978-0078023866 Chapter 9 Internet Exercise and Supplements Part 1

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Chapter 09 – Business Organizations and Securities Regulation

Internet Exercises and Supplements

Answers to Internet Exercise Questions (p. 429)

1. As revealed at the Frequently Asked Questions section of http://securitieslaw.com, brokers have a

fundamental responsibility for fair dealing and owe their customers a duty of loyalty and good faith.

2. Some warning signals of defrauding include: inconsistency between the broker’s verbal statements

Student Project

1. Instructors can ask their students to choose any public corporation, search the web for its

homepage, then see if they can find its annual report. Then find the reports that is required to file with

the SEC under the securities laws using http://www.sec.gov/edgarhp.htm (EDGAR). Ask the students

these questions: How long is the report? How often must it be filed? Was it easy to use? Identify

three pieces of interesting information about the company which were found in the report.

Supplemental Web Addresses

http://www.poznaklaw.com/articles/index.htm (Various articles on law topics affecting business)

http://www.amex.com (American Stock Exchange)

http://securities.stanford.edu (Stanford Securities Class Action Clearinghouse)

http://www.uschamber.org (U.S. Chamber of Commerce)

http://www.law.upenn.edu/bll/ulc/fnact99/1990s/upa97fa.htm (Uniform Partnership Act)

http://www.money.com (CNN Money)

http://www.business.gov (Cite for general business information)

http://www.sbaonline.sba.gov (U.S. Small Business Administration)

Answers

Answers to ‘Corporate Constitutional Rights?’ Question (p. 386)

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Chapter 09 – Business Organizations and Securities Regulation

This can be a discussion based question. Have students consider how much control shareholders in

Answer to ‘Corporation’ Questions (p. 394)

a. The most compelling favorable characteristics of the corporate form are its grant of limited

b. Its least favorable characteristic is double taxation on income distributed to shareholders as

dividends.

c. S corporations also provide limited liability for shareholders and permit the separation of

2. Debt capital and equity capital are the two ends of the capital spectrum.

a. Common stockholders share all three property rights—the right to participate in earnings, the

b. No, it does not have all the rights. Preferred stock lacks the right to participate in control.

Answer to ‘Partnership’ Question (p. 398)

1. The most compelling favorable characteristic of a general partnership is its nearly complete flexibility

with regard to allocation of economic and tax benefits and burdens among the partners. The students

Answer to ‘Management Pyramid’ Question (p. 405)

This can be a discussion based question. The instructor might generate additional responses by asking

students to answer from a corporate manager’s perspective or, alternatively, from an investing

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Chapter 09 – Business Organizations and Securities Regulation

Answers to ‘Practicing Ethics: Excessive Executive Compensation?’ Questions

(p. 408)

1. This is an opinion/discussion based question. Some students may suggest that it is unethical for a

board to agree to an executive severance package when an executive is terminated for poor

2. This is an opinion/discussion based question.

Answers to ‘Practicing Ethics: Credit Rating Agencies—Another Cause for

Concern?’ Question (p. 412)

This question is intended to remind students about the relationship between debt and equity In addition, it

also illustrates the basic conflict of interest in the way the major credit rating agencies do business and

Answers to Questions—Part One (p. 403)

a. Features of limited liability, free transferability of interests, indefinite duration, and centralized

management give corporations ability to access capital markets, allowing them to amass capital

b. Noncorporate business forms, such as real estate investment trusts (REITs), regulated

c. Distorporations are gaining ground against “regular” corporations in the public capital markets

a. Upon death or disability, a proprietorship is very difficult to operate effectively. Any fiduciary

b. Partnerships do not experience similar problems unless the partnership agreement provides

otherwise. Under state law a partnership ceases if any partner dies or becomes incapacitated.

However, unlike a sole proprietorship, partners can agree in advance to give a right to the

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Chapter 09 – Business Organizations and Securities Regulation

a. There is no unlimited liability for general partner in LLC and no issues related to termination if

the general partner ceases to exist/goes bankrupt/etc. LLC allows more flexible economic

b. Students’ answers will vary. However, students may cite the following advantages:

LLC can have corporate shareholders, but S corporations cannot.

Answers to Questions—Part Two (p. 408)

1. Both the Enron era corporate failures and the financial services industry’s role in the 2008 financial

crisis revealed systemic problems in intracompany relationships. The view inside the boardroom

revealed by post-Enron lawsuits and the on-going analysis of the causes of the 2008 financial and

2. The realization that shareholders of public corporations have little or no ability to actually select those

managing the corporation is another significant corporate governance concern. In theory

3. This can be discussion based question. To ensure that a corporation is acting to further their

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Chapter 09 – Business Organizations and Securities Regulation

4. Answers will vary depending on the proposal selected. Instructor can divide the class into two groups

5. Executive compensation has long been an issue for shareholders. It is also an issue that is likely not

to go away soon. By 2007, CEOs of large public corporations earned 344 times the income of

Answers to Questions—Part Three (p. 425)

1. IPO stands for initial public offering. When a company offers stock to the public for the first time that

a. The registration statement has two parts: the prospectus and the supplemental information. The

prospectus is the major component which contains general information about the company, its

b. Prospectus must be delivered to an offeree prior to the offeree’s decision to invest. Such

c. The purpose of audited financial statements is to give investors information on the historical

financial performance of a company as one means of evaluating its future prospects. The

3. The general purposes of the Securities Act of 1933 are:

To ensure full disclosure of all material information before any new security is offered for sale

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Chapter 09 – Business Organizations and Securities Regulation

a. The manager probably has no insider trading liability since the information was revealed to a

person (the attorney) who had fiduciary duties of loyalty and confidentiality to the manager

5. The officer could be subject to criminal prosecution by the U.S. Department of Justice, to civil suit by

the SEC and to private suits by harmed shareholders.

