The ABCs of: Corporations

Here is a collection of 26 important concepts, from A to Z, you need to know about Corporations for the bar exam:

A - Articles of Incorporation: To form a de jure corporation under the MBCA, incorporators must file the articles of incorporation with the state and pay whatever fees the state requires. The articles must include the corporation's official name, the number of shares it can issue, the address of its initial office, the name of its initial registered agent, and the names and addresses of the incorporators. Beyond these requirements, the articles may include additional provisions that suit the corporation's unique purpose and governance structure.

BONUS: A - Amendments: Another concept that is commonly tested when it comes to articles of incorporation is amending the articles of incorporation. Articles may be amended in any manner (so long as the amendment would be allowed in original articles of incorporation). Most amendments to the articles of incorporation that can negatively impact the corporation or certain of its shareholders are fundamental corporate changes. A few “housekeeping” amendments (such as extending the corporation’s duration, deleting information about initial directors, etc.) aren’t fundamental changes.

B - Business Judgment Rule: The exercise of managerial powers by a director is generally subject to the business judgment rule. The business judgment rule is a presumption that, in making a business decision, the directors of a corporation acted on an informed basis, in good faith, and in the honest belief that the action taken was in the best interests of the company. If the standard of care is met, the directors cannot be held personally liable for corporate losses that result as a consequence of their decision. However, this standard does not apply to directors who have a conflicting personal interest in a transaction.

C - Close Corporations: A close corporation is a type of corporation characterized by a limited number of shareholders, often with personal relationships, who are actively involved in its management. Close corporations are susceptible to shareholder disputes due to their close-knit nature. Remember that shareholders in a close corporation owe each other the same duty of loyalty and utmost good faith that is owed by partners to each other.

D - Derivative Actions: Previous MEE questions have required examinees to identify whose rights are appropriately asserted. In a derivative action, the shareholder asserts the corporation’s rights rather than her own rights. Recovery in a derivative action generally goes to the corporation rather than to the shareholder bringing the action. The following conditions for bringing a derivative action are imposed by statute:

1️⃣ Demand: The shareholder must make a written demand on the corporation to take suitable action, but demand will be excused if it would be futile (e.g., where a shareholder is seeking damages from the entire board for breach of duty, they are unlikely to approve the action); and

2️⃣ Prior and continued ownership: The shareholder must have owned stock in the corporation at the time the alleged wrong took place, or the shares must have devolved upon him by operation of the law. In addition, ownership must be maintained throughout the action.

E - Estoppel: Under the corporation by estoppel doctrine, a person who deals with a business as if it were incorporated may be estopped to deny that it is incorporated. For the sake of completeness, here are other formation types:

✅ A de jure corporation comes into existence when the corporate documents are filed with the secretary of state.

✅ A de facto corporation doctrine arises if a person makes a colorable attempt to incorporate, but that attempt fails for some reason. A de facto corporation is treated as a corporation for all purposes, just like a de jure corporation, except against the state.

✅ The doctrine of corporation by estoppel differs from the doctrine of corporation de facto in that it has a narrower focus. In an estoppel situation, the business is treated as a corporation only as to the person who so dealt with it. On the other hand, if the doctrine of corporation de facto applies, the unincorporated business is treated as a corporation for all purposes and for all parties, except the state.

F - Fiduciary Duties: The board of directors of a corporation owe the corporation various fiduciary duties. 

The duty of care requires the directors to discharge their duties in good faith, with the care of a reasonably prudent person acting in similar circumstances, and with the reasonable belief that they are acting in the best interests of the corporation. Along with this duty of care, courts have stated that a business judgment rule applies such that the directors are afforded a rebuttable presumption that they met their duty of care. Thus, a court will uphold the board's decisions in accordance with the duty of care so long as the presumption is not rebutted. (See “B - Business Judgment Rule.”)

The directors also owe a duty of loyalty to the corporation such that they act fairly towards the corporation and do not "self-deal" and enter into any transactions in which there is a conflict of interest. If the board self-deals, the duty of loyalty will be breached unless the action is approved by a majority vote of disinterested directors after full disclosure of material facts, is approved by a majority vote of disinterested shareholders after full disclosure of material facts, or the transaction is fair to the corporation.

