ADM4716 Lecture 8: Module 8 Business Organizations

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The sole proprietorship is the simplest way of carrying on business. It
occurs when any single person carries on any type of business activity by
herself or himself without any other business associates. Two sole
proprietorships carrying on business together would be a partnership.
Even if there is only a single principal in a sole proprietorship, it may or
may not have employees. There is only one person making the decisions
and that person is the owner. The sole proprietor carries on business in an
unincorporated form. The business is the proprietor; the business has no
separate legal identity from its owner
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Because the sole proprietorship has no separate legal identity, it is a very
convenient forum by which to conduct business. The sole proprietorship
exists the moment an individual begins a business. Nothing needs to be
done to create it. Also, control of the sole proprietorship is within the
hands of its owner. The owner does not have to answer to anybody; she or
he is responsible only to herself or himself. Similarly, all of the profits
belong solely to the owner
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At the same time, it is this lack of separate legal identity from its owner
that can be the source of its many disadvantages. All the losses of the sole
proprietorship are the losses of its owner. All business debts incurred in
the operation of the sole proprietorship must be paid by its owner from the
owner’s personal assets
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For example, Dick decides to begin a lawn mowing business. If the
business does not make enough money to pay for its operating costs (for
example, gas and oil for the lawnmower) and its capital costs (for
example, the lawnmower), Dick will have to pay for them from his
personal bank account. The owner has unlimited liability for all the debts
of a sole proprietorship; this is perhaps its greatest disadvantage
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Because there is no distinction between a sole proprietorship and its
owner, all income of the sole proprietorship is income in the hands of its
owner and is taxed at personal income tax rates. While the owner may be
able to deduct certain expenses from his or her income, these negative tax
consequences are also a strong incentive to abandon the sole
proprietorship as a business vehicle
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Agency is a relation between a principal and an agent by which the agent
is authorized to act on behalf of the principal. Depending on the scope of
the authority the agents have been given, they may even enter into
contracts with third parties in the name of their principal. The principals
will then be bound by these contracts, even if they are unaware of their
existence. The agents will not be bound by the contract because they are
not contracting in their own name but in the name of their principal
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Partnership2.
One of the great advantages of a partnership is that it allows two or more
people to pool their resources together and to act collectively as a single
business unit; its disadvantage is that it does not have a separate legal
personality from the individual partners
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Like the Sale of Goods Act, the Partnerships Act (PA), which regulates
partnerships, is a codification of previous judicial decisions, and it has
continued almost unchanged to this day. There are two types of terms in
the PA. There are terms which apply to all partnerships as a matter of law,
and there are terms that apply when the parties have not addressed the
matter in question. In other words, some of the terms of the PA are
mandatory. The mandatory terms govern the relationship of the
partnership with third parties. The optional terms are implied in a
partnership agreement unless the parties have specified otherwise; they
govern the relations among the partners within the partnership itself
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Relation Between Partnership and BusinessA.
Apartnership is defined by section 2 of the Act as a relation between two
or more people who carry on business in common with a view of making
aprofit. The two key terms in this definition are business in common and
profit. A business in common is more than a joint enterprise. In order to
qualify as a partnership, the joint undertaking must be a business activity.
A relay team is a joint enterprise and may be undertaken with a view to
making a profit, but it is not a business activity (at the same time, a
professional relay team would be a business activity). Besides a business
activity, the joint enterprise must also be a business in common. The text
(pp. 326-327) lists a series of activities which may appear to be business
in common but which are not (PA s. 3). Finally, the joint activity must be
acontinuing activity and not a one-time project
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Methods of Creating a PartnershipB.
There are several ways of creating partnerships. The first is by an express
agreement between the parties. The text (pp. 328-329) sets out the areas
which a partnership agreement should cover.
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Secondly, it is also possible to create a partnership inadvertently,
unintentionally (p. 327). If parties accidentally form a partnership, then
they must bear the consequences of the existence of the partnership. Since
a partnership does not have a separate legal identity, its debts and profits
are the debts and profits of the partners, and creditors of the partnership
can demand that the partners use their personal assets to liquidate
partnership debts. It is, therefore, important that individuals engaged in a
business undertaking do not inadvertently create a partnership since they
will then be putting their personal assets (their car, their home, and their
savings) at risk.
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When confronted with the claim of a creditor that certain individuals have
formed a partnership and the denial of debtors that they have, the courts
will look at the definition of a partnership as provided in section 2 of
the Partnerships Act (see above). The courts will also refer to certain
additional rules in order to determine whether the parties had formed a
common business undertaking for profit. First, if the parties have
contributed jointly to the capital used to form the business, the courts will
be more likely to presume that the parties had created a partnership than
otherwise. Secondly, if all parties take an active role in the conduct of the
business, especially when it comes to decisions on important matters, the
courts will more readily presume the existence of a partnership. Finally,
an intention to jointly share expenses and profits make it easier to infer the
existence of a partnership.
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Thirdly, it is possible to create a partnership by estoppel (p. 329) or
holding out (PA, s. 15(1)) just like an agency relationship can be created
by estoppel.
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Relations of Partners to Third Parties1.
The Partner as Principal and Agenta.
In a partnership, every partner is at the same time the principal and the
agent of every other partner (PA, s. 6-7). Consequently, a partner as
principal will be bound by the actions of his or her agent-partners
undertaken within the scope of the partnership business. Also, a partner
as agent will bind his or her principal-partners when he or she acts within
the scope of the partnership business. Since agents can bind a principal
when acting not only within the scope of their actual authority but also
within the scope of their apparent authority, so it is for partners (PA, s. 8).
They will bind their partners when acting within the scope of both their
actual authority and their apparent authority, unless the third party is
aware of special limits on their actual authority (PA, s. 9)
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Vicarious Liabilityb.
The principle of vicarious liability holds one person responsible for acts
committed by another. The application of that principal to partnerships
means that partners will be held liable for all acts of their partners
undertaken within the scope of the partnership business
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Unlimited Liabilityc.
A partnership is an unincorporated entity and, as such, has no separate
legal identity. Partners are jointly liable for the debts and obligations of
the partnership (PA, s. 10). The debts of the partnership are the debts of
the partners; that is, each partner is wholly responsible to answer for the
partnership debts from his or her personal assets (home, care, personal
savings, etc.). For example P-1, P-2, and P-3 are partners and owe creditor
C $3 000. P-1 and P-2 do not have the money to pay. C can demand that
P-3 pay the whole sum and P-3 must. It will then be up to P-3 to obtain
reimbursement from P-1 and P-2 for their shares of the debt. The three
partners will be responsible for their shares of the debt in proportion to
their shares of the profits according to the partnership agreement. If the
partners had agreed that P-1 was supposed to receive 50% of the profits
and P-2 30%, P-3 could then demand $1 500 from P-1 and $900 from P-2
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Relations of Partners to Each Other2.
Two methods are available to partners to govern their relationship. First,
they can, by express agreement, specify the terms that will define the
partnership. If the parties choose, they can vary the presumptions found in
the PA. Secondly, they can say nothing; in this case, they will be governed
by the terms that can be inferred from the course of their dealings, or, by
default, the terms of the PA will apply (PA, s. 20).
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Although the PA does not use the term fiduciary duty, it specifies a series
of duties that partners have to each other which, in turn, create a fiduciary
duty between the parties. Partnership property including personal property
contributed by any of the partners to the partnership in order to allow it to
carry on its business cannot be used for personal gains (PA, s. 21(1)).
Partners must show how they have used partnership funds and property
(account), and any profits made must be turned over to the partnership
(PA, s. 22 and 29). A partner who competes with the partnership must turn
over to the partnership all profits made from the competing venture (PA, s.
30). A partner must disclose to his or her partners any information
received about the partnership business (PA, s. 28).
