california bar exam outline - corporations






California Bar Exam Outline - Corporations

This is an outline which I created as part of my preparations for the July 2000 California Bar Exam. I started with the outline of subjects covered on the MBE exam provided by the National Conference of Bar Examiners. To that outline I added the additional topics tested on the California Bar Exam. I then filled in the substantive information for those categories from the following sources:
  • PMBR lecture tapes (24 tapes covering torts, K, property, con law, crim law, and evidence).
  • BarBri "Early Bird" lectures covering K, evidence, crim law, crim pro, con law, civ pro, bus org, community property, and property.
  • PMBR Multistate Workbook Volume 1 Outlines (torts, K, property, crim law, crim pro, evidence, con law)
  • PMBR Multistate Workbook Volume 1 MBE answers
  • PMBR Multistate Flashcards
  • Strategies and Tactics for the MBE, by Emanuel
  • PMBR 6-day lecture and �Early-Bird� Workbook (MBE answers and Multistate Issue Graphs)
Once I started the BarBri lectures, I stopped using this outline, and instead studied from flashcards (made in part from this outline), and checklists. Therefore, this outline does not contain any substantive information from BarBri, and any additions or corrections that I would have made using the BarBri information. You should not rely on this outline as an authoritative primary source.

  1. Corporations

  1. Organization of corporations

  1. Formation requirements: People, paper, act

  1. People (incorporators) sign and file the articles. Can be a person or an entity.  Paper (articles of incorporation)

  1. Purpose

  1. K between corporation and shareholders
  2. K between corporation and state

  1. Information

  1. Name and address of corporation. Name must include "corporation", "company", "incorporation" or "limited".
  2. Name and address of each incorporator and initial Board member
  3. Name of registered agent (legal representative) and address of registered office � who can receive service of process.

  1. Purpose and duration

  1. General statement of purpose: "Engage in all lawful activity, after first obtaining necessary state agency approval."
  2. Specific statement of purpose and ultra vires rules: If the corporation does something outside the scope of its specific statement of purpose, that is an ultra vires (outside the scope) activity.

  1. Ultra vires K�s are valid and enforceable Shareholders can seek an injunction Officers, directors and employees are liable to the corporation for ultra vires lawsuits.
Capital structure (stock): Must include authorized stock, number of shares per class, info about par value, voting rights, and preferences of each class.

  1. Authorized stock: Max number of shares that the corporation can sell.
  2. Issued stock: Number of shares the corporation actually sells.
  3. Outstanding stock: Shares that have been issued and not reacquired by the corporation
Act
File articles with Secretary of State, who issues certificate of incorporation, which is conclusive proof of valid formation (in many states, SoS acceptance of articles is conclusive proof of valid formation). Then the board holds an organizational meeting to select officers, adopt bylaws, and conduct other appropriate business.Legal significance of formation of corporation
Corporation is a separate legal person. Different from partnership, which generally is viewed as an aggregate of its partners and not a separate entitiy. Today, corporations have very broad powers (unless limited by its articles), so it can sue and be sued, acquire and dispose of real property, make raesoanble charitable contributions, etc.  Limited liability: Because it is a separate entity, the people who run it and own it usually are not liable for debts the corporation incurs. Generally shareholders are not personally liable for debts of corporation, beyond share price.De facto corporation doctrine / corporation by estoppel
Business failing to achieve de jure corporate structure nonetheless is treated as a corporation (thus shareholders not personally liable for business debts). Person invoking must be unaware of the failure to form a de jure corporation  De Facto: Treated as corporation for all purposes, except action by the state.

