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Home -> Essel R. Dillavou -> Principles Of Business Law -> CHAPTER X

Principles Of Business Law - CHAPTER X

1. CHAPTER I

2. CHAPTER II

3. CHAPTER III

4. BOOK I CHAPTER I

5. CHAPTER II

6. CHAPTER III

7. CHAPTER IV

8. CHAPTER V

9. CHAPTER VI

10. CHAPTER VII

11. CHAPTER VIII

12. BOOK II CHAPTER I

13. CHAPTER II

14. CHAPTER III

15. CHAPTER IV

16. BOOK III CHAPTER I

17. CHAPTER II

18. CHAPTER III

19. CHAPTER IV

20. CHAPTER V

21. CHAPTER VI

22. CHAPTER VII

23. CHAPTER VIII

24. CHAPTER IX

25. CHAPTER X

26. BOOK IV CHAPTER I

27. CHAPTER II

28. CHAPTER III

29. CHAPTER IV

30. CHAPTER V

31. CHAPTER VI

32. CHAPTER VII

33. CHAPTER VIII

34. CHAPTER IX

35. CHAPTER X

36. CHAPTER XI

37. CHAPTER XII

38. CHAPTER XIII

39. BOOK V CHAPTER I

40. CHAPTER II

41. CHAPTER III

42. BOOK VI CHAPTER I

43. CHAPTER II

44. CHAPTER III

45. CHAPTER IV

46. CHAPTER V

47. BOOK VII CHAPTER I

48. CHAPTER II

49. CHAPTER III

50. CHAPTER IV

51. BOOK VIII CHAPTER I

52. CHAPTER II

53. CHAPTER III







CHAPTER X
RIGHTS OF STOCKHOLDERS

Sec. 93. Right to inspect books. A stockholder of a corpora-
tion has the right to inspect the books and papers of the corpora-
tion for proper purposes at the proper time and the proper place.
The inspection, however, must be made with a justifiable motive
and not through idle curiosity or for purposes which in any way
interfere with the corporate management. The business hours of
the corporation are the reasonable and proper hours in which a
stockholder is entitled to inspect the books. The right to inspect
the books is sometimes expressly given by the statute, the consti-
tution, the charter, or the by-laws of the corporation. This statu-
tory privilege gives a stockholder an absolute right to inspect the
books, but most courts hold that it cannot be exercised where its
purpose is improper or unlawful or merely to satisfy one's idle curi-
osity. Other courts hold that the motive of inspecting the books is
immaterial, and that the corporation has no right to question the
reason for which the books are being inspected.

Sec. 94. Right to attend meetings and to vote. By virtue of
the ownership of a share of stock, the stockholder has a right to at-
tend meetings and to cast his vote for the election of directors and
for the determination of corporate policies. A further treatment
of this subject will be given under the chapter on Management of
Corporations.

Sec. 95. Right to share in profits and dividends. A stock-
holder has a right to share pro rata with the other stockholders
in the profits of the corporation when a dividend is declared.
Whether or not a dividend is declared is within the discretion of the
board of directors. The stockholders of a corporation are not en-
titled to the payment of a dividend whenever an earned surplus
exists. The board of directors, at its discretion, may see fit to con-
tinue the profits in the business for the purpose of extension and
improvements. A board of directors, however, must act reasonably
and in good faith. Where such is not the case and there are profits
out of which dividends may be declared, the stockholders may com-
pel the board of directors to declare dividends. 1 It must be clear,
however, that the board of directors has, illegally, wantonly, and
without justification, refused to declare a dividend before the stock-
holders have a right to interfere.

1 Dodge et al. v. Ford Motor Co. et al., 1919, 204 Mich. 459, 170 N.W. 668; p. 710.

289



290 BUSINESS ORGANIZATIONS CORPORATIONS

When a dividend is declared, it becomes a debt of the corporation
and will be paid to the person whose name appears on the corporate
stock books as the owner of the share, unless the corporation has
received notice of a transfer. A cash dividend, once its declaration
has been made public, may not be rescinded, although there is some
authority for rescinding a stock dividend.

Sec. 96. When dividends may be declared. The statutes of
the various states governing the declaration of dividends appear to
follow two distinct patterns. The first group of states, apparently
codifying the common law, provide that dividends can be declared
only out of net profits. Under this rule it seems safe to say that
dividends may be declared out of current profits even though a defi-
cit has arisen from the operation of previous years. Capital sur-
plus or surplus arising from the appreciation of fixed assets would
not appear to be available under the law of these states.

