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Lecture 6

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Department
Law and Business
Course
LAW 603
Professor
Andre Serero
Semester
Winter

Description
LAW 603 -22 Chapter 22 - Legal Rules for Corporate Governance Management & Control of the Corporation • Power & responsibility in the corp. are allocated 1) Shareholders- entitled to the assets of the corp that remain after all the creditors are paid on its dissolution. Only powers are to vote 4 the directors, appoint auditor, vote on proposals made to them. Each share = 1 vote; don’t participate in managing the bus. of the corp 2) Directors – responsible 4 managing/supervising the management of the business of the corp & its internal affairs, issuing shares, declaring div, calling SH’s meetings. 3) Officers – appointed by directors & usually exercise substantial management powers delegated to them by directors • Private corporations – have few SH’s & same ppl may be the SH’s, directors & officers • Public corporations – corps that have distributed their shares to the public w. only a few SHers involved in the corp. as directors & officers; requirements under provincial sec. law. How SHs Exercise Power • Directors are obligated to call annual meetings @least every 15m. Annual meeting – SH’s elect directors, appoint an auditor, & review the annual financial statements. SH’s receive adv. Notice of the meetings, along w. info regarding these 3 items & any other bus. In public corp meetings are an impt opp. To question & criticize management, discuss & vote on proposals made to SHs. In private corp most SHs r directors, SH meetings may be only a formality. • Corp statutes allow any bus. that must be done @ a meeting to be recorded in written resolutions & signed by all SHs. Signed resolutions are commonly used as an alternative to meetings in corp. w. few SH’s & r just as effective as actions taken @ a meeting. • A small% of SH’S of public corp attend SH’s meetings in person. Can participate w.o attending by appointing a proxy, who doesn’t need to be a SH to rep them @ the meeting & vote their shares. Proxy, proxy holder has all powers of [email protected] the meeting, but must vote in accordance w. any direction given by the SH. • Public corp, management must send the SHs a form of proxy allowing them to appoint a proxy holder. Form is sent w. a management proxy circular – doc sent to the SHs that contains management proposals & info regarding the proxy, the business to be dealt w. @ the meeting & certain other info. Info provided by the circular enhances SHs ability to ensure that management is acting in their interests & to make informed choices regarding how to vote. • Dissent SH’s – those who disagree w. management proposals. Encourage SHs to vote against management. Dissent SHs are entitled to obtain a list of SHs & their addresses 4m the corp & to use this info to contract other SH’s. Must send out a dissidents’ circular – doc sent to all SHs by SHs who seek the votes of other SHs against management, w. info on their identity their relationship to the corp & their interest in the proposal. Rare in Canada marketplace; costs of complying w. the disclosure requirements are too high. • Approval = majority vote Shareholders Access to Info • SHs need info abt corp to see management & to exercise their rights. Corp must maintain these records & allow SHs access to them: articles, by laws, minutes of meetings of SHs & SHs resolutions, a share register showing the owners of all shares. • SH’s as well as creditors may examine &copy these records during bus. hours but minutes of director’s meetings & directors resolutions cant be inspected. • Annual financial statements – prepared by management;impt info for SHs. Public corp in annual report. Annual statements must be audited by an independent accountant who determines LAW 603 -22 whether the statements are in accordance w. GAAP & fairly present the financial results of the corp 4 the year. Auditor bases their opinion on evaluation of the financial records of the corp. • SHs may unanimously (generally) agree to dispense (give out) w. the audit requirement; commonly done in small private copr where all SHs are involved in the bus & don’t consider the protection of an indep. Assessment of the corp’s FS to be worth the expense. SH’s Agreements • Few SHs then SH agreement is used to create an arrangement for governing the corp that is diff 4m the arrangement that occurs under the statute. They may: a)Change SH voting entitlement & role of SHers in management b)Change SH approval requirements c) Create rules 4 share transfer Voting & Management • SHs may want to allocate decision making