disabled from disclosing it in order to protect a
corporate confidence, or he chooses not to do so, must abstain
from trading in or recommending the securities concerned
while such inside information remains undisclosed
 Standard of Materiality & The Probability Magnitude Test
o The reasonable investor standard refined to reflect the facts of this case
o An insider’s duty to disclose information or his duty to abstain from
dealing in his company’s securities arises only in those situations
which are essentially extraordinary in nature and are reasonably certain
to have a substantial effect on the market price of the security if the
extraordinary situation is disclosed
o The probability magnitude test is used to determine speculative
information
 Speculative information = information that as of the point in
making the decision on whether to invest to disclose or not
disclose, the future event is uncertain
o 2 factors should be looked at:
 (1) the probability that the future event will occur
 (2) the magnitude of impact on the company if the uncertain
event does happen in the future
o If high magnitude and high probability, the information would be
considered to be material
 Legislative Purpose (statutory interpretation)
o Congress intended only the device employed, whatever it might be, be
of a sort that would cause reasonable investors to rely and in
connection therewith so relying causes them to purchase or sell a
corporation’s securities
o All that is needed to be shown is that the investor relied on the
statements made by the company in the press releases and that is what
caused them to purchase or sell the securities
 Holding:
 The court remanded the case back to the district court to determine the
character of the press releases in the light of the facts existing at the time of the
release, by applying the standard of whether the reasonable investor, in the
exercise of due care, would have been misled by it
 Reasoning:
 There was material inside information and the insiders should not have been
trading
 They should have first disclosed the true information about the samples to the
public and only after that would they be permitted to trade under the disclose or
abstain rule
  Because the district court did not use the proper standard of materiality, the
case is being remanded
 Tippee Liability
o What Counts as a Personal Benefit?
 The insider-tipper will benefit, directly or indirectly, from his disclosure
 The benefit can be a pecuniary gain or a reputational benefit that translates into future
earnings
 The elements of fiduciary duty and exploitation of nonpublic information also exist
when an insider makes a gift of confidential information to a trading relative or friend
 Quid pro quo arrangement
 Gift to a family member or a friend without an additional requirement of value
 The gift aspect does not apply to nonrelatives and nonfriends
o Dirks v. SEC
 Parties:
 P = SEC
 D = Raymond Dirks
 However, the administrative law judge found Dirks violated the rule so Dirks
appealed to the judicial courts and is technically plaintiff on these actions
 Cause of Action:
 The SEC claimed Dirks violated the rules because he repeated the allegations
of fraud to members of the investment community who later sold their Equity
Funding stock
 Legal Issue:
 Whether Dirks violated the antifraud provisions of the federal securities laws
by disclosing to investors material nonpublic information from insiders of a
corporation with which he had no connection with
 Rule: Tippee Liability
 In determining whether a tippee is under an obligation to disclose or abstain, it
is necessary to determine if:
o (1) Tipper breached a fiduciary duty
 Mere possession of material inside information does not give
rise to a duty to disclose
 Existence of breach turns on receipt of direct personal benefit
by tipper
 The test is whether the insider personally will benefit, directly
or indirectly, from his disclosure.
 Absent some personal gain, there has been no breach of duty to
shareholders and absent a breach by the insider, there is no
derivative breach
 Temporary insider such as an underwriter, accountant, lawyer
or consultant may become fiduciaries of shareholders
 The corporation must expect the outsider to keep the disclosed
nonpublic information confidential and the relationship at least
must imply such a duty
o (2) Tippee knew or should have known of the tipper’s breach of
fiduciary duty
 A tippee assumes the duty to disclose or abstain not because they receive
insider information, but rather because it has been made available to them
improperly
 Holding:
 Dirks, in the circumstances of this case, had no duty to abstain from use of the
inside information that he obtained.