The other group of states, representing perhaps a majority, de-
termine the legality of a dividend by its effect upon the capital
stock. A declaration of dividends is proper so long as it does not
impair the capital stock. Any declaration, however, which reduces
the net assets of the corporation below the outstanding capital
stock is illegal. Under this view it would seem that capital surplus
and surplus created by an appraisal of fixed assets might be avail-
able for dividends. The law in this regard is not at all definite, but
the Uniform Business Corporation Act, which has accepted the ma-
jority view, makes capital surplus available for dividends. It lim-
its the use of surplus arising from appreciation of fixed assets to
stock dividends. Such a surplus is not available for other uses in
those states which have adopted the Act.

In general, under either theory, dividends are permissible only
after provision has been made for all expenses, including ample al-
lowance for depreciation. In those industries dealing with wasting
or depleting assets, such as mines and oil wells, it is not necessary
to care for the depletion before declaring dividends.

The directors in many states are personally liable to creditors for
dividends improperly declared in case the corporation later becomes
insolvent. The stockholders who receive such dividends may be
compelled to return them. In a few of the states, statutes make
the stockholders liable only if they received them in bad faith and
directors liable only if they acted carelessly or in bad faith.

Kinds of Dividends

Sec. 97. Cash dividend. It is customary to pay dividends in
cash. The amount paid is usually a certain percentage of the out-
standing stock of the particular class involved. The amount re-



RIGHTS OF STOCKHOLDERS 291

ceived by each stockholder varies with the amount of stock owned
by him.

Sec. 98. Scrip dividend. A scrip dividend is a certificate is-
sued to the stockholder, when the board of directors has declared
dividends out of profits which are represented by property other
than money. Such a dividend is issued where the directors antici-
pate the time when the property may be sold for cash, and the cash
distributed as a money dividend. The certificate gives the stock-
holder a right to share according to his stock in the cash derived
from the sale of the property set aside as a dividend. These cer-
tificates sometimes draw interest, and are occasionally convertible
into bonds or stocks of the corporation. Such scrip certificates do
not pass title to the property to stockholders, but merely give them
the right to receive the proceeds from the sale of the property.
They partake of the nature of stock dividends, but do not carry
voting power.

Sec. 99. Property dividend. A property dividend is one made
in property rather than in cash. A corporation owning stock in
another corporation may issue such stock to its stockholders as
property dividends. In some jurisdictions, however, a stockholder
may insist upon the payment of his dividend in cash rather than
in property. This is particularly true of a preferred stockholder.
The dividend on preferred stock must usually be paid in cash if the
stockholder demands it.

Sec. 100. Stock dividend. A stock dividend is an issue of stock
to the stockholders, based upon accumulated assets of the corpora-
tion over and above the capital stock. Instead of declaring a cash
dividend, the stockholders may authorize an issue of additional
stock out of the surplus and thus increase the capital stock of the
corporation. This type of dividend payment is often resorted to
where the corporation has used the earnings and profits for exten-
sions and improvements of the business. In some states, the dec-
laration of stock dividends is limited or prohibited by statute. It
is improper in many states to declare a dividend of preferred stock
on common stock or of common stock on preferred stock. The
stock dividend should be in stock of the class which is to receive it.
Generally the purpose of a stock dividend is to capitalize the sur-
plus profits of the corporation. If the stock dividend exceeds the
surplus, it is an issue of bonus stock, and the holders will become
liable to subsequent creditors for a sum equal to the par value. A
stock dividend is not taxable as income of the stockholder. It is
merely a subdivision of the property value to which the stockholder
is already entitled. Where stock entitled to such a dividend is held
by a trustee for the benefit of a life tenant, the remainder to be paid



292 BUSINESS ORGANIZATIONS CORPORATIONS

over to another after the death of the life tenant, a question arises
as to who is entitled to the stock dividend. 2 Under the general
rule, if the stock dividend has been earned before the life estate was
created, it is held to be principal, irrespective of the time when the
dividend was declared. It thus belongs to the principal or corpus
and is not an income for the benefit of the life tenant. If, how-
ever, the fund out of which the stock dividend is declared was
earned after the creation of the life estate, it is held that the divi-
dend is income and belongs to the life tenant. If it was earned
partly before and partly after the creation of the life tenant, an ap-
portionment of the amount is usually made. Some courts, how-
ever, hold that stock dividends are part of the corpus itself, and do
not belong to the life tenant, irrespective of when earned.

Sec. 101. Bond dividend. A corporation may issue dividends
of its own bonds, if the capital stock is not impaired or the rights
of creditors are not interfered with. Such a dividend, however,
cannot be issued until after the corporate debts have been satisfied.