  1. Relevant incorporation statute;
  2. Parties made a good faith colorable attempt to comply wit it; and
  3. Exercise of corporate privileges.
Corporation by estoppel: One dealing with a business as a corporation, treating it as a corporation, may be estopped from denying the business�s corporate statuts. May be invoked against those who dealt directly with business as a corporation. May be used ot prevent company from avoiding an obligation by asserting its own lack of valid formation. Usually available only in K, not tort cases. Abolished in many states.Bylaws
De jure corporation can exist without bylaws, and adoption is not a condition precedent to formation of a corporation. If inconsistent with articles, articles control, except that in some states the bylaws can change the number of directors. Initially adopted by board at organizational meeting. Can be amended or repealed by shareholders, and in many states, the board.Preincorporation K�s
Promoter is a person acting on behalf of a corporation not yet formed.  Liability on preincorporation K�s

  1. Corporation is not liable until it adopts the K, expressly by the board or implied from accepting benefits of K.  Promoter remains liabile on preincorporation K�s until there has been a novation (agreement of promoter, corporation, and TP that corporation will replace the promoter under the K) � even if corporation has adopted the K. Exception: Unless K with TP says promoter is not liable.
Secret profit rule
Promoter cannot make secret profit on dealings with corporation. Sale to corporation of property acquired before becoming promoter: Profit is difference between price paid by corporation and FMV. Sale to corporation of property acquired after becoming promoter: Profit is difference between paid paid by corporation minus price paid by promoter. Promoter is liable to corporation only if the profit was secret.Foreign corporations
Foreign corporations transacting business in state must qualify.

  1. Foreign corporation: One incorporated outside the state.
  2. Transacting business: Regular course of intrastate (not interstate) business activity. Not just occasional or sporadic activity.
  3. Qualify: Get a certificate of authority from SoS. Applies by giving information from articles and proving good standing in home state. Must pay some fees and appoint a registered agent.
If not qualified: Fine, and corporation cannot sue in the state (but can be sued).Issuance of stock

  1. Issuance: Issuance occurs when corporation itself sells or trades its own stock.  Subscriptions: Written offers to buy stock from corporation

  1. Preincorporation subscriptions by TP�s cannot revoke for six months, unless subscription provides otherwise, or unless all subscribers agree.
  2. Postincorporation subscriptions by TP�s are revocable until acceptance.
  3. Accpetance of subscription occurs when board accepts. Board�s call for payment must be uniform within each class or series of stock.
Consideration: What the corporation must receive when it issues stock

  1. Form

  1. Traditionally allowed: Money, tangible or intangible property, services already performed for the corporation.
  2. Traditionally prohibited: Future services and promissory notes (although some states allow fully secured notes).
  3. Trend allows payment with "any tangible or intangible property or benefit to the corporation". This would include all of the above, both allowed and traditionally prohibited.
Amount

  1. Par: Minimum issuance price. Corporation must at least receive par value in exchange for the stock (Board�s valuation of consideration is conclusive if made in good faith). Par is set by the board. Can be $0 (no par). Actual sale price may be more than par, but not less.  Treasury stock: Stock previously issued which has been reacquired by corporation. Company may later sell, and always treated as no-par.
Liability for improper form or sub-par issuance (watered stock)

  1. Directors / Board are liable if they knowingly authorized the issuance.
  2. Purchaser is liable
  3. If purchaser transferred to unknowing TP, TP is not liable, but purchaser and directors / board still liable.
Preemptive rights
Right of existing shareholder to maintain her percentage of ownership by buying stock to maintain her percentage ownership whenever there is a new issuance of stock for money. If the articles don�t provide for preemptive rights, ______??Directors and officers

  1. Statutory requirements � directors

  1. Number: Traditionally needed 3+, but trend requires only 1+. Must be adult natural persons  Election: Shareholders elect at annual meeting. Can elect the whole board, or stagger the board by halves or thirds. Distinguish from classified board, where positions are grouped into classes and each class is elected by a designated class of shares.  Removal: By majority of shareholders before term expires, with or without cause. Court may remove for fraud or gross abuse of authority or discretion.  Vacancy filled by the board or shareholders. If vacancy is caused by creation of new board position or shareholder removal, then shareholders elect successor. If director elected by particular class of shares, that class selects successor.  Meetings
Required unless all directors consent in writing to act without a meeting. Conference phone call is a meeting as long as all directors can hear all other directors simultaneously. Notice can be set in bylaws. Special meetings require notice (2 days) unless waived. Proxies not allowed. No voting agreements. Quorum