 In the absence of a breach of duty to shareholders by the insiders, there was no
derivative breach by Dirks
 Reasoning:
 Dirks, as tippee, was not liable for the violation because Secrist, as tipper,
didn’t breach a fiduciary duty because he did not receive a personal benefit
when he passed the information to Dirks
  Dirks was motivated to make the public aware of fraud, without any personal
benefit
 Secrist also was not liable because he did not breach a fiduciary duty so the
first part of the test was not met
o Salman v. US
 Parties:
 P = The US
 D = Bassam Salman
 Because Salman is challenging his conviction brought by the US, he is
technically plaintiff in this action
 Cause of Action:
 Salman challenges his convictions for conspiracy and insider trading
 Legal Issue:
 Whether a gift to a family member of material nonpublic information counts as
a personal benefit of the tipper leading to a breach of fiduciary duty under the
Dirks test
 Holding:
 The court rejected Salman’s argument that Dirk’s gift-giving standard is
unconstitutionally vague as applied to this case.
 The court says that disclosing information to one’s brother does count as a
personal benefit to the tipper under Dirks because Salman knew about this
relationship between the brothers and knew Maher was the source of the
information
 Reasoning:
 The gift from Maher to Michael fulfilled the personal benefit aspect of the test
and Salman knew about the relationship thereby fulfilling the second prong of
the test
 Dirks requires a breach of fiduciary duty involving a personal benefit
 A personal benefit can take the form of either a direct pecuniary payment or a
quid pro quo arrangement that benefits the tipper
 But in the Dirks language, this also includes a gift of information to a trading
relative or a friend
 The gift alone is sufficient to constitute a breach. Nothing of value needs to
actually be exchanged
 Misappropriation Theory & Outsider Trading
o US v. O’Hagan
 Parties:
 P = SEC
 D = James Herman O’Hagan
 Cause of Action:
 Liability under the misappropriation theory for taking information provided in
a business context and using it for his own personal trading advantage thereby
breaching a duty of confidentiality
 Liability under §14(e) for receiving material nonpublic information of the
tender offer transaction obtained from the offeror
 Legal Issue:
 (1) whether a person who trades in securities for personal profit, using
confidential information misappropriated in breach of a fiduciary duty to the
source of the information, is guilty of violating §10(b) and Rule 10b-5
 Rule:
 The misappropriation theory holds that a person commits fraud in connection
with a securities transaction and thereby violates §10(b) and Rule 10b-5 when
he misappropriates confidential information for securities trading purposes, in
breach of a duty owed to the source of the information
 Misappropriation involves a deceptive device or contrivance used in
connection with the purchase or sale of securities
 o The misappropriator deals in deception and a person who pretends
loyalty to the principal while secretly converting the principal’s
information for personal gain, dupes or defrauds the principle
o The “in connection with” element is satisfied because the fiduciary’s
fraud is consummated, not when the fiduciary gains the confidential
information, but when, without disclosure to his principal, he uses the
information to purchase or sell securities
 Outsider violates §10(b) and 10b-5 when he trades on material non-public
information in breach of a duty owed to the source of such information
o Disclosure to source of information absolves breach
o The purpose is to protect integrity of markets against abuses by
outsiders who have access to confidential info that will affect a
company’s stock price but who owe no fiduciary duty to corporation’s
shareholders
 Holding:
 The misappropriation at issue here was properly made the subject of a §10(b)
charge because it meets the statutory requirements that there be “deceptive”
conduct “in connection with” securities transactions
 The court upheld the convictions
 Reasoning:
 Considering the inhibiting impact on market participation of trading on
misappropriated information, and the congressional purposes underlying
§10(b), it would not make sense to hold a lawyer like defendant a §10(b) if he
works for a law firm representing the target of a tender offer, but not if he
works for a law firm representing the bidder, as was the case here.
