Corporations

Nature and Characteristics

Introductory Notes
• Review of key questions regarding
business organizations
– Who owns the equity in the business?
– Who is entitled to make management
decisions?
– Who is liable for the activities of the business?
Corporations: Historical Development

• Originally created by special charter

• Primarily aimed at large public works
– Often things that government could not or did
not want to do
• The problem of capital and limited liability
– In order to muster large amounts of capital
from diverse sources the contributors are
necessarily distant from the venture
– Who would willingly assume personal liability
in a scenario such as that?
Corporations: Natural Person Analogy

• In a modern sense, corporations are rightly

described as having the powers of a
natural person at least in terms of their
ability to contract
• Consider the rationale of this description
as it relates to limited liability
– A natural person has limited liability, in that
liability only extends to the limits of his or her
individual property
• Founded in a need for certainty of dealings
Limitations of Natural Person Analogy

• Applies effectively only to powers of contract and

ownership
• Does not apply to all legal rights and recognitions
• The Charter in particular illustrates the odd
standing of corporations
– Covered by s. 2 and “everyone” (freedom of
expression, most critically)
– Not covered by s. 15 and “every individual”
– Cannot litigate most Charter issues
Acting Through Agents
• Corporations can attract all the same rights,
liabilities, and obligations as an individual,
however, they must act through agents
– A corporation, after all, is an abstract thing. How do
we know when it is acting?
• The Indoor Management Rule tells us that a
corporation is bound in contract when its
employees and agents act in a way that seems
regular, even if it is not
– See also Vicarious Liability, which we’ll cover in torts
Are Corporations Like Natural Persons?

• In most legal senses, yes

• Do corporations actually conduct business like
natural persons?
– Exclusive profit motive
– Relationship to risk
– Decision-making cannot truly be defused within the
whole
– The problem of short-term management incentives
Incorporation Process
• To incorporate, one needs
– A name search on the proposed name of the
corporation
– The appropriate fee
– Articles of incorporation
• The articles of incorporation set out the
fundamentals of the corporation
– Share classes and initial issuance
– Board composition and first directors
Shareholder Agreements
• When a corporation is formed, shareholders may
agree to special arrangements for how it shall be
structured
– This agreement can also come later, but must be
unanimous, so it is best done at formation
– This is similar to a partnership agreement, in that it
overturns assumptions about how things work
• How the board is elected
• Special voting restrictions
• Transfer of shares
Initial Business
• Once a corporation is created, additional
details regarding governance and
organization should be settled
– How is notice given for meetings of
shareholders and directors?
– What is the quorum for meetings?
– Who can sign contracts for the corporation?
– What officers exist and what are their powers?
Corporations: Salomon Case
• Salomon v. A. Salomon & Co. Ltd (H.L., 1897)
• Salomon sells his successful shoe and leather
business to a corporation he has formed
• Salomon holds 20,000 shares, and issues one
each to six family members
– Seven shareholders required for incorporation
• Business sold for 20,000 pounds in shares and
10,000 pounds in debentures
Corporations: Salomon Case
• As business fails, Salomon sells the debentures
and reinvests the proceeds in the business
• Debenture holder put the corporation into
bankruptcy
• Trustee for the corporation claims it was a front
and attempts to hold Salomon personally
responsible for the outstanding debts
• Lower courts agree, House of Lords reverses
Corporations: Salomon Case
• Corporation is a true legal entity
• Not formed or conducted with fraud or
intent to deceive
• Applicable statute complied with
• No cause of action
• Discussion
– Salomon would have been wiped out too
– Acting as director he was responsible in that
role
Corporations: Limited Liability
• Defining characteristic
• Must be signaled in name (ex. “Ltd,” “Inc.”)
• Subject only to a few exceptions
– Illegal disbursement of assets to owners
through unlawful dividends or share buyback
– Other attempts to avoid liability not through
lawful organization, but rather through fraud or
similar means
Corporations: Lifting the Corporate Veil

• Courts are typically very reluctant to “lift

the veil” to the extent of pulling
shareholders into the dialogue
• What it would take
– Shareholder must control the corporation
– That control must be exercised to commit
fraud, a tort, or breach of duty
– The misconduct must cause the injury
complained of
Corporations: Big Bend Hotel
• Big Bend Hotel Ltd v. Security Mutual Casualty
Co (S.C., 1979)
– A hotel operator was suspected of being involved with
insurance fraud relating to fire insurance
– Incorporated a company to acquire a new hotel, which
subsequently burned down
– The corporation’s claim was denied, as the court ruled
the corporation was formed only to disguise the
operator behind it
Share Structure
• Corporations can and do structure their shares in
a variety of ways, and can have multiple share
types with different rights
• Every corporation must have some shares that
carry the following rights
– Elect directors to the board
– Receive dividends when declared by the board
– Receive any remaining property on wind up
• In practice, it is very common for corporations to
have only one class of shares, with all of these
rights, typically called common shares
Next Week
• Corporations: Corporate Governance
• No new reading