Income Statement: Computes profit during a given period, usually a year.

Revenue (Sales) Expenses (Costs) = Net Income (Profits)

Balance Sheet
Assets Liabilities = Equity
Assets = Liabilities + Equity
Liabilities = Assets - Equity
1) Present Value = Future Value/(1 + Discount Rate)^ year
2) Net Present Value = Present cash flow + Discounted future cash flows
3) Cumalitive voting
(1) [(N x S) / (D+1)] + 1
(A) N = Number of directors the shareholder wants to elect
(B) S = Total number of shares voting
(C) D = Total number of directors to be chosen at the election
Record Owners

Who gets Notice/Gets to Vote

o The record owner at the record date
The record owners as of that date are entitled to
notice and a vote at the meeting.
o 213 Delaware
Earliest Corp. may give notice: 60 days before
meeting.
Latest: 10 days before meeting
o 7.07(b) & 7.05
70 days Earliest
10 days Latest

Cases
A.P. SMITH MFG. CO. V. BARLOW - (1953)............................................................................ 1
Auerbach v. Bennett...................................................................................................... 65
BARNES V. ANDREWS...................................................................................................... 51
BOHATCH V. BUTLER & BINION......................................................................................... 24
CREEL V. LILLY............................................................................................................. 20
EISENBERG V. FLYING TIGER LINE, INC.............................................................................. 62
HMG/COURTLAND PROPERTIES, INC. V. GRAY......................................................................56
IN RE CAREMARK INTL, INC............................................................................................ 51
IN RE ESTATE OF FENIMORE............................................................................................ 12
In re Slicone Gel Breast Implants.................................................................................... 44
In re Suhadolnik........................................................................................................... 34
In re The Walt Disney Company Derivative Litigation..............................................................59
In Re USA Cafes.......................................................................................................... 30
JONES CO., INC. V. FRANK BURKE, JR.................................................................................53
JOY V. NORTH............................................................................................................... 50
KAHN V. ICAHN............................................................................................................. 30
KORTUM V. WEBASTO SUNROOFS, INC................................................................................. 48
KOVACIK V. REED.......................................................................................................... 23
LIEBERMAN V. WYOMING.COM, LLC...................................................................................36
MARX V. AKERS............................................................................................................. 64
MCCALL V. SCOTT......................................................................................................... 52
MCQUADE V. STONEHAM................................................................................................. 45
MEINHARD V. SALMON.................................................................................................... 14
MILLER V. MCDONALDS CORPORATION..............................................................................10
NORTHEAST HARBOR GOLD CLUB, INC. V. HARRIS.................................................................53
ii

PAGE V. PAGE............................................................................................................... 25
SHLENSKY V. WRIGLEY.................................................................................................... 49
SMITH V. VAN GORKOM................................................................................................... 50
VILLAR V. KERNAN ......................................................................................................... 46
Webber vs. U.S. Sterling Securities.................................................................................... 33
ZAPATA CORPORATION V. MALDONADO................................................................................66
ZEIGER V. WILF............................................................................................................ 29

iii

Business Associations
4) Views of Other Gonster Machers
A) Friedman's View
I) In a free-enterprise, private-property system, a corporate executive is an employee of
the owners of the business.
(1) His responsibility is to conduct business in accordance with the owners' desires.
(A) Thus, the executive is the agent of the individuals who own the corporation.
(I) He is, however, a person in his own right and has duties or other social
responsibilities that he assumes on his own.
1. In this capacity, he is acting as a principal, not an agent.
A. He is spending his own money or time or energy, not the money of
his employers or the time or energy he has contracted to devote to
their purposes.
(II) Only one social responsibility of a business
1. To use its resources and engage in activities designed to increase its
profits so long as it stays within the rules of the game.
A. Friedman says that any action taken should benefit the company in
some manner. There must be a nexus between the action and the
benefit.
II) Agency: The fiduciary relation which results from the manifestation of consent by
one person to another that the other shall act on his behalf and subject to his control,
and consent by the other so to act. RESTATEMENT (SECOND) OF AGENCY 1
III) Principal: The one for whom action is to be taken. Id.
IV) Agent: The one who is to act. Id.
V) Mutual ~Consent
(1) RSA(3rd): Manifestation of consent by both parties
(2) RSA(2nd): Manifestation by principal; consent by agent

