PART

PART

Corporations

History & Nature of CorporationsOrganizational and Financial

Structure of CorporationsManagement of Corporations

10

McGraw-Hill/Irwin Business Law, 13/e

© 2007 The McGraw-Hill Companies, Inc. All rights reserved.

PART

PART

Corporations

Shareholders’ Rights & LiabilitiesSecurities RegulationLegal & Professional

Responsibilities of Auditors, Consultants, and Securities

Professionals

10

McGraw-Hill/Irwin Business Law, 13/e

© 2007 The McGraw-Hill Companies, Inc. All rights reserved.

Organization and Financial Structure of Corporations

PA ET RHC 42

“Our business is company creation.”

Ann Winblad, venture capitalist, quoted in Fortune (Sellen and Daniels, Oct. 1999)

Learning Objectives

Promoters and preincorporation transactions

Incorporation and defective attempts Financing for-profit and nonprofit

corporations The nature and operation of shares

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As a fiduciary, a promoter incorporates the business, organizes the initial management team, and raises the initial capital

Promoter is liable for contracts made during preincorporation period unless corporation adopts preincorporation contracts made by promoter (adoption) and third party agrees to replace promoter with corporation (novation) See Crye-Leike Realtors v. WDM, Inc.

Promoter Activities

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1. Prepare articles of incorporation2. Sign and authenticate articles by one or

more incorporators3. File articles with secretary of state and pay

fees4. Receive articles of incorporation stamped

“Filed” by secretary of state, with fee receipt5. Hold organizational meeting to adopt bylaws,

elect officers, and transact other business

Steps in Incorporation

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Articles of incorporation (or charter) is the basic document stating rights and duties of corporation, its management, shareholders

Other provisions (consistent with law) may be added to articles of incorporation or included within corporate bylaws

If the attempt to incorporate fails, corporate shield does not exist to protect shareholders, officers, and directors from personal liability

Incorporation Details

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De jure corporation: exists when promoters and incorporators substantially comply with each mandatory (shall, must) requirement to incorporate the business Filing articles of incorporation is conclusive

proof that corporation exists (MBCA) De facto corporation: exists when promoters

fail to comply with all mandatory rules, but comply with most mandatory requirements

De Jure Corporation

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For-profit corporations are financed by sale of securities (e.g., shares, debentures, bonds, long-term notes payable), bank loans, and short-term financing (e.g., inventory financing)

Financing Corporations

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For-profit corporations are financed by sale of securities, bank loans, and short-term financing

Equity securities, better known as stock or shares, create an ownership relationship, thus stockholders or shareholders own a corporation

Debt securities – bonds, debentures, notes payable – create creditor-debtor relationship between corporation and security holder

Financing & Securities

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Corporations may issue classes of shares with specific rights: common or preferred

Common shareholder claims are subordinate to creditor or preferred shareholder claims, but common shareholders have exclusive right to elect corporate directors

Preferred shareholders receive liquidation and dividend preferences over common shareholders

Shareholder Classes

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Authorized shares: shares a corporation may issue according to articles of incorporation

Issued shares: shares sold to shareholders Outstanding shares: held by shareholders A board of directors may issue options for

purchasing the corporation’s shares Warrants: options evidenced by certificates Rights: short-term certificated options

Details About Shares

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Under the terms of a share subscription, a prospective shareholder promises to buy a specific number of shares at a stated price

The board must issue shares for an adequate dollar amount of consideration (par value)

Shares may be issued in return for any tangible or intangible property or benefit to the corporation (MBCA)

Purchase of Shares

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Share certificates are registered with the corporation in name of a specific person

Indorsement of a share certificate on back by registered owner and delivery of certificate to another transfers ownership of shares

Transfer of Shares

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Generally, shares in a publicly held corporation are freely transferable

Test Your Knowledge True=A, False = B

A promoter is always liable for contracts made during the preincorporation period.

A U.S. business may incorporate in any state. A de facto corporation exists when promoters

and incorporators in fact comply with each mandatory requirement to incorporate.

Warrants are stock options evidenced by certificates.

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Test Your Knowledge True=A, False = B

Preferred shareholders have the exclusive right to elect corporate directors and the exclusive right to dividend payments.

For-profit corporations are financed only by issuing securities in the form of shares.

The MBCA permits shares to be issued in return for any tangible or intangible property or benefit to the corporation.

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Test Your Knowledge

Multiple Choice Which of the following is not a debt

security: (a) Stock (b) Bond (c) Debenture (d) Note (e) none of the above

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Test Your Knowledge Multiple Choice

The Steel Inc. Board of Directors plan to issue dividends this year. Which of the following is false? (a) Preferred shareholders receive their

dividends before common shareholders (b) Creditors receive their dividends

before common shareholders (c) Common shareholders receive their

dividends before either creditors or preferred shareholders

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Thought Question

Do you believe that a company’s stock price reflects a company’s value or success in (a) the marketplace, and (b) society?

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