power amongst themselves in a way that is diff 4m the allocation that would result 4m the # of shares each hold. EXAMPLE Ellen & Phillipe decide to set up a corp to carry on a bus. of distributing computer software. Phillipe contribute 100 000 for the bus & be the sales manager. Ellen contribute the software; Phillipe 80% of shares & Ellen 20%. Each share = 1 vote, Phillipe can determine who will be on the board; doesn’t have to include Ellen. What if they consider themselves to be in a relationship in which each should have an = say & each wants to be on the board? Address this in SH’s agreement; both could agree that they will vote their shares to elect both of them as directors. Or SH decisions must be approved unanimously. • CBCS & statues modeled on it also allows all SHs of a corp to agree to alter the allocation of power btwn directors & SHs. Unanimous SHs’ agreement –may restrict in whole/in part, the powers of the directors to manage the business & affairs of the corp. agreement of all SH to transfer some/all of the directors’ powers to themselves. SH’s who are party to such an agreement have all the powers, as well as the duties & liabilities, of a director to the extent of the restriction. Directors are relieved of their powers, duties & liabilities to the same extent; power to manage directly. Share Transfer •Few SHs,share transfer is a problem. EXAMPLE Ellen would prob have difficulty selling her shares if she leaves the bus. b/c the bus. would have trouble operating w.o her expertise. Another problem w. finding a buyer 4 an interest in a small corp is that such interests are inherently hard to value; no market to establish prices; TSX •Difficult 4 non financial reasons; SHs don’t want other SHs to be able to sell their shares to just anyone; they can control who becomes involved in the bus. as a SH. All SH want minimal restrictions on their ability to sell their own shares. •Transfers are allowed upon compliance w. right of 1 refusal – right of SHs to be offered shares that 1 SH wants to sell before they are offered to non-sh’s. EXAMPLE Ellen wanted to sell her shares, a right of refusal would require her to offer them 1 to Phillipe @ a price set by her. Phillipe would then have a limited time to buy her shares. If he doesn’t purchase her shares, Ellen may offer them 4 sale to some1 @ the same time. This discourages Ellen b/c to sell @ the same price & setting an unreasonably high price 4 her shares in the1st place. •Shareholder agreement may also contain a shotgun buy-sell provision – share transfer mechanism that forces 1 SH to buy out the other. Ellen offers all of her shares to Philipe @ a price she specifies, Phillipe must then either (i) buy all of Ellens shares (ii) sell all of his shares to her @ that price; one of them ends up w. all the shares in the corp. Shareholder Remedies LAW 603 -22 Derivative Action •Value of shareholders’ investment will decrease if corp suffers a loss. SHs may seek a court’s permission to pursue relief on the corp’s behalf 4 breach of fiduciary duty/any other wrong done to the corp if the directors fail to do so. Directors may not act if the wrong is a breach of duty by the directors themselves. •Action started by a SH on behalf of the corp is known as derivative action – (action by a SH on behalf of a corp to seek relief 4 a wrong done to the corp) & any damages/ other relief goes to the corp. •A way for SHs to ensure that directors & officers comply w. their duties to the corp. Relief 4m Oppression •When actions/omissions by the corp/directors have oppressed/unfairly disregarded/prejudiced their interests, SHs may claim relief under the oppression remedy – allows a SH to claim relief 4m an act/omission by the corp/its directors that oppresses/unfairly disregards/prejudices the interests of the SH. •Relief 4m oppression is obtained by SHs directly. •Oppression remedy is 1 of the most flexible & effective SH remedies in the world. Relief is avail when the reasonable expectations of SHs abt management behaviour haven’t been met; includes anything the court decides is necessary to remedy the problem, ordering the corp to buy the oppressed SHs shares & orders against other SHs. Examples of behaviour that the courts have found oppressive: a) Approval of a transaction lacking a valid corporate purpose that is prejudicial to a particular SH b) Failure by the corp & its controlling SH to ensure that a transaction btwn them was on terms that were comparable to the terms that would have been negotiated by parties who weren’t related to each other. c) Actions that benefit the majority SH to the exclusion/ the detriment of minority SHs d) Lack of adequate & appropriate disclosure of info to