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the presumption that profits and losses will be shared equally;1.
the presumption that expenses and monies advanced (lent) to the
partnership will be reimbursed;
2.
the presumption that all partners participate equally in the
management of the partnership;
3.
the presumption that no partner is to receive a salary; and4.
the presumption that any change to the partnership agreement
requires the unanimous consent of the partners.
5.
The PA (s. 24) allows the partners to vary the following terms of
the partnership agreement:
Advantages of the Partnership3.
Partnerships as a form of carrying on business are less expensive that a
corporation. The potential costs of unlimited liability, the principal
disadvantage associated with the partnership, may be overcome through
insurance. However the cost of insurance means that it may be
prohibitively expensive to overcome this disadvantage
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Another advantage of the partnership as a form of carrying on business is
the protection that it affords to the individual partner. Unless the
partnership agreement provides otherwise, unanimous consent is required
for all decisions that touch the business of the partnership.
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Termination of the PartnershipC.
when the parties say it will end; that is, at the end of the term (one
month, one year, etc.) specified by the parties in the original
agreement;
1.
when the project for which the partnership was formed comes to an
end;
2.
when a partner gives notice to the other partners of his or her desire
to terminate the partnership;
3.
when a partner becomes bankrupt, insolvent, or passes away; and4.
when a court orders the dissolution of the partnership.5.
Sections 32 to 44 of the PA govern the dissolution of the partnership. It
may end
When a partnership is dissolved, all assets must be liquidated, and the
proceeds of the sale distributed as provided (see below). If any of the
former partners wish to continue working in a new partnership, this
requirement of dissolution becomes a hindrance to the smooth and
profitable functioning of the partnership business. The partners may
include a clause in the partnership agreement by which there will be a
valuation of the departing partners share of assets and liabilities. The
departing partner will then receive payment from the partnership for his or
her share of the profits or make payment into the partnership to cover his
or her share of the losses.
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Upon dissolution of the partnership, it is very important that the
partnership comply with the requirement of notification. Customers who
have had dealings with the partnership must be made aware that the
partnership no longer exists. Otherwise, a former customer may deal with
an ex-partner thinking that he or she is dealing with the partnership. By
applying the doctrine of apparent authority, the former partners will be
bound by the actions of the ex-partners who are acting within the scope of
their apparent authority. It is also recommended that an advertisement be
placed in The Ontario Gazette, the official newspaper of Ontario
government. This will protect the former partners from claims by persons
who had not had dealings with the firm before the dissolution of the
partnership (PA, s. 36 (2)).
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Distribution of Assets and Liabilities2.
Upon dissolution, the distribution of assets and liabilities occurs in the
order set out by section 39 of the PA. First, all partnership property is
applied against the debts and liabilities of the partnership; that is, monies
owed to individuals who are not part of the partnership. Section 44 of
the PA provides that if there are insufficient profits to pay out the debt and
liabilities, these will be paid out of the capital that the partners contributed
when they set up the partnership. If the partnership capital is not
sufficient, each partner will contribute to payment of the losses on a pro
rata basis in proportion with his or her share in the profits.
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Secondly, once the creditors of the partnership have been paid, any
remaining profit is paid to partners who are owed money by the
partnership. Thirdly, partners are reimbursed their capital from remaining
sums on a pro rata basis. Fourthly, any remaining money is distributed to
the partners on a pro rata basis; this is done following the same proportion
by which profits are divided among the partners
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Limiting the Liability of PartnersD.
To create a limited partnership and to limit one’s liability to third
parties for the acts and the debts of the partnership, a declaration of
limited partnership must be filed with the appropriate government
registry office. There are two types of partners in a limited
partnership, general partners and limited partners. At least one of the
partners must be a general partner.
Ageneral partner has unlimited liability for the acts and the debts of
the limited partnership, as is the case for a partner in an ordinary
partnership. The general partners are responsible for the
management of the limited partnership.
Alimited partner is only liable for the amount of capital that they
contributed to the limited partnership. This limitation of liability
comes at a cost. A limited partner may not take part in the
management of the partnership. If it does so, it loses its status as a
limited partner and becomes a general partner; there is then no limit
on its liability for the acts and the debts of the partnership.
Limited partnerships allow limited partners to limit their liability for acts
and debts of the partnership to the sums they have invested in a given
partnership
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Limited Liability Partnerships2.
Limited liability partnerships have been created to provide professionals,
such as lawyers and accountants, with a way of limiting their potential
liability for the negligence of their partners. While a partner still has
unlimited liability for his or her own negligence in a limited liability
partnership, he or she is no longer liable for the negligent acts of his or her
partners and for the acts of those persons under her/his direct control.
Partners in a limited liability partnership can thus shield their individual
assets from seizure by creditors of the limited liability partnership or of
other partners.
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the Act governing the profession must expressly authorize the
professional to form a limited liability partnership;
1.
the professional organization governing the profession must require
that the partnership maintain a minimum amount of liability
insurance; and
2.
the partnership must register its name under the Business Names
Act.
3.
However, certain conditions must be met in order to form a limited
liability partnership:
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The limited liability partnership must maintain professional liability
insurance coverage for all the partners in order to ensure that the injured
party will be able to be compensated for his or her loss caused by the
negligence of the professional.
CorporationsIII.
Because the law recognizes that a corporation has its own separate legal
identity, investors—that is, shareholders—can use it as a vehicle to
conduct business while not exposing their personal assets to claims from
corporate creditors. A large number of investors come together, pool
financial resources, and undertake a large project without exposing
themselves to undue risk. The separate legal identity of the corporation
limits the liability of shareholders for corporate debts to the amounts they
have invested in the corporation.
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The advantages of incorporation may be somewhat illusory. First, with
regards to the limited liability protection, a lender may refuse to lend
funds to a corporation unless the shareholders personally guarantee that
they will repay the debt if the corporation defaults. Secondly, a small or
closely held corporation may have difficulty in raising capital because
investors may not be able to get the type of security and the rate of return
that they want on their investment. This is especially true if the original
shareholders want to maintain control of the corporation and have placed
restrictions on the transfer of shares.
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IncorporationA.
Separate Legal Personality1.
Because a corporation has a separate legal personality (pp. 345-348), it is
a different person from its owners, the shareholders. For example, Cynthia
and Jessica are two different persons. Cynthia is not responsible for
paying Jessica’s debts unless she has agreed to do so. They have separate
legal personalities, and one is not responsible for the actions of the other.
It is the same for a corporation which must not be confused with its
shareholders because it has a separate legal personality from them.
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Agents: The Corporation's Actors2.
Corporations have no physical existence. Everything a corporation does
must be done through an agent. Owners and managers must then pay
much attention to how the corporation carries on business with third
parties since it will be governed by the doctrine of apparent authority.
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Advantages and Disadvantages of IncorporationB.
The major advantage of the corporate business vehicle is the limited
liability (pp. 348-349) to shareholders which flows from the separate legal
existence of the corporation. The fact that a corporation has a separate
legal personality from its shareholders means that the liability of
shareholders is limited to their investment in the corporation. They cannot
be held responsible for the losses of the corporation because it has limited
liability. The liability of the corporation is limited to the corporation; that
is, its assets
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However, the advantage of limited liability is often overcome by potential
creditors who will ask a shareholder to provide a personal guarantee (p.
349) before advancing credit. Also, although reluctant to lift the corporate
veil (p. 349), the courts will do so in order to prevent fraud or some other
major wrongdoing. The courts will be especially prone to do so when the
corporation is being used by shareholders or managers to commit a fraud.
An example of this type of situation occurs when shareholders use the
corporation to shield themselves from legal action. The shareholders who
committed the fraud will be required to reimburse the injured party.
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The Income Tax Act (p. 350) treats the income earned by corporations
that are closely associated—that is, corporations owned by shareholders
who are closely related or who have the same shareholders—to be income
from a single corporation. Consequently, any tax advantages that flow
from splitting income into various companies are lost
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Because a corporation has a separate legal existence, it does not die (p.
