Business Association Problems - Case Study Example

 Business Association Problems Question 1 (a) Harry can file a shareholders’ derivative suit against the Board of Directors and Jill for breach of fiduciary duties and for engaging in a conflicting interests’ transaction, respectively. A shareholders’ derivative action is an action brought by a shareholder on behalf of the corporation, if the Board of Directors refuses to bring the action itself, against third persons, which can include any or all of its directors whose actions have harmed the company (Morrison 352). Before Harry, however, can proceed with a derivative suit, he must fulfill certain conditions. The Model Business Corporation Act (MBCA), for example, requires the shareholder contemplating a derivative suit to first make a written demand to the Board of Directors to act on the subject of the complaint and commence only the suit after 90 days unless there was an earlier rejection or it is contingent upon the shareholder to institute the action immediately without waiting for its expiry because of the likely intervention of irreparable injury to the company. The importance of a prior demand was impressed by the US Supreme Court in the case of Hawes v Oakland 104 US 450 (1881). The shareholder in this case instituted an action against the City of Oakland, the Contra Costa Waterworks Company of which he was a shareholder, and its directors for acts inimical to the company and its shareholders. These acts constitute, among others, of providing the city, free of charge, of water beyond that prescribed by law. The US SC sustained the lower court and dismissed the appeal on the grounds that, among others, the shareholder failed to show that he had exhausted all remedies to settle his grievances against the company in accordance with company grievance mechanisms. The Court declared that “…before the shareholder is permitted in his own name to institute and conduct a litigation which usually belongs to the corporation, he should show to the satisfaction of the court that he has exhausted all the means within his reach to obtain, within the corporation itself, the redress of his grievances, or action in conformity to his wishes. He must make an earnest, not a simulated effort with the managing body of the corporation to induce remedial action on their part, and this must be made apparent to the court” (Hawes v Oakland 104 US 450 [1881]). There are instances when the courts would allow shareholders derivative suits to proceed notwithstanding the prior absence of such a demand such as those cases falling under the demand futility principles but these cases must be pleaded with specific facts that show that the Board members are not “disinterested, rational and informed” (Halbert & Ingulli 23). In the case of Aronson v Lewis, 473 A 2d 805 (Del. 1984), the Delaware Supreme Court established the demand futility test for allowing a derivative suit without the benefit of a prior demand. The action sought to make the Board of Directors of the Meyers Corporation liable for breach of fiduciary duties for extending a compensation package and loans to one of its directors who owned 47% of the company’s outstanding stocks. The shareholder’s complaint alleged that it would be useless to make a prior demand because all members of the Board had already agreed to the package and loans and the beneficiary director controlled and dominated the members of the Board and the company’s officers. The Court ruled against the shareholder on the ground that he did not meet the demand futility test, which is essence, requires that the shareholder must allege facts that can create doubt on the part of the courts that: the directors are disinterested and independent, and; that the transaction in issue is a valid exercise of business judgment. Moreover, the Court declared that even if proof is adduced showing a director owning majority of the stocks or having nominated many of the company’s board members do not, in themselves, strip such directors of their protection under the business judgment rule. Harry need to attach documents to his pleadings that will show that he had written to the Board on the matter, the response of the Board rejecting his demand and other documents showing him exhausting the grievance procedures enshrined under the company rules, documents that will prove company loss of earnings and profits brought about by the company’s reductions of its prices and free lifetime supply of Lucidex to shareholders as well as show that the company was not losing prior to such reduction, and documents that will detail the employment contract between Jill and Paula. (b) Assuming that Myers follow the Model Business Corporation Act, three of the proposals being contemplated by Allan would breach the fiduciary duties and the duty of loyalty imposed upon directors by the Act. Three of such duties are enumerated in § 8.30 of the aforesaid Act and include discharging of his or her director duties: in good faith; with due care, similar to that being exercised by a prudent person under similar circumstances, and; in such a way that such director believes to be in the best interest of the corporation. Three of the proposals being contemplated by Allan will violate the aforesaid duties because they are all calculated to benefit him only and not the company and therefore are in bad faith. The only proposal that will not subject him to liabilities for breach of said duties is to sell some of his shares to Harry and Iris because even if they are for self-interest, a change of share ownership normally does not harm the company. Despite the business judgment rule where the courts give directors enough leverage to conduct their tasks and functions freely under the presumption that their actions are geared for the benefit of the company’s interest and which indemnifies directors against personal liability, that presumption is suspended once evidence is adduced that the director acted in self-interest and engaged in self-dealing transactions, or transactions that involved a conflict of interest. In addition, the offers made by Gina to Allan seem to violate the principles outlined by the corporate opportunity doctrine, primarily because they are closely intertwined with the line of business of ABCD. In the Broz v Cellular Information Systems, Inc 673 A.2d 148 (Del. 1996), the Supreme Court of Delaware outlined the prohibitions against the corporate opportunity doctrine. Accordingly, a director or any corporate officer cannot make use of business opportunity for his own if the following conditions occur: the company is financially able to take it itself; the opportunity is classifiable as within company’s line of business; the corporation has interest or expectancy on the opportunity, and; if by taking it, the director or officer is placed in a position that will conflict or jeopardize the performance of his duties to the corporation. On the other hand, a director or corporate officer may make accept the opportunity only if: the same is offered to him in his personal capacity and not because of his position in the company; the opportunity is not important to the company; it has no interest in it; the director or officer, by taking the opportunity, will not be placed in a position in which he will have to necessarily use the company’s resources in the pursuit of such opportunity. Gina’s offer of directorship to Allan, to vote with all her shares to ensure Allan’s re-election to Lawn Furniture Inc’s every election time and to sell 40% of its shares to him are all closely interlocked with the idea of having Allan proposed to his company to engage in some kind of business deal exchange with each other, which includes buying each other’s products, an idea that would almost alter ABCD’s business line, and violate the corporate opportunity rule. Works Cited Aronson v Lewis, 473 A 2d 805 (Del. 1984). Broz v Cellular Information Systems, Inc 673 A.2d 148 (Del. 1996). Halbert, Terry & Ingulli, Elaine. Law and Ethics in the Business Environment, 6th Edition. Cengage Learning, 2008. Hawes v Oakland 104 US 450 [1881]. Morrison, Alex B. Fundamentals of American Law. Oxford University Press US, 1996. Read More