 Information From Tender Offers
 Securities Exchange Act of 1934 §14(e) Proxies: Untrue Statement of Material Fact or Omission
of Fact With Respect to Tender Offer
o In connection with a tender offer, it shall be unlawful to make material misstatements or
omission or to engage in fraud, deception or manipulation
 SEC Rule 14e-3(a) Transactions in Securities on the Basis of Material, Nonpublic Information in
the Context of Tender Offers
o If a tender offer has been commenced, it is unlawful to purchase or sell securities on the basis
of material inside information if trader knows info obtained from offeror, issuer or any officer,
director, partner, or employee to either offeror or issuer
 US v. O’Hagan
o Did the Commission exceeded its rulemaking authority under §14(e) when it adopted Rule 14e-
3(a) without requiring a showing that the trading at issue entailed a breach of fiduciary duty
o The court said they are not going to decide whether there is a difference between the
Commission’s authority under the rules because the rule itself is a means reasonably designed
to prevent fraudulent trading on material and nonpublic information in the tender offer context
o The court uses Chevron Deference rule which says that you should give the expert executive
agency in charge with enforcement of a particular area of law deference when it is within their
area of expertise
o The Commission, to the extent relevant in this case, did not exceed its authority
 Short Swing Profits
 Elements for §16(b) to Apply:
o (1) a derivative action
o (2) covers a publicly traded company
o (3) covers 3 types of people:
 (a) officers
 (b) directors
 (c) beneficial owners
o (4) covers short-term trading transactions:
 (a) shares purchased AND sold
 (b) shares sold AND purchased
 (c) within a 6 month period
 (d) resulting in a profit
 o (5) profits are recoverable by the corporation
 Securities Exchange Act of 1934 §16(a) Directors, Officers, and Principal Shareholders:
Disclosures Required
o Requires insiders of public companies to report to the SEC transactions in equity securities by
insiders of public companies (issuers)
o Insiders are directors and officers of issuers and persons who directly or indirectly are the
beneficial owners of more than 10% of any class of equity security of issuers (covered persons)
 Securities Exchange Act of 1934 §16(b) Directors, Officers, and Principal Shareholders: Profits
From Purchase and Sale of Security Within Six Months
o Offices, directors, and beneficial owners must pay to the corporation any profits they make,
within a 6-month period, from buying and selling the firm’s stock
 Remedy = Disgorgement of those profits
o For the purpose of preventing the unfair use of information which may have been obtained by
such beneficial owner, director or officer by reason of his relationship to the issuer, any profit
realized by him from any purchase and sale, any sale and purchase of any equity security of
such issuer within a period of less than 6 months shall inure to and be recoverable by the issuer.
o This subsection shall not cover any transaction where such beneficial owner was not such both
at the time of the purchase and sale or the sale and purchase of the securities involved
o In order for §16(b) to be triggered, it has to be a company that is a public company whose stock
is registered under §12 of the 1934 Act
 Beneficial Owners = a shareholder who owns more than 10% of equity securities
 Reliance Electric v. Emerson Electric
o Parties:
 P = Emerson Electric
 D = Reliance Electric
o Cause of Action:
 Emerson filed this action seeking a declaratory judgment as to its liability under §16(b)
o Relief Sought:
 Reliance demanded Emerson pay over the profits from both sales
o Legal Issue:
 Whether Emerson is liable for the profits from the first sale reducing his holdings from
13.2% to 9.96%
 Whether Emerson is liable for the profits from the second sale eliminating his holdings
from 9.96% to 0
o Holding:
 Sale 1 = yes Emerson is liable for profits
 Sale 2 = no Emerson is not liable for profits
 As long as the 2 sales are not legally tied to each other and are made at different times
to different buyers, the splitting of the block is permissible
o Reasoning:
 Sale 1
 Emerson is a covered person under the statute
 Emerson held 13.2% of the shares, which is more than the statutory minimum
of 10%
 Therefore, it falls within the covered persons definition within the statute
 So Emerson owes profits on the difference between the amount they purchased
the shares for and the amount they sold the shares for
 Sale 2
 Emerson is not a covered person within the language of the statute
 Emerson does not own more than 10% at this point
 Emerson is not liable for profits on the second sale
 INDEMNIFICATION & INSURANCE
o Indemnification Rules = detailed statutory provisions covering the authority or obligation of a corporation to
indemnify officers and directors for any damages they might incur in connection with their corporate activities, and for
the expenses of defending themselves
