The US Corporation Law: A Fiduciary Duty Exists between the Ewing Family and Barnes Family - Essay Example

USA CORPORATION LAW Question 1a In Ewing Oil Inc, a fiduciary duty exists between the Ewing family and Barnes family, and the directors of the corporation with the shareholders. The Ewings should be advised that in the prosecution of a case concerning breach of fiduciary duty, Barnes are not obligated necessarily to prove the existence of an agreement between the two parties. The Barnes’ only needed to show that a special duty existed and that the other party breached it. A fiduciary relationship can be formed through agreement; however the existence of a special relationship also forms it. Texas case law defines a fiduciary relationship to occur “when an individual is under obligation, established by contract or law, to give advice or act for another’s benefit within the realm of the relationship. Whether Ewing has a fiduciary obligation is a factual question. Therefore Barnes’ claim needs the facts and analysis of the issue in the determination of whether a fiduciary duty is owed. If so, determine whether Ewing such a special obligation. Since Barnes and Ewing jointly own stocks in Ewing Oil, a fiduciary relationship exists, and any action by the Ewings that is contrary to the interests of Barnes breaches that special duty. However in the loan transaction, we are told that Ewing directors and shareholders voted in good faith to approve the loan (Nevada Law, 2006). This makes the deal fair and devoid of any breach of fiduciary duty. But this fiduciary relationship results from two dimensions; one formal and another informal. The formal relationship arises from the fact that the two parties are business partners, and other the circumstance there was no breach of duty. The informal relationship is what makes the Barnes’ claim more complex for Ewing to evade. Ewing and Barnes had been in business for sometime wherein a high degree of confidence, influence or trust had been created. This informal fiduciary relationship is cemented more in view that there existed a situation of dominance on the part of Ewing who owned 60% stock and 5 directors out of the total 7. In this regard the Barnes family was the weaker party with 40% stock and 2 directors, and in the cause of voting to approve the loan transaction, they were bound to loose even by dissenting. Thus Ewing as the dominant party owed a special duty to protect the interests of Barnes, because really the voting processes cannot have been a fair deal. Therefore the aforementioned burden of proof will be compounded by Barnes showing that the breach of duty made them suffer a loss, and that Ewing benefited since the loan was borrowed form their directors. The Texas court is bound to detect an equitable presumption of unfairness since the two parties under fiduciary relationship entered a transaction in which one party benefited at the expense of the other. The making of the unfairness presumption implies that Ewing is obliged to prove that the loan transaction was a fair deal. The Ewings need to evidence of fairness in enforcing the loan agreement or fiduciary. The prove would include that Ewing Oil needed extra funds to correct what was hitherto thought to be a temporary problem in cash flow. The two parties jointly sought for outside funding in vain, thus the only option was to gain a loan from the Ewing directors. Ewing should also argue that there was full disclosure to all directors and shareholders who ultimately voted in favor of the transaction. Thus in view of these facts the court may consider the transaction as fair, since both parties participated and suffered to some degree. Question 1b The act of Ewing directors loaning money to the corporation, instead of giving cash to Ewing Oil for capital contribution, under Texas law amounts to fiduciary duty breach. This is because despite being the mother of two board members, she herself is not part of the company directors. Acts of fiduciary includes the existence or lack thereof, of full disclosure of the loan transaction. Ewing will particularly have to proof this since their directors were the ones to loan the corporation. Barnes may argue that their directors and shareholders dissented in the signing because the loan and deed of trust lacked full disclosure. Incase there was adequate consideration as may be proposed by Ewing Barnes can argue that Ewing could have gained independent advice. There is also need to prove that Ewing as the fiduciary gained at the expense of the beneficiary. Barnes’ claim of breach of fiduciary duty is also distinct from other certain tort claims, since it is controlled by that 4 year statute of limitations. The discovery rule applies frequently to breach of special duty claims. Hence Barnes as the claimant wins on these, because it is only one year from the approving of the loan transaction. Question 2 In this case, Dharma has been fired by Edward Montgomery not for any business wrongdoing but for personal purpose. Edward Montgomery felt offended by Dharma direction that all senior management mandatory yoga and transcendental meditation training which Edward took as a personal offense. As a minority shareholder, her claim of violation of fiduciary duty by Edward can prevail. Nevada law recognizes fiduciary duties including the rights, powers and duties of directors and the shareholders as well. Unlike other states, Nevada does not contain dissolution clauses based on oppression of minority stakeholders but it recognizes the breach of fiduciary duty. In Hill vs. Hollis, the court decided that Hill had fiduciary duty with Hollis since they had set up the company together and did equal shareholders each own fifty percent in FFUSA. Hill who was the president of the company had waged systematic shareholder oppression against Hollis who was the vice president of the corporation (FindLaw, 2009). The court of appeal ruled out that there was a fiduciary duty between President and Vice president. The court also ruled that under the law, Vice president showed injury as a shareholder following the actions of the president and the District court had not erred in deciding for buyout of the shares although it had erred in its valuation of the date for buyout. As