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Business Associations
University of North Carolina School of Law
Coyle, John F.

Coyle – Business Associations – Fall 2012

Introduction to Corporate Law

Three differences between corporate lawyers and litigators:

1. Thinking styles

a. Corporate lawyers think prospectively, looking to make something work going forward

b. Litigators think retroactively, trying to clean up something that has already been done

2. Relationships

a. Adversarial relationship (litigators): “I win, you lose”

b. Arms-length relationship (corporate lawyers): implies that both sides gain from a relationship

3. Clients

a. Corporate lawyers have more active clients

b. Litigators deal with more passive clients

Roles of lawyers in general:

1. Counselor – transactions, corporate elections

2. Conciliator – same as facilitator

3. Facilitator – negotiate on behalf of client or sit passively as client negotiates; regulatory compliance

4. Guardian – protects clients, can withdraw, “up the ladder” reporting

Corporation structure:

· Shareholders elect board to govern the corporation

· Board hires officers to run the corporation at a high level

· Officers in turn hire employees for day-to-day work

Agency

Agency relationship: “Agency is the fiduciary relationship that arises when one person, the principal, manifests assent to another person, the agent, that the agent shall act on the principal’s behalf and subject to that person’s control, and the agent manifests assent or otherwise consents to act.” – Restatement of Agency (Third)

Agency costs: all of the problems and solutions involving agency relationship

Problems ex ante vs. ex post

· Ex ante problems: looking at how a rule will affect someone’s behavior before we know the behavior

o Ex. create a speed limit to reduce speeding incidents and car accidents; drunk-driving law

o Imperfect information

§ Use signaling to determine someone’s behavior/habits before we see them in action

§ Signaling: references, reputation, job fair/clearinghouses

· Ex post problems: we know how someone has behaved and how the law will deal with the behavior after it has been executed

o Ex. if your car crashes into another car, the person you hit can sue you for damages (know how the law will handle that)

o Problems which occur after the agency agreement is made

o Moral hazards

§ The risk that a party with discretion to act will choose an action that decreases the expected value of the transaction for the other party in a way that the other party cannot effectively prohibit, aka looking out for yourself

· Dangers to agent

o Ratcheting: the principal brings you on to do one thing, but starts to ask you to do more tasks without compensation/raising salary

· Dangers to principal

o Shirking: performing below-level duties

§ Solution: monitoring – web time, i.e.

§ Solution: bonding

o Private benefits: benefiting from the principal’s money, i.e. nice lunches, first-class flights

o Risk differences: the agent is always going to be more risk-averse than the principal because the agent always wants to get paid

§ The agent may not take on more projects because won’t get a piece of the upside coming out of the success of the projects

§ Solution: incentive compensation – risk profile of the agent becomes more like that of the principals

Basile v. H&R Block, Inc.

· H&R offers e-filing tax returns and direct deposits, also offers short-term loan from Mellon Bank until you get the money from the IRS

· Issue: whether there was an agency relationship between the people coming in for the loans/returns and H&R?

o If an agency relationship is established, then H&R is held to a higher standard (duty of loyalty)

o Problem centers on the non-disclosure of the referral fee that Mellon Bank would pay H&R for everyone sent their way

· Legal test for determining whether an agency relationship exists

o Manifestation by the principal that the agent shall act for him

o Agent’s acceptance of the undertaking that the agent shall act on the principal’s behalf

o Understanding of the parties that the principal is to be in control of the undertaking (agent acts subject to the principal’s control)

· Agent must have the power to bind the principal (H&R did not)

· Take-home:

o If the principal has to sign off on everything the agent does, then that person is probably not an agent; the agent needs some discretionary control

o The agent is given the power to bind the principal to the contract

o The creation of an agency relationship is important bc if it is acknowledged to exist, then the agent owes fiduciary duties to the principal; much more demanding

Fiduciary duties of agent and principal

· Of agent

o The agent can’t gain material benefit from the relationship from the third party

o The agent can’t compete

o No secrets

o No misuse of principal’s property

· Of principal

o Principal must deal fairly and in good faith with the agent

o Principal must honor any contracts entered into with agent

o If the agent incurs out-of-pocket expenses, the principal must pay the agent back

When can the principal be held liable to a third party for contracts that the agent entered into?

· Actual authority: where the principal specifically gives authority to an agent and the agent reasonably believes that he has aut

t once he finds out

Termination of an agency:

· An agent loses his apparent authority when it’s no longer reasonable for the third party to believe that the agent has the authority to act on behalf of the principal

· Either side can terminate on a proxy nature – both get out

· If either side dies, then the relationship has ended

Non-Corporate Business Entities: General Partnerships

Steps to take:

1. Do we have a partnership or agency relationship in the first place? Was something even formed?

2. What duties are involved in the venture?

a. By partners to other partners

b. By agents to principals

c. By principals to agents

3. How does the entity deal with relationships/authority/third parties?

a. Actual and apparent liability

b. Vicarious liability

Rules:

· Mandatory: set-in-stone, regardless of permission beforehand, etc.

· Default: legal rules that leave the entity free to contract around

o Ex. the implied warranty of merchantability

o Partnership law comprised mostly of these default rules

· Examples

o Each general partner is jointly and severally liable in his personal capacity for all debts contracted by the partnership. Default.

o Each partner gets one vote on matters relating to the partnership, regardless of whether he or she owns 99% of the partnership or 1% of the partnership. Default.

§ For matters internal to a partnership, the partners are free to contract about.

o Each partner owes the other(s) a duty of good faith and fair dealing. Mandatory.

o A partnership is formed when an association of two or more persons comes together to carry on as co-owners of a business for profit. Mandatory.

Why it’s a bad idea to advise someone to enter into a general partnership:

· Joint and several liability and personal liability

· Solution: your client should create a corporation, contribute what he would to the general partnership, and then, because he owns 100% of the shares of the new corporation, he should direct the corporation to contribute those shares to the partnership à the corporation is the general partner, not your client