WILLIAM MITCHELL COLLEGE OF LAW

Final Examination with Answers, Fall 1994

By placing my examination test number in this space ________, I hereby certify that my response to this examination is my own work, prepared in strict conformity with these instructions and the Registrar's cover sheet. In addition, I hereby certify that I have no knowledge of any other classmate's violation of this rule.

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ADDITIONAL INSTRUCTIONS FOR TAKE-HOME EXAMINATIONS

1. GRADUATING SENIORS: Do not indicate graduating senior status on examination or response.

2. EXAMINATION DISTRIBUTION AND RETURN: This examination will be distributed on Monday, December 5 following the 7:45p.m. review session. Thereafter, the examination will be available in Student Services. Return your response to Student services by (or before) 6:30p.m., Monday December 19. Check with Student Services regarding its hours. I will pick up your responses on December 19 at 6:30p.m. I will not grade late responses.

3. CONSULTATION WITH OTHERS: Before you begin writing your response, you may discuss the exam questions with other students enrolled in this Business Organizations class (Fall 1994, §4), but no one else. (I encourage you to work with others.) Once you start writing your response, you may not discuss the questions or your responses with anyone.

4. REFERENCE WORKS: You may use your text, statutory supplement, Problems and Materials, class handouts, notes and outlines prepared by students in this Business Organizations class (Fall 1994, §4). You may not use other commercially-prepared sources with the sole exception of Solomon & Palmiter, Corporations (on reserve). DO NOT PERFORM OUTSIDE RESEARCH-I WILL NOT GIVE CREDIT FOR ISSUES, RULES, ETC. FROM OTHER SOURCES.

5. FORMAT OF RESPONSE: This examination must be typewritten and is subject to a 15-page length limitation. Answers must be double-spaced on 8 1/2x11 inch paper in a type font that averages no more than 12 characters per inch. (Note: This is the same type font imposed in Legal Writing.) Use top/bottom and left/right margins of at least one inch. Type only on one side of each sheet of paper.

6. REPORTING OF ERRORS: If you believe that you have found an error in the examination, leave a message to that effect on my voicemail (290-6429). I will promptly post any necessary corrections on the bulletin board at the Portland Avenue entrance, and will leave a message to that effect on my voicemail.

QUESTION I. (45%)

Abby Always, Brad Better, and Clarissa Cheaper graduated from law school in the spring of 1990. In the fall of 1990, they began practicing law. Although they initially practiced law separately, they all officed in a house owned by Abby. Brad and Clarissa paid Abby rent. The house was not used for purposes other than the three law practices. Over time, Abby, Brad and Clarissa became friends and began consulting with each other on legal issues. On January 1, 1992, they decided to join forces and formed the ABC Law Firm (hereinafter "ABC"). They orally agreed to the following terms:

1. Brad and Clarissa each would contribute $10,000.00, out of which ABC would buy insurance, books, furniture, office supplies, etc.

2. Abby would contribute the use of her building

3. Each month, after expenses were paid, each would receive an hourly wage up to $100.00. They would determine the hourly wage each month, depending on the monthly receipts.

4. At the end of each calendar year, any excess funds would be distributed as a bonus to the three, determined according to the relative hours each person worked.

They practiced law under these terms from January 1, 1992, until December 31, 1992. They each received an average of $15.00 per hour. During the course of the year, Abby reported 2,000 hours of work, receiving total wages for the year of approximately $30,000. Brad and Clarissa each reported 1,500 hours, receiving total wages for the year of approximately $22,500. Brad and Clarissa suspected that over the course of the past year, Abby had "padded" her hours by counting time spent in the office but devoted to private matters, counting her lunch hours, etc.

On January 1, 1993, Abby, Brad, and Clarissa met to determine their 1992 bonuses. The firm had excess funds of $3,000.00 to be divided among the three. Brad and Clarissa said that each of the three should receive $1,000.00. They told Abby that because of the padding of her hours, she already had received more than her share as wages. Abby said that she had worked more hours than either of them and had not padded her hours. According to Abby's calculations, she should receive a $1,200.00 bonus, and Brad and Clarissa each should receive a $900.00 bonus. Because the firm's checkbook required two signatures, any expenditures required the approval of two of the three individuals. Abby wrote out one bonus check to herself for $1,200.00, and bonus checks to Brad and Clarissa for $900.00. Neither Brad nor Clarissa attempted to cash these bonus checks. Abby attempted to cash her bonus check but was unsuccessful because it had only her signature. Brad and Clarissa then wrote out and distributed three bonus checks for $1,000.00 each. Both Brad and Clarissa cashed their $1,000.00 checks. Abby, giving up on receiving a higher bonus, also cashed her $1,000.00 bonus check.

