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«New York State Bar Examination Essay Questions QUESTION 1 Bob and Ann were married in 2000 in State X. In 2001, the couple moved to New York, and Bob ...»

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The only time where failure to declare a dividend may be the proper subject of a derivative action is when the failure to declare was also the result of some harm to the corporation. Where the shareholder is able to assert a claim on the corporation's behalf, he may pursue by way of a derivative suit. To bring a derivative suit under the BCL, the plaintiff-shareholder must meet the following requirements: (a) he must own the corporation's stock at the time the cause of action accrued; (b) he must own the stock by and through entry of judgment; (c) he must adequately represent the interests of the corporation; (d) he must post a bond for the corporation's reasonable litigation expenses, unless he owns 5% or more of the corporation's shares or his shares are worth more than $50,000 (the purpose of this requirement being to deter strike suits); and (e) he must make demand upon the board of directors to sue or establish why such demand would be futile. "Demand futility" may be established only where a majority of the board is interested, the directors did not inform themselves to the extent reasonable under the circumstances, or the transaction is so egregious on its face that it could not have been the result of sound business judgment. The BCL requires that the plaintiff plead, with particularity, his efforts to get the board to sue or his reasons for not doing so. Where a shareholder makes demand and the board declines to bring suit, the shareholder may only proceed with his claim if he can establish that a majority of the board is interested or that the procedure for ruling on the demand was inadequate. When considering the adequacy of such procedure, courts look at the independence of those making the investigation and the sufficiency of the investigation, both of which will usually be within appropriate bounds given the prevalent use of Special Litigation Committees to rule on demand requests.

Here, there is no indication that Baker and Jones' failure to declare dividends was the product of mismanagement or breach of duty. If anything, the failure to declare dividends has contributed to Omega's burgeoning success and Baker and Jones have decided to keep earnings within Omega's coffers to foster its continued expansion. Thus, Omega itself has not been harmed by the failure to declare. Accordingly, since the corporation itself could not bring suit on this ground, neither can Smith, as a shareholder.

Rather, Smith's action is a personal action and not subject to the demand requirement.

3. The issue is whether a suit to compel payment of a dividend will be successful despite a lack of evidence of the board's bad faith or mismanagement.

Under the BCL, failure to declare a dividend will only result in a proper derivative action, and probable success in that action, if the failure was the result of mismanagement by the board or breach of fiduciary duty. Directors owe the corporation and its shareholders a fiduciary duty of care, requiring them to discharge their duties in good faith and with that degree of diligence, care and skill that an ordinarily prudent person would exercise under similar circumstances. Directors also owe the corporation and its shareholders a duty of loyalty, requiring them to act in good faith and with the conscientiousness, honesty, fairness and morality that the law requires of fiduciaries.

Breach of either of these duties will form a proper basis for a derivative suit brought in the corporation's name to compel an accounting for violation of duty. The failure to declare a dividend, inasmuch as there is no right of the shareholders to receive one, will only be subject to a successful derivative action where the reason for the failure was breach of duty of care or loyalty. Absent evidence of egregious mismanagement, bad faith or dishonest purpose, courts will not enforce a shareholder's derivative claim to compel declaration of a dividend. Furthermore, the Business Judgment Rule immunizes directors from liability where there decisions, though not the most successful, were reasonably informed and rationally-based. The BCL does not impose upon directors the onus of being guarantors of corporate success. The directors are empowered with the authority to manage the business affairs of the corporation under the BCL, and absent evidence of self-dealing, bad faith, or extraordinarily uninformed decision-making, they are not subject to attack on their management decisions.

Here, there is no indication that either Baker or Jones, both directors of Omega, have acted in bad faith or breach their fiduciary duties of care or loyalty. Baker and Jones receive appropriate salaries for directors in their position according to industry standards, so their compensation as directors is not to be deemed excessive and a waste of corporate assets. It appears that Omega's success is attributable to the fact that Baker and Jones have decided, in their reasonable judgment, to keep any undistributed earnings within the corporate accounts. This has led to Omega's considerable expansion of business. This decision not to declare the dividend, then, is based on reasonablyinformed judgment that has a rational business purpose. Baker and Jones, intending to continue Omega's success, have decided to keep all earnings within the corporation as it expands. Although Baker and Jones could have phrased their authority more delicately, they are indeed entitled to manage the business affairs of Omega and any decision by them whether to declare a dividend or keep the earnings within the corporation is subject to their reasonable discretion.

Smith may argue that Baker and Jones, as the directors and managing shareholders of Omega, are acting in a manner that is oppressive to Smith, the minority shareholder, and thus this is a breach of duty giving rise to a successful claim to compel declaration of a dividend. This claim will fail, though, because the rights of minority shareholders are not consonant with the rights of the corporation. And, where there is no evidence of mismanagement or breach of fiduciary duty causing a failure to declare a dividend, a claim to compel such distributions will ultimately fail. Here, there is no evidence that Baker and Jones are motivated by any dishonest purpose or are trying to oppress Smith, the minority shareholder. Baker and Jones are acting as prudent managers of Omega and there is no indication that they are distributing dividends or exorbitant salaries to themselves while leaving Smith to fend off of Omega's scraps. Accordingly, Smith's claim to compel declaration of dividends will fail.


1. The issue is whether a shareholder of a closely held corporation has a right to inspect corporate books and records to determine a fair price of his shares.

