Associations Class Notes
Here’s some rich and complex stuff. Listen hard! We’ll go over it slowly.
English speaking countries, there is no such thing as bearer stock certificates.
Well, what are those? They would
What about voting with bearer stock? It’s a similar process. You take the certificate to a certain bank before the shareholder meeting, you get a ballot, and you cast a vote. They make a checkmark on the back of the certificate saying that the vote for the current meeting has already been cast. In English speaking countries, this isn’t allowed.
The state statutes all require that stock certificates be in registered form, in other words, the exact opposite of bearer form. The company maintains books known as stock transfer books. Sometimes this is delegated to an independent bank known as the transfer agent. The board of directors will set a record date for all shareholders’ meetings. The holders of record as of the record date vote.
about dividend payments on stock? There
are three big dates. There’s a
declaration date when the board declares them.
The governing law concerning the transfer of stock certificates and registered debt is found in three places: Uniform Commercial Code Articles 1, 8, and 9; ORC § 1701.04-.37 (sprinkled throughout), and the rules of NASD, NYSE, and AMEX. Most of the time, the former two sources will agree completely. Once in a while, though, there may be some slack between the two. It usually doesn’t cause a problem, but it does every once in a while.
Article 8 classifies stock in corporations as investment securities. Nearly all courts will say that close corporation stock, even though it’s not publicly traded, is of a type that is publicly traded, and thus they will apply Articles 8, 9 and 1 in full. A very small number of cases will deviate from this approach. What’s important about investment securities? The big deal is that it’s just like the Record Acts! A bona fide purchaser is someone who gives consideration, acts in good faith, and who is not on notice of an adverse claim.
Let’s say bank B lends Mr. Smith $100,000 on Mr. Smith’s GE stock certificates. Smith takes the certificates to bank B and endorses them in blank, meaning, he doesn’t say who he’s endorsing to. The bank will put on a signature guarantee, in case they have to foreclose on the pledge and sell the stock. The NYSE rules require a guarantee of signature from an NYSE member firm or a bank. The loan officer is negligent and puts the certificates in his briefcase. On the way home, he loses the briefcase! A thief finds the briefcase and the stock certificate endorsed in blank. The thief takes the certificates to his stock broker and the stock broker has no reason to doubt his word that he bought the certificates from Smith. The broker sells the certificates through NYSE. The purchaser has 100% title to those certificates. How does bank B change its operations after this event? They will have Smith sign a separate piece of paper: a stock power or assignment. They will keep the two documents separate at all times.
State statutes protect the company in paying dividends. They may rely upon their books of record unless they have actual knowledge to the contrary. But there are two exceptions to this rule: (1) upon final dissolution, to get your money from the company, you must present your actual certificate, which they will stamp “cancelled”, and keep it. (2) If it’s a series of payments in partial liquidation, you’ll have to present your certificate several times. This is certainly cumbersome, but the Internal Revenue Service loves it because they can trace who gets what in dividends and interest. Some companies have gone to a wholly electronic dividend payment system, but these are the small minority. Most use the old paper method.
Public offerings of debt over one year in duration have to be in registered form to get the Internal Revenue Code § 163 interest deduction. The Internal Revenue Service pushed for this! But there are two exceptions: (1) if it’s a non-public issue of debt, for example, the debt of a close corporation, then you don’t need to comply. (2) If it’s less than one year, even if it’s public, you don’t need to comply.
Salgo v. Matthews
case involved an insolvent insurance company in
State statutes literally require the appointment of an important officer called the Inspector of Elections for each shareholders’ meeting. This person is important because if there is a close or disputed item, the inspector will conduct an administrative hearing, take evidence from lawyers for both sides, and then will issue his certificate. He’ll basically say, “Jones won” or “Smith won” and give his reasoning. In most states, that report is accepted in the courts prima facie. There is a presumption that they are correct. If it’s a close corporation and you don’t anticipate any dispute, they’ll usually pick one of the corporate officers and name him Inspector of Elections. If there is likely to be a dispute, they’ll hire one of the Big Four accounting firms. If you have issues that you want to work out up front (before the meeting) in court, in many states the only way to do so is through declaratory judgment. If you went for a mandatory injunction, they may say that you’re invading the responsibility of the Inspector of Elections. But if you ask for declaratory judgment, there may not be a problem.
Ling and Co. v. Trinity Sav. and Loan Ass’n.