minority SH e) Planning to eliminate minority SH Other SH remedies •Such as a court order that directs compliance w. the governing statute/ the rectification of corporate records that contain errors. •Liquidation/dissolution, winding up –corps assets r sold, its creditors paid off, any remaining $ distributed to the SHs, the corporation’s existence terminated. •may be ordered when it is “just & equitable” to end the corp’s existence. EXAMPLE court may order the winding up of a corp w. 2 = SHs who cant agree on how the corp should carry on bus. •Another remedy is avail 4 a SH who disagrees when @least 2/3’s of SHs approve certain fundamental changes to the corp such as specific major amendments to the articles, & the sale of all, or most, the assets of a corp outside the ordinary course of bus. Shareholders who vote against such changes are entitled to have their shares bought by the corp 4 their fair value.  Dissent &appraisal right – allows a change approved by most SHs to go ahead, while allowing those who strongly disagree to exit the corp. How Directors & Officers Exercise Power Directors st st •CBCA 1 directors of a corp r those named in the articles of incorporation. Hold office until the 1 meeting of SH’s, which must be held within 18 m of incorp. @ Tht meeting & Others @ which an election is required, SH must, simple majority vote elect directors. Some corp. statutes impose Can. Residency requirements 4 some proportion of directors. Under CBCA 25% 4 most corps. LAW 603 -22 •Exercise their power collectively & primarily @ meetings w each director getting 1 vote. Written resolution signed by all directors is as effective as a resolution passed @ a metting. •Committees include an audit committee to supervise financial reporting by the corp & manage the relationship w. the corp’s auditors & a committee to make recommendations to the full board regarding officer compensation. •Management is delegated to the officers, w directors responsible 4 making high level policy decisions & overseeing management. •CORPORATION’S BY LAWS TYPALLY CONTAIN ITS RULES 4 CALLING & CONDUCTING MEETINGS, SUCH AS THE REQUIRED QUORUM & WHO IS THE CHAIR. THERE ARE DEFAULT RULES IF THEY DNT HAVE THEIR OWN. Officers •CEO, president, secretary. Common corp structure gives the CEO overall resp. for running the corp’s business while the day-to-day operations are delegated to others who report to the CEO. Corp secretary is usually a lawyer employed by the corp, who is a senior officer w. extensive resp. 4 compliance w. a wide range of legal requirements, incl. corp law obligations. DIRECTORS CAN BE OFFCIERS. •Corp stats give directors the power to designate offices such as president & to specify the duties of those offices. Done in a by law passed by directors & approved by SHs just after incorporation. •After setting up offices, directors appoint ppl to fill them. •Issuing shares, declaring div, repurchasing shares of the corp r functions that cant be delegated to officers. Management’s Duties to the Corporation Fiduciary Duty • Duty of officers & directors to act honestly & in good faith w. a view to the best interests of the corp. Most impt legal standard of behaviour 4 officers & directors. Sec.122 (1)(a) of CBCA defines this duty: each director & officer in exercising his powers & discharging his duties shall….act honestly & in good faith w. a view to the best interests of the corp. • Fiduciary duty is owed to the corp, not to the SHs or to employees, customers, suppliers, creditors, the public or any other corporate stakeholder. • Cad courts often treated the interests of the corp as defined by the interests of SHs: whatever maximized the value of SHs’ investment in the corp’s shares was regarded as being in the best interests of the corp. Supreme Court rejected this & said “it may be legitimate, given all the circumstances, to consider…the interests of SHs, employees, suppliers, creditors, consumers, govt & the environment” in determining the best interest of the corp. • Fiduciary duty’s main purpose is 2 prevent directors& officers 4m benefitting themselves wen their personal interests & their duty to the corp conflict. Protects the investment of SHs in the corp by prohibiting directors & officers 4m favouring their interests @ the corp.expense. Transacting w. the Corporation • Arises when a director/officer contracts w. the corp. • B/C of inevitable conflict btwn duty & personal interest, fiduciary was prohibited 4m participating personally in any transaction w. the corp. Creats a problem where the best price/the only source of supply is a director/officer/ a business related to a director/officer. Often arises in transactions btwn corp w. common ownership