The day after the annual meeting, Brad and Clarissa met to discuss their situation. They decided that starting April 1, 1993, they would split off from Abby and go into practice together as the Better & Cheaper Law Firm. They located new offices and entered into a lease agreement that would run from April 1, 1993 through March 31, 1994. They ordered new letterhead stationery. In order to avoid "client-stealing" claims from Abby, they decided to focus their client development efforts for the Better & Cheaper Law Firm on new clients. When calls came in from prospective clients, whenever circumstances permitted, they delayed entering into a representation agreement, with the intention on pursuing the representation only after April 1, 1993.

On April 1, 1993, without Abby's knowledge, Brad and Clarissa cleaned out their own offices, and took their own office furniture. They also took 2/3 of ABC's office supplies and 2/3 of ABC's library. Finally, they took the files of 2/3 of ABC`s clients. (They were careful to take these alphabetically, not according to the fees potential of the particular clients.) They then sent announcements on the Better & Cheaper stationery to their 2/3 of ABC's former clients. They also sent announcements to the new clients they had learned of after January 2, but with whom they had not yet signed representation agreements. These statements thanked the former clients for any previous dealings they had had with ABC. The statements also informed both the former and new clients that the clients were free to select any attorney for their future legal needs, including Better & Cheaper or Abby.

Does Abby have any viable legal claims? What is the probable result? Discuss only Business Organizations issues. Do not discuss issues from other areas of law (e.g., torts, contracts, professional responsibilities) unless these areas were discussed in class as relevant to particular Business Organizations issues.

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QUESTION II. (55%)

In July, 1994, Bill Dock and Hilary Dilary-Dock, who were married to each other, decided to open a greenhouse in Granite Falls, Delaware. They invited their best friend, Newt, to join them. They also invited Ross, who had a great deal of business experience and who enjoyed a good reputation in the business community, to join their enterprise. Bill, Hilary, Ross and Newt decided to incorporate and correctly filed their certificate of incorporation with the Secretary of State in a state which had adopted the Revised Model Business Corporation Act. Because their greenhouse overlooked the town's scenic waterfalls, they named their company Whitewater Greenhouse, Inc. (hereinafter "Whitewater"). All four became directors and 25% shareholders. Ross became the President and took over the office management. Hilary, who had not run the technical aspect of greenhouse facilities in the past, but was very intelligent and a "quick study," was named the Vice President of Physical Plant. Bill was named Vice President of Sales and Newt was named Vice President of Customer Relations. The job responsibilities of the four individuals were approximately equal. Although they received no salary, they received equal stock dividends at the end of each month.

Over lunch on October 15, 1994, all four discussed the need for a new venting system, to handle their problem with excess hot air. Hilary was asked to research the specifications and prices of various venting systems. Affter reading extensively in the literature on greenhouses and talking to other greenhouse technicians, she determined that the system produced by FreshAir Co. (hereinafter "FreshAir" ) would be preferable, despite the fact that it was a little more complicated and expensive than some of the other systems. She did not know that Bill owned 1% of FreshAir's stock.

On November 1, 1994, Hilary recommended to Bill and Ross that Whitewater purchase the FreshAir system. Newt was out of town, visiting his ex-wife in the hospital regarding some legal matters. Hilary stated that, assuming Whitewater could afford the cost of the FreshAir system, the system's effectiveness would justify its expense. Ross assured them, "Things are a little tight, but we can handle it." Hilary, Bill and Ross discussed the fact that Newt probably would be opposed to the purchase of the system. He had been complaining about the everincreasing size of their company's operations and had been arguing for substantial spending cuts. If he were to get involved, he would try to delay the decision indefinitely by dragging out the discussion. The three of them decided to go ahead and buy the FreshAir venting system. Bill did not think to inform Hilary and Ross of his FreshAir stock.

