I.	3 Modes of Corp Finance  common stock, preferred stock, and debt	6
A.	Common stock and Preferred stock  see “types of stock section below”	6
B.	Debt	6
1.	Bonds	6
2.	Debentures	6
3.	Notes	6
4.	Indenture	6
C.	Efficient Market Hypothesis	6
1.	Examples of where this theory does not work	7

II.	Formation of a Corporation	7
A.	Statutes  NY §401-403 and  Del §101-104, 106	7
B.	Corporations are Legal Entities	7
1.	Characteristics of a Corp	7
2.	Note about NY and Del Business law	7
C.	To start a corp:	8
D.	Where should you organize a corp:	8
1.	General	8
2.	Closely held Corps	8
3.	Publicly Held Corps	9
E.	Required Rate of Return on Investment Hypo	9

III.	Other options if you don’t want to incorporate:	9
A.	Partnership	9
B.	limited partnership	9
C.	limited liability company	10
D.	Informational Chart on Corps, Partnership, and LLC	10
E.	Sole Proprietorship	11
1.	General	11
2.	Joe’s Hat Shop Hypo	11
a.	Fictitious name law	11
b.	This is a sole proprietorship	11
c.	Possibility of LLC	11
d.	Problem of Double taxation	11

IV.	Individual Liability	12
A.	General	12
B.	De Facto Corp Doctrine	12
1.	Timberline Equipment Co. v. Davenport (152) – S.Ct. Oregon	12
2.	NY agency rule of implied warranty of authority	13

V.	Estoppel	13
1.	the difference between estoppel and de facto corporation (160)	13

VI.	Quo Warranto (163)	13
A.	De Jure status (163)	14

VII.	Ultra vires ”beyond the corporation’s power” (206)	14
A.	Ashbury Railway Carriage & Iron Co v. Riche (206)	14

VIII.	Internal Affairs Doctrine and Jurisdiction for Adjudication	14
A.	McDermott, Inc. v. Lewis (Xerox) – S.Ct. Del	14
B.	Jurisdiction HYPO:	15

IX.	Piercing the Corporate Veil	15
A.	General Considerations about liability	15
B.	Bartel v. Homeowners Cooperative – 127 NE2d 832	15
C.	United Paperworks v. Penntech (Xerox) – Dist Ct Maine	15
D.	Riddle v. Leuschner (Xerox) – en banc	16
E.	Sea Land Services v. Pepper Source (191) – 7th Cir	16
F.	Walkovsky v. Carlton (165) – Ct of App NY	17

X.	Subordination  The Stockholder as Creditor	18
A.	General	18
1.	Loan/Interest v. Purchase of stocks/Dividends	18
B.	Calligar excerpt	18
1. subordination agreement	18
2.	Inchoate Type	18
3.	Complete Type	19
4.	Double Dividends	19
5.	Reasons for using Subordinated Debt Issues	19
6.	Reasons to prefer subordinated debt over floating a true equity issue:	19
C.	Subordinated Debenture	19
1. Arnold v. Phillips (201)  Arnold formed a corporation and took out a mortgage to finance the starting operations and later also made advances, ct finds that during bankruptcy liquidation the mortgage was found to be invalid but the cash advances were valid debts that had to be paid back	19
2.	Taylor v. Standard Gas & Electric Co (200)	19
D.	In re Mader’s Store:	20
1.	Brady Test (cited in ftnote 16) to determine if subordination should happen	20
E.	Subordination Problem (Xerox)	21

XI.	Directors’ Role	22
A.Statutes  NY § 701, 703, 704, 707, 708  and  Del § 141	22
B.	ABC Problem	22
C.	Directors Generally	22
D.	Derivative Suits Generally	22
E.	Continental Securities v. Belmont (Xerox) – Ct of App NY  alternatives litigation	23
F.	Francis v. United Jersey Bank (557)  personal liability of directors	23
1.	Reinsurance	24
2.	Choice of Law	25
G.	Business Judgment Rule	25
1.	Business Judgment Rule	25
2.	Justification for business judgment rule	25
3.	Joy v. North (xerox)  business judgment rule	25
H.	Kamin v. American Express (592)	26

XII.	Stockholder Meetings (and role)	27
A.	Statutes	27
B.	General (305-306)	27
C.	Removal of a Director	27
D.	Cumulative Voting (308)	28
1.	Statutes  NY §618  and  Del § 214	28
2.	General	28
3.	Marsh Excerpt (306)	28
4.	Cumulative Voting Problem (xerox)	28
E.	Matter of Auer v. Dressel (257)  NY 610, 609 (deals w/ potential fraud), §706 and Del §141(k), 213(b), 228 NY	29
1.	Campbell v. Loew’s (260)	29
F.	Carey v. Penn Enterprises  see NY §610, 611 and Del §231	29
1.	Corporation Trust Company (CT)	30
2.	Street Names	30
3.	Dividend Reinvestment Plan = DRIP Plans	30

XIII.	Stockholder Voting Agreements and other agreements	31
A.	Statutes    NY § 609(a), (f), 620  and  Del § 212(e), 218(c), (d)	31
B.	General	31
C.	McQuade v. Stoneham (425)	31
D.	Galler v. Galler (433)	31
1.	Closed Corps and Shareholder Agreements	32
1.	Financing With Debt	32

XIV.	Federal Regulation of Proxy Solicitations	32
A.	SEC Provisions	32
B.	General	32
1.	Blue Sky Laws	32
C.	History of Security Regulations	33
D.	1933 Act	33
E.	1934 Act	33
F.	Proxy voting generally	34
G.	Proxy Rules 14a	35
1.	Proxy Solicitation	36
H.	Problem	37
I.	Lovenheim v. Iroquois Brands (Xerox)  14a-8	38
1.	Porno Hypo	38

XV.	Authorized Capital Stock and Dividends	39
A.	Statutes  NY §402(a)(4), (5), (6), 501(a), (b)  and   Del  § 102(a)(4), 151(a), (b)-first sentence, (c)	39
B.	General	39
1.	Par Value	39
2.	No-Par and low-par stock	39
C.	Balance Sheets	39
1.	Balance Sheet HYPOS	40

XVI.	Dividends	41
A.	Statutes  NY § 102(a)(8), (9), (12), (13), 510   and   Del §170	41
1.	General	41
B.	General	41
2.	Balance Sheet Hypos re Dividends	42
C.	Morris v. GE (1358)	42
D.	Klang v. Smith’s Food & Drug Centers (Supp 269)  repurchase in excess of surplus	42
E.	Randall v. Bailey (1341)  payment of dividends until broke	43
F.	Smith v. Atlantic Properties (460) – App Ct of MA  closed corp, pay taxes/pay dividends	43
XVII.	Subscription & Consideration	44
A.	Statutes   NY § 503  and   Del §165, 166	44
B.	Subscription (137)	44
C.	Consideration	44

XVIII.	Types of Stock	44
A.	Statutes  NY §402(a)(4), (5), (6), 501(a), (b)  and   Del §102(a)(4), 151(c), (d)	44
B.	Common stock	44
C.	Preferred stock (SEE “Types of Preferred” worksheet)	44
1.	Preferred Stocks Generally	44
2.	To Determine what kind of preferred stock you have	45
3.	Difference between debt and preferred stock	45
4.	Voting Rts	45
5.	Convertibility and Redeemable	45
6.	Baron v. Allied Artists Pictures Corp (Xerox) paying dividends on preferred	46
7.	Rothschild v. Liggett (Xerox)  Delaware Independent Legal Significance Doctrine	46

XIX.	Charter Amendments	47
A.	Statutes      NY § 801, 803-805   and   Del §242	47
B.	General	47
1.	to make fundamental changes in Del 	47
C.	Trustees of Dartmouth College v. Woodward  contract clause	48
D.	McNulty v. WJ Sloane (Xerox)  amendment to eliminate undeclared dividends	48
1.	Reasons for Actions taken by Corp in this case	48
E.	Bowman v. Armour & Co (Xerox)  preferred changed into creditors	49

XX.	Mergers and Consolidation	49
A.	Statutes    NY § 901-904, 906, 909, 911  and  Del §251(a)-(e), 259(a), 261, 271, 272	49
B.	General (1130)	49
C.	Some Motives for Acquisition	50
D.	Difference between a merger and consolidation:	50
E.	Statutory Merger (1148) NY §906a and Del §259	50
1.	Tender Offers as an Alternative to Statutory Mergers	50
2.	NY and Del statutes	50
F.	Merger by selling assets  statutes, exchanges, and IRS codes	51
G.	Pooling and Purchase Problems	52
H.	Farris v. Glen Alden Corp (1157)	53
I.	Hariton v. Arco Electronics (1154)	54

XXI.	Short Form Merger and Small Mergers (1149-1150)   NY §905  and   Del §251(f), 253	54

XXII.	Appraisal Rts	55
A.	Statutes    NY § 623, 806(b)(6), 910   and   Del § 262(a), (b), (c), (d), (e), (h), (j), (k)	55
B.	General	55
1.	Difference Between States	55
2.	Del Reforms	55
C.	Exclusivity of Appraisal as a Remedy (1184)	56
1.	Bove v. Community Hotel Corp (Xerox)	56
2.	Why is P suing in Bove	57
3.	Reasons for What the Hotel is Doing in Bove	57

XXIII.	Valuation of Appraisal Rights	57
A.	Delaware Block Approach	57
B.	Piemonte v. New Boston Garden Corp (476)	58
C.	Excerpt, Solomon Schwartz et. al. (485)	59
D.	Background to Weinberger v. UOP	59
E.	Weinberger v. UOP (1189) - Del	59

XXIV.	Dissolution	61
A.	Statutes    NY § 1001, 1006-1007, 1103-1105   and   Del §275, 278, 282	61
B.	General	61
C.	In re Kemp & Beatley (529)  dissolution with respect to closed corp	61

XXV.	Triangular Mergers and Share Exchange (1174)	62

XXVI.	Continuous Disclosure System	63
A.	Applicable to Issuer	63
B.	Reports by Issuers	63
C.	Proxy Regulations	63
D.	Antifraud Provisions	63
E.	Enforcement – Express Action	63

XXVII.	Implied Actions	64
A.	General	64
1.	HISTORY of private rt of action:	64
B.	Mills v. Electric Auto-Lite Co. (Xerox)	65
1.	Aftermath of Mills	65
C.	Standing	66
1.	Blue Chip Stamps v. Manor Drugs (Xerox)	66
2.	Virginia Bankshares v. Sanderson (347) – S.Ct.	66
D.	Scienter	67
1.	Ernst & Ernst v. Hockfelder (Xerox) – S.Ct.	67
2.	Aaron v. SEC (Xerox)	68
E.	Basic v. Levinson (843)   footnote 18 ?	68
F.	Santa Fe Industries v. Green (938)  enforcement of fiduciary duties, manipulative or deceptive	69

XXVIII.	Leveraged Buyouts	70

XXIX.	Tender Offers	70
A.	Statutes    1934 Act §13(d)(1), 14(d), (e), (f)	70
1.	Williams Act purpose is disclosure and to protect the target’s shareholders	70
B.	General	71
1.	Tender Offers as an Alternative to Statutory Mergers	71
2.	Doing a Tender Offer	72
3.	Stopping the Tender Offer or Getting a Better Deal	73
C.	Test to see if there is a tender offer	73
D.	SEC v. Carter Hawley (Xerox)	73
E.	Epstein v. MCA (Xerox)	74
F.	Piper v. Chris Craft (Xerox)	75

XXX.	Insider Trading	75
A.	Statutes     1934 Act §16(a), (b), (c), 20A, 21A, Rule 10b-5, Rule 14e-3	75
1.	16 generally	75
2.	16a  (954)	75
3.	16b (954 & 956)	75
4.	Congress added §20A and §21A (1934 Act)	76
5.	comparison of 16b and 10b-5	77
B.	Gratz v. Claughton (957) – 2d Cir  calculation of profits	77
C.	Rational for Insider Trading Laws	78
D.	SEC v. Texas Gulf Sulphur Co. (822) – 2d cir	78
E.	Chiarella v. US (884) – S.Ct.	79
1.	The Affect Chiarella’s actions could have had on Tender Offers 14e-3	80
F.	Dirks v. SEC (896) – S.Ct.	80
1.	Problems during aftermath of Dirks	81
G.	US v. Chestman – 2d cir (Xerox)	81
H.	US v. O’Hagan (Supp 175)	82
1.	Wall Street Journal Writer Case	83

I.	Eli Lily hypo 	83
	
J.	1934 Act §§20A, 21A, Rule 10b-5 and Rule 14e-3	84
1.	history of insider trading	84

I.	
3 Modes of Corp Finance  common stock, preferred stock, and debt
A.	Common stock and Preferred stock  see “types of stock section below”
B.	Debt
-	a fixed claim against the corp for principal and interest
-	the major forms of debt are bonds, debentures, and notes
1.	Bonds
-	a promise by borrower to pay a specified amount on a specified date, together w/ interest at specified times, on terms and subject to the conditions spelled out in a governing indenture of note agreement
-	“bond” is used as generic term for long term debt securities
-	bonds are generally secured obligations (collateral backs them)
-	the bonds set out a promise to pay that runs to the holders of the bonds
-	holders of bonds are 3rd party beneficiaries of the promises in the indenture and the bonds are subject to the indentures and may be enforced by the bond holders only to the extent that the indenture allows
-	the indenture is a bundle of additional promises that run to the trustee, including a backup promise to pay 
-	indentures control unilateral enforcement rts of small holders by forcing enforcement to happen only through the trustee (NOTE: indenture facilitates enforcement by the widely scattered holders as well as restrains this enforcement)
-	indenture makes it possible to borrow small amounts of money from large numbers of widely scattered lenders (constrains and protects issuer at the same time) 
2.	Debentures 
-	a promise by the borrower to pay a specified amount on a specified date, together w/ interest at specified times, on terms and subject to the conditions spelled out in a governing indenture of note agreement
-	long term obligations issued under indentures
-	not backed by collateral
3.	Notes 
-	a promise by the borrower to pay a specified amount on a specified date, together w/ interest at specified times, on terms and subject to the conditions spelled out in a governing indenture of note agreement
-	may be long or short term obligations
-	tend to be intermediate term securities (come due in 10 years or less) as opposed to debentures which tend to mature in 10 years or more
4.	Indenture 
-	contract entered into between the borrowing corporation and a trustee
-	the trustee administers the payment of interest and principal
-	the borrowing corporation contracts with the trustee who assists in having the bonds sold in small denominations to large numbers of scattered investors

C.	Efficient Market Hypothesis
-	look at Lowenstein book, his view is minority view but it is correct according to Slain)
-	S.Ct. said EMH is suitable for judicial notice because it is unarguably true
-	this theory has 3 sub-formulations:
1)	weak form  markets do not have memories, and the relationship between the price of something traded at any moment and the price of that item at an earlier time is completely random
2)	semi strong form  this may be the most important form, may apply to Kamin, this theory says you can’t do better than the overall market , the price of any publicly traded security accurately reflects all available info relating to its value at any time (whatever the price is = the correct price because the price directly reflects all info available.), the price will not change until there is new info
-	if this hypo is rt, can there be over-priced securities?  the only factors that could make a security over-valued is the lack of necessary information, short of this there should be no over or under-priced securities in theory (this seems to be self-evidently untrue)
-	this theory may be true to the extent that there are not enough over or under-priced securities to make it worthwhile for any person to spend time to determine which are incorrectly priced
-	if the EMH is rt then the cost of Am Ex stocks should be affected regardless of what Am Ex tried to do to cover up the loss over the DLJ stocks because the affect would occur once the loss happens (it is clear that the management in Kamin did not believe in EMH)

3)	strong form  this theory says that if you have inside information this won’t help, BUT in general inside information should help

NOTE: allocative efficiency and speculative efficiency  the EMH is rt so far as markets are concerned about how you should allocate investments, but it does not help you determine whether a company will do well
1.	Examples of where this theory does not work
-	appraisal involves determining value of stock through judicial proceeding so that you can cash out 
-	note: calls into question efficient market hypothesis because why do you need a judicial proceeding to find out what the stock is worth if this theory is right?
-	Kamin  directors did not just sell the DLJ stocks instead of distributing them to AmEx stockholders because they were afraid that selling would seriously affect stock price of publicly traded AmEx stocks (directors did not have faith in the efficient market hypothesis)

II.	Formation of a Corporation
A.	Statutes  NY §401-403 and  Del §101-104, 106
B.	Corporations are Legal Entities
1.	Characteristics of a Corp
-	a corporation is a legal entity  it has
1)	rts (it can own things i.e. property)
2)	duties/responsibilities which are enforceable = can sue and be sued

NOTE: States have statutes that differ radically, and there is very little caselaw and very little commentary on how to interpret statutes.  no one wants to be the test case 
-	Corporations are relatively simple to form in terms of drafting provisions
2.	Note about NY and Del Business law
NY business corp law = used only for creation of business corps but not for all business corps because the statute says not all business can be conducted by corp created under this statute (i.e. banking, non-profit, religious, schools, etc.  these have separate statutes)
-	Stocks are unlimited residual, subordinated claim to the assets of a corp.  Creditors get first rt to assets and then investors have unlimited claim to anything left after creditors.  Different classes of stocks lead to different voting rts. (NY 402 (a)(5))
-	402(a)(6) allows creation of preferred stock and defining of their characteristics (can happen very quickly without approval of shareholders)
-	402(a)(9) says if you don’t limit duration, the corp will exist perpetually
-	402(b) – intended to eliminate the liability for negligence (results from Smith – directors were personally liable for 30 million dollars to shareholders)
-	402(c) – The certificate is a lot harder to change so you include provisions in the certificate or incorporation instead of the bylaws if you want them to stay in existence.  The certificate functions like the constitution.  (note: bylaws can be changed much more simply by directors or shareholders)  

Delaware – you can create any corp under this statute, this statute has been amended a number of times but it has not been overhauled in a long time
-	in Delaware anyone can form a corp but in NY only a natural person of 18 years of age and over  in practice there is no difference 
-	Delaware 103(b)(2) – Slain does not know what the function of this language is.  The commentary is ambiguous.  This provision is still included in the statute because no one understands its purpose.

C.	To start a corp:

1)	create/organize a corp by filing a certificate of incorporation or articles of incorporation or charter
-	the certificate designates the classes of stock and the number of shares of each class that the corp is authorized to issue
-	reason for requirement to state # of authorized shares  it solves legal problem of overissue.  Shares issued beyond those mentioned in the cert of inc will not make you a shareholder. (NY 402 (a)(4))
-	Corp comes into existence when secretary of state accepts the certificate of incorp. 
-	you need a name (NY law Section 301)
-	example: you want to name your company “General Motors”
-	every state has some law or practice where you can contact the state to see if the name you want is available, they will reserve a name for your use for a period of 30 days, there may be a fee to do this, some states let you renew the holding period.
-	the incorporator only signs the original document (incorporators are usually the secretary or somebody like that in the office of the lawyer) 
-	Until the 1960s the purposes of the corp would be spelled out in documents, but the problem was the fear of leaving anything out.  There are a minority of reasons where a person would not want the language “any lawful purposes”

2)	board of directors is elected by the shareholders
-	board of directors have to be elected by shareholders but there can be no shareholders until stocks are issued but stock are normally issued by the board of directors
-	some states (including NY) allow the incorporators to have the powers of shareholders until the stocks are issued and the powers of the directors until directors are elected (this is true in Del too except that the cert of inc can name initial directors)

3)	once initial directors are named, either by the incorporators or by the certificate of incorporation, the directors will hold an organizational meeting

D.	Where should you organize a corp:
1.	General
-	no state requires you to be a state inhabitant to organize a corp.
-	where you want to organize depends on what you will be doing with the corp
2.	Closely held Corps
-	you probably should incorporate in the state where you are (which is probably also the principal place of your business) because there is no material difference in incorporating in NY versus Delaware except that if you organize out of state you will double the number of taxes you have to file and may generally have to pay higher taxes, also local attorneys may not be familiar with out-of-state corp laws
3.	
Publicly Held Corps
-	publicly held corps do business in many different states
-	states have incentive to try to attract publicly held corps by creating attractive corp laws because these corps are charged franchise taxes that generate a lot of revenue for the states
-	it is likely that you will choose to do it in Delaware because the advantages are:
-	You have a statute which is up-to-date and ready to deal with new problems (not true in all states), or statute will be amended quickly in response to new problems
-	Delaware court system  most litigation relating to corps involve equity proceedings and involve shareholders’ derivative suits against the corp and its directors.  Delaware is now the only state with separate courts for equity suits (maybe Rhode Island also).  A large number of these cases end up in chancery court in Del which means the level of expertise is very high in this court as a result and a body of law already exists there to deal with the issues at hand.  Other states will have no cases/laws which means you will have to deal with unknowledgeable, blank slate.  NOTE: litigation is expensive, time-consuming + wasteful, a knowledgeable court will adjudicate better + faster and is more predictable.

E.	Required Rate of Return on Investment Hypo

HYPO: an investor wants to get $10,000 each yr if he invests $100,000 initially
You have to assess what the corp has to earn to give the investor 10,000
Required rate of return = “coupon” = 23.675% in this case or 14.5% depending whether there’s entity tax

Required Earnings (RE)   =	               Demanded Return     (DR)                                        
			(1-Entity tax rate(ER)) (1- Individual tax rate(IR))

				RE    =      10,000	  =     $23,675
					(1 - .34) (1 - .31)

				RE    =     10,000          =     $14,000
					 (1 - 0) (1 - .31)

NOTE: LLC doesn’t apply to “Joe” and taxes don’t work like this in terms of Joe

III.	Other options if you don’t want to incorporate: 
A.	Partnership
-	to form general partnerships no formalities and no filings are required (38)
B.	limited partnership
-	with limited partnership you can have any number of limited partners and one or more general partners, 
-	the general partners are each personally and unlimitably liable, but the limited partners have no responsibility at all for debts and obligations to the firm and are only responsible for obligations they have agreed to give to the firm  
-	this is a recent phenomena which began in Wyoming and later the idea spread throughout the country  
-	limited partnerships are used as financing vehicles  (you almost never use limited partnership to operate business except theatrical production companies and securities firms because until 1954 the stock exchanges banned incorporation of securities firms so they used partnerships) 
Problem with limited partnership  a limited partner who participates in the business loses the protection of being just a limited partner and become a general partner  
C.	limited liability company
-	creation of LLC requires drafting with a great deal of care because of the situation of the people participating  there are high transaction costs to draft provisions and negotiate terms
-	Anyone organizing a small business should organize as a LLC for federal income taxation purposes, you are considered a corp (?)
-	LLC is good to use if you have a one-man business you just need a simple agreement (note: in Delaware you can have a one person LLC) 
-	LLC is also good where you have a couple of big companies which want to do a joint venture and they want to form a separate company to run the joint venture (good idea because the contract will be negotiated and drafted carefully regardless(?))
-	Del decided first case on LLC, the Delaware supreme court described its own statute as difficult to read
-	LLC allows you to avoid double taxation and when organizing a small company you want to avoid disadvantage of double taxation (in the U.S. corps pay taxes in addition corps pay dividends to shareholders which are later taxes = double taxation  corp often pays the tax and there are no credits or deductions to offset the double taxation)
-	note that with startup companies these considerations re limited or unlimited liability don’t matter(?)

D.	Informational Chart on Corps, Partnership, and LLC

	Corp
	Partnership	LLC	

Creation
	
Only created by state	
Parties	
State	

Entity Status	
Yes	
?  question of whether it is an entity always comes up and common law has not resolved this issue
	
Yes	

Continuity	
Yes (goes on even if investors all die)
	
No	
No	

Personal Liability	
No	
Yes  (each general partner is personally and unlimitably liable) 
 	
No	

Tax	
Tax payer but no graduated step up in corporate taxation as you do in personal taxation but essentially the same otherwise
	
Pass through = tax reporters = compute their income, deductions, credits, etc. and then file an information return, then each partner or each member picks up his or her share of the taxes on his or her personal taxes (schedule K) = the members pay the taxes
		
E.	Sole Proprietorship
1.	General
-	= business owned by 1 person and as a matter of law sole proprietorship has no separate identity from owner
-	if the owner does not incorporate the sole proprietorship, then the owner has unlimited personal liability 

2.	Joe’s Hat Shop Hypo
HYPO  	Joe has no intention of forming a corporation but wants to open a hat shop
		What kind of business and what kind of legal permission does he need?
a.	Fictitious name law 
-	(exists in every state)  requires that if you are doing business with some name other than your own, then you have to register your name (sometimes you have to register locally or statewide, or both), consequences of not registering is that you can’t sue on contracts entered into during the time you were doing business under the unregistered name.  In most states you can cure the failure to register for the name and then sue later (there are no other consequences for not registering).  
-	there are no other legal requirements besides this one and no other permission needed.

b.	This is a sole proprietorship 
-	Joe’s hat shop = Joe
-	the assets are Joe’s (like his clothes), debts and obligations of the business are Joe’s (like his own food bill), for tax purposes the income are like any other salary he would get, expenses of the business are deductions, there is a separate income tax Schedule C which individuals can report their income and deductions from a business conducted as a sole proprietorship 

REMEMBER: if you are forming a small business LLC is best situation because limited liability and you avoid disadvantages of doubles taxation (which occurs when investors get their income from the corps’ dividends).

c.	Possibility of LLC
-	Joe and Louis need opening budget of $180,000, they also have homes and life insurance, as well as friends and relatives who will help in times of need, but they only have $80,000 in cash.
-	They could have a LLC which will cover the remaining $100,000, but there is very little chance that anyone will invest in this company with a great deal of money and landlords will not rent to such an entity (probably no one will extend credit to Joe or Louis) so LLC is not an available option in practice at this early stage.  It is an option when investors get comfortable with the credit risk and will become a possibility over time.

d.	Problem of Double taxation 
-	Joe and Louis may face this issue if they gain income from dividends of company.  But with an entity this size, Joe and Louis will take the profits out of their salaries.  Salaries are deductions when computing income tax.  The entity tax rate is 0 in this case 
-	If you have to leave profits in the business, you may be better off with double taxation depending on the numbers involved. 
-	Example  hat shop is LLC and makes $500,000 in revenues/yr as shown on their info return. Joe and Louis can each take $200,000 out of the business, but $100,000 has to stay in the business.  The income of the business is taxed the same way as the income distributed to both Joe and Louis.  

Calculation of taxes  250,000  x  31%  = 77,500  x  2  = 155,000 = total taxes

-	
Example  Joe’s hat shop is a corp. Joe and Louis report 200,000 each as salary with 100,000 left in the business.

Calculation of taxes  (200,000  x  31%) x  2 = 124,000
			  100,000  x  22.25% = 22,250

NOTE: corp tax rate on last $100,000 is lower than on the individual rate

NOTE: Our corp laws do not distinguish closely held and publicly held corps
NOTE: in NY, there is personal liability for wages

IV.	Individual Liability 
A.	General
-	it is a misconception to think that if there is no corp and no de facto corp there may be a partnership 
-	different from promoter-liability = contracting on behalf of a corp where both parties know that the corp does not exist yet 
-	example: where A plans to form a corp and makes a pre-incorporation contract on behalf of the corporation with B at a time when both A and B know that the corp has not yet been formed
-	this theory intersects with estoppel because in an estoppel case while the one person can claim estoppel the other person can claim the other party was like a promoter 
B.	De Facto Corp Doctrine
1.	Timberline Equipment Co. v. Davenport (152) – S.Ct. Oregon

Facts: 	 plaintiff was an equipment lessor and leased equipment between January and June
-	the business that rented equipment was sold, and debts were unpaid at the time of selling
-	articles of incorporation was submitted in January and started doing business but the articles were rejected by secretary of state
-	the corp did not submit a revised certificate until June but continued doing business regardless and the revised certificate was accepted in June
-	def tried to invoke de facto corporation doctrine  NOTE: in almost every place you can file one document, there is one office to file it in, and a quick response, so the doctrine only applies when the paperwork you attempted to file is defective.  Many states require corps to do some public filing.
-	Legal consequence is forfeiture of charter if you fail to file appropriate forms. 
-	if there is a statute under which you could have been incorporated and you made enough effort to incorporate under that statute, the belief is that you have a de facto corporation  therefore no one is personally liable any more than they would be if the corp was properly organized

Arguments:
-	plaintiff claims that the notion of de facto corp does not exist in oregon because according to the official commentary to the statute of oregon (Model Act) has the purpose/intention of getting rid of de facto corporation (either you did it rt or wrong) 
-	NY and Del do not follow the Model Act (except for CA, the model act is universally used west of the Mississippi and some in the east (i.e. NJ))  NOTE: the model act keeps getting amended every 6 months NOTE: states that use model act are split about abolishment of de facto corp doctrine

Holding: def is personally liable because he retained control over management, signed checks, visited sites, observed activity, etc.

