USA Corporation’s law

USA Corporation’s law

1. Introduction:

     This paper seeks to answer two questions relating to Ewing Oil, Inc. by knowing the issues, and the applicable rules and by subsequently applying the latter rules to the cases for the resolution of the issues. For the two questions, this paper will also make conclusions as the case analysis done for the purposes of extracting the lesson learned from the exercise.

2. Questions and Resolutions

Question 1 – The Barnes family brings an action against the Ewing directors alleging a breach of fiduciary duty in approving the loan transaction.  The Ewings have asked you to analyze and evaluate the Barnes claim. Advise the Ewings, including the standard of review likely to be applied by the court and burden of proof. Please identify any further factual information that would be helpful to your analysis and evaluation.

2.1 What is the issue?

   The issue is whether the loan granted to Ewing Oil by Ewing directors from the latter’s personal funds is valid as to bind the corporation considering the directors may have interest in the granting of the loan.

2.2 What are the rules?

     The rules under the US corporation law provide that not all loans granted because the directors have their interests are automatically void.  This rule is provided for in the case of  Marciano V. Nakash, 535 A.2d 400, 56 USLW 2406 (1987) and Section  144 of the US Corporation law.

      Section 144 of Title 8 Delaware Code (US Corporation Law) provides:

(a) No contract or transaction between a corporation and 1 or more of its directors or officers, or between a corporation and any other corporation, partnership, association, or other organization in which 1 or more of its directors or officers, are directors or officers, or have a financial interest, shall be void or voidable solely for this reason, or solely because the director or officer is present at or participates in the meeting of the board or committee which authorizes the contract or transaction, or solely because his or their votes are counted for such purpose, if: (1) The material facts as to his relationship or interest and as to the contract or transaction are disclosed or are known to the board of directors or the committee, and the board or committee in good faith authorizes the contract or transaction by the affirmative votes of a majority of the disinterested directors, even though the disinterested directors be less than a quorum; or (2) The material facts as to his relationship or interest and as to the contract or transaction are disclosed or are known to the shareholders entitled to vote thereon, and the contract or transaction is specifically approved in good faith by vote of the shareholders; or (3) The contract or transaction is fair as to the corporation as of the time it is authorized, approved or ratified, by the board of directors, a committee or the shareholders. (b) Common or interested directors may be counted in determining the presence of a quorum at a meeting of the board of directors or of a committee which authorizes the contract or transaction.”

2.3 Application of the rules:

       The case at bar particularly fits to the existing rules on US Corporation Law in the case of loans granted to the corporation where the directors are part of the approving authorities and the case fact are almost analogous to the case of Marciano V. Nakash, 535 A.2d 400, 56 USLW 2406 (1987) except for some items like the extent of  ownership control of the corporation. In the case of Marciano V. Nakash, the ‘Nakashes’ owned 50% of the stock while in the case of Ewing Oil, the Ewings control 60%.  This means the loan between the corporation and the directors should be held valid for passing the standard of being fair under the US Corporation Law and present jurisprudence. The difference in the ownership should not make a difference because Section 144 does not make a distinction.

2.4 Preliminary Conclusion:

      Based on analysis made it could be concluded the loan passed the standard to allow the validity of the loan granted to Ewing Oil, Inc. as applied by the courts in the case of Marciano V. Nakash, 535 A.2d 400, 56 USLW 2406.  The case facts that members of the board of directors who approved the contract of the loan to the corporation are the lenders of the additional funds  as needed by Ewing Oil to carry it through what was thought to be  a temporary cash-flow problem and that the company’s  financial condition was such that it was unable to find suitable financing from outside sources despite the effort of both families were almost analogous to the case facts in the case of Marciano V. Nakash (1987) mentioned earlier.   What made the contract of loan valid was the fact the intention of the board members of the board who approved the loan was to help the corporation to solve its temporary cash-flow problem.  The Ewing directors proposal then to make a secured loan of $1million from their own funds to the corporation was a way of helping the corporation which tries to attain the purpose of the corporation law under section 144 that the loans do not become void or voidable merely on the ground that the directors approving the loan have interest on the loan provided the condition set in section 144 are complied with to ensure fairness of the transaction.

Question 2. Would it make any difference if the lender is Ms. Ellie, who is not on the board herself, but is the mother of two of the Ewing board members?

      It would not make any difference because the loans although under the influence of the interest of the directors could still pass the requirements of Section 144 of the US Corporation law to qualify as to fairness of transaction between the parties. Fairness here means ensuring that as if the transactions were done between two disinterested or unbiased parties in an arm’s length situation.  The wordings of Section 144 of the US Corporation Law provides; “(a) No contract or transaction between a corporation and 1 or more of its directors or officers, or between a corporation and any other corporation, partnership, association, or other organization in which 1 or more of its directors or officers, are directors or officers, or have a financial interest, shall be void or voidable solely for this reason, or solely because the director or officer is present at or participates in the meeting of the board or committee which authorizes the contract or transaction, or solely because his or their votes are counted for such purpose…” (Emphasis Supplied). If the lender is the mother of two of the Ewing board members, then the said board members are deemed to have a financial interest under the principle of succession law that the two board members are heirs of their mother.  Being heirs entitles them to benefit financially from their mother.   If the two board members happened to be not heirs then, the more the transaction approximates an arm’s length one, hence with more reason it should be held that the contract of loan is valid between the Ewing Oil, Inc.  and the Ewing directors who approved the loan.

3. Final conclusion:

      Helping the corporation to survive in time of the latter’s problems for cash flow from loans granted by directors, officers or person of whom said officers may have influence or right to benefit from could not be taken to be serving the personal interest of the directors or officers. If there are any people who would ensure the survival of the corporation, then it should be the directors or officers. To remove suspicion that the directors may be taking advantage, they resorted to lending from their own after failing to secure from other parties who are independent of the corporation and after disclosing the fact that they are directors.

4. References:

1. Marciano V. Nakash, 535 A.2d 400, 56 USLW 2406 (1987)

2. Delaware Code Title 8 Corporations {www document} URL http://delcode.delaware.gov/title8/index.shtml, Accessed July 12, 2007