A.P. SMITH MFG. CO. V. BARLOW - (1953)

Facts
AP Smith manufactures valves, fire hydrants and special equipment for the water and gas
industries. Its board of directors adopted a resolution which set forth that it was in the
corporation's best interest to join with others in donating $1500 to Princeton University. The
stockholders questioned this action, and the corporation issued a declaratory judgment action in
the Chancery Division and trial was had.
The President of the company testified that such donations were expected by the community, and
that the donations create a favorable environment for their business operations.
Stockholders Argument
B) Plaintiff's certificate of incorporation does not expressly authorize the contribution and
under common law principles the company does not possess any implied or incidental
1

power to make it.

C) NJ statutes which expressly authorize the contribution may not constitutionally be
applied to plaintiff, a corporation created long before their enactment.
Holding
D) A donation by AP Smith was intra vires, or within the authority of the board of
directors.
I) At Common Law, a manager could not disburse any corporate funds for philanthropic
or other worthy public cause unless the expenditure would benefit the corporation.
(1) However, control of economic wealth has passed from individual entrepreneurs to
dominating corporations, and thus public support has developed for corporations
to make reasonable philanthropic donations.
(A) Such contributions have been sustained upon liberal findings that the
donations tended reasonably to promote the corporate objectives.
(I) Modern conditions require that corporations acknowledge and
discharge social as well as private responsibilities as members of the
communities within which they operate.
(2) Further, state legislation adopted in the public interest and applied to pre-existing
corporations under the reserved power has repeatedly been sustained the US
Supreme Court.
II) The donation is valid. There is no suggestion that it was made indiscriminately or to
a pet charity of the corporate directors in furtherance of personal rather than corporate
ends. It was a lawful exercise of the corporation's implied and incidental powers
under common-law principles and that it came within the express authority of the
pertinent state legislation.
NOTES and Rules
E) The MBCA and other corporate codes now expressly authorize corporations to
make charitable contributions.
I) However, there are scholars who still contend that corporate giving, if it is permitted
at all, should be strictly limited to those situations where the benefit to the firm in the
form of higher expected profits is clear and compelling.
(1) Friedman: If managers to do anything with property other than what the
shareholders want them to do would be to expropriate resources that do not
belong to them.
F) The law views a business as a separate entity, a separate legal person
G) A body of law has developed to control the actions that separate entity or person
H) Real persons act for that corporation as agents
I) A business with more than one owner can distribute and use its funds in ways that
are opposed by at least some of its owners.
MBCA 3.02(13)
Unless its articles of incorporation provide otherwise,
every corporation [has the power]
to make donations
2

for the public welfare OR

for charitable, scientific, or educational purposes.
Unhappy shareholders can :

Exit rights (Sell)

o

Vote
o

But what if no liquidity / not publicly traded?

But what if outvoted / perpetually a minority?

Legal protections for minority shareholders?

Constitutional law analogue?

How does the owner of a business make $$ from the Business?

J) She can receive distributions of all or part of the money the business has earned.
K) She can sell all or part of her ownership interest in the business for more than she paid for
it.
How does the Owner know how much money the Business has made and how much the
business is Worth?
L)

Business entities are required to keep appropriate accounting records, and to make
these records available to the owners. MBCA 16.01(b) and 16.02(b)(2).
I) Businesses typically maintain several financial statements, which are provided to
investors, the companys managers, and to the public and public enforcement
authorities.
(1) Without these accurate reports, the company can go under without the
managers or public knowing before it is too late.

Dodge v. ford
Primary motive must be profits
Doing good on the side is okay
II)

Types of Financial Statements

(1) Income Statement: Computes profit during a given period, usually a year.