1)	does de facto corporation doctrine still exist in Oregon
-	principle of de facto corporation does not exist any longer in Oregon
2)	
does corporation by estoppel doctrine apply
-	Estoppel is a preclusion of proof (i.e. I convinced you that a certain set of facts were true, then you can’t come into court and then deny that those facts existed since I caused you to rely on these facts to you detriment after making you believe they were true)
-	in order to use the theory of corp by estoppel def had to show that P believed that def was a corp 
-	the evidence here is contradictory so this ct will use trial cts’ holding in favor of P on this pt
3)	can the defendant be personally liable or who is liable if there is no de facto corporation
-	BUT you can be individually liable if you have both an investment in the corp and actively participate in the policy and operational decisions of the organization (i.e. have management responsibility) 
-	no liability for investment alone or just management responsibility 

2.	NY agency rule of implied warranty of authority  
-	If I go out and act on your behalf and purport to be your agent and if I have actual or apparent authority, then my actions can bind you legally  
-	You have an action for implied warranty of authority if I claim to be acting on your behalf and there is no actual authority  here the person who claimed to have authority is personally liable and the person who claimed to give him authority is only liable to that person.  In other words, you are liable only to those people you made representations of authority to. see Cargo Ship v. Stern Foster Inc. 

V.	Estoppel 

Different Instances where Estoppel is used:
1)	A claims to have corporate status during a transaction with B.  Then, if B sues and A denies corporate status, B can argue estoppel.  (if you buy products from a corporation and then go to the court and the corporation claims it was not properly formed then the court will estoppel this corporation from claiming that)
2)	A sues B.  Then, B raises the defense that A cannot sue B in a corporate name.  Courts tend to regard this as a nonmeritorious defense and brush them off.  (the apparent corporation conferred some benefit on you which you have not paid for and the corporation sues you to get payment and you sue claiming you owe nothing because the corporation does not exist  courts will not let you do this)
3)	A has dealt with B as though B were a corporation.  A sues B and tries to impose personal liability on B’s shareholders.  B’s shareholders argue that A should be estopped from treating B as anything other than a corporation.  (Cranson v. International Business Mach. Corp - IBM case addressed this notion of estoppel)

1.	the difference between estoppel and de facto corporation (160)
1)	the difference is a bit ambiguous 
2)	de facto corporation cases have more precedential value since estoppel cases depend on the facts of the plaintiff’s transaction while a de facto corp case will deal with the defendant’s conduct in attempting to organize a corporation
3)	the basis of the estoppel theory is that the 3rd party has dealt with the business as if it were a corporation (estoppel would not apply in the case of a tort claimant but de facto theory could)
4)	you can show “less corporateness” to prove estoppel (you need more to show de facto corp)

VI.	Quo Warranto (163)
-	states bring action to contest corps’ status as a corp (this notion is based on Prerogative Writs which are orders to compel performance of a duty (prerogative writs are common law writs which only the sovereign can bring) (different writs include mandamus, habeus corpus, certiorari, & prohibition)
-	most states have quo warranto type proceedings w/o calling it quo warranto (NY §109, CA §1801(a)
-	corp cannot say they are a de facto corp you can use quo warranto against de facto corp because legal defense of de facto corp can only be raised in opposition to attack by private parties and not in attacks by the state
A.	  De Jure status (163)
-	resembles de facto corp defense except here you can argue that there is a corp because the mistake that made the attempt to incorporate invalid was extremely insubstantial
-	this is a good defense to quo warranto

VII.	Ultra vires ”beyond the corporation’s power” (206)
-	early on this meant that transactions that were ultra vires were unenforceable against the corp because they were beyond the corp’s powers and were unenforceable by the corp because the corp lacked mutuality 
-	early corps narrowly decided the activities in which the corp could permissibly engage so ultra vires doctrine was applied to the questions: did the corp act beyond its purposes and had the corp exercised a power not specified in its certificate
-	there has been an erosion of this doctrine 
1)	courts view corporate powers as encompassing both explicit and implied powers (this includes things not mentioned in the certificate of incorporation
2)	ultra vires is not a defense for tort or criminal liability 
3)	if ultra vires was an appropriate defense it could not be used to reverse completed transactions
4)	the main use of this doctrine was with respect to executory contracts but even in this case it could not be used as a defense to undo a transaction if both parties fully performed, but when neither party had performed it could serve as a defense to the corp and the 3rd party
5)	unanimous shareholder approval bars use of ultra vires defense unless creditors would be injured
6)	the certificate of incorporation has lost its significance as a limit on the corporation’s powers and purposes  now most statutes allow corporations to just say they will engage in “any lawful business” and have a list of powers that are conferred on every corporation
A.	Ashbury Railway Carriage & Iron Co v. Riche (206)
-	because the charter for the railroad did not explicitly say that Ashbury could build a railroad, Ashbury therefore lacked the power to contract for the purposes of building a railroad

VIII.	Internal Affairs Doctrine and Jurisdiction for Adjudication
A.	McDermott, Inc. v. Lewis (Xerox) – S.Ct. Del
Facts: McDermott (Delaware)- Public company where Shareholders hold 100% of the stock cumulatively, McDermott International is a subsidiary (Panamian corp w/ headquarters in New Orleans) - primarily does business outside of the U.S., no U.S. taxes are paid on income until the income is repatriated (repatriated = pays dividends to McDermott Del), McDermott Del must pay taxes on income of McDermott Panama even though in practice you cannot exchange panamanian currency and these taxes must be paid in US dollars
-	McDermott Del becomes the subsidiary and McDermott Panama becomes the parent company to avoid taxation issues because you won’t have to pay taxes on the foreign parent
-	McDermott Del owned 100% of its shares, McDermott Panama amends its charter in Panama so that it is authorized to increase the number of common shares from 1,000 to 20,000,000 while McDermott Del still only has 10,000,000 shares outstanding
-	shares are swapped so that McDermott Panama will own 92% of the shares of McDermott Del
-	But McDermott Del owns a number of shares in McDermott Panama = problem in this case

Holding: the law of the state of incorporation determines issues relating to internal corp affairs
-	policy considerations for internal affairs doctrine:
1)	desire for a single, constant law to avoid fragmentation in internal relationships and workings of a corp
2)	facilitation of planning  predictability
3)	applying local laws to internal affairs of a foreign corp may produce inequalities, intolerable confusion, uncertainty, and intrude into domain of other states that have superior claims to regulate the same matter
4)	constitutional considerations  due process, commerce clause, and full faith & credit clause 
-	directors have due process rt to know which standard of accountability they will be held to and there are commerce clause issues states have no interest in regulating internal affairs of foreign corp
5)	entrenchment is not a concern here because of the stated purpose of the reorganization (to improve taxation situation), the size of the voting interest of McDermott Del, and the timing of the transaction 
B.	Jurisdiction HYPO:
-	Rhode Island corp injures a NY resident  can you sue in NY?
-	You need to look at personal jurisdiction and International Shoe
-	Assuming that you cannot sue in NY can you sue in Rhode Island
-	What law will Rhode Island apply  you have to look at choice of law rules of RI	
-	If you are amenable to suit in NY you have to follow NY choice of law rules
-	Conflict of law rules do not have a constitutional basis except under due process clause which functions as the outer limit (i.e. you wouldn’t randomly apply law of Sri Lanka in NY)

-	Rhode Island manufactures and sells “gradules” to people in RI
-	Does NY have to let the company sell gradules?
-	Under the commerce clause the state cannot discriminate against interstate commerce
-	NY can bar the RI company from selling gradules only if they won’t let any other local companies or other companies from selling gradules
-	NY can require the RI company to be qualified (i.e. NY can require the company to be subject to tax laws or be subject to service of process)

IX.	Piercing the Corporate Veil
A.	General Considerations about liability 
-	society prefers limited liabilityyou don’t want unlimited liability because this discourages business
-	if there were unlimited liability nobody would do business except the financially careless 
-	if you are a member of a corp you need to find out who other investors are to make sure that you are not the only person who has assets because your assets will be 
-	ideally you want to avoid joint and several liability and create a proportionate liability system
-	NY seems very reluctant to pierce corp veil
-	see Chemical v. Kheel 369 F2d 1845 (2d Cir 1966), Bartle v. Homeowners 127 NE2d 1832, Yachney 263 Atlantic 2d 188 NJ 1975
B.	Bartel v. Homeowners Cooperative – 127 NE2d 832
-	a group organized a general contractor called Homeowners Coop which used subcontractors 
-	houses were built and priced so that no profit could be made which meant subcontractors were not paid  the subcontractors sued to attempt to recover for not being paid
-	NY court would not pierce the corporate veil and impose individual liability 
C.	United Paperworks v. Penntech (Xerox) – Dist Ct Maine
Facts: unions are is trying to get ct order to enforce arbitration agreement against Penntech 
-	the agreement was signed by Kennebec BUT the issue is whether Penntech must honor this arbitration agreement since TP acquired all of Kennebec’s outstanding capital stock but since Penntech controls TP, TP is merely an alter ego of Penntech = Penntech controls Kennebec

Holding: Penntech does not need to honor arbitration agreement = corporate veil is not pierced because 1) Penntech and Kennebec are sufficiently integrated BUT 2) no fraud or misrepresentation 
-	you can pierce corp veil as provided by state common law and if doing so is the only way to protect substantial fed policy or interest
-	note: arbitration of collective bargaining agreements is a very important federal policy 
-	theories that are generally used to justify Piercing the Corporate Veil include agency, alter ego, instrumentality of the parent or stockholder, identity of interests, equitable estoppel, undercapitalization, fraud, wrong or injustice generally some moral culpability, fraud, or misrepresentation by the parent must be shown to create liability for a contract entered into by the subsidiary even when the subsidiary is an alter ego or instrumentality for the parent
-	to determine if parents controls subsidiary you can apply instrumentality rule test:
1)	control  complete domination of finances, policy, business practices with respect to the transaction at issue (indications of no separate mind, will, or existence as to the transaction)
2)	control must have been used to commit fraud, wrong, violation of a statutory or other legal duty, or to contravene the plaintiff’s legal rts
3)	breach of duty must proximately cause the injury/unjust loss (here the injury would be the defeat of the arbitration of collective bargaining agreement)

NOTE: you can be bound to an arbitration agreement even if you didn’t sign it

D.	Riddle v. Leuschner (Xerox) – en banc
Facts:  there were 2 corporations  Yosemite Creek Company and Kadota Creek Company
-	during the period of time relevant to this case, directors of the corps were identical and all Kadota stock and almost all Yosemite stocks were held by the Leuschner family 
-	issue: can P, who is a creditor owed money by Yosemite, hold Leuschners personally responsible for the debt based on the theory that the corps were acting as alter egos of the individual defendants 

Holding: Leushner Jr. and Mrs. Leuschner are liable but Leuschner Sr is not liable
-	2 requirements to pierce corp veil:
1)	there must be such a unity of interest and ownership that the corps and the individual no longer have separate personalities 
2)	whether an inequitable result will result if the acts at issue are regarded as acts of the corp and not the individuals 

-	Leuschner Sr. is not liable because he was essentially a managing agent and not a shareholder or owner (he held none of the stocks of either corps, had no rt to profits, and there is no evidence that he had any interest as an owner in the business of either corp = there is no unity of interest and ownership between Leuschner Sr and the corps)
-	Leuschner Jr and Mrs. Leuschner are liable because   Leuschner Jr held over half of the shares of Yosemite and a third of the shares of Kadota and Mrs. Leuschner had 1 share of Yosemite (the fact that Mrs. Leuschner did not hold any stock in Kadota does not affect liability for debt of Yosemite)
-	inequitable result would occur if only the corp was liable because Leuschners manipulated assets of corps to absorb Yosemite into Kadota in order to avoid paying debts of Yosemite 
-	additional issues:
-	ct does not like seeing no corporate formalities  Leuschners are bad because they are commingling assets of the different companies

E.	Sea Land Services v. Pepper Source (191) – 7th Cir

Facts:  Sea-land shipped goods for PS, but PS did not pay freight bill 
-	Seal-land sued PS and got default judgment but PS was dissolved and did not have any assets
-	Sea-land brought this suit to make Marchese personally liable by piercing the corporate veil of PS and make 5 other corps which Marchese owns liable for the money owed by “reverse piercing” which involves allegations that the 5 corps are alter egos of Marchese

Holding: corp veil is pierced
-	2 requirements to pierce corp veil:
1)	unity of interest and ownership so that the corps and the individual no longer have separate personalities.  4 factors to consider
a)	failure to maintain adequate corp records or to comply with corp formalities
b)	co-mingling of funds or assets
c)	undercapitalization
d)	one corp treats the other corp’s assets as its own
2)	allowing separate corp existence will be approval/promotion of fraud and injustice
-	an intent to defraud is not necessary 

-	there is unity of interest  Marchese is sole shareholder in all corps except 1, there are no corp meetings, no minutes, all corps exist out of one office, money is borrowed between corps and Marchese borrows from corps, no formalities re corp were taken (i.e. creating bylaws, passing of articles of incorporation, etc.) [the 6th corp  even though Marchese is not sole shareholder, he treats this corp exactly like the others]
-	there is likelihood of promotion of fraud or injustice 
-	standard is that P must prove more than its inability to collect the money owed to it (i.e. unjust enrichment, some illegal activity, etc.)
-	unjust enrichment = receipt of money or its equivalent under circumstances that, in equity and good conscience, suggest that it ought not to be retained because it belongs to someone else
-	P showed unjust enrichment  introduced evidence that Marchese used PS’s funds to pay personal expenses as well as expenses of his other corps which left no $ to pay creditors
-	P also showed that Marchese intentionally conducted illegal transactions and manipulated funds to avoid paying vendors, creditors, and taxes 

F.	Walkovsky v. Carlton (165) – Ct of App NY

Facts:	Carlton	Seon	 Taxi 1  
 Taxi 2
-	Walkovszky sues and has a judgment already from Seon
-	Walkovszky want to pierce the corporate veil, and he wants to recover from all of these separate corporation entities because all of these corporations are actually running 1 business (there is no obvious reason why Carlton’s liability follows from this)
-	Carlton is a stockholder of 10 corps, including Seon and each corp has 2 cabs registered in its name
-	only the minimum liability insurance ($10,000) is required by law
-	employer and employee are jointly and severally liable = you can sue either one and you can collect it from either (more obviously you would collect from owner)
-	NOTE: resale value of the beat up cabs is minimal to none but cost to fully and completely insure is very high

Holding: P claimed fraud but the fact the minimum required insurance is inadequate to provide the remedy P wants is not fraud and is a matter for legislature to fix
-	enterprise liability theory  you look at whether the corp at issue is a fragment of a larger corporate combine which actually conducts the business (difficult to do this)
-	enterprise liability is not useful in this type of case
-	enterprise liability theory is widely used in bankruptcy cases where a group of related corps all find themselves in bankruptcy and you have to determine if entities are conducting a unitary business and if they are, then you file 1 bankruptcy case and a claimant recovers from this pool of entities 
-	respondeat superior applies whenever anyone uses control of the corp to further his own rather than the corp’s business (i.e. you can hold bosses of the drivers responsible)
-	P can recover under the theory of respondeat superior but the insurance will not pay enough 
-	P claimed that the corps were undercapitalized and the assets of the different corps were commingled BUT P has not alleged properly that Carlton was conducting business in his individual capacity (Carlton could be personally liable if Carlton was doing business in his individual capacity and shuttling personal funds in and out of the corp without regard to formality and to suit his immediate convenience)  the issue here is not undercapitalization, the issue underinsurance

Dissenting:
-	the corps were intentionally undercapitalized from the beginning and corporate income was constantly drained out of the corps for the purpose of limiting the liability of the corps
-	legislature could not have intended to shield corps that have enough money to buy more insurance and who intentionally choose not to (but liability should not imposed on those corps that don’t have enough money to cover the cost of higher insurance premiums and do not intend to avoid liability)
-	the judiciary should be used to prevent the circumvention of the law

X.	Subordination  The Stockholder as Creditor 
A.	General
-	absolute priority rule = creditors get paid before shareholders
-	most subordination is contractual and is a way to recharacterize loans
-	one result of subordination is assignment of distribution  in the event of liquidation holder of the senior debt gets double dividends = senior holder gets payment they are entitled to plus they get the distribution that would go to the subordinated persons until the senior holder has been paid fully
-	capital contribution to subordination is the preferred choice because you can get double dividends

1.	Loan/Interest v. Purchase of stocks/Dividends
-	in this context capital = wealth used to produce wealth = money that no one can take away from the business and you get stocks in return (i.e. stock investment or as a loan  you can lend money to your own money and this money is wholly under the control of the business = capital)
-	if you put $ toward the corp by buying stock it is hard to get the $ out  if you sell shares back to the corp (§301,302,303) the commissioner will consider the transaction as payment of dividends
-	if you put money in as stock and you want a payment from corp, this payment is a dividends BUT payment with respect to a loan = interest 
-	entity tax rate with respect to interest on a loan is 0 (you don’t tax interest with respect to the entity, the individual still gets taxed, this makes it cheaper to pay interest rather than dividends)
-	if you put money in at least in part as a loan and you want to get the money back as a loan, commissioner will try to recharacterize this as a dividend
B.	Calligar excerpt
1. subordination agreement
-	definition  senior debt must be paid fully before payment of the subordinated debt and retained by the subordinating creditor
-	subordinated debt may be considered equity but it is still debt
-	subordination results in implied assignment of debt and in the event of liquidation, holders of senior debt get double dividends, which makes subordination a more attractive option than straight capital contribution
-	subordination agreements can vary in their specific terms  you can let interest be paid on subordinated debt as long as the senior debt is not in default
-	a properly drafted subordination K has dual purpose: 
1)	security for the senior creditor
-	to determine the value of the security, you have to look at proportionate relationship between senior debt, subordinated debt, other debt, security for any such debt, and equity capital to determine the extent to which each would share in the distribution of the assets potentially available
2)	broader equity base and increased borrowing capacity for the corporate issuer 
-	subordinated debt is not equity but it is treated as such
-	many people consider a subordinated debenture to be preferred stock with a coupon
-	the borrowing capacity is limited by the applicable ratios of debt to true equity, debt to net worth (including subordinated debt), and earnings coverage of interest charges
2.	Inchoate Type
-	drafted so payment may be made on the subordinated debt until subordination is triggered by the voluntary or involuntary distribution of assets of the debtor is made to its creditors = subordination is contingent upon occurrence of a certain event and once triggering event occurs any payments must stop until senior holder is paid off
-	the K will specify the specific event which triggers the subordination (i.e. bankruptcy or insolvency)
-	this type of subordination is used w/ respect to securities and is the only desirable type 
-	regular subordination means that you cannot get paid until all banks are paid off which won’t happen until the company goes under 
3.	Complete Type
-	provides that no payment of principal or interest on the subordinated debt may be made so long as the specifically identified senior debt remains unpaid = subordination is immediately effective 
NOTE: inchoate subordination is better 

4.	Double Dividends
-	regardless of the type of subordination, in the even of bankruptcy the holders of senior debt will receive double dividends = dividends paid directly on the senior debt and dividends paid on the subordinated debt

5.	Reasons for using Subordinated Debt Issues
-	reasons for using subordinated debt are same as those that motivate other kinds of funded debt issues  refunding of outstanding loans, obtaining of additional working capital, retirement of an outstanding preferred stock issue

1)	an issue of subordinated debentures “keep the top open” in the corporation’s capital structure, thus permitting a later issue of senior debt should that become necessary or advantageous (note there are higher interest rates to compensate for higher risk of these debentures)
2)	corp may have borrowed its maximum senior debt but an issue of subordinated debt may still be feasible
3)	by an issue of convertible subordinated debentures, equity capital is obtained w/o dilution of the ownership interest of stockholders which would occur if additional shares were immediately issued
4)	the investing market has for some time (and, certainly currently) been a good one for convertible subordinated debentures issues

6.	Reasons to prefer subordinated debt over floating a true equity issue:
1)	interest paid on the subordinated debt is tax deductible
2)	interest rate on subordinated debt is almost invariably lower than dividend rate on preferred stock
3)	subordinated debt provides leverage (i.e. an opportunity for greater capital appreciation of the interest of existing shareholders)
4)	adding the convertibility feature to subordinated debt often provides flexibility for management – it can many times force conversion when it is to the corporation’s advantage
5)	a subordinated debt issue may well meet the investment requirements of insurance companies at a time when preferred stock issues of the same company do not

C.	Subordinated Debenture 
-	subordinated debenture = if things don’t go well you become a creditor and if things go well you can convert to common stock
-	a debenture is not a legal term of art (it is like an I.O.U.) – unsecured obligation = no collateral
-	from the point of view of the lending bank this is a good option because it will lead to double dividends, there is more secure lending base, and there is a higher interest rate to compensate
1. Arnold v. Phillips (201)  Arnold formed a corporation and took out a mortgage to finance the starting operations and later also made advances, ct finds that during bankruptcy liquidation the mortgage was found to be invalid but the cash advances were valid debts that had to be paid back
2.	Taylor v. Standard Gas & Electric Co (200)
Facts: classic equitable remedy case where Standard Gas owned 100% of the voting stock, the largest creditor was the parent company, and there was a clause that said if dividends went unpaid, then voting ability switched from common to preferred stock, so even though company should not have paid dividends they did to ensure control of corp did not pass to preferred stock holders

Holding: the dividends were illegal and the loans were made simply for purpose of keeping common shareholder’s hold on the company, this conduct constitutes serious mismanagement by the parent company and the remedy was that the court subordinated the parent’s claim as a creditor of the subsidiary to the claims of the other creditors and of preferred stockholders
D.	In re Mader’s Store:
Facts: Gelatt owns ½  of the outstanding shares of Mader, became director, elected vice-president and secretary of the corp (active in management decisions), but does not get salary, not involved in day-to-day activity, Gelatt advanced $45,000 which was used to pay for merchandise needed for stores and were recorded in corp records as loans with interest of 6 percent per annum

Holding:  no subordination  the money advanced by Gelatt was a loan because although Gelatt owned half of Mader there is evidence of intent to repay the advances if the company survived the hardship which created the need for the advances in the first place, also the corp had adequate capital and the failure of Mader was not related to inadequate capitalization
-	equity interest in ordering subordination ct will subordinate claims when it is inequitable to permit the claim at issue to participate in distribution of the estate on an equal basis as other general claims
-	reason why a ct would order subordination = prevent transfer of risks to outside general creditors which should be born by equity capital (this reasoning does not make sense in situation where there is adequate capital but where capital was insufficient stockholders would make profits if the corp succeeded and simultaneously assured preferred status over creditors if the company fails)
-	to see if there should be subordination  apply Capital Contribution analysis:
1)	stockholders in a position of control within the corp made what he/she is calling a loan (the claimant’s control does not need to have been absolute but the claimant has to have at least enough control to determine the characterization of the transaction)
2)	the money was not supposed to be repaid and was to remain outstanding as a permanently 
3)	the paid-in stated capital of the corp must be unreasonably small in view of the nature and size of the business in which the corp was engaged
-	courts have ordered subordination where the advances constituted all the funds of a corp, where loans were given due to insufficiency of capital
-	subordination is not required if loans are given for other reasons + there was sufficient capital in the corp to begin with 
-	the longer the corp functions before controlling shareholders make loans = greater likelihood that the loans will not be subordinated
NOTE: it is not necessary to make a showing of fraud, mismanagement, or breach of fiduciary duties
1.	Brady Test (cited in ftnote 16) to determine if subordination should happen 
1)	when money was advanced, the corp was in a bad financial position and urgently needed $ 
2)	funds could not be obtained from commercial lenders
3)	notes given by corp for the money were demand notes that carried moderate rate of interest

-	reasoning behind this analysis is these elements indicate that advances were cash contributions given to salvage investments and were not really true loans made on a temporary basis

NOTE: 
-	when you have bulk sale of all assets, you have to notify all creditors because failure to do so means creditors can get an equitable lien on assets transferred
-	a loan made by a shareholder is not per se invalid/subordinate to other loans

NOTE: see fn. 17  you could argue that instead of subordinating a claim you should just simply not allow the claim at all, you also have to consider that after creditors are paid there usually isn’t any money left to pay anyone else or even pay creditors fully, if there is money left there is a new  how do you deal with the claim that there was a loan with respect to other claims from other shareholders

E.	Subordination Problem (Xerox)
-	secured claims gets paid off 1st, and then you pay out everyone else until you run out of $
-	first mortgage  their only rt is to collect from the collateral that secured the debt, first mortgage has higher priority than the second mortgage, holder of the first mortgage is entitled to $250,000, the remaining claim for 100,000 will never be paid
-	second mortgage holder  gets nothing
NOTE: w/ non-recourse financing the only rts you have are in the financing, with recourse financing you get the deficiency of what you are owed = the only rts you have are against the collateral
-	preferred claims in order of priority   
1)	the main preferred creditor is the government
2)	then you have to consider the cost of administering the estate
3)	then you have to consider the cost of wages
-	here the first 2 are not considerations but you do have to pay off the wages
-	$750,000 worth of claims by general creditors remaining after 1st mortgage and wages are paid off

  400,000
-  40,000 (wages)
- 250,000 (1st mortgage)			110,000   =   14.67%
$110,000					750,000

-	2nd mortgage gets 2335
-	accounts payable gets 58,680
-	the bank gets 29,340 + 14,670 
-	the subordinated debt holders get nothing because their 14,670 goes to the bank
-	subordination to all creditors is rare, subordinating to bank makes getting bank loans easier

Deficiency:
-	2nd mortgage – 42,665
-	accounts payable 341,200
-	banks - 156,000      97,500
-	subordinated creditors – 100,000    62,500 (58,500 goes to the banks and the remainder goes to holders of subordinated debts)
---------------------------------------------------------
	TOTAL – 640,000

400,000 = 62.5%
640,000

-	subrogation = transfer of rts of a creditor to another creditor  if mortgage on your house is 50,000.  you steal 50,000 from me to pay off the mortgage.  this means you owe me 50,000. But because you used my property to pay off another creditor then the equity rts are assigned to me. I take the obligation of the mortgagee
-	here 14,670 has been used to pay off the banks

-	subordinated creditors’ original claim was 85,330
-	14,670 is the portion of the subrogation
-	try to avoid circular priority (A is subordinated to B and B is subordinated to C but C is subordinated to A) 
-	you can avoid circular debt by stating contractually that debt is subordinated to bank debt
-	NOTE: all creditor claims get paid out 100% before there is any distribution to shareholders (in bankruptcy reorganization you can have a relative priority rule but when there is liquidation there is absolute priority)

XI.	
Directors’ Role
A.Statutes  NY § 701, 703, 704, 707, 708  and  Del § 141
B.	ABC Problem

1)	what is the minimum number of directors that the corp may have
2)	what number or percentage of directors must be shareholders
3)	if it is desired that all directors be shareholders, can such a requirement be imposed
4)	where and when are meeting of the board to be held
5)	assume the corp’s by-laws provide for 7 directors.  there are 3 vacancies at this time, how many directors are required to attend a meeting to constitute a quorum for the conduct of ordinary business
6)	assume that 5 of the 7 directors are not active in the business and do not live in this area.  if it is possible to authorize the remaining directors to act on behalf of the corp
7)	in the usual case, for what period of service are directors elected
8)	is it possible to require that all or some of the board be approved unanimously.  if so, how

C.	Directors Generally
-	directors have responsibilities to the corp and can’t act for their own interest = they are fiduciaries = has to act in the interest of the corp and the law limits your rt to protect your own interest since you should not be acting on behalf of your own interest
-	management have duties to the corp/entity and to the shareholders and once the corp is facing insolvency the fiduciary duties also runs to the creditors
-	directors as a group are agents of the corp but individual directors are not agents of the corp
-	According to Francis v. United Jersey Bank you also have to consider  
-	held to standard of ordinary care (NJ law does not permit “dummy” or figurehead directors) but directors of large publicly held corps may be held to greater standard of responsibility than in small, close corp 
-	should acquire at least a rudimentary understanding of the business of the corp and have continuing obligation to be informed about corp activities so they can manage corp affairs
-	should attend meetings of the board 
-	if a director feels she does not have enough knowledge or experience, she should either acquire the knowledge or refuse to act
-	directors cannot close their eyes to corp misconduct
-	should be familiar with the financial status of corp and regularly review financial statements (the extent of review depends on the customs of the industry and the nature of the corp and the business in which the corp is engaged)
-	duty to object to an illegal course of action and if the corp does not correct the conduct, then the director has a duty to resign (in some cases the director has a higher duty and must also seek counsel re the illegal activity and may even have a duty to threaten lawsuit)

