BILL ANALYSIS Ó ------------------------------------------------------------ |SENATE RULES COMMITTEE | AB 571| |Office of Senate Floor Analyses | | |1020 N Street, Suite 524 | | |(916) 651-1520 Fax: (916) | | |327-4478 | | ------------------------------------------------------------ THIRD READING Bill No: AB 571 Author: Hagman (R), et al. Amended: 4/25/11 in Assembly Vote: 21 SENATE BANKING & FINANCIAL INST. COMMITTEE : 6-0, 6/29/11 AYES: Vargas, Blakeslee, Kehoe, Liu, Padilla, Walters NO VOTE RECORDED: Evans ASSEMBLY FLOOR : 74-0, 5/9/11 - See last page for vote SUBJECT : Corporations: distributions SOURCE : Corporations Committee of the Business Law Section of the California State Bar DIGEST : This bill updates sections of the Corporations Code governing the issuance of dividends and redemption of shares by California corporations. ANALYSIS : Existing law: 1. Prohibits a California corporation or any of its subsidiaries from making any distribution to the corporation's shareholders, except as follows: A. The distribution may be made if the amount of the retained earnings of the corporation immediately CONTINUED AB 571 Page 2 prior to the distribution equals or exceeds the proposed distribution (Corporations Code ÝCORP] Section 500(a)). B. The distribution may be made if, immediately following the distribution, the sum of the assets of the corporation would be at least equal to 125 percent of its liabilities, and: Either the current assets of the corporation would be at least equal to its current liabilities, or, If the average of the earnings of the corporation before taxes on income and before interest expense for the two preceding fiscal years was less than the average of the interest expense for those fiscal years, the current assets of the corporation would be least equal to 125 percent of its current liabilities, as specified (CORP Section 500(b)). 2. Provides that the amount of any distribution payable in property must be determined on the basis of the value at which the property is carried on the corporation's financial statements in accordance with generally accepted accounting principles (CORP Section 500(c)). 3. Prohibits a California corporation or its subsidiaries from making any distribution to the corporation's shareholders, if the corporation or the subsidiary making the distribution is, or as a result of the distribution would be, unable to meet its liabilities as they mature, as specified (CORP Section 501; this bill retains this provision). 4. Provides that each dividend, other than one chargeable to retained earnings, must be identified in a notice to shareholders as being made from a source other than retained earnings (CORP Section 507). This bill: 1. Prohibits a California corporation or any of its CONTINUED AB 571 Page 3 subsidiaries from making any distribution to the corporation's shareholders, unless the board of directors of that corporation determines either of the following in good faith: A. The amount of retained earnings of the corporation immediately prior to the distribution equals or exceeds the sum of the amount of the proposed distribution plus the preferential dividends arrears amount; or B. The value of the corporation's assets immediately after the distribution would equal or exceed the sum of its total liabilities plus the preferential rights amount. 2. Defines the "preferential dividends arrears amount" as the amount, if any, of cumulative dividends in arrears on all shares having a preference with respect to payment of dividends over the class or series to which the applicable distribution is being made, as specified. 3. Defines the "preferential rights amount" as the amount that would be needed if the corporation were to be dissolved at the time of the distribution to satisfy the preferential rights, including accrued but unpaid dividends, of other shareholders upon dissolution that are superior to the rights of the shareholders receiving the distribution, as specified. 4. Allows a board of directors to issue a distribution based on financial statements prepared on the basis of accounting practices and principles that are reasonable under the circumstances, a fair valuation, or any other method that is reasonable under the circumstances. 5. Clarifies that the effect of a distribution is measured as of the date the distribution is authorized, if the payment occurs within 120 days after the date of authorization. 6. Deletes the existing law requirement that each dividend, other than one chargeable to retained earnings, be CONTINUED AB 571 Page 4 identified in a notice to shareholders as being made from a source other than retained earnings. 7. Adds a four year statute of limitations to any a cause of action involving the obligation of a shareholder to return a distribution. FISCAL EFFECT : Appropriation: No Fiscal Com.: No Local: No SUPPORT : (Verified 6/30/11) Corporations Committee of the Business Law Section of the California State Bar (source) Civil Justice Association of California ARGUMENTS IN SUPPORT : This bill is sponsored by the Corporations Committee of the Business Law Section of the California State Bar, to simplify the formula used by corporations to determine whether and in what amounts they may issue dividends and make other distributions to shareholders. According to this bill's sponsor, this bill will accomplish five things: (1) simplify and clarify the formula pursuant to which California corporations may make distributions to shareholders; (2) remove unnecessarily rigid restrictions on the ability of financial healthy California corporations to make distributions to shareholders; (3) eliminate material differences between the standards relating to dividends and distributions by California corporations and the standards relating to dividends and distributions by California limited liability companies (LLCs) and limited partnerships (LPs); (4) enable shareholders of S-Corporations to receive dividends and/or distributions to satisfy their tax obligations, just as partners or members of LLCs and LPs are able to do; and (5) align the approach used by California to restrict the issuance of dividends and distributions with the approach used by other states, and, in doing so, remove an existing competitive disadvantage experienced by California corporations. This bill's sponsor asserts that existing California law CONTINUED AB 571 Page 5 imposes unnecessary restrictions on the issuance of dividends and other distributions by financially healthy corporations, particularly those which have both historical book losses and appreciated property. Because these corporations have no retained earnings, they are unable to rely on CORP Section 500(a) to make distributions to their shareholders. These corporations might have assets with values far in excess of liabilities, but cannot rely on Section 500(b), because the carrying value of those assets on their books is not reflective of their fair market value. ASSEMBLY FLOOR : 74-0, 5/9/11 AYES: Achadjian, Alejo, Allen, Ammiano, Atkins, Beall, Bill Berryhill, Block, Blumenfield, Bonilla, Bradford, Brownley, Buchanan, Charles Calderon, Campos, Carter, Cedillo, Chesbro, Conway, Cook, Davis, Dickinson, Donnelly, Eng, Feuer, Fletcher, Fong, Fuentes, Furutani, Galgiani, Gatto, Gordon, Grove, Hagman, Halderman, Hall, Harkey, Hayashi, Roger Hernández, Hill, Huber, Hueso, Huffman, Jeffries, Jones, Knight, Lara, Logue, Bonnie Lowenthal, Ma, Mendoza, Miller, Mitchell, Monning, Morrell, Nestande, Nielsen, Norby, Olsen, Pan, Perea, V. Manuel Pérez, Portantino, Silva, Skinner, Solorio, Swanson, Torres, Valadao, Wagner, Wieckowski, Williams, Yamada, John A. Pérez NO VOTE RECORDED: Butler, Garrick, Gorell, Mansoor, Smyth, Vacancy JJA:kc 6/30/11 Senate Floor Analyses SUPPORT/OPPOSITION: SEE ABOVE **** END **** CONTINUED