Changes to Model Business Corporation Act Responsive to the Report of National Association of Secretaries of State

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1 As Approved on on First Reading by the Committee on Corporate Laws Changes to Model Business Corporation Act Responsive to the Report of National Association of Secretaries of State Note: Text to be deleted is in [brackets and bold face]. Text to be added is underlined FRACTIONAL SHARES (b) (c) A corporation may: (1) issue fractions of a share or pay in money the value of fractions of a share; (2) arrange for disposition of fractional shares by the shareholders; (3) issue scrip in registered [or bearer] form entitling the holder to receive a full share upon surrendering enough scrip to equal a full share. Each certificate representing scrip must be conspicuously labeled scrip and must contain the information required by section 6.25(b). A corporation may not issue scrip in bearer form. The holder of a fractional share is entitled to exercise the rights of a shareholder, including the right to vote, to receive dividends, and to participate in the assets of the corporation upon liquidation. The holder of scrip is not entitled to any of these rights unless the scrip provides for them. The board of directors may authorize the issuance of scrip subject to any condition considered desirable, including: (1) that the scrip will become void if not exchanged for full shares before a specified date; and (2) that the shares for which the scrip is exchangeable may be sold and the proceeds paid to the scripholders. Fractional shares may arise from a share dividend that, as applied to a particular holder, does not produce an even multiple of shares; they may also result from fractional PHTRANS\483747\4 1

2 stock splits, from reverse splits, and from reclassifications and mergers. Although corporations are authorized to issue fractional shares, which are vested proportionately with the same rights as full shares, the creation of fractional shares often creates administrative difficulties, particularly for voting and dividend purposes. Section 6.04 authorizes handling fractional shares in various ways, including: (1) The corporation may issue scrip instead of fractional shares. Scrip confers none of the substantive rights of shareholders, but only authorizes holders to combine scrip certificates in amounts aggregating a full share and then to exchange them for a full share. This aggregation must occur within the time and subject to the conditions set initially by the board of directors and stated in the scrip certificate. Scrip that is not combined and exchanged becomes void. To protect shareholders against forfeiture of their interest, however, it is usually provided that the shares represented by scrip certificates not exchanged by the expiration date are to be sold and the proceeds held, either indefinitely or for a stated period, for the benefit of the scripholders and paid to them on surrender of their scrip certificate. [Scrip has been widely used in lieu of fractional shares. The New York Stock Exchange, while not requiring the use of any particular method for the settlement of fractional share interests, has established a policy relating to the minimum rights and privileges that scrip issued by registered companies must provide. N.Y.S.E. Listed Company Manual section (B).] (2) The corporation may authorize the immediate sale of all fractional share interests, thereby avoiding the expense and delay of scrip and the inconvenience of recognizing fractional shares. While this procedure denies shareholders the benefit of any subsequent rise in the market, it protects them against any subsequent decline and ensures them of recognition based on market values contemporaneous with the transaction. Since these transactions necessarily involve less than one full share for each shareholder, the amount involved in subsequent price changes is usually modest. One variation of going private transactions to eliminate public shareholders in a corporation largely owned by management interests involves a reverse share split at a ratio that reduces all public shareholders interest to a fractional share, followed by the reduction of the fractional interests to cash under this section. See Guidelines on Going Private, 37 BUS. LAW. 313 (1981). Under this section fractional shares may be certificated or uncertificated. There is no difference in treatment of certificated or uncertificated shares for this purpose. See sections 6.25 and PHTRANS\483747\4 2

