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Management of the Corporation

Sometimes, actions that benefit a corporation as a whole do not coin­cide with the separate interests of the individuals making up the corpo­ration.  In considering those situations, it is important for your students to be aware of the rights and duties of the participants in the cor­porate enter­prise.

This chapter focuses on the rights and duties of directors, managers, and shareholders and the ways in which conflicts between and among them are resolved.  The duty of care and duty of loyalty owed by direc­tors, the business judgment rule and the immunity it provides directors from honest mistakes, and the duty owed by majority share­holders to the cor­poration and minority shareholders are among the topics.

Roles of Directors and Officers

Directors act for and on behalf of their corporation, but no individual director can act as an agent to bind the corpora­tion, and directors collectively control a corporation in a way that no agent can con­trol a princi­pal.  Directors hold positions of trust and control over their corporation, but, unlike trus­tees, they do not own or hold title to property for the use and benefit of others.

Election of Directors

The number of directors is stated in the articles or bylaws. Close corporations may eliminate the board altogether. The incorporators, or the corporation in the articles, appoint the first board, which serves until the first shareholders’ meeting. A ma­jority vote of the shareholders elects subsequent directors. Directors typically serve for a year or more.

Removal of Directors

A director can be removed for cause (and usually not without cause).

Vacancies on the Board of Directors

A vacancy can occur through a director’s death or resignation or if a new position is created.

Compensation of Directors                                                    

There is no inherent right to compensation, but many states permit the articles or bylaws to authorize it, and in some cases the board can set its own. Directors may set their own compensation [RMBCA 8.11]. A director who is also a corporate officer is an inside director. A director who does not hold a management position is an outside director.

Board of Directors’ Meetings

The dates for regular board meetings are set in the articles and by­laws or by board resolution, without further notice.  A quorum is generally a majority of the number of authorized di­rectors.  Each director has a vote [RMBCA 8.24] Ordinary matters require majority approval; certain extraordinary matters may require more.

Rights of Directors

The main right is participation in management, which includes a right to be notified of board meetings, and to have access to all corporate books and records. Most states (and RMBCA 8.51) permit a corporation to indemnify a director for costs, fees, and judgments in defending cor­poration-related suits.

The Timing of Directors’ Actions in an Electronic Age

Corporate directors can hold special board meetings to deal with extraordinary matters, pro­vided that they give proper notice to all members of the board.  If a special meeting is called without giving sufficient notice to all of the directors, are the resolutions made at that meeting invalid?  If so, can the directors validate these resolutions by holding a second special board meeting with proper notice? In today’s electronic age, matters of timing can be complicated and can affect a variety of other issues, including the effective date of a director’s resignation and the validity of a resolution ap­pointing a new director.

Committees of the Board of Directors

Executive Committee

Most states permit a board to elect an executive committee from among the directors to handle man­agement between board meetings. The com­mittee is limited to ordinary business matters.

Audit Committee

Selects, compensates, and oversees independent public accountants who audit the firm’s financial records under the Sarbanes-Oxley Act of 2002.

Nominating Committee

Chooses candidates on which shareholders vote for the board of directors.

 Compensation Committee

Sets salaries and benefits for corporate executives and may determine directors’ compensation.

Litigation Committee

Decides whether to pursue litigation on behalf of the corporation.

Corporate Officers and Executives

The board normally hires officers; qualifications are set in the articles or bylaws; rights are de­fined by employment contracts. One person can hold more than one office and be both an officer and a director. Officers’ duties are the same as those of directors. Directors and officers are corporate fiduciaries.

Duty of Care

The duty of care includes acting in good faith and in the best interests of the corporation, and ex­ercising the care that an ordinarily prudent person would use in similar circumstances [RMBCA 8.30(a), 8.32(a)].  Breach of the duty may result in liability for negligence.

Duty to Make Informed and Reasonable Decisions

Directors must be informed on corporate matters and act in accord with their knowledge and train­ing.  A director can rely on infor­mation furnished by competent officers, or others, without being ac­cused of acting in bad faith or failing to exercise due care. Directors must exercise reasonable supervision when work is dele­gated. Directors must attend board meetings; if not, he or she should register a dissent to actions taken (to avoid liability for mismanagement).