  1. Must have majority of all directors present to do business, unless different percentage is required in bylaws.
  2. To pass a resolution, however, all that is required is a majority vote of those present.
  3. If no quorum, actions taken are void, unless later ratified. Quorum is lost if directors leave, and decisions after that point are void.
Role
Manage business of corporation � sets policy, declares dividend, supervises officers, etc. Substantial management functions can be delegated to a committee of 1+ directors. Some states that the power to delegate be established in articles, others assume power exists unless taken away in articles. Board cannot delegate all powers and responsibilities to committee, and cannot: Declare dividends, amend bylaws, recommend fundamental corporate change, or fill board vacancy.Duty of care
Duty owed: "Director owes fiduciary duties to corporation as a matter of law, and thus owes a duty of care to the corporation. Must act as a prudent person would with respect to her own business affairs." Burden on p .  Nonfeasance (i.e. failure to attend any directors meetings): Liable if breach caused loss.  Misfeasance (director does something that causes harm to corporation) / Business judgment rule: Director not liable if the decision was made in good faith, and was reasonably informed, and had a rational basis.Duty of loyalty
Duty owed: "Fiduciary duty requires that the director must act in good faith and in a manner she reasonably believes to be in the corporation�s best interest." Burden on D .  Interested director transactions: Any deal between corporation and a director (including close relatives and businesses of director). Deal set aside or director liable for damages unless director can show either:

  1. Deal is fair to corporation; or
  2. Director�s interest is disclosed (or known) and the deal is approved by a majority of disinterested directors or a majority of disinterested shares. For quorum purposes, interested director is counted in some states.
Director compensation: Must be reasonable, and set before services rendered. Excess is a waste of corporate assets. Officer compensation can be set before or after services rendered.  Competing ventures: Director cannot directly compete with the corporation. Cannot be a member of the board for competing corporations.  Corporate opportunity or expectancy: Director cannot usurp a corporate opportunity, meaning that director cannot take advantage of business opportunity until she discloses it to the board and waits for the board to reject it.

  1. Corporate opportunity: Necessary to the corporation; company has interest or expectancy; or in the company�s business line.
  2. Corporation�s financial inability to take advantage of opportunity is usually not a defense to liability.
  3. Remedy is a constructive trust. If director still has it, he must sell it to the corporation at cost. If director sold it as a profit, corporation gets the profit.
Other state law basis of director liability
Ultra vires acts Improper distribution Securities liabilities Improper loans (corporation loans money to director). No liability if reasonably expected to benefit corporation. Who is liable

  1. Director is presumed to have concurred with board action unless dissent or abstention is noted in writing in corporate records by: Entering dissent in the minutes, getting dissent in writing to corporate secretary at the meeting, or sending registered letter to corporation immediately after meeting (but not if voted for the resolution at the meeting).
  2. Exceptions: Absent directors are not liable; Good faith reliance on financial statements prepared by auditors, book value of assets, or the opinion of a competent employee or professional.
Officers
Same duties of care and loyalty as directors  Status: Officers are agents of corporation, and can bind corporation by acts taken within their authority. Authority may be:

  1. Actual: Given in articles, bylaws or boar resolution
  2. Apparent: Corporation holds officer out as having authority so TPs belive it exists and rely on it.
  3. Inherent/Implied by virtue of their office: Pres can enter into K�s and act in the ordinary course of business, secretary can keep records, treasurer can maintain funds.
Must have president, secretary and treasurer, and any others the corporation wants. One person can hold more than one office, but traditionally person cannot be president and secretary at the same time. Selected and removed by board, even if his term has not yet expired (but removed officer can get damages for breach of K).Indemnification
For lawsuit damages when sued in capacity as officer or director