350) when its shareholders decease, even if all shareholders were to pass
away at the same time. Its existence does not depend on the existence of
its shareholders. Upon the death of a shareholder, the deceased’s shares go
to his or her estate which is then distributed to the heirs. A corporation’s
existence may be terminated by dissolution (p. 350), which will occur by
agreement of the shareholders, or by an order of the court, or by failure to
file the required annual reports.
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Unless shareholders are privy to insider information, they have no duty of
loyalty or care to the corporation (p. 351). Shareholders are free to act in
their own best interests vis-à-vis the corporation, including competing
with it, unless they are prevented from doing so by a shareholders
agreement
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The corporate structure is a very useful vehicle to ensure that efficient and
competent managers run its day-to-day affairs. Its structure differentiates
ownership from management (p. 351), which is not the case for
partnerships or sole proprietorships. Shareholders do not need to devote
their time and energy to managing the corporation activities. Rather, they
hire the people they think have the best skills to achieve the goals they
have set for the corporation. If they are dissatisfied with the results of the
management, they can, in theory, change the board of directors.
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Disadvantages2.
The corporation as a vehicle for carrying on business also has several
inherent disadvantages. Minority shareholders are in a very weak position
(p. 392). They may have little or no influence on corporate decisions and
unable to sell their shares given the limitations on their transferability
found in closely held corporations. The corporate form is also a more
expensive way—costs of incorporation, record keeping and annual
filings—of carrying on business than the partnership or the sole
proprietorship
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The Process of IncorporationC.
Methods of Incorporation1.
The three most common ways of creating a corporation, a process called
incorporation, include memorandum of association (pp. 353), letters
patent (p. 354), and articles of incorporation (p. 354-355). A fourth
method involves a special act of Parliament or the provincial legislature.
This method is used by universities, cities and other special corporations
(p. 355).
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Today, most incorporations occur according to the provisions of a general
statute which governs corporations. The three most common methods
resemble one another and each province uses one or the other. The
memorandum of association is used in British Columbia and Nova Scotia
while the system of letters patent is used in Quebec and Prince Edward
Island. The other six provinces, Alberta, Saskatchewan, Manitoba.
Ontario, New Brunswick, and Newfoundland, as well as the federal
government, use articles of incorporation, a method pioneered by Ontario
in 1970. Under all systems, incorporation is relatively easy
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the name and address of the proposed corporation,
the names and addresses of the first directors,
the classes and the number of authorized shares, and
the name of the person incorporating the corporation.
The person or persons applying for incorporation must prepare certain
documents and then submit them to the required government ministry or
agency along with a specified fee. The documents are reviewed and, if
they are in order and complete, the incorporation documents are issued.
These documents must contain the following information:
A search will be conducted so that the new corporation will not have the
same name as an existing corporation. The new corporation must also use
the word “Limited” or “Incorporated” after its name to warn others that
the business has a separate legal personality and that the liability of
individual shareholders is limited; they are not responsible for its debts.
However, it is possible to overcome the limited liability of shareholders;
creditors may ask that individual shareholders personally guarantee the
corporation’s debts before advancing credit. This is especially true of
small corporations with few shareholders.
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Legal Capacity of the Corporation2.
The powers of a corporation, what it may do and may not do, may be
limited by its objects of incorporation. It used to be that if a corporation
acted outside the scope of these objects, its actions were ultra
vires (outside its powers) and void. Thus, the corporation would not be
bound by its actions. The ultra vires doctrine no longer exists; rather, the
doctrine of apparent authority will bind the corporation when it deals with
any third party unaware of the limitation on its powers. In addition,
shareholders are able to sue managers responsible for a breach of the
corporation’s powers
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When a corporation is created by a special act of parliament or legislature,
special care should be taken to ensure that the corporation is acting within
its powers as the ultra vires doctrine may still apply to limit the capacity
of the corporation. In such cases, even if persons are unaware of limits on
the corporation’s powers, they may be unable to make a claim against the
corporation
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Corporate FinancingD.
Shares1.
Ashare is a right to participate in the management and share in the assets
of a corporation. Some corporations are limited as to the amount of capital
they may raise through the sale of shares because the corporation will
have an authorised share capital which it will not be able to exceed. For
example, if a corporation’s authorised share capital is $100 000 and it is
selling shares at $5 each, it will be able to sell 20 000 shares. Par-value
shares are assigned a specific value when they are issued by the
corporation and they are sold at that value; however, their value may
quickly change once they have been sold. Par-value then refers to the
value they are assigned at the time of their original purchase
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Classes of Shares2.
Preferred shares will normally be the first in line to
receive dividends whenever they are declared. If the corporation does not
declare a dividend in any year, the rights to that year’s dividend are
carried over to the following year or to the first year when a dividend is
declared. All arrears of dividends to preferred shares must be paid before
any dividend can be paid to the common shares
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Common shareswill have the right to vote. However, preferred shares
will also have the right to vote if preferred dividends are not paid or when
major changes affecting the position of the preferred shareholders are
proposed
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Bonds and Debentures3.
Bonds are a debt owed by the corporation to the bondholders. The bond is
normally secured against some assets of the corporation, and as such must
be registered under the PPSA to protect the creditor’s security interest. If
the interest is not secured, it is called a debenture
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Theoretically, bondholders are creditors, and shareholders are owners. As
such, creditors normally do not have a right to manage the corporation as
the shareholders do. However, the bond may provide otherwise.
Bondholders may demand that the corporation give them a right to
oversee the management of the corporation in return for their loan and in
order to protect their investment. Or, they may place certain conditions on
the management of the corporation, such as requiring it to obtain their
approval of the corporation’s business plan. If the corporation refuses to
give bondholders these rights, they could refuse to lend the corporation the
money it requires. If the corporation breaches any of the conditions set out
in the bond, the bond will specify the rights of the bondholders. These
rights include a right to seize the assets pledged to guarantee the debt.
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Closely Held and Broadly Held Corporations4.
Aclosely held corporation has relatively few shareholders and is the most
common form of corporation in Canada today. Approximately 90% of all
corporations are closely held. In these corporations, there are restrictions
on the transfer of shares; for example, shareholders who wish to divest
themselves of their shares will have to offer them first to the other
shareholders before offering to sell them to outsiders. In a broadly held
corporation, there are no such restrictions and, therefore, they are publicly
traded corporations. Such corporations are also called offering
corporations.
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Division of Corporate PowersE.
Directors1.
In widely held corporations, shareholders have very little say in the
management of a corporation after the directors have been elected at the
annual shareholders’ meeting. Even then, only large institutional
shareholders will have any influence over the selection of candidates, the
election of the members of the board, and the direction the corporation
should take. Things are quite different in a closely held corporation. In this
type of corporation, the shareholders often use their voting power to have
themselves elected to the board of directors and then to be named as
officers of the corporation.
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The duties of directors are several. First, directors have a duty of care (p.
361) to the corporation; they must exercise their responsibilities as they
conduct corporate business like a reasonably prudent person would in
similar circumstances. Secondly, directors have a fiduciary duty (p. 361)
towards the corporation; they must act in the best interests of the
corporation and in good faith. For example, they must inform the board if
they stand to benefit from a contract with the corporation. Thirdly,
directors have a duty to refrain from abuse of corporate opportunity (p.
361); they must not use information that comes to them in the exercise of
their functions of directors to seize a business opportunity for present
benefit and to the loss of the corporation. Fourthly, directors may be
personally liable if they have allowed certain types of share transactions
(p. 362). Fifthly, they have a duty not to engage in insider trading (p.
362). The directors owe their duties to the corporation and not to the
shareholders.
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Since directors have a duty towards the corporation only, only the
corporation, and not its shareholders, can sue directors for breach of duty.