The Business Judgment Rule

Directors and officers are immune from liability when a decision is within man­agerial authority, as long as the decision complies with management’s fiduciary duties, acting on the de­cision is within the powers of the corporation, there is a reasonable basis for the decision, and no conflict of interest.

Duty of Loyalty

Directors and officers must subordinate their self-interest to the interest of the corporation.  This means no self-dealing, no usurping corporate opportunities, etc.

Conflicts of Interest

Directors and officers must fully disclose any potential conflict of interest.  After full disclosure, the individual may go ahead if the other directors or shareholders approve (assuming the cir­cumstances are otherwise fair and reasonable).

Liability of Directors and Officers

Directors and officers are personally liable for their torts and crimes, and may be liable for those of subordinates (under the “responsible corporate officer” doctrine or the “pervasive­ness of control” the­ory). The corporation is liable for acts done within the scope of employment.

What must directors do to avoid liability for honest mistakes of judgment and poor busi­ness decisions? Directors and officers must exercise due care in performing their duties. They are expected to be informed on corporate matters. They are expected to act in ac­cord with their own knowledge and training. Directors are expected to exercise a reasonable amount of supervision when they delegate work to others. Directors are expected to attend board of directors’ meetings. In gen­eral, direc­tors and officers must act in good faith, in what they consider to be the best in­terests of the corporation, and with the care that an ordinarily prudent person in a similar position would exercise in similar circumstances. This requires an informed decision, with a rational basis, and with no con­flict between the deci­sion maker’s personal interest and the interest of the corporation.

Role of Shareholders

A shareholder is the owner of the corporation in which he or she holds shares but has no right to manage the firm, and does not have title to its property. There is no legal relationship between a shareholder and a creditor of the corporation (unless, of course, the shareholder is a creditor of the corporation). Shareholders have the power to choose the board of directors, but are owed no special duty individually.

Shareholders’ Powers

Shareholders approve fundamental changes to the corporation be­fore the changes are affected.  Shareholders elect the board and may remove a director (in some cases, without cause).

Shareholders’ Meetings

Notice of Meetings

Shareholders must be notified of shareholders’ meetings [RMBCA 7.05]. Special-meeting notices must in­clude a statement of the purpose of the meeting; business trans­acted at a spe­cial meeting is limited to that purpose.

Proxies: Shares are often voted by proxy. Shareholders that own stock worth at least $1,000 can submit proposals to include with proxy materials. The materials may be furnished online.

Why might a company or other party choose to solicit proxies the old-fashioned way, by providing paper documents instead of Internet access despite the added costs? Reasons to provide proxy materials in a paper format include chiefly the personal preference of the shareholders and other corporate participants. There may have at one time been a technological impediment—the company or its owners may not have had access to, or known how to use, compatible technology.

Conducting Shareholders’ Meetings

Corporate articles or bylaws may provide for the conduct of shareholders’ meetings.  Typically, the company president or the chairperson of the board of directors presides, and the cor­porate secre­tary records the minutes of the meeting.  The agenda may include reports of manage­ment, the amendment or repeal of bylaws, resolutions submitted on behalf of management or share­holders, ex­traordi­nary corporate matters or decisions that require shareholder approval, and other subjects.  Shareholders can offer and respond to proposals and resolutions.  For example, sharehold­ers con­cerned about social and politi­cal issues have used shareholders meetings to propose changes in corpo­rate activ­ities that relate to the issues.

 SEC Rule 14a-8 — SEC Rule 14a-8 requires that when a company sends proxy materials to its shareholders, the company must include whatever proposals will be considered at the meeting. Section 14(a) of the 1934 act regulates management’s solicitation of proxies from shareholders of Section 12 companies.  There must be full and accurate disclosure.  SEC Rule 14a-9 is similar to the antifraud provisions of Rule 10b-5.  Remedies for violation range from enjoining a share­holder vote to damages.

Shareholder Voting

Quorum Requirements

A shareholder quorum is generally more than 50 per­cent.  (Unanimous written, shareholder consent is, in some states, a permissible alternative to a shareholders’ meeting.)  A ma­jority vote of the shares at the meeting is usually required to pass resolu­tions.  Extraordinary corporate mat­ters, require the approval of a higher percentage of shares entitled to vote, not just a majority of those present at a meeting.