  1. No indemnification if held liable to the corporation or held to have received an improper personal benefit.
  2. Mandatory indemnification if defense was "wholly successful" on the merits. In some states, indemnification is only "to the extent" successful.
  3. Permissive indemnification (example: settlement) if person acted in good faith and with reasonable belief that act was in corporation�s best interest. Permission granted by disinterested directors, disinterested shares, or independent legal counsel.
Court in which person was sued can order indemnification if it�s justified in view of all circumstances, but generally limited to expenses and attorneys fees, not judgments or settlements. Articles can provide for limited or full indemnification, but not for reach of duty of loyalty, intentional misconduct, or improper personal benefit. Corporation may purchase director and officer (D&O) insurance.Shareholders

  1. Liability for acts or debts of corporation / PCV

  1. "Shareholder not liable for debts of a corporation, but court might �pierce the corporate veil� and hold shareholders liable personally if they have abused the privilege of incorporating and limited liability would be inequitable".
  2. Most courts will pierce the corporate veil (PCV) to avoid fraud or unfairness, especially in a tort case.
  3. Alter ego (identity of interests): Shareholder who is an officer commingles personal and corporate funds. Creditor of corporation can collect directly from shareholder/officer because he was treating the corporation as his alter ego, and that harmed the creditors.  Undercapitalization: Shareholders failed to invest enough capital at formation to cover prospective liabilities. Shareholder can be sued if court PCV.
Shareholder management of corporation
Generally the board manages a corporation, and agreements between shareholders couldn�t affect management. ML allows shareholder agremenets that bind directors� discretion if:

  1. No minority shareholder objects;
  2. No harm to public or company�s creditors; and
  3. Agreement affects relatively minor issue
Closely held corporation
Close (or closely held) corporation has few shareholders and shares are not publicly traded. Many states allow shareholders to manage close corporation directly if articles state corporation is close, and articles or unanimous shareholder agreement provide for shareholder management. Corporation need not have a board, and shareholders run corporation. Managing shareholders owe duties of care and loyalty. Fiduciary duties are imposed in shareholder dealings with each other. Watch esp. for actions by controlling shareholders that oppress or harm minority shareholders � courts may protect minority shareholders from oppression, because she cannot sell her shares as there is no public market.Shareholder derivative suits
Shareholder suing to enforce corporation�s COA. If corporation could have brought the suit, it�s probably derivative. Usually involve breach of officer or director duty which has been violated. Recovery generally goes to corporation. Shareholder p gets attorney�s fees from corporation. p who looses cannot recover costs and attorneys fees, and is liable to D for its costs, and liable for D attorney�s fees if suit was without reasonable cause. Unsuccessful suit precludes future lawsuits on same COA by different shareholders.  Requirements

  1. Stock ownership before claim arose, or received by operation of law (inheritance or divorce) from someone who owned stock before claim arose. Must hold stock throughout litigation. If complaint is against a continuing wrong, must own stock sometime during the wrong. Written demand that directors bring suit unless demand would be futile (i.e. if directors are the D �s). Verified complaint (under oath) alleging with specificity efforts to get corporation to sue or why demand is excused. Can be required to post security for costs, to avoid "strike suits" Corporation can move to dismiss if independent directors, or a committee of independent directors, find the suit is not in the corporation�s best interest (low chance of success or expense of litigation would exceed recovery). Court would scrutinize independence of those who investigated, and may scrutinize merits of their recommendation.  Litigation
Role of corporation

  1. Must be a party
  2. Nominal defendant
Defenses

  1. Substantial defense that could have been raised against corporation
  2. Plaintiff disqualification defenses (i.e. if shareholder knew of, assented to, and benefited from ultra vires activities of the corporation)
No dismissal or settlement without court approval.Voting

  1. Who votes
Owner of record as of record date has right to vote, even if record owner sells shares subsequent to record date. Exceptions:

  1. Corporation does not vote treasury stock (held by corp) even though it is the record owner on record date.
  2. If shareholder dies after record date, executor can vote the shares.
  3. Proxies: Writing (fax ok) signed by record shareholder, directed to secretary of corporation, authorizing another to vote shareholder�s shares for specific time or purposes.