D.	Derivative Suits Generally
-	this is the common law solution to protect shareholder’s interests 
-	2 possible types 
1)	an action against the corp for failing to bring a specified suit
2)	an action on behalf of the corp for harm to it identical to the one which the corp failed to bring

-	direct lawsuits by individual shareholders are a waste of time since the return is too small to justify the bringing of a suit and this is an inefficient way to enforce management obligations (also it would cost a lot of money and time to organize a large group of geographically diverse shareholders)
-	shareholder’s rt to sue “derives” from the corp
-	there are 2 types of derivative suits demand excused = you don’t have to make a demand on the directors because the directors have a personally stake in the outcome of the decision and demand required = you do have to make a demand on the directors before proceeding 
-	if you make a demand of the board of directors you are stuck with whatever the directors decide unless there is evidence of bad faith
-	can be brought in closely held or private company
-	in closed corp, plaintiff has a significant investment that he or she wants to protect
-	in a publicly held corp plaintiff usually owns a modest amount of stock
-	the shareholder plaintiff is a party as a formality for purpose of the caption and does not have a real interest in the outcome of the case (the P does not stand to gain a large recovery but there are considerable attorneys fees) 

Reasons for bringing suit 
-	in reality these suits are brought so that lawyers can get large fees paid by the corp through contingency fees 
-	they are also brought to for their nuisance value which could force settlement and payment of fees
-	most derivative suits are not litigated  they are settled
-	from def’s point of view, all you get is a judgment of “no liability” but it costs a lot of $ in litigation fees so you have to consider if it will cost you less money to settle (litigation is also a crap shoot)
-	settlement $ in derivative suits and class actions are subject to judicial approval because cts know that the nominal plaintiff has no economic interest in the litigation
-	Rule 23.1 – says that P must allege that he was a shareholder as of the time of the events which he was complaining about or that they were left to him by operation of law = someone died and left them to him

E.	Continental Securities v. Belmont (Xerox) – Ct of App NY  alternatives litigation
Facts: P is stockholder of a business and brought derivative suit against D to cancel shares of stock issued allegedly w/o consideration 
-	issue in this case is whether D can dismiss for failure of the complaint to allege that P had requested that the stockholders bring the action

Holding:  P wins because stockholders who have complaints are required only to first approach those bodies/people who have the power to enforce a remedy for the complaint 
-	here the P alleges fraud and substantial misappropriation of 15,000 shares of the stock through a nominal purchase of property and the payment of a pretended claim for services = nothing stockholders can do therefore in this case the brd of directors was the body in power, stockholders can’t act w/ respect to the ordinary business of the corp, the only power stockholders have is granted by statute (powers are generally limited to assenting, confirming, or providing recommendations and recommendations can only be implemented through the directors)
-	NOTE: shareholders can’t direct the directors re what to do BUT shareholders can vote directors out of office and if there is serious impropriety shareholders can sue under applicable law 
-	you bring a complaint to the attention of stockholders only if the issue involves things the stockholders have power to act on prior to the filing of a lawsuit 

F.	Francis v. United Jersey Bank (557)  personal liability of directors
Facts:  Mrs. Pritchard was a director and largest single shareholder of Pritchard & Baird, Mrs. Pritchard’s sons took $ from the corp by calling the money “loans” though none of the money was ever repaid and no interest was paid on the money, balance sheets for 1970-1975 showed excess of assets over liabilities because the loans were entered as “shareholders loans” and were considered assets, these “loans” left the corp with insufficient funds to operate, corp filed for bankruptcy in 1975

Issue:	whether a corporate director is personally liable in negligence for failure to prevent the misappropriation of trust funds by other directors who were also officers and shareholders of the corporation and whether negligence was the proximate cause of the losses sustained by P

Holding: Mrs. Pritchard is personally liable

To Determine if a director is liable for losses caused by acts of insiders including officers, directors, and shareholders requires proof that 

1)	the director had a duty to the clients of the corp 
-	director has fiduciary duty to corp and its shareholders
-	shareholders have rt to expect directors will use reasonable supervision and control over the policies and practices of a corp
-	directors may owe a fiduciary duty to creditors also, but that obligation has generally not been recognized in the absence of insolvency
-	Pritchard & Baird functions like a bank and Mrs. Pritchard’s relationship to clients is analogous to a director of a bank and its depositors, here the $ is held in implied trust (trust relationship gives rise to a fiduciary duty to guard the funds with fidelity and in good faith

NOTE: could Mrs. Pritchard have done anything that the court recommended  she was sick and couldn’t though she could have obtained assistance to do so

2)	there was a breach of this duty
-	negligence alone does not result in liability, there has to also be proximate case 
-	where you have the power to stop the illegal activity you have a duty to do so and it is not enough to object and then resign
-	Mrs. Pritchard cannot excuse her conduct by saying she relied on the financial statements because those statements revealed the misappropriation of the funds on their face 
-	here there is a breach because Mrs. Pritchard’s neglect of her duties resulted in climate of corruption and she really could have done something to stop the misappropriation of funds 
(i.e. ct says if she had sought help from an attorney this would have deterred her sons) 

3)	the breach was the proximate cause of the losses 
-	Proximate Causation  Mrs. Pritchard’s negligence was the proximate cause 
-	where it is reasonable to conclude that failure to act would produce a particular result and that result has followed, the causation may be inferred
-	Mrs. Pritchard had more than a duty to object and resign  the scope of her duty encompassed all reasonable action to stop the conversion of funds = she had duty to try to stop the misconduct in addition to duty to object and resign (her neglect of duty added to climate of corruption and her failure to act contributed to continuation of corruption and if Mrs. Pritchard had consulted with an attorney, the threat of suit would have deterred her sons)

1.	Reinsurance 
-	involves a K under which one insurer agrees to indemnify another insurer for loss sustained under the latter’s insurance policy (i.e. when the face amount of a policy or an entire class of policies is comparatively large, the insurance company may share the risk with one or more insurers) = where a company buys the insurance policies of another company and assumes the attached obligations
-	companies must keep separate accounts for the insurance policies and the broker’s general accounts
-	the reinsurance industry has been supported by the trust and confidence of the ceding company and reinsurers in the reinsurance broker
-	ceding company = insurance company that is selling the policy
-	reinsurer = entity that assumes the obligation
-	reinsurance broker = arranges the contract between the ceding company and reinsurer
-	the rts and duties of the broker are not specified in the reinsurance contract
-	industry practice is to keep insurance funds separate from the broker’s general accounts

2.	Choice of Law 
-	NJ law applies
-	Pritchard is incorporated in NY because but the court determined that there was a greater connection to NJ because the shareholders, officers and directors were NJ residents, related proceedings were in NJ, almost all transactions took place in NJ, even creditors outside of NJ had contact with the corp in NJ
-	NOTE: most of the case law cited by the court are NY cases, if the law of both states is not different why does it substantively matter which state’s law is applied
-	this is considered a non-conflict or false conflict of law because in reality the NJ statute is derived from the NY statute
-	NOTE: Slain thinks choice of law issues don’t have constitutional dimensions about them
-	McDermott  the non-majority court said that there may be some constitutional dimension

G.	Business Judgment Rule
1.	Business Judgment Rule
-	protects board against personal liability for very bad decisions (barring extreme situations where there are egregious wrongs made, the business judgment rule is upheld)
-	you protect directors and trustees from liability because you want to encourage business risk and enterprise for the purpose of making profits, businesses are inherently risk-taking ventures, if you create disincentives for risk-taking, you limit business and profit-making
-	liability is rarely imposed on corp directors or officers for bad judgment or unsuccessful business decisions [this does not apply where corp decision lacks a business purpose, the decision is tainted by conflict of interest, the decision is so egregious as to amount to a no-win decision, or the decision results from obvious and prolonged failure to exercise supervision]
-	this doctrine does not care about loyalty issues
-	NOTE: in one case a company arranged 50% of financing for cement plant and found problems getting more $ but still decided to build half cement plant with the $  they had even though they had no plans for finding more $ these managers were not protected by business judgment rule because their acts was so extreme
2.	Justification for business judgment rule
-	investors voluntarily take their own risks and can make at least somewhat informed decisions by doing research about companies) 
-	shareholders can also reduce their overall risk by diversifying their investments
-	reviewing business decisions after-the-fact is not a perfect device to evaluate decisions because business decisions are often make quickly and based on less than perfect information
-	potential profit corresponds to potential risk  it is important for business that the law does not create disincentives for investment and risk-taking

3.	Joy v. North (xerox)  business judgment rule 
Facts: P, a shareholder of the bank holding company, wants derivative suit against subsidiary bank and its directors for mismanagement by extending more than 10% of the banks capital to 1 developer = double derivative suit = P is a shareholder not of the corp on behalf of which he is suing, instead he is a shareholder of the shareholder = parent], P made demand on directors to file lawsuit and directors appointed Special Litigation Committee made up of new board members, the committee can decide if the corp wants to proceed with the derivative suit and the committee recommended dropping the suit
-	this case is an example of a bank that made one bad decision and then subsequently made more
-	this is essentially a suit against the directors for mismanaging, negligence, & breach of duty (note: on the merits the defendants have no defense)

Holding:  ct finds P’s chance of success to be high = rejects decision of special litigation committee
-	business judgment rule does not apply where special litigation committee recommends termination in deman excused case because the committee was selected by the accused directors (if you allow business judgment rule to shield the directors indirectly you will essentially make fiduciary duties meaningless)
-	the ct can review decisions by special litigation committees by comparing the costs of the litigation and potential benefits of litigation (Slain says cts are very capable of determining the settlement value of cases)
-	if litigation expenses far outweigh benefits the case should be dismissed 
-	costs include attorneys fees, out-of-pocket expenses, mandatory indemnification 
-	less direct costs such as affect on morale and corp image do not matter in this analysis
-	NOTE: this decision only applies to cases where there has been direct economic injury to the corp
-	here business judgement rule does not protect in Joy because the standard for money-management business for banks, investment companies, etc. are different because you are more analogous to trustees and have more connection to the actual property and there are questions of legality due to lending money beyond the allowed minimum permitted 

NOTE: court issued protective order (this is usually ordered when there are trade secrets) with punishment of contempt  as a result the P never gets see some of the information involved in the case

H.	Kamin v. American Express (592)
Facts:  this is Am Ex’s first attempt in brokerage business, here Am Ex acquired ownership shares of DLJ for 29.9 million but market value 3 yrs later was 4 million, directors decided to distribute the shares of DLJ to stockholders of Am Ex through special dividend  this is called a Spin-off (this is not a tax-free process in this case.  it is only tax free if you own the shares for more than 5 years)
-	P objected to the distribution at a special meeting of the board of directors and stated that Am Ex should sell the shares instead of distributing them because the sale would give Am Ex tax savings of 8 million (the 26 million dollar loss would be an income tax deduction BUT if you sell the stocks, you have to report it as a loss)(the rate for capital gains for corps is the same as for individuals)
-	here the directors considered the plaintiff’s suggestion and opted not to follow it because P’s suggestion would seriously affect stock price of publicly traded Am Ex stocks (does not have faith in the efficient market hypothesis)
-	since distribution has already occurred at time of suit, P seeks declaratory judgment and damages

Holding: ct will not question the judgment of the directors when there is no fraud, arbitrariness of action, breach of trust, oppression, bad faith, etc.
-	no c/a because this is just a disagreement between stockholders and directors about the best way to handle a loss already incurred on an investment and you can’t have a c/a just because there would be a, in your opinion, more advantageous transaction that the directors could have chosen
-	you can bring action against directors for neglect of duties in the form of malfeasance or nonfeasance BUT not for ordinary negligence or bad/imprudent judgment

HYPO: P alleges that the management never considered selling the stock.  
-	this might be a problem if the company is in a lot of economic trouble (consider that once the corp is facing insolvency the fiduciary duties also runs to the creditors)

XII.	
Stockholder Meetings (and role)
A.	Statutes

NY  § 602, 604(a), 605(a), 608, 609, 612(a), 613, 614

Del §  211, 212(a), (b), 213(a), (b), 222, 216, 228

B.	General (305-306)
-	structural changes  (i.e. changing cert of inc, merger, sale of substantial assets, and dissolution) require majority or 2/3 of the outstanding voting shares and not just a majority of those votes present 
-	ordinary matters  can be voted on by the majority of the present votes at the meeting
-	election of directors  requires plurality vote or cumulative voting (depending on the state)
-	plurality voting = the candidates who get the highest number of votes get elected 
-	written consent from shareholders can also be obtained in lieu of a meeting (may only apply when the written consent is unanimous)
-	notice has to be given of place, time, and date of shareholders’ meeting (Del 211(a) and NY both say as by-laws provide)
-	record date: people who are on record on the record date as holding stocks can vote (this date is fixed according to by-laws and if by-laws don’t say anything the record date will be the day of or day before notice of the meeting is sent)
-	if you sell your stock after the record date, you can still vote
-	if you buy stock after the record date, you can’t vote
-	quorum = number of votes out of the total number that are entitled to vote (most statutes require a majority, some statutes say the quorum can’t be less than 1/3 of the votes)
-	proxy rules  if you buy stock after record date and want to vote, you can get the seller to give you a proxy so that you can vote in lieu of that person

NOTE: NY 612(a)

HYPO: the cert of inc names a brd of directors and provided that subsequent boards would be selected by present board which means that shareholders have no rts to elect the directors
-	in NY this is not permitted due to 501(a) which says that voting rt of classes of shares can be limited or excluded provided that there is at least one class with full voting rts
-	Del 212(a)  there is nothing precisely analogous to NY 501(a), the closest thing to it is 211(b) 
-	Slain thinks you could not amend a cert of inc to eliminate the rt of shareholders to elect directors unless this needed to be unanimously done
-	BUT if the people structuring the company set it up to not allow any voting rts, Slain is not sure if this is not allowed
-	you could set of differential voting rts 

C.	Removal of a Director
-	NY 706 – provides for method for directors to remove other directors
-	Del 141 – the statute is silent about whether directors can remove other directors, though it says that shareholders can remove a director (the answer to this is unclear and has never been litigated)
-	some statutes require showing of cause to remove a director but some do not require this
-	if you have cumulative voting  
-	in order to remove directors the # of shares voted against removal must be enough to have elected the director in the first place (i.e. if 30% was enough to elect a director then 30% is enough to stop the removal of a director) (this means the minority gets a veto over A’s power to remove, if you didn’t have this cumulative voting would be meaningless since the majority could always undo the results of the election by removing the directors elected by the minority)
D.	Cumulative Voting (308)
1.	Statutes  NY §618  and  Del § 214
2.	General
-	NY & Del cumulative voting only exists if cert of inc provides (some states make it mandatory)
-	why do we have this  provide minority interests a way to get represented 
-	important things to remember  minority is always overrepresented (this is not proportional representations)
-	** also note that this formula does not always work (use 1 and not 1/n)
-	where a board is classified the minority must hold more stocks if it wants to elect a director
3.	Marsh Excerpt (306)
-	the # of votes that a shareholder is entitled to cast cumulatively is calculated by multiplying the number of votes to which his shares are entitled and the number of directors to be elected
-	example  A owns 100 shares and 5 directors have to be elected = A has 100 x 5 = 500 votes

-	to determine how many votes you need to elect a specified number of directors 

X 	= 	S    x    D  +  “1 vote”
				N   +  	1
-	to determine the # of directors you could elect given a certain number of votes 

D 	= 	(X – 1) (N + 1)
		           S

		X = number of shares required to elect a specified number of directors 
		S = number of shares which are voted at an election of directors
		N = total number of directors who will be elected
		D = number of directors
4.	Cumulative Voting Problem (xerox)
-	the extra 40,000 votes are not considered for the purposes of the vote and extra 1,000 are not represented
-	you need to first determine how many directors you can elect
-	you can provide in the laws that the election is not done until all directors are elected

-	to determine the # of directors you could elect given a certain number of votes

D 	= 	(X – 1) (N + 1)
		           S

Management D =	 (5000 – 1) (6 + 1)   = (4999) (7)	=  3.888 = 3
					9,000		  9000

 	Dissident D	=	(4000 – 1) (6+1) = 	3999 x 7	=  3.11	= 3
					9,000		9,000	

-	to determine how many votes you need to elect a specified number of directors:

X 	= 	S    x    D  +  1
				N   +  	1

				9000  x  3    +   1	= 	27000  +  .17   =  3857.31  = 3857
				 6 + 1				    7 
							NOTE: you need 1285 to elect 1 director
E.	Matter of Auer v. Dressel (257)  NY 610, 609 (deals w/ potential fraud), §706 and Del §141(k), 213(b), 228 NY 

Facts: whether the president can refuse to hold a special meeting when by-laws specifically say that he must hold it when requested by a majority of the stockholders who are entitled to vote at that meeting
-	9 of the 11 directors are elected by class A stockholders, class A stockholders want to remove 4 of the 9 directors and replace them with new directors
-	this suit was brought to get writ of mandamus which is an order to compel performance of a duty of the pres to call the meeting

Holding: the meeting may be held
-	purposes of the meeting are legitimate because the class A stockholders can change by-laws and can elect 9 directors and therefore they have the inherent power to remove them and replace them and the changes desired by the class A stockholders would not affect rts of common stockholders
-	if there were no by-laws requiring president to call the meeting, shareholders could not get a meeting
-	if class A stockholders could not elect directors they could only make precatory resolutions = things you have no way of enforcing but you put someone on their honor to do some act that you can’t enforce otherwise (precatory resolutions are major issues under the proxy rule) 

NOTE: NY 803(a) has been added since Auer was decided, now shareholders cannot initiate amendments to cert of inc because the board must authorize it first and recommends such a change (unless the board recommends the change, then shareholders don’t have jurisdiction to do it on their own) 803(a) models Del 252 (b) which provides that amendments must be adopted by the brd before shareholders can take action
-	BUT shareholders can always amend by-laws

NOTE: the directors who are ousted have no legal rt to an unbiased proceeding regarding whether or not they should be removed 
1.	Campbell v. Loew’s (260) 
-	the directors that were going to removed had no obligation to be cooperative, so the directors tried to take control of the company and in the process directors exercised their rts to review records which caused gridlock in documents that interfered with operation of the company 
-	ct said that interference with corporate operations was grounds for removal of the directors and directors can always be removed for cause (note: ct does not answer the question of whether by-laws or cert of inc can take away this rt)
F.	Carey v. Penn Enterprises  see NY §610, 611 and Del §231
Facts: Carey, a shareholder, wants to buy PEI and is getting ready to make a tender offer 
-	PEI holds shareholder’s meeting to propose an amendment to cert of inc to split the common stock from 5 million to 10 million and reduce the value of each share from $10 to $5  this results in wider distribution of stock since there will be more shares at a cheaper price making it more expensive for Carey to make his tender offer and there are lot more shareholders who Carey has to track down, to get approval for this amendment there had to be approval of majority of the outstanding shares, corp and Carey sent out proxy forms to take the vote there are companies that are professional proxy solicitors who also can give out proxy forms which can be submitted and so you can vote once again
-	Carey challenged some of the proxies handed in by DRIP shares because the beneficial holders without a valid proxy from record holder 

Holding:  DRIP votes do not count (this invalidates the election) 
-	deference to CT judges on issues of fact but issues of law are up for reconsideration
-	ct wants to disenfranchise the DRIP shareholders because the modern practice of giving voting rts to beneficial owners of DRIP shares is contrary to the statute even if rt to vote is given to beneficial owners under the DRIP plan
-	PA Bus. Corp. Law applies which says that the shareholder who is on record has the rt to vote
NOTE: Slain would give more deference to the election judges because they know more about the process than anybody else, they are competent and independent judges

HYPO – partner A has management/voting power to vote the proxy and partner B does not have power to vote
Del 231 (d) – deals with the circumstances where there are over-votes particularly when you use brokers
-	this statute has been amended to limit the discretion of the election judges because the judges had developed a common law 
-	this is partnership agreement (not corp agreement) and the partnership votes are self-appointed (they are not affiliated with a bank or brokers), they can look at stock transfer documents, they can look at envelopes to see postmarked date (if the proxy form is not dated, you can look at postmark date particularly where you are deciding between two undated proxies)  this provision makes the process happen faster 
-	the only area this statute controls is the problem of broker over-votes
-	§212 (deals with potential fraud)

1.	Corporation Trust Company (CT)
-	operates in all fifty states  handle paperwork w/ respect to corps (i.e. if you want to incorporate CT will look over your papers to tell you if the docs are correct, they will file papers for you,  i.e. for incorporation or merger 
-	CT and Independent Election Corp of American help to run elections by counting ballots, make rulings re challenges to votes, verify proxies 

2.	Street Names
-	if you have publicly traded corp most shareholders don’t want stocks issued to them in their own name and would rather have the shares held by brokers or in safe deposit box because the instrument is valuable and you want to keep it safely, if the stock certificate is in your name and you want to sell the stock most of the time you have to get a signature guaranty from a bank or member of stock exchange which guaranties authenticity of signature and the rt to make the transfer (this will lead to a long inquiry because research has to be done to assure you have rt)  if the stock is in the broker’s name it stays safe and the transfer happens more easily because the brokers are already known and have rt to transfer  this is called using street name
-	every sale required physical transfer of the negotiable instrument until the 1960s 
-	the back offices of the brokerage firms could not handle all of the paperwork generated by incredible increase in stock trading in the 1960s
-	Cede & Co. is a subsidiary of the stock exchange, all the stock being held by member firms of the stock exchange is held by the exchange in the name of Cede & Co, if you decide that you want to sell 100 shares of IBM to me and I order my broker to buy the shares and you order your broker to sell, what happens is a bookkeeping entry which they inform Cede of because the transaction occurs through electronic transfers which is handled by Cede
-	Cede acts as holder on record and can vote 

3.	Dividend Reinvestment Plan = DRIP Plans
-	public companies agree that their shareholders will not receive cash dividend but that amount of cash will be used to buy additional shares, you accumulate interest and when you sell you get a certificate for the interest (a shareholder who has .23 shares can reinvest it so that eventually she will have full or more shares – this is essentially an accumulation plan)
-	the offer of these shares have to be reported pursuant to the securities act
-	owner of these shares gets a prospectus saying how they can vote these shares 
-	Slain can’t understand why these are as popular as they are because this process is legally complicated to operate and very costly to operate, even if you stay in the DRIP plan long enough you still don’t make much more than a small amount of money, and there are no tax savings for using the DRIP plan BUT they are really popular
-	if you participate in DRIP plan you can’t use a street name because it is too much of an administrative burden on the brokerage firms

XIII.	Stockholder Voting Agreements and other agreements
A.	Statutes    NY § 609(a), (f), 620  and  Del § 212(e), 218(c), (d) 
B.	General
-	holdover board = the old director remain in office until the new directors are elected
-	in general, contract regarding voting rts are valid (problems are when the contracts start resembling the contracts in McQuade and Galler)

C.	McQuade v. Stoneham (425)

Facts: Stoneham, McQuade & McGraw together own majority of the shares of National Exhibition Company (baseball club, voting agreement said Stoneham alone has power to name additional directors, no changes will take place without mutual and unanimous consent by all parties, the K is valid unless ownership of stock changes, this contract allows shareholders to control the corp and control directors

Holding: the agreement is invalid 
-	a stockholders voting agreement cannot take power away from directors to adhere to their fiduciary duty to corp and shareholders 
-	the equities in this case don’t matter because this contract is simply inconsistent with the statute
-	normally the directors’ motives may not be questioned so long as their acts are legal 

NOTE: in NY this type of agreement has to conform with NY 620(b)

D.	Galler v. Galler (433)
Facts: 2 brothers have equal stock in company and each sells 6 stocks to Rosenberg with K that they will buy the stock back if Rosenberg is terminated, giving Rosenberg 12 shares makes him a controlling person in the company, this is an indication that the brothers did not have a falling out yet because they would not have sold shares if they did not trust one another
-	2 brothers executed shareholder K to protect families’ interest and to ensure that the families will have equal control of the corp, Benjamin dies and Isadore says he won’t uphold K
-	Emma sued for specific performance of contract (suing for specific performance is not efficient because the litigation takes so long)

Holding: agreement is upheld 
-	shareholder-director agreements are generally enforced even when they have technically violated the bus. corp act unless 
1)	there is public injury 2) fraud, prejudice, or harm to the minority interest 3) prejudice to creditors
-	none of these things are present here
-	Examples of Valid Provisions in the K in this case
-	clause that provides for the election of certain persons to specified offices for a period of years 
-	the purpose which is to provide income for the families 
-	minimum earned surplus is designed to protect the corporation and its creditors 
-	salary continuation program  since there are no shareholders other than the parties to the contract, its effect is not so prejudicial to warrant its invalidation

1.	
Closed Corps and Shareholder Agreements
-	should be treated differently from a publicly held corp
-	closed corps = usually held by a few people or families and there are personal politics involved 
-	stockholders in a closed corp are often the officers/directors
-	corps that pass to the next generation often face problems
-	a stockholder in a public company can sell his stocks if he does not agree with the management of the companies but in a closed company stockholders have made personal investments and there is no real market for his stocks
-	because of these issues, the only protection such stockholders have comes in the form of a shareholder agreement

NOTE: 
-	consider that there are certain K that might be invalid under Rules Against Perpetuities
-	you can create an irrevocable proxy Del 212(e) (Del law is very cryptic under this provision)  NY 609(f) (NY statute explains things the way it is applied in most states)
-	Del 218 (b) touches on voting agreements but the law is completely unclear according to Slain
-	this is a classic 10(b)(5) case
-	MA would have invalidated this K if there was a complaining minority shareholder even if the minority had originally agreed to the K

1.	Financing With Debt
NOTE: one reason that people finance w/ debt is that in a close corp you can’t take money out of the corp without making it a dividend  (you can’t do this without paying taxes on it)  303 provides that the shareholders can sell back enough shares to put himself in a position to pay estate taxes and funeral expenses and costs of administering the estate, to that extent the transaction is treated not as distribution of dividend but as the sale of a stock the code also provides that for tax purposes your costs are recomputed at death, in practice there is no gain or loss so that means you can make the transaction tax free) 

XIV.	Federal Regulation of Proxy Solicitations
A.	SEC Provisions

§12(a), (b), (g) 
§14(a), Rules 14a-3, 14a-4, 14a-8 
§14(c), Rules 14c-2, 14c-3

B.	General
-	look at information rts of shareholders in Cary which deal with the circumstances under which a shareholder can get a court order to look at the books of the company
1.	Blue Sky Laws
-	these laws function concurrently with federal scheme and are particularly useful where a securities offering is exempted from federal scheme
-	most state laws have provisions to cover fraud and require registration 
-	state law does not state that management has any duty to provide info to shareholders
-	Kansas enacted 1st state statute which provided to some extent that a corp that was selling stock to members of the public had to get license to do that before they can sell (called Blue Sky Law)
-	now every state has some form of a blue sky laws and varying enforcement methods (NY is very minimalist and mostly deal with real estate and theatrical limited partnership and hardly deal at all with other security sales, probably NY has most meaningless blue sky laws)

C.	History of Security Regulations
-	most blue sky laws didn’t have ongoing requirement for disclosure, you didn’t see any laws like this until it was required by NY stock exchange which required that companies that traded had to publish a balance sheet every year but some companies withdrew their stock from the exchange rather than be subjected to this requirement
-	in early 1920s an income statement was required in addition to the balance sheet and later an independent certified public accountant had to certify validity of such financial statements
-	only a small percentage of the publicly traded stock was traded on the stock exchange
-	today most publicly traded stocks are traded on over-the-counter market and no info was available about these companies
-	the most important element of federal disclosure provisions is that they requires an audited financial statement of the company by a certified accountant
-	the act also gives the SEC plenary authority over accounting standards (it has power to determine all accounting laws for this country)
-	there are no state laws that require a corp to provide info to shareholders on an ongoing basis
D.	1933 Act 
-	= full-disclosure statute (concerned with accuracy of info)  provides that if a company is selling a security to the public that it has to go through the administrative process of registration 
-	corps also have to produce a prospectus which includes the audited financial statements 
-	1933 does not have a continuous disclosure provision  it cares about disclosure at the time securities are initially offered and does not regulate disclosure beyond that moment
-	NOTE: the info required under this act is outdated at the very moment the securities are sold

E.	1934 Act 
-	1934 act has provision for continuing disclosure
-	different from 1933 Act because it deals very broadly with many different topics

§4  authorizes creation of SEC which administers all of the acts

§6  requires registration=licensing of the national securities exchange = any kind of securities exchange (NY is the largest), the exchanges are given authority to regulate their own members = they become self-regulatory organizations, the rules adopted by exchanges are subject to review by SEC, the rules are the laws that are binding on these members (this is the broadest grant of power to an agency to regulate, it has been very successful)

