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The Case of the Director Who Wore Too Many Hats

Sarah is one of 5 directors of Lavish Investments Corporation. She is also a majority shareholder holding both common and preferred stock. Her stock with voting rights amounts to 47% of all stock issued with voting rights.

Sarah buys, for $1,500, an option to purchase a tract of real estate called Blueacre, which is next to Lavishs home office, for $50,000. Sarah forms a new corporation, Commercial Property, Inc., to hold the option. She then has Commercial Property buy Blueacre. As a director of Lavish, Sarah orders Lavish to authorize its real estate agent to negotiate the purchase of the land from Commercial Property for $100,000. After a successful negotiation for the purchase of Blueacre for $100,000, Sarah has Commercial Property sell it to Lavish, and loan the money to Lavish for the purchase price at a 5% interest rate which is 2% below the market rate. Pablo, a minority shareholder in Lavish, formally complains to Lavishs board which takes no action.

The Trial

Pablo files a suit against Sarah on Lavishs behalf seeking to cancel the sale. Sarah asks the Court to dismiss the lawsuit as Pablo has no standing to bring the lawsuit.

Arguments At Trial

Sarahs attorney argues that Blueacre is necessary for Lavish as it will allow them to expand their offices and production plant thus increasing the net worth and potential profits to the shareholders. Further, the Board of Directors of Lavish authorized the purchase which appeared to be in accordance with the Articles of Incorporation.

Pablo attorney argues that the purchase of Blueacre should have been put to a vote of the shareholders of Lavish as required by Lavishs Bylaws. Lavishs Board of Directors failed in its duty to make sure this sale was in the corporations best interest.

Questions to Decide

What kind of suit will Pablo file and what is its basis?
Who are the Plaintiffs and who are the Defendants? Why?
What are the defenses, if any, of Lavish or Sarah?
Who will win the case and why?

Full Answer Section

Parties Involved

Plaintiff: Pablo, a minority shareholder of Lavish Investments Corporation.
Defendant: Sarah, a director and majority shareholder of Lavish Investments Corporation.

Defenses of Lavish and Sarah

Business Judgment Rule: Sarah might argue that the Board of Directors, including herself, exercised sound business judgment in approving the purchase of Blueacre. This rule generally protects directors from liability for honest mistakes of judgment.
Full Disclosure: Sarah might argue that she fully disclosed her interest in Commercial Property and that the transaction was fair and reasonable.
Corporate Opportunity Doctrine: Sarah could argue that she did not deprive the corporation of a valuable opportunity, as the land was not within the scope of Lavish's business.

Potential Outcome

Given the facts of the case, it is likely that Pablo would prevail in the lawsuit. Sarah's actions appear to constitute a breach of her fiduciary duty as a director. By purchasing the land at a low price and then selling it to the corporation at a significant markup, Sarah personally benefited at the expense of the corporation.

The court may find that the Board of Directors failed to exercise due care in approving the transaction, particularly given Sarah's significant interest in the deal. The court may order the rescission of the sale, require Sarah to disgorge her profits, or impose other remedies.

Ultimately, the outcome of the case will depend on the specific facts and the applicable laws of the jurisdiction. However, based on the information provided, it seems likely that Pablo will be successful in his claim.

Sample Answer

The Nature of the Suit

Pablo, a minority shareholder of Lavish Investments Corporation, would likely file a derivative lawsuit on behalf of the corporation against Sarah. A derivative lawsuit is a lawsuit brought by a shareholder on behalf of a corporation to enforce the corporation's rights. In this case, Pablo is alleging that Sarah, as a director, breached her fiduciary duty to the corporation by engaging in self-dealing.