Accordingly, on November 2, 1994, Hilary entered into a contract on behalf of Whitewater for the purchase and installation of the new venting system. She signed the purchase agreement:

Whitewater Greenhouse, Inc.

by _________________________,

Hilary Dilary-Dock

Vice President of Physical Plant

FreshAir installed the new system on November 8, 1994, without receiving payment in advance. FreshAir decided that, because of Ross' business reputation, Whitewater was a good credit risk.

Newt was incensed when he arrived at work the next day and discovered what had happened in his absence.

The next month, Whitewater received FreshAir's invoice. Ross was unable to pay off the invoice on Whitewater's behalf because of a shortage of funds. Hilary, Bill and Newt examined Whitewater's books for the first time. They found that Whitewater had been in questionable financial shape almost from its inception. They discovered numerous financial irregularities. When Whitewater accounts had been low, Ross had paid Whitewater expenses with checks from his personal account. He later repaid himself from Whitewater's account. Upon occasion, he also had used Whitewater funds for personal expenses, later repaying Whitewater from his personal account. Ross had not informed the other three of these informal loans to and from Whitewater. Whenever he had to write checks to Bill, Hilary, or Ross, he had written the checks only from Whitewater's account. Because Ross had determined that Whitewater was not going to be a successful enterprise, he had decided not to cover the debt to FreshAir with his personal funds. Discuss any Business Organizations issues raised. Do not discuss issues from other areas of law (e.g., torts, contracts, professional responsibility) unless these areas were discussed in class as relevant to particular Business Organizations issues.

GOOD ANSWER

A may be able to bring up claims for (1) accounting, (2) wrongful dissolution, (3) winding up, and (4) damages for breach of agreement of partnership, (5) interference with the contract. A will likely be successful in all the claims.

Is the ABC law firm partnership ("ptsh") ? Ptsh law is governed by the Uniform Partnership Act ("UPA") except in Louisiana. We will assume UPA. (Since all the statute section (§) in problem 1 is under UPA, UPA won't be marked separately!) Since ptsh can be formed regardless of their intentions, oral agreement itself may not be sufficient to prove ptsh. A partnership is an (1) association of (2) two or more persons to (3) carry on as (4) co-owners a (5) business ("biz") for (6) profit. §6(1).

(1) "Association" connotes a voluntary affiliation, it also includes right to exclude others §18 (g) . Under the facts, it was a voluntary association (which excludes others) with (2) two or more persons since A, B & C formed the ABC Law Firm("ABC"). (3) The parties clearly "carried on". Because "carrying on" implies ongoing relationship rather than a single project for single transaction. While opening up a law firm may be "one" transaction, it clearly implicates the type of ongoing relationship characteristic of a ptsh since it implicates developing clients and serving them continually. (4)The parties also acted as "co-owners." Co-ownership embodies more than one thing. Joint holding of property is evidence but not sufficient. Since the office was only owned by A, there was no joint ownership. Sharing a gross receipt may also be evidence but doesn't itself establish ptsh. §7(3) Presumably, the parties shared gross return since under agreement 3 they had the right to pay for the expenses and earned net profits. However, their right to share the net profits (para 3,4) is the prima facie evidence of ptsh. §7 (4) Co-ownership can also be shown by shared investments.

B and C both contributed $10,000 for office furniture and A contributed office space. This is persuasive evidence of co-ownership. All partners had equal right to management since there is no contrary management agreements. §18 (e). Overall, these factors clearly show that the "co- ownership" existed under §6. (5) In addition, running a law firm is a "business" since law firm is a trade. UPA §2. (6) Finally, the undertaking was done for a profit as the agreement 3,4 clearly states mutual benefits for all partners. In summary, all the elements of partnership satisfied; thus, partnership exists.

There is some evidence against ptsh since all of them received hourly wages, however, none of them were employees because they all contributed investments in the organization. §7 (4)(b) Court ("Ct") held that there is still a ptsh even though the profits were paid in terms of salary if there is investments and understanding that partners would share profits equally. B and C contributed $10,000 investment, and A contributed the office space. Moreover, there is evidence of equal right to share profits under para 3&4. Thus, partnership is there. Although §18(f) prohibits remuneration (hourly wage) for service for a partner, the partners can clearly agree in advance for services as the UPA allows such agreements. §18 (a).