§7  fed reserve board can set rules for margin trading which are enforced by the SEC
-	margin trading = buying a security on credit (credit is provided by the broker who buys the security for you), the broker holds the security as collateral for the loan and gets interest on the loan, since 1929 margin trading has gone out of control and it is common to buy securities on 10% margin = you put down 10% and the broker puts down 90% but if the stock goes up 10% you have doubled your money, if the stock goes down 10% you lose all of your money and the broker will make a margin call = call you and get you to sell the stock or put up more money so that his credit extended to you is not more than the originally agreed percentage
-	NOTE: if a lot of people have bought on 10% margin and the stocks drop 10% there are more margin calls made and if the people don’t have more money to put in they will sell  could lead to avalanche effect if people see others selling more will sell
-	the law was designed to prevent this
-	i.e. you can ask the broker to put up the 50% of the money = you are buying at 50% margin 

§12a and §12b  say that when a companies securities are listed and traded on an exchange, the company must register that class of securities under §12 (registration under §12 is different from general registration), consequence of registration is that the company becomes responsible for other requirements, you register by filing form 10 with the SEC, once it is registered the issuer becomes subject to §13, §14, and §16 (deals with one aspect of insider trading)
-	in 1934 the companies that were covered by these provisions were only those that traded on national securities exchange and companies who were not covered did not give any information out, in 1964 congress added §12g – the functional effect is to make over-the-counter market to be covered by continuous disclosure system (see §12(g)(1) covers all companies)
-	note: debt security does not have to be registered under §12
-	difference between 750 shareholders and 650 shareholders (an issuer that has more than statutory number of shareholders needs to register sooner)
-	original intention of this was to avoid having 1000s of companies registering all at once 
-	it is still used largely because of the view that smaller companies do not have shareholder accounting/legal ability/means that are comparable to a larger company that is used to doing this and thereby need more time
-	equity security = stock (different from debt)

§13  provides for continuos disclosure system under which  you have to file:
1)	annual report (see p. 1220 for instructions) 
2)	the most important part is the audited financial statement certified by an independent certified accountant
3)	10Q = quarterly statement (you cannot audit 10Q forms because there is no time to accomplish auditing)
4)	8K – has to be filed at any month if an event mentioned in 8K has occurred (usually involves some major event i.e. acquisition, bankruptcy, default under a major contract)

NOTE: you are subject continuos disclosure until your securities are no longer publicly traded

§15  provides for registration=licensing of broker dealers (you can’t be a broker without the license), dealer acts as a principle in the transaction and the broker acts as the agent for the transaction (the broker and the dealer do the same things and are the same people)
§17  broker dealers are now required to turn in annual financial statements (only a very tiny % of broker dealers are not affiliated with the exchanges, most are involved in the over-the-counter market 
-	since only a few broker dealers were subject to §17, §15A requires registration with a national securities association (NASC)  there is no statutory requirement to join but §15A(e)(1) but the statute says that if you don’t join the NASC no member can deal with a non-member except at retail prices (the only people who don’t join are SECO (SEC only) because they do narrow securities business that does not involve trading securities, i.e. if your job is only to sell securities of a mutual fund there is no advantage to joining) 
-	exchange market= there are continuous selling and buying securities = double auction (you have to physically shout out your deal because you can’t do this on the side)
-	OTC market = telephone market (you can use pink sheets which gives you name of the security and the name of any broker dealer who can buy or sell that security) 
-	in 1964 there was a move to computerize the info on the pink sheets = NASDAQ (National Association of Securities Dealers Automated Quotations) (this system has functionally become an exchange), it only includes the main securities exchanged, it has become more prestigious 
F.	Proxy voting generally 
-	this is the main way of doing shareholder decision-making in publicly held companies
-	Proxy  gives you agency to vote and it functions as a ballot
-	Problem of Overvotes  where brokers are involved, brokers sends proxy form to shareholders, form is returned to the broker who forwards them to the election talliers, this system tends to result in over-votes because there is no mechanism to prevent submitting votes multiple times 

Reasons for Proxy voting
-	shareholders are usually geographically dispersed
-	a corp that has high % of individual shareholders can run into a problem getting quorums at meetings because the shareholders don’t take the voting seriously
-	shareholder often have some other business than the particular investment so that the shares they represent are not a substantial portion of her wealth
-	a shareholder may not wish to speak on a particular issue
-	physical attendance at a shareholder meeting is an uneconomical use of the shareholder’s time 

G.	Proxy Rules 14a
-	require full disclosure when shareholders are being asked to approve things such as mergers, certificate amendments or election of directors and require certain annual disclosures
-	proxy rules only apply to securities registered pursuant to §12

Rule 14a-3 requires proxy statements for an annual meeting at which directors are to be elected must be accompanied by an annual report that includes audited balance sheets for each of the corp’s 2 most recent fiscal yrs, audited income statements for its 3 most recent fiscal yrs, and certain other info

Schedule 14A item 7 + 8  proxy statements for an annual meeting at which directors are being elected must disclose the compensation of the five most highly paid executives and the executive officers as a group (including not only salary, but bonuses, deferred compensation, stock options, etc) and significant conflict-of-interest transactions during the corp’s last fiscal year involving among others, directors, executive officers, and five percent beneficial owners
-	Item 7  says the proxy statements for such a meeting must also disclose whether the corp has audit, nominating, and compensation committees, and if so, the number of meetings each committee held during the last fiscal year and the functions it performs

14(c), regulation 14C, Schedule 14C  a corp that is registered under §12 must distribute, in connection with an annual meeting at which directors are to be elected, an annual report and certain other info (i.e. info re conflict-of-interest transactions and compensation), even if the corp is not soliciting proxies

Rule 14a-11  regulates proxy contests in which insurgents try to oust incumbent directors, it mainly requires the filing of certain info by the insurgents

Rule 14a-7 and Rule 14a-8  permits shareholders to communicate with each other

Rule 14a-4  regulates the form of proxy

Safe Harbor Rule 14a-2(b)(1)  provides that communication between shareholders that does not solicit proxy voting authority and that were sent by person with no material economic interest in the solicitation did not constitute solicitation (purpose is to make it easier for shareholders to communicate)

Rule 14a-11(d) and Rule 14a-12  provide procedure for contesting an election of directors or to oppose a nonelection matter prior to the delivery of the definitive proxy statement

Rule 14a-3(f)  permits a party who has filed a definitive proxy statement with the SEC to broadcast or publish its communications in ads, speeches, or columns, without preceding such communications with copies of definitive proxy statements
-	eliminated requirement of preliminary filing of soliciting materials except for the preliminary filing of the proxy and the proxy statement (this effectively eliminated any of the SEC’s prior restraint of newspaper ads and similar soliciting materials though anti-fraud rule still applies)

1.	Proxy Solicitation 
-	process of systematically contacting shareholders and urging them to execute and return proxy forms that authorize named proxyholders to cast the shareholder’s votes, either in a manner designated on the proxy form or according to the proxyholder’s discretion
-	14(a) authorizes SEC to make rules re proxy solicitation (in practice 14(a) itself does not prohibit any conduct you have to look at SEC rules = legislative rules (legislative rules are different from interpretative rules  almost all of the IRS codes are interpretative because they are agency’s interpretation of the statute and these are entitled to judicial deference but with legislative rules the cts have to defer to these rules and the only issue cts can address is whether the grant of authority is sufficient to permit the act passed, here the authority is of SEC is plenary)

Rule 14a-2  says that proxy rule applies to every solicitation of a proxy w/ respect to securities registered pursuant to §12 (exceptions where the total # of proxies is 10 or less)

Rule 14a-1(f)  defines proxy as every proxy, consent or authorization within the meaning of §14a (consent or authorization may take the form of failure to object or to dissent)

Rule 14a-1(l)(1)  solicitation is defined as any request for a proxy, any request to execute or not to execute, or to revoke a proxy, or the furnishing of a form of proxy or other communication to security holders under circumstances reasonably calculated to result in the procurement, withholding or revocation of a proxy 
-	(see 779 f2d 793 (2d cir 1985)  there was nuclear power plant in Long Island, a politician who owned a number of share started proxy contest, defs were a group unrelated to politician who ran an ad saying that management was bad and nuclear plants are bad ideas, Lilco sued under 14a-9 which says that you will not do bad things in connection with proxies and said the proxies were misleading, the ct held that the ad campaign violated proxy rules because it was started in the middle of a proxy fight and that conduct is perceived as constituting proxy solicitation)

Rule 14a-3  provides that no solicitation of proxies that is subject to the proxy rules shall be made unless the person being solicited is concurrently furnished or has previously been furnished with a written “proxy statement” (term of art) containing information specified in Schedule 14A

Rule 14a-3(b)  if solicitation is made by or on behalf of management in contemplation of annual meeting to elect directors, the proxy solicitation must be preceded or accompanied by an annual report to the shareholders

Rule 14a-3(b)(5) – prior to 1983 there were different sets of instructions for different disclosures, now Schedule S- K establishes all requirements and there is more uniformity

Rule 14a-4  

Rule 14a-6  you need to file 5 copies of the proxy statement 10 days before use
-	exceptions is plane vanilla solicitation i.e. if you are voting for directors and there is no competition or if you are choosing auditors
-	but if you have a statutory merger (this is non-plane vanilla) nothing in the proxy rules say you need commission’s permission to use this document
-	in practice you should furnish the documents long before the 5 day limit and ask people if there will be a problem, this gives you time to fix the problems (there is no basis in the statute or rules for the commission to ask for additional information, but you should comply because if you use a document they don’t approve of they can try to litigate to get you to be enjoined from using the document anyway)

Rule 14a-9  anti-fraud rule in connection with proxy solicitation

Rule 14a-10  forbids the solicitation of an undated or post-dated proxy

Rule 14a-13(b)  annual report must contain audited financial statements (see b(5) and b(5)(2)) 

Schedule 14A  lists in detail the info that must be disclosed when specified types of transactions are to be acted upon by the shareholders

Rule 14a-7  says that if you are going to start a proxy contest the company has to arrange circumstances under which you can get ? 

Rule 14a-8  traditionally American shareholders won’t vote against management because if they are unhappy they sell their stock (tender offers came into existence because proxy solicitation never ousted management successfully except in the case of chockfullonuts)
-	permits shareholders who are not trying to take over the company to raise a particular issue by permitting them to add their own proposal to the proposal that is distributed by management
-	initially proposals were made re things that had little connection to the issue and by people who had little interest in the issue (this has been revised to make requirements stricter)
-	criticism of this rule is that you get stock (1000 shares), you get a public platform, you get to go to an annual meeting, and an audience (anyone has a say)
-	in 1980s shareholders became more active 

H.	Problem

1.	preferred stock = equity
a.	the common stock must be registered but since there are fewer than 500 preferred shareholders, no registration is required of preferred stockholders (each class of stock is a separate security)
b.	typically preferred stockholders do not have full voting rts. 
-	see 14a which covers the common stock
-	preferred stock are not covered by 14(a) (note: you would send info to the 60 shareholders because they are so few in number, in practice this is just courtesy

2.	Y has a majority and will win the election
a.	no legal requirement to ever solicit proxies ever for anyone
b.	the common stock are registered under § 12 but 14(a) only applies to people soliciting proxies
-	14(c) which says that you still have to give info

3.	
a.	you do not have to register the common stock since there is less than 500 shareholders
b.	§15(d) brings the corp under the continuous disclosure rule (if you register securities under 1933 act you become subject to the continuous disclosure system)
c.	not subject to proxy rule because those rules only apply to securities registered under §12

4.	
a.	12d says they have more than 750 shareholders 12d and have over 1,000,000 in assets BUT Rule 12(g)(1) seems to contradict 12d  (see 12h gives commission blanket power to provide additional exemptions from section 12g but not from 12a)  answer is that A is not subject to proxy rule 
b.	not subject to continuous disclosure (this is a publicly traded security (you can only get info about company by calling up and asking them but they have no obligation to tell you anything, is this subject to fraud rules?))

I.	
Lovenheim v. Iroquois Brands (Xerox)  14a-8
Facts: P wants to add proposal to proxy materials that requests brd of directors to form a committee to investigate the suppliers of foie gras but D refused to add materials 
-	see footnote 14: the issuer has to send its proposal to SEC and the SEC sends a No Action Letter which says that the commission will take no action  but this commits the SEC to nothing BUT in practice the commission has never taken action after sending out a no action letter = makes this reliable (on the other hand, a private ruling has a statutory basis which says that the commissioner cannot change his position) (Slain thinks no deference should be given to the no action letters (some cts do give deference to them)
-	preliminary injunctions essentially end the case

Holding: preliminary injunction granted and P’s proposal may be added to proxy statement
-	Rule 14a-8(c)(5)  this provision says that an issuer of securities may omit from the proxy materials a proposal that relates to operations which account for less than 5% of the company’s assets or for less than 5% of its net earnings and gross sales at the end of its most recent fiscal year and is not otherwise significantly related to the company’s business 
-	this provision includes the following requirement  
1)	5% economic criteria  here the foie gras is much less than the 5% of the assets 
2)	“otherwise significantly related” = requires considerations of ethical and social significance that implicate significant levels of sales  here the foie gras meets this standard
-	standard to give preliminary injunction  
1)	likelihood of prevailing on the merits  here it is likely
2)	whether P will suffer irreparable injury without a preliminary injunction  
-	here if preliminary injunction is not given there is irreparable harm in the sense that the proxy material will be distributed and it will be too late to take action after the fact 
-	proxy rules are aimed at guaranteeing that shareholders have access to proxy statements whether or not their proposals are likely to succeed
3)	whether giving the preliminary injunction will substantially harm other parties  
-	D claimed that investors react negatively to litigation and the issuance of injunction but ct says these arguments are largely speculative
-	public interest is served by preliminary injunction since 14(a) represents public interest in shareholder’s rt to control the decisions that affect the corp

NOTE: shareholders cannot adopt resolutions telling the board how to run the corp (products that are bought and sold are part of the business of the corp and part of the power of the directors to determine) but shareholders can make precatory resolution (14a-8 resolutions are usually precatory, this rule is used to allow shareholders to express their opinions)
-	proposals like P’s are never passed but if it is on the proxy statement the issue will be discussed (management is concerned about spending the meeting discussing such issues and have to publicly air issues like cruelty to animals)

NOTE: what if the def was the A&P or some other national chain because the issue about whether the proposal is “otherwise” related to the business is a harder argument to make with respect to a larger national company

1.	Porno Hypo

HYPO: we have a plant and public corp for making movies, we are not able to convert it for other use, we decide to make pornos, no one can stop this under the 1st amendment and these films are objectively harmful but as a legal matter there is no way to stop this film-making  what can you do if you object to the making of pornos?
-	you could bring the issue up in a shareholder’s meeting
-	if the shareholders voted to make pornos, we could simply resign and sell our shares
-	it is not that costly to just walk out the door

XV.	Authorized Capital Stock and Dividends
A.	Statutes  NY §402(a)(4), (5), (6), 501(a), (b)  and   Del  § 102(a)(4), 151(a), (b)-first sentence, (c)
B.	General
-	today there is a good faith rule in affect re value of stock
-	today you have to look at whether stock was duly authorized (look at # of outstanding shares and cert of inc), validly issued (whether board authorized it, you can look at minutes and whether procedures were followed), and fully paid (has corp received all of the consideration for which the corp agreed to accept for the stock and does it equal the minimum statutory consideration that the corp has to receive)
-	blank series preferred – provision that says that corp may issue X number of shares of preferred stock with all of the characteristics being determined by the directors at time of issuance (the purpose of this is to deal with the problem of over-issue)
-	over-issue = you issue shares beyond those that are provided in cert of inc. (the people who buy these over-issue stocks are not stockholders) 

1.	Par Value 
-	= price at which the share would be sold by the corp
-	cert of inc is required to tell you the # of shares that the corp is authorized to sell, # of classes, and characteristic of the classes
-	there are a number of states that have abolished the concept of par value but  there is no reason to abolish this concept because it protects shareholders
-	§628 and 504 and Del §152 (Del permits the sale of partly paid stock, Slain doesn’t think any other state allows this) 
-	company can sell stocks for a higher price than par value

-	modern use of par value 
1)	sets a floor for the consideration which the corp must receive for the issuance of stock
2)	par value becomes baseline in the computation which permits you to determine whether dividends can be paid to shareholders 

2.	No-Par and low-par stock
-	problem w/  par value is that # that equaled par value represented what the company was worth
-	no-par = stock that do not carry an par value at all
-	corp capital = total value of all issued shares
-	capital will also include amounts later transferred to capital by the board
-	no-par stock has never caught on as a practice because people didn’t really trust no-par stock also originally there was a tax on the par value and if you have no-par stock the tax laws created a tax value so that taxes could be collected  this made it very expensive to issue no-par stock (note: statutes ban corp from giving away their stock and whatever the consideration was for the stock constituted the capital investment into the company) 
-	low-par = stock with less par value than what it is issued for
-	corp capital is determined by looking at total value of all issued shares
-	capital will also include amounts later transferred to capital by the board

C.	Balance Sheets
-	(assets – liabilities) = owner’s equity = net worth
-	assets = liabilities + owner’s equity/net worth
-	current assets = cash or thing that will become cash within the operating cycle of the business (operating cycle= period of time that the business can make something, sell it, and collect $ for it) (i.e. cash, inventory, accounts receivable)
-	long-term liabilities are paid after current liabilities
-	current liabilities = liabilities that have to be paid within 1 yr of the date you are doing balance sheet
-	REMEMBER THIS  entries on balance sheet are determined based on generally accepted accounting principles (GAAP) and these entries do not necessarily reflect real or market values
-	entries typically reflect book value = value of assets and liabilities on financial statements
-	i.e. if you put the value of a building on the balance sheet, you would show the cost of the building minus depreciation; however, depreciation recorded on financial statements is determined using a formula rather than calculation of true market value or wear and tear

1.	Balance Sheet HYPOS

Balance Sheet 11/30/99	
Assets (what we own)	Claims against the Assets	

current assets = is now cash or will turn into cash (i.e. cash, inventory, or accounts receivable) = 100,000

fixed assets = 1,900,000	     once you deduct creditor claims of
     $400,000, you are left with shareholders’       
     equities ($100,000 is the original    
     investment)

     $1,500,000 = earned surplus (this term is 
     impermissible to be used for accounting 
     purposes, you have to call them Retained 
     earnings)	
Assets = 2 million	Total = 2 million 	
* this company is at the point of bankruptcy, the earned surplus is not indicative 
   of the state of the company, you have to consider all of the liabilities of the company

Balance Sheet 9/30/99	Balance 12/31/99	
assets  	claims on the assets	assets	claims on the assets	
assets 100,000	

CCIP 90,000
Common Stock 10,000	mix of assets 240,000	Liabilities 100,000
Retained earnings  40,000
CCIP 90,000
Common Stock 10,000	
100,000	100,000	240,000	240,000	
-	if the company was organized today and there are 10,000 outstanding shares at 1$ per share and $100,000 in cash given by shareholders
-	Together the following things constitute shareholder equities 
CCIP = difference between par value and what you paid for the stock	
Common Stock is = par value
Retained earnings  are not assets

XVI.	
Dividends
A.	Statutes  NY § 102(a)(8), (9), (12), (13), 510   and   Del §170
1.	General

NY §510 
-	insolvency in the bankruptcy sense = liabilities exceeded assets
-	insolvency in the equity sense = we cannot pay our bills as they become due
-	nimble dividend statute  Del §170 = corp may pay dividends out of its surplus and if no surplus may pay dividends if currently profitable (don’t worry about wasting assets corps in the real world)
-	shareholders can amend cert of inc, stated capital is determined by cert of inc, so directors and shareholders can change par value at any time (the par value simply has to be a positive number)
-	US companies do not go broke by paying dividends
-	there could be problems if par value is changed all the time and stockholders kept paying dividends  this would create incentive to change the statute, but generally US corps are not conducting business this way
-	CA statute says that you can pay dividends on retained earnings and if the assets are more than 125% of the liabilities all statements of income will be taken into account as consistent with GAP (generally accepted accounting principles) 
-	NY §102(13)  defines surplus 

NOTE: 
-	retained earnings used to be called earned surplus and CCIP used to be called capital surplus
-	we don’t use these terms anymore because it is confusing
-	the statute was drafted before the names of these terms were changed
B.	General
-	US corps have historically not paid many dividends and do not commonly go broke from paying dividends
-	in US there is no pressure to pay dividends because if you have a closed corp and the shareholders want income, it is better to pay salaries or some other deductibles which are pretaxed dollars 
-	in publicly held companies you have to consider that tax system works against giving dividends
-	dividends are ordinary income for purposes of the tax system 
-	if a company makes money the company can reinvest the money into the company or elsewhere which means corp will make more money and presumably the price of your stock will increase and the max long-term capital gains rate = tax rate on selling stocks is 25% (this is true before 1986)
-	company could pay dividends (it is generally not a tax effective way to invest money by paying dividends because taxes are taken on the payments to you) generally American shareholders are indifferent about receiving dividends because of tax reasons 
-	tax reform act of 1986 changed attitude about getting dividends from corps  
-	under this tax scheme you had for the very first time American shareholders who want income from corp (corp can do this more cheaply buy paying out interest and gives incentive to make corps assume a lot of debt) 
-	under Bush administration individual tax rate was raised and lowered capital gains rate and this again made it make sense for corp to keep money rather than paying it out
-	Miller & McDigliani  posit that assuming that there are no taxes (basing a theory on a zero tax rate makes the theory pretty much worthless since there is no such thing), shareholders are indifferent to being paid dividends, so if the corp pays $60 the shareholder has $60 to reinvest as the shareholder wants, but if the corp keeps $60 to reinvest instead of paying dividends the value of all shares should go up proportionally which makes selling the stock a very good option (this theory is contingent on real taxes (you have to look at income and capital gains taxes) and good reinvestment strategies by the company)

NOTE: Del statute is meaningless if you can manipulate numbers to say whatever you want
-	in NY you have take account of assets via GAAP, the board can’t make up its own values
-	CA  §500(c) 

2.	Balance Sheet Hypos re Dividends

Balance Sheet 9/30/99	Balance 12/31/99	
assets  	claims on the assets	assets	claims on the assets	
assets 100,000	

CCIP 90,000
Common Stock 10,000	
current assets 140,000

mix of assets 100,000	current Liabilities 20,000 
LTL 80,000

Retained earnings  40,000
CCIP 90,000
Common Stock 10,000	
100,000	100,000	240,000	240,000	
*here we are not insolvent in the bankruptcy sense
-	brd of directors can pay dividend of $10,000, the current assets and total assets will be reduced by 10,000 and we can keep paying dividends so long as the left hand side of the balance sheet can be absorbed by rt hand side of the balance sheet (i.e. if you reduce left hand side you have to reduce rt hand side because the sheet has to balance)

     current assets = 140,000
-   stated capital = 10,000
      surplus = 130,000 = (retained earnings + CCIP)

-	we can pay a $10,000 dividend = current assets will go down by $10,000 and reduce retained earnings by $10,000

Balance Sheet 9/30/99	Balance 12/31/99	
assets  	claims on the assets	assets	claims on the assets	

assets 100,000	

CCIP 90,000
Common Stock 10,000	
CA 40,000

Fixed Assets 200,000	
current liabilities 50,000
long term 50,000

Retained earnings  40,000
CCIP 90,000
Common Stock 10,000
	
100,000	100,000	240,000	240,000	

-	NY §102(a)(8) 

C.	Morris v. GE (1358)
-	the board of directors can value the assets and determine when to give out a dividend (they do not have to formally do appraisal to determine what the assets are)
D.	Klang v. Smith’s Food & Drug Centers (Supp 269)  repurchase in excess of surplus
Facts: K to sell SFD that included stock repurchase which P said impaired SFD’s capital in violation of Del §160 and non-disclosure of material facts re the transaction constituted violation of fiduciary duty by SFD’s directors 
-	corp cannot repurchase shares if it would cause impairment of capital (there are exceptions §160  note the purpose of this provision is to prevent directors from draining corps of assets to the detriment of creditors and the long-term health of the corp)

Holding: no violation of the statute
-	repurchase that “impairs” occurs when funds used in the repurchase exceeds corp’s surplus (§154  says surplus = the excess of net assets over par value of the corp’s issued stocks) but corps can revalue assets and liabilities in good faith to show a surplus = §154 does not require a specific method of  balancing assets and liabilities (i.e. manipulate the #s on the balance sheet to “find” a surplus that is not so far off the mark as to constitute fraud)
-	here directors used total invested capital and long-term debt to calculate surplus rather than total assets and total liabilities  ct says this is OK because total invested capital takes into account current liabilities and it does not violate the statute just because the directors were sloppy in their calculations or did not use good corporate practices, the statute only requires that there be a surplus after the repurchase
-	NOTE: the numbers used by the investment bank were based on unverified estimates of future numbers  amounts to a prediction about the future of the company but this is still OK
-	there are cases where the methods and data are so unreliable that they constitute actual or constructive fraud  here the plaintiff has not made such a showing and has not alleged bad faith

E.	Randall v. Bailey (1341)  payment of dividends until broke
Facts: (still good law in NY) directors would hire real estate appraisers who would tell the directors what the property was worth, appraisers told the directors that the property was worth more than 10,000,000 and the directors kept paying dividends until it went broke (one of the few corps that ever went broke while paying dividends) (this would not happen in CA because it requires use of GAP and requires use of retained earnings to make determinations–Slain thinks this is good practice)

Holding: ct held that directors are protected by business judgment rule because in US the decision to pay dividends is within discretion of the board of directors, in other parts of the world this is not true (in Germany the last item on proxy statement is your vote on management’s proposal to pay a dividend)
-	note: model business corp act states explicitly that the board of directors can use any reasonable methodology and do not have to apply GAP

Hypothetical Balance Sheet for Randall v. Bailey

Balance Sheet 	later Balance Sheet	
assets  	claims on the assets	assets	claims on the assets	
assets 10,000,000

Property is worth 10,000,000	L 5,000,000

Retained Earnings  0

Stated capital 15,000,000	assets  10,000,000

Property  20,000,000	liabilities 5,000,000

Surplus 10,000,000
Stated Capital 15,000,000	
20,000,000	20,000,000	30,000,000	30,000,000	

F.	Smith v. Atlantic Properties (460) – App Ct of MA  closed corp, pay taxes/pay dividends

Facts: corp has cert of inc provision stating that all decisions of the board must be approved by 80% of the shareholders  since there are 4 shareholders, this effectively gives any one person veto power over the others = super majority provision, Wolfson wants earnings to be used for repairs on land and not payment of dividends even though IRS imposed penalties for unreasonable accumulation of corp earnings and profits (IRS standard = “beyond reasonable needs of business”unclear what this means) (basically taxes income left after paying income tax, purpose is to get company to pay dividends, does not affect publicly held corps) [hard to prove that the repairs were reasonable needs of the business particularly since other shareholders don’t want the same]

Holding: Wolfsen must reimburse the company for the penalties paid out and court reserves jurisdiction over the case to monitor the parties to make sure a dividend is paid out by the company
1)	breach of fiduciary duty by Wolfson
-	Donahue  majority stockholders may seek protection from minority stockholders 
-	Wilkes  requires balancing of business interests behind actions taken by majority & minority
-	here the ct thinks that before a court order is used there should be an attempt by the parties to reach a solution after considering all relevant circumstances
2)	Wolfsen’s conduct was not reasonable regardless of the fact that the shareholders all agreed to 80% provision and regardless of the fact that there were tax advantages to not distributing dividends 
3)	the ct retains jurisdiction over the cause = contrary to general judicial practice of not interfering with business judgment
4)	refusal to grant attorneys fees is in trial ct’s discretion and is valid particularly since Wolfsen committed no fraud and the other stockholders were partially responsible for the bad relations between the board of directors

XVII.	Subscription & Consideration
A.	Statutes   NY § 503  and   Del §165, 166
B.	Subscription (137)
-	under these K a person agreed to buy a corp’s stocks when it is issued to him (usually this agreement is made before corp has formed) (created  because it used to take a long time to form a corp which lead to de facto corp problem as well as the problem of getting investors lined up and committed)
-	most states have laws saying that preincorporation subscription K are irrevocable for a specified a specified period of time unless all the subscribers consent to revocation or K says otherwise
C.	Consideration
-	NY § 504
-	Del § 152, 153, Const Art IX §3
-	money, labor done or property received  leads to problems where I give you a note and agree to give you money so is the note property and is this the kind of property the statute is talking about