a minority shareholder, Dharma is therefore entitled to rights in the operation of the company. Following principles applied in Hollis vs. Hill, there is enough evidence that fiduciary duties that exist between controlling and minority shareholders in a close corporation lie EM are the same as those existing between partners. Although EM was not an incorporated organization which means that there was not laid down plan on ownership, the fact that the company allowed its employees to purchase shares made them shareholders in the organization, with the right in management of the organization. Unlike in publicly traded company where shareholders may not be interested in the running of the organization but rather on share payment, shareholders in close organization like EM have interest in the running of the organization. In most instances this is against the wish of the majority shareholders who may not be willing to relinquish their control of the organization. According to Nevada Law Corporations 174, the main purpose of fiduciary duty in a close corporation like EM is the same as in public corporations. This mainly entails protecting the investment of the shareholders. If Dharma filed for her case against Edward Montgomery, the Nevada court would therefore find fiduciary obligation on the side of Edward Montgomery. According to Nevada Corporations law 187 “controlling shareholder cannot consistent with his fiduciary duty, effectively deprive a minority shareholder of his interest as a shareholder by terminating the latter’s employment or salary”. This implies that Edward Montgomery cannot terminate shareholder status of Dharma by firing her. Even when she has been sacked, she has the right to retain her shares for the company and she should be forced to a buyout by the company. However, Dharma may not be entitled to fiduciary duty of her job as Corporation 187, 296 asserts that shareholders employed by a corporation have no fiduciary entitlement to their jobs since this can interfere with employment-at-will doctrine (FindLaw, 2009). However their relief is limited to only when they are harmed as shareholders as is the case with Dharma. Her fiduciary duty therefore rests in her duties as shareholders and not on her fiduciary duty to employment. Although Dharma may not be able to reclaim her job on fiduciary duty, she will be able to retain her shareholding capacity even when her employment is terminated. Question 3a Under the conditions of this negotiation, there is clear evidence that Cheers is likely to gain from the merger since it will retain it certification of formation. This means that there are no clear reasons why Diane should be objecting to the transaction. Although there may be personal reasons why Diane may dissent the merger, there are business opportunities for Cheers. Considering that the board decision is valid, Diane may also continue dissenting in approval of the decision which may derail the progress made. Diane is a recognized shareholder of “CC” like others and she has been acting as the secretary of the company. Under the Delaware General Corporate laws (DGCL), Diane is entitled to appraisal rights since she is a minority shareholder (Goldberg and Wilmington, 2009). Appraisal rights allows minority shareholders to seek appraisal rights for their stock when they feel that the decision taken by the company in a cash-out merger or acquisition does not give them fail value for their stock. Under Delaware law, §262(a) grants appraisal rights to shareholders in a corporation that constitute a merger. Under the same law section §262(b)(1)(i)-(ii)  eliminate appraisal rights for public traded companies. Since Cheers is not a public traded company, Diane retains the appraisal rights for her shares. The appraisal rights under DGCL therefore gives Diane the right to request for buyout of her shares since she feel the acquisition of CC would not be beneficial to the company. However, it is important to note that Delaware appraisal proceedings take quite a lot of time and results are sometimes unpredictable as has been witnessed in different cases. Question 3b In this transaction, there are important facts underlying the transaction that have not been made clear to the shareholders by the directors. The fact that Diane acted in dissent of the shareholders decision may not be presumed to be mere dissent but there are some issues that are not ironed out. First, Diane questions, which carry some weight as far as the transaction is concerned, were not addressed. She asked whether Sam had carried out appraisal of operation and it was clear that this had not been implemented but rather Sam decision was based on comparison of sales offer and acquisition cost. If the restaurant was making $1 million in a year, the restaurant may be worth more than or close to what was offered which raise questions why Sam did not carry out the appraisals. Sam also failed to explain why Colcord wanted to complete the deal in only three days. While Sam assumes it is anxiety, there must be some underlying factors. Sam could not also justify the economic implications of proposed improvements in the bar. Diane can use these facts to bring a derivative action for breach of fiduciary duty against the directors who voted in favor of the sale The Delaware Law recognizes the fact that directors of any company have fiduciary duties to the corporation and the shareholders (Wickersham, 2009, p. 54). These duties include the duties of care, loyalty and acting in good faith for the benefit of the corporation and its shareholders. Under the law, the duty of care requires that directors should act and make decisions based on informed bases while the duty of loyalty requires the directors to act in matters in the interest of the corporation and the shareholders and to absolute exclusion of any other interest. The duty of good faith is an overarching duty that intersects between the duty of care and loyalty. The Delaware law also recognizes that the decision made by directors is presumed to be made in a way that is consistent with their fiduciary duties and therefore any plaintiff who challenges the decision of the directors must bear the burden of evidences that proves that directors had conflict of interest and hence