Because the board of directors may be reluctant to take action against a
board member, section 246 the Corporations Act gives minority
shareholders the right to bring a derivative action (p. 361) on behalf of the
corporation against a director who has acted wrongly
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Directors can be held personally liable, first, for an employee’s unpaid
wages (p. 363), secondly, for the corporation’s unpaid taxes(p. 363), and,
thirdly, for breaches of environmental regulations (p. 364)
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Officers2.
The officers (p. 365) of a corporation are named by the board of directors
and are responsible for management of the corporation on a day-to-day
basis. Officers carry a variety of titles—chief executive officer, chief
operating officer, president, vice-president, treasurer, secretary. The duties
these officers owe to the corporation include a fiduciary duty to the
corporation, a duty to refrain from abuse of corporate opportunity, and
aduty of care to the corporation. Like directors, they too may also be held
personally responsible for unpaid wages to employees, taxes owing to the
government, and certain wrongs committed by the corporation.
The provinces have set up securities commissions to prevent corporate
fraud and to ensure that the markets in corporate securities functions
efficiently. Promoters and the corporation are required to file a prospectus
which discloses all pertinent information about the corporation and its
business plan. Like corporate directors and officers, promoters have
afiduciary duty to the corporation and must act in its best interests. The
securities commission also controls other forms of abuse such as insider
trading.
Promoters often engage in business dealings on behalf of the corporation
before it is officially created. Such pre-incorporation contracts (p. 406)
are binding on the corporation if it ratifies the contract after it has been
incorporated. However, both the promoter and the corporation will then
become liable under the contract. If the corporation does not ratify the
contract, the promoter alone is liable under the contract
Obligations --> Shareholders who are not insiders have few if any
obligations to the corporation or other shareholders. Shareholders
who are insiders and have access to confidential information that is
not available to the public have a duty not to engage in insider
trading. Like a director, they cannot use their privileged access to
corporate information to benefit themselves, friends or relatives. An
insider shareholder need not be a majority shareholder and need not
even be a shareholder. For federally incorporated companies, if
someone controls at least 10% of the shares of a corporation, directly
or indirectly, that person will be an insider and will be under the
same obligation as directors in the manner in which they use insider
information.
1.
Rights --> The sources of shareholder rights are found in the
Business Corporations Act which governs incorporation and in the
incorporating documents themselves. The act specifies that
shareholders have a right to certain kinds of information, including
the documents of record and the annual financial statement (p.
368) which has been reviewed by an independent auditor. The
shareholders also have a right to a voice in the corporation’s affairs.
They have a right to vote at the annual general meeting (p. 369).
Shareholders may give their right to vote to someone else,
aproxy (p. 369), who will vote according to the shareholders
directions. As discussed above, only common shareholders can vote;
preferred shareholders can vote only if their dividend is in arrears (p.
369).
2.
In Ontario, if the incorporation documents or the unanimous
shareholders’ agreement requires it, shareholders have a preemptive
right to purchase shares (p. 370). This allows existing shareholders
to purchase a proportionate number of shares to the number that they
own whenever there is a new share offering so that their percentage
ownership of the corporation is not diluted.
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that the directors will not bring an action;1.
that the shareholders are acting in good faith;2.
that the action is in the best interests of the corporation and of
the shareholders
3.
Protection of Minority Shareholders --> Minority shareholders have
available to them principal remedies, a derivative action and an
oppression action. A derivative action (p. 371) has been defined
above. Before shareholders can bring a derivative action, they must
obtain the permission of the court which will be given if
shareholders prove three things:
3.
Shareholders3.
The right to grant an oppression remedy (p. 371) allows the courts to
make any order it considers just and appropriate in the circumstances in
order to remedy the situation. Because the courts are given a significant
latitude in determining the remedy, this is a very powerful tool. For
example, the courts may order the corporation to purchase or sell shares,
purchase or sell assets, remove directors or officers from their position.
The courts are free to fashion a remedy to particular circumstances.
-
The right to dissent (p. 372) is triggered when the corporation undergoes a
major change in its articles of incorporation, chooses to amalgamate with
another corporation, or divests itself of the majority of its assets. Minority
shareholders who dissent can require that the corporation purchase their
shares at fair market value.
-
Dividends --> Shareholders do not have a right to dividends. If
shareholders think that the directors ought to have declared a dividend but
did not, the only recourse the shareholders have is to vote the directors out
of office at the next election of directors. Once a dividend is declared, the
shareholders can require that the dividend be paid. Preferred shareholders
have a right to be paid their dividend and any accumulated dividends
before any dividends are paid to common shareholders
4.
Shareholder agreements (pp. 373-375) are another way to protect
shareholders and are widely used in closely held corporations. In case of
disagreement, the shareholder will have a right to force the other
shareholders either to sell their shares or to buy his or her shares
-
Termination of the CorporationF.
A corporation may be dissolved involuntarily or voluntarily. A dissatisfied
shareholder may make an application to the court for an order winding
up the corporation. The courts have been very reluctant to use this
remedy, given its drastic nature, if the corporation is large and successful.
Such action is more readily available in the case of closely-held
corporations as a means to rescue the locked-in shareholder; the mere
threat of its use is often sufficient to bring reason to the minds of the
majority shareholders
-
When a corporation is dissolved as a result of a bankruptcy proceeding,
the trustee in bankruptcy distributes the assets as described in Module 2—
first to secured creditors, then to preferred creditors and, finally, to
unsecured creditors. Whenever a corporation is dissolved, it is very
important that the rights of creditors be respected in the distribution of
the corporation’s assets (p. 375). The directors of the corporation have an
obligation to ensure that all creditors have been paid before any assets are
distributed to the shareholders
-
The directors of the corporation must also ensure that the corporation is
not automatically dissolved due to the corporation’s failure to file the
required documents (p. 375)
-
When a corporation is dissolved, the assets of the corporation are sold and
distributed, first to its creditors and then to its shareholders. However,
instead of selling the assets, it is possible to sell the shares. A sale of
assets and a sale of shares have different legal and tax consequences (p.
376). A purchaser of assets of the corporation being dissolved need only
concern itself with the rights of secured creditors to the assets. The
existing rights and obligations of the corporation remain with the
corporation and continue to bind the corporation until they have been
discharged. Theoretically, a corporation cannot be dissolved until it has
executed all its obligations. A purchaser of the shares of the corporation
takes on all existing legal rights and obligations of the corporation; the
corporation continues to be bound by them.
-
Module 8: Business Organizations
Sunday,)July)10,)2016
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The sole proprietorship is the simplest way of carrying on business. It
occurs when any single person carries on any type of business activity by
herself or himself without any other business associates. Two sole
proprietorships carrying on business together would be a partnership.
Even if there is only a single principal in a sole proprietorship, it may or
may not have employees. There is only one person making the decisions
and that person is the owner. The sole proprietor carries on business in an
unincorporated form. The business is the proprietor; the business has no
separate legal identity from its owner
-
Because the sole proprietorship has no separate legal identity, it is a very
convenient forum by which to conduct business. The sole proprietorship
exists the moment an individual begins a business. Nothing needs to be
done to create it. Also, control of the sole proprietorship is within the
hands of its owner. The owner does not have to answer to anybody; she or
he is responsible only to herself or himself. Similarly, all of the profits
belong solely to the owner
-
At the same time, it is this lack of separate legal identity from its owner
that can be the source of its many disadvantages. All the losses of the sole
proprietorship are the losses of its owner. All business debts incurred in
the operation of the sole proprietorship must be paid by its owner from the
owner’s personal assets
-
For example, Dick decides to begin a lawn mowing business. If the
business does not make enough money to pay for its operating costs (for
example, gas and oil for the lawnmower) and its capital costs (for
example, the lawnmower), Dick will have to pay for them from his
personal bank account. The owner has unlimited liability for all the debts
of a sole proprietorship; this is perhaps its greatest disadvantage
-
Because there is no distinction between a sole proprietorship and its
owner, all income of the sole proprietorship is income in the hands of its
owner and is taxed at personal income tax rates. While the owner may be
able to deduct certain expenses from his or her income, these negative tax
consequences are also a strong incentive to abandon the sole
proprietorship as a business vehicle
-
-
Partnership
2.