  1. Proxy expires after 11 months, unless otherwise specified.
  2. Revocation in writing is effective, even if proxy states it is irrevocable, unless proxy is accompanied with an interest (ownership, option, pledge, etc.) in the shares.
Voting trusts and agreements
Definition: Groups of shareholders agree to vote alike Requirements for voting trust
Proper purposes Written trust agreement controlling how the shares will be voted Copy to corporation Transfer legal title to voting trustee Legal shareholders receive trust certificates and retain all rights except voting 10-year maxRequirements for voting agreement (pooling agreement): Writing which is signed. Some states allow for specific enforcement.Where do they vote?
Acton without meeting if unanimous written consent of the holders of all voting shares.  Annual meeting, which court can order if not held. Main purpose is election of directors.  Special meeting
Called by board, 10% of voting shares, or others provided by in articles. Meeting must be for proper shareholder purpose (i.e. removal of director)Written notice required to every shareholder entitled to vote, for every meeting (annual and special).

  1. Must state when and where the meeting is, and purpose of meeting.
  2. Failure to give proper notice: Actions at meeting are void unless those not given notice waive the defect, either express (writing and signed before or after meeting), or implied (attended meeting without objection).
How do they vote?

  1. Quorum of majority of outstanding shares (not shareholders) at meeting.

  1. Quorum not lost if people leave the meeting.
  2. Articles can provide that quorum requires different amount of shares, but never fewer than 1/3 of the shares.
Majority of shares present may act to bind corporation unless articles or bylaws require supermajority. In some states, all that is required is a majority of shares actual voting (which may be less than the shares present). Know both rules.Cumulative voting
Articles must authorize. Available in voting for directors, and helps small shareholders get at least some representation on the board. Multiply number of shares times number of directors to be elected (shareholder with 5 shares gets 5 votes per director, which can be voted in any manner). Election is at large � votes can be concentrated on one candidate.Stock transfer restrictions
Restrictions will be upheld against transferor so long as reasonable under the circumstances, which means not an undue restraint on alienation. Right of first refusal is generally ok, assuming corporation pays a reasonable price. Corporation cannot sue buyer of stock unless the restriction is conspicuously noted on the certificate or transferee had actual knowledge of restriction.Right of shareholders to inspect books and records of corporation

  1. Shareholders who own at least 5% of the shares or own stock for at least 6 mos have standing. Modern trend is any shareholder.
  2. Written demand stating proper purpose (related to her role as a shareholder � remember that shareholders do not hire and fire officers, so info related to officers probably not related to role as shareholder).
  3. If corporation doesn�t allow inspection, shareholder can move for court order, and if successful, recover costs and attorney�s fees incurred in making the motion.
Distributions
Types: Dividends, or payment to repurchase or redeem shares Declared at board�s discretion. No distribution until it is declared. Some states allow suit to compel declaration, but only upon very strong showing of abuse of discretion (board pays itself bonuses with consistent profits but no dividends, or controlling shareholder oppressing minority).  Who gets dividends

  1. Preferred stock gets paid first, and may get a "preference" (premium) payment. The remainder of the pot of money is distributed to common shareholders.
  2. "Participating" means that the preferred stockholders take their preferred dividend first, plus they share in whatever the common stockholders get.
  3. Cumulative preferred dividend: Preferred shareholders� dividends are adding up, even if not actually paid. That is paid out first, and common shareholders share the rest.
What funds can be used for distribution

  1. Earned surplus / retained earnings: Generated by business activity. Earnings - losses - previous distribution.
  2. Stated capital: Generated by issuing stock. Cannot be used for distributions. Consists of the par value of stock sold. If no-par, then entire amount can be stated capital, or entire amount capital surplus � board�s decision.
  3. Capital surplus: Generated by issuing stock. Consists of the excess / difference between sale price of stock and the par value. Can be used for distribution if shareholders are informed.
Nimble dividend is one paid out of current earnings when there is not sufficient surplus for a dividend. Many states don't allow. Corporation can make distributions even though it lost money last year, but cannot make distributions if insolvent or if distribution would render it insolvent (unable to pay debts as they come due, or assets less than liabilities). Liabilities include preferential dissolution rights (below). Directors personally liable for unlawful distributions, as are shareholders who knew distribution was unlawful when received. Traditional rule is strict liability, but trend requires showing of at least negligence. Possible defense of directors� good faith reliance on accountants.Fundamental corporate changes