The rule under New York Business Corporations Law (BCL) is that a shareholder in any corporation has various rights regarding a right to inspect corporate books and records. There exists a common law right of access or right to inspect. While it is not clear how broad or far-reaching this common law right is, it provides reasonable access for a shareholder. Shareholders also have the right to demand the minutes from corporation meetings, both shareholder meetings and board of director meetings. Upon request, a corporation may require the requesting to provide an affidavit that their interest is none other than to support the interest of the corporation and that they have not sold shareholder lists to anyone within the last 5 years. Upon receipt of such an affidavit, a corporation must provide the notes or transcript of the meetings. In a closed corporation which is not sold on a major publicly-traded stock exchange, there is no reasonable way to determine the value of a shareholder's stock without looking to the corporation's minutes or notes or discussion regarding the topic. Par value is the minimum price for which an issued stock is sold. Shareholders also a right to a copy of the corporation's most recent financial statements.

Here, it appears that Smith has no means of assessing the value of his stock without access to corporate books and records. The stock is not traded publicly, e.g. on Nasdaq, so there is no reasonable way to assess the reasonable value. If given reasonable access to notes of corporate books and records, Smith will likely be able to gain an accurate idea of the value of his stock is. He is essentially attempting to determine the par value of the stock, which would be the minimum value if traded publicly. Thus, pursuant to his shareholder rights under the BCL and/or common law, Smith does have a right to access the corporate books and records to evaluate the fair market value of his shares.

2. The issue is whether a shareholder bringing a suit to compel payment of a dividend must first make a demand on the corporation.

The rule is that a shareholder bringing suit on behalf of the corporation, in what is known as a shareholder derivative suit, must make a demand on the corporation unless to do so would be futile. Demand involves a request that the corporation perform the requested action, here pay a dividend. Demand is futile if the directors are interested or oppressive and making such a demand would reasonably result in any corporate change.

If the suit is not on behalf of the corporation but is purely personal in nature, a demand would not be required.

Here, it is not entirely clear if the suit is personal in nature or on behalf of the corporation, i.e. derivative in nature. If the court determines that Smith is suing solely on his own behalf to receive money he feels he is personally entitled to, then it would considered purely personal in nature and demand would not be required. If the court determines that Smith is bringing an action on behalf of the corporation because he feels it is in the corporation's best interests to pay a dividend, it would be considered a shareholder derivative action. However, Baker and Jones have already refused to reveal their salaries and refused to give Smith information regarding the value of his share. Thus it appears they are not helpful or cooperative with Smith and thus demand would be futile. In that case, demand would also not be required.

Thus, whether the court deems the action personal or derivative in nature, demand would be not required.

It should be noted that in a shareholder derivative action, the party bringing the suit must also post a bond unless they own 5% of $50K of stock, show that they would adequately represent the corporation, and include the corporation as a defendant in the lawsuit.

3. The issue is whether a minority shareholder has a right to compel payment of a dividend.

The general rule is that there is no shareholder right to compel a corporation to provide a distribution, whether in the form of a dividend or otherwise. However, in a closely held corporation which is not publicly traded an oppressed shareholder may have other rights. A closely held corporation involves a small number of shareholders and whose stock is not publicly traded. Given that a minority shareholder in a closely held corporation has fewer rights or means of recourse than someone in a publicly traded corporation, the shareholder may have additional legal options. In closely held corporations, directors, officers, and controlling shareholders owe an elevated fiduciary duty to the corporation, and particularly to minority shareholders. Duties include a duty of obedience, duty of loyalty, and duty of care. The duty of obedience involves a duty to obey the law, notably the BCL in NY. The duty of loyalty involves a duty not to engage in interested transactions, self-dealing, etc., and to exercise the utmost degree of loyalty as a reasonable director/officer/controlling shareholder would to protect the corporation.

The duty of care involves the duty to exercise the degree of prudence, diligence, and reasonable care as a reasonably prudent business person acting under those circumstances would act. In the duty of care, there involves a business judgment rule, whereby decisions of the corporation will not be second guessed if based on a reasonably prudent business decision done with a reasonable degree of diligence and homework in making the decision.

Here, Smith does not appear to have shown any violation of the fiduciary duties of obedience, care, and loyalty that Baker and Jones owe the corporation. There is no evidence of interested transactions or self-dealing which would implicate the duty of loyalty, and no evidence of any illegal act which would violate the duty of obedience.

Pursuant to the duty of care, baker and Jones have pointed to reasonable business strategies as logical justifications for their actions, namely that they wanted to retain the corporation's earnings for business expansion and data showing that in fact they have expanded considerably. While data is not conclusive evidence of complying with the duty of care, there does appear to be sufficient business justification and rational basis for baker and Jones to have complied with the duty of care. Given the general rule not allowing a right to compel payment of dividends and absent a breach of fiduciary duty, it appears that Smith will not likely be successful in his suit to compel payment of a dividend. He likely has other means of achieving his goals.

It should be noted that an action to sue the officers, directors, or controlling shareholders of a closely held corporation for violation of fiduciary duties is often referred to as piercing the corporate veil and is only available in close corporations.


–  –  –

I. The Evidence Obtained From McLain's Vehicle and Shed Must Be Suppressed Because Officer Simon Did Not Have A Reasonable Suspicion To Stop McLain's Vehicle The evidence obtained from McLain's vehicle and shed must be suppressed because receiving a tip from an anonymous, unknown informant and viewing McLain walk out of a grocery store with a paper bag did not give Officer Simon a reasonable suspicion to stop him.

"The Fourth Amendment protects individuals from unreasonable searches and seizures." State v. Montel (Fr. Ct. App. 2003). However, under the leading case of Terry v. Ohio, 392 U.S. 1 (1968), police may make brief investigatory stops if they have a reasonable suspicion that the person detained is involved in criminal conduct. Montel.

To conduct a lawful Terry stop, officers must have "a reasonable suspicion, grounded in specific and articulable facts, that the person [is] involved in criminal activity." Id.

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