5) Revenue (Sales) Expenses (Costs) = Net Income (Profits)

(I) Depreciation changes this analysis
1. A company which purchases a machine for 5K, which is expected to
last for more than 5 years, it would be misleading to add the entire 5K
3

into the expenses in year 1.

A. The profits from the machine would be understated in year 1, and
overstated in subsequent years.
(B) An income statement does not show how much cash a business may be
generating or using up in a given year.
(I) This is because some entries in the income statement, such as
depreciation, do not represent any actual movement of cash.

Operating income can be a useful concept because it separates operations from financing

A company can often change its capital structure (financing) more easily than it can
change its operations

Raise equity / pay down debt

Borrow / dividend / stock repurchase

Creditors and shareholders are BOTH investors, but . . .

o

Payments to creditors (interest) are counted as expenses

payments to shareholders (dividends) are counted as profits

(2) Cash Flow Statement: Measures the cash made available to a business from its
operations during a given period.
(A) It is a measure of how much more cash a business has at the end of the
year than it had at the beginning of that year.
(I) Generally, an income statement is converted into a cash flow statement by
the following formula
1. To get cash flows, start with net income
2.

add back in non-cash charges

3.

subtract long term investments / changes in balance sheet assets other

than cash

4.

Add change in net liabilities and funds from new issues of stock
(raising equity capital)

(B) Capital Expenditures i.e., (purchases of long-term equipment

(C) An increase in a balance sheet asset account other than cash results in a
decrease in cash flow.
(D) An increase in a balance sheet liability account can result in an increase in the
cash account on the balance sheet and an increase in cash flow.
(E) NOTE
(I) When a business buys something that will be used for more than one year,
4

then is an investment and only the depreciation appears on the income

statement.
(II) When company buys something that it will use up in a year, it is called an
expense, and the total amount appears on the income statement.
(3) Balance Sheet: Shows the companys assets, liabilities and the owners equity in
the business.
(A) It is a snapshot of a particular moment in a business history.
(I) Assets Liabilities = Equity
(II) Assets = Liabilities + Equity
(III)

Liabilities = Assets - Equity

(IV)3 Main Sections

1. Assets
A. The things that the company owns that have value.
I. Ex: Cash, Accounts Receivable, Prepaid expenses, Property,
Equipment, IP
II.

Assets, like cash are NOT depreciated b/c they dont get
used up.
III. Accounts Receivable are not depreciated but may be
written off.
2. Liabilities
A. What the company owes.
I. Ex: Accounts payable, Short term debts, Long term debts, Taxes,
Accrued payroll and other liabilities

3. Owners Equity
A. What is left over after a business subtracts the liabilities from the
assets.
(V) If the assets are all of the companys things that have value, and the
liabilities are all the claims on that value, then the difference
between the two is the value of the business to the owners The
owners equity.
NOTES
-

Matching: Costs or expenses should be booked in the same period as the revenues
those expenditures helped generate.

Conservatism: Data should be conservative they should present the firms financial
data in an accurate way, but err on the side of understating its revenues and the value of
its assets, and on overestimating its costs and liabilities.
(B) Time Value of Money: The principle that money currently possessed will
not be worth as much in the future.
(I) 100K now, will not be worth 100K later.
6) Present Value = Future Value/(1 + Discount Rate)^ year
7) Net Present Value = Present cash flow + Discounted future cash flows
5

