Managing Legal Risk

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c. $a& Status: inco+e %o!s through the co+pany to indiidual+e+ers/ aoiding doule ta&ation o# a corporation

d. 5or+ation:i. Must hae a charter and an operating agree+entii. $he de#ault operating option +ight e dangerous and

a custo+ one e&pensiee. 5le&iilityi. LLCs can hae +e+ers that are corporations/

partnerships/ or nonresident aliensii. Can hae di4erent classes o# stockiii. 7ot re,uired to hold annual +eetings or +aintain a

+inute ook#. $rans#erarility o# interest

i. LLC +e+ers +ust otain unani+ous per+issione#ore trans#erring o!nership rights

ii. LLCs cannot o4er stock options

g. urationi. LLC auto+atically dissoles upon the !ithdra!al o# a

+e+erii. Currently state la!s allo! LLCs to continue a#ter a

+e+er !ithdra!alh. Going Pulic

i. "t loses #aorale ta& status and is ta&ed as acorporation

ii. o not en8oy !ell'estalished statutory and case la!iii. LLC +ust hae clause in their operating state+ents

the clause to conert to corporation at the ti+e o#

pulic o4ering !ithout the consent o# the +e+ersi. Changing 5or+s

i. Corporations +ight pre#er to eco+e LLCs1. $hat is considered a sale o# assets and a ta&

!ould e put on the alue o# these assets 8. Piercing the LLC eil

i. "# corporate shareholders do not co+ply !ith thetechnicalities o# the la! they +ay e held personallyliale #or the corporation9s dets

k. Legal ncertaintyi. LLC relatiely ne!/ there#ore/ no consistent and

!idely deeloped ody o# la!ii. 7o clear 8urisdiction i# +anagers hae a 8udiciary

duty to act in the est interest o# +e+ersiii. eriatie la! suit right is uncleari. Lenders +ight eco+e less !illing to )nance LLCs

l. LLC s Corporationi. LLC ; S corporation ta& statusii. LLC not as +any house rules



iii. LLC +ight e e&pensie due to operating agree+entset up

i. <enture capitalists re#use to )nance LLCs and chooseC corporations

1. rcane ta& issues

2. C corporations are easier to +erge/ sell/ or takepulic6. Corporations can issue stock options

=. General Partnershipsa. Liaility

i. partner can e liale #or the actions o# anotherpartner or e+ployee

ii. Partners share oth pro)ts and losses e,ually i# notagreed other!ise

. Manage+ent utiesi. Partners are liale to the partnership #or gross

negligence or intentional +isconductii. Partners cannot co+pete !ith the partnershipiii. partner +ay not take an opportunity a!ay #ro+ the

partnership unless the other partners consenti. "# a partner engages in a con%ict o# interest/ he +ust

turn oer to the partnership any pro)ts he earned#ro+ that actiity

c. $rans#er o# o!nershipi. $he partners can only trans#er the alue o# their

interest/ ut not the interest itsel#. $here#ore/ no rightto take part in the +anage+ent o# the usiness

d. 5or+ationi. Should hae a !ritten agree+ent/ ut legal !ithout

oneii. 5or+ed oluntarily y direct actions o# partnersiii. By ongoing conduct o# the partiesi. "# t!o or +ore people do usiness together/ sharing

+anage+ent/ pro)ts and losses they hae apartnership/ !hether they kno! it or not/ and aresu8ect to all the rules o# partnership la!

. 3&ceptions1. Pro)ts paid to repay dets

2. Pro)ts paid as !ages or rent6. Pro)ts paid to a !ido! or estate representatie=. Pro)ts paid #or the sale o# usiness good!ill

i. Partnership y 3stoppel1. rise !hen others are led to eliee that there

is a partnership



a. Participants tell other people that theyare partners/ or allo! other people to sayso

. $hird party relies on this assertionc. $hird party su4ers har+

ii. $er+ination1. >hen a partner ,uits there is a dissociation2. $he re+aining partner can either uy out the

,uitting partner or !ind up the usiness

Chapter 2: Running a Corporation

1. Pro+oter9s liaility

a. Pro+oter: so+eone !ho organi0es a corporationi. pro+oter is liale #or any contract he signs e#ore

the corporation is #or+edii. 7oation: a ne! contract !ith the corporation alone

2. "ncorporation Processa. o+estic corporation' in the state it incorporates

i. $ypically pay )ling #ees and #ranchise ta&es in theirstate o# incorporation plus in any state they dousiness

ii. Many corporations choose el!are1. La!s #aor +anage+ent

2. n e4ectie court syste+6. 3stalished ody o# precedent

6. $he Chartera. "t de)nes the corporation/ including eerything #ro+ the

co+pany9s na+e to the nu+er o# shares it !ill issue. Corporation is re,uired to gie its purpose #or e&istencec. Stock in#or+ation

i. Par alueii. 7u+er o# sharesiii. Classes and series

=. #ter "ncorporation

a. irectors and O?cersi. $he incorporators elect the )rst set o# directors/ and

therea#ter the shareholders !illii. t least 1 director is needed unless shareholders

eli+inate the oard/ or has @A or #e!er shareholders. Byla!s: list all the housekeeping details #or the corporationc. "ssuing et

i. Bonds: long'ter+ det secured y co+pany assets



ii. eentures: long'ter+ unsecured detiii. 7otes: short'ter+ det

@. eath o# the Corporationa. Piercing the Corporate eil

i. $he court !ill hold shareholders personally liale #or

the dets o# the corporation . $his happens in =circu+stances1. 5ailure to osere #or+alities: i# the corporation

does not act as a corporation2. Co++ingling o# ssets: +i&ing personal assets

!ith corporate assets (using corporate assetsto pay personal dets*

6. "nade,uate capitali0ation: i# the #ounders areunale to raise enough capital to gie theusiness a )ghting chance o# paying its dets

=. 5raud

ii. $er+ination1. <ote: $he directors reco++end shareholders

that the corporation e dissoled and the+a8ority agrees

2. 5iling: corporation )les articles o# dissolution!ith the secretary o# state

6. >inding up: $he o?cers o# the corporation payits dets and distriute the re+aining propertyto shareholders

. $he Role o# Corporate Manage+enta. s +anagers o# the corporation/ directors hae i+portant

responsiilities to shareholder and stake holdersi. Stakeholders: e+ployees/ custo+ers/ creditors/

suppliers/ and neighors. Managers hae )duciary duty to act in the est interest o#

the corporation9s shareholdersi. Must +a&i+i0e shareholder9s aule

. $he Business Dudge+ent Rulea. $o e protected y the usiness 8udg+ent rule/ +anagers

hae to act in good #aithi. uty o# Loyalty: !ithout a con%ict o# interest

. uty o# Care

i. >ith the care o# that an ordinarily prudent person!ould take in a si+ilar situation

ii. "n a +anner they reasonaly eliee to e in the estinterest o# the corporation

c. "# +anagers co+ply !ith the 8udg+ent usiness rule acourt !ill not hold the+ liale #or any har+ their decisionscause the co+pany/ nor !ill the court rescind theirdecisions



d. "t acco+plishes 6 goalsi. "t per+its diretors to do their 8oii. "t keeps 8udges out o# corporate +anage+entiii. "t encourages directors to sere

E. uty o# Loyalty: prohiits +anagers #ro+ +aking decisions that

ene)ts the+ at the e&pense o# the corporationa. Sel#'ealingi. +anager +akes a decision ene)ting hi+sel# or

another co+pany !hich he has a relationship !ithii. Sel#'ealing is only alid i#:

1. $he disinterested +e+ers o# the oard o#directors approe the transaction

2. $he disinterested shareholders approe it6. $he transaction !as entirely #air to the

corporation. Corporate Opportunity

i. "t prohiits +anagers #ro+ e&cluding the co+pany#ro+ #aorale deals

ii. Managers are in iolation o# the corporateopportunity i# they co+pete against the corporation!ithout its consent

F. uty o# Carea. Rational Business Purpose. Legalityc. "n#or+ed ecision

1A. $he Priate Securities Litigation Re#or+ ct o# 1FF@a. Co+panies are liale to shareholders #or so called #or!ard

looking state+ents only i#:i. $he co+pany #ails to include a !arning that the

predictions +ay not co+e to passii. $he shareholders can sho! that the co+pany

e&ecuties kne! the predictions !ere #alse11. "nsider trading

a. "s a cri+e punishale y )nes and i+prison+ent. 5iduciary uty

i. ny corporate insider !ho trades !hile in possessiono# nonpulic +aterial in#or+ation in iolation o# his)duciary duty to his co+pany is liale

c. Misappropriationi. nyone !ith +aterial non'pulic in#or+ation/ !ho

reaches a )duciary duty to the source o#in#or+ation y reealing or trading on it is liale #orinsider trading

d. $ippeesi. nyone !ho reeals +aterial non pulic in#or+ation

in iolation o# his )duciary duty is liale i# he kno!