Cases and Answers

Shlensky v. Wrigley, 237 N.E. 2d 776 (Ill. App. Ct. 1968) (p. 388)

Syllabus

Plaintiff Shlensky, a minority stockholder in the Chicago Cubs, sued the directors on the grounds

of mismanagement and negligence because of their refusal to install lights at Wrigley Field.

Plaintiff’s evidence indicated that the Chicago White Sox night games drew better than the Cubs’

day games. He sought damages and an order requiring the installation of lights and the

scheduling of night games. He lost at the trial level and appealed to the Illinois Appellate Court.

Defendants argued that the courts will not step in and interfere with the honest business

judgments of the directors unless there is a showing of fraud, illegality or a conflict of interest.

The appellate court affirmed the lower court stating that courts will not undertake to control the

policy or business methods of a corporation, although it may be seen that a wiser policy might be

adopted to make the business more successful.

Answers to ‘Shlensky v. Wrigley’ Questions (p. 389)

1. The issue was whether there was a showing of fraud, illegality, or conflict of interest sufficient to

2. The objection to the installation of lights was based on Wrigley’s personal opinion (80% owner). Also

Charles E. Wolfe v. United States 612 F.Supp. 605 (D. Mont. 1985); aff’d 798 F.2d

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Chapter 09 – Business Organizations and Securities Regulation

1241 (9th Cir. 1986) (p. 390)

Syllabus

Wolfe was the sole shareholder, a director, and the president of a corporation which leased

tractor-trailers. He also owned a sole proprietorship which did “over-the-road” trucking. The IRS

sought to pierce the corporate veil and require Wolfe personally to pay the corporation’s taxes.

The court found for the government, holding that Wolfe and the corporation no longer were

separate entities. The court pointed to the fact that Wolfe made all corporate decisions and didn’t

consult the other directors; the corporation had no separate bank account, telephone or office;

expenses were paid by the proprietorship, the corporation’s equipment was purchased on the

proprietorship’s credit and corporate revenues were deposited in the proprietorship’s bank

account.

Answers to ‘Charles E. Wolfe v. United States’ Questions (p. 391)

1. The corporation owed the taxes, but the court found that Wolfe, the sole shareholder, was not

2. Except for the existence of the corporation on paper, the corporation had no identity separate from

proprietorship. The outside directors were never consulted.

3. Wolfe, through his alter ego, the corporation, would have been able to incur debts but escape liability

Veale v. Rose, 657 S.W. 2d 834 (Texas Ct. App. 1983) (p. 396)

Syllabus

Five individuals were partners in an accounting firm. Although the partnership agreement

specifically permitted partners to pursue other business commitments, the question was whether

such other commitments could include accounting or other services typically performed by public

accounting firms. The jury found that no competition had occurred, in part because the work done

did not require a CPA. However, the court pointed out that partners have fiduciary relationships

toward one another and, therefore, if anyone competes with the business of the partnership, that

is, offers services of the type regularly performed by accounting firms even if not requiring a CPA

license, any profits made will have to be shared with the partnership. Thus, the judge overruled

the ruling of the jury.

Answers to ‘Veale v. Rose’ Questions (p. 396)

a. The partnership agreement provided that a partner cannot compete against the partnership

b. Partners do not have “after hours” time if they employ that time in activities that compete with

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Chapter 09 – Business Organizations and Securities Regulation

2. He would be free to engage in any kind of activity that did not compete with the partnership and did

not violate either his partnership agreement or his general fiduciary duty to the partnership, including

SEC v. W. J. Howey Co. 328 U.S. 293 (1946) (p. 409)

Syllabus

Under federal law, “securities” include not only stocks and bonds, but also “investment contracts.”

The Court found that an investment contract is any “scheme whereby a person invests his money

in a common enterprise and is led to expect profits solely from the efforts” of another (the

promoter or a third party). Here, defendant offered purchasers a land sale contract coupled with a

service contract. The purchaser “bought” a row of 48 citrus trees and agreed that defendant

would maintain the trees and market the produce. The purchaser had no right of entry, their trees

were not separately fenced from the rest of the grove, and they had no right to specific fruit. Fruit

from all the trees was pooled. Purchasers were mostly non-Florida residents with no knowledge

of the citrus business. Their investment motive was the expectation of substantial profits. Held:

the land sale contracts coupled with the service contracts were “investment contracts” and,

therefore, subject to registration under the federal securities laws.

Answers to ‘SEC v. W. J. Howey Co.’ Questions (p. 410)

1. Yes, although Microsoft stock would also be covered as traditional instruments subsumed by the

2. Congress purposely added the term to cover financial arrangements that did not fit under the

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