In summary, the parties by their agreement intended to effect ptsh.

Was the decision to change bonus plan by B & C w/o consent of A proper?

Is changing bonus plan ordinary matter? All partners have equal rights as to management and conduct of the ptsh biz unless otherwise agreed. §18 (e). Any difference in ordinary matters connected with the ptsh biz may be decided by the majority; however, any act in contravention of an agreement must be decided by unanimous decision. §18(h).

Although B&C may argue that B&C's decision is valid because (1) dividing bonus is an ordinary matter (thus majority decision is valid); and (2) partners have equal shares of profit under §18 (a) (thus, taking $1000 each is proper); and (3) because A acquiesced by cashing check for $1000 (In Summer v. Doley, ct held that a decision that require unanimous decision is valid if there is acquiesced to the decision.); and (4) because A had padded her hours, she should only be paid for the hours that she worked.

A can successfully argue that (1) setting a ptsh's bonus plan is not an ordinary matter since day to day law practice doesn't involve changing bonus plan of its partners. Even if it is ordinary matter, since changing bonus is contrary to para 3 of agreement, unanimous decision was required which B&C failed to obtain. §18(h). (2) Since there were agreements to share profits by the hours worked, B&C can't later claim equal share of bonus under §18(a) since it only applies if there is no agreement. (3) Although A cashed a check for $1000, under Summer v. Doley, A's protest would have been enough to overcome acquiescence. (4) Although B&C suspected that A padded her hours, there is no definite proof that A, in fact, did pad her hours. Although A had fiduciary duty to be completely honest about conduct of ptsh (her work hours) §21 (1), B&C can't reduce A's hours with mere suspicion. (B&C should have demanded to render accurate info on hours worked (§20) and request for accounting of work hours. §22.(a)). So, B&C may not prevail on this issue.

In summary, B&C's majority decision to change bonus is invalid; therefore, B&C owes A $100 each for the bonus that A deserved under the agreement. Thus, A will be successful in bringing accounting claim.

Did B&C owe fiduciary duty to inform A of their departing plan, contracting to lease an office, and efforts to delay representation, and taking the clients list and sending letters to the clients?

Because the duty bestowed upon a partner is fiduciary duty, the standard of behavior is not honesty alone, but the "punctilio of an honor the most sensitive!" B&C may claim that (1) since A didn't request information from B&C there is no requirement to disclosure plan for separation and plan to lease an office. §20. (2) Moreover, delaying to represent a client is ordinary matter and B&C's majority decision is proper under §18(h) . (3) division of clients were proper since it was fairly divided.

However, A may argue that every partner must account to the ptsh for any benefit, and hold as trustee for it any profits derived by him without consent of the other partners from any transaction connected with the formation, conduct, or liquidation of the ptsh. §21. (1) Since planning and leasing a new building will necessarily involve conduct of the ptsh biz since A has to get new renters, if B&C moves out. However, modern trend is that courts will likely hold that it is not a fiduciary duty for making prewithdrawal arrangement plans including leasing a new office. In Meehan v. Shaughnessy. (2)Although in ordinary matters, majority decision is sufficient; however, B&C's decision to delay representation was not an ordinary matter since it was against agreement 3 and 4. §18(h). Thus, failure to get consent of A violated UPA §18 (h). Thus, A's claim for damages for breach of ptsh agreement will be successful. In addition, partners who solicited firm clients, before dissolving the firm (by withdrawing from it or [delaying it]) breaches the fiduciary duty although it's proper after dissolution. In re Silverberg.

For remedy, B&C has to pay back to A the profits the B&C firm earned on all cases taken from the partnership (through withdrawal), except on those cases for which B&C could prove that the clients had acted independently. In Meehan v. Shaughnessy. Thus, A would be successful in claiming the interference with contract by B&C's delaying of representation. See Rosenfeld, Meyer & Susman v. Cohen. (3) The division of clients are not proper since client list is a goodwill and A will retain it if A continues the business because of B&C's wrongful dissolution. §38(2)(c)(II). See further discussion down.