the in#or+ation he has is con)dential and hee&pected so+e personal gain

e. Saranes O&ley: a+end+ent to the 1F6= cti. Re,uires co+panies to disclose i# they hae an ethics

code and/ i# they do not/ !hy

ii. "+poses )nes and i+prison+ent on anyone !hointere#eres !ith a #ederal inestigation into #raudiii. Per+its an e+ployee !ho lo! the !histle on a

securities la! iolation to sue the co+pany i# itretaliates against the e+ployee. SO also +akers it acri+e to retaliate against so+eone !ho lo!s the!histle on any #ederal o4ense

i. 3stalishes a ne! Pulic Co+pany ccountingOersight Board to oersee the auditing o# reportingco+panies

#. odd'5rank

Chapter 6: O!ning a Corporation

1. $he Role o# Shareholdersa. Rights o# Shareholders

i. Shareholders hae neither the right nor the

oligation to +anage the day'to'day usiness o# theenterprise

ii. Right to in#or+ation: shareholders hae the right toinspect and copy the corporation9s +inute ook/accounting records/ and shareholder lists

iii. Right to <ote: corporation +ust hae at least oneclass o# stock !ith oting rights

1. Pro&ies: shareholders can appoint so+eoneelse to ote #or the+

2. Shareholder proposals: any shareholder !hohas continuously o!ned #or one year at least

1H o# the co+pany or 2AAAI o# stock canre,uire that one proposal e placed in theco+pany9s pro&y state+ent to e oted on atthe shareholder +eeting

6. 3lection and Re+oal o# directorsa. 7o+ination oard produces the list o#

directors the shareholders can ote on



. Plurality ote: si+ply need to receie+ore otes than other candidates

=. "ndependent irectorsa. ll +e+ers o# a oard9s audit

co++ittee +ust e independent and at

least one o# these +e+ers +ust e)nancial e&pert. "ndependent directors +ust co+prise a

+a8ority o# the oardc. $hey +ust +eet regularly on their o!n

!ithout inside directorsd. Only independent directors can sere on

audit/ co+pensation/ or no+inatingco++ittee

e. udit co++ittees +ust hae at leastthree directors !ho are )nancially

literatei. Co+pensation #or O?cers and irectors'$he Prole+

1. Stock Optionsa. Pay #or per#or+ance plans/ ut it eca+e

a head/ " !in/ tails/ you lose2. $er+ination/ Retire+ent plans/ and death

ene)ts6. Laish perks=. irectors/ not shareholders set e&ecutie

co+pensation@. Shareholders ear the risk

. Bench+arking ga+es. $he C3O gets all the creditsE. $he Busier the directors/ the higher the

e&ecutie payF. Most e&ecuties are aoe aerage1A. Co+pensation consultants o#ten hae

con%icts o# interest. $he solution

1. Pro&y Rulesa. Re,uire +ore in#or+ation on e&ecutie

co+pensation

. >hy option grants !ere approedc. iscourage e&ecuties #or taking

e&cessie risks2. SO

a. 7o personal loans to directors or o?cers. Cla!'ack proision

6. odd'5rank



a. Co+pensation co++ittees co+prisedsolely o# independent directors i# theco+pany is on the stock e&change

. Cla! ack proision e&tended #or 6 yearsc. Re,uires say on pay'noninding

shareholder ote on e&ecutieco+pensation=. 3+erging Gro!th Co+panies

a. Du+pstart our usiness startup act. Say on pay and the disclosure o#

e&ecutie co+pensation do not apply toe+erging gro!th co+panies

i. "t has annual gross reenues o# lessthan 1 illion

ii. "ts stock has een pulicly traded#or less than @ years

iii. "t has issued less than AA +illionin pulicly traded stock

i. "t has issued less than 1 illion inconertile det in a three yearperiod

@. 5unda+ental Corporate changesa. corporation +ust seek shareholder

approal e#ore undergoing any o# the#ollo!ing #unda+ental changes: a+erger/ a sale o# +a8or assets/dissolution o# the corporation/ or an

a+end+ent to the charter. Right to issent

a. Re,uires the co+pany to uy ack thestock o# any shareholder !ho o8ect to+a8or +ergers and changes at #air alue#or the stock

