MT311 – Business Law IMT311 – Business Law I

Seminar Presentation

UNIT 9Business Organizations

I Chapter 26, Corporate Directors, Officer, and Shareholders

II. Chapter 27, Investor Protection, Insider Trading, and

Corporate Governance

Role of Directors and OfficersRole of Directors and Officers

• Every corporation is governed by a board of directors.

• Individual directors are not agents of corporation, only the board itself can act as a “super-agent” and bind the corporation.

• A director can also be a shareholder, especially in closely-held corporations.

3

Election and Compensation Election and Compensation of Directorsof Directors

• The number of directors is set forth in the articles of incorporation:– Directors are appointed at the first organizational

meeting– In closely held companies, directors are generally

the incorporators and/or the shareholders– Term of office is generally for one year– Director can be removed for cause

• In very large companies, directors can be compensated, and may be officers as well.

4

Board of Directors’ MeetingsBoard of Directors’ Meetings

• Directors hold meetings pursuant to bylaws with recorded minutes

• Special meetings may be called with sufficient notice

• Meetings require QUORUM (minimum number of directors to conduct official corporate business, usually majority)

• Each director generally has one vote

5

Rights of DirectorsRights of Directors

Directors have the right to:• Participate in corporate decisions and inspect

corporate books and records• Compensation (usually a nominal sum) and

indemnification. If a director is sued for acts as director, the corporation should guarantee reimbursement (indemnification) or purchase liability insurance to protect the board from personal liability

6

• Officers serve at the pleasure of the Board of Directors but have fiduciary duties to company as well

• Their employment relationships are generally governed by contract law and employment law

• Officers may be terminated for cause

Corporate Officers and Corporate Officers and ExecutivesExecutives

7

• Fiduciaries of corporation - ethical & legal duties

• Duty of Care – Act in good faith and in best interests of the corp.;

– Make informed and reasonable decisions; and

– Exercise reasonable supervision

• Duty of Loyalty– No conflict of interest

– No insider trading

• A dissenting director is rarely held liable

Duties and Liabilities of Duties and Liabilities of Directors and OfficersDirectors and Officers

8

Business Judgment RuleBusiness Judgment Rule

• Immunizes a director or officer from liability from consequences of a business decision that turned sour

• Court will not require directors or officers to manage “in hindsight”

• As long as decision was reasonable, informed, made in good faith and in the best interests of the corporation, BJR will apply

9

Role of ShareholdersRole of Shareholders

• Ownership of shares grants a shareholder an equitable ownership interest in a corporation.

• Shareholders generally have no right to manage the daily affairs of the corporation, but do so indirectly by electing directors.

• Shareholders are generally protected from personally liability by the corporate veil of limited liability.

10

• Common shareholder - one vote per share

• Articles and bylaws can exclude or limit voting rights of certain classes of stock

• Quorum must be present

• Cumulative Voting allows minority shareholders to get a board member elected

Shareholder VotingShareholder Voting

11

• To vote• To have a stock certificate• To purchase newly issued stock• To dividends, when declared by board• To inspect corporate records• To transfer shares, with some exceptions• To a proportionate share of corporate assets on

dissolution• To file suit on behalf of corporation

Rights of ShareholdersRights of Shareholders

12

• Shareholders can sue a 3rd party on behalf of the corporation if the Directors fail or refuse to correct the wrong or injury.

• Directors may refuse to take action because they might personally be liable.

• Any damages recovered go to corporation’s treasury.

Shareholder’s Derivative SuitShareholder’s Derivative Suit

13

• Shareholders are generally not liable for the contracts or torts of the corporation.

• If the corporation fails, shareholders cannot lose more than their investment, except when: – A shareholder hasn’t paid for stock pursuant to the

stock subscription agreement.– Shareholder buys “watered stock” which is below

the stock’s par value.

Liabilities of ShareholdersLiabilities of Shareholders

The Securities ActsThe Securities Acts

• In response to the stock market crash of 1929 and the Great Depression, Congress enacted two acts:– Securities Act of 1933– Securities Exchange Act of 1934

• Apply to public companies

• To structure and oversee the offering, selling, and trading of securities in ways that would protect investors

14

Securities Act of 1933Securities Act of 1933

• Requires that investors receive information about securities offered for public sale

• Prohibits fraud in the sale of securities by requiring that securities be registered

• Registration includes information including– a description of properties and business,

– a description of the security to be offered for sale,

– information about management of the company, &

– financial statements certified by independent accountants

15

16

Registration ProcessRegistration Process

• Registration statement does not become effective until approval by SEC.

• Pre-Filing Period: issuer cannot offer or sell securities.

• Waiting Period: securities can be offered by not sold. 2005: Free-writing prospectus.

• Post-Effective Period: registration effective 20 days after approval.

17

18

Violations of the 1933 ActViolations of the 1933 Act

• Intentional or negligent fraud of investors by misrepresenting or omitting material facts in the registration statement and/prospectus.

• Defenses: Statement left out was not material; Plaintiff knew about fraud and purchased stock; Registrant believed statements were true.

• Penalties:

– Criminal: up to 5 years in prison and $10,000 fine.

– Civil: damages, refund of investment, injunction.

Securities Exchange Act of 1934 Securities Exchange Act of 1934

• Created the Securities and Exchange Commission (SEC)

• Power to register, regulate, and oversee brokerage firms, transfer agents, clearing agencies, and securities self-regulatory organizations

• To give the investor confidence and prevent another collapse in the system

19

20

Section 10(b) and Rule 10b(5) Section 10(b) and Rule 10b(5)

• Section 10(b) prohibits the use of any manipulative or deceptive device or contrivance in contravention of rules and regulations of SEC.

• Rule 10b(5) prohibits the commission of fraud in the connection with the purchase or sale of any security.

21

• Advance information available to corporate officers and directors that can affect future value of stock.

• Insider information must be material

• Must be a fiduciary relationship for liability

Insider TradingInsider Trading

22

Insider Reporting and Insider Reporting and Trading—Section 16(b)Trading—Section 16(b)

• Section 16(b)– Recapture by corporation of profits during

previous six months gained by insider trading.– Applies to stocks, warrants, options and

convertible securities.

• Proxy Statements, Section 14(a)– Whoever solicits a proxy must fully disclose all of

the facts and which shareholders must vote.

23

Comparison of 10b-5 and 16(b)Comparison of 10b-5 and 16(b)

Sarbanes-Oxley Act of 2002Sarbanes-Oxley Act of 2002

• In response to the Enron fall in 2001, Congress enacted the Sarbanes-Oxley Act of 2002 (SOX).– To protect investors by improving the accuracy

and reliability of corporate disclosures,– To enhance corporate responsibility, – To end corporate and accounting fraud, and– To restore the image of stock purchases as

investments worth the risk.

• Requires documented internal controls

• Requires CEO and CFO certifications24

25

Key Provisions: Sarb-OxKey Provisions: Sarb-Ox

Questions & RemindersQuestions & Reminders

• Questions on Unit 9 material?

• Unit 8 Grades Available by Monday

• Remember to complete Final Assignments– Final Exam (Graded Automatically)

• 100 true/false and/or multiple choice questions

• unlimited amount of time to take the exam

• worth 200 points for course

– Discussion (See Discussion Board Posting Requirements)

– Ethics Post-Test (Automatic 30 points for taking it!)

– Writing Assignment

• Good luck on the final!26