Voting Lists

Persons whose names appear on the corporation’s records as owners, as of a record date, are en­titled to vote.

Cumulative Voting

In most states, shareholders elect directors by cumulative voting; otherwise, the vote is by a majority of shares at the meeting.

 Other Voting Techniques

Shares can be voted in accord with a shareholder voting agreement or voting trust.

Why is disclosure to the shareholders considered significant? Disclosure in any fiduciary situation is considered important and is emphasized repeatedly in the duties that, for example, an agent is said to owe a principal. Shareholders are the owners of their corporations. Without disclosure, a shareholder (or any party to whom disclosure is due) is making a decision that he or she might decide another way if the “full story” were revealed.

What is a voting proxy? A proxy is written authorization given by a shareholder to a third party to vote the shareholder’s shares at a shareholders’ meeting.

What is cumulative voting? Cumu­lative voting is a method of voting designed to allow minority shareholders representation on the board of directors. The number of members of the board to be elected is multi­plied by the number of voting shares a shareholder owns.

Rights and Liabilities of Shareholders

Rights of Shareholders

Stock Certificates

In jurisdictions that require the issuance of stock certifi­cates, shareholders can demand a certifi­cate and demand that their names and ad­dresses be recorded in the corporate record books.  In most states, shares can be uncertified.  Notice of shareholder meetings, dividends, and re­ports are distributed according to the ownership listed in the corporation’s books, not on the ba­sis of possession of a certificate.

Preemptive Rights

The articles of incorporation determine the existence and scope of preemptive rights.  Generally, they apply only to additional, newly issued stock sold for cash and must be exercised within a specified time period.  Preemptive rights are most significant in a close corporation because of the rel­atively few number of shares and the substantial interest each shareholder controls.

Stock Warrants

When preemptive rights exist and a corporation is issuing additional shares, each shareholder is given transferable options to acquire a given number of shares from the corporation at a stated price.  Warrants are often publicly traded on securities exchanges.

Dividends:     Dividends can be paid in cash, property, stock of the corporation that is paying the dividends, or stock of other corporations.

Illegal Dividends

A dividend paid while a corporation is insolvent is illegal and must be repaid if the share­holders knew that it was illegal when they received it.  Directors may be personally liable for paying such a dividend.

 From what sources may dividends be paid legally? In what circumstances is a dividend illegal? What happens if a dividend is illegally paid? Depending on state law, dividends may be paid from retained earnings, current net profits, and any surplus. A dividend paid while the corpora­tion is insolvent is an illegal dividend. Dividends improperly paid from an unauthorized account are illegal. Shareholders must return illegal dividends if they knew that the dividends were illegal when they received them. Whenever dividends are illegal or improper, the board of directors can be held personally liable for the amount of the payment.

Directors’ Failure to Declare a Dividend

That corporate earnings or surplus is available to pay a dividend is not enough for a court to com­pel directors to distribute funds that, in the board’s opinion, should not be paid.  Abuse of discre­tion must be clearly shown.

Directors’ Failure to Declare a Dividend

In Dodge v. Ford Motor Co., 204 Mich. 459, 170 N.W. 668 (1919), in the interest of setting aside money for future investment and expansion, the Ford Motor Co. announced that it would pay no spe­cial dividends after October 1915, even though surplus capital in 1916 exceeded $111 million.  The minority stockholders, who owned one-tenth of the shares of the corporation, petitioned a Michigan state court to compel the directors to declare a dividend.  The court ordered the payment, and the de­fendants appealed.  The Supreme Court of Michigan affirmed.  The court determined that a declara­tion of divi­dends would not be a detriment to Ford’s business and that continued failure to declare such a divi­dend in view of the large capital surplus could amount to such an abuse of discretion as to consti­tute fraud.  The court, however, refused to specify an amount, perhaps recognizing that it was get­ting too deeply involved in a matter beyond its scope of expertise.  In any event, the court con­cluded that there was some unspecified point beyond which a corporation could not continue hoarding its cash but instead had to pay out a dividend.

This case is a striking exception to the general rule that directors should not ordinarily be forced to declare dividends to stockholders.  Courts are usually very reluctant to become involved in such is­sues because there is no clear answer as to when the capital surplus of the corporation is so large that the board of directors should be required to declare a dividend.  Certainly the contents of this opinion do not suggest that the court engaged in extensive calculations in determining the proper dividend payable to shareholders.  In the absence of some evidence of fraud, would it be better to give the di­rec­tors complete discretion in deciding when to declare dividends to share­holders (assuming that there is adequate capitalization)?

Inspection Rights

The shareholder’s right of inspection is limited to the inspection and copying of corporate books and records for a proper purpose, provided the request is made in advance.  A shareholder can be denied access to prevent ha­rass­ment or to protect trade secrets or other confidential corpo­rate in­formation.

Transfer of Shares

Although stock certificates are negotiable and freely trans­ferable, transfer of stock in closely held corporations is generally restricted by contract, the bylaws, or a restriction stamped on the certificate.  Any restrictions on transferability (which typically include a right of first refusal) must be noted on the face of the certificate.

Rights on Dissolution

When a corporation is dissolved and its debts and the claims of its creditors have been satisfied, the remaining assets are distributed on a pro rata basis among the sharehold­ers.  Certain classes of preferred stock can be given priority.

The Shareholder’s Derivative Suit

If directors fail to sue in the corporate name to redress a wrong suffered by the corporation, shareholders can bring a suit.   Some wrong must have been done to the corporation, and any damages recovered usually go into the corporation’s trea­sury.

A Brief History of Derivative Suits

The right of shareholders to sue derivatively on the behalf of their corporation was indicated as early as the 1830s.  In 1855, the United States Supreme Court upheld a shareholder’s right to sue on behalf of a corporation whose officer had paid a tax that the shareholder claimed was unconstitu­tional [Dodge v. Woolsey, 59 U.S. 331, 15 L.Ed. 401 (1855)].

The derivative suit developed more fully in the second half of the nineteenth century.  Procedural restrictions on derivative suits also developed in the federal courts late in the nineteenth century and in the state courts in the first half of the twentieth century.  In 1980, at least one study found that during the 1970s, there was only a slight increase in the amount of shareholder litigation [Jones, “An Empirical Examination of the Incidence of Shareholder Derivative and Class Action Lawsuits, 1971–1978,” 60 Boston University Law Review 306 (1980)].

During the 1980s, however, the amount of shareholder derivative litigation for alleged breaches of management duties was extensive. Today, most of the claims brought against directors and officers in the United States are those al­leged in shareholders’ derivative suits. Other nations, however, put more restrictions on the use of such suits. German law, for example, does not provide for derivative litigation, and a corporation’s duty to its employees is just as significant as its duty to the shareholder-owners of the company. The United Kingdom has no statute authorizing derivative actions, which are permitted only to challenge directors’ actions that the shareholders could not legally ratify. Japan authorizes derivative actions but also permits a company to sue the plaintiff-shareholder for damages if the action is unsuccessful.

If a group of shareholders perceives that the corporation has suffered a wrong and the directors refuse to take action, can the shareholders compel the directors to act? If so, how? The shareholders cannot compel the directors to act to redress a wrong suffered by the corporation, but if the directors refuse to act, the shareholders can act on behalf of the firm by filing what is known as a shareholder’s derivative suit. Any damages recovered by the suit normally go into the corporation’s treasury, not to the shareholders personally.

Liabilities of Shareholders

Shareholders are not usually person­ally liable for the debts of a corporation.

Watered Stock

A shareholder may be li­able if he or she receives watered stock without paying the share’s stated value.  In that case, the shareholder may be liable to the corpora­tion for the difference between the price paid and the stock’s stated value, and to creditors for corporate debts.

Duties of Majority Shareholders

A majority shareholder has a fidu­ciary duty to the corporation and to the minority shareholders when he or she (or a few shareholders acting together) owns enough shares to exercise de facto control over the corpo­ration.

Frequently Asked Questions

Why is it incorrect to characterize a director as either an agent or a trustee of a corporation?  Even though directors act for and on behalf of the corporation, no individual director can act as an agent to bind the corpo­ration.  Moreover, directors, as a group, collectively control the corporation in a way that no agent can control a principal.  Directors are also often incorrectly characterized as trustees because they occupy positions of trust and control over the corporation.  Unlike trustees, however, directors do not own or hold title to property for the use and benefit of others.

What are the most common situations in which directors allegedly violate their duty of loy­alty?  A director typically breaches his or her duty of loyalty when he or she (1) competes with the corporation; (2) usurps a cor­porate opportunity; (3) has an interest that conflicts with the interest of the corporation; (4) en­gages in insider trading; (5) authorizes a corporate transaction that is detrimental to minority shareholders; and (6) sells con­trol over the corporation.

What actions must a director or officer take to avoid liability when a corporation enters into a contract or engages in a transaction in which an officer or director has a material interest?  The director or officer must make a full disclosure of the interest and must abstain from voting on the proposed transaction.  Although standards vary from state to state, a contract will generally not be voidable if it was fair and reasonable to the corporation at the time the contract was made, there was a full disclosure of the interest of the officers or di­rectors involved in the transaction, and the contract is approved by a majority of the disinter­ested directors or shareholders.

What sort of legal protection is offered to directors and officers by the business judgment rule?  The busi­ness judgment rule immunizes directors and officers from liability when a decision is within mana­gerial authority, as long as the decision complies with management’s fiduciary duties and as long as act­ing on the decision is in the power of the corporation.  To benefit from the rule, directors and officers must act in good faith, in what they consider to be the best interests of the corporation, and with the care that an ordi­narily prudent person in a like position would exercise in similar circumstances.  This requires a rational, informed decision having no conflict between the decision-maker’s personal interest and the interest of the corporation.

Are directors entitled to be indemnified for any legal costs they incur in defending suits against the corpo­ration?  Because directors are often named as defendants in suits filed against their re­spective corporations, most states permit corporations to indemnify directors for any reasonable legal costs, fees and judgments in­volved in defending corporation-related suits.  Many states expressly allow a corporation to purchase liability insurance for its directors and officers to indemnify them for any costs or damages.  When statutes are silent on this matter, the power to purchase such insurance is usually considered to be part of the corporation’s im­plied power.

What are some of the more important powers that may be exercised by shareholders? Shareholders must approve fundamental changes affecting the corporation before the changes can be ef­fected.  Hence, sharehold­ers are empowered to amend the articles of incorporation (charter) and bylaws, ap­prove the merger or disso­lution of the corporation, and approve the sale of all or substantially all of the cor­poration’s as­sets.  The share­holders also elect and remove the board of directors.  Some states require that the removal of directors be for cause but other states will allow a director to be removed without cause.

Describe how cumulative voting works.  Most states permit or require shareholders to elect direc­tors by cumulative voting – a method of voting designed to allow minority shareholders representation on the board of directors.  The number of members of the board to be elected is multiplied by the total number of voting shares held.  The result equals the number of votes a shareholder may cast.  This total can be cast for one or more nominees for director.

What are the limits on the shareholder’s right to inspect corporate records and books?  A shareholder is limited to inspecting and copying corporate records and books for a proper purpose if the re­quest is made in advance.  The shareholder can properly be denied access to corporate records to prevent harassment or to pro­tect trade secrets or other confidential information.  Furthermore, the right of inspec­tion may be condi­tioned on the shareholder possessing his or her shares for a minimum period of time prior to his making the de­mand to inspect the records.

What are some of the ways in which a corporation or its shareholders can restrict the trans­fer­ability of shares?  A corporation or its shareholders can restrict transferability by reserving the option to purchase any shares offered for resale by a shareholder.  This right of first refusal remains with the corpora­tion or the shareholders for only a specified or reasonable time.  Alternatively, a shareholder could be re­quired to of­fer the shares to other shareholders or to the corporation first.

Can a shareholder institute an action to dissolve a corporation and liq­ui­date its as­sets?  Yes. In some states, a shareholder has the right to petition a court to appoint a receiver and to liquidate the business assets of the corporation in certain specified situa­tions.  A shareholder may institute a dissolution action if (1) the directors are deadlocked in the management of cor­porate affairs, shareholders are unable to break that deadlock, and irreparable injury to the corporation is be­ing suffered or threatened; (2) the acts of the directors or those in control of the corpora­tion are illegal, op­pres­sive, or fraudulent; (3) corporate assets are being misapplied or wasted; or (4) the shareholders are dead­locked in voting power and have failed to elect successors to directors whose terms have expired or would have ex­pired with the election of successors.

