CAS Bar Business Associations 5 — Questions and Answers
Question 1: A corporation's board approves a transaction in which the CEO, who is also a director, has a material financial interest. Under California law, this transaction is voidable UNLESS:
- The CEO disclosed the interest and disinterested directors approved it after full disclosure (Correct answer)
- The transaction is ratified by shareholders at the next annual meeting
- The CEO recused himself from all discussions about the transaction
- The board obtained an independent fairness opinion
Correct answer: The CEO disclosed the interest and disinterested directors approved it after full disclosure
Under California Corporations Code § 310, an interested director transaction is not voidable if the material facts were disclosed and disinterested directors approved it in good faith.
Question 2: In a California general partnership, a partner's transferable interest includes:
- The right to participate in management and the right to receive distributions
- Only the right to receive distributions of profits and surplus upon dissolution (Correct answer)
- The right to inspect books, vote, and receive distributions
- All economic and governance rights of the partner
Correct answer: Only the right to receive distributions of profits and surplus upon dissolution
Under the California Revised Uniform Partnership Act, a partner's transferable interest is limited to the right to receive distributions; governance rights cannot be transferred to a non-partner.
Question 3: What is the primary legal effect of a corporation's S-election under federal tax law, relevant to the California Bar?
- The corporation gains limited liability protection for shareholders
- Corporate income and losses pass through directly to shareholders, avoiding double taxation (Correct answer)
- The corporation is converted into an LLC for state law purposes
- Shareholders receive full liability protection identical to C-corporations
Correct answer: Corporate income and losses pass through directly to shareholders, avoiding double taxation
An S-corporation election causes corporate income, losses, deductions, and credits to pass through to shareholders' personal tax returns, avoiding entity-level federal income tax.
Question 4: Under agency law, a principal is vicariously liable for the torts of an independent contractor when:
- The independent contractor uses the principal's equipment
- The work involves inherently dangerous activities or non-delegable duties (Correct answer)
- The contractor is paid on a per-project basis rather than hourly
- The principal has the right to inspect the contractor's work product
Correct answer: The work involves inherently dangerous activities or non-delegable duties
Principals are generally not liable for independent contractors' torts, but exceptions apply for inherently dangerous activities and non-delegable duties imposed by law.
Question 5: ABC Corp. enters into a contract before its incorporation is complete. After incorporation, the board ratifies the contract. The legal effect of ratification is:
- The promoter is released from personal liability on the contract
- The corporation becomes bound, but the promoter remains liable unless there is a novation (Correct answer)
- The contract is void because a non-existent entity cannot contract
- The corporation is bound and the promoter is automatically released
Correct answer: The corporation becomes bound, but the promoter remains liable unless there is a novation
Corporate ratification of a pre-incorporation contract binds the corporation, but the promoter remains personally liable until the parties enter a novation substituting the corporation for the promoter.
Question 6: A minority shareholder in a California close corporation claims the majority is freezing her out by eliminating dividends and her employment. Her BEST remedy under California law is:
- File a Chapter 7 bankruptcy petition for the corporation
- Bring a dissolution action for breach of fiduciary duty owed to minority shareholders (Correct answer)
- Demand the majority buy her shares at book value
- Sue only for lost wages as an at-will employee
Correct answer: Bring a dissolution action for breach of fiduciary duty owed to minority shareholders
California courts recognize a fiduciary duty among close corporation shareholders; minority shareholders may seek judicial dissolution or buyout when the majority engages in oppressive freeze-out conduct.
Question 7: Under the doctrine of apparent authority, a third party may hold a principal liable for an agent's unauthorized act when:
- The agent honestly believed they had authority to act
- The principal's conduct caused the third party to reasonably believe the agent had authority (Correct answer)
- The agent has acted on the principal's behalf in the past
- The third party relied on the agent's own representations of authority
Correct answer: The principal's conduct caused the third party to reasonably believe the agent had authority
Apparent authority arises from the principal's manifestations — not the agent's — that lead a third party to reasonably believe the agent is authorized to act.
CAS Bar Business Associations 5
A corporation's board approves a transaction in which the CEO, who is also a director, has a material financial interest.
Under California law, this transaction is voidable UNLESS: