What do businesses do and what do lawyers for businesses do
o Why does someone own a business
§ Most people own a business to make money
§ Friedman: “In a free-enterprise, private-property system, a corporate executive is an employee of the owners of the business. He has direct responsibility to his employers. That responsibility is to conduct the business in accordance with their desires, which generally will be to make as much money as possible while conforming to the basic rules of the society, both those embodied in law and those embodied in ethical custom…The ycokey point is that, in his capacity as a corporate executive, the manager is the agent of the individuals who own the corporation and his primary responsibility is to them…there is one and only one social responsibility of business—to use its resources and engage in activities designed to increase its profits so long as it stays within the rules of the game, which is to say, engages in open and free competition without deception or fraud.”
o Views of courts & legislators
§ Smith v. Barlow
· Defendant corporation made a donation to Princeton. Shareholders complained arguing that it was not authorized by the articles of incorporation to be able to make this gift. B.O.D. sued – declaratory judgment
· Court said that laws enacted after incorporation that allowed directors to make charitable gifts without approval from shareholders applied to this corp, and as long as the gifts contributed to the corporate interests, they were appropriate.
§ 33-3-102(13) (p. C13)
· A corporation can “make donations for the public welfare or for charitable, scientific, or educational purposes.”
· Expressly allows charitable donations.
§ 33-3-104 (p. C14)
· Ultra vires: beyond the scope of authority or power granted to a corporation (would void an action beyond the scope of authority)
· Of little practical significance today. Corporations are now deemed to have the power to engage in any lawful business activity.
· Cannot challenge acts of corporation on the grounds that it doesn’t have the powers to act.
§ Enacted to stop litigation that argued a company did something it wasn’t authorized to do- but it still goes on
§ Shareholders can still challenge to enjoin an act or in a proceeding by the corporation directly or through a receiver
§ If brought by a shareholder, the court can award loss (other than profit) suffered by the corporation
o The Board of Directors is not acting as an agent; it is functionally a principal (this is the common view although the officers waffle on this)
o See §33-8-101 for Board of Directors
o Provides that Board will manage the company
o In theory these are the ones who manage the company – this is true for large corporations, but not for small ones- our statute anticipates this and provides a few other options
o Most people say that the Board acts as the principle and not the agent and therefore makes the decisions
o Certificate of existence and articles of incorporation- a document issued by a state authority granting a corporation its legal existence and the right to function as a corporation- normally filed with Sec. of State
o Cert of Existence says that the corporation is in good standing in SC- but 33-1-280 is deceptive- most of the problems a corporation has will not be with the Sec of State, so it will be in good standing even though it is in trouble with other agencies- Dept of Revenue
o § 33-2-102 is the Articles of Incorporation – which lists what you have to do to set up a corporation
o 33-3-102 provides General Powers of a corporation
§ corporation lasts forever unless something happens
§ corporation has the same powers as an individual would have to conduct its business
o General building block concepts:
o The law views a business, at least a business in the corporate sense, as a separate entity, a separate legal person
o A body of law—both statutory law and case law—has developed to control the actions of that separate entity or person
o Real persons act for the corporation—they are agents
o A business with more than one owner, at least a business with more than one owner that is a corporation, can distribute and use its funds in ways that are opposed by at least some of the owners
o The owner of a business can make money from the business by:
o Receiving distributions of all or part of the money the business has earned (this is called a dividend) or
o Selling all or part of her ownership interest in the business for more than she paid for it
o A lawyer for a business is hired:
o To help the business make money or
o To help the owner get money from the business or
o To help the business and the owner protect that money from the claims of others
o How do you know how much a business is worth? See the financial statements
§ 33-16-200 (p. C98): A corporation is required to furnish its shareholders with financial statements, etc. See also 33-44-408 and 33-41-520.