. Right to Protection #ro+ other shareholdersa. nyone !ho o!n enough stock to control

a corporation has a )duciary duty to+inority hsareholders

. 3n#orcing Shareholder Rights

i. eriatie La!suits: rought y shareholders tore+edy a !rong that has een co++itted againstthe corporation

ii. $hey hae the right to )le suit on ehal# o# thecorporation !ithout )rst seeking the approal o# theoard i# de+and !ould e #utile

1. e+and is considered to e #utile i# thedirectors iolated the duty o# care or the duty



o# loyalty that are re,uired y the usiness 8udg+ent rule

iii. irect La!suits1. Shareholders are per+itted to sue the

corporation directly only i# their o!n right hae

een har+edChapter =: Real Property1. 7ature o# Real Property

a. Land: usually also includes anything underground/ andso+e a+ount o# airspace aoe land

. Buildings: Jouses/ o?ce uildings/ apart+ent co+ple&es/and #actories all #all in this category

c. Plant li#e: plant li#e is auto+atically included !hen a saleo# property occurs i# not other!ise stated/ selling plant li#e!ithout land is a sale o# goods

d. 5i&tures: goods that hae eco+e per+anently attached

to real property2. 7on'possessory "nterest

a. 3ase+ents: gies one person the right to enter landelonging to another and take so+ething a!ay

. License: gies the holder te+porary per+ission to enteranother9s property (uying a ticket*

c. Mortgage: a security interest in real property6. Land se Regulation

a. 7uisance La!i. 7uisance: an unpriileged inter#erence !ith a

person9s use and en8oy+ent o# her property

. Koningi. Koning statutes are state la!s that per+it local

co++unities to regulate uilding and land use1. <ariance: e&ception granted #or special

reasons uni,ue to the propertyc. 3+inent o+ain

i. 3+inent do+ain: the po!er o# the goern+ent totake priate property #or pulic use

1. Conde+nation: a court order speci#ying !hatco+pensation is 8ust and a!arding title to thegoern+ent

=. Landlord'$enant La!: >hen an o!ner o# a #reehold estate allo!sanother person te+porary/ e&clusie possession o# the property/the parties hae created a landlord'tenant relationship

a. Reisionary interest: the right to possess the property!hen the lease ends

. lease is a contract that creates a landlord'tenantrelationship

c. Lease



i. $he statue o# #rauds generally re,uires that a leasee in !riting

ii. Coenant: a pro+ise to do so+ething or re#rain #ro+doing so+ething

iii. Condition: si+ilar to a coenant ut it allo!s the

landlord to eict the tenant i# it is iolatedd. $ypes o# $enancyi. $enancy #or ears

1. ny lease #or a stated/ )&ed period. tenancy#or years ter+inates auto+atically !hen theagreed period ends

ii. Periodic $enancy1. created #or a )&ed period and then

auto+atically continues #or additional periodsuntil either party noti)es the other o#ter+ination

2. +ost co++on ariety o# tenancyiii. $enancy at >ill

1. Jas no )&ed duration and +ay e ter+inatedy either party at any ti+e

2. 7o speci)ed ti+e and pay+enti. $enancy at Su4erance

1. Occurs !hen a tenant re+ains on thepre+ises/ against the !ishes o# the landlord/a#ter the e&piration o# a true tenancy

e. Landlord9s utiesi. uty to delier possession: $he landlord9s )rst

i+portant duty is to delier possession o# thepre+ises at the eginning o# the tenancy

ii. uiet 3n8oy+ent: all tenant are entitled to ,uieten8oye+net o# the pre+ises/ +eaning the right touse the property !ithout the inter#erence o# thelandlord

iii. ctual 3iction: "# a landlord preent the tenant #ro+possessing the pre+ises he has actually eicted her

1. s long as the landlord continues partial orco+plete eiction the tenant is not oligatedto pay rent or the co+plete alue o# the rent

i. Constructie eiction1. "# the landlord sustantially inter#eres !ith the

tenant9s use and en8oy+ent o# the pre+ises/he has constructiely eicted her

2. $o clai+ constructie eiction the tenant hasto acate the pre+ises and proe that theinter#erences !as serious and lasted longenough that she !as #orced to +oe out



#. uty to Maintain Pre+ises: "n +ost states/ a landlord has aduty to delier the pre+ises in a haitale condition and acontinuing duty to +aintain the haitale condition

i. Lease: the lease itsel# generally oligates thelandlord to +aintain the e&terior o# any uildings

and the co++on areasii. Building Codes: +ini+u+ standards #or co++ercialand or residential property