XVIII.	Types of Stock

NOTE: stock is unlimited residual claim against assets of the corp = after all claims are paid out, literally anything that is left goes to benefit of the stockholders
A.	Statutes  NY §402(a)(4), (5), (6), 501(a), (b)  and   Del §102(a)(4), 151(c), (d)
B.	Common stock 
-	common shareholders hold the equity interest in the firm and have residual interest (this means they get whatever is left after more senior interests have been paid out i.e. debt and preferred stockholders)
-	may be issued in several classes which may involve different rts or desirability
C.	Preferred stock (SEE “Types of Preferred” worksheet)
1.	Preferred Stocks Generally
-	preferred stock = stock that is preferred with respect to dividends (considered part of net worth of corp from accounting perspective and part of net profit from tax perspective)
-	directors owe no fiduciary duty to preferred stockholders (?)
-	may be issued in several classes which may involve different rts or desirability
-	they can be limited with respect to dividends as well
-	most preferred stock are non-participating = preferred and limited 
-	classic preferred stock  preferred and limited, non-voting and convertible
-	in practice preferred shareholders are much more like creditors than common shareholders who have broadly stated fiduciary obligations owed to them
-	participating preferred stock  is much more like common shareholders because the fiduciary duty runs to people who have residual equity, this would include common shareholders and participating preferred stock 
2.	To Determine what kind of preferred stock you have 
-	consider its relationship to common stock
-	preferred have preference = 1st claim to dividends and disposition of assets in the event of liquidation of the corp (this “preference” is only w/ respect to common shareholders and not creditors)
-	preferred have no fixed claims for distribution, their claims are contingent on if the corp pays dividend
-	cumulative–no dividend are paid to common shareholders until all prior dividends on preferred are paid
-	noncumulative–a dividend can be paid on common as long as the current dividend on the preferred is paid = if company does not pay this year it does not owe this money the next year or ever  (these are always a security which are issued to complainant in bankruptcy claim/reorganization)
-	straight preferred stock = nonparticpating preferred stock) – most frequent type, preference or priority comes in the form of a fixed % of the par value of the stock or a fixed number of dollars per share in the case of stock w/o a nominal or par value
-	participating preferred = have rts to other things beyond dividends
-	preferred and limited as to dividends = have rts only in dividends

Note: nobody buys noncumulative preferred stock

3.	Difference between debt and preferred stock
1)	debt holders have fixed claims for interest and principal and preferred shareholders’ claims are contingent
2)	dividends paid to preferred are not “expenses” and thus do not reduce the corp’s taxable income but interest payable on debt is an expense
3)	interest and dividends are normally taxable with respect to the recipient but dividends may not be fully taxable or nontaxable under certain conditions
4)	a dividend becomes a debt only if the board declares that it will be paid (i.e. if corp has a class of preferred stock on which a dividend is now payable, but the dividend is not declared = it is not owed and is not debt until it is declared 
-	if dividend is cumulative, then dividends just keep piling up and still don’t become debt until the board declares there will be payment of dividend

4.	Voting Rts
-	preferred stock can have full voting rts (i.e. Illinois used to prohibit the issuance of any non-voting stock) and is likely to have class voting rts = votes separately as a class 
-	you can also have contingent voting rts (i.e. preferred shareholder can vote on the election of directors only if the preferred dividends are in default for a designated number of periods)

5.	Convertibility and Redeemable 
-	many preferred stocks and some bonds are convertible into common stocks
-	if preferred is convertible = convertible to common stock and is always redeemable 
-	you can redeem it to the company for at least par value plus whatever dividends you may have accrued
-	you can compel people to convert but when you convert you lose any accrued and unpaid dividends
-	if preferred was originally sold for $100 and can be converted to common stock that is being sold for $150  market price of preferred will go up at least as much as the market price of the common stock so you don’t need to convert it, you can just sell the preferred in the marketplace
-	preferred stock has a coupon (= interest rate) of 8% which means that you get dividend of $8/share and if you convert it to common stock where the common dividend is 50 cents per share, clearly you should stay with the preferred and don’t convert because market value for preferred will go up with the common stock and the dividends will be higher for the preferred
-	usually at liquidation you get par value and accrued dividends

6.	
Baron v. Allied Artists Pictures Corp (Xerox) paying dividends on preferred
Facts:  P is stockholder of Allied and brought suit to invalidate 2 director elections
-	Allied issued preferred stock and added provision that if preferred stockholders were not paid dividends, then the preferred stockholders would have rt to elect a majority of the directors
-	at the end of 1963    	retained earnings: - 5,000,000
preferred stock outstanding shares: 150,000 at par value of $10 = 1,500,000	
CCIP: 1,500,000
common stock: 200,000         

- 1,800,000

-	at end of 1970  		retained earnings: 200,000
preferred stock: 1,500,000
CCIP: 1,500,000
common stock: 200,000
		
surplus = 1,300,000

-	Allied suffered $ losses which made it unable to pay dividends to preferred stockholders under Del §170
-	IRS determined that Allied owed taxes but Allied had cumulative deficit of over $5,000,000  Allied made  agreement w/ IRS to pay off taxes over a few yrs so Allied cannot pay dividends until IRS says it can
-	P claimed that there were a number of years when it would have been financially reasonable for Allied to pay dividends and the board of directors elected by preferred stockholders had duty to pay off the balance due to the IRS and return control of the corp to the common stockholders since there was a surplus

Holding:  you cannot compel the payment of dividends even if funds are available due to business judgment rule because directors should decide whether they should pay dividends while using proper corporate management (Smith v. Atlantic Properties is an extremely rare case where ct ordered board of directors to declare dividends, this is normally completely up to discretion of board of directors)
-	rts of preferred stockholders = contractual rts
-	even if there is $ w/ which a dividend could be paid, cts will not interfere with the judgement of directors unless there is evidence of fraud or gross abuse of discretion
-	there is fiduciary duty to bring preferred dividends up to date as soon as possible as is consistent with prudent business management  but even this is a judgment call on the part of the directors (Slain thinks that this inevitably means that the parties will be back in ct again soon, in the new case you might argue that there is also a fiduciary duty to common shareholders)

NOTE: the only thing that will keep directors from acting of their own will is fiduciary duty
-	Del law says that you owe fiduciary duty to stockholders, Slain believes here the duty owed by the directors should also extend to holders of preferred stock since the preferred stock holders elected them  but even though this makes sense this is not really true because there is only fiduciary duty to common shareholders (?)
-	even if you argued here that directors owed fiduciary duty to corp, then the directors are still doing a good job
-	Dalton – here it seemed that there was definitely a breach of fiduciary duty but ct did not allow that to be held

7.	Rothschild International v. Liggett (Xerox)  Delaware Independent Legal Significance Doctrine
Facts:  Liggett issued preferred stock at par value of $100 /share and liquidation value of $100 (7% was the going rate of interest for this type of stock at the time it was created and sold but at time of this case the interest rate had gone up, note: the 7% preferred stock could not be redeemed, was not convertible, was not subject to call, and was senior to the other classes of Liggett stock in the event of liquidation BUT 7% preferred holders could not vote re the merger), GM Sub and Standard Brands made tender offers but GM made new offer for $70/preferred share that was accepted
$7 (amount of dividend owed)    = 11.66% = demanded rate of return to get people to buy this
$60 (market price) 

	$5.25  =   $45.02 = market price 
	.1166

-	note: no par preferred  you can’t state how much dividend is since there is no par value number to make this determination, so you need to have a stated flat dollar amount instead of percentage of par
-	GM Sub were paying $114.94 for the $5.25 preferred stock which had market value of $45.02 and only $70 for the 7% preferred which had market value of $60
-	reason: “back end merger” was being planned after the tender offer because GM want to manage/control the company w/o having obligations to shareholders  basically GM needs to cash out majority of the voting stock which means they don’t need the majority of the 7% preferred (they don’t even need to buy any of the 7% preferred) (probably the reason why GM even bothered to buy any of the 7% preferred was because there was fiduciary duty to the minority shareholders)
-	GM had control of company and eventually became sole owner of all Liggett shares
-	P claims that GM owed duty of fair dealing  essentially P wants ct to view the tender offer and merger as constituting liquidation of Liggett and claims that any removal of 7% preferred shares would equal a liquidation of those shares thereby triggering preferences owed at time of liquidation = P wants more $

Holding:  even though the practical effect on the 7% preferred stock was the same here as in a liquidation, a merger is not a liquidation BUT liquidation of the interest of the preferred stockholders is not the same things as liquidation of the assets of the corp = rts of preferred stockholders may be eliminated legally through a merger
-	Delaware Independent Legal Significance Doctrine– if there are multiple ways to achieve something the person who is doing it gets to pick the method then the other party cannot come later and claim that had the person making the decision chosen a different method they would have gotten better rts/benefits

XIX.	Charter Amendments
A.	Statutes      NY § 801, 803-805   and   Del §242
B.	General
-	HYPO: if you enter into K with everyone in the room, but the K needs to be amended, what % of the signatories to the K do we need to have vote to change the contract  unanimous/all signatories to contract

-	corp charters are between the state, corp, and shareholders so a number of states took the position that the contract between the shareholders and the corp was not governed by contract clause 
-	concept of appraisal  rt to dissent from transaction and opt out of deal by demanding that corp buy your stock at the ascertained value

1.	to make fundamental changes in Del 
1)	there has to be a board resolution
2)	call of shareholders meeting
3)	approval by majority of the outstanding stock entitled to vote and outstanding stock of all classes 
-	gives class voting rts even if the cert of inc provides that this is non-voting stock

HYPO: 500,000 non-voting preferred and 1,000,000 shares of common
-	there is proposed amendment to alter cert of inc to approve the authorization of higher preferred = new class of preferred stock whose holders will have rts that are senior to the existing preferred
-	no class vote is given to existing preferred stock 
-	class vote is narrowly construed in Del, stock only gets rt to vote only if there is some alteration of the stock contract that is relevant to that stock (242(b))

HYPO: if preferred stock has conversion rts, and amendment wants to eliminate conversion rts 242(b)(2) 
-	holders of preferred stock has rts to class vote 

HYPO:
				    Yes		    No
Preferred			400,000		100,000
Common			400,000		600,000
					800,000		700,000

-	assess whether total votes passed the amendment as well as if individual classes passed the amendment
-	if preferred has class vote does common have class vote? 
-	in Del the common stock does not have class vote
-	(567 A.2d 419)  voting rts only covered amendments to cert of inc and not mergers like Rothschild case (voting rts could cover mergers if it this rt was explicit) and Del Ind Legal Significance Doctrine applies
-	NY §801, 804(a)(3)  would give class vote in this case

C.	Trustees of Dartmouth College v. Woodward  contract clause
-	Dartmouth was chartered by crown and New Hampshire was successor and tried to change the charter 
-	S.Ct. decided that corp charter issued by state was a K between entity and the state = implicates contract clause  Art I, sec 10 of const provides that state cannot alter the obligation of a K = New Hampshire could not unilaterally alter charter for Dartmouth since charter was a K and the K was protected by contract clause 
-	Justice Story said state could reserve to itself when issuing a corp charter a power to revoke and amend which is commonly called “reserved power” NY §110 or Del §394, 242(b) (b)(1) deals with business corp (b)(2) related to non-profit organizations

D.	McNulty v. WJ Sloane (Xerox)  amendment to eliminate undeclared dividends
Facts: corp wanted to amend cert of inc to reclassify shares in a way that eliminates cumulative preferred dividends and effectively eliminates all accumulated but undeclared dividends, P claimed that amendment infringed the contract clause and that even if the amendment was constitutional, the elimination of the dividends was a taking under the 14th amendment

Holding: the amendment is valid, the amendment applies to all stockholders regardless of when they acquired their shares regardless of whether they were accrued before or after the amendment
-	reserved power  this says that you can amend the charter but you cannot deprive the corp or 3rd parties of their property (this applies to K between corp and the state and corp and stockholders)
-	until dividends are declared they were not owed and are not debt owed or vested, so an amendment to get rid of dividends that have not been declared cannot constitute a taking

NOTE: 
-	cts has no problem eliminating rt to dividends but hesitate to eliminate rt at liquidation or preferences
-	ct said party could ask for appraisal and get out of the deal, in NY the appraisal statute covers a number of charter amendments but in many states, particularly Del, rt to appraisal is very narrow or not given
-	Slain agrees w/ decision in this case but disagrees with rationale, he thinks that the rt to the dividends should also be property because it is owed to you even if it has not been declared and technically not vested 
1.	Reasons for Actions taken by Corp in this case
-	this case was decided in 1946, roughly after the break of the great depression and world war II 
-	this company had been the preeminent high-end furniture dealer and had a couple of classes of preferred stock issued in the 1920s, but after 1930 the high-end furniture business made no $ and was not paying dividends on the preferred stock and was not putting any $ back in the business, so the business needed capital 
-	it would make sense for company to sell common stock and if company had to pay dividends to preferred stock first before any money could be spent elsewhere, no one would want to invest in this company, here you had to alter the situation by amending cert of inc.
-	if this debt was to creditors, bankruptcy reorganization could be used to reorganize in a way that would let the business go forward

E.	Bowman v. Armour & Co (Xerox)  preferred changed into creditors
Facts: armor company wanted to recapitalize themselves and P objected to the way the company wanted to do this
-	prior preferred  $100 par value, coupon - 6%, voting rts (these were mandatory under Illinois law), and redeemable at $115/share plus accumulated dividends BUT company wanted to alter redemption provision of prior preferred so that you can redeem it for a 30 yr income debenture at 5% $120/share
-	income debenture - interest is paid only if the company has earnings but if company does not have earnings interest will be cumulative and subordinated
-	how is this debenture different from rts of preferred shareholders  in both cases the income is the same, at payout you would get $5 more, you can add voting rts, and creditors get paid first regardless 
-	motivation for corp to try to get this amendment is that you can cut tax payments because interest payments are deductible but dividends are not deductible when computing corp income

Holding: amendment is invalid
-	amendments can change the rts of the preferred but this amendment went too far  it creates compulsory redemption of the preferred stock in returned for earnings bonds = allowed corp to purchase the preferred stock without consent of the owners of those stocks and ultimately make those shareholders creditors of the corp rather than shareholders
-	you can change rts of the shareholder but you can’t change shareholder in equity into a creditor

NOTE: voting rts are not that significant here because in most cases the votes of preferred stock are not pivotal or they can be added to the persons holding debenture if it was really wanted

XX.	Mergers and Consolidation
A.	Statutes    NY § 901-904, 906, 909, 911  and  Del §251(a)-(e), 259(a), 261, 271, 272
B.	General (1130)
-	see §NY 902 and 903
-	the merger can be abandoned up until the effective date if certain things happen (i.e. material litigation against the corp, substantial loss due to catastrophe, or merger would be a bad idea because too many stockholders would seek appraisal and receive payment rather than merge)
-	you can merge corps through statutory merger, buying shareholders stock, and by acquiring all assets
-	all of these modes of merger are tax free, and each one implicates fed law, accounting issues called pulling or pushing, or implicate state law

1)	cash-for-assets  A purchases substantially all assets of B for cash or the equivalent, this includes getting employees and essentially the business of the company
2)	cash-for-stock  A purchases at least a majority of the stock of B for cash or the equivalent, if you get most of the stocks B corp is a subsidiary, if you get all stocks of B you have wholly owned subsidiary
3)	stock-for-assets  A issues shares of its own stocks in exchange for substantially all of B’s assets
-	this often involves assuming B’s liabilities but A can in some cases get away with assuming only some of B’s liabilities
-	usually B will dissolve and distribute its stock in A to B’s shareholders and frequently some or all of B’s officers and directors will join A’s management
4)	stock-for-stock  A issues shares of its stock to B in exchange for enough of B’s stock (common stock for common stock and preferred stock for preferred stock) to constitute control of B so that B will become a subsidiary and B’s assets will be controlled by A
-	frequently B is liquidated or merged into A 
-	in stock-for-stock exchange each shareholder of the acquired corp makes an individual decision whether or not to sell his stock and the acquired corp takes no action itself but generally management of both corps are involved and may agree to keep members of B’s management still in charge of B even when B is a subsidiary

C.	Some Motives for Acquisition
1)	reduce number of competitors
2)	economies of scale
3)	company to be acquired is more valuable at liquidation
4)	synergy of complementary resources
5)	desire for growth (can happen quicker this way rather than growing internally)
6)	can be easier to expand into new product or market using corp that has already done so
7)	an offer you can’t refuse
8)	owner-managers might be ready to retire with no potential successors
9)	small firm can reduce risk by trading their stock for stock in a larger/more diversified company
10)	owners of closely held firms may want to exchange for stock in publicly held company that is easier to sell if needed to pay off liabilities

D.	Difference between a merger and consolidation:
-	legally they function the same way
-	merger  A corp and B corp are pulled together and one is designated as the surviving corp and the other one folds into the surviving corp
-	consolidation  a new corp called C is created and A and B fold into C (this is not used that much)

E.	Statutory Merger (1148) NY §906a and Del §259
Steps to accomplish this:
1)	negotiations 
2)	preliminary agreement is signed by parties (usually embodied in letter of intent)
3)	approval by board and shareholders of each corp
4)	articles of merger are filed with secretary of state (merger occurs as soon as you file w/ secretary of the state)
5)	securities of the surviving corp are exchanged for those of the disappearing corp
6)	surviving corp gets all rts, privileges, franchises, and assets of the disappearing corp, and assumes all liabilities you know about as well as those you don’t know about and could not have known about 

NOTE: statutory consolidation is the same except that the 2 corps form a new corp

1.	Tender Offers as an Alternative to Statutory Mergers
-	in 1980s tender offer, which were completed faster, became a common alternative to statutory merger
-	if we want to acquire your Corp because we think it is a great company that is run well and its stock is a bargain  if you do statutory merger you have to issue share of our own stock for shares of theirs (problem with this is that our stock is also cheap and does not reflect the value of our assets so we would rather get the money to buy your stock)

2.	NY and Del statutes
-	in both NY and Del  if you wish to merge your company with another company and you make a proposal under rule 14a8 of proxy rule which permits you to make proposals on proxy statements to this effect, are you able to do this?  no because this is not a subject of the proxy, shareholders cannot initiate a merger proposal in NY or Del or in most other states
-	all shareholders in NY and Del whether or not they are entitled to vote (NY 901a/Del 251c)  
-	in Del the only people who are entitled to vote re a potential merger are holders of common stock who can vote or any other stock which has voting power on that issue based on cert of inc. = in Del it depends on corp’s internal arrangements as represented in cert of inc 
-	in NY there is a majority rule and provides for possibility of a class vote and it provides for possibility that nonvoting stock may get to vote if that same class of stock would have had a vote with respect to that change and there may be a class vote 

F.	Merger by selling assets  statutes, exchanges, and IRS codes
-	this transaction has to be initiated by brd of directors (NY 909 and Del 271)
-	in Del you need the majority of person who are contractually entitled to vote
-	in NY you need majority vote (this applies to pre-1998 corps as well) of person who are contractually entitled to vote, no class votes are provided
-	the acquiring corp  does it need to have shareholder’s meeting? 
-	directors generally decide how the company spends its cash without shareholder input
-	if you don’t have enough stock to do merger, you need to amend cert of inc to get enough shares and to amend cert of inc you need shareholder vote = you need shareholder vote for merger
-	if they have enough votes to have merger, but need to issue stock that has already been authorized  the brd of directors can issue these stocks w/o shareholder vote under state law but NY stock exchange and other exchanges have their own rules which say 
-	if this corp has stock listed in NY stock exchange and if you are issuing shares that will be listed on NY stock exchange, the exchange has to approve these new shares and if you don’t get approval the exchange will remove shares from the exchange (called de-listing), the exchange has policies about listings and one deals with acquisitions where there is no state law requirement for shareholder vote, this requirement says that in order to get new shares listed on exchange and if the shares has the potential of increasing the outstanding shares by more than 20% then there has to be shareholder vote 

Irs Codes 
-	368(a)(1)  defines 6 classes of transactions that qualify as corp reorganization, 3 are acquisitions and the others are different &  depend on a # of variables statutory merger (A type), acquisition of controlling stock of another (B type), and acquisition of all or substantially all assets of another (C type) can be tax-free)
-	Irs Code 361(a)(1)(c)  these are tax free transactions provided that the only consideration consists of assumption of liability and assumption of shares of surviving corp and selling corp immediately liquidates and distributes remaining assets to shareholders
-	368(a)(1)(a)  refers to statutory merger
-	368(a)(1)(c)  refers to assumption of liability plus shares of stock of surviving corp 
-	B type transactions are “practical mergers” because the result is same as statutory merger
-	there are legal difference (See cases below)
-	why would you choose one over another  avoid shareholder meeting and triggering of appraisal rts, statutory merger is very simple thing to do but when you acquire assets of another corp this process is much more complicated (i.e. particularly where the assets include land) but in either case you had to examine the company you want to acquire
-	in statutory merger, liabilities you don’t know about and could not have known about are still yours (normally you would do thorough professional audits to avoid fraud or hidden liabilities) so normally you buy assets and assume liabilities that are on the books/recorded instead of doing statutory merger
-	A and C type transactions are treated very differently under state law

G.	
Pooling and Purchase Problems
-	pooling = add assets and liabilities of A corp to B corp
-	purchase = take account of assets of Little w/ respect to cost to Big (you have to assume things are sold at market value)
-	goodwill in accounting = premium paid for package of assets of aggregate fair market value
-	negative goodwill = credit that turns into income (this never happens)
-	appreciation is a business expense and it is not an asset
-	? = fixed assets will be higher and the intangible assets (i.e. goodwill) has to be amortized by charging against income (this results in the new expense) 
-	taxable transaction – when you are selling something you would prefer tax free transaction, but if I am buying and this is tax-free my appreciation is limited by your cost but if it is taxable then my costs are appreciated higher than yours
-	NOTE: the books on which you pay taxes and books on which you report income are unrelated to each other 
-	depreciable assets = any assets other than land, trademarks, and any other assets that do not expire
-	when you have depreciation an asset turns into an expense over time

Pooling and Purchase  
-	statutory merger includes issues re securities laws, accounting, and tax issues 
-	some acquisition transactions are taxable and some are tax free (seller generally prefers tax free and buyer wants taxable transactions) but if you have a taxable transaction you would have to account for this as a purchase for accounting purposes and if you have a tax free transaction you might not have to account for this as a purchase 
-	pooling allows you to quantify the assets acquired based on books of selling company but if you account for it as a purchase you pay a premium on the assets and the depreciation will be a very large charge against income and therefore in the process of buying the company you hurt the earnings 

Tax Considerations
-	from the pt of view of big companies is the worst possible thing is the tax-free purchase (it is very easy to get a purchase that is tax-free)
-	if a purchase is tax-free then they are taking over assets of little and for tax purposes the taxes will be the same as they were for little, but if they had to account for the transaction as purchase their appreciation and goodwill amortization will reduce the net income which means the taxable income will be higher than financial statement income
-	tax-free assets quantification goes up, the amortization of goodwill is deductible
-	if you are a big company you would want a taxable transaction but the shareholders of selling company would not be happy about this because they would prefer a tax-free transaction (buying company would prefer taxable transaction and selling company would prefer tax-free transaction)
-	transactions can be tax-free w/o constituting a pooling
-	note: selling your own stock is tax free to you
H.	
Farris v. Glen Alden Corp (1157)
Facts:  List and Glen Alden created reorganization K to merge companies which says Glen acquires List, all stocks of List will be liquidated and distributed to shareholders (note the previously outstanding shares in Glen Alden are over 1 million but 3 million are being issued to List which means that the people who will control Glen Alden are the former shareholders of List)  essentially reorganization K would give control of Glen Alden to List, reduce value of holders of Glen Alden stocks, and force Glen Alden stockholders to be a part of an entirely different corp with much more longer term debt and a different business
-	List is incorporated in Del and in Del §271: there has to be a shareholder meeting at List to approve this transaction because they are selling all their assets and this requires shareholder approval
-	List is also a public company and it too needed to have a proxy solicitation and shareholder meeting
-	Glen Alden is issuing additional shares of stock and selling shares of stock  the cert of inc authorizes 2,500,000 shares of common stock of which a little over a 1million are outstanding but the deal involves distributing over 3 million to List which means there isn’t enough authorized stock to sell to List which means the cert of inc has to be amended (Glen Alden called a meeting for this purpose and the company did provide info about the deal to shareholders) [ proxy rules apply to Glen Alden because it is a publicly held company that is listed and prior to 1964 proxy rules only applied to listed companies ]
-	typically when both corps need to distribute proxy statement, one statement is created to be used for shareholders of both companies, so annual meeting was called with proxy statement asking that the reorganization K be approved
-	P claimed that the notice for meeting did not properly inform shareholders that purpose of the meeting was to approve a merger, did not give notice of rt to dissent to the consolidation, and would result in deprivation of property rts if merger went through in this manner
-	D said K is not a merger and just involves purchase of corp assets and shareholders had no rt to dissent or get appraisal and so there was not reason to provide notice 
-	PA statute says there are no appraisal rts when you purchase assets and Del statute says you have no appraisal rts when you are selling assets

Holding: this is a merger which must follow statutes  that apply to statutory mergers

To determine if there is a merger
1)	look at provisions of the agreement
-	here the provisions of the statutory merger statute were not followed but were executed in a contract

2)	consequences of the transaction
-	after the agreement goes through P’s shares would be decreased in value by $17 with respect to book value which has to be determined based on generally accepted accounting principals =  book value = shareholders equity divided by number of shares (the market value actually went up)
-	also consider that Glen Alden is coal mining company that is not making $ 
-	why are List and Glen Alden combining then? 
1)	the high assets of Glen Alden can be used as collateral for loans 
2)	Glen Alden has a tremendous amount of tax losses (net operating loss carryovers these have a value because they can be used against List’s future income with respect to corp tax rates so that List can save a lot on taxes, IRS §172 created business exception of net operating loss carryover so that if you have net loss you can carry it over as an additional deduction for a certain number of years and so that this loss can be used as a deduction in later years and it offsets the income you earn in the later years  to use this tax benefit Glen Alden has to buy List, it can’t be used if Glen Alden sells its assets 

3)	purposes of the provisions of the corp law that are applicable to the transaction
-	the shareholders of Glen Alden have rt to dissent to this transaction and should have been notified of such (failure to notify means approval of the agreement at the annual meeting is nullified)

-	where a transaction between 2 corps results in  
a)	one corp dissolves so that there is only one corp after the transaction
b)	liabilities are assumed by the survivor
c)	executives and directors take over the management and control of the survivor 
d)	stockholders acquire a majority of the shares of the stock of the survivor 
THEN the transaction is a merger and not simply a purchase of assets or acquisition of property  court finds a de facto merger and the statutes apply that control statutory merger applies 

NOTE: reasons for why the 2 corps designed the K this way:
1)	avoid activation of appraisal rts under PA law sellers had appraisal rts but purchasers did not
2)	desire to keep Glen Alden’s tax loss carryover
3)	PA  had 1% realty tax on the transfer of the holdings which would make purchase of Glen Alden too expensive

NOTE: in 1999 the rules have changed, PA code was amended so that appraisal rts are given upon selling of assets (see footnote on p. 1163)

NOTE: with respect to List  internal affairs doctrine might be implicated

I.	Hariton v. Arco Electronics (1154)
Facts: Arco and Loral engage in different forms of electronic equipment business
-	§ 271 covers sale of assets in exchange for stocks in the purchasing corp, this also embodies a plan to dissolve the selling corp and distribute the shares to the shareholders of the sellers  this results in the same result as if there was a merger
-	stockholders held a vote and approved reorganization plan to combine these companies
-	P claimed this was de facto merger and was illegal because shareholders should get appraisal rts but in this case these rts were not given and the deal was structured for the purpose of not allowing appraisal rts (exchange of assets does not trigger appraisal rts)

Holding: no de facto merger doctrine
-	the sale of assets in this case has the same practical effect as a merger but Del Legal Significance Doctrine applies  there are 2 ways to do this deal: statutory merger or selling assets and the companies have a choice of which way they want to do this, here they chose sale of assets and the fact that the shareholders lose rts does not matter

NOTE: it is unclear what NY thinks on this issue

XXI.	Short Form Merger and Small Mergers (1149-1150)   NY §905  and   Del §251(f), 253

Short Form merger  mechanism used by parent company to merge with subsidiaries w/o shareholder approval of either corp (every state allows this)
-	reasoning is that if parent owns a lot of stock in the subsidiary and clearly treats the subsidiary as an extension of itself, there is no change in parent’s affairs because subsidiary is folded into the parent
-	this allows cash-out of minority interest because the minority shareholders are given cash and not stocks
-	NY 905 and Del  253 are typical because they make ownership of 90% of the stock of the subsidiary by the parent as the cut-off at which you can do a short form merger and allows board of director of parent company to decide this on their own and carry it out on their own
-	NY 905(b) says if the surviving corp is the parent the copy of the plan should be given to shareholders of subsidiary not owned by the parent  Slain believes this is notice of the impending transaction before merger happens, Slain does not know what the purpose is since he can’t think of anything a subsidiary could do even if it had notice (Del does not have this provision, Del does not require any notice except after it has happened)
-	the only circumstance under which you would need shareholder vote is if the parent merges into the subsidiary and the subsidiary is the surviving corp