Is there a dissolution by B&C's, departing decision on Jan 2, 1993? The dissolution of a ptsh is the change in the relation of the partner caused by any partner ceasing to be associated in the carrying on as distinguished from the winding up of the biz. §29. Dissolution can be caused w/o violation of the agreement between the partners ("pts") by the express will of any partner ("pt") when no definite term is specified. § 31.

There is no dissolution on Jan 2(93), because ABC didn't specify grounds for dissolution and B&C didn't express their intention to dissolve to A.

There is clearly dissolution on April 1, 1993 since, by moving out, B&C clearly made their decision to disassociate with A. §31. However, there is question as to whether this dissociation is rightful or wrongful?

A may claim that (1) B&C's sudden termination is wrongful dissolution. Moreover, upon A's -application of court decree, ct may find that, (2) B&C willfully breached ptsh agreements: (a) contracting other building for office violated ptsh agreement para 2 (that ABC will use A's building); and (b) delaying to contract with new client amount to a willful breach of the ptsh agreement to share profits (para 3, 4). Thus, it was not reasonable for A to carry on the biz with B&C. §32 (1) (d). Moreover, it also a violation of partners' fiduciary duties when they delayed to represent clients and taking the client's list with them.

B&C may argue in rebuttal on item (1) that ABC was ptsh at will after the initial trial period (1992). Thus, B&C can terminate ptsh at anytime. §31 (2). (2) In addition, B&C may claim that the lease and delay was not against the agreement since the agreement terminated after 1992. However, ABC continued to practice law after 1992, UPA will presume the same rights, and duties under the earlier agreement. §23(1) (3) B&C may further argue that it was A that caused the willful breach of the ptsh agreement (para 3) with padding work hours. However, there is not enough evidence on the facts to prove padding of the hours, B&C may not be successful in convincing the court. Thus, A's claim of wrongful dissolution would likely be successful.

There is question as to whether B&C's winding up (distribution) of the ABC's ptsh property was proper?

If the court would likely finds that B&C caused wrongfully dissolution, A would have the right to wind up the ptsh rather B&C. §38. (37?) Unless there is agreement to contrary, a partner can force a sale of the ptsh assets upon dissolution and wind-up of the ptsh. However, some minority jurisdiction, in kind distribution is permissible only in very limited circumstances where: (1) there were no creditors to be paid, (2) no one other than the partners would be interested in the assets, and (3) an in-kind distribution was fair.

Under the majority jurisdiction, ABC's property would be liquidated in cash since there was no agreement for in-kind distribution and all the partners didn't agree for in-kind distribution before the dissolution. Thus, B&C's distribution of furniture, library books, office furniture, client lists were invalid.

Under the minority jurisdiction, B&C may assert that in-kind distribution was proper because (1) there was no creditors for ABC company and (2) other people wouldn't want to buy the used furniture, used library books, leftover office supplies, and client lists but them; and (3) property division is fair since all properties were fairly distributed equally.

However, A may successfully assert that (1) although ABC had no outside creditors, B&C owed A for the bonus and B&C owed damages for the breach of ptsh agreement (§38 (2) (a) (II)), interference with contract. Moreover, (2) used office equipment/supplies are valued among thrift lawyers; thus, there are buyers other than partners. (3) The division of property seemed to be fair. Since A would likely be successful in arguments of (1) and (2), in-kind distribution won't be allowed. Thus, B&C has to bring back all the things that they took from the ABC firm including the client list due to wrongful winding up.

In addition, B&C may argue that the ABC firm should be sold and the goodwill (client list) of the company should also be taken into account as value. However, A will successfully argue that since it would be advantageous to keep the old clients, A would likely continue the biz under the same name; thus, the good will of the biz can't be considered. §38 (2) (c) (II).

It's arguable whether B&C violated their duty of loyalty to A by sending letters to ABC's former clients. Majority of ct held that the departing partner must have previous contact with former client. Since B&C just took 2/3 of ABC file, B&C may not have had previous contact, then they would violate duty of loyalty. If they had previous contact with previous clients (since it's a small law firm) that they sent letters to, it may have been proper.

In summary, B&C must pay back damages for the breach of ptsh agreement and the money they owe to A for bonus. In addition, the property must be liquidated for cash and the goodwill of the company won't be considered for the value of the company. Thus, B&C must bring back all the property they took from ABC firm including client list.

Problem 2: The RMBCA applies because the laws of the state of incorporation ("incorp") control, and the facts state that Whitewater was incorporated in a state that had adopted essentially identical laws. (All the statutes indicated in this problem are from RMRCA; thus, it will not be marked separately.) There are two major grounds upon which to challenge buying the Freshair("F") venting system. The first challenge would be the authority to contract with F. The second challenge would be whether, even if there was authority to contract, whether it breached H, R, B's duty of care to the corp. In addition, F may bring "alter ego" doctrine to break the corporate veil.

A. Authority to contract with F:

1.Hilary ("H")'s authority as a vice president ("VP") of physical plant.

Did H, in her capacity as VP of physical plant, have the authority to contract with F? The modern rule is that a VP (officer) has apparent authority to take actions in the ordinary course of business ("biz") , but not extraordinary actions. A court ("ct") would look at the economic magnitude, extent of risk, timespan of effect and cost of reversing action, in determining whether the contracting was ordinary or extraordinary. The decision to contract with Freshwater may be in the ordinary course of biz. Maintenance of facility by a ventilation system may seem ordinary: the economic magnitude, risk, time span and cost of reversing ordinarily would not be great. However, buying and installing totally new and expensive ventilating system is not the same as just maintaining the system. Since the initial capitalization cost is so great, this decision could have significant change in the cash flow of biz. Accordingly, H's authority as VP of physical plant to contract with F is not likely.

Did H, in her capacity as director, have the authority to contract with F? Individual board members, generally have no authority to act on their own, unless the board gives them greater actual authority. Since, H as a director would have less discretion than as an executive officer, H would not likely have authority to contract with F w/o authority from the board.

2. The Board's authority.

The board's right to manage probably includes the right to contract with vendors for maintenance. The question is whether the board actually did so. Was it an action w/o meeting? The board of directors ("BD") can act w/o meeting if all of the directors consented and put into record. However, since Newt ("N") didn't consent nor made it a record of consent, BD's action is invalid without meeting. R §8.21.

Was it a regular meeting? For the regular meeting, notice is not required unless specified in art of incorp or bylaws provide otherwise. R §8.22. Assuming the art of incorp and bylaws are silent about meetings and if the Nov. 1 meeting was regular meeting, since meeting notice isn't required, the fact that notice was not sent to N wouldn't invalidate the meeting. On the other hand, if it was a special meeting (facts indicate), then a notice is required at least two days before the meeting (§ 8.22 (b)) unless a director waives the notice under § 8.23(a). Although attendance and not objecting for the meeting waives any notice requirement for other directors, because there was no notice sent to Newt ("N") and N didn't give a written waiver, any decision from the meeting is invalid under special meeting.§8.23 (a,b).

Assuming that this is regular meeting for further discussion.

Was there a quorum? A quorum consists of a majority presence of the directors authorized unless the bylaws specify a greater number. R §8. 24 (a) . The bottom limit is 1/3 of the directors authorized. R §8.24 (b). Since 3 out of 4 directors were present, majority of directors were present; thus, there was a quorum. Subsequently, board action is proper since there is majority vote of those present (B, R and H all agreed for the contract). § 8.24 (c). Thus, the board decision may seem to be proper.

In addition, since this is close corporation ("corp") , where meetings and votes are more likely to be informal, board actions not in compliance with the rules still may be effective when there is acquiescence by the remaining directors. Ct may find that N's silence, although incensed, as sign of acquiescence. Thus, ct is likely to make the board's decision valid.

3. H's actual authority to contract.

Did H have actual authority to contract with F? Actual authority is (1) manifestation by the principal ("P") that tends to establish that P consents that Agent ("A") act on P's behalf (2) to A and (3) reasonable belief by A that A has been authorized to act as agent, and (4)A's consent to agency relationship and (5) understanding by P&A that P is in control of the outcome. If we assume that board made valid decision, H clearly had actual authority to contract. Board (as principal) (1) manifested to (2) H(agent) to contract with F and (3) reasonable person would believe and (4) H consented by contracting (5) and there was understanding that the Board was in control of the outcome (whether to contract). However, if board's decision was invalid because of invalid meeting or conflict of interest transaction ("C.I.T."), H didn't have actual authority since board didn't make valid manifestation.