How do the duty of care and the duty of loyalty gov­ern the conduct of directors and officers in a corpora­tion? 

Duty of Care.  In exercising their duty of care, directors are obligated to be hon­est and to use prudent business judgment in the conduct of corporate affairs.  Directors must exercise the same degree of care that reasonably prudent people use in the conduct of their own personal busi­ness affairs.  As such, di­rec­tors can be held liable to the corporation and its shareholders for breaching their duty of care.  When di­rectors delegate work to corporate officers and employees, the directors are required to make reason­able ef­forts to su­pervise them or else the directors will normally be held liable for negligence or mismanage­ment of corporate person­nel.  Furthermore, if a director fails to attend board meetings and takes no actions to pre­vent illegal ac­tions undertaken by the board, then that director could be held liable for any losses suffered by the company even though that director was not actively involved in the illegal actions.  Although the stan­dard of care has been variously described in many court decisions, it essentially requires that directors carry out their respon­sibili­ties in an informed, businesslike manner.  Directors and officers are expected to act in accordance with their own knowledge and training but they are also usually permitted to make deci­sions based on information pro­vided by competent officers or employees without being accused of acting in bad faith or failing to exercise due care if such information turns out to be faulty.  As the directors oversee the operation of the corporation, they are expected to attend board of directors’ meetings—as noted above—and their votes should be entered into the minutes of corporate meetings.  Unless a dissent is en­tered, the director is pre­sumed to have assented to a particular decision.  Directors who dissent are rarely held individually liable for misman­agement of the cor­poration.  When a director does vote on matters at board meetings, however, he or she is ex­pected to be in­formed on corporate matters and to understand legal and other professional advice rendered to the board.  A director who is unable to carry out such responsibili­ties must resign.  Even when the required duty of care has not been exercised, directors and officers are li­able only for the damages caused to the corpora­tion by their negligence.

Duty of Loyalty.  The duty of loyalty of a director to a corporation is grounded in the idea that direc­tors should be faithful to their obligations and duties.  In essence, the duty of loyalty is a fidu­ciary duty requir­ing the subordination of self-interest to the interest of the entity to which the duty is owed.  It presumes con­stant loyalty to the corpora­tion on the part of the directors and officers.  The duty of loyalty pro­hibits directors from using corporate funds or confidential corporate information for their per­sonal advantage.  It requires of­ficers and directors to dis­close fully any corporate opportunity or any possible conflict of interest that might oc­cur in a transaction in­volving the di­rectors of the corporation.  Most cases in­volving breaches of the duty of loyalty typically occur when a direc­tor or officer:

  • competes with the corpora­tion;
  • usurps a corporate op­portunity;
  • has an in­terest that conflicts with the interest of the corporation;
  • engages in insider trading;
  • authorizes a corpo­rate trans­action that is detrimental to minority share­holders; or
  • sells control over the corporation.

What are the rights of the shareholders of a corporation?  Shareholders own the corpo­ra­tion. Although they have no legal title to corporate property vested in the corporation, they do have an equi­table interest in the firm.  The rights of shareholders are established in the articles of incorporation and un­der the state’s general incorporation laws.

Stock Certificates.  In jurisdictions that require the issuance of stock cer­tificates, share­holders have the right to demand that the corporation issue a certificate and record their names and ad­dresses in the corporate stock record books.  Notice of shareholding meetings, dividends and op­erational and financial reports are all distributed according to the recorded ownership listed in the cor­po­ra­tion’s books, not on the basis of possession of the certificate.

Preemptive Rights.  A preemptive right is a pref­erence given to a shareholder over all other purchasers to subscribe to or purchase a prorated share of a new issue of stock; this right allows the shareholder to maintain his or her portion of control, voting power, or fi­nancial inter­est in the corporation.  In general, the articles of incorporation determine the existence and scope of preemptive rights.  Preemptive rights apply only to additional, newly issued stock sold for cash and must be exercised within a specified time period.  Such rights are far more significant in a close corporation because of the rela­tively few number of shares and the substantial interest each shareholder controls.

