Question

Background Information  

Recently, there has been talk amongst the partners regarding the expansion of the business  into the home construction business.  Charles, Bob and Jane support the idea but Mary is totally  opposed.      Charles, Bob and Jane decide to buy out Mary for $25,000.  Charles and Jane are each  contributing $10,000 to the buyout and Bob is contributing $5,000.  They intend to implement  their expansion plans by purchasing a tract of land and building a small subdivision. A financial  analysis has indicated that although such a project is risky and will require another $500,000 in  capital, it has the potential of generating substantial profits because of the improving real  estate market.      Before proceeding, however, their accountant has recommended that they form a corporation  and sell the partnership assets now worth $200,000 to the new corporation.  They have all  agreed to this suggestion but have made it clear that they all wish to have a say in corporate  decision‐making and to take an active role in the day to day operations of the corporation.   They also insist that their shareholdings in the new corporation must reflect each of their  present financial interests in the partnership.      

Assignment Question: (2 marks each)  

1. Why would incorporating the business be better than continuing as a general  partnership?      

2. Why would issuing Common Shares to each partner be the best way to distribute  ownership upon incorporation?    

3. After the corporation was formed, Bob was delegated the task of finding a suitable piece  of property for the development.  Within a few days, he learned of a farmer who was  considering selling his farm.  On investigation, it turned out to be such a good deal that Bob  decided not to tell the others about the property and to purchase it for himself as an  investment.  Several weeks later, he recommended to his fellow directors a property owned
by his recently deceased uncle that was being sold to settle the estate in which Bob was a  beneficiary.  Bob did not tell the others about his connection to the property.  Did Bob act  properly? (Explain your answer)

4. Disappointed by Bob’s conduct, Jane and Charles have decided that they want Bob out of  the business. What legal right does Bob have if Jane and Charles gang up on him?   (Explain your answer)

5. What should Jane, Charles and Bob have done when they formed the corporation to avoid  the problems they are experiencing? (Explain your answer)   

Answer 1

1) In partnership the liability of the partners is unlimited, and is joint and several i.e., not restricted debt to percentage of shareholding in the partnership entity, liable for all debts. Whereas in Corporation, the liability of the partners/owner is limited, the personal assets are protected. The assets of the shareholders is protected since the company is considered as a separate legal entity and company's debt do not effect the personal assets of the shareholders. Since the liability is limited in Corporation, Capital can be pooled up easily from several investors. On other side in partnership, if business owes money, partner's private assets can be seized to repay the obligations of the business.

2) Issuance of shares is the one of the first/basic steps for incorporation of the company. By the way of issuance of the shares a person becomes shareholder of the company. By issuing shares the company becomes a separate legal entity from its shareholders and the so the liability of the shareholders/owners gets limited. Common stock determines the ownership in the entity and the shareholders will have common rights, like votes and dividends receipt and others. Transfer of the ownership i corporation can be done by purchase/sell/transferring the shares. A Corporation generally issues shares for several reasons like incorporation of company, raising money/equity for purchase of machinery or repay a portion of existing debt, expansion of business, funding new projects etc. Change of ownership is easy if the equity is in the form of shares.

3)Bob's act is improper. Disclosing the complete information about the property and he being a beneficiary in the previous transaction has to be reveled to Jane and Charles. Bob has taken unfair advantage in purchasing the property and choosing the property for the business purpose compared to other shareholders.

4) Jane and Charles can ask Bob to given an explanation for not being transparent in sharing all the known business information and availing unfair personal gain out of business transaction. They can force Bob to exist from the business and other shareholders can be asked to present their votes to take decision to expel Bob from the business. Shares of the Bob can be purchased by Jane and Charles in percentage of their existing shareholding or depending on their willingness to contribute to the capital.