4. H's apparent authority to contract.

Apparent authority is (1) P's manifestation that tends to establish that P consents that A act on P's behalf (2) perceived by third party ("T") and (3) T's reasonable belief that A is an agent and (4) T has to rely on A's authority. First, N may argue that there was no manifestation from the board since the board's decision was invalid because of C.I.T. However, F can successfully rebut by saying that it's not what P intended but what P manifested that governs. Since the board told H to contract with F, whether board should or should not have told the agent (H) doesn't make any difference. Second, N can argue that F didn't perceive since Board didn't send any letter to F. However, F can successfully rebut since F knew at the time of the signature that H signed as VP and in fact H was VP (positional power); thus, F perceived correctly. Third, F's perceiving was reasonable since H signed contract as VP( H's use of signature as VP was valid on its form because he signed and listed the title and company). Fourth, F did rely on H's authority as VP. Therefore, there is sufficient evidence to conclude that H had apparent authority to contract with F. Therefore, corp can't relieve liability through agency defense.

B. Breach of duty of care?

It can be argued that even if the decision to contract was authorized by the board, the decision breached board's duty of care. Under § 8.30, dirs. must discharge their duties in good faith, with the care of an ordinarily prudent person in a like position under similar circumstances, and in a manner they reasonably believe to be in the best interests of the corp. The official Comment ("cmt") to §8.30 states that this section does not necessarily codify the biz judgment rule ("BJR") nor does it delineate whether there are any differences between the standards. It is likely, however, that courts would rely on precedent which has established that there is a presumption that dirs met their duty of care where their actions were in good faith, rational and the decision-making process was not grossly negligent. N would have the burden of proving that the decision did not meet these standards.

1. Good Faith? In determining whether an action was taken in good faith, courts consider whether fraud, illegality, or self-interest were involved. Although there is no evidence of fraud or illegality, N could argue that B had a self-interest in the decision to contract with F (B had 1% of stock in F). Ct would likely find that B breached duty of loyalty. See discussion under the Duty of Loyalty.

2. Rational? N may want to argue that the decision to contract with F was not rational, given the financial situation of the Whitewater and the expensive cost. However, the fact that (1) cost would be offset by later savings and (2) lack of a rational biz purpose is very difficult to prove, N is not likely prevail on this issue.

3. Gross negligence in decision-making process? There is no evidence that the board was grossly negligent in its duty to choose the right product for the ventilating machine. However, there is some evidence that the board was grossly negligent in its duty to be informed. R failed to inform the financial trouble of Whitewater and personal loan that R made to himself time to time. Although dirs can rely on the information of the executive officers provides them; however, there is no basis to rely on R's information. What R told to the board was that "things are tight but we can handle it" and there is no financial data or balance sheet to tell how tight it was or how Whitewater would likely handle the difficult situation. Nevertheless, boards can argue that relying on the information of R is negligence rather than gross negligence. The fact that only four months lapsed since the inception of the company, and board's failure to look at the financial record of the company doesn't reach gross negligence since only R had financial responsibilities. Moreover, board didn't know about R's personal transaction. Since checks that the board received was under the company's name, there were no suspicion to inquire about R. Since N has the burden of proving the gross negligence, it will be difficult for N to prove gross negligence.

C. Breach of duty of loyalty?

1. Conflicting interest transaction? Under the §8.61, a transaction between the corp, and a director or an entity with which the director is associated does not breach the director's duty of loyalty unless it is a "conflicting interest transaction" ("C.I.T.") defined by §8.60. There was a conflicting transaction. First, there were transaction by the corp. The introductory cmt describes a "transaction" as "a negotiation or a consensual bilateral arrangement between the corp and another party". Since Whitewater made negotiation and had bilateral agreements, it is a transaction. Second, under §8.6, the decision was a "C.I.T.", because one of its directors had a conflict of interest ("C.I."). B was director of the corp and had beneficial financial interest under §8.60 (1) (i) because he owned 1% stock of F. Although it's arguable whether B's 1% of stock ownership would likely benefit from Whitewater's contract with F, since director has a fiduciary duty of utmost honesty to the corp, B should have disclosed the information. Contrary, although B (H's husband) was a "related person" to H under §8.60(3), since H didn't know about B's ownership of the stock, H did not have "C.I." §8.6 official cmt.

