BASICS OF CORPORATIONS

FORMATION AND FINANCING

 

 

General definitions/vocabulary: [4262]

 

•     Directors: Persons elected by shareholders and responsible for overall management, but not “hands on” – more philosophic) of the corporation;

 

•     Officers: Persons hired by the board of directors and responsible for day to day operations of the corporation and carrying out the vision of the directors; and

 

•     Shareholders: Owners of the corporation in proportion to their ownership of corporate stock outstanding.

 

These people may be the same (ie., a director, officer and shareholder), but usually not.

 

•     Corporate Profits

 

•     Dividends: Corporate profits distributed to share­holders in proportion to their shares held usually in cash; and

 

•     Retained Earnings: Corporate profits not (yet) distributed to shareholders.

 

•     Corporate Taxation: Corporate profits are taxable to the corporation when they are distributed in the form of dividends, but not when they are “reinvested” in the corporation as retained earnings.  The traditional corporate shareholder actually pays tax twice on his or her dividends, once at the corporate level, another at the taxpayer/shareholder’s level.  Not Cool.

 

 

CORPORATE POWERS- Constitutionally Allowed [4263]

 

In general, a corporation can engage in any act or activity that a natural person could do to accomplish the task for which it was created- which means both legal and illegal activities. Specifically, secure from unreasonable searches and seizures, due process, double jeopardy, equal protection, and freedom of speech.  It does not have the right against self incrimination, however. 

 

•     The express powers of a corporation are found in the following sources, and any conflict between sources is to be resolved according to the following priorities:

 

(1)  United States Constitution takes priority over

 

(2)  State Constitution(s), which take priority over

 

(3)  State Statutes, which take priority over the

 

(4)  Articles of Incorporation: a document filed by the corporation in the state of incorporation, containing information about the corporation’s organization and functions which take priority over

 

(5)  Corporate By-Laws -- a set of governing rules adopted by the corporation’s shareholders which take priority over

 

(6)  Resolutions of the Corporation’s Board of Directors:  policy statements adopted periodically by the board.

 

 

 

DOMESTIC, FOREIGN, AND ALIEN

CORPORATIONS  [4262]

 

This is a favorite of mine on an exam:

 

•     Domestic Corporation: A corporation incorporated in a given state and doing business in that same state.

 

•     Foreign Corporation: A corporation doing business in a given state, but incorporated in another state.

 

•     Alien Corporation: A corporation doing business in a given state, but incorporated in (or otherwise formed, as provided for by the laws thereof) a foreign country.

 

•     Foreign and alien corporations do not automatically have the right to do business in a state other than the one in which they are incorporated. They may be required to obtain a certificate of authority from any other state in which they want to do business.

 

•     Any particular corporation doing business in several jurisdictions can be a domestic corporation in one jurisdiction, and a foreign corporation in another. The distinction depends on in which jurisdiction the corporation’s activity is being assessed.

PRIVATE, PUBLIC, AND NON-PROFIT

CORPORATIONS [4262]

 

•      Private Corporation: A corporation formed by and owned by individuals and other private interests. These “private” corporations include:

 

•     Publicly-Held Corporation: A corporation whose shares are sold to and held by, or on behalf of, the general public, and are traded on a public exchange.  For example, Microsoft.

 

•     Privately-Held Corporation: A corporation whose shares are not publicly-traded, and may generally only be bought from or sold to the corporation. For example, an air conditioning business owned by several different families..

 

•     Close Corporation: A privately-held corporation with a small number of shareholders, often members of the same family (a/k/a “closely-held corporation”).

 

•     Public Corporation: A corporation formed by a government to serve some public purpose. Don’t be confused with a “publicly HELD” corporation.  For example, the US post office.

 

•     Non-Profit Corporation: A corporation formed, in many cases, for charitable, educational, religious, or similar purposes, and organized and operated without the goal of making a profit. For example, the Red Cross.  Many churches are incorporated.

 

“S” CORPORATIONS

 

•      S Corporation: A closely-held corporation that is taxed like a partnership, while affording its owners the limited liability of a corporation. In order to qualify as a S Corporation, the corporation:

 

(1)  must be incorporated in the U.S.;

 

(2)  must not be a member of an affiliated group of corporations;

 

(3)  must be owned by individuals, estates, and/or certain trusts (S Corporation shares cannot be owned by other corporations, partnerships, or nonqualifying trusts);

 

(4)  must have 75 or fewer shareholders;

 

(5)  must have only one class of stock (although not all shares must have the same voting rights); and

 

(6)  must not have any nonresident alien shareholders.

