Corporations Outline
I. Sarbanes-Oxley – passed in reaction to breakdown of financial accounting and corporate accountability in the wake of financial scandals (2000)
a. Motivation for fraud
i. If the companies “numbers” are good then the stock price goes up
ii. Incentive to put out good numbers to increase stock price
iii. Often managers receive cash bonuses for delivering good numbers
iv. Managers may also cash in by exercising options and selling stock
b. Types of fraud
i. Off-balance sheet – move liabilities off its balance sheet through a complicated series of steps
1. May have some thread a legitimacy at each step
2. Overall result clearly misrepresented the company’s financial state
ii. Profit inflation – hide costs so that the company would meet its earnings targets and stock price will rise
iii. Usually comes down to misrepresenting financial condition as better than it is or misappropriating company for private gain
c. Intent of Sarbanes-Oxley
i. Clarify certain responsibilities of auditors, company management, and boards and audit committees and impose new process and responsibilities on these parties
ii. Companies must disclose if their audit committee had an audit committee financial expert
1. Members must have a certain degree of financial literacy
iii. Section 404 – company must evaluate its own internal controls with a set of procedures that both evaluate the design of those controls and test their operating effectiveness
iv. CEO and CFO must attest to the accuracy of the audit under threat of criminal liability
II. The Role of Corporations
a. Legal entity created under authority of the legislature
b. Responsible for its own debts
c. Shareholder liability is limited to the amount of their investment
d. Management and control are centralized in a board of directors
i. Shareholders elect board
ii. Cannot directly control the activities of the board
e. Perpetual duration – survives even after shareholder or director death or incapacity
III. What does a lawyer for a business do?
a. Help the business make money
b. Help business owner get money from the business
c. Help the business and its owner protect money from the claims of others
IV. Choice of Entity
a. The Legal Structures of Businesses
i. Sole Proprietorship
1. Oldest and simplest form of organization
a. Person undertakes a business without any of the formalities associated with other forms of organization
b. The individual and the business are one of the same for tax and legal liability purposes
2. Does not pay tax as a separate entity
3. Earnings of the business are taxed to the individual regardless of whether they are actually distributed in cash
4. No vehicle for sheltering income from tax
5. Legal claimants pursue all assets of the owner, not simply the assets used in the business
ii. Partnership
1. General Partnership
a. Consist of two or more owners
b. Treated like proprietorship for tax and liability purposes
c. Taxes paid only at the personal level on the partner’s share of that income
i. Pass-through taxation
d. Injured claimant may pursue one or more of the partners for any amount
2. Limited Partnership
a. Hybrid form of organization
b. Like partnership for tax purposes
c. Like corporation for liability purposes
d. Has both limited and general partners.
i. General partner assumes the management responsibility and unlimited liability for the business
ii. Limited partner has no voice in management and i
ii. Articles of incorporation, bylaws and other agreements – take precedent over default rules in the law, but if are silent then the default rule applies
iii. Case law
1. Cases interpret and apply the provisions in corporate states and in a corporation’s articles and bylaws
2. Fills in the gap in the law
iv. Federal statutes – no federal corporation statutes
1. Important statutes that govern certain corporate activities – sales of stocks and securities, tender offers and other forms of corporate acquisitions
b. Incorporation Procedures
i. Necessary papers – articles of incorporation properly executed and filed (usually with the Secretary of State) – MBCA §2.02(a)
1. Corporate codes not required to have bylaws – MBCA §2.06(b)
2. If there are bylaws – no requirement to file them
ii. Need incorporator
1. Gets corporation started but usually doesn’t have much of a relation w/corporation afterwards
iii. Formal existence
1. Once articles of incorporation files, corporation legal
2. Often done by incorporator
iv. Articles of Incorporation
1. Like a charter
v. After filing, meeting of organization
1. Incorporators elect interim directors
2. Doesn’t have to be physical meeting
3. Issue shares to investors
4. Adopt bylaws
c. Promoter Liability
i. Promoter – a person or an entity who takes active steps in the formation, organization, or financing of a corporation