G - Good Faith: Measuring "good faith" in the context of fiduciary duties includes assessing whether corporate directors, officers, and other fiduciaries have acted honestly, with sincere intent, and a steadfast commitment to fulfilling their obligations to the corporation and its shareholders. This evaluation hinges on factors such as undivided loyalty, the absence of conflicts of interest, diligent decision-making, avoidance of self-dealing, reasonable belief in the corporation's best interests, full disclosure, and compliance with corporate documents and laws. (See “F - Fiduciary Duties.”)

H - Hostile Takeover: A hostile takeover signifies the acquisition of a corporation without the consent or approval of the target company's board and management. It typically involves tactics such as unsolicited tender offers or proxy contests to gain control of the target's shares or board seats. Hostile takeovers often arise from a belief that the target's current leadership is not acting in the best interests of shareholders, and the acquiring entity seeks to assert its control. Potential issues to consider include shareholder rights, fiduciary duties of directors, and defensive measures used by target companies to fend off such attempts.

I - Internal Affairs Doctrine: Under the internal affairs doctrine, the duties of directors to their corporation and its shareholders are determined by the state of incorporation, not by the state where the suit is brought or where the corporation operates or is headquartered.

J - Joint Venturer: Absent an agreement indicating a contrary relationship, promoters are considered to be joint venturers, and they occupy a fiduciary relationship with each other. As fiduciaries, promoters are prohibited from secretly pursuing personal gain at the expense of their fellow promoters or the corporation to be formed.

K - Participation in Breach of Duty: This is a situation where an individual, typically a corporate director or officer, is aware of and actively engages in activities that violate their fiduciary duties toward the corporation and its shareholders. This participation implies that the individual knowingly and willingly supports or partakes in actions that breach their legal obligations.

L - Limited Liability Companies: Although the National Conference of Bar Examiners lump corporations and LLCs into the same subject, it’s important to note that an LLC is an unincorporated business entity. Remember that “LLC” stands for “limited liability company” and not “limited liability corporation.” The owners of an LLC are called members. An LLC can be run like a partnership (e.g., each member may have an equal right to manage the LLC) or like a corporation (e.g., the LLC may be run by one or more managers).

M - Merger: A merger involves the blending of two or more corporations into one corporation. The survivor succeeds to all of the rights and liabilities of the merging corporations. Mergers usually are fundamental changes for all of the corporations involved. However, the merger of a subsidiary into its parent corporation that owns at least 90% of the subsidiary’s stock isn’t treated as a fundamental corporate change for the parent corporation. A domestic corporation may merge with a foreign corporation into a new domestic corporation, but only if the merger is permitted in the foreign corporation’s state of incorporation.

N - Novation: A promoter is personally liable on the contracts that he enters into on behalf of the corporation to be formed, unless it clearly appears that the other party to the contract didn’t intend to hold the promoter personally liable, in which case the “contract” will be deemed to be an offer to the corporation. The promoter’s liability continues even after the corporation is formed and even if the corporation adopts the contract, unless all of the parties to the contract agree to a novation (i.e., an agreement substituting the corporation for the promoter, which, of course, won’t happen on the exam).

O - Officers: Officers are appointed by the board of directors and generally are responsible for the day-to-day operations of the corporation. They owe fiduciary duties to the corporation, like directors, and must act in the corporation’s best interest. Because officers are appointed by the board, they generally are removable only by the board—the shareholders generally have no power to remove officers. As with other agents, the board has the power to remove an officer even if it doesn’t have the right to (e.g., an officer can be removed before expiration of her contract, but the corporation may be liable in damages for the removal).

P - Piercing the Corporate Veil: Because a corporation is an entity apart from its shareholders, the shareholders aren’t personally liable for the corporation’s obligations. In some circumstances, however, even though a corporation has been validly formed, the courts will hold shareholders personally liable for corporate obligations because the corporation is abusing the legislative privilege of conducting business in the corporate form. Three factors often present in piercing the corporate veil cases are:

1️⃣ Corporate formalities have been ignored (e.g., a shareholder treats the corporation as his alter ego, using its assets as his own; a parent corporation and subsidiary share the same directors, employees, and facilities) and a basic injustice will result because of the lack of formality. The corporate entity, in this case, may be regarded as the “alter ego” of an individual or another corporation.