 

CORPORATE FORMATION: PROMOTION [4265]

 

 

•     Promoter: A person who takes the preliminary steps in organizing a corporation, including:

 

(1)  Issuing a prospectus a document required by federal and/or state securities laws that describes the financial operations of the proposed corporation sufficiently to enable prospective investors (subscribers) to make an informed decision;

(2)  Procuring stock subscriptions (i.e., a contract to buy the stock once it is issued);

(3)  Making contracts (e.g., to purchase or lease property for corporate facilities, to secure the services of attorneys, accountants, and other professionals); and

(4)  Securing a corporate charter (incorporating the proposed company).

 

•     Promoter Liability: A promoter is personally liable on contracts made prior to incorporation, unless the other party to the contract agrees to hold the corporation, rather than the promoter, liable. Once the corporation is formed, it may release the promoter and assume liability on the contract through novation.

 

 

CORPORATE FORMATION: INCORPORATION [4265]

 

 

•      Chartering: The first step in incorporation is to select the state of incorporation. Delaware is very popular because of its favorable to business corporation laws. Increasingly, though, corporations are incorporating in the state where they plan to base their operations.  Texas is a friendly state for incorporating, although the franchise tax is a negative factor. 

 

•     Articles of Incorporation: The primary document needed to incorporate, the articles of incorporation include basic information about the corporation and will serve as a reference for future business organization and operations. This document is sent to the secretary of state along with a filing fee.  Assuming things are in order, and the name of the company is not used by someone else, the state issues the corporate charter (the certificate of incorporation as described below), which gives the entity “life” from a state point of view. 

 

•     Certificate of Incorporation: Once the articles have been executed by the incorporators, they are sent to the appropriate state official, along with a filing fee, in return for which a certificate of incorporation will be issued by the State evidencing the corporation’s legal existence. Basically a governance document, usually expanded later by the bylaws, which really are the company’s “rules of the road” which describe everything from the company’s fiscal year, defines the functions of the officers, discusses liability protection, and similar such items.  Other things have to be done, however, such as having the initial corporate meeting, obtaining a tax identification number, election of officers, selecting of banks, etc.

 

•     Incorporator(s): The person(s) who execute(s) the articles of incorporation.

 

 

 

CORPORATE STATUS/Classification [4262]

 

•      De Jure Corporation: A corporation whose articles, while containing some technical defect, substantially comply with the laws of the state of incorporation.  For example, perhaps the address is incorrectly stated. Minor issue.

 

•     De Facto Corporation: A corporation which, despite some substantive defect in its incorporation and/or continuing status, is recognized to exist, even if its existence is improper or illegal. Defacto status requires:

(1)  A state statute under which the corporation can be validly incorporated;

(2)  A good faith effort by the corporation to comply with that statute; and

(3)  The corporation has actually undertaken to do business.

Perhaps the entity has failed to pay its franchise taxes or the check was lost in the mail and it can be proved it was mailed.

 

•     Corporation by Estoppel: A business entity that holds itself out as a corporation will normally be estopped from denying corporate status against claims by a third party. (who cares???)

 

 

DISREGARDING / PIERCING THE CORPORATE VEIL [4261.04]

 

•       At times, owners and/or officers and/or directors of a corporation will use a corporate entity to commit fraud and/or other illegality. In such a case, a plaintiff may be able to “pierce the corporate veil” -- i.e., disregard the corporate entity and its attendant limitations on personal liability -- and sue the wrongdoers individually for actions they took as owners, officers, and/or directors of the corporation.

 

•     The following factors may persuade a court to pierce the corporate veil:

 

•     The plaintiff was tricked or misled into dealing with the corporation rather than the individual;

 

•     The corporation was created never to make a profit or had insufficient capital at the time of its formation to meet its prospective debts and/or potential liabilities;

 

•     Statutorily-required corporate formalities are not observed; and

 

•     Personal and corporate interests are commingled to the extent that the corporation ceases to have a separate identity from its owner(s).

 

Guess what happens then?  The owners become personally liable for the corporation’s liabilities.  This can be devastating!

CORPORATE FINANCING 4269

 

•       Bond: A debt security that represents borrowing by the corporation, in accordance with a bond indenture -- a contract between the issuing corporation and the bondholder.

 

•     Stock: An equity security that represents the purchase of a share of ownership in a corporation by a shareholder.

•     Common Stock: Shares of stock in a corporation that give the shareholder a proportionate interest in the corporate with regard to voting, earnings, and net assets. Common stock shares are the last to receive dividends (distributed income) and to receive asset distribution upon the corporation’s dissolution.

 

•     Preferred Stock: Shares of stock that have priority over common stock both with respect to payment of dividends and distribution of assets upon the corporation’s dissolution.