What is a Corporation?

Arizona from New Mexico, Near the Border

You may do business in various entities, or forms of association. These include the corporation, sole proprietorship, joint ventures, partnerships, limited partnerships, and limited liability companies. A corporation is an independent legal entity with an existence separate and apart from its owners, the shareholders.

How is a Corporation Created?

An Arizona corporation can be created only by or under authority from the state. A corporation only exists when the Arizona Corporation Commission files the articles of incorporation submitted to it by the incorporators. Once filed, the corporation is under the sole direction of the board of directors (and the officers, if they have been named in the articles of incorporation) and the authority and liability of the incorporators ceases.

Arizona law does not look favorably upon "de facto" corporations, i.e., corporations people intend to form, but fail to do so properly with the Arizona Corporation Commission. The case law holds that Arizona statutes do not recognize "de facto" corporations. Great care should be taken in properly forming an Arizona corporation.

The Arizona Corporation Commission controls formation of Arizona corporations.

Arizona Corporate Law

Title 10 of the Arizona statutes control Arizona Corporations. These statutes are based on the Model Business Corporations Act ("MBCA"), but contain critical differences from other states that have adopted some form of the MBCA.

Officer, Director Liability

Arizona law imposes liability on corporate officers and directors if they knowingly participate or acquiesce in corporate torts.

Corporate directors are not personally liable for torts committed by the corporation or by one of its officers merely by virtue of the office they hold. To be held liable, the directors or officers must participate or have knowledge amounting to acquiescence or be guilty of negligence in the management or supervision of the corporate affairs causing or contributing to the injury.

Shareholder Liability

A parent corporation is responsible for actions of its subsidiary when the subsidiary has become a mere instrumentality, so overshadowed by the parent corporation that the separate corporate identity should be disregarded to prevent perpetration of a fraud.

What is a Trade Secret?

Lees Ferry

A trade secret can be a formula, pattern, compilation, program device, method, technique, or process. To be a trade secret, it must satisfy two tests: (i) derives independent economic value, actual or potential, from no being generally known to, and not being readily ascertainable by proper means by, other persons who can obtain economic value from its disclosure or use, and (ii) is the subject of efforts that are reasonable under the circumstances to maintain its secrecy.

Protecting Trade Secrets

Preventive measures must be taken to prevent former and current employee disclosing trade secrets. These include: providing confidentiality agreements as a condition of new or continued employment; reminding employees, independent contractors, and temporary personnel what information is considered to be confidential and why it must be protected; identify confidential information adn placing it in separate files, stamping it "Confidential and Proprietary;" limiting access to confidential information, making it accessible only to people who absolutely must see it; and placing the information in a separate locked file cabinet or require select personnel to use a password to gain access to it.

Trade Secrets Law

Trade secret protection is available for all types of ideas and information, so long as they are secret and provide a competitive advantage. In contrast, patent protection only lasts for a set period of time (in the U.S., generally 20 years after the date of filing an application) while trade secret protection may last indefinitely. Trade Secret and patent law differs in that a patent holder may exclude anyone, even someone who independently develops the same idea, from practicing the invention or using the design disclosed in their patent. The owner of a trade secret has no protection against persons who independently develop the same idea or invention, but is protected against someone who misappropriates their trade secret.

Non-Compete Agreeements

Are non-compete agreements enforceable? That is a question of state law, and the answer varies, but the dominant view questions the right of a former employer to restrict a former employee's future employment. Pure non-competition agreements against employees are highly disfavored. A covenant not to compete in an employment agreement is only “valid and enforceable by injunction when the restraint does not exceed that reasonably necessary to protect the employer's business, is not unreasonably restrictive of the rights of the employee, does not contravene public policy, and is reasonable as to time and space.”

Theft of Trade Secrets

Besides being protected under civil law, theft of trade secrets has been criminalized. Whoever, with intent to convert a trade secret, that is related to or included in a product that is produced for or placed in interstate or foreign commerce, to the economic benefit of anyone other than the owner thereof, and intending or knowing that the offense will, injure any owner of that trade secret, knowingly steals . . . or without authorization copies, duplicates, sketches, draws, photographs, downloads . . . . or conveys such information; receives, buys, or possesses such information, knowing the same to have been stolen or appropriated . . . shall . . . be fined . . . or imprisoned not more than 10 years, or both.

What is a Limited Liability Company?

You may do business in various entities, or forms of association. These include the corporation, sole proprietorship, joint ventures, partnerships, limited partnerships, and limited liability companies. A limited liability company is an independent legal entity with an existence separate and apart from its owners, the members. A Limited Liability Company is a relatively new business structure allowed by state statute.

How is a Limited Liability Company Created?

An Arizona limited liability company can be created only by or under authority from the state. An LLC only exists when the Arizona Corporation Commission files the articles of organization submitted to it by the incorporators.

Arizona Limited Liability Company Law

Selenicereus grandiflorus, i.e., Queen of the Night

Title 29 of the Arizona statutes control Arizona limited liability companies. These statutes are similar to other state limited liability company acts, but contain many critical differences. Like a regular corporation (a C corporation), an LLC provides limited liability to its owners, but taxable income or losses of the business will generally pass through to the owners (but any such losses may not always necessarily be deductible, due to the "at-risk" and "passive loss" limitations of the tax law). An LLC is more like an S corporation, providing for a pass-through taxation of income or losses, as well as limited liability. It is easier to qualify to be an LLC, while, in many situations an S corporation cannot be chosen (such as when there are corporations or partnerships as shareholders; the entity owns 80% or more of the stock of another corporation; ore when the entity has more than one class of stock).

Member Liability

Similar to a corporation, LLC owners have limited personal liability for the debts and actions of the LLC. Other features of LLCs are more like a partnership, providing management flexibility and the benefit of pass-through taxation.

Tax Treatment

Tax treatment of a limited liability company depends on choice. The IRS allows any LLC to choose whether it wished to be taxed as a partnership or a corporation, simply by filing an IRS form and "checking the box" as to what kind of taxable entity it wanted to be. Single member LLCs, are ignored as entities for tax purposes, the same as a sole proprietorship, unless it chooses to be taxed as a corporation (C or Subchapter S). Multiple member LLCs will be treated by default as a partnership, unless the owners or members of the eligible entity elect corporate tax treatment (and file Form 8832).

Practical Difference from Corporations

An Arizona LLC presents a simpler form of business to operate, in terms of legal formalities, than a corporation. An Arizona corporation must hold annual shareholder and board of director meetings, prepare minutes and resolutions, and file annual reports with and pay an annual fee to the Arizona Corporation Commission. An LLC does not have to follow these formalities; but, as a practical matter, should document its operations, especially when there is more than one member. All agreements between members, whether oral or written, can be considered to be part of an LLC's operating agreement. The better practice is to document, in writing, all member agreements.