8) Sarbanes-Oxley Act and Corporate Governance

A) Congress passed this in reaction to the perceived breakdown of financial accounting and
corporate accountability in the wake of the financial scandals in the 2000 time frame.
I) It seeks to protect the owners of public companies.
(1) In well-functioning governance systems, the public shareholders rely upon the
board of directors, who in turn delegate a fair amount of responsibility for the
oversight of the companys accounting to its audit committee.
II) Motivation for Fraud
(1) If the numbers are good, then fundamental performance is good, then the price of
the stock should go up.
(A) Audit committee of the Board of Directors must have higher level of financial
literacy
(B) Company must evaluate internal controls
(I) Internal systems for tracking and reporting resources
(C) CEO & CFO must sign off on accuracy of financial statements
(I) Creates risk of criminal liability
1) What are the Legal Structures for Businesses?
a) Decision regarding a business structure is driven chiefly by the objectives of the business
founder and firms investors, in terms of tax status, exposure to legal liabilities, and
flexibility in the operation and financing of the business.
i) 2 Important Differences in Business Structures
(1) Tax Treatment of Business profits
(2) Liability exposure of the owners for the business debts and other potential
liabilities.
b) Sole Proprietorship
i) Simplest business structure and default structure with only one owner and no filing
ii) A person undertakes a business without any of the formalities associated with other
forms of organization.
(1) Individual and business are one and the same for tax and liability purposes.
iii) Does not pay taxes as a separate entity.
(1) The individual reports all income and deductible expenses for the business on her
personal income tax return.
iv) For liability purposes, the individual and the business are also one and the same.

Most common business structure

o over 70 percent of all businesses are organized as sole proprietorships according
to IRS
o data
o Typically small average revenue ~$60K per year
o But in theory could be big
Downsides / limitations
o Limited sources of capital Sole Prop., retained earnings, personal credit may
limit
6

o growth rate
o Owner personally liable for actions of agents
Note agents not limited to employees
o Potential liability and likelihood of incident may grow as business grows
c) Corporation
i) Most common legal structure for large businesses.
(1) Corporations owners are generally protected from personal liability.
(a) In exchange for this protection, the corporation must also pay tax on its
income just like a real person.
(i) Corporation pays a tax, then the owners of the corporation pay a tax on the
part of its earnings that are distributed to them as dividends.
(b) This double taxation creates powerful incentives for those enterprises that
anticipate distributing earnings to use a tax-advantaged, pass-through form,
such as a partnership or a limited liability company.
(2) Maximum tax rate on corporate income is 35%.
d) Partnership
i) Business entities that consist of 2 or more owners.
ii) Treated like a proprietorship for tax and liability purposes.
iii) Taxes are paid only at the personal level on the partners share of the income
(1) This is called pass through taxation.
iv) Each partner is jointly and severally liable.
e) Limited Partnership
i) Like a partnership or proprietorship for tax purposes.
ii) Somewhat like a corporation for tax purposes.
(1) A partnership that has both limited and general partners.
(a) General: Assumes management responsibility and unlimited liability for
business.
(b) Limited: Similar to a shareholder.
f) Limited Liability Company (LLC)
i) A business structure to provide both the protection from liability of a corporation and
the protection from double taxation of a partnership.
(1) Owners are not individually liable for the companys debts.
ii) The LLC is not a tax paying entity.
(1) Income taxes are only paid once by the owners of the LLC when a part of the
companys earnings is distributed to them.
g) How do you Choose?
i) Who will the owners be?
(1) If the investors and owners will be a small group of individuals, a partnership of
some form is clearly a possibility, as is an LLC.
(a) If the business will require Venture Capitalists, then they typically wont
invest in LLCs, but only corporations b/c they dont want to be held
7

personally liable.
ii) What are the Capital Requirements and cash flow characteristics of the business
likely to be?