3 FORM AND CONTENT OF CERTIFICATES (b) (c) (e) Shares may but need not be represented by certificates. Unless this Act or another statute expressly provides otherwise, the rights and obligations of shareholders are identical whether or not their shares are represented by certificates. A corporation may not issue certificates in bearer form. At a minimum each share certificate must state on its face: (1) the name of the issuing corporation and that it is organized under the law of this state; (2) the name of the person to whom issued; and (3) the number and class of shares and the designation of the series, if any, they certificate represents. If the issuing corporation is authorized to issue different classes of shares or different series within a class, the designations, relative rights, preferences, and limitations applicable to each class and the variations in rights, preferences, and limitations determined for each series (and the authority of the board of directors to determine variations for future series) must be summarized on the front or back of each certificate. Alternatively, each certificate may state conspicuously on its front or back that the corporation will furnish the shareholder this information on request in the form of a record and without charge. 1 Each share certificate: (1) must be signed (either manually or in facsimile) by two officers designated in the bylaws or by the board of directors; and (2) may bear the corporate seal or its facsimile. If the person who signed (either manually or in facsimile) a share certificate no longer holds office when the certificate is issued, the certificate is nevertheless valid. This section sets forth the minimum requirements for share certificates. A corporation whose shares are not publicly traded will normally issue certificates that meet these minimum requirements and little more. Securities that are publicly traded, on the other hand, must contain reasonable safeguards against fraudulent duplication; for this reason, regulations by exchanges contain technical requirements relating to design, 1 The text of subsection (c) includes a change being proposed independently by the Committee relating to the use of electronic technology. PHTRANS\483747\4 3

4 workmanship, engraving, and printing. Also, exchange requirements may require signatures of a transfer agent and registrar as well as designated corporate officers. All these requirements are in addition to the minimum requirements of the Model Act. [Certificateless] Uncertificated shares are permitted under section 6.25 upon compliance with section Section 6.25 makes it clear that there are no differences in the rights and obligations of shareholders, whether or not their shares are represented by certificates, other than mechanical differences, such as the means by which instructions for transfer are communicated to the issuer, necessitated by the use of nonuse of certificates. If share transfer restrictions are imposed, conspicuous references must appear on the certificate if they are to be binding on third persons without knowledge of the restrictions. See section Under section 6.25 all signatures on a share certificate may be facsimiles. This change, which has been adopted recently in several states, gives recognition to the fact that a purchaser of publicly traded shares will hardly ever be in a position to determine whether a manual signature on a stock certificate is in fact the authorized signature of an officer or the transfer agent or registrar. From the standpoint of the issuing corporation of publicly traded securities, if a share certificate requiring a manual signature is stolen and the signature thereafter forged, the corporation may defend on lack of genuineness under section 8-202(3) of the Uniform Commercial Code. But this defense is not effective against a bona fide purchaser when the forged signature has been placed on the certificate by an employee of the issuer or registrar or transfer agent entrusted with handling the certificates (U.C.C. section 8-205). It is likely that a corporation would therefore follow the same security precautions for blank certificates requiring manual signatures as for those not requiring them. At the same time, the time and expense required for manual signatures has been eliminated CORPORATE RECORDS 2 (b) (c) A corporation shall keep as permanent records minutes of all meetings of its shareholders and board of directors, a record of all actions taken by the shareholders or board of directors without a meeting, and a record of all actions taken by a committee of the board of directors in place of the board of directors on behalf of the corporation. A corporation shall maintain appropriate accounting records. A corporation or its agent shall maintain a record of its shareholders, in a form that permits preparation of a list of the names and addresses of all shareholders, in alphabetical order by class of shares showing the number and class of shares held by each. The corporation must designate an individual whose principal residence is in the United States who shall have access to the corporation s shareholder records. 2 The text of subsections and (e)(3) and (5) include changes being proposed independently by the Committee relating to the use of electronic technology. PHTRANS\483747\4 4

5 (e) A corporation shall maintain its records in written form or in any other form of a record. A corporation shall keep a copy of the following records at its principal office: (1) its articles or restated articles of incorporation, all amendments to them currently in effect, and any notices to shareholders referred to in section 1.20(k)(5) regarding facts on which a filed document is dependent; (2) its bylaws or restated bylaws and all amendments to them currently in effect; (3) (Repealed.) (4) the minutes of all shareholders meetings, and records of all action taken by shareholders without a meeting, for the past three years; (5) all communications in the form of a record to shareholders generally within the past three years, including the financial statements furnished for the past three years under section 16.20; (6) a list of the names and business addresses of its current directors and officers; and (7) its most recent annual report delivered to the secretary of state under section * * * 2. SHAREHOLDER S LISTS AND ACCOUNTING RECORDS Sections 16.01(b) and (c) require the corporation to maintain appropriate accounting and shareholder records. The word maintain is used to denote current records only and does not require the corporation to keep on hand as permanent records, data, or information of historical interest only; the periods for which these records, data, or information should be kept is not addressed by the Model Act. Section 16.01(b) relates to accounting records. The word appropriate is used to indicate that the nature of the financial records to be kept is dependent to some extent on the nature of the corporation s business; the phrase adequate records is used in some state statutes to convey essentially the same meaning. Appropriate records are generally records that permit financial statements to be prepared which fairly present the financial position and transactions of the corporation. In some very small businesses operating on a cash basis, however, appropriate accounting records may consist only of PHTRANS\483747\4 5