1. Mini+u+ roo+ si0e2. Su?cient hot !ater6. Secure locks=. Proper !orking kitchens and athroo+s

iii. "+plied >arranty o# Jaitaility1. Re,uires that a landlord +eet all standards set

y the local uilding code/ or that the pre+isese )t #or hu+an haitation

a. Rent aate+ent: a reduction in the rento!ed can e declared i# the i+plied!arranty is not +et

i. uty to return security deposit. Landlord9s re+edies #or 7onpay+ent o# Rent

1. pply security deposit on unpaid rent2. Sue the tenant6. 3ict the tenant

i. uty to Mitigate: keep losses to a +ini+u+1. nder contract la!/ the non reaching party

+ust +ake a reasonale e4ort to +ini+i0e

lossesii. uty to use pre+ises #or proper purposeiii. uty not to da+age pre+ises: a tenant is liale to

the landlord #or any signi)cant da+age he causes tothe property

i&. uty not to distur other tenantsg. "n8uries

i. $enant9s Liaility1. tenant is generally liale #or in8uries

occurring !ithin the pre+ises she is leasing.ii. Landlord9s Liaility: Co++on La! Rules

1. Latent e#ects: "# the landlord kno!s o# adangerous condition on the property andreali0es the tenant !ill not notice it/ thelandlord is liale #or any in8uries

2. Co++on reas: landlord is usually responsile#or +aintaining co++on areas/ and along !iththis oligation +ay go liaility #or torts



6. Pulic use: i# the pre+ises are to e used #or apulic purpose/ such as a store or o?ce/ thelandlord is generally oligated to repair anydangerous de#ects/ although the tenant !ill eliale as !ell.

h. Modern $rendi. "n +any states/ a landlord +ust use reasonale careto +aintain sa#e pre+ises and is liale #or#oreseeale har+.

ii. "n +any states a landlord is no longer saed #ro+negligence suits +erely y giing notice o# de#ects'he has to )& the+

Chapter @: Personal Properties: Goods

1. 7ature o# Salesa. sale o# good is de)ned as trans#er o# title to tangile

personal property #or a pricei. Su8ect +atter o# sales

1. Goods/ as de)ned under the CC/ consist o# all#or+s o# tangile personal property/ includingspecially +anu#actured goods'

2. 7ature o# goods: not only contracts #or the saleo# #a+iliar ite+s o# personal property/ ut alsothe trans#er o# co++odities/ such as oil/gasoline/ +ilk and grain

6. 3&isting and #uture goodsii. Sale istinguished #ro+ Other $ransactions

1. Bail+ent: only possession is trans#erred/ utnot title

2. Gi#t: #ree trans#er o# the title to property6. Contract #or serices: not a sale o# goods and is

not coered under article 2=. Contract #or goods and serices: i# the goods

+ake up the do+inant ele+ent o# the contract/then the parties rights are deter+ined underarticle 2

2. Leases o# Goodsa. Consu+er lease: is +ade y a +erchant lessor regularly

engaged in the usiness o# leasing or selling the kind o#goods inoled

i. consu+er lease is +ade to a natural personal !hotakes possession o# the goods pri+arily #or personal/#a+ily/ or household use.

. Co++ercial lease: non'consu+er leasec. 5inance lease: is a three party transaction inoling a

lessor/ a lessee/ and a supplier



d. 5or+ o# Lease Contract: +ust e eidenced y a record i#the total o# the pay+ents under the lease !ill e 1AAAI or+ore. $he record +ust e authenticated. $he record +ustdescrie the leased goods/ state the ter+ o# the lease/ andindicate that a lease contract has een #or+ed.

e. >arranties#. e#ault6. "denti#ying types o# potential prole+s and transactions

a. a+age to Goodsi. Must the seller ear the lossNii. Buyers lossNiii. >hat liaility does the carrier haeNi. >hose insurance co+pany paysN

. Creditors clai+si. $he uyer9s creditors +ay sei0e the+ ecause they

eliee the+ to e the uyer9s

c. "nsurancei. "nsurale interest: once uyers hae an insurale

interest in goods that are the su8ect +atter o# theircontracts/ they hae the right to otain insuranceand can su+it #or losses on the goods

=. eter+ining Rights: "denti)cation o# Goodsa. "denti)cation o# the goods to the contract is a necessary

step to proide the uyer an insurale interest. 3&isting Goodsc. 5uture goodsd. 5ungile goods are goods that/ !hen +i&ed together/ are

indistinguishalee. 34ect o# identi)cation

Managing Legal Risk

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