On the back of the stock certificate in small print was a notice that transfer of a big block of stock probably would require prior approval of the NYSE. The person pledging the stock didn’t make his loan payment and the S & L wanted to foreclose and sell the stock. But what’s the problem? The rules of the NYSE did somewhat prohibit the transfer, and those rules were not unreasonable restraints on alienation on a common law basis. The court holds that a straightforward interpretation of Article 8 of the Uniform Commercial Code says that generally speaking, restrictions on transfer must be conspicuously put on the face of the certificate (e.g. full caps or a different color with big type). Neither one was done here! The Uniform Commercial Code goes on to say that if it’s a bona fide mortgagee or purchaser for value without notice of this, that person will take free of the restriction. The court held that since the notice hadn’t been placed conspicuously on the face of the certificate, the trial court should determine whether the S & L had actual knowledge of the restriction at the time that they made the loan.
second issue was whether the restriction was valid under the Texas Corporation
Code. Shipman claims that they strained
a bit, but they found that the restriction was not unreasonable under common
law, and thus it would meet the
these two cases, the stock certificates have been genuine. But forgery exists,
and it’s a problem! About a dozen years
ago in Japan, a very rich lady went to #6 bank and presented what she claimed
was a negotiate certificate of deposit from #1 bank. It had the lady’s name on it and it was for
several billion dollars
debtors will fight security title! That’s
how mortgages came up in
Deadlocks – In re Radom & Neidorff, Inc.
This case talks about dissolution, which has two “flavors”: (1) voluntary and (2) involuntary. Voluntary dissolution is governed by § 1701.86-.91, where the shareholders vote to dissolve the corporation. That vote will give the directors authority to sell the assets and .86-.91 will direct the directors (at their own peril!) to pay or make adequate provision for all creditors. Then the directors will distribute the cash left over to the shareholders. Once in a great while, it will be an in-kind dissolution of the corporation. If there’s only one shareholder, and they only own Greenacre, then the corporation can distribute Greenacre to the sole shareholder. That’s rare, because under the Internal Revenue Code §§ 331-338, if it’s a Sub C company, there will be a double tax: one at the corporate level and one at the shareholder level. That’s why companies often use an LLC. The tax problems can be overcome if the sale is set up solely for the stock of another company: the whole thing can be tax-free!
dissolution comes in two “sub-flavors” at common law: a court can enter an
order of dissolution when it finds (1) fraud, (2) oppression (in a close corporation),
or (3) deadlock (by statute). You’ll
find these statutes in
are the facts of the case? We had a
one time, the directors had agreed on the management of the company and the
brother was making money for the company.
Shipman thinks that the bank signature card for the company required the
signatures of both the brother and
the sister. Usually, only one or the other’s signature is needed. This is different than the case of Wilderman. The brother and sister are suing each other! The sister won’t sign his salary checks! But he had a very simple remedy: he could
have sued under Rule 65 for a temporary injunction. In
The person seeking equity must do equity. If the person seeking equity has unclean hands and the other person doesn’t, then you don’t get your relief. If both people have unclean hands, then you consider their “comparative rectitude”. Equity orders are heavy stuff!
are fairly common in closely-held corporations.
It’s not uncommon to see these kinds of disputes arise, and they’re
pretty difficult. What’s the lawyer’s
duty in this kind of case? The
Shareholder voting – Gearing v. Kelly
Here we have two families that come together to start a corporation. Let’s say that each has 100 shares out of 200 shares outstanding total. The company they form has no cumulative voting, it has straight voting. Straight voting means that if you own 100 shares and there are four directors all elected annually (that is, the board is not classified – divided into two or three classes where some are elected each year and others are elected in alternate years), and they haven’t opted to have cumulative voting in the charter, then for each of the four spots, you can cast 100 votes. To put it another way, you cannot accumulate more than 100 votes and spread them as you wish.
essence of cumulative voting is that you take the number of directors to be
elected, multiply it by the number of shares you own, take the product and you
can distribute it as you wish. In good times, the company gave each of the
two families two directors. They went
into the annual meeting and agreed to cast a joint ballot of the two shareholders,
giving each side two directors. But one
of the directors from one side resigns due to disputes that have arisen. The
It’s half civil and half criminal!
It translates to: “By what right
do you hold an alleged office?” Jones #1
says that if she showed up, the Smiths would have screwed her over by
appointing Smith #3. She claims that the
only way she could keep the balance from shifting was to boycott the vote. It’s an appealing argument, but what does the
court hold? They say that Jones #1 was
bad because she purposely didn’t show!
Thus, they don’t give her any relief.
How do you avoid the Gearing
problem with two different classes of stock (class “J” and class “S”)? How do you handle death, resignation, or
disability under the