  1. Characteristics

  1. Unusual occurrence that requires board resolution and notice to all shareholders entitled to vote
  2. Approval by a majority of the shares entitled to vote is required.
  3. Dissenting shareholder right of appraisal

  1. Forces corporation to buy shares at fair value
  2. Occurs when:

  1. Corporation combines with another corporation; or
  2. Corporation transfers all or substantially all corporate assets or shares in share exchange

  1. Shareholder must

  1. File written notice of objection and intent to demand payment before shareholder vote;
  2. Abstain or vote against proposed change; and
  3. After the vote, make written demand to be bought out.

  1. Court will appoint an appraiser to determine fair value if parties cannot agree.
  2. But some states say that if there is a public market for the shares, no right of appraisal � simply sell on the exchange.
Amendment of articles
Board of directors must approve Notice to shareholders Shareholder approval by majority of shares entitled to vote File amended articles with SoS No dissenting shareholder rights of appraisal, but if amendment affects a class, the class must approve the change by a majority of the class in addition to a majority of all shareholders.Mergers (A and B form A) and consolidations (A and B form C)

  1. Board approval
  2. Notice to shareholders
  3. Shareholder approval by majority of shares entitled to vote

  1. Exception: No approval required for short-form merger, where 90% or more own subsidiary is being merged up into a parent.

  1. File articles of merger/consolidation with SoS
  2. Dissenting shareholder right of appraisal does exist
  3. Surviving company succeeds to all rights and liabilities of the constituent companies.
Transfer of all or substantially all of the assets (not in the ordinary course of business) or a share exchange

  1. One company acquires all the stock of another. Fundamental for the selling corp only � not the buying corp (thus buying corp shareholders do not need to vote).
  2. Board approval
  3. Notice to selling corp�s shareholders
  4. Approval by majority of selling corp�s shareholders
  5. Dissenting shareholders of selling corp do have a right o fappraisal.
  6. Buying corp files articles of share exchange with SoS. In a transfer of assets, no filing usually required.
  7. Buying corp does not succeed to the liabilities of seller corp unless agreement provides otherwise, or unless buying corp is a "mere continuation" of selling corp.
Dissolution

  1. Voluntary
Board resolution, notice to shareholders, and approval by majority of shares entitled to vote; OR unanimous written shareholder agreement. File articles of dissolution and give notice to creditorsInvoluntary (court ordered)

  1. Shareholder can petition because of:

  1. Director abuse, waste, misconduct, illegal or oppressive acts
  2. Shareholder failure to fill a vacant board position
  3. Director deadlock causing irreparable harm to company

  1. Court may order buy-out of complaining shareholder (especially in close corporation)
  2. Creditor can petition for dissolution if the corp is insolvent and either creditor has an unsatisfied judgment or corp admits debt in writing.
After filing articles in voluntary dissolution, or after court order of dissolution, corp stays in business to wind up:

  1. Gathering assets
  2. Converting to cash
  3. Pay creditors
  4. Distribute remainder to shareholders, pro-rata by share unless there is a distribution/liquidation preference.
Securities law considerations

  1. Securities are investments

  1. Debt securities created when corp borrows money from investor. Corp agrees to pay loan, usually by given date, with specified interest.

  1. Secured: Corp has pledged collateral to secure repayment (mortgage bond).
  2. Unsecured: Corp has not pledged collateral to secure payment (debenture).
  3. Debt instrument can make debt security convertible (i.e. to stock) at the option of the holder. Can also be made redeemable at option of corporation at price set in debt instrument.
Equity securities are an ownership interest in corporation. Shareholder status carries various rights, including inspection of records and derivative suits.