2. Any safe harbors applicable?

The next, question is whether any of the safe harbors under §8.61 apply to protect the C.I.T. from challenge. Under subchapter F of the R provides that a C.I.T. is valid if either (1) disclosed and approved by a majority (but not less than 2) of disinterested dirs, or (2) disclosed and approved by a majority of disinterested shhs, or (3) shown to be fair, whether or not disclosed. R § 8.61-8.63.

There was probably no approval by the dirs under § 8.61(b) (1) and 8.62. First, it is questionable whether there was a quorum. § 8.62 (c) requires the presence of a majority of all qualified directors, but no fewer than two. B is not "qualified" under §8.62(d) because he has "C.I.T.". H may not be "qualified," because her spousal relationship B constitute a "familial" relationship and can be "influenced." §8.62 (d) (2) Since R is the only one left to vote, and it falls below two and can't constitute a quorum. §8.62 (c). In addition, B did not make a "required disclosure" under §8.62 (a) , as defined by §8.60 (4). Thus, there is no disclosure and no approval from majority of disinterested directors.

For similar reasons, there probably was no approval by shhs under §8.63. Since B didn't disclose C.I.T. to shhs, shhs' action would not be valid. §8.63 (a) (1) . However, even if B made disclosure, there is no quorum since quorum requires majority of votes entitled to be cast by all qualified shhs. Since R and N were only two shhs qualified to vote but since N was absent, R alone wouldn't make majority shhs. Thus, there was no disclosure and no approval from majority of disinterested shhs.

It is also questionable whether the transaction was fair to the corp under § 8.61(3). First, B might argue it was fair because F was recommended by other technician and the savings could offset the initial investment. However, given lack of financial resources (as R told B that situation was "tight") spending huge money is not fair for the corp. Second, the process was not fair as B's behavior in not making full disclosure was less than fair. § 8.61. Also, because the burden of proof may shift to B to show the transaction was fair, ct would likely find it was not fair. official cmt §8.61.

In summary, ct would find that director B breached duty of loyalty and may void or rescind the contract. Thus, ct may also find that B breached director's duty of care for lack of "good faith."

D. Breach of fiduciary duty in close corporation.

Whitewater qualifies as a close corporation because of its small number of shhs, and linked ownership and control. It is unknown, but likely, that there is a limited market for its stock. In a close corp, the majority shhs owe a fiduciary duty to minority shhs. N may claim that B, H and R breached the fiduciary duty by failing to inform N about the meeting to decide F. They would respond that N would vote against F even w/o that knowledge. Since majority shhs, has utmost duty, failure to inform about major decision for the company would likely breach the fiduciary duty.

E. Disregarding corp formalities.

Could F's claim of "alter ego" doctrine be successful? Unless provided in the art of incorp, a shh is not personally liable for the debt of corp except by his own act. § 6.22. Ct may pierce a corp, and have the shh personally liable if (1) there is fraud or (2) "alter ego." For "alter ego" doctrine, ct may look at (1) various factors including but not limited: corp formalities, nonpayment of dividends, insolvency of corp, siphoning of funds, etc; and (2) when injustice requires piercing the corp. When the various factors are not observed courts often pierce saying that shhs have used the corp as their "alter ego" or "conduit" for their own personal affairs. However, cts are less likely to pierce the corporate veil for creditors whose dealings with the corp are voluntary, since they can anticipate risk and provide for it contractually or by obtaining personal guarantees.

Factors that are for the corp veil are (1) closely held corp, (2) they didn't observe corporate formalities (didn't send notice for meetings.) (3) R mixed personal assets with corp assets. (4) corp was undercapitalized, (5) injustice would result because F already paid for and installed venting system. Other factors against piercing: (1) F is voluntary creditor that could have sought a personal guarantee, which it apparently did not; (2) imposing personal liability to individual shhs may discourage socially useful, but risky biz (3) Whitewater didn't give any personal guarantee. The score is 5-4. It's very close, in my opinion, ct would probably pierce the corp and have R, B and H personally responsible but not N since N was not responsible for F's contract.