Sole Proprietorship: Chapter 2

h) Most common form of business
i) The business and its owner are the same actual person and the same legal person.
(1) There is no legal separation of the business, the people who manage the business,
and the people who own the business.
(a) Therefore, the owner is responsible for the debts and obligations of the
business.
(2) No need to draft any legal document and no need to file anything.
(a) It is the default structure for a business with one owner; unless the owner
files papers to create some other structure, such as a corporation, his business
is automatically a sole proprietorship.
(i) The owner reports the business income on a personal tax return and pays
the taxes on that income (at his personal rate).
i) Problems with a Sole Proprietorship
i) Employees and Agency Principles
(1) In a sole proprietorship, the relationship between employees and owner is largely
a matter of contract law.
(a) Agency
(i) Involves a delegation of a duty or goal of one person (principal) to another
person. (agent)
1. Restatement (Second) of Agency (RSA)
a. 1
i. Agency is a fiduciary relation
ii. There must be some manifestation of consent by a principal to
an agent that the agent shall act on the principals behalf and
subject to the principals control.
iii. Consent by the agent so to act.
b. Agency is the result of conduct, and not of the words used. The
Conduct manifests that one will do something for another, who
is in charge.
(b) Third Parties and Agency
(i) Authority: Power of the agent to affect the legal relations of the principal
by acts done in accordance with the principals manifestations of consent
to him. RSA 7.
1. A deal by your agent with a 3rd party binds you if the agent had
authority to bind the principal.
(ii) Actual Authority: Created by manifestations from the principal to the
agent that the agent reasonably believes create authority.
1. Express: P tells A that A is empowered to act on Ps behalf in
accomplishing some task.
2. Implied: Agent has the authority to do what is reasonably necessary to
8

get the assigned job done, even if P did not spell it out in detail.
(iii)
Apparent Authority: Created by manifestations by Principal to a
3rd party.
1. Manifestations must be attributable to the Principle. 8 & 27.
2. Must get to the 3rd party
3. Must lead the 3rd party reasonably to conclude that the agent is an
agent for principal.
ANALYSIS: 1) is there an agency relationship, 2) Is there express or apparent authority to
act (cite the elements of express and apparent - 26, 27. Finally, apply 140 to determine
if the principal will be liable to the 3rd party for the agents actions.
(iv)Respondeat Superior: A principal may be liable even though he is not
personally negligent.
1. Does not apply in all cases of agency.
a. Applies only to a subset of principal and agent relationships
called master/servant. RSA 220.
i. Master has the right to control the details of how the servant
does the job.
ii. Master has control over the day to day performance of the
agents task.
iii. Master is liable for the torts of a servant only if the tort was
committed within the scope of employment. RSA 219
b. Servant must be distinguished from an independent contractor,
who is hired to do a job, but is not told specifically how to do it.
i. Servant: 2 states that a servant is employed by a master to
perform a service in his affairs whose physical conduct in the
performance of the service is controlled or is subject to the
right of control.
ii. Torts of ICs are generally NOT attributable to the person
who hires him.
iii. Vicarious tort liability comes from the fact that the person
engaging someone controls the details of how the job is to
be done.
Principal liable if

Relationship is employer employee (master servant)

o
Not independent contractor
o
Turns on degree of control
o
Payment / actual employment may not be necessary

Tort committed within scope of employment

o
Not during a frolic
o
Still liability if mere detour
MILLER V. MCDONALDS CORPORATION (1997); FRANCHISORS AND VICARIOUS LIABILITY
Facts
Miller bit into a Bic Mac and suffered an injury when she bit into a heart-shaped sapphire stone
9

embedded into the sandwich. The trial court granted summary judgment to McDonalds on the
ground that it did not own or operate the restaurant, but was a mere franchisor and 3K was the
proper party to sue.
3K owned the restaurant under a license agreement with McDonalds that required it to operate
in a manner consistent with the McDonalds System. This agreement specified numerous
different things that had to be strictly complied with.
Despite the numerous specifications that 3K was bound to uphold, there was a provision that
stated that 3K was not an agent of McDonalds, but an IC, and any claims by a 3rd party would be
solely against 3K.
Issue
Whether there is evidence that would permit a jury to find McDonalds vicariously liable for
those injuries because of its relationship with 3K.
Holding
Reversed. There is sufficient evidence to raise a jury issue under both actual agency and
apparent agency principles.
-

Miller went to the restaurant under the assumption that McDonalds owned, controlled,
and managed it.
o Therefore, Miller was justifiably relying on McDonalds.
If the franchise agreement goes beyond the stage of setting standards,
and allocates to the franchisor the right to exercise control over the
daily operations of the franchise, an actual agency relationship exists.
The court believes that a jury could find that McDonalds retained
sufficient control over 3Ks daily operations that an actual agency
relationship existed.
McDonalds required precise methods that 3K must fulfill
McDonalds regularly sent inspectors
McDonalds uniforms, menus, recipes, etc. were to be used.