Stock Warrant Rights.  When pre­emptive rights exist and a corporation is issuing additional shares, each share­holder is usually given stock warrants, which are transferable options to acquire a given number of shares from the corporation at a stated price.  When the warrant option is for a short period of time, the stock war­rants are usually referred to as rights.

Dividend Rights.  A dividend is a distribution of corporate profits or in­come ordered by the directors and paid to the shareholders in proportion to their respective shares in the cor­poration.  Dividends can be paid in cash, property, or corporate stock.  Once declared, a cash dividend becomes a corporate debt enforceable at law like any other debt.  In general, corporations can only use cer­tain funds, such as retained earnings, net prof­its, or surplus, for paying dividends.

Voting Rights.  Shareholders exer­cise ownership control through the power of their votes.  Each shareholder is entitled to one vote per share.  The articles of incorporation, however, can ex­clude or otherwise limit voting rights, par­ticularly to certain classes of stock.

Inspection Rights.  Shareholders in a corporation enjoy both common law and statutory in­spection rights.  The share­holder’s right of inspection, however, is limited to the inspec­tion and copying of corporate books and records for a proper purpose, provided the request is made in ad­vance.  A shareholder can properly be denied access to corporate records to prevent harassment or to pro­tect trade secrets or other confidential corporate informa­tion.  Some states require that a shareholder must have held his or her shares for a minimum period of time immediately preceding the demand to inspect or must hold a minimum num­ber of outstanding shares.

Stock Transfer Rights.  Although stock certifi­cates are negotiable and freely trans­ferable by endorsement and deliv­ery, the transfer of stock in closely held corpora­tions is generally restricted by contract, the bylaws, or a re­striction stamped on the stock certificate.  The existence of any restrictions on transferability must always be noted on the face of the stock certificate and these restrictions must be reason­able. When shares are trans­ferred, a new entry is made in the corporate book to indicate the new owner.  Until the corporation is notified and the entry is complete, voting rights, notice of shareholders meet­ings, dividends, etc., are all given to the current record owner.

Rights on Dissolution.  When a corporation is dissolved and its outstanding debts and the claims of its creditors have been satisfied, the remaining assets are distributed on a pro rata basis among the share­holders.  Certain classes of preferred stock can be given priority to the extent of the contrac­tual preference.

Shareholder’s Derivative Suit.  When the corporate direc­tors fail to sue in the corporate name to redress a wrong suffered by the corpora­tion, shareholders may file a derivative suit on behalf of the corporation.  The injury must have been suffered by the corporation and any re­covery will generally be paid into the corporate treasury.  Many states require that shareholders hold a minimum num­ber of shares or have been share­hold­ers for a minimum period of time to file a derivative suit.

Author: William Glover

I received my B.B.A. from the University of Mississippi in 1973 and his J.D. from the University of Mississippi School of Law in 1976. I joined the firm of Wells Marble & Hurst in May 1976 as an Associate and became a Partner in 1979. While at Wells, I supervised all major real estate commercial loan transactions as well as major employment law cases. My practice also involved estate administration and general commercial law. I joined the faculty of Belhaven University, in Jackson, MS, in 1996 as Assistant Professor of Business Administration and College Attorney. While at Belhaven I taught Business Law and Business Ethics in the BBA and MBA programs; Judicial Process and Constitutional Law History for Political Science Department; and Sports Law for the Department of Sports Administration. I still teach at Belhaven as an Adjunct both in the classroom and online. In 2004 I left Belhaven for a short stay at Wells Marble & Hurst, PLLC, and then joined the staff of US Legal Forms, Inc., 2006 where I draft forms, legal digests, and legal summaries. My most recent publications and presentations include: • Author: Sports Law Handbook for Coaches and Administrators, Sentia Publishing, 2017. • Co-Author: In the Arena published by the New York State Bar Association in 2013; • Co-Author: Criminal Justice Communications - Corinthian Colleges, Inc. in 2014. • Co-Author: Business Law for People in Business, Sentia Publishing, 2017.