6 a check register, vouchers, and receipts. Section 16.01(c) requires the corporation to maintain such records of its shareholders as will permit it to compile a list of shareholders when required. These records may consist of stubs from which certificates have been detached in the case of corporations with a few shareholders or of elaborate electronic data retrievable only by modern technology in the case of large, publicly held corporations. The record may be retained by the corporation or an agent, who traditionally is the transfer agent but may be another agent. The corporation must designate an individual who has access to the shareholder records and identify that individual in the annual report filed by the corporation under section ANNUAL REPORT FOR SECRETARY OF STATE Each domestic corporation, and each foreign corporation authorized to transact business in this state, shall delivery to the secretary of state for filing an annual report that sets forth: (1) the name of the corporation and the state or country under whose law it is incorporated; (2) the address of its registered office and the name of its registered agent at that office in this state; (3) the address of its principal office; (4) the names and business addresses of its directors and principal officers; (5) a brief description of the nature of its business; (6) [the total number of authorized shares, itemized by class and series, if any, within each class] in the case of an annual report filed by a domestic 247 corporation that is not a public corporation, the name and a residence or 248 business address of the individual with access to the record of the 249 corporation s shareholders required by section 16.01(c); and (7) the total number of issued and outstanding shares, itemized by class and 252 series, if any, within each class (b) Information in the annual report must be current as of the date the annual report is 255 executed on behalf of the corporation (c) The first annual report must be delivered to the secretary of state between January and April 1 of the year following the calendar year in which a domestic corporation 259 was incorporated or a foreign corporation was authorized to transact business. PHTRANS\483747\4 6

7 Subsequent annual reports must be delivered to the secretary of state between January 1 and April 1 of the following calendar years. If an annual report does not contain the information required by this section, the secretary of state shall promptly notify the reporting domestic or foreign corporation in writing and return the report to it for correction. If the report is corrected to contain the information required by this section and delivered to the secretary of state within 30 days after the effective date of notice, it is deemed to be timely filed. The requirement relating to the annual report that each corporation must submit to the secretary of state has been modified in section in an effort to make it a limited information document for use by the secretary of state, members of the general public, and shareholders. The purpose of the annual report is to show the location of the principal office of the corporation, the names and business addresses of its directors and principal officers, the general nature of the corporation s business, and [its capital structure] the name and address of an individual with access to the record of its shareholders. It permits members of the general public to ascertain the identity of the corporation and communicate directly with it. It also establishes the alternative to the registered office for service of process and related matters. The principal office of the corporation is defined as the location of its executive office in section The reference to principal officers in section 16.21(4) is intended to simplify reporting requirements of corporations with very large numbers of employees who have some managerial responsibility and who, for business reasons, are designated as officers. The principal officers of a corporation include at least the chairman of the board of directors, the chief executive officer, and the officers performing the traditional functions performed by the corporate secretary and treasurer, no matter what their designation. The annual report is required of both domestic corporations and foreign corporations qualified to transact business in the state. The failure to file the annual report, like the failure to satisfy other mandatory requirements of the Act, is a ground for administrative dissolution or revocation of the certificate of authority to transact business. Although the individual with access to the shareholder records identified in the annual report pursuant to section 16.21(6) is required by section 16.01(c) to have his or her principal residence in the United States, the annual report may provide a business address for the individual instead of a residence address. PHTRANS\483747\4 7