  1. Articles can make equity security convertible (i.e. to another class of stock) at option of holder, or redeemable at option of corp.
State law liabilities

  1. Sale of controlling shareholder�s interest
Controlling shareholder: One with majority of shares; or minority of shares giving her working ocntrol over corp. Shareholder can often sell shares at a premium because of the control they carry. Courts did not traditionally impose duty on controlling shareholder who wanted to sell her interest, and therefore shareholder generally free to sell her shares at a premium. Increasingly courts impose duties:

  1. Sale to looters: Controlling shareholder liable for sale to looters (runs it into the ground) without making reasonable investigation. Liable for damage to corp, including amount looted and other harm (i.e. damage to earnings). Facts should put reasonable person on notice that buyer could be a looter.  Disguised sale of corporate asset: Buyer pays premium to buy asset � all shareholders should share in premium. Remedy is to disgorge seller�s profit.  Sale of corporate office (position � no the physical office): Fiduciary cannot be paid to relinquish his office position.
Controlling shareholder cannot subject minority shareholders to detriment

  1. Problem in close corp because minority shareholder cannot sell shares to the public (no market).
  2. Controlling shareholder (parent corp) must satisfy entire fairness test (fair price and fair dealing) in dealings with minority shareholders.
Fraud: C/L fraud may apply to misrepresentations in the sale of stock, allowing suit by defrauded buyer or seller. This covers the overt lie, but not necessarily a half-truth. Nondisclosure of "special facts": Many courts impose upon directors or officers an affirmative duty to disclose special facts in a securities transaction.

  1. Special facts: Those a reasonable investor would consider important in making an investment decision.
  2. Shareholder with whom the insider dealt can sue.
  3. Damages measured by difference between price paid, and value of stock a reasonable time after public disclosure of the inside information.
Rule 10b-5: Insider trading
Instrumentality of interstate commerce (telephone or mail, purchase or sale on national exchange, payment by check that goes through national banking channels) Possible D : Any person. Possible p : SEC, or private buyer or seller of the security (not merely someone holding the stock). Possible bad acts by D

  1. Misrepresentation of material information;
  2. Failure to disclose material inside information; or

  1. Duty to disclose must exist (i.e. officers and directors)
  2. Possession of inside information is not enough by itself to create duty
  3. Company insiders and temporary insiders are subject to duty or abstain from trading (i.e. lawyers).

  1. Tipping (passing along inside information for a bad purpose)

  1. Tipper: Passes inside info in breach of duty to company, and benefited directly or indirectly (making gift or enhancing reputation) from that act.

  1. Misappropriation: If no duty is owed, D may still be liable under a misappropriation theory.

  1. Tippee: Traded on the tip, and knew or should have known that tipper breached duty to company. Profits are disgorged.

  1. Tipper who overhears tip � no liability for tippee or tipper.
Bad act must be in connection with purchase or sale of security, which includes stock, debt or equity. Bad act must involve a material fact � one that a reasonable investor would consider important in making an investment. Scienter: D must have an intent to deceive, manipulate or defraud. Recklessness may suffice. Reliance is a separate element, but presumed in cases of nondisclosure and public misrepresentation. Damages: Difference between price paid, and price a reasonable time after news goes public.Section 16B
Recovery by corp of profits gained by officers or directors from buying and selling the company�s stock. p must be a reporting company (at least 500 shareholders and $10M in assets, or listed on national exchange) D must be a big-shot in the company

  1. Director when shares were bought or sold
  2. Officer when shares were bought or sold
  3. 10% shareholder when bought and sold (i.e. buying up to 10% is not covered � must be at 10% at both purchase and sale)
D must have bought and sold equity securities (stock) Short-swing trading:

  1. 16b applies to any purchase and sale made in a 6-month period.
  2. No fraud or inside information required.
All profits from trading are recoverable by corp. If, within 6 months before or after sale, there was a purchase at a lower price, then there has been a profit. Price difference multiplied by largest number of shares that were both bought and sold. 

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