Essay due 11:59pm central time today 9/11/17

QUESTION 1 (60 points)

            David, Erica, and Frank are friends who always wanted to go into business together.  David is a trained architect, Erica is an engineer, and Frank is a salesman.  They decide to start a company to design and build office buildings.  Erica and David believe that they, as the building professionals, should be entitled to run the day-to-day business of the company while Frank believes that marketing is more important so he thinks he should run the business.  Instead, the three agree to hire an independent CEO.  They find Gail, who is currently CEO of a competing architecture firm, who agrees to work as CEO for the new company.

            David, Erica and Frank decide to establish DEF Corp. under Delaware law.  The three agree that David will be issued 40% of the common stock of DEF, Erica 40% of the common stock and Frank 20% of the common stock.  In return for taking a smaller percentage of the stock, Frank will be paid a commission for every contract he can secure for the company.  David and Erica will work for a minimal salary for DEF Corp., instead hoping to make money by selling their stock in the future.  The three also agree to elect each other as the initial three members of the board of directors.

            Although Frank is happy with his deal from a monetary standpoint, he is concerned that David and Erica could use their combined voting power to fire Gail as CEO and replace her with one of themselves.  He is also concerned that if he objects to this they might use their voting power to remove him as a director of the corporation and terminate his favorable commission contract.  David and Erica, on the other hand, are concerned that if the business begins to do well and they want to sell the company that Frank will oppose the sale solely to protect his job as both an officer and director of the company.

            Propose how you would address the concerns of David, Erica and Frank, or change the corporate structure of DEF, Corp. to eliminate these concerns.

QUESTION 2 (30 points)

            Assume the same facts as Question 1, except now the business is operating and is a huge success.  Gail has turned out to be a great CEO and competitors are constantly trying to hire her away from DEF Corp.  One competitor – named ArchCorp – offers Gail more money and stock in the corporation if she quits DEF Corp and joins ArchCorp.  Gail approaches David, Erica and Frank as the board of directors and offers to stay as CEO of DEF Corp. if they would make her an equal shareholder in the corporation.  Frank thought this was a great idea since he wanted to keep Gail as CEO. Thus, he proposed that DEF Corp. issue stock such that afterwards Gail would own 25% of the stock, Frank would own 25% of the stock, and Erica and David would each own 25% of the stock.  Erica and David refuse to be diluted in this manner, so the board votes against the proposal.  In response, Gail provides 60 days’ notice of her intent to quit DEF Corp. and join ArchCorp.  During that time, the city of San Louie approaches Gail with an offer for her to begin construction on a new city hall building.  They primarily want to work with Gail but had a bad experience with Erica in the past so are hesitant to do business with DEF Corp.  Gail tells the city to wait 60 days and, after that time, to award the contract to ArchCorp.  The city agrees and 60 days later awards the contract to ArchCorp with Gail as CEO.

            What legal remedies might DEF Corp. have in this case?  Would it matter if DEF Corp and ArchCorp were located in a state that has adopted the MBCA?

QUESTION 3 (60 points)

            Assume the same facts as Question 1 except that Gail decides to stay at DEF Corp and does not take the job at ArchCorp.  The next year, ArchCorp approaches Gail with an offer to buy DEF Corp.  Under the proposal, DEF Corp would merge into ArchCorp in exchange for $10 million to be divided pro rata among the shareholders.  In addition, Gail would be issued 10% of the stock of ArchCorp and be named a director on the board of directors of ArchCorp.  ArchCorp would also agree to continue to employ Frank under his commission agreement but does not want to hire David or Erica.

            Gail thinks this is a great idea but she is worried that the board of directors of DEF Corp may not approve it.  She prepares a spreadsheet calculating the fair market value of the company to be exactly $10 million.  She then takes her valuation spreadsheet and the offer from ArchCorp and presents it to the board of DEF Corp.  Frank thinks it is a great offer and votes in favor of it.  Erica and David think it is not a good offer and vote against it.  Immediately after, Erica and David propose that the board adopt a share rights plan providing that if any buyer acquires 10% or more of the stock of DEF Corp. the original shareholders would be issued enough stock to dilute the new buyer to under 1% of the ownership of DEF Corp.  The board approves the rights plan with Erica and David voting in favor and Frank voting against it.

            Gail reports what happened to ArchCorp.  In response, they increase their offer to $30 million with an additional offer to retain Erica as director of ArchCorp.  Gail reports the new offer to the board of directors and claims it is the best price they would be able to get from anyone.  At this point, Erica decides this is the best deal she will be able to get and decides to vote in favor of the merger.  Thus, the board of DEF Corp. votes to agree to the merger with Frank and Erica voting in favor and David voting against.  The board of DEF Corp also votes to modify the share rights plan to exclude ArchCorp but to continue to apply it to all other potential buyers.

            In response, David approaches his friend Henry (who is an investment banker) and proposes that he buy out DEF Corp for a total of $40 million.  Henry retains his firm to do a valuation study for DEF Corp which determines that it is worth at least $40 million and perhaps more.  Based on this study, Henry offers to buy DEF Corp for $40 million in cash, but on the condition that David be appointed the CEO and that Erica, Frank and Gail no longer work for DEF Corp. after the merger.  The board of DEF Corp. votes against Henry’s offer and refuses to redeem the share rights plan, with David dissenting.

            Henry sues DEF Corp for refusing to redeem the share rights plan.  What is the result?  Make sure your answer discusses each of the various decisions made by the board of DEF Corp.

QUESTION 4 (30 Points)

            Assume the same facts as Question 1 except that David, Erica and Frank decide to form a Delaware LLC instead of a Delaware Corporation.  How would your answer change?