Model Business Corporation Act (2016 Revision) Launches

Sixty-six years ago the Corporate Laws Committee (the “Committee”) of the American Bar Association’s Business Law Section published the Model Business Corporation Act (the “Act” or the “Model Act”). Now substantially adopted by a majority of the states, the Act has strongly influenced the law governing U.S. corporations and is an important and often cited reference for courts, lawyers and scholars. Just as corporate law has evolved over time, so has the Act. The Committee approved a substantial revision of the Act in 1969, less than 20 years after its initial publication, and just 15 years later, in 1984, the Committee adopted what was then called the Revised Model Business Corporation Act, a top to bottom revision of the original Act.

Through periodic amendments, the Act has continued to evolve in significant ways since 1984, as further described below. Until recently, however, the Committee had not undertaken another comprehensive revision of the Act that would facilitate adoption by state legislatures by capturing all of the changes to the Act since 1984. Nor had there been any systematic attempt to revise the Act to eliminate inconsistent terminology and adjust provisions that had become outdated over the more than three decades since the 1984 Revision.

As a result, beginning in 2010, the Committee undertook a thorough review and revision of the Act and its Official Comment. This effort has resulted in the recent publication of the Model Business Corporation Act (2016 Revision) (the “2016 Revision”).

The 2016 Revision, which is based on the 1984 version of the Model Act, incorporates all of the changes to the Act since 1984, provides consistency among provisions, and includes a streamlining and updating of the Official Comment. It also is designed to accommodate the Uniform Law Commission’s Uniform Business Organizations Code for those states that choose to follow a “hub and spoke” business entity statutory approach, as well as serving as a model for those states that wish to continue with a standalone corporation statute.

Most of the substantive changes included in the 2016 Revision have been previously adopted through the regular process for amending the Model Act, in which the Committee publishes for comment a notice of proposed amendments in The Business Lawyer and adopts the amendments after review of any comments received. A June 2016 Exposure Draft of the proposed 2016 Revision was posted on the Committee’s website along with an invitation for comment, particularly regarding matters that were not previously published for comment and adopted as amendments to the Act. After consideration of the comments received, the Committee approved the 2016 Revision at its meeting in September 2016 and published the 2016 Revision in December 2016.

Model Act Innovations

The Model Act, over the years, has made a number of important innovations to corporate statutory law. The following are a few of those made in prior years:

• streamlining the capital provisions by eliminating the concepts of par value, stated capital and treasury shares, permitting the consideration for shares to consist of any tangible or intangible benefit to the corporation, and eliminating the distinction among classes of shares and between classes and series;
• modernizing statutory financial provisions by establishing clearer tests for determining the legality of all types of distributions to shareholders;
• separating director standards of conduct from standards of liability and providing standards of conduct for officers;
• authorizing a provision in the articles of incorporation exculpating directors from liability for monetary damages to the corporation and its shareholders;
• creating a new approach with greater certainty for dealing with director’s conflicting interest transactions;
• adding a safe harbor for dealing with director and officer business opportunities;
• requiring universal demand for bringing shareholder derivative actions and establishing certain independent determinations as a basis for dismissal of a derivative action;
• permitting adoption of a bylaw for majority vote for the election of directors;
• requiring shareholder approval for issuance of shares, other than for cash, that will result in an increase of more than 20 percent of the voting power of the outstanding shares;
• authorizing statutory share exchanges, permitting mergers and share exchanges between a corporation and a non-corporate entity, and adopting uniform voting rules for all fundamental changes, including rules regarding separate group voting;
• clarifying when shareholder approval is required for disposition of significant corporate assets by establishing a test of whether the disposition will leave the corporation without a significant continuing business activity and providing as a safe harbor retention of 25% of total assets and 25 percent of income or revenue from continuing operations;
• introducing the concept of domestication to change the state of incorporation and conversion to change the form of entity;
• modernizing the appraisal remedy for dissenting shareholders, including by reintroducing the “market out” provision for non-interested transactions; and
• adding flexibility for non-public corporations, including by authorizing shareholders to establish their own governance rules in unanimous shareholder agreements.

Highlights of Recent Changes

Revisions to the Statutory Provisions. The following are examples of some of the more significant changes in the 2016 Revision since the Act’s prior publication in 2010:

1. Changes Related to the Uniform Business Organizations Code

Many of the amendments reflected in the 2016 Revision stem from the 2011 adoption of Article 1 of the Uniform Business Organizations Code (“UBOC”) by the Uniform Law Commission (“ULC”). That uniform legislation contemplates what is commonly described as a “hub and spoke” form of business entity legislation in which a “hub” contains provisions generally applicable to all forms of business entities and a “spoke” contains the substantive provisions for each form of entity. The Committee is now preparing a “spoke” version of the Act governing business corporations for use by jurisdictions that adopt the UBOC. That version will be drawn from the standalone 2016 Revision, which has been framed so as to make it compatible with the terminology and concepts used in the UBOC.

This adaptation of the 2016 Revision to the “hub and spoke” form of entity legislation accounts for many of the changes in the chapters on domestication and conversion, mergers and share exchanges, and foreign corporations, as well as corresponding changes in pertinent definitions. In particular, the provisions on domestication and conversion have been thoroughly revised, with the separate subchapters in the prior version of the Act for nonprofit conversion, foreign nonprofit domestication and conversion, and entity conversion now combined into the general conversion provisions. For foreign corporations, the most notable change is the elimination of the concept of qualification to do business, and the substitution of foreign corporation registration as a prerequisite to doing business within the state.