Sec. 102. Right to preference upon the increase of capital
stock. The capital stock of a corporation is fixed by the charter,
and it cannot be increased except by express authority from the
state creating the corporation. The stockholders and not the di-
rectors must authorize an increase in the capital stock. Such an
authorization must be made by amendment of the charter in com-
pliance with the statute providing for changes in the corporation.

When an increase in the capital stock has been properly author-
ized, the existing stockholders have a prior right against third par-
ties to subscribe to the increased capital stock. 3 This right is called
the stockholder's preemptive right and is based upon the stockhold-
er's right to protect and maintain his proportionate control and in-
terest in the corporation. Thus, if a class of stock has no voting
power and is nonparticipating, it is questionable whether such pre-
emptive right exists. This right may be limited or waived by con-
tract and by provisions in the charter or by-laws of the corporation.
It is not applicable to treasury stock. 4 It is applicable to new au-
thorizations of stock and perhaps to new allotments of stock pre-
viously authorized, particularly if the new allotment of an original
authorization takes place some time after the original issue. Some
states approve the issuance of stock to employees without regard
to the preemptive right. Whether or not a stockholder must pay
more than par value for the increased stock varies in the different

2 Soehnlein v. Soehnlein, 1911, 146 Wis. 330, 131 N.W. 739; p. 712.

3 Jones v. Morrison, 1883, 31 Minn. 140, 16 N.W. 854; p. 713.

4 Crosby v. Stratton, 1902, 17 Colo. A. 212, 68 Pac. 130; p. 714.



RIGHTS OF STOCKHOLDERS 293

states. Some states hold that he can be compelled to pay more,
and other states hold that he cannot.

Sec. 103. Right to sue for injuries to the corporation. A
stockholder cannot maintain an action at law for injuries to the
corporation, because the corporation is a legal entity and by law
has a right to bring a suit in its own name. A stockholder cannot
bring a suit at law for and in behalf of the other stockholders for
injury to the corporation. 5 Neither can a stockholder bring a suit
in law against the directors or other officers of the corporation for
negligence, waste, and mismanagement in the conduct of the cor-
porate business, although such conduct is injurious to the stock-
holder. The right to sue for injuries to the corporation rests
strictly with the corporation itself.

A stockholder may, however, bring a suit in equity to enjoin the
officers of a corporation from entering into ultra vires contracts or
from doing anything that would impair the stockholders' rights in
the corporate assets. Likewise, the stockholder has a right to bring
suit in equity for or on behalf of the corporation itself, if the offi-
cers are acting outside the scope of their authority, are guilty of
negligent conduct, or are engaging or are about to engage in fraud-
ulent transactions with other stockholders in such a way as to be
injurious to the corporation itself.

Before a stockholder may enter into a suit in equity for and on
behalf of the corporation, he must show that he has done every-
thing possible to secure action by the managing officers and direc-
tors and that they have refused to act. Any judgment received in
such an action benefits the corporation and only indirectly the
stockholder who initiates the action. He is permitted, however, to
recover the expenses involved in the suit.

Review Questions and Problems

1. The X Company was engaged in the business of manufacturing pat-
ent medicines. A, who was a stockholder in the company, was engaged
in a competitive business. A desired to inspect the books of the X Com-
pany for the purpose of obtaining a list of the customers. Had he a right
to do so?

2. What is a stock dividend? What is its effect upon the assets of the
corporation?

3. The X Company had a surplus of $5,000,000 and had made plans
for extensions and improvements which would require the expenditure of
$3,000,000. Assuming that the directors could not show a need for fur-
ther improvements, might A, a minority stockholder, by proper action,
have forced the directors to declare a dividend?

5 Ames v. American Telephone & Telegraph Co., 1909, 166 Fed. 820; p. 715.



294 BUSINESS ORGANIZATIONS CORPORATIONS

4. The directors of the -X" Company declared a dividend when there
were insufficient profits and surplus to pay it, although, at the time, the
remaining assets were more than sufficient to pay liabilities if stock was
not regarded as a liability. The corporation soon became insolvent.
Could the creditors have recovered the amount of the dividend from the
directors?

5. A corporation, by its proper officials, increases its capital stock by
50 per cent. What are the rights of existing stockholders?

6. The directors of a corporation, by reason of misconduct and negli-
gence, have wasted the assets of the corporation. May a stockholder of
the corporation recover from them in the name of the corporation for the
losses caused by the directors' negligence? What should he do first?

7. What is a scrip dividend? What is a property dividend? When
would a property dividend be used?




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