RSA 267 Apparent Agency

o One who represents that another is his servant or other agent and thereby causes
a 3rd person justifiably to rely upon the care or skill of such apparent agent is
subject to liability to the 3rd person for harm caused by the lack of care or skill of
the one appearing to be a servant or other agent as if he were such.
The crucial issues are whether the principal held the 3rd party out as
an agent and whether the plaintiff relied on that holding out.
It seems clear from the requirement of uniformity with other
McDonalds restaurants that 3K was an apparent authority of
McDonalds and that Miller was justifiably reasonable to believe
that she was eating at a McDonalds restaurant.
Take-away: Franchisee may be deemed an agent for franchisor if:

10

o the franchisor retains sufficient control over the franchisees

operations, or
o the public cannot be expected to know that the franchise was
owned and operated by franchisee rather than franchisor.
How does a Sole Proprietorship Grow?
Funding by the Owner
j) A business is often at greatest risk when it is just starting.
i) 1st investment into a business almost always comes from the owner.
ii) When money goes into the business, it goes in as an investment (equity), not as a
loan to be repaid to the entrepreneur.
k) Overview of Debt and Equity
i) All financing for a business is either 1) debt or 2) equity or 3) some combination of 1
and 2.
(1) Debt Funding: A loan that the business is legally obligated to repay generally
with interest.
(2) Equity Funding: An investment that the business receives for selling part
ownership in the business.
(3) Differences
(a) When a business borrows money, the creditor is entitled to receive both
repayment of the amount borrowed (principal) and interest on that principal,
according to a set schedule.
(b) If someone provides equity funds the business is NOT legally obligated to pay
anything, although the business may choose to distribute some cash as
dividends.
1. Main Benefit of equity holders is ownership interest in the firm.
a. However, the equity owner has no right to repayment if the
business fails.
(c) Debt has a fixed cost: the interest rate the business pays to borrow the money
is the cost of those funds.
(d) If equity is sold to investors, then those investors share in the success of the
company.
(i) Owners give up a certain measure of control when they give up equity.
1. The investors have a right to have a voice in how we run the business.
l) Borrowing Money
i) People can do several things to structure a loan so it will be perceived as low risk
(1) Pledge personal or corporate assets against the loan, as a form of collateral
(2) Promise to pay the $$ back in a short time
(3) Give the creditor some measure of control over the business
(a) Seat on the board of directors of a corporation, for example.
m) Sharing Profits with a Lender
11

i) The ultimate issue concerning whether a payment is a loan or an equity investment

has significant legal meaning.
IN RE ESTATE OF FENIMORE (1999); SHARING PROFITS IS A PARTNERSHIP!!!
Facts
Mrs. Serges brother had borrowed an excess of 12.5K over the course of a few years.
Subsequent to Serge giving the money to her brother, they entered into an agreement by which
the brother and Serge would divide the profits from each vehicle bought and sold. The
agreement does not specify the giving of the money as a loan, but as an advance.
Upon the brothers death, Villabona came to collect on the brothers debts to them. Serge did
likewise.
Serge argues that she gave a loan to her brother, and therefore the money remaining should first
go to her. She doesnt want the court to consider her a partner with her brother because
then the creditor (which she would be if she is considered to have given a loan) gets paid
first.
Holding
The Court found that a partnership existed because she was to receive a share of the profits and
the allocation of expenses.
It is not essential to the existence of a partnership that all partners have the right to make
decisions and a duty to share liabilities on dissolution, but at least one of these factors must be
present.
o Take-away: Be clear in your drafting. Creating a partnership may have major
consequences (including liability exposure for your client, and possibly for you).
o Take-away 2: Loving her brother but knowing better than to trust him too much,
she had him sign an agreement memorializing their understanding.

12