One of the great advantages of a partnership is that it allows two or more
people to pool their resources together and to act collectively as a single
business unit; its disadvantage is that it does not have a separate legal
personality from the individual partners
-
Like the Sale of Goods Act, the Partnerships Act (PA), which regulates
partnerships, is a codification of previous judicial decisions, and it has
continued almost unchanged to this day. There are two types of terms in
the PA. There are terms which apply to all partnerships as a matter of law,
and there are terms that apply when the parties have not addressed the
matter in question. In other words, some of the terms of the PA are
mandatory. The mandatory terms govern the relationship of the
partnership with third parties. The optional terms are implied in a
partnership agreement unless the parties have specified otherwise; they
govern the relations among the partners within the partnership itself
-
Relation Between Partnership and Business
A.
Apartnership is defined by section 2 of the Act as a relation between two
or more people who carry on business in common with a view of making
aprofit. The two key terms in this definition are business in common and
profit. A business in common is more than a joint enterprise. In order to
qualify as a partnership, the joint undertaking must be a business activity.
A relay team is a joint enterprise and may be undertaken with a view to
making a profit, but it is not a business activity (at the same time, a
professional relay team would be a business activity). Besides a business
activity, the joint enterprise must also be a business in common. The text
(pp. 326-327) lists a series of activities which may appear to be business
in common but which are not (PA s. 3). Finally, the joint activity must be
acontinuing activity and not a one-time project
-
Methods of Creating a Partnership
B.
There are several ways of creating partnerships. The first is by an express
agreement between the parties. The text (pp. 328-329) sets out the areas
which a partnership agreement should cover.
-
Secondly, it is also possible to create a partnership inadvertently,
unintentionally (p. 327). If parties accidentally form a partnership, then
they must bear the consequences of the existence of the partnership. Since
a partnership does not have a separate legal identity, its debts and profits
are the debts and profits of the partners, and creditors of the partnership
can demand that the partners use their personal assets to liquidate
partnership debts. It is, therefore, important that individuals engaged in a
business undertaking do not inadvertently create a partnership since they
will then be putting their personal assets (their car, their home, and their
savings) at risk.
-
When confronted with the claim of a creditor that certain individuals have
formed a partnership and the denial of debtors that they have, the courts
will look at the definition of a partnership as provided in section 2 of
the Partnerships Act (see above). The courts will also refer to certain
additional rules in order to determine whether the parties had formed a
common business undertaking for profit. First, if the parties have
contributed jointly to the capital used to form the business, the courts will
be more likely to presume that the parties had created a partnership than
otherwise. Secondly, if all parties take an active role in the conduct of the
business, especially when it comes to decisions on important matters, the
courts will more readily presume the existence of a partnership. Finally,
an intention to jointly share expenses and profits make it easier to infer the
existence of a partnership.
-
Thirdly, it is possible to create a partnership by estoppel (p. 329) or
holding out (PA, s. 15(1)) just like an agency relationship can be created
by estoppel.
-
Relations of Partners to Third Parties1.
The Partner as Principal and Agenta.
In a partnership, every partner is at the same time the principal and the
agent of every other partner (PA, s. 6-7). Consequently, a partner as
principal will be bound by the actions of his or her agent-partners
undertaken within the scope of the partnership business. Also, a partner
as agent will bind his or her principal-partners when he or she acts within
the scope of the partnership business. Since agents can bind a principal
when acting not only within the scope of their actual authority but also
within the scope of their apparent authority, so it is for partners (PA, s. 8).
They will bind their partners when acting within the scope of both their
actual authority and their apparent authority, unless the third party is
aware of special limits on their actual authority (PA, s. 9)
-
Vicarious Liabilityb.
The principle of vicarious liability holds one person responsible for acts
committed by another. The application of that principal to partnerships
means that partners will be held liable for all acts of their partners
undertaken within the scope of the partnership business
-
Unlimited Liabilityc.
A partnership is an unincorporated entity and, as such, has no separate
legal identity. Partners are jointly liable for the debts and obligations of
the partnership (PA, s. 10). The debts of the partnership are the debts of
the partners; that is, each partner is wholly responsible to answer for the
partnership debts from his or her personal assets (home, care, personal
savings, etc.). For example P-1, P-2, and P-3 are partners and owe creditor
C $3 000. P-1 and P-2 do not have the money to pay. C can demand that
P-3 pay the whole sum and P-3 must. It will then be up to P-3 to obtain
reimbursement from P-1 and P-2 for their shares of the debt. The three
partners will be responsible for their shares of the debt in proportion to
their shares of the profits according to the partnership agreement. If the
partners had agreed that P-1 was supposed to receive 50% of the profits
and P-2 30%, P-3 could then demand $1 500 from P-1 and $900 from P-2
-
Relations of Partners to Each Other2.
Two methods are available to partners to govern their relationship. First,
they can, by express agreement, specify the terms that will define the
partnership. If the parties choose, they can vary the presumptions found in
the PA. Secondly, they can say nothing; in this case, they will be governed
by the terms that can be inferred from the course of their dealings, or, by
default, the terms of the PA will apply (PA, s. 20).
-
Although the PA does not use the term fiduciary duty, it specifies a series
of duties that partners have to each other which, in turn, create a fiduciary
duty between the parties. Partnership property including personal property
contributed by any of the partners to the partnership in order to allow it to
carry on its business cannot be used for personal gains (PA, s. 21(1)).
Partners must show how they have used partnership funds and property
(account), and any profits made must be turned over to the partnership
(PA, s. 22 and 29). A partner who competes with the partnership must turn
over to the partnership all profits made from the competing venture (PA, s.
30). A partner must disclose to his or her partners any information
received about the partnership business (PA, s. 28).
-
the presumption that profits and losses will be shared equally;1.
the presumption that expenses and monies advanced (lent) to the
partnership will be reimbursed;
2.
the presumption that all partners participate equally in the
management of the partnership;
3.
the presumption that no partner is to receive a salary; and4.
the presumption that any change to the partnership agreement
requires the unanimous consent of the partners.
5.
The PA (s. 24) allows the partners to vary the following terms of
the partnership agreement:
Advantages of the Partnership3.
Partnerships as a form of carrying on business are less expensive that a
corporation. The potential costs of unlimited liability, the principal
disadvantage associated with the partnership, may be overcome through
insurance. However the cost of insurance means that it may be
prohibitively expensive to overcome this disadvantage
-
Another advantage of the partnership as a form of carrying on business is
the protection that it affords to the individual partner. Unless the
partnership agreement provides otherwise, unanimous consent is required
for all decisions that touch the business of the partnership.
-
Termination of the PartnershipC.
when the parties say it will end; that is, at the end of the term (one
month, one year, etc.) specified by the parties in the original
agreement;
1.
when the project for which the partnership was formed comes to an
end;
2.
when a partner gives notice to the other partners of his or her desire
to terminate the partnership;
3.
when a partner becomes bankrupt, insolvent, or passes away; and4.
when a court orders the dissolution of the partnership.5.
Sections 32 to 44 of the PA govern the dissolution of the partnership. It
may end
When a partnership is dissolved, all assets must be liquidated, and the
proceeds of the sale distributed as provided (see below). If any of the
former partners wish to continue working in a new partnership, this
requirement of dissolution becomes a hindrance to the smooth and
profitable functioning of the partnership business. The partners may
include a clause in the partnership agreement by which there will be a
valuation of the departing partners share of assets and liabilities. The
departing partner will then receive payment from the partnership for his or
her share of the profits or make payment into the partnership to cover his
or her share of the losses.