that do bus. w. each other. • CBCA & most other Cad statutes is to permit a transaction btwn the corp & a director/ officer (business related to them) if procedural safeguards are observed. Director/officer must give LAW 603 -22 adequate notice of their interest to the board &may not vote on the approval of the contract by the board of directors. • Notice regarding the interest should be recorded in the min. of the board meeting @ which the contract is approved. Compliance w. these requirements is the only way to avoid a fiduciary breach; if not complied w corp may refuse to complete the transaction. Taking Corporate Opportunities • Conflict btwn personal interest & fiduciary duty arises when a fiduciary considers taking adv of some project/opp in which the corp has an interest. Situation arises frequently b/c a principal task of management is 2 choose the projects the corp should invest in such as acquiring an asset, establishing a bus, signing a contract. • Fiduciary duty prohibits fiduciaries 4m taking an opp belonging to the corp. If they breach their duty, any personal profit 4m the opp must be paid over to the corp. This obligation to account 4 profits is intended to eliminate any incentive 4 the fiduciary to take the opp in the 1 place. • Whether a breach of fiduciary duty will be found in any case depends upon several factors. Courts have said that these factors indicate that an opp belongs to the corp: A) Significance of opportunity - opp would have represented a major component of the corp’s bus. if acquired/ was a unique opp rather than merely 1 of many considered by the corp. B) Private opportunity - opp was not publicly advertised/ otherwise widely known, but was 1 to which the fiduciary has access only by virtue of the fiduciary’s position in the corp. C) No rejection - opp had not been rejected by the corp b4 the fiduciary acquired it.Case- Cad Air D) Specific nature of opportunity – opportunity that the corp had been actively pursuiServices Ltd rather than 1 that was simply in the same general area as the corporation’s businev. O’Malley E) Maturity of opportunity – extensive work Case Brief 22.1 – Canadian Air Services Ltd v O’Malley (1974) 40 DLR (3d) 371 (SCC) • Bus of mapping & geographic exploration. O’Malley the president, was given responsibility 4 obtaining a contract to map Guyana. After working on the project he resigned and incorporated his own business, Terra Surveys Ltds to perform work similar to what he was doing for Canaero. Govt of Guyana asked 4 bids to map the country & accepted Terra’s bid over Canaero’s. Canaero sued O’Malley,saying he breached his fiduciary duty to Canaero by taking the benefit of an opp belonging to the corp. Court said he breached his duty. Court cited several factors that showed that the opp to map Guyana belonged to Canaero. • Specific nature of opportunity – it was an opp that the corp had been actively pursuing, rather than 1 that was simply in the same general area as the corp’s business. Although the ultimate contract was diff in some respects, it was substantially the same opp that Canaero had been working on through O’Malley. • Maturity of opportunity – also a mature opp in the sense that Canaero had done extensive work in preparing for it. Court decided that O’Malley close relationship to the opp while @ Canero supported a conclusion that he should be prohibited 4m taking it. O’Malley learned abt the opp through his position, did the prep work relating to the opp as an officer of Canaero & negotiated 4 it on behalf of the corp. Competition by Directions & Officers w. the Corporation • It is not a breach of fiduciary duty to terminate 1’s relationship w. a corp & go into competition w. it. Otherwise the fiduciary duty might become an unreasonable restraint on a person’s LAW 603 -22 ability to earn a living. However a fiduciary may not compete w. the corp while remaining in a fiduciary relationship w. it. • Using a corp’s confidential info 4 personal gain would also be a breach of the fiduciary duty. Any competing fiduciary will be forced to pay over all profits 4m the competing bus. 2 the corp. Duty of Care nd • 2 impt legal standard of behaviour 4 management is the duty of care – requires every director & officer to exercise the care, diligence & skill that a reasonably prudent person would exercise in comparable circumstances. • CBCA defines: every director & officer of a corp in exercising his powers & discharging his duties shall…exercise the care, diligence & skill that a reasonably prudent person would exercise in comparable circumstances. • Directors must have @least a basic understanding of the bus. Director
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