Background on Corporate Law (p. 193)

1. Background on Corporate Law (p. 193) Donald J. Weidner • Corporate-law statutes vary, but have a few common elements. • The two basic groups are: • the shareholders, who own shares in the corporation and who • ordinarily elect the Board of Directors; and • ordinarily must vote to approve significant changes to the corporation (such as a voluntary dissolution). • the board of directors, who are ordinarily elected by the SHs and who • govern or at least oversee the corporation as to all ordinary business; and • have the power to appoint corporate agents (agents run the corporation—typically, the “officers” of a corporation, such as the chief executive officer (“CEO”)).

2. Corporate Background (cont’d) Donald J. Weidner Corporations are legal entities that can sue or be sued, own their own assets, etc. The “entity” theory was the historic rationalization of the default rule that neither the shareholders nor the directors are liable for the corporation’s obligations. Today, limited liability partnerships, limited partnerships, and LLCs are also considered entities, and also offer their equity holders and managers limited liability for the obligations of the entity. The Model Business Corporation Act (“MBCA”) is an ABA product that has been adopted in roughly half the states. Florida became an MBCA state in 1989, although with modifications. The act is frequently amended, and Delaware law is also influential. Statutes provide that a corporation is formed on filing the “articles of incorporation,” also known as a “certificate of incorporation.”

3. Corporate Background (cont’d) Donald J. Weidner • The articles of incorporation are the governing document and can direct details of corporate governance. • Ex., the articles might require an extraordinary majority vote of the directors or shareholders to do certain acts. • A subordinate document to the articles is the corporate “bylaws,” which contain governing principles or procedures for the operation of the corporation. • MBCA § 8.01(b): “All corporate powers shall be exercised by or under the authority of the board of directors of the corporation, and the business and affairs of the corporation shall be managed by or under the direction, and subject to the oversight, of its board of directors, subject to any limitation set forth in the articles of incorporation or in an [authorized] agreement . . . .”

4. Charleston Boot & Shoe Co. v. Dunsmore (1880) (p. 195) Donald J. Weidner Plaintiffs are a manufacturing corporation commenced in 1871, “having as its object a dividend of profits.” Dunsmore (1871) and Dillard (1873) were elected directors and have since been reelected. “December 10, 1874, the corporation voted to choose a committee to act with the directors to close up its affairs, and chose one Osgood for such committee.” The defendant directors ignored Osgood, said the plaintiffs, causing the corporation to hold bad debts and to watch asset values depreciate. The directors also allegedly “failed” to insure a shop against fire before it was subsequently destroyed by fire.

5. Charleston Boot & Shoe Co. v. Dunsmore (cont’d) Donald J. Weidner Statute said: “The business of every corporation shall be managed by the directorsthereof, subject to the by-laws and votes of the corporation, and under their direction by such officers and agents as shall be duly appointed by the directors or the corporation.” “The only limitation upon the judgment or discretion of the directors is such as the corporation by its by-laws and votes shall impose.” “[W]hen it has thus acted, the business as thus defined and limited is to be managed by its directors” etc. “The statute does not authorize a corporation to join another officer with the directors, nor compel the directors to act with one who is not a director.”

6. Charleston Boot & Shoe Co. v. Dunsmore (cont’d) Donald J. Weidner • The directors have a duty to use ordinary care and diligence in their duties and are “answerable for ordinary negligence” if they breach. • They are responsible to the corporation like the agents of natural persons, except insofar as provided otherwise in the charter or by-laws. • Today, there is the protective “business judgment rule” as well as statutes limiting the liability of directors for damages for their actions or inactions, absent wrongdoing. • It would be unreasonable to hold them responsible for the management of the affairs of the corporation if compelled to act with one who to a greater or lesser extent could control their acts. • The statute put the directors and the officers they appoint in charge. • “[I]f the whole corporation attempts to exercise powers which by the charter are lodged elsewhere, its action upon the subject is void.” • “The vote choosing Osgood a committee to act with the directors in closing up the affairs of the plaintiff corporation was inoperative and void.” • No statute makes it the duty of the directors to insure against fire. • No facts supporting a declaration that, as a matter of law, they had that duty. • This was within their business judgment?

7. Electing the Board of Directors (p. 196) Donald J. Weidner • The default rule is that there is a single class of “common” shares or stock that elect the Board. • Voting is by share, so that, under the default rule, a majority shareholder could elect every member of the board of directors. • Modern corporate statutes, including the MBCA, allow a corporation’s articles of incorporation to choose particular modifications to the default rule. Modification #1. Cumulative Voting. • The default rule is that directors are elected by a “plurality,” that is, a candidate for director “wins” if she gets more votes than another candidate, even if that candidate does not get a majority. • Example: A owns 80% of shares and B owns the remaining 20% of the shares. Under the default rule that directors are elected by a plurality, A will elect the entire Board.