2️⃣ The corporation was undercapitalized at the outset (i.e., the investors didn’t start the corporation with sufficient capital reasonably adequate to meet its prospective liabilities).

3️⃣ The corporation was commingling of personal and business assets.

Q - Quorum: A quorum is the number of shares required to be present in order to conduct business at a meeting. Unless the articles or bylaws provide for a greater quorum, quorum is set at a majority of the shares entitled to be voted. Once a shareholder’s shares are present at a meeting, quorum cannot be broken by withdrawing the shares.

R - Ratification of Defective Corporate Actions: Directors, incorporators, and officers may ratify defective corporate actions (that is, actions that are, and would have been at the time the action was purportedly taken, within the power of the corporation, but are void or voidable due to a failure of authorization.) To ratify a defective corporate action, the board of directors must state the action to be ratified and the nature of the failure of authorization and approve the ratification. If the defective corporate action currently requires shareholder approval, or would have at the time it occurred, it must also be submitted to the shareholders for approval.

S - Shareholder Rights: Of all the shareholder rights, shareholders’ inspection rights is tested most often on MEE questions. A shareholder may inspect the corporation’s books, papers, accounting records, shareholder records, etc. To exercise this right, the shareholder must give five days’ written notice of his request, stating a proper purpose for the inspection. The shareholder need not personally conduct the inspection; he may send an attorney, accountant, or other agent. 

T - Tort Liability: Generally, only the corporation itself can be held liable for corporate obligations. However, directors, officers, and shareholders are personally liable for their own torts committed when working for the corporation.

U - Ultra Vires Acts: Ultra vires acts refer to actions taken by a corporation that are beyond the scope or authority of its corporate charter or Articles of Incorporation. These acts are considered legally void because they fall outside the corporation's authorized powers. Historically, ultra vires acts were a significant concern, but many jurisdictions have now adopted laws that allow corporations to engage in a broader range of activities. At common law, if a corporation acted ultra vires, the action was void. In other words, no one could enforce the action. Modern laws and the MBCA have changed this dramatically. Typically, an ultra vires act is enforceable, and the ultra vires nature of an act may be raised in only three circumstances: (a) a shareholder may sue the corporation to enjoin a proposed ultra vires act; (b) the corporation may sue an officer or director for damages arising from the commission of an ultra vires act authorized by the officer or director; and (c) the state may bring an action against the corporation to have it dissolved for committing an ultra vires act.

V - Voting Trusts: To ensure that a group of shares will be voted a particular way in the future, one or more shareholders may create a voting trust by (1) entering into a signed agreement setting forth the trust’s terms and (2) transferring legal ownership of their shares to the trustee. The trust may contain any lawful provision not inconsistent with the trust purposes, and the trustee must vote the shares in accordance with the trust. A copy of the trust agreement and the names and addresses of the beneficial owners of the trust must be given to the corporation. The trust is not valid for more than 10 years unless it is extended by agreement of the parties.

W - With and Without Cause: Despite any contractual term to the contrary, an officer has the power to resign at any time by delivering notice to the corporation, and the corporation has the power to remove an officer at any time, with or without cause.

X - eXclusive Forum Selection Clause: MBCA §2.08 stipulates the "Exclusive Forum for Internal Corporate Claims," a provision that allows a corporation to specify in its articles of incorporation or bylaws that disputes pertaining to internal corporate matters must be litigated exclusively in a court within the corporation's state of incorporation, or another jurisdiction closely linked to the corporation. This clause ensures legal certainty and consistency by channeling internal corporate disputes to a predetermined legal jurisdiction, typically where the corporation has significant business ties or is incorporated. 

Y - Yearly Meetings: Corporations must hold annual meetings, the primary purpose of which is the election of directors. The board of directors, or those persons authorized to do so by the articles or bylaws, may call special meetings during the year to conduct business that requires shareholder approval. A special meeting may also be called by the holders of at least 10% of all the votes entitled to be cast at the meeting.

Z - Zach: Zach was the name of one of the shareholders in the July 2010 MEE Corporations question. This question focused on shareholder voting, including record dates and proxy voting, among other issues.