-
Upon dissolution of the partnership, it is very important that the
partnership comply with the requirement of notification. Customers who
have had dealings with the partnership must be made aware that the
partnership no longer exists. Otherwise, a former customer may deal with
an ex-partner thinking that he or she is dealing with the partnership. By
applying the doctrine of apparent authority, the former partners will be
bound by the actions of the ex-partners who are acting within the scope of
their apparent authority. It is also recommended that an advertisement be
placed in The Ontario Gazette, the official newspaper of Ontario
government. This will protect the former partners from claims by persons
who had not had dealings with the firm before the dissolution of the
partnership (PA, s. 36 (2)).
-
Distribution of Assets and Liabilities2.
Upon dissolution, the distribution of assets and liabilities occurs in the
order set out by section 39 of the PA. First, all partnership property is
applied against the debts and liabilities of the partnership; that is, monies
owed to individuals who are not part of the partnership. Section 44 of
the PA provides that if there are insufficient profits to pay out the debt and
liabilities, these will be paid out of the capital that the partners contributed
when they set up the partnership. If the partnership capital is not
sufficient, each partner will contribute to payment of the losses on a pro
rata basis in proportion with his or her share in the profits.
-
Secondly, once the creditors of the partnership have been paid, any
remaining profit is paid to partners who are owed money by the
partnership. Thirdly, partners are reimbursed their capital from remaining
sums on a pro rata basis. Fourthly, any remaining money is distributed to
the partners on a pro rata basis; this is done following the same proportion
by which profits are divided among the partners
-
Limiting the Liability of PartnersD.
To create a limited partnership and to limit one’s liability to third
parties for the acts and the debts of the partnership, a declaration of
limited partnership must be filed with the appropriate government
registry office. There are two types of partners in a limited
partnership, general partners and limited partners. At least one of the
partners must be a general partner.
Ageneral partner has unlimited liability for the acts and the debts of
the limited partnership, as is the case for a partner in an ordinary
partnership. The general partners are responsible for the
management of the limited partnership.
Alimited partner is only liable for the amount of capital that they
contributed to the limited partnership. This limitation of liability
comes at a cost. A limited partner may not take part in the
management of the partnership. If it does so, it loses its status as a
limited partner and becomes a general partner; there is then no limit
on its liability for the acts and the debts of the partnership.
Limited partnerships allow limited partners to limit their liability for acts
and debts of the partnership to the sums they have invested in a given
partnership
-
Limited Liability Partnerships2.
Limited liability partnerships have been created to provide professionals,
such as lawyers and accountants, with a way of limiting their potential
liability for the negligence of their partners. While a partner still has
unlimited liability for his or her own negligence in a limited liability
partnership, he or she is no longer liable for the negligent acts of his or her
partners and for the acts of those persons under her/his direct control.
Partners in a limited liability partnership can thus shield their individual
assets from seizure by creditors of the limited liability partnership or of
other partners.
-
the Act governing the profession must expressly authorize the
professional to form a limited liability partnership;
1.
the professional organization governing the profession must require
that the partnership maintain a minimum amount of liability
insurance; and
2.
the partnership must register its name under the Business Names
Act.
3.
However, certain conditions must be met in order to form a limited
liability partnership:
-
The limited liability partnership must maintain professional liability
insurance coverage for all the partners in order to ensure that the injured
party will be able to be compensated for his or her loss caused by the
negligence of the professional.
CorporationsIII.
Because the law recognizes that a corporation has its own separate legal
identity, investors—that is, shareholders—can use it as a vehicle to
conduct business while not exposing their personal assets to claims from
corporate creditors. A large number of investors come together, pool
financial resources, and undertake a large project without exposing
themselves to undue risk. The separate legal identity of the corporation
limits the liability of shareholders for corporate debts to the amounts they
have invested in the corporation.
-
The advantages of incorporation may be somewhat illusory. First, with
regards to the limited liability protection, a lender may refuse to lend
funds to a corporation unless the shareholders personally guarantee that
they will repay the debt if the corporation defaults. Secondly, a small or
closely held corporation may have difficulty in raising capital because
investors may not be able to get the type of security and the rate of return
that they want on their investment. This is especially true if the original
shareholders want to maintain control of the corporation and have placed
restrictions on the transfer of shares.
-
IncorporationA.
Separate Legal Personality1.
Because a corporation has a separate legal personality (pp. 345-348), it is
a different person from its owners, the shareholders. For example, Cynthia
and Jessica are two different persons. Cynthia is not responsible for
paying Jessica’s debts unless she has agreed to do so. They have separate
legal personalities, and one is not responsible for the actions of the other.
It is the same for a corporation which must not be confused with its
shareholders because it has a separate legal personality from them.
-
Agents: The Corporation's Actors2.
Corporations have no physical existence. Everything a corporation does
must be done through an agent. Owners and managers must then pay
much attention to how the corporation carries on business with third
parties since it will be governed by the doctrine of apparent authority.
-
Advantages and Disadvantages of IncorporationB.
The major advantage of the corporate business vehicle is the limited
liability (pp. 348-349) to shareholders which flows from the separate legal
existence of the corporation. The fact that a corporation has a separate
legal personality from its shareholders means that the liability of
shareholders is limited to their investment in the corporation. They cannot
be held responsible for the losses of the corporation because it has limited
liability. The liability of the corporation is limited to the corporation; that
is, its assets
-
However, the advantage of limited liability is often overcome by potential
creditors who will ask a shareholder to provide a personal guarantee (p.
349) before advancing credit. Also, although reluctant to lift the corporate
veil (p. 349), the courts will do so in order to prevent fraud or some other
major wrongdoing. The courts will be especially prone to do so when the
corporation is being used by shareholders or managers to commit a fraud.
An example of this type of situation occurs when shareholders use the
corporation to shield themselves from legal action. The shareholders who
committed the fraud will be required to reimburse the injured party.
-
The Income Tax Act (p. 350) treats the income earned by corporations
that are closely associated—that is, corporations owned by shareholders
who are closely related or who have the same shareholders—to be income
from a single corporation. Consequently, any tax advantages that flow
from splitting income into various companies are lost
-
Because a corporation has a separate legal existence, it does not die (p.
350) when its shareholders decease, even if all shareholders were to pass
away at the same time. Its existence does not depend on the existence of
its shareholders. Upon the death of a shareholder, the deceased’s shares go
to his or her estate which is then distributed to the heirs. A corporation’s
existence may be terminated by dissolution (p. 350), which will occur by
agreement of the shareholders, or by an order of the court, or by failure to
file the required annual reports.
-
Unless shareholders are privy to insider information, they have no duty of
loyalty or care to the corporation (p. 351). Shareholders are free to act in
their own best interests vis-à-vis the corporation, including competing
with it, unless they are prevented from doing so by a shareholders
agreement
-
The corporate structure is a very useful vehicle to ensure that efficient and
competent managers run its day-to-day affairs. Its structure differentiates
ownership from management (p. 351), which is not the case for
partnerships or sole proprietorships. Shareholders do not need to devote
their time and energy to managing the corporation activities. Rather, they
hire the people they think have the best skills to achieve the goals they
have set for the corporation. If they are dissatisfied with the results of the
management, they can, in theory, change the board of directors.
-
Disadvantages2.
The corporation as a vehicle for carrying on business also has several
inherent disadvantages. Minority shareholders are in a very weak position
(p. 392). They may have little or no influence on corporate decisions and
unable to sell their shares given the limitations on their transferability
found in closely held corporations. The corporate form is also a more
expensive way—costs of incorporation, record keeping and annual
filings—of carrying on business than the partnership or the sole
proprietorship
-
The Process of IncorporationC.
Methods of Incorporation1.
The three most common ways of creating a corporation, a process called
incorporation, include memorandum of association (pp. 353), letters
patent (p. 354), and articles of incorporation (p. 354-355). A fourth
method involves a special act of Parliament or the provincial legislature.
This method is used by universities, cities and other special corporations
(p. 355).
