Incorporation -- the formation of a corporation -- is a relatively simple process. It only requires filing a few forms. But this simplicity is deceptive. There are many choices to make when forming a business properly, including: what type of business organization to create, where to form or incorporate the organization, how many shares of stock to authorize and issue, who to name as directors, etc. Additionally, there are several ways that incorporation can go wrong. Ultra vires actions can occur when the corporate purpose is defined too narrowly, and defective incorporation can occur when the filing is done improperly. Both can result in unintended legal liability.

1. CORPORATIONS
MODULE III: ENTREPRENEURSHIP
LESSON 2: INCORPORATION PROCESS
Professor Seth C. Oranburg
Duquesne University School of Law
Spring 2020

2. Learning Objectives
■Understand the process of
incorporating a Delaware corporation
■Define corporate powers and apply
the “ultra vires” doctrine
■Identify when a defective incorporation
may occur and analyze whether the
corporate promotor has liability in
these situations

3. A. Process of Incorporation
1. Choosing the State of Inc.
2. Formal Requirements
3. Representing Multiple
Parties

4. Choosing the State of
Incorporation
■Home state?
■Delaware?
■Another state?

5. Why Delaware? Why Not?
■Generally, companies that plan to
operate nationally and require
outside investment select DE
■Investors are comfortable with
DE’s corporate governance rules
and their enforcement by DE
courts

6. Why Not Delaware?
■ Incorporating in the state of local operation
is usually cheaper and always simpler
■ Some states have rules (like antitakeover
provisions) that some companies prefer
– E.g., Pepsi incorporated in North
Carolina

7. Who forms a corporation?
■The incorporator(s)
–This can be a lawyer
–It could be you!

8. MCBA § 2.01. Incorporators
One or more persons may act as
the incorporator or incorporators
of a corporation by delivering
article of incorporation to the
secretary of state for filing.

9. Overview of the Delaware
Incorporation Process
1. Choose entity type
2. Register with SoS
3. Obtain EIN from IRS
4. Register at One Stop
5. Register foreign co in PA and contact PA
agencies

10. One-Time and Ongoing
Incorporation Costs
■ File Cert. of Inc. (Charter)
– $89
■ Annual registered agent fee
– $49-350
■ Annual franchise taxes
– Minimum $175 / $350; calculator
– Include Annual Report; DCGL 502
■ Foreign fees (depend on state)

11. Registration with Secretary of
State
■Obtain Registered Agent
■Select Name
■File Certificate of
Incorporation

12. What Is Required in the Certificate
of Incorporation? DGCL §102
1. Name of Company
2. Address of Registered Agent
3. Nature of Business
4. Number and par value of
authorized shares

13. How to Select a Registered
Agent
■Look for RA
■The RA accepts service of process
in Delaware
■Some offer additional services as
well

14. How to Select a Corporation
Name
■Ask your clients what they want
■The name must include a suffix
■Each state will have its own rules
■Make sure name is not taken

15. Statutory Naming Rules.
DGCL §102
"association," "company," "corporation,"
"club," "foundation," "fund,"
"incorporated," "institute," "society,"
"union," "syndicate," or "limited," (or
abbreviations thereof, with or without
punctuation), or words (or abbreviations
thereof, with or without punctuation)

16. Determining Capital Structure
■NewCo must have at least 1
authorized share and at least
1 SH
■Fractional shares not allowed
■Example: Facebook

17. ■You may authorize more shares to:
– give to other founders now,
– reserve for future employees, or
– sell to investors
■Changing the authorized number
requires a Cert of Inc amendment
Determining Capital Structure

18. Stating the Corporate Purpose
■“Any lawful purpose”

19. Ultra Vires
Doctrine
■ Historically, corporations had to
specify all of their conceivable
corporate purposes
– Such “purpose clauses” could
go on for pages
– If a corporation acted beyond
these purposes, shareholders
could disclaim that
transaction
■ Modern statutes allow simple
broad purposes such as “any
lawful purpose”
■ However, when a corporation
choose to define a more limited
purpose for itself, actions beyond
that purpose may be ultra vires
Rarely arises
today
Except on the
PA Bar exam

20. Filing Certificate of
Incorporation
■Fairly simple document
■Online application
■Modest fee

21. Actions After Incorporation
■Action by Incorporator
–Call organizational meeting
■Organizational Resolutions
–aka Initial Action by Directors

22. What Happens at the
Organizational Meeting?
■Elect directors
■Adopt bylaws
■Appoint officers
■Authorize bank account
■Sell stock

23. Electing the Directors
■ Must have at least one director. DGCL § 141
– Must be an individual not a corp or other entity
– Why not have corporation as director?
■ See “Boards-R-Us”
– Do not have to be numbered or named in CoI
– If not numbered in CoI, number determined in bylaws, or
set by the board during the organizational meeting

24. Certificate of Incorporation versus
Annual Report
§ 102 CoI
1. Name of Company
2. Address of
Registered Agent
3. Nature of Business
4. Number and par
value of authorized
shares
§ 502 Annual Report
1. Address of Registered Agent
2. Name of Registered Agent
3. Principal Place of Business
4. Name and Address of All
Directors and the Officer who
Signs the Report
5. Number and par value of
authorized shares
6. [Statement of tax exemption]
7. [Additional information]

25. When you form a business for multiple
parties, who is your client?
■ After the corp is
formed, the lawyer
represents the corp
■ Before it is formed, it
is more complicated,
especially when the
lawyer assists with
business planning

26. Simulation part 1:
Role of Lawyer
■ Basil (whom you represented before) asks
you to help him to form a corporation for a
new beverage business
■ He will be joined by Sybil (who will handle
finances) and Gowan (who has the $$)
■ You are a corporate lawyer
■ Whom do you represent?

27. Entity vs. Aggregate theories
■Entity: Lawyer represents only entity
■Aggregate: entity + individuals
– More likely to apply when business
involves few participants

28. Model Rules of
Professional Responsibility
Rule 1.13 Organization as Client
(a) A lawyer employed or retained by an organization represents the
organization acting through its duly authorized constituents.
(b) If a lawyer for an organization knows that [its agent intends to violate a
legal obligation], the lawyer shall refer the matter to higher authority in the
organization, including [the board of directors]
(c) If (1) despite the lawyer's efforts in accordance with paragraph (b) the
highest authority [fails to act and] (2) the lawyer reasonably believes that the
violation is reasonably certain to result in substantial injury to the organization,
then the lawyer may reveal information relating to the representation

29. “Lawyer for the situation”
■ Before incorporation, no one client is
exclusively represented
– The corporation does not exist yet
■ All the parties involved comprise the
“situation”
■ Efficiency

30. Informed Consent
■The lawyer must make this
clear to the parties at the
outset of her service that she
does not represent the
individual founders

31. Simulation part 2:
Dealing with Prior Relationships
■ You represented Basil in his divorce.
■ Basil says, “As you know from your work for me on my divorce,
there are some pretty personal things that I’ve told you. I
assume you won’t be telling the others.” Under his breath he
adds, “Like you know I’m really strapped for cash. What with
child support and alimony, I’m not sure what to do. But with
this new company I plan to get out as much cash as quickly as
I can.”

32. Model Rules of
Professional Responsibility
Rule 1.7 Conflict of Interests: Current Clients
… a lawyer shall not represent a client if the
representation involves a concurrent conflict of interest
[But] a lawyer may represent [such] a client if
■ [lawyer provides competent representation]
■ [not prohibited]
■ [not in same litigation]
■ [each affected client gives informed consent, in
writing]

33. What Should You Do?
■ You still represent Basil.
– Rule 1.6: His confidences to you during the
divorce cannot be disclosed to others without
his consent
■ Can you represent the corporation?
– There is a conflict – Basil’s interests seem at
odds with corporate interests

34. Can You Resolve the Conflict?
■ Maybe. You would have to disclose to the
“situation” (here, to Gowan and Sybil) that
Basil may be planning to loot the
corporation
■ If that would violate your obligations to
Basil, then you must withdraw without
disclosing why

35. What is the likely outcome?
■ You would probably have to withdraw from
representing the corporation
■ You cannot disclose exactly why
– Rule 1.6.
■ Sybil and Gowan will be confused
■ Tell them to look for another lawyer, who should
explain what is happening

36. Simulation part 3:
Gowan Walks In…
■ “Thanks for explaining that you’ll help form a corp. As
you know my son Gowan, Jr. is pretty unsure about
his future. I’m investing in this company so there’ll be
a place for him. I’d like you to draft papers that give
me voting control, though Basil and Sybil don’t have to
know. Please hold this in confidence and draft the
papers as I want. As you know, I’m paying your bill.”

37. What do you do?
■ You cannot follow Gowan’s directive
– You are not permitted to help him act
adversely to the corporation
■ If he persists, you may have to tell the others
about his plans
– Here, the disclosure of plans is not related to
any prior representation

38. C. Defective
Incorporation
■ A modern corporation
comes into existence at
the moment when the
Article of Incorporation
are filed
■ What happens when
someone makes a deal
with a corporation that
doesn’t legally exist?
Promotor Liability
De Facto Corporation
Corporation by Estoppel

39. Common Facts Patterns in
Defective Incorporation
1. Both parties know of
inexistence
2. Both parties believe it exists
3. Reinstatement after admin
dissolution

40. Scenario 1-A: Both parties
know there is no corporation
■If corporation is not formed it
then it does not exist
■It cannot be party to contract
■The Promoters have a
presumption of liability

41. Presumption of Liability:
Restatement (2nd) of Agency §
326
Unless otherwise agreed, a person
who, in dealing with another,
purports to act as agent for a
principal whom both know to be
nonexistent or wholly incompetent,
becomes a party to such a contract

42. Scenario 1-B: Corporation forms
later and adopts the agreement
■The promoter still liable
unless all parties agree to a
novation

43. Scenario 2: Both parties mistakenly
believe a corporation exists
■What consequences for
promoter?
■Courts are split: to limit
liability or not to limit liability?

44. Theories for Leniency:
De facto corporation
Applied if promoters:
– Made good faith effort to incorporate;
– Unaware that incorporation did not
occur; and
– Used corp form in transaction with 3rd
party

45. 3-B. Theories for leniency:
Corporation by Estoppel
■No personal liability if the
third party believed that her
only recourse would be
against business assets

46. Statutory Approaches to
Promoter Liability
■MBCA § 2.04. Liability for
Preincorporation Transactions
– All persons purporting to act as or
on behalf of a corporation, knowing
there was no incorporation under
this Act, are jointly and severally
liable for all liabilities created while
so acting.

47. Scenario C: Corporation is
administratively dissolved
■ Corps are sometimes dissolved by admin
order
– Failure to pay taxes, report agent
change, file reports, etc.
■ Corps can be reinstated
– Retroactive limitation of liability with
regard to contracts

48. Summary
■ Incorporation is a simple process
– Articles of Incorporation need only
name the corporation, # of shares,
registered office/agent, and name of
the incorporator
– Organizational meeting is where the
working structure happens (bylaws,
issuance of shares, naming of
directors)
■ A lawyer can represent a corp (or a
situation)
– Participants should understand and
give consent
– Confidences by participants are not
necessarily protected
– Representation of the corp does not
necessarily create individual conflicts

49. Summary
■ Defective incorporation can happen in 3 ways
– If parties are aware that no corporation has
been formed, then promoter is presumed
liable, unless agreed otherwise
– If parties are unaware that no corporation
has been formed and act as though there is
a corporation, then a court may construe
corporate attributes through the doctrines
of de facto corporation or corporation by
estoppel
– If the corporation is formed, but dissolved
by the state for not paying franchise taxes,
the corporation can be retroactively
reinstated
■Cont’d