8. Electing the Board of Directors (cont’d) Donald J. Weidner • Similarly, if A only owned 40%, B owned 20% and the rest of the shares were scattered, A would elect the entire Board (by a plurality) unless there were organized opposition to A’s candidates. • However, a provision in the articles allowing for cumulative voting will permit B to elect some part of the Board, roughly proportional to the portion of the corporation's shares B owns. • For example, on a 5-person Board, 20% shareholder B could elect one Board member. • In short, under cumulative voting: • each share is allocated, not one vote, but one vote for each of the available seats; and • the total number of votes allocated may be cast among the candidates in any way the shareholder wishes. • Thus, if B held 20 shares and 5 Board members were being elected, B would be allocated 100 votes and be permitted to allocate them among one more candidates. • B could cumulate all his votes on one candidate. • A, on the other hand, holding 80 shares, would have 400 votes (80 shares X. 5 seats up for election) to allocate.

9. Electing the Board of Directors (cont’d) Donald J. Weidner • As for votes within the Board of Directors, the default rule is that the directors themselves decide things by plurality vote. • Even though one of five directors can not control the corporation, that Director has access to information and a place at the table to advocate the position of the shareholder(s) who elected her. • Right now, Britain faces losing its “place at the table” where EU decisions are made. Modification # 2: Staggered Boards. • The default rule is that all directors are elected at the same time. • Like the U.S. House of Representative • Statutes often provide that the articles may elect “staggered” boards, often within particular limits. • Like the U.S. Senate, where only 1/3 are up for election each 2 years. • MBCA § 8.06 at p. 197, for example, says the articles may provide “for staggering the terms of directors by dividing the total number of directors into two or three groups . . . .”

10. Electing the Board of Directors (cont’d) Donald J. Weidner • As is the case in the United States Senate, the primary effect of staggered boards is to slow a potential change in the control of the corporation. • In large corporations, staggered boards are often used to prevent “hostile takeovers”—attempts by shareholders to gain control of the corporation by electing new directors. Modification # 3: Provide Different Classes of Shares. • Under modern law, corporations may issue different “classes” of shares. Some classes may have different economic rights, and hence can trade at different prices. For example, some shares are “preferred” when it comes to paying dividends. • MBCA § 8.04: “If the articles . . . authorize dividing the shares into classes, the articles may also authorize the election of all or a specified number of directors by the holders of one or more classes of shares.”

11. Removal of Directors by Shareholder Vote Donald J. Weidner • MBCA § 8.08(a) provides: “The shareholders may remove one or more directors with or without cause unless the articles . . . provide that directors may be removed only for cause.” • § 808(d): “A director may be removed by the shareholders only at a meeting called for the purpose of removing him and the meeting notice must state that the purpose of the meeting, or one of the purposes, of the meeting is removal of the director.” • Specific rules apply to the removal of directors if special techniques were used to elect them: • “(b) If a director is elected by a voting group of shareholders, only the shareholders of that voting group may participate in the vote to remove him. • (c) If cumulative voting is authorized, a director may not be removed if the number of votes sufficient to elect him under cumulative voting is voted against his removal. If cumulative voting is not authorized, a director may be removed only if the number of votes cast to remove him exceeds the number of votes cast not to remove.”

12. Removal of Directors by Judicial Proceeding Donald J. Weidner • MBCA § 8.09 on Removal of Directors by Judicial Proceeding: • “(a) The [court] may remove a director . . . in a proceeding commenced by or in the right of the corporation if the court finds that (1)the director engaged in fraudulent conduct with respect to the corporation or its shareholders, grossly abused the position of director, orintentionally inflicted harm on the corporation; and (2)considering the director’s course of conduct and the inadequacy of other available remedies, removal would be in the best interest of the corporation . . . . • (b) Nothing in this section limits the equitable powers of the court to order other relief.”

13. Filling a Vacancy on the Board Donald J. Weidner • See the general provisions of MBCA § 8.10, which state that, subject to the articles, a vacancy may be filled by the shareholders or by the directors. • There is a special rule to replace a director who was elected by a particular group: • (b) If the vacant office was held by a director elected by a voting group of shareholders, only the holders of shares of that voting group are entitled to vote to fill the vacancy if it is filled by the shareholders, and only the directors elected by that voting group are entitled to fill the vacancy if it is filled by the directors . . . .

14. Schnell v. Chris-Craft Industries, Inc. (1971) (p. 198) Donald J. Weidner • On October 16, a dissident shareholders committee filed notice with the SEC of its intent to wage a proxy fight (attempt to persuade enough shareholders to give them proxies to win a corporate vote). • On October 18, managing directors held a scheduled meeting with a newly-added agenda item, advancing the date of the annual stockholders’ meeting from January 11, 1972, as previously set by the by-laws, to December 8, 1971. The item was adopted. • October 27, the dissidents unofficially learned of the decision to accelerate the date of the shareholders’ meeting. • November 1, (a Monday, only two full working days had passed), dissident stockholders sue to enjoin the managing directors from enforcing their decision to move annual meeting up a month. • The court below rejected all the business reasons asserted by management for moving up the shareholders’ meeting. • But denied recovery saying the application for relief was tardy

15. Schnell v. Chris-Craft Industries, Inc. (cont’d) Donald J. Weidner • Some findings from below: • Plaintiffs reasonably contend that management tactics give them little chance, because of the exigencies of time, to wage a successful proxy fight. Management • hired two established proxy solicitors • refused to give plaintiffs a list of stockholders • accelerated the date of the shareholder meeting (putting the pressure on even the time required for the SEC to approve the dissidents’ proxy materials) • On appeal: Management “has attempted to use the corporate machinery and the Delaware Law for the purpose of perpetuating itself in office and, to that end, for the purpose of obstructing the legitimate efforts of dissident stockholders in the exercise of their rights to undertake a proxy contest against management. These are inequitable purposes, contrary to established principles of corporate democracy. The advancement by directors of the by-law date of a stockholders’ meeting, for such purposes, will not be permitted to stand.”

16. Schnell v. Chris-Craft Industries, Inc. (cont’d) Donald J. Weidner • “When the bylaws of a corporation designate the date of the annual meeting of stockholders, it is to be expected that those who intend to contest the reelection of incumbent management will gear their campaign to the by-law date. It is not to be expected that the management will attempt to advance that date in order to obtain an inequitable advantage in the contest.” • Management said it complied strictly with Delaware Corporate law in changing the date in the by-laws for the SHs meeting. • The court stated that it would stay out of setting the date absent fraud or inequitable conduct. • Here, the injunction must be granted: “inequitable action does not become permissible simply because it is legally possible.” The dissident stockholders cannot be denied relief “simply because the new Delaware Corporation Law makes such inequitable action legally possible.” • Like Page v. Page

17. Ringling Bros.-Barnum & Bailey Combined Shows, Inc. v. Ringling (1947) (p. 200) Donald J. Weidner • A meeting to elect all 7 of the Corporate Defendant’s directors was approaching. • Corporation had 1,000 shares outstanding, which its three shareholder could voted cumulatively: • 315 shares in Plaintiff Edith Conway Ringling (315 x 7 = 2,205 votes) • 315 shares in Defendant Aubrey Ringling Haley (315 x 7 = 2,205 votes) • 370 shares in Defendant John Ringling North (370 x 7 = 2,590 votes) 7,000 votes total • Plaintiff Edith Ringling said, by virtue of the agreement at p. 201 [see next slide], Defendant Aubrey Haley was bound to vote her shares for an adjournment of the annual stockholders meeting (at which directors were to be elected) or, in the alternative, for a certain slate of directors. • The agreement reflected that some of the shares of Plaintiff Edith and Defendant Aubrey had been “deposited under a voting trust agreement” that was to terminate in 1947 or sooner.

18. Ringling Bros. (cont’d) Donald J. Weidner • The 1941 agreement gave each of right of first refusal to purchase the shares of the other. • The two most discussed provisions of the agreement are as follows: • “2. In exercising any voting rights . . . each party will consult and confer with the other and the parties will act jointly in exercising such voting rights in accordance with such agreement as they may reach with respect to any matter calling for the exercise of such voting rights.” • If the parties fail to agree, “the question in disagreement shall be submitted for arbitration [to Loos], as arbitrator, and his decision thereon shall be binding.” • The parties agreed to “execute such voting trust agreement . . . as . . . may be advised by counsel are appropriate to effectuate the purposes and objects of this agreement.” • The agreement was for 10 years, unless sooner terminated in writing.

