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Business Associations II
University of Kansas School of Law
Hecker, Edwin Webb

HECKER
BA2
Spring 2011
 
CLOSE CORPORATIONS
Close corporation. A small number of people own all the stock in a corporation.
                                                               i.      Special problems. Three problematic characteristics of the close corporation:
1.       Static SHship. If you own a small amount of stock and a closely nit group owns the majority, it is likely you will always be in the minority. It is easy to suppress the perennial minority.
2.       No market for shares. Because there are relatively few shs, you don’t have the ready escape of being able to sell your shares on the market bc theres no market.
3.       Sh employment. Commonly, many of the people invested in a close corp work there and receive a salary.  If you are in the minority and are fired, you could end up getting nothing because the maj could refuse to declare dividends and you would no longer be receiving salary.
Cumulative voting. Cum voting is the exception to the rule and has to be authorized/provided for in the COI. It allows you to lump all voting shares together and apply them towards one candidate for directorship. This provides opportunity for minority representation on the BOD. DGCL § 214
                                                               i.      Equation. To determine how many votes a minority shareholder needs to get directors elected, apply the following equation:
                                                              ii.       
Protecting Cumulative Voting.
                                                               i.      Preemptive protection.
1.       BOD protection. The min SH could negotiate for a super maj vote req for all director action in the COI.  The vote req. would need to be great enough to ensure that he alone could veto all action (i.e., possibly a unanimous vote). 
2.       Sh protection. He also might want to include a super majority req for sh action that would also allow him to have veto power assuming he could prevent more shares of stock from being issued.
                                                              ii.      Problems arising with NO preemptive protection.
1.       Cannot be protected.
a.       Repeal of cumulative voting. Because cumulative voting is authorized in the COI, it can be repealed by the joint sequential function outlined above (i.e., requires majority of quorum for BOD followed by absolute majority of shareholders). DGCL § 242(b)(1)
b.       Executive committee.  The BOD may designate committees to consist of one or more directors and each committee can exercise all powers of the BOD except the “big four” joint sequential powers and by-law amendment.  The committees are created by BOD resolution which only requires a majority of the quorum. DGCL § 141(c)(2)
c.        Classifying the BOD. Dividing the BOD into classes with overlapping temrs reduces the number of directors up for election in any given year (i.e., reduces the denominator in the fraction above). Classifying the board can be done by: (1) initial by-laws before stock is sold—inapplicable; (2) amendment to the COI—requires majority of quorum for BOD followed by absolute majority of shareholders; and (3) shareholder adopted by-law—requires maj of quorum. DGCL § 141(d)
d.       Change size of BOD. Lowering the number of directors on the BOD reduces the number up for election in any given year (i.e., reduces the denominator in the fraction above). The size of the board is set in either the COI or by-laws and as long as the maj is cohesive, they can change either document through joint sequential action or SH or director by-law (assuming BOD has by-law power). DGCL § 242(b)(1) or § 109(a)
e.        Issue more shares of stock. Assuming the minority SH could not maintain the equal ownership percentage, issuing more stock would raise the multiplier in the equation above.  Issuance of stock is a board function up to the number authorized and they have discretion to decide who to sell it to.  DGCL § 141(a) Unless the minority SH has a legally protected right to insist that they sell stock to him, they can say no. The COI may contains such a provision, but is not req to. DGCL § 102(b)
2.       Capable of Protection.
a.       Removal of minority BOD representation.  When cumulative voting is authorized in the COI, if less than the entire BOD is being removed, no single director may be removed without cause if the votes cast against such director’s removal would be sufficient to elect such director if then cumulatively voted. DGCL § 141(k)(ii)
                                                                                                                                       i.      This basically means the person who elected the director would also have to vote for the removal.
I.  CLOSE CORPORATIONS
introduction-review from BA i
Cumulative voting. Cum voting is the exception to the rule and has to be authorized/provided for in the COI. It allows you to lump all voting shares together and apply them towards one candidate for directorship. This provides opportunity for minority representation on the BOD. DGCL § 214
                                                               i.      Equation. To determine how many votes a minority shareholder needs to get directors elected, apply the following equation: Agreements Restricting Shareholder Action
Cumulative Voting: (# of directors you want to elect / total # of directors to be elected +1 * total # of shares voting) + 1 = shares needed to elect director
A 300 shares & director
B 300 shares & director
C 300 shares & director
                                                               i.      900 shares & 3 directors
                                                              ii.      (1/3 + 1 * 900) +1 = 226
                IF a and b want to form alliance to vote stock as SH, and elect DIR. (1)
then extend alliance to dir conduct. (2)
AGREEMENTS RESTRICTING SHAREHOLDER ACTION
Ringling Facts Ringling Bros. v. Ringling
                                                               i.      Ringling owns 315, Haley owns 315 and North owns 370.  BOD=7; SO Quorum (AS MAJ OF DIR)=4. But theres cum voting here.
                                                              ii.      Assuming that two minority shareholders want to create voting coalition, as long as they agree on how to vote they don’t need anything to bind them. 
                                                            iii.      What if worried about backsliding?
1.       Voting trusts—A and B each have both legal and beneficial title to their stock.  Have control, return, and risk.  Transfer stock into trustee’s name so that if SH mtg notes get sent to voting trustee. Voting trustee is typically not a benefiting owner and distributes to original SHs.  Vote stays in trust.  separates vote from beneficial ownership.  Stock subject to it will be voted as a block.  = device by which SHs separate the voting rights in and legal title to their share from the beneficial ownership of ths shares.
a.       Main distinction b/w voting trust and simple pooling agreement is whether the stock will always be voted as a block no matter what.  Yes = voting trust; no = pooling agreement.  IN VT YOU AGREE TO AGREE, NOT HAVE AN ARBITRATOR
b.       ALL BIZ has RISK, RETURN and CONTROL – VT seperates the CONTROL/VOTING element in stock  IN VT as long as trust is enforced, trustee is the holder of the stock so in mtgs, notice is to trustee, divs go to trustee.  The ECON belongs to transferee but the partner is still the partner. BUT he doenst have his pocketbook at stake in the decisiosn he makes.
c.        Distinction b/t Pooling K and Voting Trust? Not a v.t. if:
                                                                                                                                       i.       no proxies to vote other's shares
                                                                                                                                      ii.      no specific enforcement
                                                                                                                                    iii.      if court's rem is only to throw out the breaching party's votes.
d.       Is a v.t. if:
                                                                                                                                       i.      provides for judicial enforcement
                           

g Pooling Agreement – go over this
                                                               i.      SC- said no express or implied proxy in the K (THEY did not have a proxy to vote the haleys stock- not who they agreed to vote).  Not the function of a court to re-write K's after the fact to imply a proxy parties never thought about bargaining for.
1.       Relief:   
a.       no specific enforcement
b.       throw out the breaching party's (HALEYS) votes!
                                                                                                                                       i.      not effective relief b/c the  stock is not voted as a block.  Ringling wins the battle but not the war!  North has too many votes for Ringling to get a majority. 
                                                              ii.      Invitation to Make it Self-Enforcing – TO AVOID result, make proxies express.
1.       Put the proxy expressly in the K!
a.       if disagreement, to arbitration
b.       if 1 not willing to follow arbitrator's decision, other can vote all shares.
2.       “When a voting agree specifies how to vote shares, in case of breach, agreement shall be deemed to constitute an irrevocable proxy to the parties not in breach to vote all share sub to the agreement in accord with terms of the agree.”
Abercrombie Accepts Invitation – has express proxy – is a VT.
                                                               i.      Same kind of case as Ringling, but it contained a proxy agreement (irrevocable).  S/h’s appointed agents.  Shares were voted how a majority of the agents decided.  However, the agents had to vote how the s/h told them to.
1.       corp with 5 SH ea holding 300 shares. Any 3 could vote dir. each get an agent and make proxy that says all 800 shared in pool will be voted as SHs agree and proxy is irrevocable and j and s (even if one says he wont vote shares, others can vote them).  One file saying agree is invalid. It’s a vt in substance – and no vt statute reqs.
                                                              ii.      Court – invalid agree.  It is essentially a v.t., but agreement doesn’t comply w/ statute
                                                            iii.      B/c K contained express proxy, it is a VT in substance and must comply with the v.t. statute to be valid!
1.       HAD all VT elements 1) voting rights of pooled stock have been divorced from beneficial ownership, which is retained by S2) voting rights transferred to fiduciaries 3) transfer of rights in medium of irrevoc proxies effective for 10 yrs4) all voting rights are pooled in the agents as a group, though the device of proxies running to agents joint and severally and no SHs retains right to vote his shares 5)on its face the agree has for its principal object voting control.  
Ringling/Abercrombie Conundrum
                                                               i.      Pooling agreements can never be valid and effective! Its unenforceable
                                                              ii.      If put them together can have validity and effectiveness but can never have both. 
DGCL § 218-Voting Trust Statute – NO time limit anymore in KS or De
                                                               i.      DGCL §218(a):  Authorized voting agreements.  Formal requirements: