Chapter 34 Financial Structures of Corporations

Blue Sky Laws

state laws regulating the issuance and sale of securities

Debt securities

source of capital creating no ownership interest and involving the corporation’s promise to repay funds lent to it

bonds

a debt security

Authority to issue debt securities

each corporation has the power to issue debt securities as determined by the board of directors

indenture

debt agreement specifying loan terms

Unsecured bonds

also called debentures, have only the obligation of the corporation behind them

secured or mortgage bonds

are claims against a corporation’s general assets and also a lien on specific property

Income bonds

bond that conditions payment of interest on corporate earnings

Participating bonds

bond that calls for a stated percentage of return regardless of earnings, with additional payments dependent upon earnings

Callable bonds

bond that is subject to redemption (reacquisition) by the corporation

equity security

source of capital creating an ownership interest in the corporation

shares

a proportionate ownership interest in a corporation

Authority to Issue Shares

only those shares authorized in the articles of incorporation may be issued

preemptive right

shareholder’s right to purchase a pro rata share of new stock offerings

Amount of consideration for shares

shares are deemed fully paid and nonassessable when a corporation receives the consideration for which the board of directors authorized the issuance of the shares, which in the case of par value stock must be at least par

Treasury stock

shares reacquired by a corporation

Payment for shares

may be cash, property, and services actually rendered, as determined by the board of directors; under the Revised Act, promises to contribute cash, property, or services are also permitted

Common stock

stock not having any special contract rights

preferred stock

stock having contractual rights superior to those of common stock

dividend preference

must receive full dividends before any dividend may be paid on common stock

liquidation preference

priority over common stock in corporate assets upon liquidation

stock options

contractual right to purchase stock from a corporation

distribution

transfer of property from a corporation to any of its shareholders

cash dividend

the most common type of distribution

property dividend

distribution in the form of property

liquidating dividend

a distribution of capital assets to shareholders

Redemption of shares

a corporation’s exercise of the right to repurchase its own shares

Acquisition of shares

a corporation’s repurchase of its own shares

legal restrictions on distributions

dividends and other distributions may be paid only if the cash flow and applicable balance sheet tests are satisfied

cash flow test

a corporation must not be or become insolvent (unable to pay its debts as they become due in the usual course of business)

Insolvency in the equity sense

unable to pay debts as they become due in the usual course of business

balance sheet test

varies among the states and includes the earned surplus test (available in all states), the surplus test, and the net assets test (used by the Model and Revised Acts)

Earned surplus

undistributed net profits, income, gains, and losses

Surplus

excess of net assets over stated capital

Net assets

total assets minus total debts

Stated capital

consideration, other than that allocated to capital surplus, received for issued stock

Capital surplus

surplus other than earned surplus

Legal restrictions on liquidating distributions

states usually permit distribution in partial liquidation from capital surplus unless the company is insolvent

Legal restrictions on redemptions of shares

in most states, a corporation may not redeem shares when insolvent or when such redemption would render it insolvent

Legal restrictions on acquisition of shares

restrictions similar to those on cash dividends usually apply

Shareholders’ right to compel a dividend

the declaration of dividends is within the discretion of the board of directors and only rarely will a court substitute its business judgment for that of the board

Effect of declaration of a distribution

once properly declared, a distribution is considered a debt the corporation owes to the shareholders

directors

the directors who assent to an improper dividend are liable for the unlawful amount of the dividend

shareholders’s

a shareholder must return illegal dividends if he knew of the illegality, if the dividend resulted from his fraud, or if the corporation is insolvent