-
Today, most incorporations occur according to the provisions of a general
statute which governs corporations. The three most common methods
resemble one another and each province uses one or the other. The
memorandum of association is used in British Columbia and Nova Scotia
while the system of letters patent is used in Quebec and Prince Edward
Island. The other six provinces, Alberta, Saskatchewan, Manitoba.
Ontario, New Brunswick, and Newfoundland, as well as the federal
government, use articles of incorporation, a method pioneered by Ontario
in 1970. Under all systems, incorporation is relatively easy
-
the name and address of the proposed corporation,
the names and addresses of the first directors,
the classes and the number of authorized shares, and
the name of the person incorporating the corporation.
The person or persons applying for incorporation must prepare certain
documents and then submit them to the required government ministry or
agency along with a specified fee. The documents are reviewed and, if
they are in order and complete, the incorporation documents are issued.
These documents must contain the following information:
A search will be conducted so that the new corporation will not have the
same name as an existing corporation. The new corporation must also use
the word “Limited” or “Incorporated” after its name to warn others that
the business has a separate legal personality and that the liability of
individual shareholders is limited; they are not responsible for its debts.
However, it is possible to overcome the limited liability of shareholders;
creditors may ask that individual shareholders personally guarantee the
corporation’s debts before advancing credit. This is especially true of
small corporations with few shareholders.
-
Legal Capacity of the Corporation2.
The powers of a corporation, what it may do and may not do, may be
limited by its objects of incorporation. It used to be that if a corporation
acted outside the scope of these objects, its actions were ultra
vires (outside its powers) and void. Thus, the corporation would not be
bound by its actions. The ultra vires doctrine no longer exists; rather, the
doctrine of apparent authority will bind the corporation when it deals with
any third party unaware of the limitation on its powers. In addition,
shareholders are able to sue managers responsible for a breach of the
corporation’s powers
-
When a corporation is created by a special act of parliament or legislature,
special care should be taken to ensure that the corporation is acting within
its powers as the ultra vires doctrine may still apply to limit the capacity
of the corporation. In such cases, even if persons are unaware of limits on
the corporation’s powers, they may be unable to make a claim against the
corporation
-
Corporate FinancingD.
Shares1.
Ashare is a right to participate in the management and share in the assets
of a corporation. Some corporations are limited as to the amount of capital
they may raise through the sale of shares because the corporation will
have an authorised share capital which it will not be able to exceed. For
example, if a corporation’s authorised share capital is $100 000 and it is
selling shares at $5 each, it will be able to sell 20 000 shares. Par-value
shares are assigned a specific value when they are issued by the
corporation and they are sold at that value; however, their value may
quickly change once they have been sold. Par-value then refers to the
value they are assigned at the time of their original purchase
-
Classes of Shares2.
Preferred shares will normally be the first in line to
receive dividends whenever they are declared. If the corporation does not
declare a dividend in any year, the rights to that year’s dividend are
carried over to the following year or to the first year when a dividend is
declared. All arrears of dividends to preferred shares must be paid before
any dividend can be paid to the common shares
-
Common shareswill have the right to vote. However, preferred shares
will also have the right to vote if preferred dividends are not paid or when
major changes affecting the position of the preferred shareholders are
proposed
-
Bonds and Debentures3.
Bonds are a debt owed by the corporation to the bondholders. The bond is
normally secured against some assets of the corporation, and as such must
be registered under the PPSA to protect the creditor’s security interest. If
the interest is not secured, it is called a debenture
-
Theoretically, bondholders are creditors, and shareholders are owners. As
such, creditors normally do not have a right to manage the corporation as
the shareholders do. However, the bond may provide otherwise.
Bondholders may demand that the corporation give them a right to
oversee the management of the corporation in return for their loan and in
order to protect their investment. Or, they may place certain conditions on
the management of the corporation, such as requiring it to obtain their
approval of the corporation’s business plan. If the corporation refuses to
give bondholders these rights, they could refuse to lend the corporation the
money it requires. If the corporation breaches any of the conditions set out
in the bond, the bond will specify the rights of the bondholders. These
rights include a right to seize the assets pledged to guarantee the debt.
-
Closely Held and Broadly Held Corporations4.
Aclosely held corporation has relatively few shareholders and is the most
common form of corporation in Canada today. Approximately 90% of all
corporations are closely held. In these corporations, there are restrictions
on the transfer of shares; for example, shareholders who wish to divest
themselves of their shares will have to offer them first to the other
shareholders before offering to sell them to outsiders. In a broadly held
corporation, there are no such restrictions and, therefore, they are publicly
traded corporations. Such corporations are also called offering
corporations.
-
Division of Corporate PowersE.
Directors1.
In widely held corporations, shareholders have very little say in the
management of a corporation after the directors have been elected at the
annual shareholders’ meeting. Even then, only large institutional
shareholders will have any influence over the selection of candidates, the
election of the members of the board, and the direction the corporation
should take. Things are quite different in a closely held corporation. In this
type of corporation, the shareholders often use their voting power to have
themselves elected to the board of directors and then to be named as
officers of the corporation.
-
The duties of directors are several. First, directors have a duty of care (p.
361) to the corporation; they must exercise their responsibilities as they
conduct corporate business like a reasonably prudent person would in
similar circumstances. Secondly, directors have a fiduciary duty (p. 361)
towards the corporation; they must act in the best interests of the
corporation and in good faith. For example, they must inform the board if
they stand to benefit from a contract with the corporation. Thirdly,
directors have a duty to refrain from abuse of corporate opportunity (p.
361); they must not use information that comes to them in the exercise of
their functions of directors to seize a business opportunity for present
benefit and to the loss of the corporation. Fourthly, directors may be
personally liable if they have allowed certain types of share transactions
(p. 362). Fifthly, they have a duty not to engage in insider trading (p.
362). The directors owe their duties to the corporation and not to the
shareholders.
-
Since directors have a duty towards the corporation only, only the
corporation, and not its shareholders, can sue directors for breach of duty.
Because the board of directors may be reluctant to take action against a
board member, section 246 the Corporations Act gives minority
shareholders the right to bring a derivative action (p. 361) on behalf of the
corporation against a director who has acted wrongly
-
Directors can be held personally liable, first, for an employee’s unpaid
wages (p. 363), secondly, for the corporation’s unpaid taxes(p. 363), and,
thirdly, for breaches of environmental regulations (p. 364)
-
Officers2.
The officers (p. 365) of a corporation are named by the board of directors
and are responsible for management of the corporation on a day-to-day
basis. Officers carry a variety of titles—chief executive officer, chief
operating officer, president, vice-president, treasurer, secretary. The duties
these officers owe to the corporation include a fiduciary duty to the
corporation, a duty to refrain from abuse of corporate opportunity, and
aduty of care to the corporation. Like directors, they too may also be held
personally responsible for unpaid wages to employees, taxes owing to the
government, and certain wrongs committed by the corporation.
The provinces have set up securities commissions to prevent corporate
fraud and to ensure that the markets in corporate securities functions
efficiently. Promoters and the corporation are required to file a prospectus
which discloses all pertinent information about the corporation and its
business plan. Like corporate directors and officers, promoters have
afiduciary duty to the corporation and must act in its best interests. The
securities commission also controls other forms of abuse such as insider
trading.
Promoters often engage in business dealings on behalf of the corporation
before it is officially created. Such pre-incorporation contracts (p. 406)
are binding on the corporation if it ratifies the contract after it has been
incorporated. However, both the promoter and the corporation will then
become liable under the contract. If the corporation does not ratify the
contract, the promoter alone is liable under the contract
Obligations --> Shareholders who are not insiders have few if any
obligations to the corporation or other shareholders. Shareholders
who are insiders and have access to confidential information that is
not available to the public have a duty not to engage in insider
trading. Like a director, they cannot use their privileged access to
corporate information to benefit themselves, friends or relatives. An
insider shareholder need not be a majority shareholder and need not
even be a shareholder. For federally incorporated companies, if
someone controls at least 10% of the shares of a corporation, directly
or indirectly, that person will be an insider and will be under the
same obligation as directors in the manner in which they use insider
information.