 Covered Persons = any person who becomes a party to legal action by reason of service as director, officer,
employee or agent
o DGCL §102(b)(7) Contents of Certificate of Incorporation
 Delaware’s protective provision
This applies only to liability of a director to the corporation or its shareholders for monetary damages for breach
of fiduciary duty as a director
o DGCL §145(a) Indemnification of Officers, Directors, Employees, and Agents; Insurance: Third Party Suits
 Indemnification permitted/allowed for expenses, fines, judgments; acted in good faith
o DGCL §145(b) Indemnification; Insurance: Derivative Suits
 Indemnification permitted/allowed only for expenses with judicial approval; acted in good faith
o DGCL §145(c) Indemnification; Insurance: Indemnification Required
 Expenses must be reimbursed if the defendant was successful
o DGCL §145(e) Indemnification; Insurance: Advances of Expenses to Officers and Directors
 Corporation may grant advances with written undertaking to repay if not entitled to indemnification
 Advances = giving money payments to a covered person, such as officers and directors, to allow them
to pay their fees and legal expenses while a lawsuit is pending against them
 This provision is optional, not mandatory
o DGCL §145(f) Indemnification; Insurance: Additional Rights Granted by Contract
 This is of most interest to officers, directors, and other employees
 It expressly contemplates agreements that provide greater protection than does the statute itself
o DGCL §145(g) Indemnification; Insurance: Insurance
 Corporation may insure covered persons against liability (directors and officers insurance)
 Most publicly held, and many privately held, corporations carry director & officer liability insurance
 PROXIES
o Proxy = the agent appointed by a shareholder to attend a shareholder meeting and vote on their behalf; the document by
which the shareholder appoints the agent is also called the proxy
 Purpose is to get authorization from shareholders that these named individuals can vote the shares of the
shareholders at an annual meeting
 Covers Voting Items:
 Election or re-election of the board of directors
 Appointing an accounting firm as the accountant
 Shareholder proposals
 Approval/disapproval of a merger
 Whether to amend the articles of incorporation & limit director liability
 To liquidate the firm
 To sell all or substantially all of the assets
 Proxy Fight = used to gain corporate control of the corporation and occurs when an insurgent group tries to
oust incumbent managers by soliciting proxy cards and electing its own representatives to the board
 Insurgent = those who want to run to take over power
 Incumbent = those who currently hold the position
o DGCL §212(b) Voting Rights of Shareholders; Proxies; Limitations
 Permits use of proxies for shareholder voting
o DGCL §211(b) Meetings of Shareholders
 Requires annual meetings of shareholders for election of directors
o Securities Exchange Act of 1934 §14(a) Proxies: Solicitation of Proxies in Violation of Rules and Regulations
 Requires proxy solicitations for reporting companies to comply with SEC rules
 This prohibits people from soliciting proxies in violation of the SEC rules
 SEC rules require disclosure to accompany proxy solicitation, specify form of proxy card, require prior
filing and review of proxy statement and proxy card, prohibit false and misleading proxy solicitations
o SEC Rule 14a-8 Shareholder Proposals
 Company must include information in proxy statement and identify it in form of proxy subject to procedural
limitations and the right to exclude
 Procedural Limitations = limitations on who is a qualified shareholder to present a proposal for voting
at a meeting of shareholders
o Must own $2K or 1%
o May only submit one proposal per shareholder
o The proposal must not exceed 500 words
 Management must include the shareholder proposal in the annual proxy solicitation unless the management can
meet burden of proof of showing proposal may be legitimately be excluded
 Management must notify shareholder that their proposal is being rejected and give them the opportunity
to correct the proposal and make it within the limitations of the rule
  Management must file reasons for rejection with the SEC
 Shareholder Proposal = recommendation or requirement that company and/or the board of directors of that
company take action which you intend to present in the form of a resolution at meeting of shareholders
o USE OF PROXIES
 Levin v. Metro Goldwyn Mayer (MGM)
 Parties:
o P = 6 shareholders of MGM
o D = MGM & 5/13 members of MGM’s board of directors
 Cause of Action:
o Plaintiffs claim defendants used money for the proxy solicitation process and wrongfully
committed the company to pay for the services of specially retained attorneys, a public relations
firm and proxy soliciting organizations, and, in addition, have improperly used the offices and
employees of MGM in proxy solicitation and the good-will and business contracts of MGM to
secure support for the present management
 Relief Sought:
o Plaintiffs pray for temporary and permanent injunctive relief against defendants’ continuing
their method of solicitation of proxies and against defendants’ voting the proxies so obtained at
the annual meeting and money damages of $2.5M for MGM from individual defendants
 Legal Issue:
o Whether there were unfair or illegal means used by the incumbents in connection with fighting
off the plaintiffs in the proxy contest
 Rule:
o LIMITATIONS on Proxy Fights
 The proxy fight must turn on differences relating to policy for running a company
 The amounts spent
 Violation of federal statute
 Holding:
o Illegal or unfair means of communication are not being employed by the present management
o Injunctive relief is denied
 Reasoning:
o The court says that it was appropriate for the incumbents to expend funds for the purposes of
the proxy fight because the shareholders have a right to be fully informed when it comes to a
proxy contest
o The fundamental policy differences between the groups concerned:
 The annual number of feature pictures MGM should produce
 Slow release of pictures to TV showing
 Build up cash funds available for productions by reducing dividends
o REIMBURSEMENT OF COSTS
 DGCL §113 Proxy Expense Reimbursement
 (a) the bylaws may allow reimbursement by the corporation of expenses incurred by a shareholder in
soliciting proxies for an election of directors, subject to procedures/conditions in the bylaws, including:
o (1) conditioning eligibility for reimbursement upon the number/proportion of persons
nominated by the shareholder seeking reimbursement or whether such shareholder previously
sought reimbursement for similar expenses;
o (2) limitations on the amount of reimbursement based upon the proportion of votes cast in favor
of 1 or more people nominated by the shareholder seeking reimbursement, or upon the amount
spent by the corporation in soliciting proxies in connection with the election;
o (3) limitations concerning elections of directors by cumulative voting; or
o (4) any other lawful condition.
 (b) no adopted bylaw shall apply to elections for which any record date precedes its adoption
o In a proxy contest, incumbents may charge firms for proxy costs; insurgents may be reimbursed
if they win and shareholders ratify
 Rules:
 In a contest over policy, as compared to a purely personal power contest, corporate directors have the
right to make reasonable and proper expenditures, subject to the scrutiny of the courts when duly
challenged, from the corporate treasury for the purpose of persuading the shareholders of the
correctness of their position and soliciting their support for policies which the directors believe, in all
good faith, are in the best interests of the corporation
  The shareholders have a right to reimburse successful contestants for the reasonable and good faith
expenses incurred by them in any such policy contest, subject to court scrutiny
 Rosenfeld v. Fairchild Engine
 Parties:
o P = an attorney shareholder who owns 25 out of 2.3M shares of Fairchild Engine
o D = board of directors of Fairchild Engine
 Cause of Action:
o Shareholder derivative lawsuit
 Relief Sought:
o Plaintiff seeks to compel the return of $261,522 paid out of the corporate treasury to reimburse
both sides in a proxy contest for their expenses
 Legal Issue:
o Whether the reimbursed charges of the proxy contest were legal charges which went beyond the
policies of the company
 Rule:
o Incumbents have the right to be reimbursed in connection with a proxy contest because they
have a good faith right to defend their positions as long as certain things are true:
 This involved a contest over policy
 The amounts spent were reasonable and proper
 The actions of the incumbents were taken in the best interest of the shareholders
o The shareholders of a corporation can reimburse successful contestants (the insurgents here)
for reasonable and good faith purchases
o LIMITATIONS:
 Reasonable and proper in amount
 Contest over policy and not trying to maintain power for one’s own self interest
 Acting in good faith
 Holding:
o The reimbursement of costs for the proxy contest was legal because the proxy contest involved
questions of corporate policy
 Reasoning:
o The court distinguishes between expenses relating to corporate policy and expenses related to
matters of personal
o Here, there were questions of corporate policy involved rather than personal control and the
expenses were reasonable
 SHAREHOLDER INSPECTION RIGHTS
o Shareholder Inspection of Rights = the ability of shareholders to obtain shareholder list or other corporate records
o SEC Rule 14a-7 Obligations of Registrants to Provide a List of, or Mail Soliciting Material to, Security Holders
 Common Carrier Obligation
 Management must mail shareholder materials or provide shareholder with a list of names and addresses
of other shareholders
 This gives management a choice:
o They can either mail the insurgent group’s material to the shareholders directly and charge the
group for the cost OR
o They can give the group a copy of the shareholder list and let it distribute its own material.