2. New Statutory Provisions

The 2016 Revision includes a number of amendments to the Act since its prior publication in 2010 which reflect recent corporate law developments. They include the following:

• new provisions permitting the ratification of defective corporate actions, including actions in connection with the issuance of shares;
• amendments that permit corporations to include in their articles of incorporation a provision that limits or eliminates a director’s or an officer’s duty to present a business opportunity to the corporation;
• addition of a provision permitting the articles of incorporation or the bylaws to specify the forum or forums for litigation of internal corporate claims;
• amendments clarifying the scope and operation of qualifications for nomination and election as directors;
• amendments that eliminate the requirement that a director or officer seeking advancement of expenses provide a written affirmation that he or she has met the applicable standards for indemnification under the Act or, in the case of a director, that the proceeding involves conduct for which liability has been eliminated under the articles of incorporation;
• amendments permitting the merger of corporations without a shareholder vote following a tender offer if certain conditions are met; and
• amendments that address the obligations of corporations to make financial statements available to shareholders, the maintenance of corporate records, and the inspection rights of shareholders and directors of corporations.

3. Procedures for Approving Fundamental Changes

The Act has long prescribed similar procedural steps for approval of mergers, share exchanges, amendments of the articles of incorporation, disposition of assets not in the ordinary course of business, dissolution, domestication and conversion. Despite this substantive similarity, the statutory language of the Act varied depending on the form of the transaction. The 2016 Revision amends the fundamental change provisions so that there is uniform language for the procedural steps for approval of these matters.

4. Distributions in Liquidation

The Act did not clearly articulate the treatment of distributions to shareholders made in the course of liquidation after dissolution of the corporation. Accordingly, the 2016 Revision reflects several changes that clarify the establishment of a record date for determining shareholders entitled to receive a distribution in liquidation after dissolution.

5. Corporation Voting its Own Shares

The Act historically has disenfranchised shares held by majority-owned subsidiaries (direct and indirect) of the corporation. The 2016 Revision more clearly prescribes disenfranchisement for shares in which the corporation has the economic interest, including shares owned by or belonging to the corporation indirectly through entities (corporate or non-corporate) that are controlled by the corporation.

6. Director Duties and Eliminating the Term “Public Corporation”

As a result of amendments adopted in 2005, the Act prescribed “oversight duties” for directors of “public corporations.” The Committee concluded that such a sharp demarcation of duties between directors of “public corporations” and other corporations has become increasingly artificial, especially in view of recent federal legislation permitting a greater number of shareholders before a corporation must become an SEC registrant and the evolution of trading of shares of such non-SEC registrants in alternative, secondary securities markets. Accordingly, the 2016 Revision deletes from the Act the specification of particular oversight duties for directors of “public corporations” and places discussion of those duties in the Official Comment as an elaboration on the more general articulation in the Act of the managerial and oversight responsibility of boards of directors. The 2016 Revision also deletes the definition of “public corporation.”

Consistent with the deletion of the definition of “public corporation,” a shareholders’ agreement no longer automatically ceases to be effective when the corporation becomes a “public corporation.” Nonetheless, the Act’s requirement of unanimous shareholder approval will likely make such shareholders’ agreements unavailable to public corporations as a practical matter, and in any event such agreements can still be drafted to effect automatic termination upon occurrence of a specific event such as an initial public offering. Similarly, the Act no longer limits use of a bylaw requiring a majority vote for election of directors to public companies.

7. Effective Date

The Committee found that the Act’s provisions defining when filings and transactions become effective were not internally consistent. The 2016 Revision makes those provisions more uniform and adopts a definition of “effective date” for filed documents that applies throughout the Act. That definition provides definitive rules for when a filing with the secretary of state becomes effective and has been revised to improve its clarity.

Changes Not Intended to Have Substantive Effect. Many of the changes in the statutory provisions of the Act included in the 2016 Revision are stylistic; others are intended to promote internal consistency with the Act’s provisions. The Committee does not intend for any of these changes to have substantive effect, through negative implication or otherwise. For example, the Committee added a provision that a shareholder does not have a vested property right resulting from any provision in the bylaws. This addition aligns with the provision that disavows the vested rights concept in relation to the articles of incorporation. There should be no implication from adoption of that amendment that the vested rights concept had any force in relation to bylaws that were in place before the amendment.

Revisions to the Official Comment. The Committee extensively revised the Official Comment to the Act so that the commentary functions solely as a guide to interpretation of the statutory provisions. Thus, the 2016 Revision:

• eliminates language in the Official Comment that merely restates operative statutory language;
• eliminates comparisons with prior versions of the Act or with state corporation statutes; and
• eliminates discussion of case law and law review articles.

Conclusion

The Committee hopes that the 2016 Revision of the Act will encourage state legislatures—in states that have already adopted much or all of the Act and in other states as well—to consider adopting the 2016 Revision in full and thereby bring their corporate statutes into line with the most recent developments in corporate law. The 2016 Revision, as a comprehensive and updated Act, affords states the opportunity to modernize their corporation statutes, and in so doing, to enhance the business climate and revenue generating opportunities in their state. In addition, the greater the uniformity among states, the more likely a useful body of law can develop that will increase the certainty and efficiency of corporate actions and corporate transactions.

The Committee stands ready to assist states in this effort and to work with members of the Business Law Section and other groups to help make this happen. The Committee therefore welcomes inquiries about how the newly revised Act might be tailored for adoption in a particular jurisdiction.