19. Ringling Bros. (cont’d) Donald J. Weidner • At the annual meetings in 1943-45, Ms. Ringling and Ms. Haley voted in accord with each other, and so elected 5 of the 7 directors. • They each “had sufficient votes, independently of the other, to elect two of the seven directors. By both voting [their extra shares] for an additional candidate, they could be sure of his election regardless of how Mr. North, the remaining stockholder, might vote” his 2,590 shares. • The sum of the votes of the two women was 4,410, which was enough to allow 882 votes for each of 5 candidates. Mr. North’s 2,590 votes could not be divided so as to give more than 2 candidates as many as 882 votes each. To be sure to elect the 5th candidate, the two women needed to both vote for one of the 5. • Before the 1946 meeting, each knew she would vote for herself and for a close relative (one for a husband, one for a son). They could not agree on a 5th director to elect together. They also disagreed on whether to postpone the meeting. Ms. Ringling then demanded that Loos arbitrate the disagreement. • Mr. Loos directed that both women’s shares be voted for an adjournment.

20. Ringling Bros. (cont’d) Donald J. Weidner Despite the direction of arbitrator Loos, Ms. Haley voted her stock the same way that Mr. North voted his stock, which was against Ms. Ringling’s stock and against the adjournment. The meeting was held under Ms. Ringling’s protest. Arbitrator Loos directed how the two women’s shares should be voted, with the “extra” votes of each going to a Mr. Dunn, who had been on the Board for several years. Ms. Haley ignored the arbitrator’s decision voted by splitting her shares in two (using more votes than necessary to elect the two directors she most wanted and throwing away the surplus). Mr. North wound up electing three rather than two directors (dividing his shares three ways, for himself and two others).

21. Ringling Bros. (cont’d) Donald J. Weidner • The Court below (Vice Chancellor) said that the agreement was a valid “stock pooling agreement.” • Further, where the arbitrator acts under the agreement and one party refuses to comply with his direction, “the Agreement constitutes the willing party * * * an implied agent possessing the irrevocable proxy of the recalcitrant party for the purpose of” voting. • It ordered a new election be held before a master, pursuant to this principle. • On appeal: the parties “sought to bind each other . . . and not to empower the arbitrator to enforce decisions he might make.” • There was “no express delegation or grant of power” to “empower the arbitrator to carry his directions into effect.” The agreement “does not contemplate the transfer of any shares or interest in shares to him, or that he should undertake any duties which the parties might compel him to perform. * * * The agreement does not attempt to make the arbitrator a trustee of an express trust.” • “Whether the parties accept or reject his decision is of no concern of his . . . .

22. Ringling Bros. (cont’d) Donald J. Weidner • Nor does the agreement “compel either party to vote [the shares] in accordance with [the arbitrator’s] directions.” • The court said that “a power in each party to exercise the voting rights of the other might be a relatively more effective or convenient means of enforcing a decision of the arbitrator.” • However, it refused to imply a delegation of the power in the absence of some indication that the parties so intended. • Recall the Defendants are the Corporation and the Shareholder who disagreed with the arbitrator’s rule. • Defendants argued more fundamentally that “the voting provisions are illegal and unenforceable” because they do not meet the requirement of Del. § 18, authorizing voting by (a) fiduciaries who hold stock and by (b) trustees who have been transferred stock pursuant to a shareholders’ agreement to vest in the trustee the right to vote the stock. • The court said the statute did not address the ways in which shareholders can agree to bind each other as to how they shall vote their shares.

23. Ringling Bros. (cont’d) Donald J. Weidner • Various forms of pooling agreements have been held valid and have been distinguished from voting trusts. • Motives may include personal profit, or “whims or caprice,” so long as the shareholders don’t violate a duty owed to their fellow shareholders. • The agreements may include reasonable provisions for cases of disagreement. • The agreement here is reasonable and offends no public policy: • It does not . . . enable the parties “to take any unlawful advantage of the outside shareholder, or of any other person. It offends no rule of law or public policy . . . . • Ms. Haley’s failure to exercise her voting rights in accordance with her agreement is a breach of contract. • Rather than invalidate the election, the court said “the votes representing Ms. Haley’s shares should not be counted.” • Ms. Haley’s entire slate was defeated and Ringling and North each had their entire slate of three persons elected, leaving one vacancy (which court left open)

24. Notes on Voting Trusts and Agreements (pp. 206-09) Donald J. Weidner • The MBCA has separate provisions authorizing voting trusts and voting agreements. • Voting trusts—anticipate a transfer of the shares to the trustee, who will vote the shares or otherwise act for the shareholders. Such an agreement must be copied to the corporation’s principal office. • Voting agreements—anticipate the shareholders will provide for the manner “in which they will vote.” • MBCA § 7.31(b) declares such agreements “specifically enforceable.” • Eisenberg & Cox note the modern rule is that shareholder voting agreements are normally valid. • Unless one party has given a payment to the other in exchange for a vote. Shareholders may not sell their votes. • Because there has been some reluctance to specifically enforce voting agreements, the parties may include self-executing remedies for breach, such as giving each proxies to vote the other’s stock.