Small Merger  Del §251(f) (NY does not have this)
-	251(f) says that if this statutory merger will not increase stock of acquiring company by more than 20% and if it does not alter the cert of inc of the acquiring company and if it does not alter in any way the presently outstanding shares of the acquiring company (i.e. you don’t issue more stocks) then the transaction can be affected by board of directors of acquiring company without a shareholder vote
-	this is departure from rule that merger requires shareholder approval
-	Slain thinks intention here is to conform to NY stock exchange and NASDAQ’s shareholder approval policy which says that if the company has stock listed on the exchange and is about to issue new stock for an acquisition and if the increase in the stock exceeds 20% of the presently outstanding stock then as a condition of the exchange’s willingness to list those shares, the exchange requires shareholder meeting to approve the transaction regardless of whether or not state law requires it (BUT the approval policy does not say you have to do what the vote decides, probably a lawsuit would occur if you did not conform to the vote)

NOTE: the goal is to make these transactions happen quickly

XXII.	Appraisal Rts
A.	Statutes    NY § 623, 806(b)(6), 910   and   Del § 262(a), (b), (c), (d), (e), (h), (j), (k)
B.	General
-	appraisal involves determining value of stock through judicial proceeding so that you can cash out 
-	in the 19th century when you bought into a corp you were buying into a fixed situation where there was cert of inc and the business was doing a specific business and mergers did not happen often, and all changes required shareholder approval but over time there was realization that you need more flexibility so a trade-off was built in so that where if you dissent from the majority you can have option to get out of the deal
-	historically you dissented individually rather than as a class
-	in 50s and 60s demand for appraisal rts was used as bargaining ploy so you can get more $ to “go away”
-	logically you would think this rt should be triggered by any drastic change, but this is not true

1.	Difference Between States
-	every state provides appraisal rts for statutory mergers
-	15 states provide for appraisal where there is sale of assets
-	5-6 states provide appraisal rts on significant charter amendments (includes NY)
-	states have taken away rts of appraisal where securities are publicly traded under the belief that you can get rid of your stocks in the public market by selling them   
-	Slain has 2 problems with this: 1) semi-strong form of efficient market hypothesis is not that reliable 2) the idea of appraisal is to let you get out of a deal and announce such before the shareholder vote and what you are entitled to is the value of the stock without the effect of the proposed deal, but if there are no appraisal rts because there is public market for selling stock in reality you won’t be able to sell stock without having the stock be effected by the deal because by the time you know about the deal everyone else knows about the deal and the stock price has already been effected (Slain doesn’t understand why this doesn’t bother lots of people)
2.	Del Reforms
-	permits class action suits for all people wanting appraisal
-	loser pays all costs of litigation  Slain thinks this is good because it inspires realistic offers to pay on shares and deters people from bringing unnecessary lawsuits
-	Del 262(j)  usually there is big difference between what P and what D thinks shares are worth but ct has broad discretion to decide 
C.	Exclusivity of Appraisal as a Remedy (1184)
-	the issue here is whether there are other remedies you can get other than appraisal
-	Del law on this issue is not completely clear or coherent
-	NY 623  deals with appraisal but its exclusivity provision is meaningless/powerless
-	623k: NY has appraisal as exclusive remedy except that shareholders can bring claim that the transaction was unlawful or fraudulent 
-	429 ne2d 128 (NY 1983)  says 623 K is exclusive if P is not asking for equitable relief
-	Slain thinks NY statute provides that appraisal is exclusive except when it isn’t  very unclear
-	under CA statute appraisal is exclusive except where you are challenging vote count 
-	if a statute has no explicit language  you can sue for the following additional grounds:
1)	the transaction is illegal under corp law and is not authorized by the statute
2)	procedural steps that were required to authorize the transaction were not properly taken
3)	shareholder approval was not properly obtained 
-	 some cases say that where there is no explicit statutory language you can only get relief because there was something illegal or there was fraudulent misrepresentation and usually you can get injunctive 

1.	Bove v. Community Hotel Corp (Xerox)
Facts:  Community Hotel (Rhode Island corp) was incorporated to operate and lease hotels
-	Newport Hotel (Rhode Island corp) was created with capital stock of 80,000 shares (par value $1) of which 1 share was issued to Community Hotel (Newport only has assets of $10)
-	P was holders and owners of preferred stock and acquired holdings of approximately 900 shares
-	4335 shares of cumulative preferred outstanding (6% PV of $100)
-	2106 shares of common outstanding 
-	$640,000 in dividends is outstanding on preferred stocks had accrued but had not been declared
-	merger plan  Newport will acquire ownership of all the property and assets of Community and calls for the conversion of Community Hotel stock into shares of Newport
-	after the plan (4335  x  5)  +   (2106  x   1)  = 23,781 Newport shares 
-	preferred shareholders get class vote
-	P claims this is a de facto charter amendment accomplished through a merger because purpose of merger is to amend cert of inc and get rid of the preferred stock without actually doing a charter amendment which would be harder to get since it would need a unanimous vote

Holding: this merger is valid
1)	the fact that the statute was passed after stock was created does not matter because you buy into a corp subject to reserved power of legislature to adopt general laws changing the deal you got into (this is based on Trustees of Dartmouth and Justice Story’s opinion)
2)	ct says statute allows a merger to be designed for the sole purpose of canceling rts of preferred stockholders in order to avoid the need to get a unanimous vote  
-	reasoning  legislature did not intend to make underlying purpose a standard for determining permissibility, the validity of corp action taken pursuant to one statute does not have to be valid under another statute, there is nothing that forbids the use of a way to merge in order to avoid needing a unanimous vote (applies Del Independent Legal Significance Doctrine)
3)	ca corp can use a statutory merger to cancel rts of a holder of cumulative preferred stock to dividends and other preference  
-	the preference are not vested and are therefore NOT debt that is owed (also here Slain believes no matter what the preferred dividends would never have been paid)
-	ct accepts the theory that stockholders had notice that their rts in preference could be extinguished due to corp action, also P can get appraisal rts
4)	if there is option for appraisal then cts generally should not do equity considerations (unless there are outragious inequitable actions going on) (here, ct does not think that there was anything unfair about this merger)
5)	when there is recapitalization through a charter amendment the only remedy you have are remedies in equity but with a statutory merger you look to the statute for remedies stated there

2.	Why is P suing in Bove
-	after the merger holders of preferred would have 91.5% of the stock of the company while common stockholders would have 8.5%
-	so Slain thinks the common stock is in a really bad position, the company would have to make 403,000 just to get to zero.  before the deal the common stock has no equity at all. 
-	this merger is unfair according to P because the common stock who had no equity would get 8.5% of the deal while the preferred holders who had 100% of the equity before the deal, are losing 8.5%
-	but the numbers are based on certain assumptions  here nobody is proposing to liquidate, there is no particular reason to believe that if you were to liquidate that what you would recover would be what you should expect from an accounting standpoint (you might get a lot more or less)
-	money invested by common stock originally is gone but common stock still have a class vote and you can’t do the deal without their approval, so the 8.5% functions as what the company is paying for the common stocks’ vote to approve this deal

3.	Reasons for What the Hotel is Doing in Bove
NOTE: Newport does not have an economic base and when nice hotel was built, the hotel did no business, to refurbish the hotel you need a lot of investors to get money to do this

Hotel’s financial situation:
book net worth 			675,000
liquidated preference 		1,078,000 = (par value of 4335 +  645,000)
					- 403,000
-	this would be a bad investment and nobody would buy common stock because of the preferred priority  this means that company has to pay preferred dividends first which means they want to get rid of the preferred

XXIII.	Valuation of Appraisal Rights
A.	Delaware Block Approach
-	appraisal involves making a guess at future value so Slain says there is no empirical evidence that the Del Block approach gives you worse results than any other method because value lies in the future which means that you know value to the extent you know the future = you don’t (there is no way to determine this exactly) 
-	Del Block approach looks at things that have already happened in order to guess future value
-	discounted cash flow method of determination considers things you hope will happen

Alternative ways to calculate 
-	the things considered in reality should be  
1)	projected future earnings
2)	net asset values = assets minus liabilities 

 	Problem with assessing assets  
-	book value may or may not be the rt thing to measure but it is the accounting quantifications minus liabilities and is therefore easy to assess
-	you could look at liquidation value (but you have to consider the circumstances under which you are selling  you might or might not get more money when you sell assets one at a time in a non-liquidation context than if you sell assets in a package in a situation like liquidation, consider if you have 3 used trucks and you sell the trucks separately as together as a business, you would get more money for a trucking business)
-	what was paid for assets in the past does not matter as much as costs to replace the assets 
-	capitalized earnings value (this value is always different than the value you would get if you valued assets separately)
B.	
Piemonte v. New Boston Garden Corp (476)
Facts: issue is how to value stock for appraisal
-	Garden Arena owns Boston Garden, stock of the Bruins franchise, the Boston Braves, and rt to run concessions at Boston Gardens, Garden Arena wants to merge into the New Boston Garden Corp
-	Garden Arena is a reporting company and its stocks are listed on the Boston Stock exchange but from a functional standpoint 90% of the stock is owned by one family and so the company resembles a closely held company, so the merger here is called a freezeout merger = where controlling stockholders want to get rid of the tiny public stockholders and one way to accomplish this is to merge into another company and the merger agreement provides that the outside holders will not be given stocks in the new company and so will be paid cash = cash-out the minority outside holders
-	Lower Cts appraisal

Delaware Block Method

	Value	Weight	Result	
market value	$26.50	10%	$2.65	
earnings value	$52.60	40%	$21.04	
net asset value	$103.16	50%	$51.58	

Total Value Per Share	
$75.27

Holding: judge’s determination is valid except for 3 things that have to be remanded for consideration
-	Delaware Block Approach  involves determining market value, earnings value, and net asset value of the stock and then assigning a percentage weight to each element of value (judge did not have to use this method)

market value  $26.50 (= price during last sale before merger was announced, but in the year prior to merger market value ranged from 20.50 to 29.00) [up to judge’s discretion how to determine this] 
-	Different considerations that judge can use 
-	shares that are traded regularly on a stock exchange are particularly susceptible to being valued based on market value, but this value is not conclusive (P argued that closed corp’s stock’s market value should not be considered at all since stocks are traded so infrequently)
-	reconstructed market value  you take a corp that does not trade publicly, you look at publicly traded companies and hypothetically change the nature of this company to look like a publicly traded company to determine what the potential market value would be
-	consider efficient market hypothesis  does not work here because nobody is really following this stock and nobody is expending any effort to make the market for this stock efficient
-	do you consider if the stock is controlling stock  in an appraisal generally whether stock is controlling is not at issue because the transaction generally would not have happened in the first place if the stock really was controlling 
-	what are you valuing  value of the business and the percentage of the business represented by the shares being considered or are you considering the value of the shares being considered (these would result in different results and it is not clear which is used but it tilts in the direction of valuing the stock rather than the business, this is not consistent)

per share value based on earnings
-	capitalizing earnings = determining capital value of whatever it is that generates the earnings (entails assessing the business)
-	Del approach requires consideration of 
1)	average earnings for past 5 yrs
2)	exclude extraordinary gains or losses
3)	select multiplier = a number that reflects prospective financial condition of the corp and the risk factor inherent in the corp and industry (up to discretion of judge but you can look at other corps)
-	here judge considered various negative and positive factors (i.e. popularity of team, contracts, bargaining positions of players, high attendance at games, etc) and did not rely on price-earnings ratios of other corps  but ultimately the number seems to have been randomly chosen
-	Price-earnings ratio (PE ratio) = capitalization rate 
-	if multiplier is 10  this means the business has to make 10% on my money to induce me to buy
-	if PE is 33  1/33 = people are willing to buy this stock if there is 3% return each year 
-	judge did not have to consider dividends because they tend to reflect the same factors as earnings and dividend policy is reflected in market value (some states might weigh dividends separately)

net asset value
-	judge considered:
-	book value of Garden Arena was 9,400,000 was chosen to be net asset value
-	judge added what he believed to be value of Bruins franchise 9,600,000
-	judge added concession operation 4,200,000
-	judge’s total asset value = 23,200,000 (103.16/share) (225,000 shares)
-	re Garden Arena property  the lease for Garden Arena was bad for the landlord because rent did not go up though inflation did, so when Garden Arena wanted to buy out the lease they were able to do so at a bargain  this means that book value has almost no relation to the value of the property ever though it was recently bought (this issue was remanded because it was not clear that judge considered this)

weighing values  determined based on the circumstances
-	weighed market value less because the stock was not heavily traded
-	 judge felt that because this was a sports franchise the value of the franchise was more dependent on assets than on earnings
-	the relative weighting of these factors is not discussed as extensively as is warranted (according to Slain this is most important thing to consider)

problems with judge’s assessments
-	did not consider value of Boston gardens properly
-	judge should not be constrained by any one expert’s opinion so there should be remand where he seemed to give deference to def’s expert’s value of Bruins franchise and P’s expert’s value with respect to concessions

C.	Excerpt, Solomon Schwartz et. al. (485)
D.	Background to Weinberger v. UOP
-	10 yrs before Weinberger there was a case in Del Singer v. Magnovox  freezeout merger (like Piemonte) where controlling shareholders caused corp to be reorganized and wanted minority holders cashed out, but there the shareholders did not seek appraisal and sued instead alleging breach of some duty to them, Del ct held that there was breach of duty if the corp cashed out minority holders unless the merger had a business purpose (i.e. ct required more of a purpose than getting rid of minority holders)
-	this generated body of law re what constitutes business purpose (but Slain thinks this is crazy because he can’t imagine what wouldn’t be a non-business purpose)
-	*today getting rid of minority holder is considered a business purpose

-	consider issues about who has burden of proof to prove what
E.	Weinberger v. UOP (1189) - Del
Facts: Signal wanted to acquire UOP, Signal elected 6 of 13 board of directors for UOP and replaced the president and CEO with Crawford who became president of Signal as well, Signal decided to acquire all of UOP and began negotiations to offer $21/share, Crawford asked Lehman Brothers for advise on whether $21 was fair price, Lehman did due diligence and assessed various financial documents and said $20 or 21 was fair 
-	market price for UOP stock was around $14
-	Slain says there are psychological issues to consider (i.e. you believe you have more bargaining leverage in a sense when you think you have bargaining range of $20-21 as opposed to just $21)

Holding:  the merger was not fair because there wasn’t full disclosure and the proxy statement gave the impression that a full study had been done, the circumstances here do not activate appraisal rts but the cts’ remedy will be equivalent to the result if P had received appraisal rts
-	if a plaintiff wants to challenge a cash-out merger he must allege specific acts of fraud, misrepresentation, or other misconduct to demonstrate the unfairness of the merger to the minority
-	you are no longer required to prove there was a business purpose
-	when the same directors are on both sides of a transaction  they are required to demonstrate their utmost good faith and fairness in bargaining(this is true in parent/subsidiary situation as well) 
-	problem is that some of the info was confidential and the interests on both sides are not identical 
-	in absence of an independent negotiating structure or total abstention from the situation, there is duty to do what is best for both companies
-	Entire Fairness Test = requires fair dealing and fair price (there is a duty of candor)
-	fair dealing  you have to consider timing of transaction, how it was initiated, structure of transaction, negotiations, disclosure, how approval was obtained
-	fair price  you have to consider all relevant economic and financial factors (i.e. assets, market value, earnings, future prospects, and anything else that affects the intrinsic or inherent value of a company’s stock) (clearly this factor is more important where fair dealing is not an issue) (you are not limited to using Del Block approach)
-	once P meets production burden on fairness issue, def has burden to show that the merger was fair but if majority of shareholders and majority of the minority shareholders approve the merge and there was complete disclosure of info prior to shareholder vote, the burden shifts back to P
-	Breaches of fiduciary duty in this case 
-	relevant info was withheld and amounts to breach of fiduciary duty because stockholders cannot make informed decisions without info (info about the $24 offer was not disclosed = Signal has not met standard of complete disclosure)
-	ct holds that UOP was entitled to some reasonable time to figure out what is best for them to do = breach of fiduciary duty to not give enough time (here Signal structure this transaction so that UOP has very little time to consider the deal)

-	tortious conduct – Slain says this has never been defined clearly and there are no elements to prove this tort  ct is really saying is that if the only thing you are asking for is the value of your stock then your remedy is appraisal but if you are asking for other damages besides value of stock (ct says appraisal is exclusive rt except where it isn’t) (Del law seems almost comparable to NY law in practice)

NOTE: UOP stock was publicly traded, Del §262(b)(1) provides for a mark up which means if you own stock that is traded on an exchange or admitted to NASDAQ or held by 2,000 people you don’t get appraisal BUT this only applies if P will end up with a marketable security after the end of a deal (it doesn’t apply to P’s case because they are going to end up with cash)

XXIV.	
Dissolution
A.	Statutes    NY § 1001, 1006-1007, 1103-1105   and   Del §275, 278, 282
B.	General
-	when you have a closed corp there should be a way to require a mandatory buyout of the minority interest and this option should be available on demand
-	consider that generally judicial orders for dissolution are usually not carried out because if it is advantageous to continue the business for any reason, then one or more of the shareholders or a 3rd party would normally purchase and continue the business

-	voluntary dissolution is a fundamental change and in Del typically requires a board resolution recommending this course of action to shareholder and vote of support from majority of outstanding shares 
-	both Del and NY provide that corp will have half-life after dissolution in order to clean up matters hanging over (Del is much more precise re this and NY is pretty vague)
-	NY §1001  shareholders could initiate dissolution w/o a board resolution and add it to management proxy solicitation (14a-8)
-	NY §1104a  expressly permits a group of shareholders to come to ct and seek judicial decree ordering dissolution (Del does not have comparable statute)
-	note that ct of equity have traditionally been able to order dissolution and provide remedy but there is issue of whether NY statute is consistent with this 
-	141 NE2d 45 (Ill 1957)  this case is Newport Community Hotel case, the business had been losing $ consistently since 1929, no dividends had been paid on preferred stock for 30 yrs and the holders of the preferred sued wanting dissolution on the grounds that the business plan had failed and wanted to sell the property, holders of the common stock did not want this because although company was losing money the company had enough cash to pay salaries to a family that owed a lot of the common stock so they did not want to lose their jobs, ct refused to dissolve the company because the company is not really dead because you never know what will happen  (normally business failure is grounds for getting dissolution)
-	zero coupon bond  debt obligation which does not pay current interest, you buy it at a discount and at maturity you get current amount its worth
-	console  special debt instrument used in Britain and has no maturity date which means there is no way to get the principle back, you can only get the interest
-	if you take the minority shareholder in a situation they are like people holding a zero coupon console  Slain thinks this is professional malpractice because you need a strategy to get out of these types of deals (i.e. force company to buy back the shares)

C.	In re Kemp & Beatley (529)  dissolution with respect to closed corp
Facts: majority shareholders changed policy of a closely held corp so that you could only get a de facto dividends in the form of bonuses in return for services rendered to the corp = in this case this policy change excluded minority shareholders from getting the bonuses 

Holding: the policy constitutes oppressive actions and is a basis for ordering dissolution = minority shareholders are given standing to demand dissolution where the controlling shareholders engage in certain egregious conduct (which includes mistreatment of minority shareholders and misappropriation of corporate assets) 
-	this is based on theory that majority shareholders have fiduciary duty to treat all shareholders fairly and equally, to protect corporate assets, and to fulfill their responsibilities in good faith
To determine if dissolution should be ordered  
1)	ct may assess reasonable expectations of the complaining shareholder as a way to identify and measuring whether the conduct at issue is oppressive (oppression only arises where the majority’s conduct substantially defeats the reasonable expectations of the minority which were central to the minority’s decision to join the venture in the first place)
2)	ct must also consider if there is another way to provide a remedy that is adequate but if the relationship between the parties has deteriorated completely and the remedy does not truly seem feasibly adequate then the ct may order dissolution
3)	ct also must see if the complaining party is bringing suit in good faith
-	Different policies to consider in closed corp 
1)	the shareholder in closed corp is a co-owner and wants privileges and power attached with co-ownership
2)	the closed corp is main or sole source of income or is the means to get employment
3)	you normally draw very little dividends but you do look to get a salary (the earnings of closed corps are generally distributed as salaries, bonuses, and retirement benefits

XXV.	Triangular Mergers and Share Exchange (1174)

Triangular Mergers & reverse triangular mergers  
-	give the advantages of a statutory merger but without some of the disadvantages
-	triangular mergers may allow shareholder voting and appraisal rights to be subverted because S will claim that S, and not S’s shareholders, is the sole stockholder of S/Sub  however you can argue against this by saying  that you shouldn’t be allowed to subvert the merger statutes
-	Conventional Triangular Merger  
-	S and T want to do a merger where S is the surviving corp and T’s shareholders get 100,000 shares of S (in a normal merger S would issue 100,000 shares to T’s shareholders)
-	here S would create a subsidiary S/Sub and then transfer 100,000 shares of its stock to S/Sub in exchange for all of S/Sub’s stocks
-	S/Sub and T now engage in a statutory merger where S/Sub issues the 100,000 S shares to T = T merges into S/Sub
-	in this way S can avoid direct responsibility for T’s liabilities
-	under IRS code  S/Sub qualifies now as a tax-free A type reorganization if substantially all of T’s properties are acquired by S/Sub and the merger would have qualified as an A reorganization if T had merged directly into S and no stock of S/Sub was used in the transaction
-	reverse triangular merger  
-	same as above except that S/Sub is merged into T and T becomes wholly owned subsidiary of S
-	this preserves any valuable rights T has with respect to contracts, leases, licenses, and franchises
-	under IRS code T would be a tax-free type A reorganization if T ends up w/ substantially all of the properties of both S/Sub and T, S’s voting stock is exchanged for at least 80% of T’s voting and nonvoting stock

Share Exchanges 
-	similar to stock-for-stock combination because the surviving corp issues stock in exchange for stock of the acquired corp
-	here the shareholders of the acquired corp vote on whether to engage in this exchange, if a majority approves the exchange all of the shares must be surrendered including those of nonconsenting shareholders(unless they exercise appraisal rights) [in stock-for-stock exchange each shareholder of the acquired corp makes an individual decision whether or not to sell his stock and the acquired corp takes no action itself]
-	only a few statutes authorize this method of merger for ordinary business corps

XXVI.	
Continuous Disclosure System
A.	Applicable to Issuer
1934 Act §12(a), (b), (g)(1)
Rule 12g-1, 12h

B.	Reports by Issuers
1934 Act §13(a), 15(d)
Form 8K, 10, 10K, 10Q

C.	Proxy Regulations
1934 Act §14(a), (c)
Rule 14a-2, 14a-3(a), 14a-6

D.	Antifraud Provisions
1933 Act §17
1934 Act §9, 10(b), 14(e), 18
Rules 10b-5, 14a-9, 14e-3

E.	Enforcement – Express Action
1933 Act §11, 12, 20(b), 24
1934 Act §9, 16(b), 18, 21(d), 32

XXVII.	
Implied Actions
A.	General
-	when passing fed SEC laws congress did not have in mind a lot of cases by way of private action
-	SEC has very broad authority to litigate with anybody who has or is about to violate the SEC laws 

§17 (1933 act)  if you do unlawful conduct without using the means described, it is not actionable under this  the law is very broad and does not say there is private rt of action
-	there is assumption that SEC will use enforcement power under §20 to bring action against you or you can be criminally prosecuted under §24 if your conduct is egregious

§24 1933 act  make willful violation actionable

§9 (1934 act)   prohibits manipulation of shares traded on exchanges

§9e (1934 act)  provides private rt of action for violation of §9 

§18 (1934 act) – provides private rt of action for false filing  there are no cases on these sections because only an extreme set of facts would fit because the provisions are so narrow

§32 1934  make willful violation actionable

§10 (uses same jurisdictional requirement as 17a) – 
-	short sale  I sell a security which I borrowed from my broker who got it from his customer’s security market accounts or borrowed it from institutional investor which charge him rent for borrowing it and I would charge broker interest, my interest is that I will sell the stock now hoping that the stock will go down and I can buy it back cheaper and make the profit = to the difference 

§10b – this covers all securities that exist (this statute is merely a grant of authority, it does not forbid anything in itself it just gives permission to forbid certain acts)

10b-5  this statute is actually 17a of the 1933 act but now it applies to purchase or sale 
-	history of this provision - during war industrial plan prices were not regulated, people approached president of industrial plan and made a huge offer for the company and president owned about 20% of the stock and took financial statements to other shareholders and showed them the situation which showed 15 years of losses and president bought out other shareholders and then sold the business to outsider for 10 times what the shareholders got from him 
-	the other shareholders had no state law claims but approached SEC but SEC said there was no violation of specific statute, they considered 17a but president did not violate this because president wasn’t selling, instead he was buying which is not covered  by 17a
-	in response SEC created this rule on the spot (there were no civil procedure rules re notice about creation of rules)  it never occurred to anybody that they were creating the rt to private action 
-	it is pretty normal to not have private rt of action under most statutes

1.	HISTORY of private rt of action: 

-	Kardon (E.D.P.A.)  minority shareholders sued in district ct and the ct held that the conduct at issue violated 10b-5 and was a tort, and then the ct said §27 created a fed rt of action even though this section was not intended to give this rt, the case was settled instead of appealed so the precedent simply existed
-	14a-9  did not generate any private litigation because until 1950s proxy rules said there was no private rt of action but the note was removed SO  the 1st surge of cases asserting private rt of action under 10b-5 came under proxy rules 
-	if you think person violated proxy rules you could sue or you could try to get proxy revoked in ct (this remedy is very limited because you can only sue prior to the meeting and once meeting was held you couldn't do anything)
-	Borak  decided in 1969, shareholders were unhappy about merger and sued to enjoin use of proxy, but shareholders did not seek temporary injunction because to get this you have to post bond for all potential costs or losses and you are stuck with all damages that def can show, but shareholder continued suit and ct said private enforcement is a necessary compliment to SEC enforcement and therefore there is private rt of action (ct had no authority to do this but ct cited Texas and Pacific Railroad and Rigby as saying cts can infer a private rt of action  Slain says this case is not used properly because this case involved railroads and Fed Employer’s Liability Act provides that railroad workers can maintain common law action for their injuries and gives express rt of private action)
-	in a later case a passenger tried to get private rt of action but S.Ct. said there was no private rt
-	NOTE: private rt of action under proxy rules is OK because there is no state law and created no conflict between state and federal law BUT there are state laws comparable to 10b-5 
-	Mills v. Electric Auto-Lite  prior to this case there were very few 10b-5 cases, but after this case there was a huge boom, this case created 10b-5 body of cases even though it is not a 10b-5 case

B.	Mills v. Electric Auto-Lite Co. (Xerox)
Facts: P is shareholder of Auto-Lite and brought suit 1 day before shareholder meeting to vote on merger between Auto-Lite and Mergenthaler through a proxy statement 
-	P claimed proxy statement was materially false or misleading because it said that Auto-Lite directors approved of the merger but the statement did not tell shareholders that all of the Auto-Lite directors were nominated by Mergenthaler, which owned more than ½ of Auto-Lite shares) 
-	you need at least 2/3 of the shareholders of Auto-Lite to approve the merger therefore the minority vote has to approve the merger 
-	Regulation S-K (item 403) requires that info on a proxy statement be presented in tabular form (if Auto-Lite had met these requirements, it would have been clear to shareholders that Mergenthaler had a controlling interest in Auto-lite)
-	issue: what causal relationship must be shown between merger and proxy statement to establish a c/a 

Holding: P has a valid cause of action and causation is met if materiality or false or misleading statement is shown 
-	burden of proof  P must prove that there is causal relationship between the violation and the injury for which P seeks redress requires showing that the mistatement or omission is material = defect has to have significant propensity to affect voting process and would be considered important by a reasonable shareholder who was in the process of deciding how to vote 
-	where there is a finding of materiality P only has to show that the proxy solicitation, and not even the actual defect, had a decisive effect (this is true even in cases where you already have enough votes because there is a proxy violation the moment you use the proxy solicitation)
-	retrospective relief  cts must consider the same factors used when determining relief for illegal acts/fraud
-	cts may consider fairness and generally use discretion to reconcile public and private interest involved 
-	ct has option of setting aside merger BUT ct does not have to void the corp transaction at issue and it is more sensible to give the parties an option to void his own involvement in the situation
-	monetary damages  if the defect in proxy related to the terms of the merger, the ct can award the value that was represented as coming to the shareholders BUT here the solicitation did not pertain to the terms of the merger so the only damages recoverable are ones that can be shown
-	attorneys fees can be awarded even when there are no monetary damages awarded

