Perino_BusOrg_Spring_2010
BasicConcepts
Sole Proprietorship
A business defined by: one owner who is the sole decision-maker, market transactions, self-performed labor and contractual relationships. All profits, all decisions, and all liabilities are the purview of the sole proprietor. This is not a business organization because the hallmark characteristic of a business organization is employees.
Purpose of Biz Org Law
It is important to know the relative rights and duties of the owners of a business and answers to questions such as: Are your own personal assets at risk? How will the work be divided?, etc. Biz Org. law provides a set of answers to questions like this.
State law provides a number of different business organization forms into which a venture can be organized.
It may be a good idea to hammer out all of these problems in advance, but you don’t have to. Biz org law provides answers that generally fit businesses of different types. These are off-the-rack solutions. A lawyer can tailor the organizational rules provided by statute to fit a particular business.
Biz Org law responds to and protects the reasonable expectations of those who jointly own firms.
Two types of Biz Org Rules:
Mandatory: Applies to every organization no matter what. Most rules are not mandatory.
Default: Rules that apply unless the parties contract otherwise.
Investing in Business
There are 2 things you can invest in business
Money
Human Capital: Time, experience, expertise
Risk & Return
In general, rational people invest their money and human capital for the greatest return
Expected Return
Expected return is an evaluation of the likely return from a particular investment based on the probabilityof each possible outcome for that investment. Risk in investment boils down to the principle that the actual return can vary from the expected return.
Possible Return x Probability = Expected Return
· Almost all investments can vary between expected return and actual return. Theone exception would be a treasury bill. Since the Federal government has neverfailed to pay, it is a risk free investment where the expected and actual returns are always the same.
· Whether a person is willing to accept a particular risk is based on the individual’s personality and risk tolerance: Risk averse, risk neutral, or risk preferred.
· If you have a riskier investment opportunity, you will have to provide a higher return in order to entice people to invest in it.
Transaction Costs & Considerations of the Corporate Planner
Different business structures have different risks and different costs. A lawyer assists his client by looking for the organizational form that is most efficient for the client, in that it reduces transaction costs. A transaction cost is the cost of getting things done.
Bounded Rationality: “You don’t know what you don’t know.” A person can’t consider every contingency in making and structuring an investment. A lawyer helps clients foresee contingencies that they may not see and helps structure the organization to protect from these contingencies.
Opportunism: People will act in their own best interest. A lawyer may be able to foresee the risks associated with people acting opportunistically. The Biz Org lawyer’s responsibility is to assess and limit the chances of opportunistic behavior.
Team Specific Investment: Investment is team specific if and to the extent that the investment has a lesser value if re-developed outside the team.
EXAMPLE: Rail line, Coal Mine and Con Ed power plant. All exist to serve one another. Each is not worth as much without the involvement of the other two entities. The total value of the assets in their separate uses is much lower than their value when jointly used. Since each of these entities is separately owned, there is a potential for opportunistic behavior.
Choice of Organizational Form
Implicit Team
There is no legally enforceable agreement governing the working relationship of an implicit team. Such a team maximizes each team member’s flexibility.
If the arrangement is not a team specific investment, there is no threat of opportunism because each team member could do the same business with someone else. The less team specific the investment, the less the risk of opportunistic behavior. If, however, there is a team specific investment, team members can engage in opportunistic behavior toward each other.
Protections for Parties in an Implicit Team
Discrete Contracts: The parties decide at the outset what rights and responsibilities the parties have, attempting to account for all contingencies. But it is hard to predict these contingencies because of bounded rationality. These work well in short-term situations, but generally work poorly in long-term situations. There is still a possibility of opportunistic behavior. One of the parties could hold the other to the contract even though he is suffering under some changed circumstance. A discrete contract doesn’t eliminate opportunistic behavior, but it changes the type of opportunistic behavior
Relational Contracts: A contract where every possible contingency is not hammered out in advance, but a governance structure is put in place to resolve potential disputes between the parties. The goal is to have future adaptation crises resolved amicably. The notion behind such contracts is that the relationship is more valuable than any single opportunistic goal by either party.
Why a firm?
To provide incentives for parties in a business arrangement not to act opportunistically, however, as the chance of opportunistic behavior is reduced, autonomy is sacrificed.
The Law of Agency & The Concept of Fiduciary Duty
Restatement of Agency
§ 1 Definition of Agency COMMUNITY COUNSELING
An agency is a relationship between 2 people: The Principle and the Agent. This relationship is formed through mutual consent. The consent can be informal or formal, express or implied. The agent consents to act on behalf of the principle. The principle controls the relationship. Agency is a fiduciary relationship limiting the agent’s right to act. Most common agency relationship: Employer/Employee.
§ 388 Duty to Account for Profits COMMUNITY COUNSELING
Default rule (unless otherwise agreed). An agent who makes a profit from transactions conducted on behalf of the principal is under a duty to account for such profit to the principal.
Community Counseling v. Reilly:
Ø Facts: After submitting a letter of resignation, but while still employed by Community Counseling Service, Inc. (CCS) (P), Reilly (D) solicited three potential CCS (P) clients for himself.
Ø RULE OF LAW Prior to severing the employment relationship, an employee cannot solicit for himself future business which his employment requires him to solicit for his employer.
Hamburger v. Hamburger:
Ø Facts: While employe
§ SECTION 35 allows actions by the agent that are incidental to or usually accompanied by acts for which the agent has actual authority. Example: if an agent has the authority to sell the principle’s car, section 35 would allow the agent to authorize test drives.
§ 34: All other matters throwing light upon what a reasonable person in the position of the agent at the time of the acting would consider to be given due weight.
Past acquiescence by the principal may be considered by the agent in reasonably determining what her authority is, even if it goes beyond what would normally accompany the transaction for which there is actual authority.
All reasonable factors are to be considered in determining an agent’s actual authority. Section 34 allows the agent to consider: the specificity of the principal’s instructions, previous acts of the principal and agent, common practices, etc.
(2) Apparent Authority §8
Apparent authority binds the principal to actions outside the zone of actual authority. With apparent authority there seems to be some core of actual authority, but the action extends beyond the scope of the actual authority. If the principal seems to indicate that the agent actually has authority, even if they don’t, we want to be able to protect the third parties reasonable expectations. §27 provides that apparent authority is created by:
· the apparent principal’s objective manifestation
· which reaches a third party
· who reasonably believes that the apparent agent is indeed authorized to act for the apparent principal
When a third party relies to its detriment on an objective manifestation of apparent authority by the principal, the principal bears the loss when the agent is acting beyond the scope of his actual authority, yet within his apparent authority. So long as the 3d party has not acted unreasonably, any loss that the agent has created is imposed on the principal.
The manifestation must be from the principal to the third party; therefore the agent’s statements cannot give rise to apparent authority. Such statements may be considered, but apparent authority must ultimately rest on manifestations by the principal.
In order to further protect third parties, the courts expanded the boundaries of apparent authority (BLACKBURN V. WITER “The widow Blackurn”) which led to the establishment of the Inherent Authority.
Blackburn v. Witter
Ø FACT SUMMARY: Blackburn (P) brought this action to recover financial losses suffered due to a fraudulent investment recommended by her financial adviser while he was employed by Walston (D) and by Witter (D).
Ø RULE OF LAW A principal who puts an agent in a position that enables the agent, while apparently acting within his authority, to commit a fraud upon third persons is subject to liability for the fraud.
(3) Inherent Authority § 8(a)