did not act in good faith (Nevada Law, 2006).. The directors are therefore called upon to prove the fairness of their transaction where they must show fair dealing and fair price. In fair dealing, directors must provide initiation of the transaction, timing, negotiation, and manner of approval while fair price must show economic and transaction issues in the transaction. From the facts presented above and a review of Delaware fiduciary duty, it is evident that Diane has facts which can support her derivative action against the directors who voted for the deal. Directors did not fulfil their duties of care, loyalty and good faith. In duties of care, directors did not make the decision on informed decision because Sam failed to explain important questions that had been raised on appraisal of the restaurant operation, the haste in sealing the deal, and justification of economic implication to renovation of the bar. Directors did not also act in good faith and loyalty since they failed to act in the interest of the company but rather under the influence of Sam who could not give facts to important questions raised by the directors. However, Diana will have to prove her facts against the directors and as reviewed earlier, she has all the facts that can be used to support her case against directors. Question 3c Food poisoning is a serious problem especially when it occurs in a food service establishment. Under the Delaware law, food service establishments are obliged to ensure that their operations are consistent with public health laws to protect consumers from food poisoning. In the above case, it was evident that food poising in Cheers was caused by storage and preparation procedures that were not in accordance with the law. Like in the above case, there is clear evidence that there is failure of fiduciary duties of directors in their work. The board of directors has the duty to act in the interest of not only shareholders but all the stakeholders of the organization including customers, employees, shareholders, communities and the environment. Apart from the fiduciary duties, the board of directors must also ensure that the operations of the organization are in consistence with business ethics and corporate social responsibility. From the above case, the board of directors failed in fulfilling their mandates as outlined above. One of the most important duties of a board of directors is to ensure effective organization planning and implementation of organizational duties according to the laid down plan. In implementing this role, board of directors should support managers in achieving organizational objectives but operate in accordance with the laid down plan for the benefit of all stakeholders (McNamara, 2008). The board of directors must also ensure that it enhances the organizational public image and monitor organizational programs and services. In the above case, it is evident that the board of directors failed in implementing these important roles ranging from monitoring organizational services and enhancing its public image but rather was more concerned with the economic returns of restaurant operations. In taking legal action against the board of directors, shareholders has a lot of evidence that can be presented before the court that will show that the board of directors ignored recommendations on internal control measures that would have ensured the operation of the restaurant in consistent with public health requirements. Although the Delaware law provides for independence of directors, this independence is recognized only when directors make decisions that are for the interest of the organization. There were three reports which had clearly indicated the need for internal control process that would ensure that the restaurant was operating according to public health laws but board of directors had ignored these reports and in one instance a junior manager had been fired by the senior manager for making such recommendation. This is clear evidence that the board had failed in its oversight duty and to implement recommendation made which had led to substantial loss to shareholders. The failure of the board in carrying out their fiduciary duties had therefore led to loss and erosion of the value of shares and they ought to be held accountable for that. In my analysis, I would therefore recommend to shareholders to take a legal action against the board of directors for failure in playing their roles and acting in the short term interest of making more profit without regard to the interest of the stakeholders including shareholders. However, shareholders would have to present the evidence from the three reports that had earlier recommended putting in place internal control mechanism which would prove that the board of directors had prior evidence of what was happening in the restaurant but they failed to act. Question 4a The Delaware statues of General Corporation have been recognized as the finest in the US for several years. The case of Amore Inc and SMC merger is tricky because SMC owns only 6% of the shares while the former owns more than 90%. In view of these Amore is favoured in dictating the conditions of the merger (Bruner, 2004). SMC sought to apply proxy campaign instead of increasing its offer. Section 251 of the Delaware statues provide that the merger agreement terms may rely on ascertainable facts outside the agreement. SMC had put the share value at $20 in preparation for the vote, an amount far above the average $10-$15. Amore rejected offer as inadequate prompting SMC to employ proxy campaign of directors’ power Mergers are provided under Delaware law to be approved first by Board of Directors followed by the shareholders (Macey, 1999, p. 112). In case of Amore, the period between its Board approval and the stockholder vote was crucial for SMC as the acquirers. This is because once the merger is approved by the board, the transaction goes public. This intervening time would have given rise to competing bidders toppling SMC. It was tactical that they include or increase their presence on the Board in order to control it. Question 4b It is obvious that Paulaski and other board members of intentionally frustrated SMC’s efforts to merge. Hence the claim by SMC that Amore’s