1.	Aftermath of Mills
-	prior to this case there were very few 10b-5 cases, but after this case there was a huge boom, this case created 10b-5 body of cases even though it is not a 10b-5 case
-	in theory this has lead to higher quality of disclosure 
-	BUT when you have a low standard for proving materiality (easier to prove) (people interpret Mills as providing a low standard)  this encourages frivolous lawsuits and people become more concerned with creating a document they can defend in ct rather than increasing the quantity of info so now these docs are very difficult to read

NOTE: when you try to reduce the number of frivolous lawsuits you necessarily get rid of valid lawsuits as well
C.	Standing 
1.	Blue Chip Stamps v. Manor Drugs (Xerox)
Facts:  US filed antitrust action against Old Blue Chip (provides trading stamps to retailers) and a consent decree was entered which involved a reorganization plan that had Old Blue Chip merge into New Blue Chip and offer substantial numbers of its shares to retailers who had used the stamp services but were not shareholders
-	P was one of the offerees and brought suit claiming that the prospectus was intentionally pessimistic so as to discourage offerees from buying stocks so that the company could later make public offering at higher price (Slain says it is not unusual to make a pessimistic prospectus)
-	issue  whether P has standing 

Holding: being deprived of the opportunity to buy or sell is not good enough to merit a private rt of action under 10b-5  = Birnbaum rule = no private rt of action except when you are an actual purchasers or sellers of securities 
-	there is no express provision for civil remedy under 10(b) or 10b-5 BUT S.Ct. says there is private rt of action 
-	punitive damages  §28 of the 1934 Act says only actual damages are recoverable = no punitives 
-	reasons why private rt of action should not be extended to P
1)	SEC wanted amendment to give rt to attempts to purchase/sell securities but congress said no
2)	other sections expressly extends rt to offerees/sellers/purchaser but here there is no express statement must mean it was not wanted
3)	in these cases damages can depend on number/value of shares traded but plaintiff’s like the one here would ask for speculative damages
4)	since only deceived parties can void the transaction, here this is not applicable to P (?)
5)	policy considerations  1) potential purchasers  2) shareholders who did not sell, and 3)shareholders, creditors, and others related to issuer who suffered losses are affected by this BUT 2) and 3) can often bring derivative action on behalf of corp issuer
-	you want to avoid frivolous lawsuits
-	you would have unlimited liability if c/a was allowed even without purchase or sale limitation prevents abuse of litigation and liberal discovery rules because only those who are participants in market transaction can seek enforcement
-	expanding rt of action would lead to undue civil liability, large judgments which will go to speculators and lawyers
-	avoids suits merely for the purpose of obtaining money at settlement (nuisance/strike suits) because of threat of suit/discovery in litigation
-	evidentiary problems  the suits that do emerge would depend a great deal on oral testimony
2.	Virginia Bankshares v. Sanderson (347) – S.Ct.
Facts: VBI owned 85% of the shares of the First American Bank of Virginia (Bank) 
-	First-American Bankshares (FABI) began freezeout where the Bank was merged into Virginia Bankshares (VBI) and offered $42 to minority holders, P claimed there was breach of fiduciary duties 
-	here there were enough votes already to approve the transaction but since it was a reporting company it was subject to proxy rules and under §14(c) you have to submit most of the info regarding the transaction therefore you might as well do a proxy solicitation anyway
-	this may help the corp if minority shareholders voted largely in favor of the transaction because in future litigation the corp can raise this as evidence that the deal is fair thereby shifting the burden to P to prove that it was not fair
-	issue is whether a statement that uses conclusory or qualitative terms to explain the reasons for directors’ actions is misleading/actionable and whether shareholders whose votes are not required by law or by the corp bylaws to authorize the transaction at issue may seek remedy
  
Holding: knowingly false statements are actionable BUT shareholders w/o a vote cannot seek remedy = if you don’t need the votes to achieve the transaction then the proxy statement is not actionable 
-	Slain says this is a very bad result because even a false proxy statement would not be actionable under this holding, proxy rules do not say that info has to affect outcome of the vote because proxy rules only care about disclosure of accurate into to shareholders, so voting is the most insignificant justification
-	P might have done better under 10b-5
-	liability under 14(a) results if there is proof of materiality and deceptiveness
-	are reasons/opinions/beliefs of directors “material”  material = there is substantial likelihood that a reasonable shareholder would consider it important in deciding how to vote, here the info re director’s opinions about a potential transaction is material to shareholders 
-	statements re $42 were deceptive/misleading  the proxy statement described this price inaccurately as including a premium over book and market value and did not explain FABI’s controlling role in transaction
-	proof of merely subjective disbelief or undisclosed motivation is not enough to result in liability
-	if misleading statement is published with true statements that render the misleading statement unbelievable, then there will be no liability in some cases

NOTE: proxy rules don’t apply to you unless you have securities registered under Rule 12
-	cts are not able to deal with complicated securities issues that well – we really need a special ct of appeals

D.	Scienter 
1.	Ernst & Ernst v. Hockfelder (Xerox) – S.Ct.
Facts: re scienter = intent to deceive, manipulate, or defraud 
-	Ernst & Ernst is an accounting firm that did audits, annual reports, and filled out financial questionnaires for First Securities Co, Leston Nay owned 92% of First Securities and was the president, he induced P to invest in escrow accounts which in reality did not exist (here the term “escrow” means nothing because they were fabricated investments) Nay had rule that he is only person to open mail that came in for First Security = “mail rule,” he did a Ponzy Scheme = where you get investments from people and use money of later investors to pay off earlier investors 
-	P claimed that although Ernst & Ernst did not commit fraud, they aided fraud by committing negligent nonfeasance = def did not conduct proper audits to discover the mail rule and the fraud in general which would have been detected had the audit been conducted properly)
-	issue is whether ct can award damages under 10b or 10b-5 when there is no allegation of scienter
-	NOTE: the problem here is whether you can say there is a 10b-5 problem when no real securities exist  fictitious security = a real security for the purpose of bringing suit
-	§17 of 1934 Act 

Holding: no damages because 10b and 10b-5 were not intended to provide remedy for sheer negligence 
-	10b uses “manipulative” and “deceptive” and “contrivance”strongly suggest requirement of intent
-	legislative history does not say explicitly one way or another but other statutes are explicit when they provide remedy for negligence
-	under 10b-5  to employ devices could not be done without intent, BUT untrue statements could be made inadvertently (similar language in §11 of 1933 act creates strict liability), and the last clause could be questionable with respect to intent (note: rules are passed based on authority provided in the statute therefore the outer reach of the rules is limited by grant of authority in the statute 10b)
-	“manipulation” is a term of art (§9 of 1934 gives example that you manipulate when you create “illusion of trading” i.e. make offers to buy at higher prices to give illusion of high demand for the security)
-	footnote 7  ct has not decided whether there is c/a of aiding and abetting (ct decided this in later case and said there was no c/a for aiding and abetting)
-	footnote 12  ct has not decided if recklessness counts as scienter, but scienter does cover conscious intent

2.	Aaron v. SEC (Xerox)       
Facts:  2 reps of brokerage firm were trying to sell Lawn-A-Mat and were getting good commissions for selling them, reps also sold lawn cutting products and marketed product for cars/tractor that don’t use gasoline
-	SEC filed suit against Aaron for violation of 17a (1933), 10b, and 10b-5
-	2d Cir held that injunction could be given even when there is no scienter

Holding:  you can’t enjoin somebody unless he violated 10b-5 and you can’t violate 10b-5 without scienter
-	scienter is always an element of 10b, 10b-5, and 17(a)(1) violations
-	what if P argued that §21(d)(1) of 1934 and 20b of 1933 expands 10b-5  still you need scienter
-	§17a of 1933  
-	1) requires intentional conduct but scienter is not required for 17(a)(2) or 17(a)(3) violations which focus on the effect of conduct on investors rather than on culpability of responsible parties
-	note that the language under this statute is same as under 10b-5 and when the ct was ruling on 10b-5 they required scienter for 2)  difference is that 10b-5 is a rule that has to be consistent with statute that gives the rule authority but 17a is not limited in the same way and the language can be interpreted without reference to issues of authority (Slain thinks this makes sense)
-	is there a private rt of action for violation of 17a  if you find that there is private rt of action this means you could have rt of action for negligence without proof of scienter (S.Ct. has never resolved this issue, generally Slain thinks ct will not find a private rt of action under 17a and every ct that has addressed this issue has found no private rt of action NOTE if you find private rt of action under 17a this will make §11 and §12 ineffective which give very narrow private rts of action)

Concurrence  no district judge will give you an injunction in the absence of showing of further violation but you cannot prove possibility of further violation without showing scienter (prior to this concurring opinion SEC had a fairly easy time getting injunction without any showing of intent or likelihood of violation but after this case the district cts began to take the position that no injunction would be given unless there was showing of further violation)

E.	Basic v. Levinson (843)   footnote 18 ?
Facts:  footnote 17 and 18 are probably the most important portions of the cases and have been excluded/edited from the casebook
-	Basic engages in chemical refractories and began serious negotiations to get an acquisition, Basic said that it was unaware of any proceedings which caused rumors that it was negotiating for acquisitions and then admitted to negotiations once it could not hide it anymore, later Basic announced that it had a deal 
-	Ps are interim sellers people who sold stock on the date of first denial and time of announcement that there was deal for acquisition

Holding:
-	TSC Industries  in a proxy solicitation contest an omitted fact is material if there is a substantial likelihood that a reasonable shareholder would consider it important in deciding how to vote, to fulfill the materiality requirement, there must be a substantial likelihood that the disclosure of the omitted fact would have been viewed by the reasonable investor as having significantly altered the total mix of info available
-	footnote 12 in Ernst  ct has not decided if recklessness = scienter, but scienter does cover conscious intent
-	here the actions taken by Basic seemed only to be for the purpose of keeping things confidential
-	scienter may simply mean that the def was not sleepwalking and behavior was conscious behavior
-	standard of materiality for proxy should be the same standard for all other areas (Northway v. TSE industries  was intended to raise standard of materiality (Slain thinks this case did not achieve this result because this standard is not that helpful since unhappy Ps will always want more info)

Standard of Materiality for Preliminary Merger Discussion 
-	materiality should be significance of info discounted by/balanced w/ the likelihood the action will happen 
-	significance of the info  may include consideration of size of the 2 corp entities, potential premiums over market value, but no event short of completion of the transaction to be per se evidence of materiality
-	probability that the event will occur factors to consider may include board resolutions, instructions to investment bankers, actual negotiations between principals or their intermediaries, etc.
-	ct rejects the view that info becomes material by virtue of a public statement denying it 
-	ct rejects “agreement-in-principle” rationale, which says that info is not material until there is a deal, because the reasons for this theory are faulty  1) shareholders will get confused if you give them too much info (ct says materiality requirement was created to filter out essentially useless info and not to treat investors like babies who can’t understand what’s going on), 2) merger negotiations frequently require confidentiality (this factor pertains to duty to disclose and not to materiality and is therefore not relevant to this case), you need some sort of a bright line (this ct this would be too over or underinclusive)

Reliance 
-	reliance is an element of a 10b-5 c/a because it constitutes the causal connection between def’s misrepresentation and P’s injury (you don’t need actual proof of reliance)
-	cts can assume there is reliance because of the fraud on the market theory which says that reliance need not be shown individually because there was presumption of reliance arising from the fact that this material misinformation had been provided in a public way and was presumably impounded in the price at which Ps bought and sold (efficient market hypothesis)
-	but this is rebuttable if def can show that the link between the alleged misrepresentation and the price received/paid or the decision to trade has been broken
-	factors that sever this link include  “market makers” were privy to the truth about the merger discussions, if a corrected statement is published, etc.
-	if a duty to disclose is breached this constitutes reliance (10b-5 does not have disclosure obligations)
-	Slain thought reliance would be subsumed into materiality  this is wrong because S.Ct. has refused to raise standard of materiality and S.Ct. insists that reliance is an element of every 10b-5 case probably because reliance is an element of the state tort of deceit
-	this case represents S.Ct.’s decision to take judicial notice of semi-strong form of efficient market hypothesis (generally judicial notice is given only to things that are so universally known/true that they are uncontroverted) (Slain does not think that the efficient market hypothesis does not meet this standard)

-	footnote 17  deals with whether 10b-5 impose an obligation to speak  
-	if you don’t speak there is nothing that is actionable under 10b-5 but anything you do say must be complete and true
-	Slain says there is no obligation to speak except that 10b-5 imposes an obligation where you have said something and it is completely untrue and made statement on which you expect people to rely on it and it ceases to be true during the period when people are relying on it
-	after this case in theory corps will never deny merger and could say “no comment” but “no comment” will be assumed to be implying that there are negotiations going on  today corps say nothing (this action is practically mandated by footnote 17)
-	4th cir held that where the company said it is not for sale this not a denial and people ought to understand that when you say something is not for sale unless the price is rt (Slain thinks this same reasoning should be applied to when corps say we are not negotiating)

Dissent  it is not true that people buying and selling security believe that the price is accurate, generally people are selling when the price seems high and buying when it is low

NOTE: if you don’t certify the class generally the def will get away because individual investors would never sue on their own (the only people who might sue are institutional investors)

NOTE: corp law has many examples of derivative reliance (the issue of reliance is always subjective and it would be difficult to prove or disprove that there was or was not reliance) (people who buy and sell securities generally are relying on brokers on a daily basis)

F.	Santa Fe Industries v. Green (938)  enforcement of fiduciary duties, manipulative or deceptive
Facts: Sante Fe owned 95% of Kirby’s stocks and wants to acquire it totally by doing a short form merger, so they hired Morgan Stanley to see what the Kirby stock was worth since there was so little market for the stocks so that market price was not a good indication of worth, Santa Fe offered $150/share to Kirby shareholders, Kirby hired someone to determine a fair price, Kirby said share is worth $640  [Note: the differential in price is not that surprising based on ratios represented on Tobins Q ratio list]
-	here the claim is the there was breach of fiduciary duty and that 10b-5 implicates principles of fiduciary duty

Holding: 10b does not provide remedies for internal corporate mismanagement = breaches of fiduciary duty must be handled under state law
-	you cannot violate 10b-5 or 14a-9 if the transaction is fully and accurately disclosed even if you are fully and accurately disclosing that the deal you are offering is a very bad deal
-	here there was no misrepresentation or failure to disclose (disclosure is the main purpose of the act) 
-	this is a watershed case  in the 60s and 70s securities laws, including 10b-5, were going to regulate every single aspect of securities trading even where a claim was for fiduciary duty alone, but after this case there is tremendous increase in fiduciary duty cases in state cts

NOTE: Tobin created Q ratios  compares market price of traded securities w/ replacement value of assets of the company (theory was criticized because it only considers accounting assets and not other assets such as research)
-	in the 70s assets were being sold at a huge discount (Slain thinks reason for this is inflation because people want to own tangible assets rather than pieces of paper because people lose faith in paper and money and intangible aspects)

XXVIII.	Leveraged Buyouts

-	considered a big thing in the mid 1980s
-	leveraged buyout management either causes corp to make a tender offer for its own shares or form a separate entity to make tender offer for its own shares which are later redeemed  (either way you get same result)  the result is that all corp’s stocks will have been redeemed except for those held by management = management owns all of the common stock
-	financing this  corp borrows every single penny it can borrow and mortgage all assets, and borrow from different commercial lenders 
-	main way to get $ is to sell high-yield debt (junk bonds)  people pay $  and take equity risk of the business without owning equity by owning a very high yielding debt security, the theory is that the return on the high yield bond is as good as the yield on common stock would yield anyway (note: junk bonds have gained some respectability)
-	after leveraged buyout  the corp is insolvent because it has vastly more debt than they could pay
-	what does management get out of this  this give management huge debt obligation and a lot of interest to pay, but if corp does this successfully there will be equity in the common stock and they own the common stock and then do a new public offering and sell all of the common stock for a lot of $

-	leveraged buyouts are not as popular anymore

XXIX.	Tender Offers
A.	Statutes    1934 Act §13(d)(1), 14(d), (e), (f)
1.	Williams Act purpose is disclosure and to protect the target’s shareholders
-	= series of amendments to 1934 act  1933 13(d) and (e) and 14(d)-(f) that regulate tender offers
-	legislative history says that the statute is intended to be neutral with respect to bidder or target co
-	the legislation protects shareholders of target company so this law is essentially about disclosure
-	Williams Act does not impose fiduciary duties of any kind

13(d)  provides that the person acquiring 5% or more of any equity security registered under §12 of the 1934 act has to file with the SEC a Schedule 13D1 within 10 days after acquisition with a copy to issuer of security
-	basically this schedule asks you to identify yourself, whose financing the deal, what are the terms of the deal, any side deals relating to this company, what are your reasons for buying
-	groups of persons can constitute a person within 13D1 and formation of a group whose members own more than 5% is a reportable event (i.e. if you have 3 shareholders who own 5% of the securities and decide that they will work together with respect to the company, they are obligated to file schedule 13D1)
-	commissioner is in favor of shareholders organizing and proxy rule 14a-2 definition of proxy solicitation excludes discussions among shareholders if nobody is trying to solicit anyone else’s proxies but you need to file once you constitute a group 

13(e)  regulates self-tenders = when corps tender for their own stocks, subject corps to similar obligations as under outside bidders 

14(d) and 14(e)  requires filing of Schedule 14D which requires extensive disclosure like 13D
-	14(d)  regulates process of solicitation applies only to equity securities registered under §12
-	14(e) does not require registration to fall under this statute (14e would apply to tender offer for debt securities which would not be subject to 14(d) since they are not registered under §12)
-	14(e)  prohibits material misstatements, misleading omissions, and fraudulent or manipulative acts, in connection with a tender offer, this provision is comparable to 10b-5 except that it is not limited to purchase or sale of securities (see Piper)

14e1a  provides that tender offer must remain open for 20 days and that period is subject to being extended for various reasons (i.e. if price is increased time is extended)

14b5 and 6  14b7 and 8  give you limited withdrawal rts and authorizes commission to extend rts
-	when you tendered shares you were making irrevocable offer but under 14b7 the shareholder has a rt to withdraw the stock at any time prior to point of purchase (purchase can’t happen until tender offer is over)  this allows for someone else to come back and make tender offer for higher price

14d8  if more stock is tendered than you want, you have to buy the stock from everyone who tendered (you take a percentage of everyone’s stock to equal amount you want)(so it does not matter if you tender early or late anymore because there are no advantages to tendering early

14d7 best price rule you have to offer the best price you offered to everyone who tenders (so everyone takes advantage of best price)

14b10 all holders rule  you must make tender offer to all persons who hold the class of stock you are making offers to

10b-13  during tender offer you are forbidden from acquiring the stocks in any other way, NO side deals

§32 of the 1934 Act (willful violations of the statutes and rules of the 1934 Act are crimes)

§27 gives cts exclusive jurisdiction to enforce rt of 1934 act

B.	General
-	this practice started in 1960s as alternative to proxy contest, prior to 1970s tender offers were only made to weak companies after 1970s tender offers were being made to companies that were strong and well-managed because they were cheap to buy
1.	Tender Offers as an Alternative to Statutory Mergers
-	in 1980s tender offer, which were completed faster and could not involve 2 companies who were willing to negotiate the deal, became a common alternative to statutory merger
-	if we want to acquire your Corp because we think it is a great company that is run well and its stock is a bargain  if you do statutory merger you have to issue share of our own stock for shares of theirs (problem with this is that our stock is also cheap and does not reflect the value of our assets so we would rather get the money to buy your stock)
-	statutory mergers came back in style when stocks were no longer a bargain 

2.	Doing a Tender Offer
-	Terms of the tender offers  
1)	tender offer must be held open for at least 20 days
2)	must be open to all security holders of the class of securities subject to the tender offer = all holders rule
3)	shareholders must be permitted to withdraw tendered shares during the first 15 days of an offer, or after 60 days if the shares have not been purchased by then
4)	if the tender offer is oversubscribed, the offeror must purchase on a pro rata basis from among the share as deposited during the first 10 days, or such longer period as the bidder may designate
5)	if the tender offer price is increased the higher price must be paid to all tendering shareholders even those who tendered in response to the lower price and the offer must remain open at least 10 days after notice of the increase is first published

NOTE: traditionally proxy contests almost never succeed because American shareholders either vote with management or sell and generally do not vote against management BUT tender offers always work because shareholders panic and sell and they never take more than a few days, management cannot defend against this because there isn’t enough time to take action, generally you could avoid litigation 

-	Obligations of the target’s management 
1)	no later than 10 business days from the date the tender offer was first published the corp must give its shareholders a statement, including reasons, stating either that it 
a)	rejects or accepts the tender offer
b)	has no opinion or a neutral opinion towards the tender offer
c)	is unable to take a position 
-	the key event in tender offers = the moment it commences  the various steps are regulated by 14(d) (14(d)(2)  defines commencement as any kind of communication that is public and which announces the target, the bidder, the approximate amount of securities you are trying to acquire and price range you are considering)
-	requirements on the day of commencement, bidder has to: 
1)	tender offer statement which includes essentially same info as filed under schedule 13D1 
2)	this has to be filed on day of commencement and hand-delivered to issuer on the day of commencement
3)	bidder should be provided with opportunity to make direct solicitation to shareholders and can demand an up-to-date shareholder list or undertake to mail the materials to the shareholders on behalf of the bidder and issue has until day 3 to decide what they will do
-	if you turn over the shareholder the list of shareholder you are giving the bidder the chance to talk one-on-one with each shareholder, so without fail issuers will agree to do the mailing and there are rules about how fast this mailing must be done 

-	during tender offer generally market price will go up to tender offer price discounted by risk  if you were a shareholder you would sell it in the market because you get the tender offer price only if the tender offer deal occurs but if you sell in the market you definitely get the market price = cash in hand without risk (the people buying in the market are risk arbitrageurs) 
-	arbitrageurs = there are people who follow stocks and see what they are selling for in different markets, London and NY, so these people buy in the lower market and sell simultaneously in the higher market, you can do this with anything that is regularly traded)
-	risk arbitrageurs = will buy the stock and then tenders, involves taking huge risk that tender offer will or will not happen and hope that a competing tender offer will be made (historically if a tender offer does not close then the market price invariable drops below where it was before all of the tender offer started), these people cannot afford to be shareholders, often they buy using borrowed money with high rates of interest 
-	company is “in play”  this occurs when a large amount of stock has moved into the hands of risk arbitrageurs (it is inevitable that the company will be sold at this point and it is just a matter of to whom)

3.	Stopping the Tender Offer or Getting a Better Deal
-	if you don’t want to be acquired by the tender offer so you find someone else to come in and make a better, competing offer, the company that comes to save you is the white knight (Slain thinks this is better described as blitzkrieg)
-	white squire does not make competing offer, but instead buys enough stock in a single transaction to give them blocking power  
-	crown jewel dual lock-out  you take immensely valuable part of our business and we agree to sell it to friendly people at a fraction of its actual value (it is not clear if this gives rise to breach of fiduciary duty)
-	poison pill  company creates rts that provides that some person not previously approved by board of directors and existing shareholders can buy additional securities at a bargain rate (this means tender offeror needs to pay more) this raises the cost of buying the stock 
-	shark-proofing  entails making changes in the company to make a company unattractive to a tender offer (i.e. poison pill creation of a set of preferred stock which would make the tender offer unfeasible)
-	Del ct has held that these various techniques for affecting tender offers can be used if what you are doing is using them as bargaining tools to get shareholders better offers	

C.	Test to see if there is a tender offer
-	purchases on the open market are not a tender offer under the Act
-	what if only a limited number of shareholders are approached (this is less clear)

-	8 factor Wellman test (= standard test for seeing if there is a tender offer) 
1)	whether purchaser engaged in active and widespread Solicitation
2)	Solicitation for a Substantial Percentage of Issuer’s Stocks
3)	Whether the offer to purchase is made at a Premium Over Prevailing Market Price
4)	whether the terms of offer are firm rather than negotiable
5)	whether the offer was contingent on Tender of Fixed Minimum Number of Shares
6)	whether the offer was open for only a limited time
7)	whether there is pressure on shareholders to sell their stock 
8)	whether there was Public Announcement Accompanying a Large Accumulation of Stock

-	Hanson test = whether there appears to be a likelihood that unless the Act’s rules are followed there will be substantial risk that solicited shareholders will lack information needed to make a carefully considered appraisal of the proposal put before them (in that case there were 6 potential sellers were and 5 of them werwe sophisticated business men) 

D.	SEC v. Carter Hawley (Xerox)
Facts: Limited wanted to make tender offer of 55% of the stock of Carter Hawley
-	Carter said Limited’s offer was inadequate and started white squire transaction = found someone (here General Cinema) to buy enough shares to create a blocking position to stop tender offer 
-	Carter also bought up its own shares particularly from risk arbitrageurs who can’t afford to hold onto the stock and want to sell and will sell to anyone since they only care about making money to 
-	Carter wants to drive up price which means Limited has to amend their tender offer 
-	SEC sues for violation of 13e-4 (apply to self-tenders and is applicable to tender offers by 3rd parties) stating that Carter Hawley’s repurchase program = tender offer and needed to comply with tender offer rules 
-	issue: what is definition of tender offer (1934 act and no rules define tender offer)

Holding: this is not a tender offer (ct uses 8 factor test in Wellman)
1)	whether purchaser engaged in active and widespread Solicitation
-	there was no direct solicitation of shareholders and the publicity surrounding the repurchase program did not result in solicitation
2)	Solicitation for a Substantial Percentage of Issuer’s Stocks
-	this factor is covered by first factor and 8th factor
-	in this case there was no solicitation under the first factor but there was an accumulation of a large percentage of stock under the 8th factor 
3)	Whether the offer to purchase is made at a Premium Over Prevailing Market Price
-	you do not look at pre-tender offer price 
4)	whether the terms of offer are firm rather than negotiable
5)	whether the offer was contingent on Tender of Fixed Minimum Number of Shares
-	the purchase was not contingent on the tender of a fixed number of minimum shares
6)	whether the offer was open for only a limited time
-	Carter Hawley’s offer to repurchase was not open for only a limited time and instead was open during the pendency of the tender offer of the Limited
-	the time within which the repurchases took place was a product of the ordinary market forces and not the terms of the Carter Hawley repurchase program
7)	whether there is pressure on shareholders to sell their stock 
-	any pressure was largely from the market place and not the type of pressure the regulations were trying to protect against
8)	whether there was Public Announcement Accompanying a Large Accumulation of Stock
-	Carter Hawley stocks were traded in the open market at market price without fixed terms and were not contingent on the tender of a fixed number of shares

NOTE: Slain thinks last 2 factors were met in the case
-	street sweep  we make a tender offer and we cancel tender offer and negotiate with large shareholders to buy out their stock and essentially buy out stock in market place 

E.	Epstein v. MCA (Xerox)
Facts: Matsushita acquired MCA through tender offer, during tender offer Wasserman had separate agreement with Matsushita where Wasserman would exchange his shares for preferred stock in a Matsushita subsidiary called MEA holdings, this deal was contingent on the occurrence of the tender offer 
-	Sidney Sheinberg tendered his shares to Matsushita and received tender price and an extra $21 million in cash claiming that this extra money was for unused stock options that Sheinberg had been relying on 
-	claim is that there was 14d-10 violation

Holding:  there is private rt of action under 14d-10 and if you purchase shares before or after a tender offer these do not violate 14d-10 as long as they are independent of the tender offer
-	here the deals given to Wasserman and Steinberg were contingent upon the occurrence of the tender offer and type and value of the consideration was different 

Is there private rt of action 
-	authority for 14d-10 comes from 14(d)(6) and 14(d)(7), so ct does analysis to see if there is private rt of action under these provisions, Ct applied Cort v. Ash  4 part test (used to see if statute gives private rt of action) 
1)	did congress intent to create a private rt of action
-	there is liberal policy toward inferring private rt of action for securities law violations generally
-	the fact that you can sue for damages under 14(d)(7) indicates intent to give rt to sue
-	implied rts of action jurisprudence may have lead congress to think explicit provisions unnecessary
2)	is P part of the class for whose benefit the statute was intended 
-	ct says P is part of class for whose benefit the legislation was intended
3)	is c/a congruent with legislation 
-	a private rt of action would be consistent with the legislation
4)	is this issue normally left to state law
-	this is not an issue traditionally left to the states

F.	
Piper v. Chris Craft (Xerox)
Facts: Chris Craft made tender offer for Piper Aircraft, Piper gets Bangor to be its white knight, Bangor makes an exchange offer = offers its own securities in exchange for shares of Piper, Bangor also began buying shares in violation of 10b-6 which prohibits the purchase of stocks during a tender offer, Bangor won tender offer contest and Chris Craft sues for damages alleging that their tender offer was frustrated by Bangor’s violations
-	note: Piper is considered a registered corp under §12 of the 1934 Act