o Crane v. Anaconda
 Parties:
 P = Crane Company
 D = Anaconda Company
 Cause of Action:
 Crane claimed that Anaconda had a fiduciary duty to its shareholders to present them with all the
information pertinent to the pending tender offer because they wanted to launch an exchange offer for
the common stock of Anaconda and they wanted to contact the shareholders to make this offer
 Relief Sought:
 Plaintiff demands that after the second written request, accompanied by an affidavit, Anaconda produce
a list of its shareholders and its stock book for inspection
 Legal Issue:
  Whether a qualified shareholder may inspect the corporation’s shareholder register to ascertain the
identity of fellow shareholders for the avowed purpose of informing them directly of its exchange offer
and soliciting tenders of stock
 Rule:
 NYBCL §1315 Record of Shareholders & Shareholder Inspection Rights
o Type of shareholder that can request information from the corporation under the statute:
 Holder of at least 5% of any class of the outstanding shares
o Type of books and records that may be requested under the statute:
 The shareholder can request the shareholder list setting forth names and addresses of
shareholders, the number and class of shares held by each shareholder, and the dates
when they respectively became the owners of record
o Conditions to access for books and record:
 The request must be made at least upon 5 days written notice and it must be
accompanied by an affidavit stating the inspection is not desired for a purpose which is
in the interest of a business or object other than the business of the corporation and that
such shareholder has not within 5 years sold or offered for sale any list of shareholders
of any other corporation of any type or kind
o Burden of proof on proper purpose:
 The burden of proof once the conditions have been met is on the corporation to
demonstrate that access is being requested for an improper purpose
 A shareholder desiring to discuss relevant aspects of a tender offer should be granted access to the
shareholder list unless it is sought for a purpose adverse to the corporation or its shareholders and the
manner of the communication selected should be within the judgment of the shareholder
 Holding:
 Because it appears that Anaconda has failed to sustain its burden of proving an improper purpose and
the court below did not abuse its discretion, the court concluded that inspection should be compelled
 Reasoning:
 Crane is entitled to the shareholder list
 Anaconda did not meet its burden of proving an improper purpose
 This was a proper purpose because shareholders should know what effects the future direction of the
corporation and the shareholder’s own interest
 At the time of the second request, Crane was Anaconda’s largest shareholder with over 11% ownership
so it went over the 5% requirement
o Pillsbury v. Honeywell
 Parties:
 P = advocate for opposing the Vietnam War who became a shareholder of Honeywell by directing his
fiscal agent to purchase 100 Honeywell shares to give himself a voice in Honeywell’s affairs
 D = Honeywell, Inc.
 Cause of Action:
 Plaintiff wanted to give himself a voice in Honeywell’s affairs so he could persuade Honeywell to cease
producing munitions and to communicate with other shareholders in the hope of altering Honeywell’s
board of directors and thereby changing its policy
 Relief Sought:
 Plaintiff was requesting that Honeywell produce its original shareholder ledger, current shareholder
ledger, and all corporate records dealing with weapons and munitions manufacture
 Legal Issue:
 Whether Honeywell is required to turn over these documents to plaintiff under the state statute
 Rule:
 DGCL §220 Inspection of Books and Records Shareholder Inspection Rights
o Type of shareholder that can request information from the corporation under the statute:
 Any shareholder
o Type of books and records that may be requested under the statute:
 Any books and records
 The statute says that you can request a corporation’s stock ledger, a list of its
shareholders, and its other books and records, and to make copies or extracts
o Conditions to access for books and record:
 Inspection must be for any proper purpose
 Shareholder must pay to the corporation the reasonable cost for obtaining and
furnishing the shareholder list
 o Burden of proof on proper purpose:
 Plaintiff shareholder must establish a proper purpose to obtain books and records other
than the shareholder list
 For the shareholder list, the burden is on the corporation to establish that the inspection
is for an improper purpose
 Holding:
 The court upholds Honeywell’s denial of plaintiff’s request
 Reasoning:
 The court looks at the meaning of proper purpose
 It says that a proper purpose means a purpose that is economic in nature when it comes to inspecting
corporate records other than the shareholder list
 His stated goal was a political goal, not anything concerned with economic effects of the company