top management intentionally impeded and interfered further with shareholder vote has a basis. It should be noted that the merger offer of $20 per share was above average and therefore should never have been termed as inadequate or grossly inadequate for that matter. The time between the Board approval of the merger and stockholder voting for that matter was crucial for SMC. By postponing the shareholder vote by one month, the Amore management negatively influenced the shareholders on SMC proposals. The prolonged period was also used to sneak in two directors and expand the management. According to Bruner (2004), Amore therefore had short-changed SMC by doing what the latter were advocating for though not through the vote. SMC was in favour of having the board members increase to 9 as allowed by the bylaws. Amore was satisfied with the hitherto five members, and the addition of another two directors during the crucial time was indeed an impediment to SMC proposals. SMC’s claim calls for a review of the law with respect to the actions of Amore, in order to ascertain its validity. Delaware law as a general matter is permissive broadly concerning mergers. Provided that corporate procedures as stated in the statues are adhered to, any two Delaware firms may merge. The corporations are supposed to pursue a schedule plan specifying the merger, and the manner in which shares of constituent corporations will be converted. Thus SMC sought to convert Amore stock into cash by offering $20 per share. This was right in law and practice and by interfering with the voting date, Amore Inc and its management influenced the shareholder voting pattern. Hence the impediment claim by SMC is valid in this regard. Similarly, Delaware law expressively allows mergers between a non-Delaware (SMC from New York) and a Delaware corporation. The merger statutes demand that the board of directors from both SMC and Amore adopt a merger agreement (Macey, 1999, p. 190). The agreement states the merger’s terms and conditions, effective mode of carrying it out, and amendments to certificate of incorporation in surviving the merger. In this respect, the manner of converting the shares, and specifically the share value was discussed prior to the board approval. The agreement should have been kept confidential, rather than Paulaski going public on Lubbock Avalanche Journal to accuse SMC of trying to take over. Such arguments may have set the shareholders to vote against SMC proposal; hence the corporation’s claim of interference is founded. Delaware law also provides that in case of any merger agreement, all other details deemed desirable ought to be discussed. The facts leading to the postponement of the shareholder elections were not fully disclosed to SMC. The move by Amore to add two more directors on the despite the bylaws and brag about it, was also targeted at ensuring that SMC’s proposal is suffocated. The statutes state that the merger agreements should be submitted to shareholders at a special or annual meeting, for majority approval through the vote. However Paulaski and his incumbents publicly gave negative views regarding the merger, even after postponing the elections to marshal up support. By Amore discussing the contents of the merger agreement, the fair deal of the merger proposal was bound to be affected negatively (Friedman, 2002, p. 71). Directors of corporations generally owe fiduciary obligations to shareholders for all acts performed during their tenure as directors. Mergers are not an exception to this duty. Amore breached a fiduciary duty and the claim of the same by SMC will be valid to the degree of extend as permitted under Delaware law (Macey, 1999, p. 47). Even in cases where rules apply differently, as in third party or disinterested mergers, SMC’s claim is still legitimate. SMC as a member entity was seeking to control part of its stake in the corporation, if not in totality. Paulaski objected to the offer not because it was grossly inadequate, but due to personal differences resulting SMC terming the management as “stodgy”. His avowed intention as CEO, chairman and director of Amore can evidently be proven as aimed at undermining the merger offer presented by SMC. SMC’s claim of impediment and interference by the management of Amore is based also on the duties of directors in interested merger offers (Friedman, 2002). All the five directors approving the SMC merger offer were from Amore. Paulaski as CEO owned 10%, and therefore had financial interests in the merger, with a high possibility of controlling the other four to follow his stand. He also publicly expressed fears that Amore Inc would eventually collapse if taken over buy SMC. It is this interests that allowed amendment of bylaws to bring two more directors on board, and reschedule shareholder voting date. Therefore the directors approving the merger should bear the burden of proof, showing that the process was entirely fair, other than the merger proponents. Amore dismissed the $20 share price offered by SMC as inadequate. In view of the average $10-$15 witnessed in the corporation’s performance, this cannot be proven and is no financial reason to deny the proposal. The company did not exercise any of the powers bestowed to it, instead Paulaski and other directors intentionally led SMC to sink deep and employ more devices. Then ultimately SMC’s efforts were intentionally frustrated by Amore management using crude means (Bruner, 2004, p. 35). Delaware law however, allows all stockholders to freely vote shares in their own economic self interest. But in this case, the interest was interfered or influenced by the actions of Paulaski against SMC. Amore as the majority stockholder had free power, from any fiduciary constraints to block shareholder approval of the SMC offer. This would have been done by Amore as the 90% stock owner, announcing that it had no present intention of selling its interests. In response, SMC would have let up the matter and pursued other avenues rather than waste time marshalling for the election. Concussively, the actions of Amore management in the wake of SMC merger offer, makes SMC’s claim of interference and impediment in the vote more valid than ever. 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