o Partnership Records in SC
o 33-41-520 – just have to keep books in accordance with partnership agreement and all partners must have access to them
o So not much guidance on what they have to have
o LLC statute gives even less guidance on what financial statements they have to keep
o They are prepared according to GAAP – Generally Accepted Accounting Principles
o Matching- costs or expenses should be booked in the same period as the revenues those expenditures helped generate
o Conservatism- the date should be conservative – they should present the firms financial data in an accurate way but err on the side of understating its revenues and the value of its assets and on overestimating its costs and liabilities
o Off –balance sheet financing- this is what Enron did- its liabilities were carried out through subsidiaries, so the liabilities didn’t appear on the balance sheets
o This only works when the subsidiaries’ debt is nonrecourse debt- meaning the parent company could never be liable for it- in Enron’s case, the debt was recourse
§ Income Statement – period
· Shows the profit for a corporation over a given period based on data about revenues and costs
· Formula = Income – Expenses – Depreciated value of assets – Taxes= Net Income
· We depreciate because the machine is getting less valuable each year since we are using up part of it. The portion we use up is called depreciation. Accelerated depreciation might be used for tax purposes.
· We cannot see how much cash a business may be generating or using up in a given year in an income statement.
§ Cash flow statement – period
· Shows how much more cash a business has at the end of the year than the beginning
· Formula = Profit after tax + depreciation taken out (Depreciation) – cost of investment in that year (Investment).
· In other words, it’s the income statement over a year without allowing the business to depreciate the cost of investments (money spent to purchase equipment). We put depreciation in because it is non-cash
· Could a business survive a cash drain?
· An increase in a balance sheet asset account other than cash results in a decrease in cash flow
§ Cash Flow = Profit after tax (from income statement) + Depreciation – Net change in Balance Sheet Asset accounts (other than cash) + Net change in liabilities and funds from new issues of stock
§ Balance sheet – particular moment
· A snapshot of the value of a business at a particular time
· Assets (owns) on one side (include things like cash, land, buildings, accounts receivable, and machinery and equipment)
· Liabilities (owes) on the other (include things like accounts payable, wages payable, and debts)
· Assets = Liabilities + Stockholder Equity (left over) or
· Owners’ equity = assets – liabilities
· Thus, profits accrue to equity
§ A key component in the valuation of any business is the future profitability, which is not necessarily reflected
of a corporation.
· Profits are distributed directly to partners, and as such are taxed only as the income of the partners – no double taxation problem (this is known as flow through taxation and the tax is paid by the shareholders)
· IRS places a bunch of restrictions on who can be an S-Corp
o Can only have one class of stock
o Must be domestic, and wholly owned by US citizens
o No more than 80% of revenue can come from non-US sources
§ Ex – Shrimp boat business in Charleston fishing in international waters.
o No more than 100 stockholders
o No more than 25% of revenue from passive sources (rent, interests, royalties).
o Only individuals, estates, and certain trusts can be shareholders.
§ Limited Liability Company – (LLC)
· Just like the S-Corp
· Owners are not individually liable for the company’s debts
· LLC is not a tax paying entity
· Income taxes are paid once
· Rather than complying with IRS laws, LLCs are governed primarily by state law.
· Offers protection both from liability and from double taxation (you are taxed as a partnership- only the individuals are taxed)
· SC – don’t need an atty to form an LLC
· Don’t have to file an annual report with the SOS office.
§ General Partnership – 2+ owners
· taxes are paid only as money is distributed to partners; taxes are paid at the individual level; pass through taxation à treated like a sole proprietorship for tax and liability purposes
· earnings are distributed according to a partnership agreement
· partners are EACH jointly and severally liable for actions of the partnership
· So an injured party can go after any partner for the full value of their claim.
§ Limited Liability Partnership -(LLP)
· Has limited and general partners
· Similar to a partnership or sole proprietorship for tax purposes; and somewhat like a corporation for liability purposes
· General partners have management responsibility/control and unlimited liability for the business
· You would make a corporation the general partner so the individuals are protected
· Limited partners are liable only for what their capital contributions to the business were. à little voice in management and is not individually liable for the company’s debts (basically a shareholder)
§ Family partnerships are common in SC because they are an estate tax avoidance technique.
§ Factors that go into whether you choose one style of business over another
· Who will the investors and owners be? If small group of investors- then an LLC or partnership would work
o What are the capital requirements and cash flow characteristics of the business likely to be? if you require venture capital, you will probably need to be a corporation bc venture capitalists wont invest in LLC because of the personal tax liability
§ But this isn’t really the case- people still invest, and its easier to change from an LLC to a corporation – but not visa versa
· Who will own the business?
· Who will manage it?
· Who will reap any profit?
· Who will bear the risk of loss?
· Who will pay taxes on profits?