25. Voting Trusts and Agreements (cont’d) Donald J. Weidner • One problem is that , classically, a proxy has been treated as an agency relationship between the person granting the proxy and one receiving it. • We have seen the black-letter rule of agency law that a principal has the power to terminate an agency relationship, and revoke the power, even if to do so is in breach of contract. • We have seen that exception to this rule is if the power is “coupled with an interest.” • “Accordingly, the safest way to insure that a proxy will be irrevocable is to confer it upon a proxyholder who has an ‘interest’ in the shares to which the proxy relates. Relatively clear examples are cases where the proxyholder is a pledgee of the shares or has agreed to purchase the shares.”

26. Shareholder Agreements Transcending Traditional Role of Directors (p. 207) Donald J. Weidner • MBCA § 7.32(a) specifically authorizes an agreement among shareholders that • eliminates the board of directors or restricts the discretion or powers of the board of directors; • governs the authorization or making of distributions whether or not in proportion to ownership of shares . . . . • establishes who shall be directors or officers . . . . • governs . . . the exercise or division of voting power by or between the shareholders and directors . . . . * * * 7. requires dissolution of the corporation at the request of one or more of the shareholders . . . .” * * *

27. Shareholder Agreements Transcending Traditional Role of Directors (cont’d) Donald J. Weidner • MBCA § 7.32(b) provides that such an agreement shall be: • “set forth (A) in the articles of incorporation or bylaws and approved by all persons who are shareholders at the time of the agreement or (B) in a written agreement that is signed by all persons who are shareholders at the time of the agreement and is made known to the corporation . . . . “ • MBCA § 7.32(c) provides that the existence of such an agreement shall be noted conspicuously on the stock certificates. • MBCA § 7.32(c) further provides: “Any purchaser of shares who, at the time of purchase, did not have knowledge of the existence of the agreement shall be entitled to rescission of the purchase.”

28. Shareholder Agreements Transcending Traditional Role of Directors (cont’d) Donald J. Weidner Subsection (e) limits the liability of directors to the extent their powers or discretion are removed. It also imposes upon a person in whom the director powers or discretion are vested, liability for acts or omissions imposed on the directors. Subsection (f) provides that the agreement shall not be a basis for imposing personal liability on the shareholder, “even if the agreement . . . treats the corporation as if it were a partnership or results in failure to observe the corporate formalities otherwise applicable to the matters governed by the agreement.”

29. Corporate Purposes and Powers (p. 209) Donald J. Weidner • MBCA § 3.01: “Every corporation . . . has the purpose of engaging in any lawful business unless a more limited purposes is set forth in the articles of incorporation.” • At the other extreme, some corporations are merely “special purpose entities” (or “special purpose vehicles”) for purposes of a single financing transactions. • MBCA § 3.02: “Unless its articles of incorporation provide otherwise, every corporation has . . . the same powers as an individual to do all things necessary or convenient to carry out its business and affairs.” • Again, the articles of incorporation may provide that the corporation is a SPE that may not do anything more than signing the documents in connection with a particular transaction. That is, it may not acquire any other property or incur any other obligation. • More historically than currently, courts would void “ultra vires” acts—those “beyond the powers” of the corporation.

30. Dodge v. Ford Motor Co. (1919) (p. 210) Donald J. Weidner • Plaintiffs, the Dodge brothers, challenged the retention of money by Ford Motor Co., and its proposed plan to use that money in a particular business expansion. • Ford Motor had its best year ever. It had been past practice, when the profitably was high, to declare larger dividends. They did not do so here. The defendants offered testimony that they wanted to keep lowering the price of cars while improving quality. • The Directors and officers decided that, in 1915, . . . a large surplus would be accumulated to expand plant and equipment and perhaps buy a plant for smelting iron. • Plaintiffs abandoned their argument that building the smelting plant was itself ultra vires (beyond the powers of the corporation) • For 1016, they planned a reduction in the selling price of the cars. • “In short, the plan does not call for and is not intended to produce immediately a more profitable business but a less profitable one; not only less profitable than formerly but less profitable than it is admitted it might be made. The apparent immediate effect will be to diminish the value of shares and the return to shareholders.

31. Dodge v. Ford Motor Co. (cont’d) Donald J. Weidner The Company paid out $1,200,000 in dividends, retaining $58,000,000. “It is a well-recognized principle of law that the directors of a corporation, and they alone, have the power to declare a dividend of the earnings of the corporation, and to determine its amount. Courts of equity will not interfere in the management of the directors unless it is clearly made to appear that they are guilty of fraud or misappropriation of the corporate funds, orrefuse to declare a dividend when the corporation has a surplus of net profits which it can, without detriment to its business, divide among its stockholders, and when a refusal to do so would amount to such an abuse of discretion as would constitute a fraud, or breach of that good faith which they are bound to exercise toward the stockholders . . . .” “[N]o board of directors can be elected whom Henry Ford does not favor.”

32. Dodge v. Ford Motor Co. (cont’d) Donald J. Weidner • Henry Ford’s testimony indicated: • He wanted “to employ still more men, to spread the benefits of this industrial concern to the greatest possible number, to help them build up their lives and their homes. To do this we are putting the greatest share of our profits back in the business.” • The Company has distributed large gains to the shareholders and they should be content. • The Company should share its profits with the public by lowering prices. • His attorney argued that the corporation had “implied power to carry on with humanitarian motives such charitable works as are incidental to the main business of the corporation.” • Court: “A business corporation is organized and carried on primarily for the profit of the stockholders. The powers of the directors are to be implemented toward that end.”

33. Dodge v. Ford Motor Co. (cont’d) Donald J. Weidner • “The discretion of directors is to be exercised in the choice of means to attain that end and does not extend to a change in the end in itself, to the reduction of profits or to the nondistribution of profits among stockholders in order to devote them to other purposes.” • The court affirmed its deference to the business judgment of directors. However: • The Board may not conduct the affairs of the corporation “for the merely incidental benefit of shareholders and for the primary purpose of benefitting others.” • Here, the total cost of physical plant expansion, including the iron ore smelting plant, would only approximate $24,000,000, still leaving nearly $30,000,000 in surplus. • The court affirmed the lower court’s order requiring that directors declare an extra dividend of $19.3 million.

34. Modern Standard of Conduct for Directors (p. 215) Donald J. Weidner • MBCA § 8.30(b) provides a Standard of Conduct for Directors. “The members of the board of directors or a committee of the board, when becoming informed with respect to their decision-making function or devoting attention to their oversight function, shall discharge their duties with the care that a person in a like position would reasonably believe appropriate under similar circumstances.” • As the Note at 215 indicates, the duty of care is limited by the business judgment rule. • Which means that courts will not second-guess the business decisions of informed directors and managers except in extreme cases.

35. Modern Standard of Liability for Directors (p. 215) Donald J. Weidner MBCA § 8.31(a) provides Standards of Liability for Directors: “(a) A director shall not be liable to the corporation or its shareholders for any decision to take or not to take action, or any failure to take any action, as a director, unless the party asserting liability . . . establishes that [(1) various defenses available in the articles or under the statute are unavailable] and (2) the challenged conduct was the result of:” action not in good faith; or a decision “which the director did not reasonably believe to be in the best interests of the corporation,” or“as to which the director “was not informed to the extent the director reasonably believed appropriate”; or “a lack of objectivity” due to a relationship with “another person having a material interest in the challenged conduct;” * * * [or]

36. Modern Standard of Liability for Directors (cont’d) Donald J. Weidner “a sustained failure of the director to devote attention” to oversight, or a failure to make appropriate inquiry, when particular facts “of significant concern materialize that would alert a reasonably attentive director to the need therefore”; or “receipt of a financial benefit to which the director was not entitled orany other breach of the director’s duties to deal fairly with the corporation and its shareholders that is actionable under applicable law.”

37. Corporate Powers (p. 216) Donald J. Weidner MBCA § 3.02 provides the default rule that corporations have powers “(13) to make “donations for the public welfare or for charitable, scientific, or educational purposes;” “(14) to transaction any lawful business that will aid governmental policy; “(15) to make payments or donations, or do any other act . . . that furthers the business and affairs of the corporation.” More recently, statutes authorze benefit corporations and social purpose corporations.

38. eBay Domestic Holdings, Inc. v. Newmark (2010) (p. 232) Donald J. Weidner Minority shareholder brought action against corporate directors and controlling shareholders alleging breach of fiduciary duties from directors’ adoption of a shareholder rights plan that restricted minority shareholders ability to purchase shares and freely sell shares, implementation of a staggered board and seeking to obtain a right of first refusal in the corporation’s favor over the shares of the minority shareholder. Craiglist provides a website for online classifieds that is largely devoid of monetized elements. Founders Jim and Craig proved “that they personally believe craigslist should not be about the business of stockholder wealth maximization, now or in the future.” After having adopted the form of a for-profit corporation, eBay contributed millions of dollars to become a stockholder.

39. eBay Domestic Holdings, Inc. v. Newmark (cont’d) Donald J. Weidner “Having chosen a for-profit corporate form, the craigslist directors are bound by the fiduciary duties and standards that accompany that form. Those standards include acting to promote the value of the corporation for the benefit of its stockholders.” “I cannot accept as valid for the purposes of implementing the [challenged corporate action] a corporate policy that specifically, clearly, and admittedly seeks not to maximize the economic value of a for-profit Delaware corporation for the benefit of its stockholders—no matter whether those stockholders are individuals of modest means or a corporate titan of online commerce.” Again, at the very end of the course, we shall consider the relatively new “forms” of the “public benefit corporation” and the “social purpose corporation.” Florida adopted both in 2014.

40. Lynn Stout Excerpt on Dodge v. Ford (p. 218) Donald J. Weidner • Professor Stout cites what she says used to be “conventional economic wisdom” that the corporation’s shareholders are the “sole residual claimants in the firm,” meaning that they are entitled to the “residual” that remains after the firm has satisfied its fixed contractual obligations to employees, customers and other creditors. • “The assumption suggests that corporations are run best when they are run for shareholders’ benefit alone, because if other corporate stakeholders’ interests are fixed by their contracts, maximizing the shareholders’ residual claim means maximizing the total social value of the firm.” • Modern economic theory suggests that shareholders generally are not, and cannot be, the sole residual claimants. • In short, she said that Dodge v. Ford is “bad law from a positive [objective and fact based] perspective,” and “also bad law from a normative [subjective and value-based] perspective.”

41. Benefit Corporations—A First Look Donald J. Weidner Today, many states, Florida since 2014, provide by statute for a “benefit corporation,” which is a type of for-profit corporation whose directors must consider, in addition to the short-term and long-term financial interests of the corporation, benefits to society and to the environment. Directors are to consider a broader array of corporate stakeholders, including employees and members of the community, not merely shareholders. Each year, a benefit corporation must provide shareholders with adequate information to determine if the benefit corporation is achieving its stated purpose. Statutes provide for a “third party standard” in assessing overall performance, and the process to select the third party standard must be provided in the report.

42. Social Purpose Corporations—A First Look Donald J. Weidner Also in 2014, Florida became the second state to adopt Social Purpose Corporations. Social Purpose Corporations may pursue a public benefit in one or more limited areas, a “specific public benefit.” Florida SPCs must prepare an annual report of the SPC’s achievements toward its public benefit goals. Unlike Florida Public Benefit Corporations, these reports need not be assessed by a third-party standard. In short, the Social Purpose Corporation has a more narrow social purpose and is more permissive. Some say it is primarily a way of branding the business.

43. Donahue v. Rodd Electrotype Co. (1975) (p. 219) Donald J. Weidner • Minority SH Donahue sues 3 directors, the majority shareholder, and the corporation. • She seeks to rescind the corporation’s purchase of shares of the majority stockholder • alleging that the individual defendants caused the corporation to purchase the shares in violation of the fiduciary duties they owed to her as a minority shareholder. • In short, Rodd Senior was the dominating figure in Rodd Electrotype Corporation. Over time, he started divesting himself of his stock and transferring stock to his three children: Sons 1 and 2 and Daughter, Phyllis Mason. • At the time of the contested stock purchase by the corporation, there were three directors approving it: Sons 1 and 2 and a corporate clerk. The directors authorized Son 1, as President, to buy, on behalf of the firm, most of Rodd Senior’s remaining stock, 45 shares, @ $800 per share.

44. Donahue v. Rodd Electrotype Co. (cont’d) Donald J. Weidner At a subsequent special meeting of the shareholders, plaintiff Donahue, not a family member but the widow of a former plant superintendent, first learned of the sale. She objected to a proposal to approve the sale, but the minutes do not show her objection. She then offered to sell her shares (50) to the corporation on the same terms, at $800 per share, which offer the corporation rejected, saying it is not in a position to do so. Defendants say: the stock purchase from Rodd Senior was within the powers of the corporation and met the requirements of good faith and inherent fairness imposed on a fiduciary in his dealings with the corporation. Plaintiffs say: she was owed a fiduciary duty, as a minority shareholder, to be provided with an equal opportunity to sell her shares to the corporation. The trial court dismissed the complaint on the merits, saying the purchase had not prejudiced the plaintiff and, implicitly, that it was made in good faith and with inherent fairness. The intermediate appellate court affirmed. MA Supreme Court reversed, given the nature of “close corporations.”