Holding: shareholders of target corp have standing to sue for both damages and injunctive relief if they tendered their shares on the basis of false and misleading information (people who have tendered can also use 10b-5)
(note: the case does not address nontendering shareholders but it is probably that even nontendering shareholders can sue under 14e as long as they can show damages resulting from a violation since 14(e) is not limited to purchase or sales like 10b-5)
-	bidder does not have standing to sue for damages under §14e based on false statements made by target corp in opposition to the tender offer because Williams Act was designed to protect shareholders
-	ct mentions that defeated tender offerors could have sought an injunction at an earlier stage

NOTE:  generally it is believed that target corp cannot sue for damages under 14e but can sue for injunction since an injunction will protect interest of the shareholders (but in at least one case target corp did get rt to damages and nontendering target shareholders were allowed to sue as plaintiffs with target corp) 
-	stockholders who have tendered can also get remedy under 10b-5 and not 14e but target shareholders may not sue their own corps (1218)

XXX.	Insider Trading
A.	Statutes     1934 Act §16(a), (b), (c), 20A, 21A, Rule 10b-5, Rule 14e-3
1.	16 generally
-	anyone who owns 10% or more and any director or officer must file report showing ownership of all classes of securities 
-	note: if you are named as one of the required classes of people who have to report, you have to report even if the securities at issue are not §12 securities
-	there is a duty to obey these rules 
2.	16a  (954)
-	requires insiders to disclose any changes in their beneficial ownership of their securities on a monthly basis and provides a way to see if there are violations of 10b-5 and 16b
-	requires disclosure so that investors can make informed decisions about changes in corps they have invested in (this report reflects the persons confidence of lack of confidence in the corp as well as any evolving changes within the corp)
-	since a report of activity is published every month by SEC the publicity functions as deterrent so that corps do not do anything improper
3.	16b (954 & 956)
-	some people have argued that this provision is not effective in preventing insider trading because it does not cover all the ways that insider trading happens and will punish innocent people who were unaware they were violating the provision, also 10b-5 may cover enough that it makes this provision unneeded
-	this is the only provisions directly focused on prohibiting insider trading its purposes include
1)	prevent profits from short-term stock price fluctuations, this is based on the belief that short-swing trading is detrimental to the corps or the American capital markets
2)	penalizes unfair use of insider info which the investing public does not have
3)	prevents insiders from manipulating corp events in order to create fluctuations that they can take advantage of  creates a minimum duty of fiduciary conduct for corporate insiders
-	
-	if anyone required to report under 16a receives profits within 6 months, the profits can be recovered by the corp if the security was sold or purchased within 6 months thereafter (NOTE: this is not dependent on the use of insider info and does not make the transaction at issue illegal)
-	HYPO: 	a director buys 5,000 shares at $10 on January 10th
the director sells 4,000 shares for $8 on Feb 10th  ($32,000 = recaptured profit)
the director buys 12,000 at $6 on March 10th
the director sells 13,000 at $4 on April 10th
-	although the shareholder was taking a  loss there is still a recaptured profit 
-	suit may be enacted by issuer or shareholder 
-	shareholder need not be registered at time of transaction

-	contemporaneous ownership rule  the rule that you had to be a shareholder at the time you are complaining (now cts nothing in the text of 16b actually says this so cts said this rule does not apply to 16b litigation therefore, clerk buys 1 share of the stock and a derivative suit is brought by clerk on behalf of the corp, attorneys are no longer concerned with having clients)
-	there are no defenses to this c/a
-	the advantages of bringing these suits are attorneys fees
-	ask someone about profit? + 6 months high/low
-	the only way to get rid of 16b is to get a tax-free way to accomplish same goals without costing taxpayers anything since it is self-administering 
-	congress was trying to regulate short-term trading (if management can profit from short-term trading then they will do things to ensure that they occur)
-	you can still trade based on inside information
-	1961 was the beginning of body of law on insider trading in US
-	Cady, Roberts 40 SEC 907  Cady Roberts was a brokerage firm and was therefore under the SEC authority, one member of this firm was a director of a reporting company, when this member heard there were problems with this reporting company he called Cady Roberts and told them to sell any shares they had in this company and call any clients that had any shares and tell them to do the same, SEC brought a suit and won saying this conduct violated 10b-5

4.	Congress added §20A and §21A (1934 Act)
-	20A  does not itself add anything substantively to restrictions on insider trading, but it says that the insider trader is liable to an entire class of traders who sold or bought during the time that the insider trader was selling and buying (this increases likelihood that a class action lawyer would have incentive to sue)

-	21A  provides for treble damages, you have to pay treble the money gained or loss-avoided to the SEC

5.	
comparison of 16b and 10b-5

	16b 
	10b-5	

who is covered by the rule	
16a  16a covers securities listed on exchanges and all equity securities meeting 12g standard (Slain say class of exempted security is so small that you shouldn’t even worry about it)

16b  covers any equity security of an issuer which has securities registered under §12

note: the categories mentioned in the rule (i.e. 10%, director/officer, beneficial owner) are all separate types/groups of people, you don’t need all of these characteristics
	
covers any equity security and debt

(the securities do not have to be registered under §12, Slain says the classic 10b-5 case involves sale of securities of a closely held corp) 

	

who can be liable	
only people who have to report their ownership positions as provided under 16a
- 16b is very narrowly drafted so that it only covers the people explicitly named within the provision
	
anybody (you are liable if you violate this rule and since anybody can violate this rule anybody is liable)	

transaction that leads to suit is illegal or not illegal
	
not illegal	
illegal	

who can be a plaintiff	
issuer of the security
	
purchaser or seller	

B.	Gratz v. Claughton (957) – 2d Cir  calculation of profits 

-	16b – says that any profit realized from any purchase or sale within any period of less than 6 months shall inure to and be recoverable by the issue = the corporation
-	applies lowest purchase price, highest sale price method (this relies on the theory that when you know the damages are below the upper limit but you are sure the def’s is a wrongdoer, then the upper limit can be taken to constitute the appropriate damages)
-	essentially this method makes directors, officers or beneficial owners unable to buy and sell, or sell and buy shares of stock except at intervals of 6 months
-	to apply this method  
-	purchase and sale  take any sale price and look back for 6 months for a purchase at a lower price
-	ale and purchase  take the same sale price and look forward 6 months for any purchase at a lower price 

C.	Rational for Insider Trading Laws
-	the biggest controversy about this body of law is what is the reasoning behind prohibiting insider trading  
-	there is an injury if you buy/sell options in the OTC market but when you are talking about a public buyer that public buyer is taking a risk just like any other public buyer or seller (so it is hard to prove when a public investor is hurt since this is part of the normal course of things)
-	if you are dealing with over the counter market  if I am a seller, the buyer is almost definitely the dealer (here nobody sells until they have someone who comes to buy from you) BUT Slain says no over-the-counter dealer has sued for a 10b-5 and he is not sure why
-	consider that if you have someone with inside information is that person just taking the same risk as anyone else considering that even inside info could turn out to be wrong
-	what about efficient market hypothesis and the view that the securities market should be a place of perfect information (i.e. everyone in the market should have all of the same info that everyone else has) (note  it would be impossible to implement a system like this
-	you could argue there is injury if some people are privy to inside info consistently (like old boys club)
D.	SEC v. Texas Gulf Sulphur Co. (822) – 2d cir
Facts: TGS did some exploration and found valuable minerals, individual defs purchased more stocks and others got stock options during this time , rumors started to spread about the discovery so Fogarty, executive VP, printed a misleading press release stating that there were no guarantees that anything of value would be discovered as the result of this exploration (note: until the minerals from the second drilling were analyzed you could not say with certainty that there were more valuable minerals, and when you are in doubt you make the news seem bad rather than good so that you don’t have a lot of unhappy shareholders who might sue you if your allegedly good news turns out to be bad, this case deals with people who listened to the bad news and it turned out to be good = people who didn’t buy shares these people don’t have standing) 
-	an official announcement was made later that said that valuable minerals had been found
-	during the period between the press release and this official announcement people with inside info about the minerals bought stocks prior to the official announcement
-	call = option to buy a security, person who grants the call is called a writer (the calls are created by institutional investors who have large portfolios of NY stock exchange stocks and since American stocks don’t pay a lot in dividends one way to get income is to write an option against the stock), usually you buy at a price slightly above the market price, the people who buy these believe that during the period that the option is offered there will be a rise in the market value of the stock
-	this is an action for injunction by SEC and the remedy they are seeking is disgorgement = turn over of the profit to the corporation

Holding: press release violated 10b-5, all trading of TGS stocks that were made with knowledge of the results of the drilling violated 10b-5 (this case represents view that 10b-5 applies broadly to non-broker dealers as well, before this there was general view that only broker dealers were really subject to insider trading rule)
-	Ernst & Ernst says to have violation of 10b-5 you need conscious intent to defraud, but Slain says the press release does not seem to meet this standard (Slain says it is not clear what scienter means  did def intend to do the things which you now think violates 10b-5 or did the def do something knowing that it violated)
-	Rule 10b-5  anyone in possession of material inside info must disclose such info to investing public or must abstain from trading in or recommending the securities concerned which such info remains undisclosed (congressional policy is to give all investors be subject to equal risks)
-	material facts include earnings and distributions of the corp and facts that would affect the probably future of the corp, and info that may effect the desire of investors to buy, sell or hold the corp’s securities
-	you also have to balance the probability that the event will occur and the anticipated magnitude of the event in light of the totality of the company activity 
-	what can insiders do and what are their duties 
-	an insider can invest in her own company even though she is necessarily more familiar with the company operations than outsiders, but insider has duty to disclose info or abstain from trading securities when such info is reasonably certain to have a substantial effect on the market price if such info was disclosed
-	ct says that if insiders buy on the information it must be material
-	here the ct determined that the discovery would have been important to a reasonable investor and said the securities purchased by persons with this info indicates that it would have been important to outsiders as well
-	if you don’t trade you don’t have to disclose
-	if the info at issue could not be disclosed because of the need for secrecy with regard to corporate activity then the persons who had access to this info should have abstained from trading
-	insiders cannot act on info until it has been effectively disclosed in a manner sufficient to insure its availability to the investing public (here ct says insiders should have waited until the info broadcasted over the Dow Jones broad tape)
-	NOTE: you don’t have to literally be an insider of the company to be under 16b and 10b-5
-	insiders are only required to disclose info equally and are only required to disclose basic facts
-	there is concern that people will be discouraged from taking management positions because they won’t be able to take advantage of stock options but ct says you can implement properly administered stock options and purchase plans that don’t violate the rules
-	members of the top management in the corp have a duty to disclose any material info to the Options Committee before accepting stock options

Concurrence:
-	an unanswered issue is what do you do when, like here, the stock options were voluntarily offered by the corp (the def did not ask for or induce the corp to offer the stock options)
-	here the def’s argument that they had to keep the info secret is also faulty because at the very least the info should have been told to the directors without fear of breach of confidence

NOTE: there was some view that even if information would be interesting to speculators it would be material

NOTE: Judge Friendly has dicta not printed in the case = materiality is significance discounted by likelihood
E.	Chiarella v. US (884) – S.Ct.
Facts: Def was a printer and saw 5 announcements of corp takeovers, the names on the docs were blacked out, but def was able to figure out the names, did not disclose this info to anyone, and invested in securities of the target corps and then sold these securities once the takeovers occurred which resulted in a profit
-	def said that he was silent about the info he knew, did not trade on inside information but traded on market information, and was not an insider 
-	NOTE: the difference between inside information and market information is hard to determine market information is info coming not from inside the company and came from a 3rd party  here def knows info that even people within the corps at issue don’t know 
-	difference between this case and TGS case is that in TGS there was a fiduciary duty to disclose info and the independent contractors in TGS 
NOTE: the lower ct (2d cir) convicted def based on the draft of a bill that had not passed congress yet (this bill proposed that someone like the def here would be considered an insider)

Holding: the mere possession of nonpublic market info does not result in a duty to disclose, and silence in connection with a purchase or sale of stocks may constitute fraud where there is a duty to disclose (NOTE: not every instance of financial unfairness constitutes fraud) 
-	the only time silence can be fraudulent is if that person has a fiduciary duty (this is the holding of Chiarella)
-	failure to disclose is fraud when there is a duty to disclose therefore a purchaser of stock who has no duty to prospective sellers because he is not an insider and is not a fiduciary has no duty to disclose material facts
-	here there was no duty because def was stranger to persons from whom he bought and to whom he sold
-	insiders have duty to disclose material facts and this duty arises from the fact that such info was meant only for corp purposes and it is unfair for corp insider to take advantage of that info by trading without disclosing the info (i.e. insiders have a duty to place shareholder’s welfare before their own)
-	10b does not expressly discuss whether silence is a violation (see p. 885)

Dissenting: the ct’s opinion practically requires a fiduciary duty to exist before 10b may be applied and the decision downplays the def’s access to information that other honest investors could never have had access to, also by any definition this trading was unfair

NOTE: people were really divided about whether the def here traded on inside information, some people thought that def was so involved on a daily basis in the market and in theory becomes an insider

1.	The Affect Chiarella’s actions could have had on Tender Offers 14e-3
-	Rule 14e-3 reverse the rule in Chiarella insofar as the relevant info concerns a tender offer = you can be convicted for trading on the basis of material information relating to a tender offer even if you would not have violated 10b-5  (14e-3 does not require fiduciary duty)
-	14e  beginning of this statute sounds exactly like 10b
-	14e-3a 
-	if someone takes a substantial step toward making a tender offer, anyone with info about the tender offer which derives from issuer of the security, from the bidder, or someone working on the deal will be engaging in a manipulative act if they trade without disclosing (in a public market it would be hard to disclose because of the affect it will have on the tender offer, essentially this rule means “DON’T TRADE” (Slain thinks “disclosure” actually meant disclosure to the sell of the security)
-	you can have fraud even w/o fiduciary duty (i.e. if I lie to you  and I don’t have a fiduciary duty to you)
-	14e-3a goes beyond Chiarella on its face and expressly adopts the SEC’s parody of information rule = anyone who knows info about a tender offer violates the rule by non-disclosure (when this rule was adopted Slain really thinks the rule meant disclosure to the counter-party)
-	Chiarella’s actions can hurt tender offeror because 
1)	price gets set at the last moment, trading by people before price is set will affect the price
2)	piggybacking  Chiarella has to buy through a broker and if the broker watches how well Chiarella is doing he will buy the same shares and may lead to a domino affect 

F.	Dirks v. SEC (896) – S.Ct.
Facts: equity funding was a stock life-insurance plus mutual fund, life-insurance companies turn over many of their policies to other insurance companies through reinsurance market, here some people created equity funding that were totally fictitious and sold policies to other companies with false forms to create a fictitious policy holder, this fraud required participation of dozens of people and was uncovered by Ronald Secrist, Dirks was officer of a broker-dealer firm and investigated the allegations of fraud, he discussed the case with clients and investors who sold their shares and tried to get the Wall Street Journal to publish an article about it
-	during the time of his investigation the stock of this corp fell in value and an official investigation began which uncovered the existence of actual fraud
-	SEC was trying to say Dirks violated 17a because he gave a tipped his clients on the fraud

Holding: Dirks had no duty to abstain from using the inside info 
-	a person who receives a tip has a fiduciary duty to the shareholders of the corp at issue not to trade based on material nonpublic info when the insider who made such info available breached his fiduciary duty to the shareholders by disclosing the info to the tippee and the tippee knows or should know that there was a breach (the insider must breach his/her fiduciary duty before the tippee has a duty to disclose or abstain)
-	duty to disclose arises from relationship of the parties and not from the parties’ ability to acquire information 
-	test to see if insider breached fiduciary duty  whether the insider personally will benefit directly or indirectly from his/her disclosure (financial, reputation, and attempt to make a gift which is also considered an advantage) [here the insiders did not breach a duty and received no personal benefit] 

Dissenting: this decision allows an insider to violate a fiduciary duty if there is no personal gain
-	believes Secrist was a wrongdoer and this view seems to say that the people who created the fraud had a rt to keep the info re their fraud a secret
-	Dirks actions allowed his clients to take preventative action to avoid losses due to this scandal
-	regardless of whether the insider had personal benefit, the shareholders were still hurt
1.	Problems during aftermath of Dirks

NOTE: Slain says this is a hard case that resulted in bad law
-	people buy securities based on advice and the people who advise investors look at disclosure statements but those advisors are not that sophisticated or that interested in the disclosure info because they get info from securities analysts are the only people who read disclosure documents 
-	Dirks was a security analyst and his job is to advise his customers how to best invest his money
-	you could argue that doing securities analysis is a public good and should be provided freely and paid for by the SEC (Slain says this is a crazy idea)
-	if you create a strong disincentive to people like Dirks and disincentive for disclosure as a whole, you essentially defeat the function of the securities analysts and have defeated the goals of the securities acts

G.	US v. Chestman – 2d cir (Xerox)
Facts: Walbaum is listed on NY stock exchange but is controlled by Walbaum family, Ira Waldbaum, the pres and controlling shareholder of Waldbaum, agreed to sell the corp to A&P through a tender offer, through a chain of events family members conveyed the info of this tender offer until Loeb found out and called Chestman, a stockbroker, to inform him of news, that same morning Chestman purchased thousands of Waldbaum stocks for himself and for clients like Loeb, Chestman claimed that he bought those shares based on his own research
-	SEC would rather get casual investor to be a witness against the stockbroker Chestman is convicted and appeals to 2d cir which appeals all counts which lead to rehearing en banc

Holding:
-	Chestman tried to argue that there was no authority for the rule 
-	Rule 14e-3(a) was passed under authority of §14e and §23(a)(1) and SEC has a sufficient grant of statutory authority to pass and enforce the rule (14e specifically deals with tender offers, cases re 10b which is a general antifraud statute do not hold much precedential value)
-	14d only applies to securities registered under §12 but 14e covers tender offers not otherwise regulated = 14e applies to a tender offer for something like a debt security and says that you cannot trade on inside info in connection to a tender offer (14e provides broader protection than the Williams Act)
-	interpretative v. legislative rules  when you review validity of a legislative rule it cannot be set aside unless it exceeds its statutory authority or if the rule is arbitrary, capricious, an abuse of discretion, or otherwise not in accordance with the law (14e-3 is a legislative rule) [interpretive rules are rules passed to interpret provisions (i.e. undefined words in statutes)]
-	this is a disclosure provision and this rule creates a duty to abstain or disclose (there does not have to be pre-existing fiduciary duty with respect to the confidentiality of the info)
-	Chestman’s knowledge of Loeb’s status as a Waldbaum family member and the nature of the information conveyed provided sufficient evidence from which a rational trier of fact could infer that the information originated directly or indirectly from an insider
-	Chestman tried to argue that he didn’t have fair notice  ct said he had fair notice because as a sophisticated stockbroker he should understand the language of the rule
-	Chestman’s 10b-5 violation  it is claimed that Chestman was an aider and abetter of Loeb’s violation of 10b-5 and himself violating because he traded as Loeb’s tippee (in both cases Chestman’s violation depends on whether Loeb violated 10b-5 = Loeb must have violated for Chestman to have violated)
-	you cannot violate 10b-5 unless there was a fiduciary duty to the corp and to the shareholders:
-	involves discretionary authority from one side and dependency on the other
-	Slain’s definition of fiduciary duty  is a person who is in some relationship in which the law in some manner limits his normal rts to prefer his own interests
-	you cannot impose such a duty unilaterally by entrusting a person with confidential info
-	marriage/family relationship does not result in fiduciary relationship BUT repeated disclosure of business secrets between family members may substitute for factual finding of dependence and influence and may be functional equivalent to a fiduciary relationship
-	there are some fiduciary duties recognized at common law: attorney/client, executor/heir, guardian/ward, principal/agent, trustee/trust beneficiary, corp official and shareholder 
-	Loeb did not owe a fiduciary duty to the persons at issue because he was not an officer/director etc. and therefore did not defraud them by disclosing the news of the pending tender offer to Chestman, and absent the predicate act of fraud by Loeb Chestman could not be derivatively liable under 10b-5
-	misappropriation  you have to figure out if there was a breach of fiduciary duty between Loeb and the Walbaum family or between Loeb and his wife

Winter Concurrence/Dissenting: present history of insider trading and addresses concerns that families involved in business together have fiduciary duties and their relationships are both familial and commercial
-	concurs on 14e conviction and dissents as to 10b-5 conviction
-	says there is no clear definition of insider trading provided by SEC 
-	when you trade on inside info you are essentially stealing from the corp because info might be disclosed earlier than corp may want and the problem of piggybacking may occur

Miner Concurrence: criticizes Winter’s proposal for familial relationship rule of insider trading

Mahoney Dissenting/Concurring: says 14e-3 can now lead to liability without fiduciary duty
-	Mahoney wrote the decision in the case that was overruled by Chiarella

NOTE: Slain finds it difficult to define how to handle family relationships in the context of business

After Chiarella the Brien case was decided
but the 4th cir heard a case  a guy who worked for West Va lottery which uses computerized system to implement lottery system, the guy worked on the decision to change suppliers of the computer equipment and the guy bought stock in the company 
-	the guy is not a fiduciary to the parties, he got the info from a 3rd party
-	the guy was prosecuted on a misappropriation theory  he misappropriated this info from the West VA lottery commission
-	ct held that the guy’s conviction must be reversed because missappropriation theory is fundamentally unsound and with an absence of duty the theory that the counter-parties were hurt is not a valid theory  (under O’Hagan this guy would be convicted)

H.	US v. O’Hagan (Supp 175)
Facts: English corp was going to do a tender offer for Pillsbury and hired Dorsey & Whitney to do the deal, a partner from Dorsey bought a lot of stock in Pillsbury and SEC caught him 
-	8th Cir holds that misappropriation theory is wrong and even though the partner is facially a violator of 14e-3a but the ct says 14e-3a is an invalid rule

Holding:
-	Traditional view of insider trading  10b and 10b-5 are violated when a corporate insider trades in the securities of his corp on the basis of material, nonpublic info, trading on such info qualifies as a ‘deceptive device’ because the relationship of trust and confidence exists between the shareholders (Chiarella) and this relationship gives rise to a duty to disclose or to abstain from trading because of the necessity of preventing a copr insider fro mtaking unfair advantage of uninformed stockholders, this theory applies to officers, directors, other permanent insiders of the copr, attorneys, accountants, consultants, and others who are temporarily fiduciaries of the corp (Dirks), under 10b-5 you are committing a fraud on the corp 
-	Misappropriation theory of insider trading  a person commits fraud in connection w/ a securities transaction, and thereby violates 10b and 10b-5 when he misappropriates confidential info for securities trading purposes in breach of a duty owed to the source of the info = a fiduciary’s undisclosed, self-serving use of the principal’s info to purchase or sell securities in breach of a duty of loyalty and confidentiality, defrauds the principal of the exclusive use of that info, in theory, a fraud on whoever you get info from
-	you can apply this theory in a criminal case to person who are not the purchaser or seller but in a civil case you are limited by purchase/seller limit of 10b
-	this theory is designed to protect integrity of the securities markets against abuses by outsiders to a corp who have access to confidential info that will affect the securities’ price but who owe no fiduciary duty
-	if there is full disclosure you can’t be liable under misappropriation theory = if the person discloses to the source that he plans to trade on the nonpublic info there is no deceptive device and thus no 10b violation
-	note: the partner could have avoided violating 10b-5 by calling Dorsey and tell Dorsey that he intends to trade on the insider info but if Dorsey knew of the partner’s intentions Dorsey would tell the partner not to do the trading on the info (there is no duty for Dorsey to contact the SEC if they hear the partner will use the insider info)
-	14e-3  ct says the rule is a prophylactic measure which means that the SEC can regulate activities not mentioned explicitly in the rule as long as the prohibition is reasonably designed to prevent acts and practices that are fraudulent, ct also adds that the grant of authority in the last sentence of the 14e-3 should not be read as giving the same authority as 10b-5 but should be read like 15c-4 (Slain thinks 15c-4 has no relationship with 14e-3 and the ct is wrong)

NOTE: criminal liability under §10b can be based on misappropriation theory  you have to willful violation 

1.	Wall Street Journal Writer Case
-	a guy writes for the Wall Street Journal and assess stocks, if the guy says a stock is good the stock price will go up and if he says the stock is not good, the price will go down, the guy traded on his own info the day before he writes it, he is prosecuted on misappropriation theory and the ct said the info belonged to the Wall Street Journal
-	after O’Hagan it is clear the Wall Street Journal writer did violate 10b-5
-	what if the writer went to the Wall Street Journal and told them he was trading on the info  does Wall Street Journal have obligation to do anything based on knowing this info about what its writer is doing (Slain does not think the Wall Street Journal has a duty to do anything)

I.	Eli Lily hypo  
-	we have found cure to cancer and will need more people to help run the company to handle huge influx of orders, an employee knows about this info and buys the land next to Eli Lilly in expectation that Eli Lilly will want that land and we can charge a lot of money for it 

-	Slain thinks the range of possible violations under 10b-5 seems limitless
-	14e-3  problem with this rule is that it is difficult to apply the language of 14e and the rules in 14e-3a (Slain thinks that the last sentence of 14e was added after the Williams act was enacted and at that time the Chiarella concept was being discussed widely = whether there is any prohibition of using info on a tender offer since that info usually comes from a 3rd party who is not the issue and there is no fiduciary duty to the issuer, so Slain thinks this rule definitely contemplated dealing with a Chiarella type case)
-	from a drafting perspective, 14e does not do a good job of giving authority to deal w/ Chiarella type situations
-	Slain is less concerned about ambiguity of 14e-3a since it is limited to tender offer situations and the only people who can give you info on a tender offer is a narrow group of people because they are such confidential deals BUT with respect to 10b-5 the possible violations are unlimited (Slain does not know of a definition of misappropriation in the statute and there is no requirement in 10b-5 that a violation of 10b-5 must constitute common law fraud) essentially Slain thinks we are taking state fiduciary duty rules relating to employee and attaching criminal liability to it
-	note: problem with start-up companies is that many of the people working for these new companies have come from other companies and so the start-ups put aside a lot of money to deal with the possible litigation involving suit by former employers suing because of knowledge taken by former employees
-	SEC has enormous rule-making power but the SEC has been reluctant to use that power with respect to critical questions, which leaves many unanswered questions with unclear legal standards (one example is what constitutes a public offering under the 1933 act), Slain believes the SEC thinks the possibility of criminal prosecution is a better deterrent than a specific rule that says you can’t do it

bh342@is9 – korean language group
4 hrs  1 long essay, short answers, take a position
pick up more cases

1)	how are LLC and LLP taxed
2)	do you have a partnership if there is formal agreement or is this based on something else (i.e. are there implied partnerships)
3)	how/when does state use quo warranto  what is the point
4)	§301-304 of internal revenue code  when you have a closely held company ….?
5)	get notes for joy v. north

J.	1934 Act §§20A, 21A, Rule 10b-5 and Rule 14e-3
1.	history of insider trading
1)	16b  regulates short-swing trading and requires that insiders disgorge any profits from such trading to the corp (helps to eliminate the incentive for directors/officers to make share prices volatile in order to profit from short-swing trading
2)	10b and 10b-5  provide general authorization for SEC and cts to create rules re what constitutes insider trading and is fraudulent, deceptive, and manipulative
3)	Cady, Robert  things to consider for finding that there was insider trading
a)	a trader’s relationship giving special access to corp info not intended for private use 
b)	the unfairness resulting from trading with those who lack the informational advantage afforded by that special access (this 2nd element addresses issues of fraud and creates the connection between insider trading and 10b)
4)	TGS  accept dual test of Cady, Roberts but adds that the ban on insider trading applies to more than officers, directors, and controlling shareholders 
-	requires that anyone in possession of material insider info must either disclose the info to the investing public or must abstain from trading in or recommending the securities while the info remains undisclosed (emphasizes concern for unfairness and is based on the notion that congress wants investors to be subject to identical market risks)
-	this holding suggests that the possession of material, nonpublic info, regardless of how it was acquired was sufficient to trigger an obligation to disclose or abstain from trading

5)	Chiarella
-	fraud must be shown under section 10b
-	silence cannot constitute fraud absent a duty to speak owed to those who are injured

6)	Dirks
-	liability results if the disclosure of material nonpublic info breaches a fiduciary obligation
-	to determine whether a fiduciary duty was breached you need to see whether the tipper received a direct or indirect personal benefit from the disclosure (i.e. money gain or reputational benefit that translates into future earnings)

NOTE: many companies are undervalued because accountants do not consider nonaccounting information so accounting number don’t reflect the actual value of the corp