1.
Rights --> The sources of shareholder rights are found in the
Business Corporations Act which governs incorporation and in the
incorporating documents themselves. The act specifies that
shareholders have a right to certain kinds of information, including
the documents of record and the annual financial statement (p.
368) which has been reviewed by an independent auditor. The
shareholders also have a right to a voice in the corporation’s affairs.
They have a right to vote at the annual general meeting (p. 369).
Shareholders may give their right to vote to someone else,
aproxy (p. 369), who will vote according to the shareholders
directions. As discussed above, only common shareholders can vote;
preferred shareholders can vote only if their dividend is in arrears (p.
369).
2.
In Ontario, if the incorporation documents or the unanimous
shareholders’ agreement requires it, shareholders have a preemptive
right to purchase shares (p. 370). This allows existing shareholders
to purchase a proportionate number of shares to the number that they
own whenever there is a new share offering so that their percentage
ownership of the corporation is not diluted.
-
that the directors will not bring an action;1.
that the shareholders are acting in good faith;2.
that the action is in the best interests of the corporation and of
the shareholders
3.
Protection of Minority Shareholders --> Minority shareholders have
available to them principal remedies, a derivative action and an
oppression action. A derivative action (p. 371) has been defined
above. Before shareholders can bring a derivative action, they must
obtain the permission of the court which will be given if
shareholders prove three things:
3.
Shareholders3.
The right to grant an oppression remedy (p. 371) allows the courts to
make any order it considers just and appropriate in the circumstances in
order to remedy the situation. Because the courts are given a significant
latitude in determining the remedy, this is a very powerful tool. For
example, the courts may order the corporation to purchase or sell shares,
purchase or sell assets, remove directors or officers from their position.
The courts are free to fashion a remedy to particular circumstances.
-
The right to dissent (p. 372) is triggered when the corporation undergoes a
major change in its articles of incorporation, chooses to amalgamate with
another corporation, or divests itself of the majority of its assets. Minority
shareholders who dissent can require that the corporation purchase their
shares at fair market value.
-
Dividends --> Shareholders do not have a right to dividends. If
shareholders think that the directors ought to have declared a dividend but
did not, the only recourse the shareholders have is to vote the directors out
of office at the next election of directors. Once a dividend is declared, the
shareholders can require that the dividend be paid. Preferred shareholders
have a right to be paid their dividend and any accumulated dividends
before any dividends are paid to common shareholders
4.
Shareholder agreements (pp. 373-375) are another way to protect
shareholders and are widely used in closely held corporations. In case of
disagreement, the shareholder will have a right to force the other
shareholders either to sell their shares or to buy his or her shares
-
Termination of the CorporationF.
A corporation may be dissolved involuntarily or voluntarily. A dissatisfied
shareholder may make an application to the court for an order winding
up the corporation. The courts have been very reluctant to use this
remedy, given its drastic nature, if the corporation is large and successful.
Such action is more readily available in the case of closely-held
corporations as a means to rescue the locked-in shareholder; the mere
threat of its use is often sufficient to bring reason to the minds of the
majority shareholders
-
When a corporation is dissolved as a result of a bankruptcy proceeding,
the trustee in bankruptcy distributes the assets as described in Module 2—
first to secured creditors, then to preferred creditors and, finally, to
unsecured creditors. Whenever a corporation is dissolved, it is very
important that the rights of creditors be respected in the distribution of
the corporation’s assets (p. 375). The directors of the corporation have an
obligation to ensure that all creditors have been paid before any assets are
distributed to the shareholders
-
The directors of the corporation must also ensure that the corporation is
not automatically dissolved due to the corporation’s failure to file the
required documents (p. 375)
-
When a corporation is dissolved, the assets of the corporation are sold and
distributed, first to its creditors and then to its shareholders. However,
instead of selling the assets, it is possible to sell the shares. A sale of
assets and a sale of shares have different legal and tax consequences (p.
376). A purchaser of assets of the corporation being dissolved need only
concern itself with the rights of secured creditors to the assets. The
existing rights and obligations of the corporation remain with the
corporation and continue to bind the corporation until they have been
discharged. Theoretically, a corporation cannot be dissolved until it has
executed all its obligations. A purchaser of the shares of the corporation
takes on all existing legal rights and obligations of the corporation; the
corporation continues to be bound by them.
-
Module 8: Business Organizations
Sunday,)July)10,)2016 9:06)PM
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The sole proprietorship is the simplest way of carrying on business. It
occurs when any single person carries on any type of business activity by
herself or himself without any other business associates. Two sole
proprietorships carrying on business together would be a partnership.
Even if there is only a single principal in a sole proprietorship, it may or
may not have employees. There is only one person making the decisions
and that person is the owner. The sole proprietor carries on business in an
unincorporated form. The business is the proprietor; the business has no
separate legal identity from its owner
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Because the sole proprietorship has no separate legal identity, it is a very
convenient forum by which to conduct business. The sole proprietorship
exists the moment an individual begins a business. Nothing needs to be
done to create it. Also, control of the sole proprietorship is within the
hands of its owner. The owner does not have to answer to anybody; she or
he is responsible only to herself or himself. Similarly, all of the profits
belong solely to the owner
-
At the same time, it is this lack of separate legal identity from its owner
that can be the source of its many disadvantages. All the losses of the sole
proprietorship are the losses of its owner. All business debts incurred in
the operation of the sole proprietorship must be paid by its owner from the
owner’s personal assets
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For example, Dick decides to begin a lawn mowing business. If the
business does not make enough money to pay for its operating costs (for
example, gas and oil for the lawnmower) and its capital costs (for
example, the lawnmower), Dick will have to pay for them from his
personal bank account. The owner has unlimited liability for all the debts
of a sole proprietorship; this is perhaps its greatest disadvantage
-
Because there is no distinction between a sole proprietorship and its
owner, all income of the sole proprietorship is income in the hands of its
owner and is taxed at personal income tax rates. While the owner may be
able to deduct certain expenses from his or her income, these negative tax
consequences are also a strong incentive to abandon the sole
proprietorship as a business vehicle
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Agency is a relation between a principal and an agent by which the agent
is authorized to act on behalf of the principal. Depending on the scope of
the authority the agents have been given, they may even enter into
contracts with third parties in the name of their principal. The principals
will then be bound by these contracts, even if they are unaware of their
existence. The agents will not be bound by the contract because they are
not contracting in their own name but in the name of their principal
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Partnership2.
One of the great advantages of a partnership is that it allows two or more
people to pool their resources together and to act collectively as a single
business unit; its disadvantage is that it does not have a separate legal
personality from the individual partners
-
Like the Sale of Goods Act, the Partnerships Act (PA), which regulates
partnerships, is a codification of previous judicial decisions, and it has
continued almost unchanged to this day. There are two types of terms in
the PA. There are terms which apply to all partnerships as a matter of law,
and there are terms that apply when the parties have not addressed the
matter in question. In other words, some of the terms of the PA are
mandatory. The mandatory terms govern the relationship of the
partnership with third parties. The optional terms are implied in a
partnership agreement unless the parties have specified otherwise; they
govern the relations among the partners within the partnership itself
-
Relation Between Partnership and BusinessA.
Apartnership is defined by section 2 of the Act as a relation between two
or more people who carry on business in common with a view of making
aprofit. The two key terms in this definition are business in common and
profit. A business in common is more than a joint enterprise. In order to
qualify as a partnership, the joint undertaking must be a business activity.
A relay team is a joint enterprise and may be undertaken with a view to
making a profit, but it is not a business activity (at the same time, a
professional relay team would be a business activity). Besides a business
activity, the joint enterprise must also be a business in common. The text
(pp. 326-327) lists a series of activities which may appear to be business