45. Donahue v. Rodd Electrotype Co. (cont’d) Donald J. Weidner • “We deem a close corporation to be typified by: (1) a small number of stockholders; (2) no ready market for the corporate stock; and (3) substantial majority stockholder participation in the management, direction and operations of the corporation.” • This type of corporation had been referred to as a “chartered partnership” • It has the corporate benefits of limited liability and perpetual life • But it still looks like a partnership in fundamental ways: • Ownership is limited to the original parties or transferees to whom the other stockholders have agreed • Ownership and management are in the same hands; and • Owners are dependent upon one another for the success of the enterprise. • Just as in a partnership, the relationship among the stockholders must be one of trust, confidence and absolute loyalty if the enterprise is to succeed.

46. Donahue v. Rodd Electrotype Co. (cont’d) Donald J. Weidner • “Close corporations with substantial assets and with more numerous stockholders are not different from smaller close corporations in this regard.” • By contrast, other courts have said that stockholders do not bear toward each other the same relation of trust and confidence among themselves that prevails in partnerships. • which this court says “ignores reality” • The close corporation also provides “an opportunity for the majority stockholders to oppress or disadvantage minority stockholders. The minority is vulnerable to a variety of oppressive devices, termed ‘freeze-outs,’ which the majority may employ.” • Florida business association statutes do not yet specifically authorize a remedy for “oppression”

47. Donahue v. Rodd Electrotype Co. (cont’d) Donald J. Weidner “The squeezers . . . may refuse to declare dividends; they may drain off the corporation’s earnings in the form of exorbitant salaries and bonuses to the majority shareholder-officers and perhaps to their relatives, or in the form of high rent by the corporation for property leased from majority shareholders . . . ; they may deprive minority shareholders of corporate offices and of employment by the company; they may cause the corporation to sell its assets at an inadequate price to the majority shareholders . . . .” “In particular, the power of the board of directors, controlled by the majority, to declare or withhold dividends and to deny the minority employment is easily converted to a device to disadvantage minority stockholders.”

48. Donahue v. Rodd Electrotype Co. (cont’d) Donald J. Weidner • “Self-serving conduct by directors is proscribed by the director’s fiduciary obligation to the corporation.” • “However, in practice, the plaintiff will find difficulty in challenging dividend or employment policies. • Those are within the business judgment of the directors. • The courts don’t want to interfere unless there is a plain abuse of discretion • True, in rare cases, contractual provisions in an agreement, articles or bylaws have been the basis for ordering dividends. • What remedy do minority shareholders, “cut off from all corporation-related revenues,” have in freeze-out situations? They “must either suffer their losses or seek a buyer for their shares.” • As a practical matter, they may not be able to “suffer their losses.” They will be pressured to liquidate, in order to reinvest in income-producing enterprises, because • minority SH typically has a substantial percentage of her personal assets in the business; and • may have anticipated a salary from the corporation.

49. Donahue v. Rodd Electrotype Co. (cont’d) Donald J. Weidner • Despite the pressure to exit, the dissatisfied member cannot simply sell. There is no market for the shares in a closely-held corporation • The same is true in the case of a closely-held partnership, but the partnership law provides for an easy exit • Under the UPA, a partner can dissolve by express will at any time “and recover his share of partnership assets and accumulated profits.” • Under RUPA, the partner may “dissociate” at any time, triggering either a buyout of her interest or a winding up of the firm. • However, recall the limitations on the buyout right and also the cause of action for wrongful dissociation. • There is no easy exit from the corporate form. A dissatisfied shareholder has no statutory right to be bought out (same under recent LLC statutes) • The SH in a CHC “may achieve dissolution and recovery of his share of the enterprise assets only by compliance with the rigorous terms of the corporate statute.

50. Donahue v. Rodd Electrotype Co. (cont’d) Donald J. Weidner • To secure dissolution of the ordinary close corporation, the stockholder, in the absence of corporate deadlock, must own at least 50% of the shares or have the advantage of a favorable provision in the articles of organization. • The minority SH, who by definition owns less than 50% of the shares, can never “authorize the corporation to file a petition for dissolution by his own vote.” • And will seldom have a favorable provision in the articles. • And, their right to sue for dissolution themselves is extremely limited. • Therefore, they “are trapped in to a disadvantageous situation.” • Because no outsider will want to buy into that situation, they are forced to sell to the insiders. • “When the minority stockholder agrees to sell out for less than fair value, the majority has won.”